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Despite the U.S. national debt, there is a silver lining for income
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Five Ways You Can Profit in ANY Market, Including This One |
[http://www.streetauthority.com/includes/article-top-ao.htm]Published:
October 27, 2008
When the market stops making sense, it's time to stop trying
to make sense of the market.
After all,
who says you need to understand the market to be a
successful long-term investor? No one. And it's a good
thing, too, because whether the bulls are stampeding or the
bears are prowling, it is impossible to make heads or tails
out of the market.
The market is an abstract concept, one whose only constant
is chaos. No one can accurately predict how the market will
respond to anything. You've seen that in good times, when no
bad news could quell investor optimism. And you're seeing
the other side of that coin now, in a market where no news
could be bright enough to drive the dark clouds from the
intersection of Wall and Broad.
Now, that's always been true. But so what? "The
market" isn't what's in your portfolio. Your portfolio
is made up of individual stocks. Equity investors and
basketball coaches always should focus on fundamentals
first, and for the same reason. That's how you win the ball
game.
With that in mind, here are five strategies, all
fundamentally driven, that can lead you to success, even in
the current market.
Strategy #1 -- Focus on businesses that can mint cash.
Dozens of companies have a long history of generating
obscene amounts of cash at exceedingly low cost. These
companies are always attractive, but particularly so right
now, both for their strong balance sheets and their ability
to produce more and still more revenue. This gives them
tremendous operational and financial flexibility, and the
results tend to show up not only on the bottom line but in
the stock price.
One leader in this regard is a great biopharmaceutical
company called Gilead Sciences (Nasdaq: GILD), which
markets eleven products around the world, primarily to treat
HIV and heart disease. Gilead generated revenue last year of
$4.2 billion and an operating profit of $2.2 billion. On
that basis, Gilead is twice as profitable as competitors
like Johnson & Johnson or Merck.
Gilead increased its shareholders' equity by +258.9% from
2003 through 2007, while growing earnings by a spectacular
+380.0%. The company is still on a strong growth trajectory
and is expected to earn $2.13 for 2008, a +26.8% increase
from the year before.
Wall Street has rewarded Gilead's performance handsomely.
For the five years ended Dec. 31, 2007, Gilead shares rose
+441.3% versus a rise of +62.7% in the S&P 500. And GILD
blew the doors off J&J and Merck, which turned only +24.2%
and +8.5%, respectively, from 2003 to 2007.
OK, you say, those are nifty numbers. But let's put it into
the dollars-in-your-pocket perspective: If you invested
$25,000 in GILD in 2003, you wound up with $106,250 at the
end of '07 vs $40,500 if you bought an S&P index fund. And
so far during this tumultuous year, Gilead has lost only
-6.3% of that, putting the value of your stake at roughly
$100,000. But the S&P has cratered, dropping -40%, putting
the hypothetical $25,000 investment at just below the
break-even point. My point: If you'd like to have an extra
$75K in five years, invest it now in a company that's
generating cash.
By any measure, this outstanding company is not only on sale,
it's a good buy.
Strategy #2 -- Go short.
Many investors aren't able to benefit from a falling
market by shorting stock. "Shorting" is the practice of
borrowing shares and then selling them. When (and if) the
price falls, the investor buys the shares back for less than
he sold them for, and pockets the difference. The idea is
still to buy low and sell high, just in reverse order.
Short selling can only be accomplished in a margin account,
which many investors don't have. Happily, Wall Street, which
is here to help, has come up with a solution: "Short" and "ultrashort"
exchange-traded funds allow investors to buy a security that
moves in the opposite direction of the market. A short ETF
focused on the financial sector would see its price rise if
bank stocks fell. An ETF that shorts crude oil rises when
the price of oil declines. "ultrashort" funds add a little
oomph through leverage that typically double the returns --
or the losses.
The favorite play these days seems to be the UltraShort
Financials ProShares, which trades on the Amex under the
ticker SKF. The fund is designed to correspond to twice the
inverse daily performance of the Dow Jones U.S. Financials
Index, which means if the index has a bad day and goes down
5%, the fund is going to see a 10% gain. It's worked like a
charm so far: As the companies that make up this index have
been gobsmacked by the subprime meltdown, the ultrashort
fund has managed a year-to-date return of +64.9%.
Short ETFs are not for passive traders. They are exceedingly
volatile, and they typically aren't for the long haul: This
isn't Berkshire Hathaway -- you don’t want to buy it and
then just forget about it.
Investors should only buy this
ETF if they think that bank and other financial stocks are going to
be under pressure and see continued declines.
You can also buy short and ultrashort funds to bet against
the price of oil, the Dow, the S&P and even a few sectors. I
highly suggest that you cover your bases with a trailing
stop that can limit any losses, and use these only when you
have studied the underlying sector, not merely looked at a
price chart. Stocks prices don't go up forever, but they
don't fall forever, either.
Strategy #3 -- Question conventional wisdom.
Reading sales forecasts for the holidays is like
crashing a funereal these days. The Wall Street Journal
recently said Christmas was going to look more like Charles
Darwin than Charles Dickens this year. Amazon recently
warned of a weaker-than-forecast fourth quarter, and other
retailers from J.C. Penney to Nordstrom have followed suit.
Industry watchers expect holiday discounting will have to be
steeper and start earlier. Overall, the National Retail
Federation says it expects holiday sales to grow at the
slowest pace in six years.
I tend to question conventional wisdom. And I absolutely do
not buy this.
Here are my reasons:
The presidential race will be over two weeks before the
official open of the holiday shopping season on the day
after Thanksgiving. That means Americans, who have
notoriously short attention spans, will be focused on
something other than the flailing economy. Right now, it
dominates the news. That won't last.
With that in mind, two things will come into play that will
juice holidays sales beyond expectations. The first is the
low cost of gas. This has a real and pervasive effect on how
average Americans feel about their financial situation. The
price of oil has fallen more than -50% from its July 11 peak
of $147.37 to less than $65 today, with the average price of
gas falling to an average of $2.78 from $4.11 on July 17.
That puts serious discretionary dollars back into Americans'
wallets. More importantly, it will dramatically change the
way they feel.
When that happens, Americans will spend, spend, spend. And
there's some good news in that regard. Skittish Americans
have actually been paring their credit-card use and paying
off their consumer debt. In fact, they've been doing it at
the fastest pace in 10 years. That worries a lot of people,
who predict people will stuff their mattresses. Not me. I
know that Americans will be tired of hearing about the
economy and looking for a little retail therapy. I know
they'll be feeling a little flush after a drop in gas prices
and paying down a little debt. And I think all that will
merge to create a pleasant holiday surprise.
Who will benefit from this the most? I think it will be
Sears Holdings (Nasdaq: SHLD) and Gamestop (NYSE:
GME).
The reasoning here is simple: You can buy gifts on layaway
at Kmart, and that's going to draw a lot of traffic from
Wal-Mart, where it's strictly cash and carry. People for
whom the price of gas is a serious economic factor shop at
discount retailers, and I think Kmart's layaway department
gives it a distinct advantage.
Gamestop, for its part, has a 20% share of the
growing multibillion-dollar market for video games. (The
largest entertainment opening in history was not a movie but
the $500 million release of the game Grand Theft Auto IV.) Not only does
Gamestop
carry the hardware and all the current software titles, it
also stocks used merchandise that allows lower-income people
to buy products they couldn't otherwise afford.
Also, many Americans will be purchasing a TV this holiday
season in advance of the national switch to digital
broadcasting in February. I think that will boost video
games sales, too, as Junior -- he with no expenses and flush
with Christmas cash -- decides he'd like to see what
Grand Theft Auto or some other hot title looks like on the
folks' new 65-inch flat screen.
Reduced economic news after the campaign, lower gas prices
and available credit will combine to propel holiday
spending. The bad news is priced in, and Sears and Gamestop
look to be strong plays.
Strategy #4 -- Lock in a rich dividend.
Not much on Wall Street is ironclad, but here's a rule
that is obeyed as
unfailingly as the law of gravity: When
stock prices go down, dividend yields go up.
Income investors -- long derided for sticking with stable
revenue streams instead of focusing on growth -- are looking
pretty wise. And with prices low, now's a good time to
borrow a page from their playbook. Blue-chip dividend payers
with multiyear histories of passing earnings onto
shareholders are selling at multiyear lows. You can lock in
a yield with a strong dividend payer that's easily three
times what a CD is paying -- and be in line for significant
capital gains.
I have a favorite in this vein: Capstead Mortgage (NYSE:
CMO). This
Dallas-based company uses borrowed money to buy long-term
mortgages. There's virtually no risk, as all of the
mortgages Capstead buys are guaranteed by the federal
government. And it borrows to money to finance these
purchases for very short amounts of time. If you're familiar
with the yield curve, you know that rates usually are higher
for longer-term borrowing than for short-term borrowing.
So Capstead's business model is to borrow money for 2% to
buy investments that yield between 6% and 8%. It pockets the
spread -- simple but elegant.
Now a lot of people who see high dividends get worried that
the board can always reduce the payout. But Capstead isn't a
typical corporation, it's a real estate investment trust. It
is legally obligated to pay out 95% of its earnings to
shareholders. These little beauties are yielding more than
25%. In less
than three years at that rate, you'll have made your money back, to
say nothing of the fact that these shares could easily
double in price in that time.
Strategy #5 -- Buck the trend and buy what everyone else
hates.
Everyone hates banks right now in light of the financial
crisis, but they are one part of our system that is never
going to go away. Valuations are extremely low.
Let's look at Regions Financial (NYSE: RF). The Birmingham, Alabama-based
bank has about 1,900 banks across the Southeast and Midwest,
far away from most of the housing mess. It's trading for
about $9 a share, roughly 9 times earnings. Analysts see a
target price of $11.63, which would amount to a nice 30%
gain. Regions pays a respectable 3.7% dividend.
And that's where you should stop looking at the
characteristics of the stock and start looking at the
fundamentals of its banking operations. This is a lot of
fun.
All banks must file detailed standardized reports with the
FDIC. This is a gold mine of information. FDIC data, the
most recent crop of which covers the first half of the year,
shows Regions has 97.7 billion in loans, which account for
about 70% of its assets. Regions has $1.4 billion sitting in
cash in its loan-loss reserve to cover bad loans, which
every bank sees a few of, even in good years.
The trick here is to look down the page to a memo line on
the balance sheet, where each bank lists its nonperforming
loans. These are loans that are more than 90 days over due,
most of which will be charged off. We see that Regions has
roughly $1.9 billion in classified loans. So if all of those
loans go belly up, and none of the assets that secured the
credits turn out to be worth anything, then Regions is going
to have a roughly $500 million shortfall.
Now, that would be problematic, but that's mitigated by
several factors. One, the assets that secured those credits
DO have value, in some cases 100 percent of the value of the
loan. And the second mitigating factor is performance. It's
true that roughly 2% of loans are classified and likely to
fail. But that means that 98% of Regions' loans are doing
just fine. If its average rate of interest is 8% and its
cost of funds is as high as 5%, that's still a 3% spread
that it's collection on a roughly $100 billion loan
portfolio.
Regions is doing just fine. Banks might be in a tight spot, but
not every bank will fall victim to the subprime mess or the
credit crunch. And if a bank could navigate its way through
that minefield unscathed, think how well it's going to do
when the market improves. Regions' shares have lost -58% of their
value this year -- we'll probably never see a price this low
on these shares.
Keep Your Eye on the Ball, Not on the Game
Investors, though it seems counterintuitive, should
ignore the broader market in times like these. No less a figure than Warren Buffett has
said that he invests under the premise that the New York Stock
Exchange could close tomorrow for five years and he would be
just fine. Smart investors know to focus on the
fundamentals of businesses, not on the manic machinations of
Mr. Market.
Investors who make decisions based on a careful review of a
business' past history and future prospects -- rather than
simply glancing at a price chart -- have a strong and
distinct advantage over speculators who move on emotion and
market direction.
These five strategies are nothing new, they've been guiding
prudent investors like you through every downturn since the
Panic of 1907. I hope they help you see that you can profit
in these economic conditions. In fact, one can make the case
that there may well be more opportunity now than there has
been in years. You supply the patience and the discipline;
we'll do our best to supply to best information and sage
advice.
Good investing!
Andy Obermueller
Co-editor
StreetAuthority Investor Update
http://www.StreetAuthority.com
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Investing Doesn't Get Any Easier Than This |
Stock picker Amy
Calistri's strategy is as simple as investing gets -- just one idea
a month designed to make money in today's market. Invest this way
and you don't have to worry about oil prices, automaker bailouts, or
what the Fed is up to -- because every "bad" economic development
actually helps some investment or another.Your investing life can
get a lot simpler -- starting today.
Go here to learn about Amy's simple investing strategy.
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