NEW YORK (CNN/Money) -
Some of the latest accounting scandals would have made even Gordon Gekko, Michael Douglas's infamous "greed is good" corporate raider character in "Wall Street," blush.
It's no wonder then that the major market indexes appear to be on their way to a third consecutive losing year. How dreadful is this market? The Nasdaq is now hovering around the level it was trading at in May 1997.
Given the unrelenting stream of bad news, it would be easy to think that there are no safe havens in this market. Even shares of many high quality companies with no concerns about accounting have taken a beating. "There are places to hide. But in bear markets like this even the best names get nicked," says Mark Foster, manager of the Kirr Marbach Partners Value fund.
But of course it's foolish to completely abandon the stock market. Last week, we pointed out that in the first half of 2002, 43 percent of stocks actually went up. (For a closer look at some of the biggest winners, click here.)
Seek comfort in dividends
Philip Ferguson, senior investment officer for AIM Capital Management, says that clients have expressed more interest in real estate investment trusts (REITs) of late. Real estate funds are one of only a few types of stock mutual funds that are up year-to-date.
| * Based on estimates for this fiscal year and prices as of July 3 | | Sources: CNN/Money, FirstCall |
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Real estate stocks and funds were not the best performers in the first half of the year. That honor goes to gold and precious metals stocks and funds. But Ferguson thinks that REITs are a safer bet for investors because of their healthy dividend yield. To wit, the 241 REITs in the Multex Investor database have an average yield of 5.7 percent, compared to the yield of just 1.6 percent for the S&P 500.
In fact, Ferguson says that dividend-paying stocks are once again becoming fashionable because they are relatively safer than non-dividend paying stocks. "In the last five or ten years people would have thought you were crazy to ask about dividends," says Ferguson. "But you can't fake a dividend, you either have the cash or you don't."
And stocks with dividends have done much better recently than those that don't pay dividends. According to Multex Investor, stocks with a market value over $250 million and no dividend are down an average of 5.2 percent during the last six months while stocks that do pay a dividend have increased 6.9 percent during the same time frame. (For a look at six stocks with growing dividends, click here.)
Looking at specific sectors, one area of safety might be life insurance, says William Dwyer, chief investment officer of M&T Asset Management. That's because they have been able to benefit from the market's turmoil by selling more retirement annuity plans, investments that seem to be a safer bet than stocks in this environment, Dwyer says.
One in particular that Dwyer likes right now is Jefferson Pilot (JP: Research, Estimates), a life insurer that is trading at just 13.7 times earnings estimates for 2002 and is expected to post earnings increases of 10 percent this year and 11 percent in 2003.
Pick stocks, not sectors
However, fund managers caution that in this market, the key to success is making individual stock bets as opposed to banking on larger trends. "When everything is going up you didn't have to be too smart. Most stocks would just rise with momentum of the market," says Bob Millen, co-manager of the Jensen fund.
Millen and co-manager Robert Zagunis say that in order to find stocks to buy, they first perform a screen that highlights companies with a return on equity (earnings divided by shareholder's equity) of at least 15 percent for the past ten years.
From there, Miller and Zagunis then look closely at the companies' balance sheets and cash flow statements and finally, valuation, in order to figure out what to buy. Using this method, Millen and Zagunis say they have been buying companies recently that they consider relatively safe.
One is Stryker (SYK: Research, Estimates), a medical equipment firm that is aggressively paring down its debt load. Another is General Electric (GE: Research, Estimates), which has come under fire for confusing accounting practices. Millen and Zagunis think those concerns are overdone. They also have been buying 3M (MMM: Research, Estimates), which earlier this week raised second quarter earnings expectations.
Foster also prefers the bottom-up approach to investing. He says that in this market, the key is to avoid major disasters and he tries to do so by focusing closely on companies' management and balance sheets.
That's led him to companies ranging from stodgy industrials with solid earnings growth like Emcor (EME: Research, Estimates), a mechanical and electrical construction company that is expected to post earnings increases of 22 percent this year and 14 percent next year, to toy manufacturer Mattel (MAT: Research, Estimates), a company that he views as a turnaround play under new management.
However, encouraging fundamentals can only go so far in this market. Despite the fact that there are good cases for many individual stocks, there probably will continue to be more volatility ahead. "The difficulty is that accounting bombs have been dropping on a regular basis. What needs to happen before the confidence is back is you need to see a series of good news, a bunch of companies doing better than expected," says Zagunis. Whether this happens in the third quarter, fourth quarter or not until 2003 is anybody's guess.
And Dwyer goes as far to say that the market is being too focused on the short-term, referring to the trading of the last week or so as "a buyer's strike." He says investors are ignoring signs of a strengthening economy and improvement in earnings. "Investors are saying don't promise me, show me. They are really taking the Missouri approach of not believing it until they see it."
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