MARKET BEAT / TOM PETRUNO : Penny-Pinching Squeezes Growth Stocks
A spring rebound in Wall Street’s classic “growth” stocks has apparently run its course, giving way to another round of merciless selling in these once sacrosanct issues.
Over the past two weeks, casino and steakhouse stocks--two of the market’s few remaining hopes for high-flying growth--have cracked under the weight of disappointing earnings projections.
And on Friday, growth-stock fans were hit by two new bombs:
* Drug stocks, beaten for the last 18 months, plunged again after Kidder, Peabody & Co. analyst Stephen Buell warned that the industry’s annual earnings growth rate is likely to be a mere 3% to 5% through 1997. Buell had previously estimated earnings growth of about 9% a year for the industry.
Among the worst hit drug stocks on Friday were Merck & Co., which fell $1.625 to $37, a 4.2% loss; and Johnson & Johnson, which plunged 6.3%, off $2.875 to $42.875.
* After the market closed, athletic shoe leader Nike Inc. warned that weakening U.S. and international sales mean earnings for the next 12 months will be “significantly below” consensus expectations of about $5.50 a share.
In after-hours trading Friday, Nike stock plummeted $4.875 to $62 as stunned investors unloaded the shares.
For a while this spring, it appeared that many of the great consumer-growth names of the 1980s were back in vogue, after a severe selloff that began early in 1992 and stretched through the early part of this year.
The stocks’ long declines had been fueled by the generally correct perception that the dependable 15% to 20% annual earnings gains produced by most of these companies in the 1980s were out the window. In a slow-growing global economy where consumer penny-pinching has become de rigueur , the pricing power of the brand-name giants has faded markedly.
But in May, buyers began to nibble at the stocks again, apparently betting that the earnings outlook couldn’t get much worse.
Merck, for example, rebounded from a spring low of $33 to as high as $39.375 in May. Trendy clothes retailer Gap Inc. surged from $28.625 early in May to $34.875 by the end of the month.
With the bad news of the last two weeks, however, affection for the growth stocks is again evaporating. As well it should, argues Robert W. Gay, analyst at Donaldson, Lufkin & Jenrette Securities in New York.
The consumer stocks, Gay says, have become “value traps.” They’re tempting because their prices relative to 1992 earnings per share appear cheap. Paying 15 times earnings for a consumer giant, for example, seems like a bargain.
Yet as sales growth continues to slow and earnings expectations ratchet even lower, “cheap” stocks tend to get a lot cheaper, Gay says. “A low price-to-earnings ratio will not keep a stock from under-performing if earnings growth is falling,” he warns.
That’s especially true where a company’s growth rate and profit margins had been extraordinarily high, Gay notes. The higher the cliff, the longer the fall.
A.C. Moore, investment strategist at Argus Investment Management in Santa Barbara, figures that even after the consumer stocks’ frightening declines over the past 18 months, there still are many analysts and long-time investors who have refused to give up on the shares.
Ironically, that may be more a negative than a positive for the stocks now, he says.
Given the consumer stocks’ dramatic rise through the 1980s, owning them was like religion, Moore notes. It’s hard to stop believing. But with each additional round of bad news, another contingent of those long-time investors “begins looking at the glass as half-empty rather than half-full,” Moore says. So the selling starts up again, and the stocks fall further. That’s the curse of having been too popular.
What’s worse for classic growth-stock investors is that they’re running out of new concepts to latch onto. Until recently, riverboat casinos and steakhouse chains were among the last consumer-growth industries promising stellar sales and earnings gains in an otherwise sluggish economy.
But last week, Atlanta-based Longhorn Steaks said rising food costs and slowing sales at its restaurants would mean a 25% shortfall in expected earnings this quarter. The stock, $25.50 not long ago, has collapsed to $10.625, casting a pall over other steakhouse stocks as well.
The riverboat casino stocks, meanwhile, plummeted on Friday after Louisiana turned down two of the companies for gaming licenses--perhaps signaling a slowdown in the headlong rush into heartland gaming ventures.
Presidential Riverboat, one of the Louisiana rejectees, saw its shares dive $12.625 to $31.25 on Friday, a 29% loss.
At some point, of course, the consumer stocks will bottom. But some market veterans contend that we’re a long way from the end of the selling, at least among the giant drug, food and consumer-products growth companies that dominated the stock market in the ‘80s.
The shifts out of these stocks are “megatrends,” argues Stefan Abrams, investment strategist at Trust Co. of the West in Los Angeles. And megatrends, he notes, “last for years.”
In place of the old consumer leaders, the new market kings clearly are the industrial companies whose livelihoods depend on business spending rather than consumer spending, Abrams says.
The companies that provide goods or services to make businesses and nations more efficient--better technology, better transportation and communications systems, cheaper energy--are the stocks to own, Abrams says, because those are the companies that have pricing power in the ‘90s.
Perhaps not by coincidence, while the growth stocks were sinking on Friday, the market winners were largely industrial names: Reynolds Metals, up $1.125 to $45.625; Deere, up 62.5 cents to $65.375; machine-tool maker Cincinnati Milacron, up $1.625 to $24.25.
If you’ve been conditioned to buy stocks only when they decline, buy the industrials on market dips, Abrams advises.
They may plunge with the rest of the market when panic strikes, but unlike the consumer stocks, the industrials are likely to come roaring back.
“Their leadership will not be relinquished for years to come,” Abrams predicts.
Blue Days for Growth Stocks
M any of the leading consumer-product growth stocks of the 1980s continue to be hammered by bad news and falling earnings expectations. How some of the stocks have fared:
1992 1993 Fri. Pct. change: Stock high high close 1992 1993 Coca-Cola 45 3/8 44 1/8 41 1/2 +4% -1% Gap Inc. 59 3/8 37 1/2 31 1/2 -38 -5 Gillette 61 1/4 61 3/8 49 +1 -14 Merck 56 5/8 44 1/8 37 -22 -15 Johnson & Johnson 58 3/4 50 3/8 42 7/8 -12 -15 Eli Lilly 87 3/4 62 49 1/2 -27 -19 Kellogg Co. 75 3/8 67 7/8 53 5/8 +3 -20 Wal-Mart 33 34 1/8 25 1/8 -9 -21 Nike Inc. 90 1/4 89 1/4 62 +15 -25 Tambrands 70 1/2 65 40 1/8 -4 -37 Philip Morris 86 5/8 77 5/8 48 1/4 -4 -37 Borden Inc. 34 7/8 29 1/8 18 1/8 -12 -37 S&P; 500 441 456 444 +5 +2
Note: All stocks trade on NYSE
Source: Reuters
