Excerpt from Wash. Post:
The votes these days are going to large-caps--or, more precisely, to
mega-caps. Timothy Dalton Jr., chairman of Dalton, Greiner, Hartman,
Maher & Co., a firm specializing in small-caps, points out that the average
price-to-earnings (P/E) ratio of the 50 largest U.S. stocks (by market cap)
is 10 points above the average P/E of the next 1,450 stocks. That spread,
he writes, "has never been higher."
Dalton adds: "There is no question that Microsoft, Intel, Dell, Cisco, Pfizer
and the like are great companies. . . . However, the odds of companies
remaining true growth stocks for more than five years are very low, and
beyond 10 years it seldom happens. Perhaps the current group of
large-cap growth stocks are exceptions. We'll see."
The most stunning statistics come from what Salomon Smith Barney calls
its Laggards Indicator, concocted by the firm to show the percentage of
stocks that have trailed the S&P by a wide margin.
On March 9, the indicator, which was established in 1971, hit an all-time
high. "In simple terms," wrote Warantz and Manley, "although the S&P
rose 21.6 percent over this 12-month period, more than three out of four
stocks in the U.S. common equity universe had a price performance of 3.4
percent or lower."
Eventually, this kind of wild divergence has to end. But what if something
fundamental has changed? One argument in favor of large-caps is that, in a
global economy with lots of capacity, companies that have dominant
market shares also have more power to raise prices--and thus profits.
Another is that strong brands, recognized worldwide, have a big edge.
Also, contrary to what you might think, large companies seem more
flexible than small. They have more products in development, so if one
fails, they can get another to market--wherever the market might be.
But at this point, betting exclusively on mega-caps is taking a big risk. The
smart play, always, is sensible diversification. Warantz and Manley suggest
broadening your portfolio, not by loading up on mid-caps and small-caps,
but by owning large-caps that are out of favor.
They started by asking their computer to find stocks in the S&P 500 with a
market cap greater than $5 billion that were down more than 10 percent
from their 12-month peaks and that were not in one of the four
top-performing sectors (communications equipment and services,
technology, consumer cyclicals, and health care).
Only 34 of the 500 stocks passed those screens. Then they selected only
stocks that were at least 20 percent below their average long-term P/E and
price-to-sales ratios. That left just 10 stocks--from six different sectors.
They were:
* Alcoa Inc. (AA), the aluminum company. With an excellent record for
growth (the dividend payout has doubled in the past five years), the
company's stock trades at a modest P/E of 15--or about half the average
for the S&P--based on projected earnings for this year.
* Haliburton Co. (HAL), a diversified company with interests in energy
services, engineering, maintenance and construction. Hurt by falling oil
prices, the stock has bounced back 27 percent this year, but it's still off
more than one-third from its 1998 high.
* Honeywell Inc. (HON), which manufactures automation systems such as
thermostats and aircraft guidance controls. Earnings, says Bloomberg
News, are increasing at a rate of 13 percent a year, but the P/E is only 15.
The share price is down by about one-fourth since last May.
* PPG Industries Inc. (PPG), which makes glass products used in
construction and automobiles. The stock, with a yield of 3 percent and a
P/E of 11 (despite long-term earnings growth of 10 percent annually), has
tumbled by more than one-third since last May.
* Philip Morris Cos. Inc. (MO), maker of cigarettes (Marlboro), beer
(Miller), coffee (Maxwell House) and dairy products (Kraft). Tobacco, of
course, raises financial, legal and moral questions, and the stock has
plummeted 28 percent since the start of the year. But the company,
growing at 14 percent annually and carrying a dividend yield of 4.6
percent, trades at a P/E (based on year-ahead estimates) of just 12.
* RJR Nabisco Holdings Corp. (RN), another cigarette and consumer
products company. RJR has announced a spinoff of its tobacco business,
and the future is unclear. Still, this may be an interesting buying opportunity.
The stock carries a dividend yield of 6.8 percent, and that payout has been
growing 9 percent annually. The stock, while near its high, trades at a P/E
of just 14.
* Raytheon Co. (RTN/B), maker of electronics, especially for air-defense
missiles and radar systems. The stock has lost 7 percent over the past 12
months and now trades at a P/E (based on 1999 estimated earnings) of
15, even though historic growth has been in double digits.
* Rohm & Haas Co. (ROH), manufacturer of specialty chemicals used in
everything from laundry detergents to cellular phones. The stock pays a
2.2 percent dividend, which, like RJR's, has been growing at a nice clip. It
carries a P/E of 13.
* SLM Holding Corp. (SLM), better known as Sallie Mae, a provider of
financing for students in private schools and universities. Earnings are rising
at 14 percent annually, but the stock's P/E is only 14.
* Schlumberger Ltd. (SLB), provider of services to the oil and gas
industries. A fast grower with a market cap of $33 billion, the firm has
been hurt by the fall in energy prices. Its stock fell by more than half
between May and November, has since bounced back but is still 30
percent below its peak.
Despite all the talk about this market being "overbought," stocks like these
abound: large-cap growth companies that are being ignored by the market.
No, you don't have to be a flaming contrarian to take advantage of today's
unprecedented divergence.
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