Reliable Blue Chips Still Seen as Best Bet
Some people are already calling 1999 the long-awaited Year of the Small-Cap--when smaller stocks finally take the market lead and keep it.
Not Stuart Freeman, chief equity strategist at St. Louis-based brokerage A.G. Edwards, which was recently named the best full-service brokerage overall, and for stock picking, in an analysis by Smart Money magazine.
“We’ve been looking primarily at large-caps the last three years--and that should continue--at least through the fall,” Freeman said.
The blue-chip Standard & Poor’s 500 stock index is up 19.8% in price year-to-date, while the small-stock Russell 2,000 index is down 10.9%.
“With the perception that we’re in a mature market cycle, it’s hard to see large investors turning to smaller, less-liquid issues” in the near future, Freeman said.
Along with their liquidity, Freeman likes the steady earnings growth that many large blue-chip stocks still boast.
But nodding to the recent earnings shortfall announcements even from some big-name companies, Freeman expects that while large stocks will continue to dominate, investors will need to be increasingly selective in their stock picking to make money next year.
“Fewer industry groups will be driving the market--expect less breadth of earnings growth,” he said.
The Times asked Freeman for his top stock picks for 1999, and he named three well-known consumer-stock names, zeroing in on industry sectors relatively immune from economic cycles.
His selections all carry premium price-to-earnings valuations compared with the broad market, but Freeman says their reliable profits make them good bets regardless.
His choices:
* Schering-Plough (ticker symbol: SGP, $54.25 Tuesday on the New York Stock Exchange). “Health care in general is one of the strongest places to be. [Schering’s] unit sales volume is growing at a high rate, even if you don’t include price increases. And the lower dollar helps overseas. We look for 17% earnings-per-share growth in 1999 and 2000, compared with 7% to 8% for the S&P; as a whole.”
* Wal-Mart Stores (WMT, $76.81 on NYSE): “The company has rekindled its growth rate in the last few years. The superstores are building up share in the supermarket business, and the Sam’s Club stores are picking up share in the discount business. Even if the economy goes bad, consumers can downstream to discount retailers.
“We look for 13%-to-15% earnings-per-share growth over the next few years. It’s at the forefront of the market and investors are willing to pay for that consistency.”
* PepsiCo (PEP, $38.19 on NYSE): “It has a lot of excess cash flow [from recently restructuring and spinning off its restaurants] to invest in the international business, and it’s been buying back stock, which should help with the earnings-per-share side [by reducing the number of shares outstanding].
“We look for serious growth in the Frito-Lay side of the business. And although the overseas business is much smaller than Coke’s, the weaker dollar will be of some moderate benefit.”
Fund Analyst Senses a Capital Opportunity
How’s this for being contrarian:
Chicago-based mutual fund tracker Morningstar Inc. is known for its “star” ratings--so you might not expect Russel Kinnel, the company’s chief equity fund analyst, to praise a fund rated just “one star” out of a possible five.
But when The Times asked Kinnel for his top fund pick for next year, that’s exactly what he did--singling out Vanguard Capital Opportunity, a bottom-rung-rated mid-cap stock fund.
“It’s got great management and low expenses. What else do you need? The fund itself actually has a lousy record because the current managers only took over this year,” he said. That accounts for the one-star rating, since Morningstar’s rating system looks back, not ahead.
But “if you want to see how they [the new managers] have done over the long haul, check out the record of Vanguard Primecap [another fund they manage].”
Howard Schow, Theo Kolokotrones and Joel Fried, the Pasadena-based managers of Primecap and now the managers of the Vanguard Capital Opportunity fund, have earned stellar returns in the 1990s with Primecap, in part by betting big on what had been unloved tech stocks in the 1980s.
As Kinnel puts it, “The managers are mild-mannered contrarians, meaning they look for beat-up growth stocks.” And they’re patient: They like to buy and hold.
As of Sept. 30, the $156-million Capital Opportunity fund had Adobe Systems (ADBE, $40.63, Nasdaq), Micron Technology (MU, $47.31, NYSE) and Harmonic Lightwaves (HLIT, $14.13, Nasdaq) among its top holdings.
Mutual fund companies like to say that past performance is no guarantee of future results. Vanguard Capital Opportunity is in the process of proving that true by turning things around: After losing 7.9% in 1997 compared with the average mid-cap growth fund’s gain of 15.7%, according to Morningstar, the fund is up about 21% this year, compared with its peers’ average gain of 5.2%.
