Those new to investing are often drawn to buying the biggest companies they can think of.
Often this is as a result of bigger companies having the best products, or the most-recognised brand names, but that doesn't necessarily mean the company will make a good investment.
Real danger comes when share prices have fallen and investors start to think 'a well known business is cheap….it's a bargain!' This is a hazardous line of thought to follow, and here are three very popular businesses with a weak share price that all investors should be wary of in 2016:
BHP Billiton Limited (ASX: BHP) shares are down 31% for the year, and look appealing as a result of a trailing Price to Earnings (P/E) ratio of 10 and 8.5% dividend yield. However, this could well be illusory.
In the six months to 30 June 2015, BHP achieved an average realised price of US$52/barrel for oil, US$9.40/Mscf for Liquefied Natural Gas (LNG), US$2.61/pound for copper, and US$53/tonne for iron ore.
Subsequently, Crude oil has lost 29% to US$37/barrel, LNG is down 33% to around US$6/mscf (as of November), copper is down 19% to US$2.12/pound, and iron ore is down 27% to US$39/tonne. Of course, prices fluctuate and timing issues with shipments mean BHP's average realised price will differ to these figures in the next report.
However, prices have unquestionably dropped and look to be staying low, especially in the iron ore, coal, and oil sectors. Investors should expect falling profits in the new year, and there could be worse to come for commodity prices. I personally would not look at BHP until it was under $15, and maybe not even then.
It is becoming apparent that Woolworths Limited's (ASX: WOW) woes won't be easily resolved either, with Wesfarmers Ltd (ASX: WES) going from strength to strength and Aldi pulling out all the stops to expand at the expense of the incumbents.
In addition to competitive headaches, Woolworths is still searching for a new CEO and faces troubles with its Masters Hardware store, which it can't seem to get firing on all cylinders. While both the grocery and hardware businesses have potential, there seems to be a significant amount of refocusing required to get them humming along again.
On the plus side, Woolworths looks to be commencing a venture into an online marketplace in China, which will open up the company's goods to an attractive new market.
While I believe the underlying business is a solid investment, I expect shareholders will experience ordinary returns again in 2016 as competitors steal a march on them while Woolies treads water.
Commonwealth Bank of Australia (ASX: CBA) and shareholders of the other three big banks should also be cautious of their earnings outlook over the next couple of years as the housing market slows and increased regulation/higher capital requirements look to hurt the banks' return on equity.
Shares dropped 18% from their recent high of $96 after Commonwealth Bank raised capital, and it's entirely possible that capital requirements will increase which could see more shares issued and share prices falling further.
There's also potential for a decline in lending volumes/increased competition if the mortgage market slows and/or house prices start falling/ bad debts rise from record lows. Whether this will occur any time soon is an open question, although it seems fair to say that there is significant potential for downside and limited potential for growth in the banking industry at the moment.
For this reason, I would be quite wary of Commonwealth Bank and other bank shares in 2016.
