There's Still Money To Be Scooped Up On The Street

The bear market, the analysts' scandal, the prolonged drought in both initial public offerings and mergers, and an avalanche of pink slips have knocked investment bankers for a loop. But the Masters of the Universe are starting to get their mojo back as the pace of dealmaking quickens again. Brokerage stocks soared 44% in 2003. But even the most cautious investment pros believe the stocks of firms whose bottom lines are sensitive to a rise in mergers and stock offerings still have plenty of room to climb. "The easy money has been made," says Guy Moszkowski, a financial-services analyst at Merrill Lynch & Co. (MER ). "But brokerage stocks are not fully valued yet."

Investors looking for hidden gems should consider Lehman Brothers Inc. (LEH ). Many research analysts and money managers believe the old-line bond house could get a big boost if dealmaking and initial public offerings take off. During Wall Street's downturn, Lehman built a far stronger investment-banking franchise than it is generally given credit for. It landed many of the largest deals in 2003, including advising WellPoint Health Networks Inc. on its $16 billion merger with Anthem Inc. (ATH ) announced in October. "Investors will be surprised by the strength of Lehman's results in 2004," predicts Michael Holton, who manages the T. Rowe Price Financial Services Fund, up 30% in 2003. Holton, who believes the firm's recent purchase of asset manager Neuberger Berman will also help it to gain from any recovery in IPOs and secondary offerings, started snapping up Lehman shares in November.

Lehman could also double as a safe haven for investors if mergers and stock offerings do not pick up as much as many people expect. In that case, Lehman would still benefit from its strong position in bond underwriting and trading. "If you want to hedge your bets, that's the best stock," says Reilly Tierney, a financial services analyst at Fox-Pitt, Kelton Inc.

Some marquee names in investment banking offer interesting plays on any big upswing in deals. Sanford C. Bernstein financial services analyst Brad Hintz reckons that Goldman, Sachs & Co. (GS ) and Morgan Stanley (MWD ) stand to gain the most from any rise in overall investment-banking revenues, which he estimates will grow more than 30% in 2004. Although Goldman Sachs's 46% rise in 2003, to $99 in mid-December, largely reflects expectations of a recovery in mergers, he believes the stock could increase at least 6% further, to reach $105. His price target for Morgan Stanley (MWD ) is $64, or 12% up from its mid-December price, in part because it has a higher return on equity than its peers.

Anyone interested in benefiting from both an investment-banking rebound and the eventual return of retail investors to the stock market should check out Merrill Lynch. Bear Stearns & Co. (BSC ) brokerage analyst Daniel Goldberg believes that a leaner Merrill will see a greater proportion of its revenues drop to the bottom line than some of its rivals, following several years of cost-cutting led by Chief Executive Stanley O'Neal. Goldberg estimates the stock will rise 28%, to reach $72 per share, by the end of 2004.

The exact timing and strength of the rebound in mergers and stock offerings remains murky. The good news is that it's still not too late to place a bet on Wall Street's eventual turnaround. Right now, bond underwriting and trading still drive most firms' earnings. But a stronger pipeline of equity and merger deals would dramatically change the profit mix and substantially improve the results of slimmed-down investment banks. Following the leaders best positioned to exploit that switch is the safest strategy.

By Emily Thornton

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