With Interest Rates Set to Remain High Into 2025, These 2 Stocks Make Good Sense

Tuesday trading saw the S&P 500 lose 1.4% while the Dow fell by a fraction less. The Dow finished the day in negative territory on the year.

Not helping the cause were comments from the Cleveland Federal Reserve and Atlanta Federal Reserve presidents. The Hawkish comments suggest higher interest rates will stay for at least the next 15 months and into 2025. 

“I suspect we may well need to raise the fed funds rate once more this year and then hold it there for some time as we accumulate more information on economic developments and assess the effects of the tightening in financial conditions that have already occurred,” stated Cleveland Fed President Loretta Mester.  

Raphael Bostic, Atlanta Fed President, said that he expects interest rates to stay at elevated levels “for a long time,” Barchart’s Rich Asplund reported Tuesday. 

The fact that interest rates could remain high for as long as two years is bad news for some stocks and great news for others. 

Here are two stocks that ought to benefit from this situation.

Intuitive Surgical

If you’re unfamiliar with Intuitive Surgical (ISRG), it is the world leader in robotic surgical systems. The California-based company had 8,042 da Vinci surgical systems at hospitals and medical facilities as of June 30.  

In Q2 2023, the company placed 331 da Vinci surgical systems, up from 279 in Q2 2022. That resulted in a 15% increase in revenue to $1.76 billion, while its adjusted net income was $507 million, 22% higher than a year earlier. 

What’s exciting about its business is it’s become a high-end version of the Gillette razor and blade business model. It places the da Vinci systems and then rakes in the money from the sale of instruments and accessories. In Q2 2023, da Vinci sales accounted for 22% of its overall revenue, with instrument/accessory sales accounting for 61% and services 17%. 

So, that’s 78% from recurring revenue after the initial sale of the million-dollar-plus surgical systems. 

It finished the second quarter with $7.13 billion in cash, cash equivalents, and investments, and zero debt. You won’t see interest expense eating up its operating profits anytime soon. 

While system sales might slow due to higher interest rates, and that’s a big if, it can generate recurring revenue from instrument sales and services. It’s a potent combination.

One unusually active put option in Tuesday trading was the Oct. 27 $265 strike. The bid price of $4.20 is an annualized yield of 22.8% based on a $287.32 share price. With a little over three weeks to expiration, there’s a good chance you’ll get yourself a nice bit of income by selling a put or two. 

However, should it be put to you, you’re only losing money if its share price falls below $260.80. It hasn’t done that since January. 

Texas Pacific Land 

Texas Pacific Land (TPL) became a C-Corp. in January 2021, after 133 years organized as a land trust. 

The land owner’s original history dates to 1871, when the Texas & Pacific Railway was created to run from Texas to California. Four states granted land for each mile of rail built. By 1881, it had built 972 miles of rail, granting it 3.5 million acres of land. 

Seven years later, in 1888, the railway went bankrupt, and the land was put into a trust for the bondholders who invested in the railway. Texas Pacific Land owns 886,000 acres of land in West Texas, a prime oil and gas area. 

TPL makes money in five ways:  Royalties from companies using its land to produce oil and gas, the sale of water from under its lands, royalties from water produced on its lands, easement revenue from infrastructure built across its land, and land sales.

It’s a big-picture, patient type of investment. It’s not for everyone. 

However, it’s got $609.3 million in cash and cash equivalents on its balance sheet, with zero debt, while generating $193 million in free cash flow in the first six months of 2023, 103% of its net income.

The big issue hurting the stock now is the company’s ongoing litigation with its largest shareholder, Horizon Kinetics LLC, who owns 18.2% of Texas Pacific Land stock. The company filed a complaint against Horizon in November 2022, arguing that as part of its shareholder agreement with Texas Pacific, it had agreed to support increasing the number of authorized shares to aid the company in future acquisitions. Horizon voted against the proposal.

The trial was held on April 17. Post-trial oral arguments occurred on June 30. The Delaware Chancery Court judge presiding over the case has yet to make a ruling. 

However, the good news is that the two parties have agreed to a Cooperation Agreement due to changes made to the board, which includes certain voting commitments and standstill and nondisparagement provisions.

While there might be outstanding litigation eating into profits --  $26.8 million in legal and professional fees in the first six months of 2023, up from $2.9 million a year earlier -- it’s hard to ignore 886,000 acres of Texas land on the balance sheet. 

In the second quarter, it sold 43 acres for $1.4 million, or $32,558 an acre. Based on this number, you’re looking at nearly $29 billion in potential proceeds.

You should put this on your watchlist. It’s a very interesting business with an absolute rock of a balance sheet.   

 

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On the date of publication, Will Ashworth did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.