How to Play the End of California’s Historic Drought

October 13, 2017

By How to Play the End of California's Historic Drought

Louis BaseneseSo the California drought — the one that pundits told us would last 50 years (or more) — is officially over.

It might be hard to believe with wildfires raging across the state…

But California just witnessed one of the wettest winters on record, California’s reservoirs are full and the rivers are nicely swollen.

Such a reality has interesting investment implications.

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Let me explain…

The drought adversely impacted industries like mining, vineyards, orchards, nut groves and farming. And the stocks of each suffered accordingly.

Yet the emptying of California’s reservoirs and rivers equally helped other industries — primarily the region’s water utilities. And those stocks hit all-time highs.

So as the 50-year drought thesis (now proven bogus) unwinds, I wanted to gauge the investment merits.

Should you begin strategically buying the downtrodden assets, like vineyards?

Or perhaps shorting the overinflated assets?

Well, let’s see!

Thirsty for Upside

Jonathan RodriguezCalifornia is no doubt one of America’s driest states.

And it has just suffered through a historic five-year drought.

But thanks to massive rainfall over the last year, the water emergency has finally been declared over.

Put simply, it’s time to load up on California water utilities.

You see, the state has painfully adjusted to water conservation on an unprecedented scale.

Gov. Jerry Brown instituted a policy that called for a 25% reduction in usage across the state.

With the emergency over, though, residents will be able to loosen up on usage — and water their lawns again.

Great news for water companies.

Water consumption likely won’t skyrocket back to pre-drought levels, but utilities have seen the worst of the usage cuts.

One water utility poised to profit from the inevitable uptick in usage is the SJW Group (NYSE: SJW).

SJW, short for San Jose Water, is a small-cap water utility that serves more than a million people in California and Texas.

Despite reduced consumption during the drought, revenue has grown 7% over the last five years — nearly double the industry average.

And the utility boasts a 21% five-year earnings growth rate. That’s five times the growth of their peers.

Best of all, the company pays a 1.4% dividend.

Bottom line: Now that the drought is over, California water consumption is about to take off. And if you’re thirsty for the upside, look no further than SJW.

The Real Recovery About to Begin for This Company…

Martin HutchinsonCalifornia agribusiness was hard hit by the drought and is greatly benefiting from the renewed rainfall.

However, because of the crop cycle and limited planting during the drought, the big benefit will accrue in the 2018 crop year rather than in 2017.

For example, one of the big beneficiaries of the drought’s end is Calavo Growers Inc. (NASDAQ: CVGW). This agribusiness company is concentrated in avocados and handles 28% of the avocados grown in California each year — as well as 16% of those grown in Mexico.

2014 was the worst drought year for Calavo, which barely broke even for the year. But 2015 and 2016 already showed considerable recoveries.

Forecasting website 4-traders expects the fiscal year ending Oct. 31, 2017, to show sales up 16% from 2016, but earnings will remain flat. That’s because California avocado sales are expected to be lower since they were high in 2016. (Avocado trees bear fruit in alternate years. So Calavo is importing more Mexican avocados at lower margins.)

2018 is expected to be the real recovery year, with sales up an additional 17% and earnings per share up around 35–40%.

U.S. avocado consumption has risen by 7% annually since 2000 and is expected to continue doing so, benefiting Calavo and other producers.

In addition, any disruption to the North American Free Trade Agreement would benefit producers like Calavo, whose main base is in California.

CVGW is trading on 26 times expected 2018 earnings, a reasonable rating for an agribusiness company so well poised for growth.

To top it off, it just increased its annual dividend to 95 cents, yielding 1.4%.

Timing Is Everything

Louis BaseneseAs Jonathan and Martin have demonstrated, the worst of times is clearly behind SJW and Calavo Growers — making now an opportune time to invest.

But whether or not you take us up on these recommendations isn’t what’s important here.

What’s crucial is that you realize this major investment truth: Putting capital to work in the aftermath of a crisis always leads to impressive profits.

Don’t believe me? Well, here’s a big, shining example we can all relate to…

We’re now 10 years removed from the fateful day the financial crisis began.

From Oct. 10, 2007–March 9, 2009, the S&P 500 index plummeted 56.78%.

If you bailed during the descent, you’re kicking yourself. Since that time, the market has recovered all its losses and then some!

Specifically, the S&P 500 index is up 277.70% since the bottom.

If you bought while there was blood in the proverbial streets — or even months after the crisis ended — you’re all the richer for it.

In other words, when crisis strikes, start getting ready to be a contrarian and deploy some capital in downtrodden blue chip names. Your bottom line will thank you later.

Ahead of the tape,

Louis Basenese
Chief Investment Strategist, Wall Street Daily

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