(FORTUNE Magazine) – It seems like easy money: Observe the merger activity in a rapidly consolidating industry. Buy stock in the company most likely to be purchased by some heavyweight on a buying spree. Then kick back and wait for your shares to get snapped up in the next megamerger--at a healthy takeover premium, naturally.

In fact, however, it looks easy only in hindsight. Identifying prospective buyout candidates takes a lot of hard work, plus no small amount of luck. But the payoff can be huge, and if ever there were a time to play the consolidation game, it's now. The pace of mergers and acquisitions has been rising since 1992, and every year, it seems, another M&A record gets shattered. Just look at the headlines from 2000. JDS Uniphase acquires SDL. Chevron picks up Texaco. AOL buys Time Warner (parent company of FORTUNE's publisher). The premium in those deals averaged 55%. That means you go to bed with your stock trading at $100, and when you wake up it's $155, almost like fairy dust had been sprinkled onto your portfolio. Surely you've wondered: Can't I get a piece of that action?

Well, yes, actually you can. But the game is not without some risks, particularly these days. Take dot-com flameout extraordinaire Pets.com. A rumor circulated earlier this year that the company was likely to get bought out by Kmart. If, based on that rumor, you had purchased $10,000 in Pets.com shares, your stake wouldn't be worth much more now than a bowl of kibble. Instead of being acquired, the online retailer was put to sleep last month.

To help us put together our own list of takeover targets and to avoid situations like that, we enlisted some of the top M&A strategists in the business: Steve Munger of Morgan Stanley Dean Witter, the Boston Consulting Group's Mark Sirower, Gregg Polle of Salomon Smith Barney, and Rick Escherich of J.P. Morgan. To increase the safety factor, we eliminated volatile sectors such as technology, media, and telecom, even though all three are rife with deals. Instead, we chose sectors that are decidedly old economy: financials, food, industrials, and utilities. Within each, we narrowed down the choices to the two stocks that look most likely to get acquired. Four sectors, eight stocks. Let the buyouts begin.

Financial Services

Asset management is hot. This year alone, says Greg Fleming, head of U.S. financial institutions for Merrill Lynch, there have been 11 asset-management deals valued at more than $750 million--triple the number in previous years. While most asset managers have seen their stocks rally in anticipation of a merger, at least one company is still cheap: Stilwell Financial. Spun off by Kansas City Southern Industries in July, Stilwell has seen its stock slump with the wilted fortunes of its biggest unit, mutual fund company Janus Capital. After 22 straight months of net inflows, during which Janus funds exploded to more than $300 billion under management, investors started pulling money out in September and October. At $45, Stilwell shares are about 20% off their high earlier this year.

But barring an extended bear market in growth stocks, Janus' specialty, says Salomon Smith Barney analyst Guy Moszkowski, further outflows aren't likely. Even with the latest withdrawals, Janus' stock funds still took in $35 billion in net new money this year, far more than any other firm. And given the powerful Janus brand name and strong long-term fund performance, Stilwell could make an attractive addition to a large European global firm like Allianz or ABN-Amro. Moszkowski puts the odds at one in three that Stilwell will be acquired in the next 12 months. Considering recent deal multiples, he believes that the company is worth between $90 and $105 a share.

Another sector ripe for consolidation is regional banks, which, like money-management firms, face a struggle to grow assets. Here we like Marshall & Ilsley. Headquartered in Milwaukee, M&I is Wisconsin's largest bank, raking in 19% of all state deposits. Based on the handful of mid-cap bank deals this year, including FleetBoston's buyout of Summit, Lehman Brothers analyst Jason Goldberg says M&I could go next. Not only are the managers getting older--the CEO is 63, and the CFO just announced he's retiring soon--but they're clearly unhappy with the stock's performance. It tumbled 33% this year, to $42.

In an attempt to boost returns, M&I recently tried to spin off its prized data-processing unit, which provides other banks with financial and data services such as check processing. The goal was to give that unit, which accounted for 21% of the bank's revenues last year, a higher P/E multiple (M&I trades at just 14 times 2000 earnings). The company canceled the spinoff in November, however, citing unfriendly market conditions. And that, says Lisa Welch, an analyst at the John Hancock Regional Bank fund--which has a strong track record for identifying takeover stocks--has led to speculation that M&I might consider selling out.

Welch says M&I could make an attractive acquisition for Cincinnati-based Fifth Third Bancorp, which has been using its lofty stock valuation to buy banks and expand westward. Given the strength of M&I's data-processing unit, Goldberg estimates bidders could offer $58 a share, or three times book value, a slight premium to recent deals. That would represent a 38% gain from the stock's current price.

Food

Unilever's June acquisition of Bestfoods for a staggering $20 billion suddenly made it the world's second-largest food company, behind Nestle. But analysts say the more telling purchases were the ones Unilever made two months earlier, when it simultaneously bought Slim-Fast Foods for $2.3 billion and Ben & Jerry's for $326 million. Beyond all the punch lines about potential synergies between an ice-cream division and a weight-loss division, the deal underscores an important point: Growth is coming from both sides of the dietary spectrum right now.

With that in mind, our two takeover targets in the food sector seem apt--one is a maker of culinary indulgences, the other a health-food company. First, Dreyer's Grand Ice Cream: With $1.1 billion in sales last year, this Oakland company is the largest ice-cream producer in the U.S., claiming a 20% market share. In fact, led by its flagship product (marketed under the Dreyer's name west of the Rocky Mountains and under the Edy's brand everywhere else), the company sells more than its next two competitors combined.

Dreyer's is attractive for both its strong growth and its first-class distribution system. Sales have risen 17% a year for the past decade. And analysts believe that this growth will only accelerate as Dreyer's expands into nongrocery channels, such as convenience stores, where prices and margins are much higher than in supermarkets. In addition, the company has the category's only direct-to-store delivery system. In fact, several competitors, including Starbucks and Godiva, contract with Dreyer's to make and distribute their own ice cream.

The likeliest bidder, analysts say, is Nestle, which owns about 20% of the company's stock. But its ownership agreement prohibits Nestle from adding to or selling its position until May 2004. An earlier offer could come from Unilever, already the world's largest ice-cream company, which outbid Dreyer's for Ben & Jerry's this past April. Based on its earnings projections, Dreyer's could go for $40 to $50 a share, according to Prudential analyst Jeffrey Kanter. Shares now trade at $28.

On the healthier side is Hain Celestial Group. The Uniondale, N.Y., company, which has a market capitalization of $900 million, is a leader in 13 of the top 15 natural-food categories, with well-known brands like Terra Chips (fried slices of sweet potato, yucca, and taro root--they taste better than they sound). Overall sales doubled in each of the past two years, to $404 million in the most recent fiscal year. Although Hain reported a disappointing first-quarter profit, in part because of excess inventory from the Celestial Seasonings tea brand it acquired in May, analysts say the company is slimming down and should have sold off all that inventory by spring.

The better news is that natural foods are going mainstream, meaning that Hain should continue to post strong numbers. Lehman Brothers analyst Andrew Lazar notes that as "the dominant natural-food player," Hain has a huge opportunity to expand into both U.S. and European supermarkets, still a largely untapped sales channel. H.J. Heinz already owns 20% of Hain and counts natural and organic foods as core food categories, so it would be the most logical buyer, says Lazar. But Hain's double-digit growth rate makes it attractive to most major food companies. Both Kellogg and General Mills recently bought their way into the health-food category, acquiring, respectively, Worthington Foods, a maker of veggie burgers, and Small Planet, which sells organic frozen foods. Because of Hain's strong growth prospects, Lazar estimates that it's worth at least $40 a share. That's 43% higher than the stock's current price of $28.

Industrials

General Electric's planned $43 billion acquisition of Honeywell will create the largest supplier to the aerospace industry, providing Boeing and Airbus with everything from electronic instruments to engines. With giant aircraft manufacturers seeking to simplify their buying and cut down on the number of their suppliers, experts predict a flurry of similar deals. Says Salomon Smith Barney's Gregg Polle: "Honeywell and GE are the tip of the iceberg."

Who's next? We like Rockwell International. The $7.5 billion Milwaukee company makes an array of advanced equipment, including communications and navigation systems for aircraft manufacturers. Its avionics and communications business, which primarily serves Boeing and Airbus, is clearly the company's best performer. Revenues grew 21% in fiscal 1999, accounting for about a third of overall sales. Thanks to an Asian rebound and strong demand for Rockwell's cockpit controls and in-flight entertainment systems, analysts expect strong sales growth through next year.

As far as buyers go, United Technologies is a likely suspect. The Hartford company had planned to buy Honeywell but lost out to an 11th-hour offer from GE's Jack Welch. That leaves United Technologies searching for another acquisition. Paul Nisbet, a top-ranked analyst at JSA Research in Newport, R.I., thinks Rockwell would make sense, given its avionics unit, next best after Honeywell's. While Rockwell shares jumped about $5, to $40, on news of the GE/Honeywell deal, many analysts believe that a buyout offer would have to be about 38% higher, closer to $55.

A smaller industrial stock we also like is Crane Co., a $1.5 billion firm based in Stamford, Conn. Founded in 1855, Crane makes a host of engineered industrial products, everything from specialized valves for energy companies to control systems for the aerospace industry. Shares fell over the summer after Crane missed earnings expectations. However, stumbles like that are rare, and several of Crane's aerospace products, including antiskid and automatic braking systems, have a market share of better than 75%.

That's why John Bendall, president of Hermitage Capital, an investment firm in New York City that specializes in finding takeover targets, says Crane is at least 25% undervalued. Bendall figures that the company is worth at least $2 billion and that the aerospace business alone is worth more than $1 billion. He believes that companies like United Technologies or Textron (which also has a large aerospace supply business) would be natural buyers, but he doesn't rule out Tyco International, which might be interested in Crane's fluid-handling segment. Bendall says a buyer would probably pay between $35 and $40 per share for Crane, 40% to 60% higher than the current value of $25.

Utilities

Traditionally known as stodgy investments, utilities have become hot acquisition targets. Take water. More than 50,000 local water systems in the U.S. will spend up to $1 trillion over the next 20 years to upgrade their aging facilities. Analysts say the sector is overdue for massive consolidation.

Perhaps the most attractive candidate right now is American States Water, the second-largest publicly held water utility in California and one of the largest in the nation. Its appeal is its strong foothold in the fast-growing California market. Through its main subsidiary, Southern California Water, which operates systems in ten counties, American States has the geographic base that should lead to stable revenue growth, particularly prized among utilities.

A number of companies could emerge as likely bidders, says Charles LaLoggia, editor of Superstock Investor, a Rochester, N.Y., newsletter with a solid record for predicting buyouts. Industry giant American Water Works, the nation's largest publicly traded water utility, has been on an acquisition spree and last year purchased San Jose-based SJW Corp. for $390 million. But foreign companies have been moving into the U.S. water market as well, and some analysts believe that American States is in the cross hairs of the world's two largest water companies, both French: Vivendi and Suez Lyonnaise des Eaux. Based on recent deals, LaLoggia calculates that American States is worth $50 a share, 60% higher than its current price of $31.

Another hotbed of M&A activity is electric utilities. Thanks to the sharp growth of technology, demand for electricity has accelerated. And given the ongoing deregulation of the electric utility sector, smaller companies lacking financial resources and scale will continue to be snapped up by larger competitors.

One company we believe could be purchased in the next few years is Energy East. The Albany, N.Y., utility has transformed itself over the past two years, exiting the power-generation business to focus primarily on delivery. It, too, has gone on a buying spree, closing four big deals in 2000. The result: Energy East now has two million customers in New York and New England, making it the largest independent utility in its region.

That makes Energy East an attractive target, says Maura Shaughnessy, manager of the MFS Utilities fund. Her take? Energy East would be a key addition to utilities seeking to expand their distribution business in the Northeast. Among likely bidders is Britain's National Grid, which bought three East Coast utilities earlier this year. Shaughnessy figures that a suitor would have to pay $30 to $32 a share for Energy East, a 50% premium to the its current price of $20.

A decent shot at a 50% boost in this market? We'll take it.