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Get Four
|  | JANUARY 18, 2006
 SAM STOVALL'S SECTOR WATCH By Sam Stovall Gold's Sparkling ProspectsStandard & Poor's thinks the precious metal's price should continue to rise, thanks to erratic returns from stocks, among other factorsA recent addition to the High Momentum List is the Standard & Poor's 1500 Gold subindustry index. During 2005, the S&P 1500 Gold index rose 20.2%, vs. a 3% gain for the S&P 1500. Year-to-date through Jan. 13, this group has tacked on an additional 8.1%. So now the $64,000 question: Does gold have any glitter left? According to Leo Larkin, S&P's gold analyst, it does. Larkin's fundamental outlook for the gold subindustry is positive, based on his expectation for a continued rise in the price of gold. While he believes gold could decline near-term following a recent sharp run-up, he continues to have a positive view of the industry's secular prospects. As he sees it, the longer-term bullish fundamentals remain firmly intact. First, he believes equity markets are less likely to offer as much competition for investment demand as they did in the late 1990s, when double-digit annual rates of return were the norm. While the stock market may have a positive return in 2006, Larkin thinks financial-asset returns in general will be less rewarding than during the 1990s. He believe erratic financial-market returns will boost demand for gold and gold stocks. PRODUCTION GAP. Second, he sees higher commodity prices in 2006, reflecting consolidation in commodity-producing industries and continued global economic growth. The Commodity Research Bureau (CRB) Commodity Price Index rose 23% in 2002, 8.9% in 2003, and 11.2% in 2004. In 2005, the CRB Index was up 16.9%. Third, he believes the gap between production and consumption of gold should widen, as output likely stagnates and physical demand rises. Larkin believes the low level of gold prices in the late 1990s led to sharply reduced exploration, which he thinks will result in flat to lower production even if the metal's price rises dramatically. Fourth, Larkin believes greater volatility of the major world currencies will likely increase the demand for gold as a monetary reserve asset. POSITIVE OUTLOOK. Finally, the industry has undergone major consolidation. Mergers should, in Larkin's view, result in larger market capitalizations and more trading liquidity in the stocks. He believes this will make the group more attractive to institutional investors. The gold industry's relative strength price chart is shown below. As a reminder, the jagged blue line represents the subindustry index's rolling 52-week price performance as compared with the 52-week performance for the S&P 1500. Any point above 100 indicates market outperformance over the prior year, while points below 100 indicate market underperformance. The red line is a rolling 39-week moving average, while the two green bands indicate one standard deviation above and below the subindustry index's 15-year mean relative strength. 
So there you have it. In S&P's view, the subindustry's price momentum and our fundamental outlooks are positive, and point to a possible further price appreciation in the coming months. Industry Momentum List Update For regular readers of the Sector Watch column, here is this week's list of the industries in the S&P 1500 with Relative Strength Rankings of "5" (price performances in the past 12 months that were among the top 10% of the industries in the S&P 1500) as of January 13, 2006.
Glossary S&P STARS: Since January 1, 1987, Standard & Poor's Equity Research Services has ranked a universe of common stocks based on a given stock's potential for future performance. Under proprietary STARS (STock Appreciation Ranking System), S&P equity analysts rank stocks according to their individual forecast of a stock's future capital appreciation potential versus the expected performance of a relevant benchmark (e.g., a regional index (S&P Asia 50 Index, S&P Europe 350 Index or S&P 500 Index), based on a 12-month time horizon. STARS was designed to meet the needs of investors looking to put their investment decisions in perspective. S&P Earnings & Dividend Rank (also known as S&P Quality Rank): Growth and stability of earnings and dividends are deemed key elements in establishing S&P's earnings and dividend rankings for common stocks, which are designed to capsulize the nature of this record in a single symbol. It should be noted, however, that the process also takes into consideration certain adjustments and modifications deemed desirable in establishing such rankings. The final score for each stock is measured against a scoring matrix determined by analysis of the scores of a large and representative sample of stocks. The range of scores in the array of this sample has been aligned with the following ladder of rankings:
S&P Issuer Credit Rating: A Standard & Poor's Issuer Credit Rating is a current opinion of an obligor's overall financial capacity (its creditworthiness) to pay its financial obligations. This opinion focuses on the obligor's capacity and willingness to meet its financial commitments as they come due. It does not apply to any specific financial obligation, as it does not take into account the nature of and provisions of the obligation, its standing in bankruptcy or liquidation, statutory preferences, or the legality and enforceability of the obligation. In addition, it does not take into account the creditworthiness of the guarantors, insurers, or other forms of credit enhancement on the obligation. The Issuer Credit Rating is not a recommendation to purchase, sell, or hold a financial obligation issued by an obligor, as it does not comment on market price or suitability for a particular investor. Issuer Credit Ratings are based on current information furnished by obligors or obtained by Standard & Poor's from other sources it considers reliable. Standard & Poor's does not perform an audit in connection with any Issuer Credit Rating and may, on occasion, rely on unaudited financial information. Issuer Credit Ratings may be changed, suspended, or withdrawn as a result of changes in, or unavailability of, such information, or based on other circumstances. S&P Core Earnings: Standard & Poor's Core Earnings is a uniform methodology for calculating operating earnings, and focuses on a company's after-tax earnings generated from its principal businesses. Included in the Standard & Poor's definition are employee stock option grant expenses, pension costs, restructuring charges from ongoing operations, write-downs of depreciable or amortizable operating assets, purchased research and development, M&A related expenses and unrealized gains/losses from hedging activities. Excluded from the definition are pension gains, impairment of goodwill charges, gains or losses from asset sales, reversal of prior-year charges and provision from litigation or insurance settlements. S&P 12 Month Target Price: The S&P equity analyst's projection of the market price a given security will command 12 months hence, based on a combination of intrinsic, relative, and private market valuation metrics. Standard & Poor's Equity Research Services: Standard & Poor's Equity Research Services U.S. includes Standard & Poor's Investment Advisory Services LLC; Standard & Poor's Equity Research Services Europe includes Standard & Poor's LLC- London and Standard & Poor's AB (Sweden); Standard & Poor's Equity Research Services Asia includes Standard & Poor's LLC's offices in Hong Kong, Singapore and Tokyo. Required Disclosures In the U.S. As of December 31, 2005, research analysts at Standard & Poor's Equity Research Services U.S. have recommended 28.2% of issuers with buy recommendations, 61.3% with hold recommendations and 10.5% with sell recommendations. In Europe As of December 31, 2005, research analysts at Standard & Poor's Equity Research Services Europe have recommended 33.8% of issuers with buy recommendations, 46.8% with hold recommendations and 19.4% with sell recommendations. In Asia As of December 31, 2005, research analysts at Standard & Poor's Equity Research Services Asia have recommended 24.8% of issuers with buy recommendations, 53.1% with hold recommendations and 22.1% with sell recommendations. Globally As of December 31, 2005, research analysts at Standard & Poor's Equity Research Services globally have recommended 28.7% of issuers with buy recommendations, 59.1% with hold recommendations and 12.2% with sell recommendations. 5-STARS (Strong Buy): Total return is expected to outperform the total return of a relevant benchmark, by a wide margin over the coming 12 months, with shares rising in price on an absolute basis. 4-STARS (Buy): Total return is expected to outperform the total return of a relevant benchmark over the coming 12 months, with shares rising in price on an absolute basis. 3-STARS (Hold): Total return is expected to closely approximate the total return of a relevant benchmark over the coming 12 months, with shares generally rising in price on an absolute basis. 2-STARS (Sell): Total return is expected to underperform the total return of a relevant benchmark over the coming 12 months.  Stovall is chief investment strategist for Standard & Poor's All of the views expressed in this research report accurately reflect the research analyst's personal views regarding any and all of the subject securities or issuers. No part of analyst compensation was, is or will be, directly or indirectly related to the specific recommendations or views expressed in this research report. Standard & Poor's Regulatory Disclosure Any advice, analysis, or recommendations contained in articles labeled "Insight from Standard & Poor's" reflect the views of Standard & Poor's, which operates separately from and independently of BusinessWeek Online. It is possible that BWOL may from time to time publish information that is not consistent with advice, analysis, or recommendations that are published by Standard & Poor's. Standard & Poor's and BusinessWeek Online are each units of The McGraw-Hill Companies, Inc. Get BusinessWeek directly on your desktop with our RSS feeds.  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