Folks, we have been here before. The stock market's steady decline in past weeks has been upsetting and disconcerting, to say the least—particularly to investors who fear the worst about their stock portfolios. Wall Street has seen similar, if not worse, bear markets, such as the 1973-1974 oil embargo-driven downturn. And more recently, the bursting of the Internet bubble in 2000-2001 resulted in a horrible market plunge that reminded investors that the Street is not a one-way street to riches. But bear markets do end, and this one will, too.
The Dow Jones industrial average on July 15 saw its lowest closing value in almost two years—since July 21, 2006—dropping below 11,000, to 10,963. From its record close of 14,164.53 on Oct. 9, 2007, the Dow is down 3,201 points, or 22.61%. And year-to-date, the stock market's chief barometer has tumbled 17.35%.
Inflation Fears Rattle Investors
The important question now is, what should investors do? The simple answer (simple in concept, that is, but not so easy to put into practice) is not to panic. And don't make things worse by following the herd in indiscriminately selling shares. The time to do any selling is when the market is bouncing higher.
In fact, the experienced investor will try to take advantage of the falling stock prices and buy his or her favorite stocks. If you like Apple (AAPL) or Google (GOOG) and you were not able to catch them at lower prices before they rocketed to the moon, now is the time to snap up some shares at appealing prices.
Let me make one thing clear: I am not minimizing or ignoring the bearish mode of the market. Indeed, it is a jarring experience when the market pulls into a downward spiral, seemingly with no end in sight. But don't fall into that selling trap. Things will eventually get better—maybe not today or tomorrow, but, in all likelihood, soon enough. The thing to do, unpopular and unwise as it may seem, is to buy.
There are ample reasons for the sordid and sorry state of affairs. "Fears of recession have now given way to fears of inflation," observes Jeffrey Kleintop, chief investment strategist at LPL Financial. The odds of a recession in 2008, he says, have declined from earlier this year, judging by recent economic data. Estimates by Wall Street economists of the likelihood of a recession occurring in 2008 have fallen back to a normal level of 30% to 35%, from 70% to 75%, notes Kleintop.
Snap Up "Fallen Angels"
Inflation fears are the new culprit behind the massive selling and the decline in price-earnings ratios, or what investors are willing to pay for each dollar of future earnings, says Kleintop. Oil prices, obviously, have been the primary driver pushing up the consumer price index, which affects most industries in a bad way.
If, indeed, the stock market has turned into a market of opportunity, which stocks are attractive given all the worries?
In these types of scary market conditions, most if not all stocks are beaten to a pulp. Unfortunately, shares of the fundamentally strong, as well as those downtrodden, underperforming companies, go down together. So long-term investors (and I can't emphasize the "long-term" part enough) should snap up shares of so-called "fallen angels." These are companies with strong fundamentals that are leaders in their industries, which have been temporarily dragged down by the economy or industry-specific conditions, such as the financial institutions. They are perfect, if unpopular, choices in bear market.
One stock that fits this description is JPMorgan Chase (JPM), which is definitely not for the faint of heart. Its stock has fallen fast, from a 52-week high of 44.12 a share on June 5, to 38.22 on July 15. (That's a walk in the park compared to the sickening declines in other financial stocks.) There are many reasons why investors are leery of financial stocks. In particular, JPMorgan's recent purchase of Bear Stearns didn't sit well with investors who worry that it acquired a financial can of worms. Indeed, Chairman and CEO Jamie Dimon presented a "significantly less sanguine outlook for the Bear Stearns integration," noted analyst Guy Moszkowski of Merrill Lynch (MER), who rates JPMorgan "neutral" and cut his 2008 and 2009 earnings estimates because of concerns about the credit outlook and the negative implications that he sees in the Bear Stearns deal.
Bullish on JPMorgan
But there are others who have a positive outlook toward JPMorgan. Georges Yarden of Yarden Investment Research is convinced JPMorgan will bounce back to between 47 and 50 a share in 12 months, in part because he sees the Bear Sterns acquisition contributing from 75¢ to $1 to Morgan's earnings per share starting in 2009. "When the dust settles, the Street will realize that Bear Stearns will add some $1 billion to JPMorgan's revenues," says Yarden, who figures the company could earn $4.25 a share in 2009. The consensus analysts' estimate for that year is $3.41 a share. For 2008, the consensus forecast is $2.49 a share.
Yarden also predicts that Dimon will act quickly in acquiring a commercial bank that will give the company a wider presence in the Southeast. He concedes that JPMorgan isn't solidly entrenched in consumer banking in that part of the country.
One big bull on JPMorgan is Stuart Plesser of Standard & Poor's, who rates the stock a strong buy with a 12-month price target of 48 a share. Although the consumer credit environment is challenging, he says, "we consider JPM's balance sheet as strong relative to its peers." He also expects near-term results will be buoyed by recent expense management initiatives and the build-up of reserves. "We see the acquisition of Bear Stearns as offering limited downside risk, with the possibility of solid upside potential," says Plesser.
The most significant bull case for the stock is Dimon himself. Not only is he a realist in sizing up the problems that JPMorgan faces, he is also a creative and innovative CEO with a hands-on management style. The acquisition of Bear Stearns is one solid example of such leadership. And amid huge writedowns and balance-sheet blowups, a firm hand at the wheel may be the most valuable asset of all.