Will Merrill Lynch Fly or Fry on Chicken?

This article is from the archive of The New York Sun before the launch of its new website in 2022. The Sun has neither altered nor updated such articles but will seek to correct any errors, mis-categorizations or other problems introduced during transfer.

The New York Sun

Out of chaos, opportunity is often born, those on Wall Street say. Take the worrisome avian flu, which has spread to 10 countries: All told, 214 people have been infected by the bird flu virus, and 124 have died.

Frightening indeed, but as far as making money in the stock market goes, Merrill Lynch sees opportunity arising from widespread fears that this disease, according to some health authorities, could develop into a pandemic and kill millions.

The opportunity Merrill is talking about is not in the medical arena, such as the vaccine makers, some of which have already caught Wall Street’s fancy. Rather, it is in the leading chicken stocks.

About a month ago, I wrote a column that featured a Morningstar analyst warning that the bashing of the shares of the country’s leading poultry producers in response to avian flu fears and bloated inventories could be far from over.

Merrill strongly disagrees – so much so that it has fired off a commentary to its institutional clients in which it urged purchase of the country’s three biggest chicken producers – Tyson ($15.91), Pilgrim’s Pride ($23.62), and Gold Kist ($15.26).

A trio of Merrill analysts recently upgraded the investment ratings of all three to buy from neutral. The shares of these companies have plunged between 19% and 35% from their 52-week highs, and the Merrill analysts see roughly between 18% and 35% rebounds over the next 12 months. More specifically, they see Tyson and Gold Kist rising to $19 in a year and Pilgrim’s Pride to $32.

In other words, Merrill’s basic view is: Don’t be chicken, it’s time to buy the poultry names.

Merrill may be right on in its overall bullish view that chicken stocks could fly, but some worry-warts say it will surely lay an egg with its pitch if, as many expect, the bird flu reaches American shores. In that case, as one put it, investors could easily choke on a chicken bone.

One key reason for Merrill’s optimism is its belief that “the worst stage of the poultry cycle is behind the industry.” For starters, at a recent industry conference in New York at which each of the three companies presented, the overall message imparted was that momentum is positive and conditions are improving.

Merrill also has seen signs of improvement in recent data. Although the chicken margin showed a slight loss in April, it has turned positive in recent weeks as both breast meat and leg quarter pricing has improved. Further, recent cold storage data released from the Department of Agriculture showed a sequential improvement in storage levels. That’s the fourth consecutive month of improvements for breast meat cold storage levels. In addition, for leg quarters, April is the third of the past four months showing sequential improvement in cold storage levels.

Yet another plus: Pullets and egg sets – two other USDA data points – are running at lower rates, which suggests previously announced production cuts by the major players are beginning to take hold and should help to lead to some resiliency in pricing, especially as the domestic market heads into the high consumption summer season.

Merrill has long argued that the time to buy poultry companies on normalized earnings is when the bottom has been seen and conditions are improving. “We believe that time is now,” it says. The key point, Merrill stresses, is that it expects the stocks to advance in front of the earnings, and thus the shares should be bought and not sold.

But what about the bird flu? The Merrill analysts are by no means oblivious to the avian flu threat, which they say remains a wildcard. That’s an understandable concern, given the 15 types of bird flu that can prove fatal to humans. The latest widely reported scare involves a family of seven relatives in Indonesia, all of whom were infected by the virus and died.

While America thus far has escaped the bird flu and export demand seems to have picked up internationally following serial outbreaks over the winter months, Merrill reckons there is the possibility that the deadly virus could be found in this country in the coming months. That, in turn, could lead to a curtailment in demand in the important domestic market.

If that indeed happens, droves of chicken investors, of course, may well be expected fly the coop.


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