I expect 2009 to be another tough year for equities. That being said, the current bear market rally is likely to take markets up another 20% from here during the first half of the year, before stalling in the summer months and retesting the November lows later in the year. There is a good chance that these lows will not hold and new sustained deeper lows will be plumbed later in the year, as official unemployment shoots up above 8%, consumers tighten their belts further and credit card defaults accelerate to unprecedented levels across all consumer strata.
Banks’ risk control models will blow up and fly out of the window once again, incapable of dealing with extreme circumstances. The US Government will again attempt to step in order to prevent the evaporation of mass amounts of capital. With the Fed’s interest rate control mechanisms out of commission, the government will work to directly inject more $ into the system ala TARP and by funding infrastructure public works projects.
But where will all this money come from? It is highly unlikely that the US government will be able to sell more bonds at insanely low interest rates. Who will buy them? The Chinese and the Japanese, who have been these bonds’ primary buyers, have plenty of problems of their own these days. In their attempts to prop up their economies they will transform from net buyers of US Government bonds to sellers. By drastically increasing the supply of such bonds on the market, they will significantly drive down bond prices and thereby increase market yields. This will effectively pop the bubble in government bonds.
Any new US Government bonds that could be auctioned under such circumstances, would be forced to pay much higher rates of interest, which would make such new issues too expensive and thus impractical. So, what’s the alternative? Of course, the answer, which has already been suggested by the Fed is in “quantitative easing.”
At this point, expansion in the supply of $US through printing appears unavoidable. Even if “helicopter Ben” resigns his post as the Chairman of the Board of Governors prior to the expiration of his term in 2010 and is replaced by the biggest fiscal conservative Democrats can phantom, the central bank will still print new money. This is inflationary and will also cause the value of $US to fall precipitously.
This will all happen in 2009. Of course, this is a dreadful almost worst case scenario, but, unfortunately, it is also the most likely one. I believe that it is much easier to avoid a personal financial disaster by conservatively preparing and bracing for the worst. Thus, in looking at the Fortune Magazine’s list of top 10 selections for 2009, I kept in mind the recessionary economic backdrop I just described.
Now, here are my mini visions for the Fortune Magazine’s top 10 stock picks for 2009:
Altria (MO, Financial) – This stock is definitely a defensive recessionary play. When things get really tough, people ever more turn to their vices for satisfaction. And what better way to do that than by smoking a cigarette? At under $5 a pack – this is definitely an affordable luxury many will turn to. But is Altria, the largest US cigarette maker, a good investment for 2009? I have serious doubts. In analyzing this company, please consider that it is not the same company it was less than 2 years ago, before it spun off its food divisions in the form of Kraft, followed by the spin off of its international tobacco products division.
Now Altria is essentially a US only tobacco products company. It is also in the process of acquiring a richly valued US smokeless tobacco products plus wine company for cash – cash that Altria is borrowing at considerable cost! Yes, the current 8+% yield is attractive and yes, the “Altria Earnings Protection Act,” which is likely to pass will make barriers to entry exceedingly high for new players, but Altria’s business is inherently a shrinking one, and for the foreseeable future, the company will continue to be mired in legal action related to the various cancers its products may cause. I say don’t be fooled by the incomparable comps with prior years and avoid Altria (and its products) this year.
Annaly (NLY, Financial) – This is a rerun from last year's recommendation. Now that the federal government made the choice to stand behind Fannie and Freddie's mortgage guarantees, this stock is much safer than it was this time last year. It is also trading marginally lower and is paying a great dividend. At current price level (over 50% above the 52 week low) I see it as fairly valued. I don’t expect it to appreciate considerably over the coming year, but it should do better than the overall market from here.
Dell (DELL, Financial) – Now is a good entry point into Dell. The computer maker is certain to appreciate with the market over the next two months. However, I would not hold on to this stock for too long. Dell is in a very competitive commodity business on the low end. At the high end, Dell depends on corporate spending. Both sides of the business will be pressured through at least 2009, resulting in lower ship volumes and diminished profitability.
Devon Energy (DVN, Financial) – This US and Canada oil and gas exploration and production company’s fortunes are tied to prices of oil and gas. As I expect energy prices to recover from their December 2008 lows, I expect companies like Devon, EnCana and Anadarko to appreciate alongside commodities. However, some of this expectation is already built into the current prices of these stocks and this should moderate your expectations for appreciation. I would rush to lock in a 20% gain from current levels.
Diamond Offshore (DO, Financial) – This energy play - a driller is perhaps one of the more interesting stocks on the Fortune’s list. Once energy prices rebound strongly, DO will benefit more than its land based driller competitors. It makes sense to jump on this stock now, while it is trading at a very reasonable level. If you are looking for investment ideas in drillers, you should also not ignore Transocean Ltd (RIG), a Diamond Offshore competitor that may offer an even better appreciation potential from current levels.
Fluor (FLR, Financial) – I see this engineering and construction company as fairly valued at this point. Its strength in 2009 will come from gains in the public sector construction promised by the incoming administration. This strength has already been recognized by the market. Unexpected weakness is likely to come from waning demand from Oil and Gas customers, as they scale back development projects to maintain profitability. These customers have recently accounted for over 50% of all revenues and profits. If you are looking to invest in companies that may benefit from public works construction projects, you may want to look at some of the badly hurt raw materials suppliers like Cemex (CX) or Headwaters (HW), instead.
Johnson & Johnson (JNJ, Financial) – This is one of my perennial favorites. It is, perhaps, the most consistent long term performing publicly traded stock. Current dividend yield of 3% is attractive. The company significantly participates in the pharmaceutical, medical device and consumer products industries. Many of the products offered by JNJ are virtually recession proof. JNJ has lots of cash and the stock is currently fairly priced, trading at a p/E of under 14 - the very bottom of its long term P/E range. Don’t expect to make a killing on this stock, but do expect price stability and a decent dividend – a winning combination in the current market.
Medco Health Solutions (MHS, Financial) – This 2003 pharmacy benefit manager spinoff from Merck has done quite well for itself and its investors over the past 5 years. Pharmacy benefits managers like Medco basically make their money by negotiating discounts with drug makers for customers. Despite the success of the recent years, there are many problems with their middleman business model, including potential conflicts of interest resulting in breaches of fiduciary duty lawsuits, large clients’ desire to eliminate middleman and most threateningly to earnings, Government’s propensity to regulate businesses that fall within current public policy interests. Medco shares are now trading at a very rich multiple, which discounts the potential problems, which are capable of halving this stock’s valuation.
Pfizer (PFE, Financial) – I like this pharmaceutical play – one of the better values among the big pharma. While the upside is relatively limited over the next year, so is the downside. In the meantime, the 7% dividend is reasonably safe and very attractive. Nice pipeline of new drugs should help maintain profits going forward. Licensed generics route may give a new life and revenue source to the expiring blockbusters.
Potash Corp. of Saskatchewan (POT, Financial) – In general, I like POT, no not the smoking kind – never tried that one, but POT, the Canadian company that produces potassium, phosphate and nitrogen based fertilizers. Of course, the company's crown jewels are the potash mines. It would be nearly impossible to supply the level of current world demand for potash without the mines in Saskatchewan and it would be impossible to grow crops without making potash available to them.
But how profitable are the Potash corporation’s businesses? Turns out that during Q3 of 2008, while the company enjoyed skyrocketing commodity prices, they were very profitable. However, as commodity prices quickly plunged, so should have POT’s profits – returning to their historic norm. I expect many commodities to rebound, some as much as 50% from their Q4 2008 lows in 2009, but that will still leave prices a far cry from last year’s peak. In the meantime, POT stock has already recovered more than 50% from its bottom, which leads me to believe that any further appreciation in this stock’s value will be short lived.
So, there you have it - my current view of the year ahead. You can certainly hope that history proves me wrong, but can you afford for me to be proven right?!
Jake Berzon
www.stockvalues.org
Banks’ risk control models will blow up and fly out of the window once again, incapable of dealing with extreme circumstances. The US Government will again attempt to step in order to prevent the evaporation of mass amounts of capital. With the Fed’s interest rate control mechanisms out of commission, the government will work to directly inject more $ into the system ala TARP and by funding infrastructure public works projects.
But where will all this money come from? It is highly unlikely that the US government will be able to sell more bonds at insanely low interest rates. Who will buy them? The Chinese and the Japanese, who have been these bonds’ primary buyers, have plenty of problems of their own these days. In their attempts to prop up their economies they will transform from net buyers of US Government bonds to sellers. By drastically increasing the supply of such bonds on the market, they will significantly drive down bond prices and thereby increase market yields. This will effectively pop the bubble in government bonds.
Any new US Government bonds that could be auctioned under such circumstances, would be forced to pay much higher rates of interest, which would make such new issues too expensive and thus impractical. So, what’s the alternative? Of course, the answer, which has already been suggested by the Fed is in “quantitative easing.”
At this point, expansion in the supply of $US through printing appears unavoidable. Even if “helicopter Ben” resigns his post as the Chairman of the Board of Governors prior to the expiration of his term in 2010 and is replaced by the biggest fiscal conservative Democrats can phantom, the central bank will still print new money. This is inflationary and will also cause the value of $US to fall precipitously.
This will all happen in 2009. Of course, this is a dreadful almost worst case scenario, but, unfortunately, it is also the most likely one. I believe that it is much easier to avoid a personal financial disaster by conservatively preparing and bracing for the worst. Thus, in looking at the Fortune Magazine’s list of top 10 selections for 2009, I kept in mind the recessionary economic backdrop I just described.
Now, here are my mini visions for the Fortune Magazine’s top 10 stock picks for 2009:
Altria (MO, Financial) – This stock is definitely a defensive recessionary play. When things get really tough, people ever more turn to their vices for satisfaction. And what better way to do that than by smoking a cigarette? At under $5 a pack – this is definitely an affordable luxury many will turn to. But is Altria, the largest US cigarette maker, a good investment for 2009? I have serious doubts. In analyzing this company, please consider that it is not the same company it was less than 2 years ago, before it spun off its food divisions in the form of Kraft, followed by the spin off of its international tobacco products division.
Now Altria is essentially a US only tobacco products company. It is also in the process of acquiring a richly valued US smokeless tobacco products plus wine company for cash – cash that Altria is borrowing at considerable cost! Yes, the current 8+% yield is attractive and yes, the “Altria Earnings Protection Act,” which is likely to pass will make barriers to entry exceedingly high for new players, but Altria’s business is inherently a shrinking one, and for the foreseeable future, the company will continue to be mired in legal action related to the various cancers its products may cause. I say don’t be fooled by the incomparable comps with prior years and avoid Altria (and its products) this year.
Annaly (NLY, Financial) – This is a rerun from last year's recommendation. Now that the federal government made the choice to stand behind Fannie and Freddie's mortgage guarantees, this stock is much safer than it was this time last year. It is also trading marginally lower and is paying a great dividend. At current price level (over 50% above the 52 week low) I see it as fairly valued. I don’t expect it to appreciate considerably over the coming year, but it should do better than the overall market from here.
Dell (DELL, Financial) – Now is a good entry point into Dell. The computer maker is certain to appreciate with the market over the next two months. However, I would not hold on to this stock for too long. Dell is in a very competitive commodity business on the low end. At the high end, Dell depends on corporate spending. Both sides of the business will be pressured through at least 2009, resulting in lower ship volumes and diminished profitability.
Devon Energy (DVN, Financial) – This US and Canada oil and gas exploration and production company’s fortunes are tied to prices of oil and gas. As I expect energy prices to recover from their December 2008 lows, I expect companies like Devon, EnCana and Anadarko to appreciate alongside commodities. However, some of this expectation is already built into the current prices of these stocks and this should moderate your expectations for appreciation. I would rush to lock in a 20% gain from current levels.
Diamond Offshore (DO, Financial) – This energy play - a driller is perhaps one of the more interesting stocks on the Fortune’s list. Once energy prices rebound strongly, DO will benefit more than its land based driller competitors. It makes sense to jump on this stock now, while it is trading at a very reasonable level. If you are looking for investment ideas in drillers, you should also not ignore Transocean Ltd (RIG), a Diamond Offshore competitor that may offer an even better appreciation potential from current levels.
Fluor (FLR, Financial) – I see this engineering and construction company as fairly valued at this point. Its strength in 2009 will come from gains in the public sector construction promised by the incoming administration. This strength has already been recognized by the market. Unexpected weakness is likely to come from waning demand from Oil and Gas customers, as they scale back development projects to maintain profitability. These customers have recently accounted for over 50% of all revenues and profits. If you are looking to invest in companies that may benefit from public works construction projects, you may want to look at some of the badly hurt raw materials suppliers like Cemex (CX) or Headwaters (HW), instead.
Johnson & Johnson (JNJ, Financial) – This is one of my perennial favorites. It is, perhaps, the most consistent long term performing publicly traded stock. Current dividend yield of 3% is attractive. The company significantly participates in the pharmaceutical, medical device and consumer products industries. Many of the products offered by JNJ are virtually recession proof. JNJ has lots of cash and the stock is currently fairly priced, trading at a p/E of under 14 - the very bottom of its long term P/E range. Don’t expect to make a killing on this stock, but do expect price stability and a decent dividend – a winning combination in the current market.
Medco Health Solutions (MHS, Financial) – This 2003 pharmacy benefit manager spinoff from Merck has done quite well for itself and its investors over the past 5 years. Pharmacy benefits managers like Medco basically make their money by negotiating discounts with drug makers for customers. Despite the success of the recent years, there are many problems with their middleman business model, including potential conflicts of interest resulting in breaches of fiduciary duty lawsuits, large clients’ desire to eliminate middleman and most threateningly to earnings, Government’s propensity to regulate businesses that fall within current public policy interests. Medco shares are now trading at a very rich multiple, which discounts the potential problems, which are capable of halving this stock’s valuation.
Pfizer (PFE, Financial) – I like this pharmaceutical play – one of the better values among the big pharma. While the upside is relatively limited over the next year, so is the downside. In the meantime, the 7% dividend is reasonably safe and very attractive. Nice pipeline of new drugs should help maintain profits going forward. Licensed generics route may give a new life and revenue source to the expiring blockbusters.
Potash Corp. of Saskatchewan (POT, Financial) – In general, I like POT, no not the smoking kind – never tried that one, but POT, the Canadian company that produces potassium, phosphate and nitrogen based fertilizers. Of course, the company's crown jewels are the potash mines. It would be nearly impossible to supply the level of current world demand for potash without the mines in Saskatchewan and it would be impossible to grow crops without making potash available to them.
But how profitable are the Potash corporation’s businesses? Turns out that during Q3 of 2008, while the company enjoyed skyrocketing commodity prices, they were very profitable. However, as commodity prices quickly plunged, so should have POT’s profits – returning to their historic norm. I expect many commodities to rebound, some as much as 50% from their Q4 2008 lows in 2009, but that will still leave prices a far cry from last year’s peak. In the meantime, POT stock has already recovered more than 50% from its bottom, which leads me to believe that any further appreciation in this stock’s value will be short lived.
So, there you have it - my current view of the year ahead. You can certainly hope that history proves me wrong, but can you afford for me to be proven right?!
Jake Berzon
www.stockvalues.org
