| BUSINESSWEEK ONLINE : JUNE 14, 1999 ISSUE | |||||||||||||||||||||||||||
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| COVER STORY
Stocks: Don't Even Think about Cashing Out Just rearrange your chips to take advantage of some strong value plays When Elizabeth Mackay, chief investment strategist at Bear Stearns(BSC), was on a plane recently, her seatmate--an alumni career counselor at a top law school--told her that the question lawyers asked most these days was whether they should go work on Wall Street to make quick, easy money. Well, many investors are wondering if they should switch gears and take off the table some of the quick, easy money they've already made. Investors are understandably uneasy. Interest rates are rising, valuations look sky-high, warnings about the Y2K bug abound, and the Dow Jones Industrial average has tumbled more than 600 points from its May 13 high. Still, don't cash out: Just rearrange your chips, say most investment gurus. An improving global outlook, a robust economy, and the broadening of the market into economically sensitive stocks--as well as mid- and small-cap issues--means that the bull still has room to run. Indeed, because their favorites have underperformed the market up till now, value investors maintain there has scarcely been a better environment to find stocks that can act as safe havens from more heady plays. ''It's a good time for value stocks, especially some of the 'Old Economy' stocks,'' says Mackay. With Internet issues at lofty price-earnings ratios--America Online(AOL), for instance, is selling at 336 times this year's projected earnings--despite their recent pullbacks, it's easy to think the whole market is overheated. But truth be told, it's still a relatively narrow band of stocks that has such high p-e ratios. There's a host of other stocks just begging for attention. In fact, Morgan Stanley Dean Witter's(MWD) ''Nifty Fifty'' index of blue-chip multinational growth stocks is selling at 26.6 times forward earnings, whereas the average stock in the 450 ''un-nifty'' stocks is selling at 21.7 times forward earnings. Mid- and small-cap stocks also look good on a valuation basis: The Standard & Poor's Mid-Cap 400 index and S&P 600 Small-Cap index are trading at 18.7 and 16.5 times forward earnings, respectively. And while the NASDAQ 100 index, which consists of large growth stocks, trades at 54 times forward earnings, the Russell 2000, a small-cap stock index, trades at an attractive 23. And according to the Morgan Stanley evaluation model, small- and mid-cap stocks are undervalued by almost 34% and 24%, respectively. KINDER ENVIRONMENT? ''We've been seeing a real shift away from the megagrowth companies into the broader market. Cyclical stocks are being helped, but you can buy a lot of mid-caps and small-caps that have not participated the way the mega-companies have,'' says David Katz, chief investment adviser at Matrix Asset Advisers in New York, which uses value strategies. There's evidence that value is outpacing growth, at least in the S&P 500. The S&P 500/Barra Value index, a subset of the S&P 500 that contains stocks with lower price-to-book ratios such as Alcoa(AA), is up 11.7% year-to-date, while the S&P 500/Barra Growth index, with higher price-to-book companies such as Intel, is up only 6.6%. There are other reasons to believe it's a kinder environment for value investing. ''A very strong economy plus rising rates are death for the price-earnings ratios of high-growth stocks,'' says Peter Canelo, U.S. investment strategist at Morgan Stanley Dean Witter. And rising rates mean that growth managers are continuing to shift toward cheaper and smaller cyclical stocks that have growth components. Canelo likes Cooper Industries(CBE) and Hercules(HPC). He also likes financials, specifically banks. Globally, things are looking rosier, and that's a big plus for economically sensitive cyclical stocks. ''The global economic recovery will continue to be a dominant investment theme for the remainder of 1999,'' says Douglas R. Cliggott, equity market strategist at J.P. Morgan Securities(JPM). Among the cyclicals, Cliggott likes industrial commodity stocks, especially lumber and steel issues such as Timber Group and AK Steel(AKS), and energy stocks such as Royal Dutch Petroleum(RD) and Anadarko Petroleum(APC). He also likes industrial conglomerates such as AlliedSignal(ALD) and Crane(CR). But Cliggott warns that consumer cyclicals, such as Wal-Mart Stores(WMT) and Home Depot(HD), have peaked. ''It's impossible for us to see things getting better there,'' he says. Yet another reason for a flight to value are the bullish earnings forecasts. The second half looks good, at least right now, with earnings estimates up 23% over the second half of 1998, according to First Call, a firm that tracks analysts' estimates. And with accelerated earnings continuing across the board, investors are not likely to pay premiums for the handful of large growth issues that includes General Electric(GE), Coca-Cola(KO), and IBM(IBM). So are big growth stocks destined for disaster? Not by a long shot. But they may cease putting out the spectacular performance that investors have come to expect. Take, for example, big technology stocks like Microsoft(MSFT) and Cisco Systems(CSCO), trading at p-e's of 60 and 73 times forward earnings, respectively. Says Cliggott: ''Because of their price, some of these tech stocks are going to be out of favor.'' ''DOGS OF THE DOW.'' One wise strategy may be to focus on good values among the Dow's 30 stocks. Since the beginning of April, the Dow has posted a total return of 8.2% vs. the S&P 500, which has returned 1.4%. And investors who follow the ''Dogs of the Dow'' strategy, which typically calls for purchasing the 10 stocks from the Dow that have the highest dividend yields and holding them for 12 months, have fared well--posting a total return of 14.5%. The Dogs strategy can reveal stocks with low price-earnings and low price-sales ratios. It currently includes stocks such as Caterpillar(CAT), DuPont(DD), and Eastman Kodak(EK). ''It's not a foolproof method, because companies don't necessarily pay out dividends according to earnings anymore, but it can still ferret out some value plays,'' says Richard Moroney, editor of Dow Theory Forecasts, a newsletter based in Hammond, Ind. Moroney says an even better strategy might be to look at Dow stocks that are both growth and value plays--those that have earnings momentum and trade at reasonable valuations. Some of his picks: AlliedSignal(ALD), United Technologies(UTX), and Citigroup(C). Another idea is to look at some growth stocks as they begin to correct over the next six to nine months, says Bear Stearns' Mackay. She likes EMC, Gillette(G), and Carnival Cruise Lines(CCL). ''Expect the leadership shift to resemble more of a tug-of-war between growth and value than a one-way street,'' says Mackay. But as growth stocks lose some of their steam and value stocks slowly inch upward, it's probably wise not to expect loads of quick, easy money in either category. BY MARCIA VICKERS _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ BACK TO TOP |
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 RELATED ITEMS Stocks: Don't Even Think about Cashing Out TABLE: Stocking Up On Value For the Record: Elizabeth Mackay
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