A Bumpy Ride to an Up Market

Joseph Lisanti of S&P's The Outlook isn't worried by the Street's recent nervousness. It's still going to be a good year, he says

The stock market may be in a correction -- but that's a positive development. So says Joseph Lisanti, editor of the Standard & Poor's newsletter The Outlook, who thinks that a drop of 5% or 10% now would clear the air for a climb later in the year. In fact, Lisanti warns that failure to have such a correction could be more worrisome because it might prefigure a sharper drop later in 2004.

Looking abroad, Lisanti notes that although Chinese stocks have had a good run, S&P's Asian analysts still have favorites, including Aluminum Corporation of China (ACH ) (a buy) and China Eastern Airlines (CEA ), and China Mobile (CHL ) -- both ranked accumulate.

Any rise in U.S. interest rates this year will be modest, Lisanti believes, and won't make a big dent in the stock market. He suggests investing in high-quality, dividend-paying stocks, and he concludes that the market may have "a bumpy ride to get there, but we still believe the market will end the year higher."

These were some of the points Lisanti made in an investing chat presented Feb. 24 by BusinessWeek Online and Standard & Poor's on America Online, in response to questions from the audience and from BW Online's Jack Dierdorff. Edited excerpts follow. A full transcript is available from BusinessWeek Online on AOL at keyword: BW Talk.

Note: Joseph Lisanti has no affiliation with or interest in any of the companies under discussion, except as disclosed. Other S&P affiliates may provide services to the companies under discussion.

Q: Joe, is the stock market in a correction, and should we worry?

A:

Good question. The stock market may be in a correction, but we really shouldn't worry. It's possible that stocks will correct 5% to 10% at this point -- in fact, we believe it will be a healthy move for the overall market. A correction now would clear the air a bit and allow the market to resume its climb later in the year.

On the other hand, stocks, outside of the Nasdaq, have been fairly strong -- in part, we believe, because of merger and acquisition activity. Often when several big mergers are announced, investors who may have thought of selling hold on in the hope of being bought out at higher prices.

If the market doesn't have a 5% to 10% correction in the near future, it may well be that the highs for 2004 will occur early in the year. That could present problems later on in terms of a more severe correction.

Q: How do you think gold, silver, and precious metals stocks will do?

A:

We do like the gold stocks in general because we feel that gold will continue up for the year. Right now, we have an accumulate ranking, 4 STARS, on Barrick Gold (ABX ). We also like Newmont Mining (NEM ), and we have a hold recommendation on Placer Dome (PDG ), in part because more than 50% of its reserves are in South Africa.

Q: Two names in medical devices -- Boston Scientific (BSX ) or Guidant (GDT )?

A:

We have an accumulate (4 STARS) recommendation on Boston Scientific. We view the stock as attractive and believe the company will show increasingly positive sales and earnings momentum through 2005. We have a hold recommendation (3 STARS) on Guidant, despite the recent agreement with Johnson & Johnson (JNJ ) to co-promote JNJ's Cypher stent in the U.S. Nevertheless, we feel the shares are appropriately valued at this point.

Q: EMC (EMC ) or Network Appliance (NTAP )?

A:

We have an avoid ranking on Network Appliance. Ongoing competitive pressures and what we believe is the stock's excessive valuation restrain our opinion of the stock. We have a hold recommendation (3 STARS) on EMC. While we think the company should continue to benefit from improving end-market demand and enjoy synergies from recently announced acquisitions, we believe the shares are fairly valued.

Q: With Cingular buying AT&T Wireless (AWE ), how badly or well will that affect SBC Communications (SBC ) and BellSouth (BLS )? They are joint-venture partners in Cingular.

A:

We have avoid recommendations (2 STARS) on both SBC and BLS, Cingular's parents. We believe they overpaid for AT&T Wireless and think the planned deal creates large risks for both parent companies, including the need to rebrand the acquired wireless unit in major markets and the need to hold onto a large number of acquired customers. In our view, the benefits of this acquisition in future years are highly uncertain.

Q: What about Exxon Mobil (XOM ), Verizon Communications (VZ ), and Juniper Networks (JNPR )? I have these stocks in my IRA.

A:

Our favorite among those stocks is Exxon Mobil, with an above-average yield and what we think is a very strong balance sheet. Exxon Mobil is an attractive total-return play. The shares currently sell below our $48 12-month target price. We think XOM is a buy.

We would hold the shares of Verizon Communications. We expect the company to be a near-term beneficiary of Cingular's planned acquisition of AT&T Wireless. Although Verizon Wireless is likely to lose its ranking as the largest U.S. wireless carrier, we believe that this year it will take additional market share while Cingular is distracted with sizable integration issues. Nevertheless, we believe the shares are fairly valued at this point.

We also have a hold ranking on Juniper Networks. While we view the proposed acquisition of NetScreen Technologies (NSCN ) as a positive, we believe Juniper is appropriately valued at this point.

Q: What's the forecast for PepsiCo (PEP )?

A:

PepsiCo is among our favorites in the beverage field. Worldwide volume gained 6% in the fourth quarter, slightly ahead of our forecast. In that quarter, operating profit rose 13%, with Frito-Lay's North American unit up 7% and PepsiCo Beverage's North American operations up 23%. We believe brand momentum, price and mix improvements, growth potential, and strong free cash flow make the shares attractive. Our 12-month target price is $58. PEP is a buy -- we have it as a 5 STARS.

Q: What sectors do you like at this time?

A:

Currently, S&P's investment-policy committee recommends overweighting the consumer-discretionary, health-care, and information-technology sectors. We would underweight telecommunications services and utilities. The remaining market sectors should be market-weighted.

Q: How much room do you think Zimmer Holdings (ZMH ) and Constellation Brands (STZ ) have left to go?

A:

First, a word of disclosure: A family member owns shares of Zimmer Holdings. The S&P analyst who follows Zimmer currently ranks it 5 STARS (buy), with a 12-month price target of $92. The shares closed [Feb. 24] at $77.19. We also have a buy on the shares of Constellation Brands. Our 12-month price target is $42, and the shares closed [Feb. 24] at $33.76.

Q: How about China stocks? Don't you think they're overvalued right now?

A:

China has had a very good run, but there are still quite a few stocks that our Asian analysts, who are based in Singapore, like. Among our favorites are Aluminum Corporation of China (ACH ) (which we rank 5 STARS), China Eastern Airlines (CEA ), and China Mobile (CHL ) -- both of which are ranked 4 STARS.

Q: How do you feel about buying electric utilities for future growth and dividends? And any specific names S&P might like?

A:

The electric-utility market has been difficult for several years. Although the utility index rose 21% in 2003, it's difficult to find good utility stocks that have growth prospects and are also paying a decent dividend.

That said, one of our favorites is Dominion Resources (D), which we rank 4 STARS. Dominion has a 4% yield, but it should be noted that it has not raised its dividend in several years. It's a difficult period for income investors. We would advise looking at lower-yielding, nonutility stocks that have a strong history of dividend increases.

Q: A headline name -- Halliburton (HAL ) has nearly doubled in the past year. Sell or hold?

A:

We have an accumulate ranking on Halliburton. Despite all of the problems and inquiries the company has faced, the stock has moved up. We continue to view the shares as attractive, since they trade at a discount to peers, mainly reflecting, in our view, some remaining uncertainty over asbestos litigation.

Q: If interest rates climb by yearend, what would be the safest income stock or REIT?

A:

If interest rates climb, which we believe they will by the end of the year, any income-oriented investment will likely suffer. Again, we would stress picking stocks that have strong histories of dividend increases, since a growing dividend will offset the adverse impact of higher rates.

Q: What stocks will be increasing dividends? Not one-time dividends but long-lasting ones.

A:

A number of companies have increased their dividends for 25 or more consecutive years. Among them are Abbott Laboratories (ABT ), which we rank at 4 STARS; Altria Group (MO ), formerly known as Philip Morris, which we also rank 4 STARS; and Chubb (CB ), also currently a 4-STARS stock.

You can often find companies that have increased their dividends steadily will note that fact in their annual report. The annual report is usually available on the company's Web site.

Q: Outlook for Big Pharma -- Pfizer (PFE ) in particular?

A:

Pfizer is currently ranked 4 STARS. We believe the company's pipeline is in good shape with FDA approvals of Caduet, which is a single-pill combination of Lipitor and Norvasc, for cholesterol reduction and high blood pressure, as well as approval of Spiriva for chronic obstructive pulmonary disease. We have a 12-month target price on Pfizer of $42. The stock closed [Feb. 24] at $37.17.

We think the situation for Big Pharma stocks is gradually improving and expect a somewhat higher level of approvals this year. Nevertheless, we still favor many generic-drug makers, because they'll continue to benefit from patent expirations of major drugs. Among our favorites in the generic area is Barr Pharmaceuticals (BRL ). Our 12-month target price for Barr is $86 -- the stock closed today at $76.25.

Q: Prospects for Goodyear Tire & Rubber (GT )?

A:

We have a sell recommendation (1 STARS) on Goodyear Tire & Rubber. The company is highly leveraged and is attempting to restructure operations. We are skeptical about the ultimate success of the restructuring. We have a 12-month target price of $4 -- the shares closed today at $7.81.

Q: This looks like a good final question -- your strategy for stocks when the first interest rate bump comes?

A:

We think the interest rate increase will be modest, and rates will still be fairly low by historical standards. We think the 10-year Treasury note will yield 4.5% in the final quarter of 2004. Today, it yielded just a little above 4%.

This shouldn't do tremendous damage to stocks, though it will take a bit of the wind out of the market's sails. We still believe the S&P 500 will end the year at 1230. The big question remains whether we will see a correction now or watch the market rise above our 1230 target and then be shot down a bit when rates do rise.

In either event, we think there's money to be made in high-quality dividend-paying stocks in 2004. There may be a bumpy ride to get there, but we still believe the market will end the year higher.

Edited by Jack Dierdorff

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