2 Rock-Solid Stocks For 2016

One of the biggest stories that dominated 2015 is a possible hike in interest rates. Earlier this month, that finally became a reality when the Federal Reserve, the U.S.’s central bank, finally raised rates by 0.25%. It was the first rate hike since 2006.

There are many investors who may be worried about what a rate hike would do to stocks. Thing is, I don’t think anyone knows the answer to that question and so there are far more important things to worry about in 2016, such as the balance sheet of the companies that you’re interested in.

While the movement of interest rates may not have a clear, predictable impact on stocks, pricier debt can have corrosive effects on the bottom-line of companies that have borrowed heavily. Those are the companies investors may want to avoid in 2016 and beyond.

But, a strong balance sheet may not be enough to find rock-solid stocks for the year ahead. A deeper look at a stock’s earnings track record and ability to generate high returns on equity without the use of much debt may be helpful – these are some of the things that billionaire investor Warren Buffett also looks for when he’s scouting for potential investments.

Finding great stocks

Keeping all the above in mind, I decided to dig into Singapore’s stock market to find stocks with:

  1. A strong balance sheet with more cash than debt currently.
  2. An average return on equity of at least 12% since 2007 while having more cash than debt.
  3. A track record of consistent earnings growth since 2007.

It’s important to note my preference for having 2007 as a starting point in my filter. That’s because the use of 2007 would mean we’d include a company’s track record during the great financial crisis of 2008-09. This can give us clues on how resilient a company’s business is to severe economic climates.

Some of the stocks that passed my test include Straco Corporation Ltd (SGX: S85) and Raffles Medical Group Ltd (SGX: R01). Straco had S$141 million in cash and just S$77 million in debt as of 30 September 2015; meanwhile, the selfsame figures for Raffles Medical are S$90 million and S$8 million, respectively.

Chart 1 - Straco's returns on equity (ROE) and net-cash position
Source: S&P Capital IQ (click chart for larger image)

As you can see from Chart 1 above, Straco has generated an average return on equity of 14.6% from 2007 to 2014. And, it had done so while always having more cash than debt on its balance sheet, as seen in the positive net-cash (total cash minus total borrowings) numbers.

Chart 2 - Raffles Medical's returns on equity (ROE) and net-cash position
Source: S&P Capital IQ (click chart for larger image)

Raffles Medical’s returns on equity and balance sheet figures since 2007 are illustrated in Chart 2. The firm’s average return on equity for that period clocks in at 17%, and in a similar manner to Straco, it had done so via a balance sheet that has mostly carried more cash than debt.

Chart 3 - Straco and Raffles Medical's profit from 2007 to 2014
Source: S&P Capital IQ (click chart for larger image)

Chart 3 above plots the earnings for Straco and Raffles Medical and it’s hard to miss the upward climb in the profits of both companies over the years.

A Fool’s take

None of the above is meant to say that Straco and Raffles Medical will necessarily be good investments in 2016 or beyond. But, they have clean balance sheets. And, they have also had great business results through the years. These are cues that the two stocks will be worth at least a deeper look by investors who are looking for rock-solid investments to start the new year with.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore writer Chong Ser Jing owns shares in Straco Corporation and Raffles Medical Group.