As a reminder, S&P's Stock Appreciation Ranking System, or STARS, encompasses S&P's 66 U.S. equity-research analysts, who establish buy, hold, and sell recommendations on more than 1,500 stocks for the coming 12 months. A stock with 5 STARS is ranked strong buy, while 3 STARS means hold, and 1 STARS indicates strong sell. (See the glossary and disclosure statement at the end of this report for a more complete description.)
THE TIRED 10. As with the last time around, I've combined industries' market-cap weighted average STARS ranking along with our 12-month
Relative-Strength Ranking (RSR) metric. But this time, we're looking for the underachievers.
The list below shows the bottom 10 industries, based on two criteria: (1) the lowest 12-month RSR, as indicated by an RSR score of 2 or 1, and (2) an industry's market-cap weighted average STARS below the average of 3.7 for all stocks in the S&P 1500.
S&P 1500 Subindustry
Auto Parts & Equipment
One of the categories on the list that should come as no surprise to investors: auto makers. Frequently, investors have asked me if it is time to buy back into the automobile-related stocks. To find out if these issues represent bargains, I checked with Efraim Levy, CFA, S&P's Auto and Auto Parts analyst.
Levy says S&P's fundamental outlook for the automobile manufacturers subindustry is negative. S&P expects that 2005 U.S. light-vehicle sales volume will total about 17 million, up from the 16.9 million sold in 2004. Levy sees a drop to 16.7 million in 2006.
BIG-THREE BLUES. Competition should remain intense, in S&P's view, in part because of new-product introductions and incentives. Gasoline prices, which recently topped $3 per gallon before pulling back, appear to be hurting demand for fuel-inefficient -- but profitable -- light trucks. Aging vehicle models and increased competition are also pressuring sales, in Levy's view. Lower production and/or increased incentives, in turn, could reduce income in 2005 and 2006.
S&P expects the Big Three U.S. auto makers -- General Motors (GM
), Ford (F
), and the Chrysler unit of DaimlerChrysler (DCX
) -- collectively to lose market share to foreign carmakers in 2005 and 2006.
Of special concern to Levy is the highly profitable light truck, minivan, and sport utility segment, which he thinks faces increasing pricing pressure now that the Big Three's dominance is waning, gasoline prices are rising sharply, and a shift in market share to less-profitable Crossover Utility Vehicles (CUVs) is occurring. S&P projects that margins will come down in this segment.
DEMAND UP, MARGINS DOWN Increased sales of luxury import models are also hurting domestic manufacturers' margins in the luxury-vehicle category, in S&P's view. Levy thinks restructuring and other cost-reduction efforts should offset some of the margin pressure in 2006. However, he expects higher raw-material and retiree and health-care costs to squeeze margins.
S&P believes the favorable backdrop of relatively high employment, combined with aggressive vehicle incentives in the form of discounted prices and financing rates, should bode well for a continuation of relatively high demand for motor vehicles. However, rising competition will likely make profits harder to come by. With a combination of cost reductions and a move to more-profitable non-car vehicle sales, auto makers' profits have been strong during this up cycle.
While a new higher-sales plateau in North America may be sustainable, Levy has concerns about intensifying competition and acceleration of already-heavy incentive activity.
WHO'S STRONG? So there you have it. In S&P's view, the subindustry's price momentum still looks unhealthy, while the 12-month fundamental outlook also appears unappealing.
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 placed among the top 10% of the industries in the S&P 1500) as of Dec. 9, 2005.
Construction & Engineering
Diversified Metals & Mining
Fertilizers & Agricultural Chemicals
Health Care Services
Managed Health Care
Oil & Gas Drilling
Oil & Gas Equipment & Services
Oil & Gas Exploration & Production
Oil & Gas Refining & Marketing
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.
In the U.S.
As of September 30, 2005, research analysts at Standard & Poor's Equity Research Services U.S. have recommended 28.7% of issuers with buy recommendations, 60.3% with hold recommendations and 11.0% with sell recommendations.
As of September 30, 2005, research analysts at Standard & Poor's Equity Research Services Europe have recommended 34.8% of issuers with buy recommendations, 44.8% with hold recommendations and 20.4% with sell recommendations.
As of September 30, 2005, research analysts at Standard & Poor's Equity Research Services Asia have recommended 28.1% of issuers with buy recommendations, 51.1% with hold recommendations and 20.8% with sell recommendations.
As of September 30, 2005, research analysts at Standard & Poor's Equity Research Services globally have recommended 29.3% of issuers with buy recommendations, 57.7% with hold recommendations and 13.0% 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, and the share price is not anticipated to show a gain.
1-STARS (Strong Sell): Total return is expected to underperform the total return of a relevant benchmark by a wide margin over the coming 12 months, with shares falling in price on an absolute basis.
Relevant benchmarks: in the U.S. the relevant benchmark is the S&P 500 Index, in Europe the S&P Europe 350 Index and in Asia the S&P Asia 50 Index.
For All Regions:
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Stovall is chief investment strategist for Standard & Poor's