Old Glamour Stocks Have a Lot to Offer
GE, IBM and Microsoft may no longer dazzle, but they're worth another look
(MONEY Magazine) – Stock prices are supposed to reflect companies' prospects, not their past successes and failures. But history matters, and sometimes being a former investor favorite can hurt a stock. Shares of onetime earnings growth stars receive lower price/earnings ratios than they would get if they had never burned bright in the first place. But stocks that have lost their luster--such as General Electric, IBM and Microsoft--can be bargains in a market like today's.
For starters, such stocks offer moderate but predictable earnings growth, which makes them especially attractive at a time of growing investor uncertainty. Their share prices ought to rise in line with earnings over the long term. Second, the discount that old glamour stocks suffer does tend to dissipate over time, as former shareholders get over their disappointment or the stocks develop new buying constituencies. Finally, companies with moderate to above-average growth prospects are generally undervalued today, trading at a 10% to 15% discount to their historical norms. In a stronger market, their shares would command higher P/Es.
ONE OF THE THINGS THAT MAKES GE UNIQUE IS ITS DIVERSITY: Each of its 11 divisions is a leader in its field. Recently the best performers have been health care and NBC Universal (which includes Universal Pictures, acquired last year). GE may not have the luster it did back in Jack Welch's day. Nevertheless, the company is cranking out strong numbers. In addition, the stock offers a generous 2.5% yield. That's quite a high payout for an industrial company of this caliber.
IBM IS INCREASINGLY DIVERSIFYING AWAY FROM COMPUTER HARDWARE, a market it all but owned from 1964 through the 1980s. Today the company's greatest strength is its double-digit growth in services and consulting revenue, principally for corporate customers. And analysts expect large companies to boost their IT spending over the next couple of years. IBM recently decided to exit the PC business, selling its own operations to China's Lenovo. Shedding that division should boost profit margins a bit. As a result, IBM may be able to increase earnings faster than the 10% compound annual rate that is the consensus projection for the next five years.
IMAGINE MICROSOFT PAYING A DIVIDEND YIELD close to that of the average nonfinancial stock. Well, that's just what happened. But the 1.3% payout hasn't done much to help the share price now that earnings growth has slowed. The stock now trades only 25% above its five-year low. Although the company won't release an updated version of the Windows operating system until next year, sales of existing consumer versions have continued to rise, chiefly because of robust PC sales. Server software, online businesses and the home entertainment and video-game division have been doing even better. Moreover, even after paying a special dividend last year of $3 a share, Microsoft has $34 billion left in the kitty, which could be used for an acquisition that would pump up earnings.
NOTES: As of Feb. 23. P/Es are based on projected 2005 earnings. Annual earnings growth projected for five years. SOURCE: Thomson/Baseline.