What’s the Story With Industrial Stocks This Time?
Industrial companies have been Wall Street’s fake-out kings for three years now. The stocks periodically soar for a few days on expectations of an earnings rebound, then slowly fade away when the rebound fails to materialize.
Here we go again: Wall Street is throwing wads of cash at industrial stocks this week, betting that they’ll be the market stars of 1992. At the same time, money is flooding out of the health care stocks that have led the market since 1989.
So far this week, aluminum king Alcoa has soared $5.25, or 8.4%, to $68 Thursday. Copper producer Phelps Dodge is up $7.75, or 12%, to $73.
On the flip side, leading drug company Merck has plummeted from $163 to $154.125 this week, a 5.4% loss; medical supply giant Johnson & Johnson has tumbled 9%, from $115 to $104.625.
The intensity of this market switcheroo has shocked analysts, and it’s causing panicked investors big and small to re-evaluate their portfolios. The key question is, is it really time to drop the steady growth companies (mainly in health care and food products) for industrial firms whose profits hinge on a stronger economy?
If you don’t believe a recovery is coming, you’ve pretty much answered that question already. But the market’s huge appetite for industrial stocks this week tells you that many investors do see burgeoning demand for basic metals, chemicals, machinery and other industrial goods.
Of course, the industrial-stock fans have been faked out so many times, you wonder why anyone should believe that the stocks can go on an extended run. But this time, the odds seem greatly in favor of a substantial rise in the industrials, even after this week’s big rally. Here’s why:
* Many investors have persuaded themselves that the economy absolutely has to recover in ‘92, if only because it’s a presidential election year. The long-held belief is that an incumbent president will do whatever it takes to ensure a healthy economy on Election Day, and President Bush’s actions (talking tax cuts, jawboning interest rates down) fit the pattern. As recovery talk grows, investors will naturally herd toward industrial stocks.
* Mutual funds and other money managers are being inundated with cash from clients. A year ago, when a growth stock such as Merck was at $90, or 20 times annual earnings per share, it was easy to justify buying that kind of stock rather than taking a chance with an industrial issue.
Today, after growth stocks’ fantastic run last year, Merck is trading for almost 30 times 1991 earnings. It’s still a great firm, but that’s a high price to pay--especially when many industrial stocks trade for much lower price-to-earnings ratios than medical and food stocks. “The money coming into mutual funds has got to go to work, and fund managers aren’t going to buy Merck or Coca-Cola,” argues Marshall Acuff, strategist at Smith Barney, Harris Upham in New York.
In fact, the hot Wall Street rumor Thursday was that Fidelity Investments, the largest mutual fund firm, was massively switching out of growth stocks and into industrials. When these stocks go up $3 to $5 a day, something dramatic is surely happening.
Let’s assume that the industrial stocks are indeed on a tear. Should you dump growth stocks and put every penny into industrial issues?
No way. Most growth stocks still are going to reward you over the long-term, because their earnings growth is fairly well assured, as the label implies. Drug firm Bristol-Myers, for example, on Thursday reported fourth-quarter earnings up 21% from a year ago. Meanwhile, Alcoa this week reported fourth-quarter earnings down 81%.
The reason to have some investment in industrial stocks today is because their earnings could surge as the economy consumes more aluminum, more steel, more washing machines, and so forth. But that’s still only a hope.
What’s more, you’re really looking out to 1993 for healthy earnings growth that would justify industrial stock prices: If you buy based on what analysts expect the firms to earn in 1992 alone, you’re paying price-to-earnings ratios of 15 to 25 for many of these stocks. Those are higher-than-average “P-E” ratios for industrial stocks (the average stock’s P-E now is 17), even though they’re low compared to growth stocks.
Peter Anderson, money manager with Federated Investors in Pittsburgh and a longtime fan of industrial stocks, admits that “it’s going to take some time for the earnings to show up for these companies,” even if a healthy economic recovery is under way. “You’ve got to be careful” with these stocks, he warns.
But if you don’t have at least some of your portfolio in this group, you risk missing big profits when the recovery finally arrives. For small investors, the simplest way to buy into the industrial stocks is via mutual funds that target them. Major fund firms such as Fidelity in Boston, (800) 544-8888, Vanguard Group in Valley Forge, Pa., (800) 662-7447, T. Rowe Price Associates in Baltimore, (800) 638-5660, and Babson Group in Kansas City, Mo., (800) 422-2766, can guide you to their funds that are heavily invested in industrials.
Industrial Stocks Soar
Investors have jumped head-first into industrial stocks this week, betting that the companies will see their earnings jump if the economy recovers this year.
Mon.-Thurs. Thurs. 1992 Stock change close P-E* Alcoa +5 1/4 $68 15 Bethlehem Steel +3 3/4 17 20 Caterpillar +4 47 1/8 26 Deere +3 7/8 51 23 General Electric +3 1/2 78 14 Illinois Tool +4 70 18 Ingersoll-Rand +4 1/8 58 3/8 16 Intl. Paper +3 72 3/4 14 Phelps-Dodge +7 3/4 73 9 S&P; 500 +3.11 418.21 17
* 1992 P-E is stock’s current price divided by estimated 1992 earnings per share.
Source: Zacks Investment Research
