Jubak's Journal
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5 stocks tapping into business spending
There are indications that businesses are spending more, which is helping companies in the business equipment and construction sector. It might be the best place to turn now.
By Jim Jubak
Are stocks getting near a temporary top?
To get an answer to that question some investors study technical measures such as advance/decline lines. Others look at money flows. And still others examine price-to-earnings ratios and projected earnings growth.
For me though, the time to worry that stocks might be getting near a top is when the screens that I regularly use -- like those I employ to make my weekly short-term picks on CNBC's "Morning Call" -- start coming up empty.
They're not coming up completely empty yet, but in the last two weeks the pickings have definitely become slim and slimmer. Sectors that have been hot, such as energy stocks, are looking overextended: In the short-term these stocks need to retreat and then rest so buying demand can rebuild. And while energy stocks may be the extreme case due to the strength of their recent rally, they certainly aren't unique. The best stocks that my screens turn up in other sectors all trade at high price-to-earnings ratios, are selling near 52-week highs and sport charts that look overextended.
The few sectors that aren't too pricy don't exactly fill me with unalloyed enthusiasm either. Last week I found five technology stocks, which you can find here, on "Morning Call," though I got bumped off the show by some guy named Alan Greenspan. But the technology rally is relatively weak. Even on recent days when the technology-laden Nasdaq rises, advancing Nasdaq stocks have barely outnumbered declining stocks. This isn't the kind of strong move that leads the market up another leg. Instead, it's often the sign of a weaker follow-up rally that let's some technology laggards catch up to the rest of the market.
A spending revival?
The best combination of strong stock momentum with reasonable prices that I've been able to find is in the business equipment and construction sector. But even here these stocks aren't cheap by historical measures, and the evidence of a revival of spending on plants and equipment is tentative.
Yes, business spending on equipment and software roared ahead at an annual pace of 18% in the fourth quarter. But no one really knows how much of that surge was a result of businesses rushing to buy in order to take advantage of investment tax breaks that were set to expire at the end of 2004. The data so far suggest that business spending won't drop as much as many economists feared, and that the business spending looks solid again in 2005. One piece of data is an increase of 2.9% in orders for nonmilitary capital goods in January. But that's just one month of one indicator.
My best advice is don't chance anything, take some profits and wait for a better day. That's relatively easy for me to say because I became fully invested during the January trough. If you sat too long on the sidelines, you may not feel you have the luxury of waiting. If your investing cash is burning a hole in your pocket, I strongly suggest taking a deep breath, a walk around the block or a trip to the garden store to plan for spring.
And then, if you can't find your inner calm, the best place to put new money to work now -- if you've just have to do it -- is in the business equipment and construction sector. Here are the three stocks in that sector that I recommended on CNBC's "Morning Call" Wednesday.
Piling on revenue
Eaton (ETN, news, msgs) has built market share in its core business through a series of acquisitions that pushed overall revenue growth to 35% in 2004. Those acquisitions strengthened the company's hand in its fluid power and electrical segments (about 65% of sales) and will be key to what looks like a solid 2005, with organic revenue growth, or growth before acquisitions, of about 8%.
Eaton was relatively successful in passing through higher raw material prices to customers in 2004 and management has been telling Wall Street that it feels it'll be able to do more of the same in 2005, resulting in an increase of 1.5 percentage points in operating profit margins for 2005. Cash flow per share could break $8 in 2005, giving the company plenty of money to buy back shares, raise the dividend or make another acquisition or two. The stock trades at 17 times trailing 12-month earnings per share. Our StockScouter rated the stock an 8 out of a possible 10 on March 9.
In the mines
Kennametal (KMT, news, msgs) prospers when miners are doing well, and since these are boom times in the mines, thanks to high prices for everything from iron ore to coal, Kennametal's earnings have been booming. Wall Street projects that earnings per share will climb 47% for the fiscal year that ends in June.
A restructuring that reduced costs and reorganized the sales force has kicked in just as the company's markets for consumable metal-working tools rebounded. The weak dollar hasn't hurt either: about 44% of sales come from overseas. Kennametal trades at 17 times trailing 12-month earnings per share. Our StockScouter rated the stock a 7 on March 9.
Hiking prices
Texas Industries (TXI, news, msgs) is getting the full advantage of increases in cement and structural steel prices. Even though the company's shipments slowed in the November quarter, higher prices -- 10% higher for cement and 75% for structural and bar steel -- pushed operating profit margins to near 11% in 2004, up from 7% in 2003. It looks like margins could be on their way to the neighborhood of 20% in 2005.
In December the company announced that it would spin off its steel business to shareholders this summer. That makes these shares an interesting opportunity for investors looking to get in through the back door in on the boom in steel industry shares. The stock trades at 12.5 times trailing 12-month earnings per share. Our StockScouter rated the stock a 7 on March 9.
And as always I have two more exclusive picks for CNBC.com on MSN readers.
Two exclusive picks
Florida Rock (FRK, news, msgs) took it on the chin in the September quarter as four major hurricanes disrupted its Florida operations. But even those natural disasters couldn't stop the company from turning in a record year in 2004, and 2005 looks likely to be even better.
Demand for construction aggregate continues to grow as highway construction in Florida zooms along at record levels. Price hikes of 8% to 15% took effect in January, and since they just match those already announced by competitors, the increases look likely to stick. The Wall Street consensus sees all this pushing Florida Rock's earnings per share up almost 20% in the fiscal year that ends in September. The stock trades at 25 times trailing 12-month earnings per share. Our StockScouter rated the stock an 8 on March 9.
Regal-Beloit (RBC, news, msgs) makes gear drives, gas-flow control systems, electric motors and generators. If you're looking for a stock that'll track the manufacturing economy, this is your baby. Thanks to higher prices, strong demand and a big deal to acquire the commercial electrical motor business of General Electric (GE, news, msgs) this baby looks to grow fast in 2005.
The Wall Street consensus calls for 66% earnings per share this year. The stock moved has moved up strongly and trades at 26 times trailing 12-month earnings per share. But it trades at just 15.7 times projected 2005 earnings. Our StockScouter rated the stock an 8 on March 9.
Editor's Note: A new Jubaks Journal is posted every Tuesday and Friday.
E-mail Jim Jubak at jjmail@microsoft.com.
At the time of publication, Jim Jubak didn't own or control shares in any of the equities mentioned in this column. He doesn't own short positions in any stock mentioned in this column.
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