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Selecting a Top Ten list for 2023 feels a bit different this year.

With several historical measures virtually guaranteeing recession, the prospect for stock market gains is meager at best. If a recession occurs, the S&P 500 could decline just over 30% on average from the highs and earnings may contract an average of 20%. The term “average” is a bit misleading, too. The declines could be greater or less than the average and still be considered very normal. At one point, the S&P 500 was down 24% for the year, and it looks to close 2022 down by about 19%. This could mean that the lows have been made. Tony Dwyer from Canaccord Genuity doesn’t think so. He said the data demonstrates that no historical low has ever been made before a recession had begun. To wit, it appears lower market lows await in 2023.

The Top Ten for 2023 consist of companies – in my opinion – with fortress balance sheets, downside protection and upside opportunities. Many on the list are well off their highs and some remain out of favor.

Farr, Miller & Washington is a “buy-to-hold” investment manager, which means we make each investment with the intent to hold the position for a period of three to five years.

Nevertheless, in each of the past 15 Decembers I have selected and invested personally in 10 of the stocks we follow with the intention of holding for just one year. These are companies that I find especially attractive in light of their valuations or their potential to benefit from economic developments. I hold an equal dollar amount in each of the positions for the following year, and then I reinvest in the new list. The following is my Top Ten for 2023, listed in random order. This year’s selection represents a nice combination of growth and defensiveness.

Results have been good in some years and not as good in others. I will sell my 2022 names on Jan. 2 and buy the following names that afternoon. The reader should not assume that an investment in the securities identified was or will be profitable. These are not recommendations to buy or sell securities. There is risk of losing principal. Past performance is no indication of future results. If you are interested in any of these names, please call your financial advisor to discuss.

Here are the Top Ten for 2023, with prices as of the close on Dec. 23.

1. Amazon (AMZN)

Amazon is a top player in three areas where we see ample secular tailwinds: the cloud, digital advertising and e-commerce. Perhaps more importantly, each of these businesses has a wide economic moat. Regarding the cloud, AMZN’s Web Services business is the market leader in cloud infrastructure services. This business benefits from high customer switching costs as cloud services are typically one of the last expenses a business might cut during challenging times. Moreover, the scale of AMZN’s web services business provides many cost advantages as very few companies can compete with AMZN’s investment spend and first-mover advantage.

With regard to digital advertising, we believe AMZN should be a relative winner as its business is not as vulnerable to Apple’s App Tracking and Transparency changes as META, SNAP and other digital advertisers. In addition, AMZN has a vast amount of proprietary information and real-time data on its users that it can leverage when selling ads. AMZN’s e-commerce business, its most well-known, benefits from network effects wherein its vast catalogue of buyers and sellers attracts more buyers and sellers. More than half of the total goods sold on Amazon.com are through AMZN’s third-party marketplace, where the company collects a commission in exchange for fulfillment services. Additionally, subscription fees from Amazon Prime generate strong cash flows and the service is very sticky given the value it provides to consumers. After years residing in territory out of our price range, AMZN’s valuation has become reasonable: The current ratio of EV/EBITDA (NTM), at ~12x, compares to a historical average of over 20x. Finally, the company has an excellent balance sheet with a debt rating of AA (S&P) and negligible net debt (debt net of cash). 

2. Becton Dickinson (BDX)

3. Johnson & Johnson (JNJ)

4. Mondelez (MDLZ)

5. Microsoft (MSFT)

6. Alphabet (GOOGL)

7. Truist Financial (TFC)

8. FedEx (FDX)

While FedEx benefited from a surge in e-commerce package volume following Covid’s arrival, the company has also endured a series of (mostly unforeseeable) headwinds over the past couple of few years. Unfortunately, these challenges coincided with heavy investment outlays at the company, to include a buildout of its ground network, the modernization of its airplane fleet, and the integration of TNT Express Now, given the ongoing normalization in e-commerce, new CEO Raj Subramaniam’s primary charge is to rationalize the company’s expense bases, raise margins and close the performance gap to competitor UPS. This may prove to be no small feat, and the selection of FDX for inclusion in a top ten list with an investment horizon of just one year is not without risk.  However, the opportunities for improvement are many, and we think that given the trough valuation in the stock, the harvesting of just some of the low-hanging fruit could get the stock going in the right direction again. We are further encouraged that the company maintains significant pricing power as it uses its network capacity to cherry-pick the most profitable delivery services. Finally, as industrial production, global trade and labor availability gradually begin to improve, the company should be able to post solid revenue growth, margin expansion and very strong earnings leverage.  In the meantime, we think the company’s discounted valuation (11.3x CY23E EPS) relative to both the S&P 500 and its major competitor, UPS, provides downside protection. The yield is 2.6%.     

9. CVS Health (CVS)

CVS Health provides health plans and services through its health insurance offerings, pharmacy benefit manager (PBM), and retail pharmacies. The vertically integrated model provides CVS with diversification across the health-care supply chain, thus making it a more defensive company. For the consumer, CVS seeks to improve health care outcomes by integrating medical, lab, and pharmacy data. Over time, this should lead to medical cost savings as the company uses this data to promote better medical management/adherence, improved engagement, and the utilization of lower-cost health-care settings such as CVS’s MinuteClinics and HealthHubs. CVS has enormous scale with about 85% of the U.S. population living within 10 miles of one of its stores. This bodes well in the evolving health-care landscape where trusted brands and a nationwide footprint are essential keys to success.

CVS’s businesses are stable and generate strong cash flow, which has enabled the company to reduce its leverage to the long-term target of 3x net debt-to-EBTIDA. With this newfound balance sheet flexibility, management is looking to expand its offerings into primary care and in-home health through a combination of internal investments and M&A. The stock currently trades at just 11x estimated CY23 EPS and offers investors a 2.4% dividend yield. Management remains committed to its goal of high single-digit EPS growth in 2023, followed by sustained double-digit growth in 2024 and beyond. We believe the risk/reward tradeoff is attractive for long-term focused investors.

10. Raytheon Technologies (RTX)

Raytheon Technologies was formed through the combination of Raytheon Company and the legacy United Technologies aerospace and defense (A&D) businesses. The merger created a powerhouse in the A&D industry, but management’s near-term sales and profit targets for the combined entities have been pushed out as a result of the Covid-19 crisis. The crisis took an enormous toll on the commercial aerospace industry as steep production cuts at Boeing and Airbus were combined with a massive drop in airline passenger miles. Fortunately, the defense side of the new company, which contributed 65% of total company pro forma sales in 2020, picked up the slack during the throes of Covid. The defense side should continue to provide downside protection and steady cash flow as result of geopolitical uncertainty, allowing the company to continue investing in R&D during economic downturns. As conditions continue to improve on the commercial side, the company should start to benefit from aircraft production increases as well as greater aircraft utilization. Furthermore, the growing installed base of the company’s groundbreaking geared-turbofan (GTF) engine, combined with a rebound in aircraft utilization, will contribute to a growing stream of high-margin and high-visibility aftermarket revenue.

Finally, we also expect the company will ultimately reap huge cost and revenue synergies from the ongoing integration of both Rockwell Collins and the Raytheon Company. The synergies will help the company return an expected $20 billion in capital to shareholders in the four years following the Raytheon merger. The stock offers strong value at just 19.5x CY23E EPS – a moderate premium to the market but a well-deserved one. The dividend yield is also attractive at 2.2%. 

— Michael K. Farr is a CNBC contributor and president and CEO of Farr, Miller & Washington.