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Long-Term Investors See Opportunity

BusinessWeek's Gene Marcial talks to long-term players about the market pullback—and finds out what they've been buying

First of all, don't panic. The sky isn't about to collapse. For some perspective, let's get something straight: Markets go up and markets go down. This past week was bad, with the Dow Jones industrial average, the Standard & Poor's 500-stock index, and the Nasdaq index each tumbling more than 3%. But remember the week before, when the Dow for the first time crossed 14,000? The market then looked just dandy. This is what markets do, subprime mortgage woes or no. For the year, all the major market indexes are still up, so it isn't time to run for the hills.

Of course, lots of investors—both individual and institutional—are worried, especially those that do a lot of short-term trading. But dedicated long-term investors aren't alarmed at all. Their reaction: They bought more shares—mostly stocks they already have in their portfolios—during the pullback July 26 and 27. Some long-term investors have accelerated their buying of foreign stocks as well, in particular Asian stocks.

"We aren't unduly concerned about what's happening because we are long-term investors, and we invest in individual stocks with strong fundamentals, not the markets," Rodney Hathaway, vice-president and portfolio manager at Heartland Advisors, which manages $3.4 billion, said July 27. What's rocking the market is the distress in financial companies that have accumulated high levels of debt, he notes. But "our investment outlook is based on what's happening globally, and there we see strong growth and robust economies," he says. "We are optimistic overall, and so we bought stocks today and yesterday, mostly of stocks we know well."

Little Earnings Anxiety

The fund Hathaway directly manages at Heartland had 8% of its assets in cash. "We put a lot of it to work yesterday and today in stocks," he said. He expects to continue buying more stocks if the market continues to sink. Selling is not on his agenda now.

One of the stocks he purchased July 27 was LSI Industries (LYTS), a maker of lighting fixtures, whose stock has tumbled from more than $18 a share to $16.41. He thinks the stock is easily worth at least $21 this year. It pays a dividend yield of 3%. Another stock he bought July 27 was Olin (OLN), which produces chlorine and caustic soda, copper and copper alloy sheets, and stainless steel strip. It closed July 27 at $20.42, down from $22 a week ago. Olin also pays a nearly 4% dividend yield. Another stock he bought July 27 was Diamond Foods (DMND), a maker of branded food and snacks, which closed at $16.42. He had bought shares in June when they were at $18. Sales of its Emerald snack nuts have been solid, he says, and there was no fundamental reason for the stock to fall.

Part of what fueled the market's meltdown was concern that corporate earnings may not come in as strongly as many expect. That worry was sparked by the disappointing earnings that Caterpillar (CAT) reported for its recent quarter. "People were so sure that corporate profits would produce terrific news, but the Caterpillar numbers signaled otherwise," says Donald Gimbel, senior managing director at Carret Investment Counselors, which manages nearly $2 billion. But "we think the U.S. economy is in a sweet spot right now and the global outlook looks robust." The stock market's previous advance, says Gimbel, was based mostly on anticipated rosy corporate earnings, and partly driven by liquidity in the global markets that in turn fueled the mergers-and-acquisitions boom spearheaded by private equity groups. Earnings could still come up strongly but the Caterpillar disappointment was enough to fire up the bears, he argues.

Attractive Buys

Gimbel has not been a seller during the decline, but he has been buying. He has, however, concentrated most of his buying in the Asian market. Some of his attractive buys were in the Singapore Stock Exchange, which also got hit in recent days. His focus was on companies in Singapore whose main business operations are in China. One of the stocks Gimbel bought was Raffles Education, which owns a chain of schools in China and trades in Singapore under the symbol RLSE. It has dropped some 20%—to US$1.38—so he scooped up shares. Another stock that also got hit—which Gimbel took advantage of—was Midas Holdings, which trades in Singapore with the ticker symbol MIDA. It produces coated pipes used by energy companies and highway builders in China. The stock has also fallen by 20%, and closed July 27 at Singapore SG$1.45 a share. Gimbel says both stocks could easily double in 12 months. Gimbel says his next focus will be in the U.S.—if the market continues to slide.

William Harnisch, president of Peconic Partners, which manages assets for institutions, including several hedge funds, is an active, hands-on investor who does a lot of trading for his clients' portfolios. "The market is adjusting to a new risk environment (brought about by the housing slump and mortgage problems), and investors like us are reappraising our exposure to the market," he said. He had been so worried since April about the market that he had slashed his exposure to stocks, from 65% to zero—even before last week's massive decline. But since July 26, he started to buy back some of the very shares he had sold, bringing up his market exposure to 20%. He says he will continue to buy July 30 if the market continues to go down for no reason at all. But if oil prices continue to edge higher, he may not.

"I don't want to give the impression that I have turned bullish," says Harnisch. Certain situations continue to bother him, including the bond market slump and the dollar's deterioration, he says. He frets about Japan and the yen's value against the dollar because of the carry-trade factor. A lot of banks have borrowed money from Japanese banks that they invest elsewhere. If the dollar continues to fall, the carry-trade business will unwind and reverse itself, he warns, and could cause dire consequences for the U.S. economy. But Harnisch isn't averse to taking advantage of the market's meltdown. Among the shares he had sold previous to last week's decline were Foster Wheeler (FWLT), Monsanto (MON), and CF Industries Holdings (CF). He bought back the stocks after the pullback. He had sold Foster, an engineering and construction company, at $120 a share. It fell July 27 to $109.79. Harnisch scooped up shares. Monsanto was trading at $70 when he sold his holdings. When the stock dropped to below 64 on July 27, he bought shares. CF Industries, which Harnisch sold at $67, tumbled to $53.71 on July 27. He bought that as well.

Tech Opportunities

What other stocks has he been buying as prices fell? The list includes the top stocks in technology: Google (GOOG), which fell July 27 to $511.89 from $558 on July 16; Cisco Systems (CSCO), which closed at $28.97, down from $30.39 on July 23; and Oracle (ORCL), down from $20.98 on July 24 to $19.62 on July 27. Two other stocks Harnisch is bullish on are Mosaic (MOS), a fertilizer producer, and Fluor (FLR), the giant engineering and construction company. Mosaic closed July 27 at $34.61 from $41.86 two weeks ago, and Fluor fell to $113.26 from nearly $123 last week. Harnisch bought more shares of both.

The key to coping and winning from market crashes is to know which stocks you want to buy when crashes happen. In both down and up markets, there is money to be made. Just remember not to panic.

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