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David Dreman: It's the eve of a large-cap rebound

October 04, 2006 | About:

Since the end of 2002 the small- and midcap indexes have been the place to be. From Dec. 31, 2002 to the middle of this September, the Russell 2000 small-cap index is up an annualized 20.4% and the Russell midcap index is ahead 21%, which handily bests the 13.5%-a-year performance of the S&P 500 (all sizable stocks) and the 14.3% on the Russell 1000 large-cap index.

Is the fact that small companies have been hot a reason to buy them now? No, just the reverse. You should sell shares of small and medium-size companies. Put the proceeds into the shares of big companies.

Investors should follow up by buying strong large-cap stocks with good earnings outlooks and growing yields. They are cheap. Particularly cheap are the energy producers. It stands to reason that earnings comparisons will start looking unfavorable, what with oil off from its $77 high to a recent $60. But even allowing for that, oil companies are too cheap.

ConocoPhillips (nyse: COP - news - people ) (58, COP ), the nation's third-largest oil company, has dropped 19% since its April high, although earnings for this year should be up 11% from 2005. Moreover, the debt from its $36 billion takeover of Burlington Resources (completed in March) already has been reduced substantially by the acquirer's enormous cash flow. Debt is now down to 23% of its capital structure. ConocoPhillips goes for 5.4 times trailing earnings (and 5.2 times next year's forecast). It yields 2.5%.

Devon Energy (nyse: DVN - news - people ) ( 62, DVN) is an explorer. Along with Chevron (nyse: CVX - news - people ) it has just hit an elephantine oil pool in the Gulf of Mexico. It will be years before this discovery flows to the bottom line, but that's a payoff worth waiting for. May your grandchildren get rich on the dividends. The stock trades at eight times trailing earnings and yields 0.7%.

Valero (nyse: VLO - news - people ) ( 49, VLO) is the nation's largest oil refiner not attached to a petroleum producer. Refinery margins are down as oil prices have dropped, but given the strong demand for gasoline over time, the softened prices are likely to be very temporary.

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Seterk - 11 years ago    Report SPAM
Whats your view on international exposure right now? Specifically, EAFE fund?
Gurufocus premium member - 11 years ago
Charles de Vaulx: ".. we are aware that both US and continental European markets strike us as pretty expensive, as a result, which makes us cautious in terms of adding new portfolios or adding to existing positions..."

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