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Energyproofing Your Portfolio

By Isabelle Sender Standard & Poor's MarketScope

Higher fuel costs, brought on by weeks of nearly frozen domestic fossil-fuel supplies coupled with swelling demand from emerging economies such as India and China, have been increasing the threat that oil and gas prices will siphon strength from companies' bottom lines. A growing number of outfits -- and their price-sensitive customers -- are being forced to lay out more of their income on relatively expensive fuel and other petroleum-related products.

How can investors insulate their portfolios from the chilling effect of near-record energy prices? Some sectors and industries are intrinsically shielded from higher fuel prices. For the most part, these are service-oriented businesses, not manufacturing companies.

For instance, S&P recommends the purchase of shares of some select companies in the information-technology sector, whose costs and pricing are generally immune from energy-price increases. S&P has assigned an overweight ranking to the sector, which makes up about 15% of the S&P 1500.

BRIDGING DISTANCES. One IT selection is Internet services and software company WebEx Communications (WEBX; recent price, $25). According to S&P equity analyst Mark Basham, who ranks the stock 5 STARS (strong buy), WebEx's largest commodity exposure is in communication costs, for which prices are heading lower. In addition to being fundamentally insulated from fuel-price hikes, the software and services concern provides communications for business meetings, enabling participants to interact over long distances without having to travel. It thereby provides an alternative to companies that may face rising fuel costs for traveling employees.

Another energy-safe haven investment idea appears to be the IT-consulting and -services industry. S&P equity analyst Stephanie Crane says this group benefits from the constant need on the part of corporations and government entities to use services and systems that can enable them to boost productivity and help cut costs -- needs that extend beyond domestic borders. Richard Stice, senior associate director and assistant group head for technology-equity coverage at S&P, also notes that the IT-consulting subindustry is benefiting from increasing demand in Europe.

Crane concurs because, in her view, the industry should continue to benefit from the effects of an increasingly global economy, deregulation, an IT-labor shortage, and e-business opportunities. "We see capital expenditures accelerating in an improving economic environment, with demand for solutions increasing," she says.

DEFENSE AND SECURITY. A good example is Accenture (ACN; $26), ranked 4 STARS (buy), which continues to benefit from operating leverage and embedded efficiencies. "The number of small to medium-sized contracts in [Accenture's] pipeline has increased, all exhibiting shorter lead times," Crane says.

A number of major long-term growth trends also bode well for 4 STARS-ranked CACI International (CAI; $59), Crane says, noting increased spending on national defense, intelligence, and homeland security; ongoing modernization of federal information-technology systems; and growing government reliance on outsourcing. (See BW Online, 10/11/05, "Defense Players Look Set to Score")

As demand for IT-outsourcing accelerates, revenues for Cognizant Tech Solutions (CTSH; $44), Satyam Computer Services (SAY; $30), SRA International (SRX; $34), and Wipro (WIT; $10) are also expected to grow by double digits. (Each of those stocks is ranked 4 STARS.) The company with the highest revenue-growth expectations in her view remains Wipro, for which Crane has a 35% revenue growth estimate for fiscal 2006 (ending March).

RUNNING TIGHT SHIPS. Another industry generally immune to high energy prices is human-resource and employment services, for which S&P currently has a positive fundamental outlook. S&P's Director of Industrial/Materials Equity Research, Mike Jaffe, believes growth in the domestic labor market will be extended, based on his belief that the initial upturn has been solid but not dramatic.

He also thinks many of the companies in his coverage universe are enjoying strong prospects as corporate America starts paying more attention to corporate-governance issues. Jaffe has been particularly positive on employment-services companies focusing on accounting and finance, as the corporate scandals of recent years have brought a heightened focus on internal accounting controls.

His top recommendation in this business segment is 5 STARS-ranked Robert Half (RHI; $35), which is the world's largest specialized provider of temporary and permanent personnel in the fields of accounting and finance.

POSITIVE TECHNICALS. Also strong is one of the world's largest executive-search and recruitment concerns, 4 STARS-ranked Korn/Ferry (KFY; $15), in Jaffe's opinion. He expects revenue growth of 13% in fiscal 2006 (ending April) as the company continues to increase its market share, in his opinion. "I view the human-resources and employment-services industry as a safe haven from energy-price risk in many regards," says Jaffe. He notes that in addition to not being large users of energy products themselves, these companies should continue to see strong demand for their services, based on S&P's forecast of ongoing economic gains.

"The only way I could see this industry being hurt by the impact of high energy prices is if [they] bring a big slowdown" for the U.S. economy," Jaffe says. Given S&P's belief that the labor market has an extended period of growth in front of it, Jaffe think shares of companies in the subindustry will outperform the S&P 1500-stock index over the next 12 months.

Further, S&P technical analysis for the employment-services subindustry support Jaffe's fundamental analysis. The charts of chief technical strategist Mark Arbeter show the S&P Employment Services index in a "nice up channel." Arbeter characterizes the industry, which has outperformed the S&P 500-stock index, as one of "few good-looking groups despite the price action having been a little extended." Despite a possible price pullback, longer term, it's one of the better acting subindustries, he believes, even as higher energy prices threaten to chill the price gains of other industries.

Sender is a reporter for S&P Global Editorial Operations

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