Waiting with "Cautious Optimism"

S&P's David Braverman looks for a fairly positive end to the market year. He also lists some strong buys, including Gannett and Microsoft

Standard & Poor's still has reason to believe that the second half of 2003 will be better, and it thinks the S&P 500-stock index could close the year around 950 (vs. a close of 881 on Apr. 2). So reports David Braverman, senior investment officer of Standard & Poor's, who doesn't expect any clear upward trend in stocks until the war in Iraq is resolved and corporations have good news on earnings.

S&P is currently recommending that investors have 65% of their portfolios in stocks and concentrate on names in the consumer-discretionary and materials sectors, says Braverman. He adds that some of the stocks on which S&P rates a strong buy now are Clorox (CLX ), Wal-Mart (WMT ), Exxon Mobil (XOM ), Procter & Gamble (PG ), Gannett (GCI ), and Microsoft (MSFT ). While Braverman thinks it's possible the market could retest the lows of last summer, he adds that he would expect it to bounce back.

These were some of the points he made in an investing chat presented Apr. 1 by BusinessWeek Online and S&P on America Online. He was replying to questions from the audience and from BW Online's Jack Dierdorff. Edited excerpts follow. A complete transcript is available from BusinessWeek Online on AOL at keyword: BW Talk.

David Braverman has no affiliation with or ownership interest in any company under discussion today. S&P's other affiliates may provide services to the companies under discussion.

Q: David, the market made up a little of its lost ground today. Do you see hope for more gains, or are we hung up on war and economic news?


Well, we are hung up on the war and economic news, and it seems that each day's move upward is generally offset by a downward move. I don't think we're going to get into a clear upward trend until the war is resolved and we start getting positive earnings surprises.

Q: Your thoughts on Newmont Mining (NEM ), short and long?


We currently have an accumulate recommendation on the stock, with a time horizon for the next 6 months to 12 months.... Newmont is a reasonable play if you believe gold prices will rise. The company has managed to aggressively reduce its debt.

Q: Is it a good idea to sell ExxonMobil (XOM ) and Royal Dutch Petroleum (RD ) now if oil is heavily weighted in my portfolio?


Right now, we have a strong buy on ExxonMobil, and we are neutral on Royal Dutch. So if you were going to reduce your exposure to energy, I'd probably look to trim the RD position first.

Q: Your opinion of Pfizer (PFE )?


We like Pfizer at this point, and we rank the stock 5-STARS (buy). We see earnings this year at $1.80, and in 2004 growing to $2.07. We see better valuation after completion of the pending Pharmacia (PHA ) deal.

Q: David, what's your opinion of Hewlett-Packard (HPQ ) and Lucent (LU )?


We're neutral on Hewlett-Packard. The January quarter revenues were below expectations, due to continued weakness in U.S. commercial business. It's uncertain how quickly demand will pick up. We see good growth a year from now, but we would hold off aggressively buying here. We like Lucent even less. We're recommending investors avoid the shares, primarily because we still don't see them returning to profitability this year or next.

Q: Opinion on American Express (AXP ) in a year, please.


We would accumulate the shares, even though the current environment for travel is unsettled, to say the least. We see EPS this year of $2.23.

Q: Where do you see the S&P 500 at the end of 2003?


We are cautiously optimistic for the second half and look forward to an S&P 500 at 950 by Dec. 31 -- 91 points higher than today's close.

Q: What are your thoughts on General Electric (GE )?


We're currently neutral on General Electric. Our analyst sees current levels as a fair valuation and probably would not recommend the stock unless it sold at a significant discount to current levels.

Q: Would a fund tracking the S&P 500 make sense for the balance of this year?


It's a good way to gain diversified exposure to the market for those who prefer not to pick individual stocks. I would recommend someone doing this also have some exposure, in addition to the S&P 500, to the S&P MidCap 400 as well.

One way of doing this is with exchange-traded funds. You can buy a position in the S&P 500 using SPDRs. The ticker symbol for the S&P 500 is SPY, and the ticker symbol for the S&P MidCap 400 is MDY.

Q: This might be a good time to tell us how S&P would allocate assets (stocks vs. bonds vs. cash) and how the various sectors should be weighted in a stock portfolio.


Right now, we would recommend the typical investor be about 65% in stocks, 25% in medium-term bonds, and 10% in cash. The sectors we would currently concentrate on are consumer discretionary and materials.

Q: Is Gannett (GCI ) a safe stock?


We think so. We see good earnings growth in 2004, to $5.65 from $4.87 this year. We rank the stock a strong buy.

Q: Are there any stocks that you would sell?


There's a whole bunch. These include such names as AT&T Wireless (AWE ), Campbell Soup (CPB ), Delta Airlines (DAL ), Dow Jones (DJ ), Eastman Kodak (EK ), Hilton Hotels (HLT ), Northrop Grumman (NOC ), and Starbucks (SBUX ).

Q: Duke Energy (DUK ) continues to suffer -- your thoughts going forward?


We're neutral on Duke, in part because their trading arm could still see its credit rating decline to junk status, leading to some $400 million of potential new collateral requirements. However, the company has reiterated its commitment to the current dividend.

Q: Would you recommend dollar-cost averaging [investing a set amount monthly] due to low valuations?


That's not a bad idea at this point, given the volatility of the market. This way, you overweight some of your positions as the market weakens, and less of your holdings supposedly will be purchased at higher levels. It's a good long-term strategy in an uncertain market.

Q: Is this one you cover? What is your opinion on RPM International (RPM )?


We not only follow it, we even like it. The market for RPM's specialty paints and coatings continues to improve, and we see earnings growing from $1.03 in fiscal year 2003 (May) to $1.15 in fiscal '04.

Q: The FedEx (FDX ) price is inching closer to United Parcel Service (UPS ). How can you explain this? UPS seems to be a broader-based company. How does S&P rate FDX and UPS?


What's happening right now is that FedEx is seeing weak volume in its air-express delivery, but their ground and freight performance was exceptional. Apparently, FDX is taking business away from what had been UPS's strong point. We currently rank FDX as a strong buy, and we are neutral on UPS.

Q: A company hit by scandal here -- what do you think will happen with HealthSouth (HRC )? Will they come back?


If they do come back, it will probably take more time than we would be willing to wait. We had been recommending investors avoid HealthSouth, and following the NYSE's suspension of trading in the shares, we dropped coverage on the stock when it fell to about 11 cents. So we will not be offering an opinion.

Q: My investment officer thinks I should hold on to Bristol-Myers Squibb (BMY ) even though pharmaceuticals aren't cool. Comment, David?


Our view is that there are better opportunities than BMY in the pharmaceutical industry, including the previously mentioned Pfizer. As for BMY, not only has there been the problem with a restatement for past inventory channel stuffing practices, BMY still faces an SEC investigation, as well as the loss of $3 billion in sales from patent expirations and a weak product pipeline.

Q: Is it a good time to get back into SBC Communications (SBC ) now that the deal with Hughes is off?


The news helped the shares today, but longer-term, we find the stock unappealing at a high cash flow multiple. Plus, the quality of earnings is somewhat weaker than we would like because they include substantial gains from SBC's pension plan.

Q: Is there anything in telecom that looks appealing now?


Our favorite stock in telecom right now is Alltel (AT ). AT is facing less competitive pressure in both its wireless and wireline markets, offering upside potential in a weak operating market.

Q: Your thoughts on Sears (S )?


We are currently neutral on the company, and the more optimistic view says that they get a substantial sum for their credit-card unit. If they don't, Sears will be stuck with a fairly mediocre business.

Q: Do you think we're going to retest the lows?


The chance is always present that we retest the lows. The question is whether the test will be successful. So far, the lows set this past summer have held, and I expect that will continue. So it's possible that the S&P 500 gets down to the 790-800 level, but I would expect that it would quickly bounce back up if that occurred.

Q: Why should anyone invest in AOL Time Warner (AOL ) with all their accounting issues?


We're not currently recommending anybody add to positions at this point in time, but we would hold on to the shares if you already have them. There will be continued restructuring at AOL that may eventually add value. Later this year, it's likely that we will see an IPO of Time Warner Cable, and that should allow the company to focus more on its core businesses going forward.

Q: We're getting a few questions about companies that are probably too small to be included in S&P coverage. What are the criteria for a stock to be in your universe, David?


In general, we have a large-cap orientation. We follow all of the stocks in the S&P 500, excluding our corporate parent, The McGraw-Hill Companies (MHP ). We also follow about half of the stocks in the S&P MidCap 400 and the S&P SmallCap 600 Index. We also follow a selected number of small-cap stocks that are not in any index, for a total coverage universe of about 1,200 stocks.

Q: Will the supermarket stocks -- Safeway (SWY ), Kroger (KR ), Albertson's (ABS ) -- ever return to higher valuations?


They probably will, but that's a ways off. We are currently neutral on all three companies in this low-margin, competitive industry.

Q: What stocks are offering a good yield in the S&P now?


Some names that we like include Exxon Mobil, which has a 2.6% yield, Alltel with a 3.1% yield, and although not in the S&P 500, one stock we like and would buy at current levels is Chelsea Property Group (CPG ), which has a current yield of 5.7%.

Q: Let's look at the brightest possible side as we near the close -- what are some of S&P's strong buys now?


Some names that we would buy include Amgen (AMGN ), Sysco (SYY ), Cardinal Health (CAH ), Clorox (CLX ), Wal-Mart (WMT ), Exxon Mobil (XOM ), Procter & Gamble (PG ), Gannett (GCI ), Microsoft (MSFT ), Alberto Culver (ACV ), and American Standard (ASD ).

Edited by Jack Dierdorff

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