Now, inflation and the after-effect of all the printed dollars and government stimulus dollars are still heavy concerns to be dealt in the future. In the opening quote, Pimco's CEO is referring to these issues, among others, as "structural headwinds."
Although there are still many mixed signals coming out of the ongoing slew of economic data, the bias is toward steady improvement. This positive bias is also prevalent among the comments from company executives as well as from the data from the almighty consumer.
So while real risks to a sustainable economic recovery exist, I believe the "cyclical tailwinds" are strong enough to make good money investing in U.S. stocks. In my opinion, for 2010, certain U.S. stocks still are a pretty solid, safe and appealing place to be invested.
Seeking Stronger Returns in a Strong Market
As we happily know, the market is up sharply (+51%) over the past year and off the market's March 2009 bottom. So you might be asking how attractive U.S. stocks still are after such strong gains. Is there that much more upside?
Yes, in a few
Taipan Daily writings, I have talked about how the broader market is close to being fully valued. But that was the overall market. Within that big market of more than 500 companies, there are surely attractively priced (e.g. cheap) stocks that have 25-75% upside over the next 12 months.
The Competitive Advantage in Making Things
The capital goods and industrial sectors have been impressive performers relative to the market. And historically, investing in these stocks when the economy looks the bleakest typically produces significant gains. That happened last year as the recession hit trough.
A large number of industrial stocks have been up anywhere from 100% to 1,500% (e.g. TRW Automotive Holdings) in the past 12 months including names like Caterpillar, Terex, Nacco Industries, Flow Industrials, Ford Motor and Manitowoc, to name a few.
Despite the run-up, many industrial-related stocks still have more legs to run with. The next upside gains probably won't be as much as this past year's move, but still impressive. Why? Let's analyze two angles.
First let's take a simple look at the macro picture... and where industrial production and capacity utilization levels are relative to history and past recessions. Regarding the Industrial Production Index, the most recent data finally showed
positive year-over-year growth. The index had been getting "less worse," but if we are to have positive economic growth, then the Industrial Production Index will show year-over-year growth for many years, as it has done historically.
The Capacity Utilization Index, currently at 72.5, is also way below its historic average of 81... so there is a lot
more room for manufacturers to increase their production levels, something companies have been hesitant to do.
OK, now let's look at the valuation of some of these stocks...
I did a
screen of capital goods stocks that had the met the following criteria: Yield greater than 2.0%, price/sales ratio of less than 2.0 and price/earnings growth (PEG) rate of less than 1.5 times. The PEG rate is the ratio of the forward price/earnings multiple to the estimated future earnings growth rate of the company. The lower the ratio, the cheaper the stock. Lastly, for liquidity purposes, the market capitalization had to be over $750 million.
A lot of these companies have not had the super price moves like the market and some of their industrial peers. There are also high-quality names like Dover, Illinois Tool Works, Lincoln Electric, Briggs & Stratton and Eaton Corp. (which happens to be in the
Safe Haven Investor portfolio). I'm actually surprised by some of the names on this list that are still cheap compared to the market.
For reference, the price/sales ratio and PEG ratio of the S&P is 3.1 and 2.1 respectively, far above the levels of these stocks. And of course, as one who pays attention to yield, all of these stocks pay above-average dividends.
Lastly, not all of these companies are the highest-quality companies and meet my "significant six" criteria I like to look at. But many times with investing in stocks and sectors, a rising tide (in this case further economic recovery) lifts all ships. I will be closely looking at these stocks for new ideas, so stay tuned. And in the meantime, I hope you'll take a closer look as well.
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Serving as the editor of Taipan’s Safe Haven Investor, and contributing editor to the free e-letter, Taipan Daily, Kent Lucas has over 20 years of financial and business experience centered around seven years as a research analyst and portfolio manager for a leading investment management firm. In that capacity, he actively managed $1 billion worth of equity assets, with particular attention to multi-industrial companies along with auto, construction and farm equipment-related companies.
In addition to his professional asset management experience, Kent also has worked in leading financial institutions’ divisions including Tax-exempt Derivatives, Corporate Trust and Equities Sales and Trading. With a BA in Economics from Harvard University and MBA from Stanford University, Kent brings a fundamentally driven, value-oriented approach going against the crowd to find solid companies at attractive prices.
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