|  | | Price | 41.360 | | | Change | -0.200 | |
Research Wizard
Add to MSN Stock List
Message Board
|  | | Price | 32.020 | | | Change | -0.010 | |
Research Wizard
Add to MSN Stock List
Message Board
Related Articles
15 gritty survivors worth a gamble
Overvalued? Stocks look cheap to us
Related Resources
Research stocks on MSN Money
Check SEC filings on your stock
See how Stock Scouter rates your stock
Jubak's Journal
Recent articles:
• Don't let your portfolio go on vacation, 5/8/2003
• The stocks even a recovery can't help, 5/6/2003
• Wall Street got off easy, but only for now, 5/2/2003
More...
| | Jubak's Journal
In this rally, dont spit into the wind
How do you make money in a market thats still waiting for a general earnings rebound? Make sure the trends affecting a stock are in your favor. Here are 5 to track.
By Jim Jubak
Dont spit into the wind.
Spit with the wind.
That first saying ought to be tacked above every investors computer. Along with such equally essential and all-too-frequently forgotten pieces of investment wisdom as Buy low, sell high, and Pigs get slaughtered.
Dont spit into the wind is essential advice for a value investor trying to decide if Eastman Kodak (EK, news, msgs) is a buy because its selling at a price-to-earnings ratio of just 12 and a price-to-sales ratio of 0.7. On the other hand, maybe it should be avoided because the winds in its core photography market are blowing so strongly against the company that the stock is destined to get even cheaper.
And its a key bit of wisdom for a momentum investor torn between selling and holding onto Activision (ATVI, news, msgs), up 24% in the last month, on better than expected earnings from both the company and its major competitor Electronic Arts (ERTS, news, msgs). Activision seems to struggle with a test of resistance at its 200-day moving average.
But I think the Wall Street adage is especially valuable for growth investors who buy stocks on the expectation of future growth. Its especially timely to consider this advice today, when the stock market is rallying on hopes for growth in earnings during the second half of 2003.
In my recent column, Stocks even a recovery cant help, I looked at some sectors to avoid in this rally, which is based on hope. These sectors -- airlines, autos, supermarkets and telecommunication-service providers -- are weighed down by so much excess demand, and the declining prices that go along with excess demand, that they arent likely to participate in an earnings recovery. To my mind, investing in these sectors is spitting in the wind.
Keep the wind at your back
The second saying, Spit with the wind, doesnt have nearly as high a profile on Wall Street as its negative partner. But its just as important. Investors who want to be successful need to make sure the investments in their portfolios have the wind at their backs and not in their faces. (The main difference between growth and momentum investors and value investors from this point of view is the length of time theyre considering in their weather forecast. Momentum investors want the wind with them now. Value investors think that gradual climate change will eventually shift the wind in their favor.)
In the current rally, its especially important to make sure as many trends as possible are going in favor of any stock you own because the arrival of the hoped-for megatrend -- the second-half earnings recovery -- is so unpredictable. Sure, if the earnings recovery materializes, it will align most stocks with the weather. But it doesnt hurt to make sure that each industry sector represented in your portfolio has 1) a better probability of earnings growth in the second half of the year than the general economy, and 2) a higher potential earnings growth rate in the recovery than the average company.
So what are you really looking for in a stock today? Here are five specific sector trends that investors would like to have going in their favor in 2003 -- and some suggestions for how to take advantage of each.
Falling, or at least steady, supply
The last thing you want is a recovery in demand to bring unused capacity back into the market. That will drive prices down just when the profit cycle is starting to cook. That may well happen in the global auto industry; car makers have the ability to produce more cars than they can sell even at times of peak global demand.
On the other hand, theyre not making any more natural gas -- and U.S. natural-gas producers are cutting their drilling schedules. To be sure, high prices for natural gas have led to an increase in drilling in the United States. There are now 825 rigs in operation in U.S. gas fields, according to Baker Hughes, up 29% from a year ago. But even though natural gas prices are now somewhere in the neighborhood of $5 per million BTUs, up $1.67 from a year ago, the increase in drilling still leaves the industry way, way short of the 1,100 rigs in action just two years ago.
The U.S. gas industry is finding it tougher and tougher to expand production. Most U.S. fields are thoroughly explored. And because its tough and expensive to bring liquefied natural gas into the United States from overseas, North American producers may not face a big increase in supply from that direction either. Two stocks that look like theyve got this wind at their back are Burlington Resources (BR, news, msgs) and EnCana (ECA, news, msgs).
Consolidating sector with fewer and fewer competitors
When stronger players buy out weaker rivals in an industry, they usually shutter inefficient plants and consolidate operations, effectively taking supply out of the market. That, plus the greater clout of the bigger survivors, often leads to the ability to raise prices when demand starts to return.
The industry that provides the back-office operations for the countrys big mutual funds, institutional investors and brokerages is going through exactly this kind of consolidation now. State Street (STT, news, msgs) bought the global custody business of Deutsche Bank (DB, news, msgs) and is now the worlds largest custodian of investment assets. Bank of New York (BK, news, msgs) bought the Pershing unit of Credit Suisse Group (CSR, news, msgs); its now the largest provider of clearing services in the world.
Bank of New York was already a large player in clearing, the process of following up on each securities trade to make sure that the securities actually change hands at the right price and on schedule. But the Pershing deal just about doubled the number of trades the company clears each day. Both dollars under management and trading volumes are down right now, as youd expect after a three-year bear market. When market activity picks up, however, State Street and Bank of New York wont face either Deutsche Bank or Credit Suisse as competitors.
Cyclical demand independent of the economy
Eliminating excess supply and cutting the number of competitors will produce higher than average earnings growth when the economy turns, but the companies in these sectors remain dependent on growth in the general economy.
Thats one reason that advertising and media stocks have been so hot lately. Next year promises a big uptick in advertising spending thanks to two events that have little to do with the economy: a presidential election and the Summer Olympics in Athens.
Both events drive up advertising minutes purchased and the prices paid for ads. Thats likely to be extremely lucrative for the huge media companies with concentrated ownership of broadcasting, cable and radio outlets. These are largely fixed-cost businesses with huge upside leverage in good markets for selling ads. Then, almost all of each dollar of additional ad sales drops straight to the bottom line. That pretty much describes Viacom (VIA, news, msgs), which, because it owns CBS and multiple cable outlets has the ability to spread its costs over a very wide base.
A favorable product cycle that hikes prices
New stuff sells, and it sells at a higher price than old stuff. Thats especially so in the technology sector; yesterdays best seller will be available tomorrow at a 40% markdown. Right now, the earnings prospects of most technology companies are pinned to the belief that, sometime soon, corporate buyers will have to upgrade aging equipment. A few tech companies, however, are sitting at the beginning of major product upgrade cycles that are likely to yield higher sales and higher selling prices with or without the return of the corporate buying binge.
The hard disk drive industry is moving away from producing a commodity product that went into every PC with sales levels dependent on the health of that industry. Hard disk drives show up in a variety of new consumer gear, such as the new generation of cable and satellite set-top TV boxes. These boxes digitally store programs for playback at the viewers convenience, and they sometimes come in game players such as the Xbox, made by Microsoft (MSFT, news, msgs). (Microsoft is the parent of this site.) That has led to a jump in sales of the existing 40-gigabyte drives and to a growing market for new 80-GB drives with -- and this is the important part for investors -- higher selling prices. (For more on this topic, see "Back a winner in the TV revolution.")
The new technology isnt easy to produce, and Maxtor (MXO, news, msgs), one of the industry leaders, has stumbled during the transition. That misstep has led Western Digital (WDC, news, msgs), which hasnt yet moved to the 80-GB product, to increase its sales of the existing technology; the company picked up sales to Dell Computer (DELL, news, msgs) in the most recent quarter. Seagate Technology (STX, news, msgs) is furthest along of the big three in making the transition to the 80-GB product. Maxtor is experiencing glitches in its transition, and Western Digital has just started the process. Watch to see who can get the most original equipment manufacturers to qualify its 80-GB hard drive in the next few weeks. Thats the company that will have the biggest tailwind going into the second half of the year.
Tarnished competitors that have put their market share in play
In the best of all worlds, when a competitor stumbles, a CEO would like the trip to turn fatal and for the competitor to go out of business. But a competitor that stays in business but loses the confidence of customers is almost as good. This may well be what plays out in the brokerage industry over the next few quarters. Investment firms with big retail operations, such as Merrill Lynch (MER, news, msgs) and Morgan Stanley (MWD, news, msgs), and that have agreed to a settlement that shows them lying to customers in their research and investment advice can expect a strong challenge from asset management companies unblemished by the scandal.
Even before the recent $1. 4 billion settlement, Charles Schwab (SCH, news, msgs) was running ads touting its integrity and its dedication to the best interest of the investor rather than to its own bottom line. But Schwab has too many internal conflicts of interest to launch a truly damaging drive. Every time it urges investors to bring their assets directly to Schwab, it risks alienating investment advisers who use Schwab as custodian for their clients money.
Instead, look to off-Wall Street asset managers who target the wealthy to successfully skim some of the cream off the tarnished firms business. Already Northern Trust (NTRS, news, msgs), based in Chicago, has decided to open a new office in New York City to handle wealthy clients. Do you think it has designs on any of its competitors' wealthiest customers, hoping that they might be sufficiently upset with Wall Street to switch? (Nah. Couldnt be.)
Investors trying to go with the trend need to dig down one more level. Besides investing with the macroeconomic picture, and with sector trends, investors need to look at the winds that are blowing at the company level.
Univision (UVN, news, msgs) has many of the same positive industry trends going for it as Viacom does, but the company faces a strong attack from the NBC unit of General Electric (GE, news, msgs) on its Spanish-speaking audience stronghold.
At the moment, of all the stocks mentioned in this column, I think all the three levels of trends line up best for Viacom and State Street. And Im going to be adding them to Jubaks Picks with this column.
Updates on previous columns
5 reasons dividends count right now
On May 5, Kinder Morgan Energy Partners (KMP, news, msgs) announced that the Securities & Exchange Commission had begun an informal investigation into the way the master limited partnership accounted for its purchase of the Tajas gas pipeline. At issue is about $155 million that Kinder Morgan booked as goodwill that may have to be reclassified as a tangible asset. That reclassification would put more assets on the books that would have to be depreciated annually. The total cost of that change would be about 2 cents a share in increase annual depreciation expense. Thats hardly enough, in my opinion, to justify the pounding the stock took on the news. (Standard & Poors agrees, saying on May 6 that on current information about the SEC investigation it saw no reason to change the companys debt rating.) Especially because the increase in depreciation, a paper charge, would not reduce cash flow at the company. And cash flow is all investors in a master limited partnership really care about. On that front, the news was good in the April 16 earnings report. Earnings per share grew to 50 cents (after items), up from 48 cents in the same quarter of 2002 and distributable cash flow increased to 69 cents a share from 66 cents in the year ago period. Kinder Morgan Energy Partners also announced that it would increase the cash payout to investors to 64 cents a quarter, thats up from 59 cents in the first quarter of 2002, and expects to hit an annualized target payout of $2.72 a share by the end of 2003. As of May 9, Im raising my target price on Kinder Morgan Energy Partners to $42 a share by September. (Full disclosure: I own shares of Kinder Morgan Energy Partners.)
Changes to Jubak's Picks
Buy Viacom
If the advance sales season, that time in may when advertisers book TV time for the year ahead, lives up to billings, then media companies should show solid earnings increases in 2003-2004. Broadcasters expect more than $8 billion in advance sales, the highest total ever, and cable advance sales should hit $5 billion, a 10% increase, according to J.P Morgan. A lot of any jump in ad sales will go to Viacom (VIA.B, news, msgs), the owner of broadcaster CBS and the MTV, VH1, BET, and Nickelodeon brands on cable. And because of the way that Viacom is structured -- fixed costs are relatively high and ad revenues make up about half of Viacoms sales -- the company gets a lot of earnings bang out of any extra advertising bucks. And the company is a monster when it comes to generating cash: Free cash flow came to $2.6 billion in 2002 on $25 billion in revenue. Im adding the stock to Jubaks Picks with a target price of $50 a share by July.
Buy State Street
For the last year, two issues have weighed on the stock of State Street (STT, news, msgs), one of the most dependable growth stocks in the financial sector in the 1990s. First, theres the lousy state of the equity market: Its hard for an asset management company to grow revenues when a declining market is constantly eroding the value of client assets. Second, theres the acquisition of the custodial business of Deutsche Bank (DB, news, msgs), which made State Street the biggest custodian in the world. Wall Street has been skeptical about how much of the $2 trillion in custodial assets that State Street acquired in the deal would stay with State Street. Typically, about 40% of assets walk out the door after a deal like this, so State Street set itself a tough target when it said it planned to retain 90% of assets. Right now, State Street looks to be within striking distance of that goal. The company reports that it feels confident that 79% of assets will stay and that only 3% have definitely been lost to competitors. That leaves 18% still up for grabs. Retaining all these assets is the key to State Streets strategy of using economies of scale and cross-selling services to grow revenues and profits. A recovery in the equity market wouldnt help either, of course. Im adding the stock to Jubaks Picks with a target price of $48 a share by December 2003.
Editor's Note: A new Jubaks Journal is posted every Tuesday, Wednesday and Friday. The Wednesday edition stems from Jim's appearance on CNBCs Business Center most Wednesday nights at approximately 5:45 p.m. ET. Selected CNBC stories can be found in the TV Reports index.
At the time of publication, Jim Jubak owned or controlled shares in the following equities mentioned in this column: : Charles Schwab, EnCana, Kinder Morgan Energy Partners and Microsoft. He does not own short positions in any stock mentioned in this column.
|
