Smart Stocks for a Choppy Market

Indexes are swinging up and down, so steady performers in solid sectors remain your best bet. Here are some the pros suggest

by Ben Steverman

The recent fall in stock prices is not just a sign of concern about credit markets. Many worry the turmoil could help send the U.S. economy into recession. And while major indexes have recovered some of their recent losses, the size and suddenness of recent market swings have reminded investors that the roller-coaster ride may not be over yet.

If you're feeling gloomy, which equities should you be considering now? We decided to look at the stocks and sectors that are most likely to withstand an economic downturn, whenever it comes.

Yes, it's "when," not "if." After all, recessions are a fact of economic life. Stock markets plunged in late July, with major indexes suffering losses of 5% or more, suggesting many investors are expecting the worst soon. And equity benchmarks were hit with another big decline in early August, followed by a sharp rally.

The Fed Remains Optimistic

The Federal Reserve is more optimistic. "The economy seems likely to continue to expand at a moderate pace over coming quarters, supported by solid growth in employment and incomes and a robust global economy," the Fed said in a statement Aug. 7. Most economists seem to agree. (For more on the apparent split between investors and economists, see BusinessWeek.com, 8/6/07, "The Street's Recession Fears.")

Whether the next downturn comes in a few months or a few years, how do you prepare?

We asked 10 fund managers and market experts which sectors and companies would do best in a downturn. Such safe harbors are not easy to find. Recessions are unpredictable and can be brutal for investors.

"There probably is no truly solid ground," says Kim Caughey, a senior analyst at Fort Pitt Capital Group who helps manage the Fort Pitt Capital Total Return Fund (FPCGX). "In a recession, all bets are off."

Best-Protected Sectors

Nonetheless, conventional wisdom may be right that certain parts of the economy are more insulated from disruption. Utilities and defense contractors often provide steady returns, for example. Even if the economy tanks, the U.S. will still need electricity and a military.

It's a difference between "the things you need vs. the things you want," says Art Hogan, chief market analyst at Jefferies & Co. (JEF) Luxuries tend to go first in a downturn. "If I can't put food on the table, I'm not getting an iPhone," Hogan says.

There are a lot of intriguing exceptions to this rule, however. What does it say about human nature that casinos and gambling stocks often do well when times are bad?

High-end retailers might do well because their customers, the wealthy, don't feel the same economic pain as other Americans, Hogan says.

We narrowed down all the choices to three sectors that seem the best places to put your money in case of a downturn. We also include stocks in each sector that our experts thought would be good investments. (A blanket disclosure: The fund managers and investment advisors we consulted recommended stocks that they, or their funds, already own.)

Health Care

Health care is a traditional defensive sector. Most Americans won't be canceling their insurance or foregoing important treatments just because the economy slows down. As the cliche goes, "you can't put a price on your health."

Add to that the graying of America's Baby Boom generation and the health-care sector is likely to grow "in good times and bad times," says Walter Gerasimowicz, chairman and chief executive of Meditron Asset Management. He recommends Dentsply International (XRAY), one of the world's leading makers of dental products.

Johnson & Johnson (JNJ) is a good way to invest in the sector. The $180-billion giant is diversified across so many different products that it's "really a mutual fund" of various health-care segments, says Michael Church, senior portfolio manager of Church Capital Management.