Investing's "Next Big Thing"

Author and strategist Peter S. Cohan is looking for this decade's bright new development in technology to fuel exciting opportunities

The best investment opportunities these days are outside the U.S., suggests Peter S. Cohan, author, investment strategist, and president of Peter S. Cohan & Associates. While the U.S. stock market was up 9% in 2004, as measured by the Standard & Poor's 500-stock index, that of Austria was up 68%, notes Cohan. And South Africa's was up 50%, Mexico's up 46%, and Norway's up 46%.

"When we have a weak currency, like we do now, looking outside the U.S. makes a lot of sense," concludes Cohan, who recommends putting money into a diversified international mutual fund. He also notes that some of the most successful initial public offerings of 2004 were of Chinese e-commerce and e-content stocks.

Cohan says he's looking for the "next big thing" to fuel investing. He notes that in the '80s it was the PC and in the '90s the Internet -- but that so far in this decade nothing analogous has yet appeared. On one leading-edge niche, satellite radio, he notes wryly that the contract Sirius Satellite Radio (SIRI ) signed with Howard Stern "vastly exceeds their yearly income." Despite the popularity of Sirius' stock, he's skeptical of the outfit's ability to attract enough paying customers to generate profits.

These were some of the points Cohan made in an investing chat presented Dec. 30 by BusinessWeek Online on America Online, in response to questions from the audience and from BW Online's Jack Dierdorff and Amey Stone. Edited excerpts follow. AOL subscribers can find a full transcript at keyword: BW Talk.

Q: Peter, does the holiday rally in stocks have legs to carry it into the new year?

A:

I think it does have legs. I think one of the things that happens is that big investors are trying to take advantage of something called the January Effect, which is this notion that for some reason stocks have unusually high returns in January, and these returns are often highest in the smaller-cap stocks.

So investors and institutions pour money into the market, placing their bets on this, and do so in December. They'll probably try to ride those bets out through January, which should sustain the market through at least the end of that month.

Q: The financial sector -- do you like it? Thoughts on Bank of America (BAC )?

A:

In general, I think the sector is somewhat hurt by rising interest rates. They can usually keep the rates they pay on deposits at a pretty low level as rates rise, but eventually they have to raise rates on deposits, and they usually can't raise rates on the loans quite as quickly.

But there are some very agile businesses that have more fee-based income, which allows them still to maintain their course. State Street (STT ) is one of those. I'm not quite as sanguine on BAC. STT has been doing very nicely -- it has gone from $43 to $49 in the last three months. Bank of America is still digesting the Fleet acquisition, and their stock has not been quite as good, bouncing around a bit.

Q: Peter, you had a lot of pre-election thoughts about the market impact of the results. We're not into Bush's second term quite yet, but what's your thinking now on this topic?

A:

Well, at the risk of tooting my own horn, right before the election I talked about this W industrial complex index, which I put together earlier this year. I said the stocks in that group would do well if Bush were elected. The last chat I did was a few days before the election, with my WIC up 53% since his inauguration. Since the election, the index has gone up an additional 19%. So it's up quite a bit since his first election.

The WIC consists of coal, gas, oil services, defense, and selected entertainment and retailing companies. Of that index, the best-performing companies are Arch Coal (ACI ) (based in St. Louis), up 154%; Valero Energy (VLO ), (the largest oil refiner), up 179%; and United Defense Industries (UDI ), up 141%. The interesting thing about that is that UDI is 29%-owned by Carlyle Group, which counts among its senior advisers the senior George Bush. Going forward, I expect this index to continue to do well.

Q: What are your current thoughts on the Internet sector? Any new favorites?

A:

I've put together something called the e-stocks index. I started this in 1998, actually, when I had a book that analyzed these things. I just updated this index from the post-9/11 low to today, and since then the index is up 367%.

It has been a spectacular year for e-stocks in general, and there are some real standouts here of companies that are both successful financially and have had their stocks do extremely well. Some are not huge surprises. Amazon (AMZN ) is up 723%. Another that's up a lot is Juniper Networks (JNPR ), which has done very well in the infrastructure sector, up 205%.

There have been some really big gains in the Web content area, due primarily to acquisitions. I believe there could more mergers and acquisitions here, too. MarketWatch (MKTW ) went up about 1,600%. Another that did very well is the Meta Group (METG ), which was recently acquired by Gartner (IT ), also with around an 800% gain. Companies like CNet (CNET ) are also potential acquisitions.

There has also been some really strong performance in the security-software area, particularly Symantec (SYMC ), though they did take a hit after they announced the acquisition of Veritas Software (VRTS ). On a split-adjusted basis, it has gone from $6.25 to $25 a share, or around 300%. In the Web-tools area, there's a company I own called Macromedia (MACR ), which has gone from $11.30 to $31 a share.

The last one I'll mention is Yahoo! (YHOO ), which has risen from $8.02 to $38 a share. In retrospect, if you had had the good luck and nerve to purchase these e-stocks, you would be doing very, very well right now.

Q: Two leading-edge ideas here -- how about the nanotechnology sector or satellite radio -- Sirius (SIRI )?

A:

Nanotechnology -- what I would say about that is that nobody has come up with a way to make money in nanotech yet.... As far as satellite radio is concerned, both companies [Sirius and XM Satellite Radio (XMSR )] have increased subscribers substantially. Sirius' signing of Howard Stern helped. But the question is: Will people pay for what they can get for free on regular radio?

If they do -- and [Sirius] makes the money that's reflected in the stock price right now -- [the outfit] could do well. But...this may never materialize, so right now these stocks are floating on vapors. Looking at Sirius, in the last 52 weeks it has been as low as $2 a share -- it's now at $7.50. They had $13 million in revenue and lost $226 million. Howard Stern's contract actually vastly exceeds their yearly income.

Q: Peter, you have a broad macroeconomic outlook -- how high will interest rates go in 2005? What's your outlook for the real estate market in 2005?

A:

I would guess that short-term rates will be in the 4% to 4.5% range a year from now, and I think that the real estate bubble is going to start to burst next year.

The reason that rates will go up is because inflation is going to become a bigger and bigger problem, and one of the reasons for that is that companies increasingly are finding that they're being hit by higher and higher costs. The PPI has been up quite a bit in October and November, and in a lot of cases companies have been simply passing those cost increases onto consumers, which is really the definition of inflation.

Another factor would be the weak dollar. It's almost at record lows relative to other currencies like the euro. The real challenge you face is what happens if China decides to let its currency float, which makes the dollar weaker, or if it starts to use the euro, not the dollar, as its reserve currency. What all this does is bring us to record levels of debt.

Our debt ceiling was raised from $7.3 trillion to $8 trillion. So we have to borrow a lot of money, but to do so we need to raise interest rates to persuade investors to take our debt. This will hurt the economy, and it's going to hurt housing, because people are so heavily indebted, and if they have variable-rate debt, they're going to be paying more and more of their income out in interest expense. That'll keep a cap on economic growth, since consumer spending will decline.

Q: Many advisers now suggest an emphasis on dividend-paying stocks. Do you agree? And what sectors look best for 2005?

A:

I personally am not a huge fan of dividend-paying stocks, because dividend-paying stocks tend to combine the worst of both possible worlds. You've got the problem that they pay dividends, which are usually uncertain depending on business conditions, and secondly, if the company is paying a lot of dividends, their management doesn't have enough imagination to come up with good capital investments.

If you're looking for a steady income, look for a good government or corporate bond. If you're looking at equities, though, find a company whose management has the imagination to do something with all that cash. The tax breaks for the dividend have actually discouraged managers from taking risks. I would rather encourage an economy where we're rewarding managers with the ingenuity and guts to make investments and boost the stock.

As far as sectors, I'm inclined to look at two sectors that we've talked about so far today -- energy, defense, and high-end retailing (the W index I mentioned before), as well as some e-stocks like Yahoo, Google (GOOG ), eBay (EBAY ), some of these Web content companies.

Another area that will continue to do well is Chinese e-stocks. Some of the most successful IPOs of 2004 were actually Chinese e-commerce and e-content stocks, so I think that could continue to be an exciting area.

Q: Peter, I know you do some venture-capital investing as well. Is that a big emphasis in 2005 for you? How do you think the IPO market will fare?

A:

I haven't seen any real exciting venture opportunities in the last several years, and I think if you analyze the IPO market in 2004, it was very strong. It will continue to be strong, but a lot of the companies that did well in the IPO market this year were not venture-backed. They were divisions of established companies that were spun off from larger companies, so what I'm still looking for is: What's the next big thing in technology?

If you look back over the last 30 years, once a decade there was a big technology that represented an exciting area to invest in. In the '80s, the PC; in the '90s, the Internet; but in this decade we really haven't had anything that's even near the same level of excitement.

That's actually one of the things I'm going to spend a lot of time working on in the first quarter of 2005 -- figuring out what the next big thing will be. After all, it really was the IPO of Netscape that arguably sparked the Internet explosion.

Q: Following up on Chinese e-IPOs, what opportunities do you see for investing outside the U.S.?

A:

Well, the real exciting stock market performance in 2004 was not in the U.S. The U.S. market was up roughly 9% to 10% this year. The best-performing market was Austria, up 68% in 2004. Behind that were South Africa, up 50%; Mexico, up 46%; Norway, up 46%. So there were a lot of markets outside the U.S. where people were making a lot more money this year.

When we have a weak currency like we do now, looking outside the U.S. makes a lot of sense. Put some money into a diversified international fund, which would basically try to pick the best international markets to invest in. With the dollar likely to continue to weaken, that would put a cap on the gains that could be made in our domestic market in general.

Edited by Jack Dierdorff

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