Finding stocks that go up in a bear market is never easy. Last year, it was a nightmare. The tech wipeout dragged the U.S. into recession. Then came the September 11 attacks and the unfolding Enron Corp. scandal. Nonetheless, Gene G. Marcial, who writes BusinessWeek's Inside Wall Street column, managed to uncover an array of stocks that produced positive returns--in contrast to most major indexes, which plunged in 2001. The Nasdaq Composite index was down 20.8%, the Standard & Poor's 500-stock index fell 11.9%, and the Dow Jones industrial average was off 5.9%. And they kept dropping in 2002.
The gainers weren't just one-day wonders that rose as readers bought on the column's advice. (They first appear on BusinessWeek's Web site after Thursday's market close.) Share prices of 116 companies--70% of the 166 that Inside Wall Street featured in 2001--rose the day after they were mentioned. And six months later, 86, or more than half, were ahead--some spectacularly so.
The stocks mentioned in Inside Wall Street are no substitute for a diversified, buy-and-hold portfolio. They're mostly short- to mid-term buying opportunities. Marcial, who has covered the market since 1981, ferrets out the buzz on companies that could signal an upturn for their stock--a merger, an improving balance sheet, or new products.
The column covered a wide range of companies, from IBM to little-known up-and-comers. His biggest winners over six months were volatile small stocks: All seven that rose 100% or more had market caps of less than $1 billion. As did the losers: Of the 11 that sank 50% or more, nine were small outfits.
The best performer was tiny Singing Machine Co. in Coconut Creek, Fla., which makes karaoke machines for home use. Shares jumped 284.4%, from $4.01, in the six months after Marcial mentioned the company in the Oct. 8 issue. An unnamed New York money manager who was buying said Singing Machine should gain because families would seek fun at home after September 11. In the nine months ending Dec. 31, 2001, the company's net income rose 144% year-on-year, to $8.27 million, and revenues rose 80%, to $55.4 million.
To gauge the column's performance, BusinessWeek tracks the stocks for six months after they're featured. That's why we wait until now to publish last year's results. We look at one-day, one-month, three-month, and six-month returns for each stock as well as the average and median performance for those periods. Then we compare them with the major market benchmarks.
For every period, the column beat the indexes (table). The first trading day after they were mentioned, the stocks gained an average of 3.1%. By contrast, the major indexes fell on average on a one-day basis. Yet, so powerful is this bear market that the column's average one-day gain was the lowest in the five years we've measured performance. Between 1997 and 2000, average first-day gains ranged from 4.7% to 8.8%.
The stocks rose a bit more over time. On average, they were up 4.2% after one month, 6.1% after three months, and 6.4% after six months. In contrast, the Wilshire 5000 index was down 5.1% on average over six months. Inside Wall Street even beat the average 1.2% gain for the Russell 2000 index of small-cap stocks over six months.
Averages are only one measure. The column produced some huge winners, along with some amazing losers, which skewed the averages. To factor out the distortion, we looked at the median--the point where half the returns were higher and half were lower. By that measure, the one-month return, 5.4%, stood out. After that, returns trailed off. The three-month median return was 2.5%. After six months, it had slipped to 0.8%.
The inside dope on takeovers is one of the column's specialties. But last year, as merger activity dried up, there were fewer bets to make on corporate nuptials: 20%, or 33, of the companies were pegged as merger prospects in 2001. Seven of those, 21%, tied the knot, including Conoco, Dreyer's Grand Ice Cream, Pennzoil-Quaker State, HotJobs. In contrast, 30% were picked on takeover talk in 2000--though the percentage that did the deed was basically the same, 20%.
One of this year's takeovers, Vysis, which develops DNA-based tests for cancer, wasn't on Marcial's list when he recommended it at $7.94 in the Apr. 16 issue, but it proved a winner, rising to $20.47, a gain of 157.8% over six months. Ron Opel, a health-care analyst at Boston brokerage H.C. Wainwright & Co. and Carl L. Gordon, a partner at OrbiMed Advisors LLC, a health-care investment firm, predicted Vysis would get government approval for a test. Ultimately, Abbott Laboratories bought it in December for $30.50.
In a brutal market for pricey stocks, the column made a sweet contrarian call. Last April, Krispy Kreme Doughnuts Inc., which traded close to 52 times earnings, was a short-sellers' favorite. But Marcial called it a buy, citing growth projections from investment strategist Bernie Schaeffer and J.P. Morgan Chase & Co. analyst John Ivankoe. The stock doubled in six months.
The column had its share of off-base calls. One of its biggest misses was Cyprus used-car dealer ACLN Ltd, which was featured in the Oct. 22 issue. Marcial wrote about ACLN in May, 2000, and it rose 46% over six months. This time around, he quoted David Jordon of Axiom Capital Management and Gregory Burns of J.P. Morgan Securities Inc. as saying ACLN was undervalued. Then questions about its financials and other concerns emerged. The New York Stock Exchange delisted ACLN in April, 2002. Six months after it was featured, investors had lost 93.1% of their money.
Another flawed call was Penn Treaty American Corp. The insurer was flagged as a takeover candidate in the Mar. 26 issue. But the stock fell 82% three weeks after the column appeared. The reason? In an Apr. 2 Securities & Exchange Commission filing, Penn said that auditors questioned its survival. No deal occurred, and the shares haven't recovered.
Inside Wall Street's call on Excite@Home in the Jan. 29 issue was also unserendipitous. The Internet company's shares had fallen to $8.31 from a high of $95 in 1999 when Joan Lappin, president of Gramercy Capital Management, called the company a top pick. Its main shareholder, AT&T, had agreed to buy the 16% it didn't own for $2.9 billion, almost Excite's entire market value. By April, however, Excite was in trouble, and AT&T dropped its support. Excite filed for bankruptcy in September.
Timing is everything. Marcial's June 11 column singled out once-promising drug company ImClone Systems Inc. long before then-CEO Samuel D. Waksal was charged with illegal trading on nonpublic information about drug-approval problems. Six months after the column appeared, the stock hit $72--up 45% from its level on the day before publication. But two weeks later, on Dec. 28, Imclone revealed its regulatory woes. The shares plunged. They closed at $7.11 on July 31.
Still, past scandals can be next year's turnaround stories. That was the Mar. 12 column's call on Cendant Corp., whose 1998 accounting scandal foreshadowed today's earnings revelations. Cendant gained 46% over six months.
In a market that proved to have so many disasters-in-waiting, Marcial's on-the-money calls outweighed the misses. Can he keep it up? The market will be a minefield as more corporate scandals emerge and the urge to purge them gains strength. Stay tuned.
By Geoffrey Smith in Boston with Michael J. Mandel, Robert J. Rosenberg, and Sarah B. Davis in New York