Finding Strong Stocks Among Weak

What’s old is working again on Wall Street.

Companies with good old-fashioned fundamentals such as substantial--and rising--earnings and reasonable valuations are the stars of this year’s market, while many former highfliers have plunged.

In the Dow Jones industrial average, that means the leaders are stocks like Boeing and Philip Morris--not Microsoft and Intel.

To find blue-chip stocks that might be worth buying in this new environment, The Times screened the online database of Zacks Investment Research (https://www.zacks.com) last week and came up with 20 prospects that met some basic growth requirements, plus a key value requirement.

Perhaps surprisingly, six of the stocks are in the tech sector. But because some investors may be more than a little nervous about technology in light of the sector’s deep slide since spring--even as others may be looking to bottom-fish--we divided the stocks into two groups.

The “Anything but Tech” portfolio, with 14 names, is a hodgepodge that includes three energy stocks, three companies in the hotel field and two health-care firms.

The six tech and telecom names that made our screen are listed separately in the accompanying chart. They are mostly tech equipment makers of one type or another whose stocks have fallen sharply from their 2000 peaks.

To get this list of 20 stocks, we screened issues in the blue-chip Standard & Poor’s 500 index that had, as of Wednesday:

* A “Zacks Rating” of 2 or better. These ratings estimate expected price performance over the next three to six months, according to Chicago-based Zacks.

The scores, ranging from 1 (“strong buy”) to 5 (“strong sell”), are based on a proprietary Zacks ranking system that measures recent company earnings surprises and changes in Wall Street analysts’ earnings estimates. This cut-off pared the S&P; to 157 stocks.

* A “PEG” ratio of 1.5 or less. This is a simple way to look at a company’s growth and value characteristics in tandem.

To calculate a PEG, you divide a stock’s price-to-earnings ratio for the current fiscal year by the company’s annualized rate of expected profit growth over the next three to five years, as projected by analysts. With PEGs, lower is supposedly better, as it may signal strong growth at a relatively cheap stock price.

Our PEG cutoff winnowed the list to 58 names.

* Annualized per-share earnings growth expectations averaging 15% or better over the next three to five years, as projected by analysts. Twenty-seven stocks were left after applying this screen.

* Rising, or at least flat, share prices in the previous calendar week, to try to weed out stocks moving in the wrong direction for whatever reason.

That left us with 20 names.

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None of these stocks comes with any guarantees, of course. Just because a stock looks reasonably priced doesn’t mean it will rise in the near term.

Also note that a low PEG ratio may be a result of what will turn out to be overly optimistic earnings growth forecasts by analysts. Still, you could question earnings growth forecasts for practically any stock.

Digging into the stocks that survived our screen, the three energy issues are Anadarko Petroleum (ticker symbol: APC), Apache (APA) and Devon Energy (DVN). All three explore for, and produce, oil and natural gas, though they are much smaller players than giants such as, say, Exxon Mobil.

Deutsche Banc Alex. Brown recently initiated coverage of Houston-based Anadarko with a “strong buy” rating, noting the company’s growing activity in oil and gas exploration at home and abroad.

Anadarko’s “growth trajectory on virtually any performance measure should outpace that of its peers against a backdrop of surging natural gas and oil prices,” the firm’s analysts wrote in their report.

Though the stock is up 99% this year, its “valuation has yet to reflect the realities of Anadarko’s potential,” Deutsche Banc said. The stock trades at an estimated P/E of 17 based on profit projections for this year, but its earnings are expected to rise an annualized 16% longer-term.

Shares of Houston-based Apache are up 71% this year, and Oklahoma City-based Devon Energy is up 64%.

All three firms, of course, are susceptible to a collapse in energy prices. Such a turn is always a concern with commodity-based stocks.

The good news: Analysts don’t expect oil and gas prices to plunge any time soon. The risk: Analysts are rarely known for being ahead of the curve.

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Though hotel stocks have not been as hot as the energy group, they have done well in 2000 relative to broad market indexes. Bethesda, Md.-based Marriott International (MAR) is up 28%; Las Vegas-based Harrah’s Entertainment (HET), which operates casino-hotels and riverboat gambling facilities, is up 6%; and White Plains, N.Y.-based Starwood Hotels & Resorts Worldwide (HOT) has lived up to its ticker symbol, rising 41%.

Starwood, which operates the Sheraton, Westin and other chains, was recently added to the S&P; 500, which gave it a boost. Stocks that join the key barometer usually get a bump, as index funds that track the S&P; must buy them.

Hotels have benefited from rising occupancy rates in a strong economy. To bet on these stocks, then, you also have to believe the hotel business will weather the economic slowdown without a plunge in occupancy.

Health-care stocks have been among the market’s biggest winners this year, with the S&P; HMO-stock index up 62%.

The HMO industry has gained as many of the companies have controlled costs while raising premiums that business clients pay for employees’ health care.

Shares of Thousand Oaks-based WellPoint Health Networks (WLP) are up 42% this year, despite a pullback in recent weeks. According to Zacks, analysts expect WellPoint’s earnings growth to top 15% a year for the next five years.

Another big health-care winner that made our screen: Dublin, Ohio-based Cardinal Health (CAH), which distributes drugs and other medical products. The stock is up 111% this year.

In part, health-care stocks are a bet on George W. Bush becoming president, because his health policies are considered friendlier to industry companies than Vice President Al Gore’s. What’s more, health care is considered relatively recession-proof in case the economy tanks. The question now is whether those factors have already been priced into the stocks.

A major economic slowdown could trip up housing stocks such as Los Angeles-based Kaufman & Broad Home (KBH), which is trading near its 52-week high. Yet its P/E is only 8, and earnings are expected to grow an annualized 16%, according to analysts.

Several other stocks on our list have also been strong performers, though valuations remain within reason, especially considering their PEG ratios. Among them: Atlanta-based Equifax (EFX), which provides commercial services such as transaction processing, is up 43% this year; Cincinnati-based supermarket chain Kroger (KR) is up 41%; and Bermuda-based Tyco International (TYC), a conglomerate whose products include fire-protection systems, is up 44%.

But Memphis, Tenn.-based AutoZone (AZO), which sells automotive parts to the do-it-yourselfer, has seen its shares fall 15% this year, and the company recently guided earnings estimates slightly downward for the current quarter. Even so, the stock’s P/E remains a low 12, and annualized long-term earnings growth expectations are about 16%.

Also, AutoZone Chairman Johnston Adams and other insiders have bought shares this fall, according to the Washington Service, which tracks such transactions.

One gold miner made our screen: Canada’s Placer Dome (PDG), the world’s fifth-biggest gold producer. Gold’s price has remained depressed this year, but the miners’ stocks have recently gotten a lift. Does the market know something that metal traders don’t yet know?

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For investors still willing to consider tech names, our screen’s tech and telecom portfolio includes telecom equipment makers Tellabs (TLAB) and Andrew Corp. (ANDW), chip equipment makers KLA-Tencor (KLAC) and Analog Devices (ADI), circuit board maker Sanmina (SANM), and Agilent Technologies (A), which makes electronics measurement systems.

Orland Park, Ill.-based Andrew, which supplies coaxial cable and other products to the wireless communications industry, has fallen by about half from its June peak. But the stock has been unfairly convicted by association, said Josephthal & Co. analyst Lawrence Harris, who recently upgraded Andrew to “buy” from “hold.”

“The stock has pulled back due to concerns in the telecom space over carrier spending and the overall revaluation of technology stocks,” he said. “But Andrew is doing well no matter how you look at it: sales, cash flow, order growth. There is no real sign of a slowdown in wireless infrastructure spending, particularly in North America.”

China, where Andrew has a new factory, is a potentially lucrative market for the firm, he added.

Shares of Tellabs of Lisle, Ill., have a steep estimated P/E of 33, but annualized earnings growth expectations to nearly match: 29%.

Palo Alto-based Agilent, down 35% this year, has been hurt by fears of a slowdown in telecom and semiconductor capital spending next year, Morningstar analyst Jay Ritter noted in a recent report. “While these concerns aren’t totally unfounded, we think the sell-off has been overdone,” he said.

Norwood, Mass.-based Analog Devices reported strong results for the quarter ended Oct. 28, buoyed by brisk sales to foreign telecom firms, and analysts expect solid profit growth next year as well. The stock is still up 20% in 2000.

San Jose-based KLA-Tencor, down 68% from its April high, is a poster child for the volatile chip group. But with a P/E of 14 and annual earnings growth expectations of 25%, the stock might be poised for recovery if and when the cyclical industry comes around.

Finally, Sanmina has surged 86% this year and sports a lofty estimated P/E of 34, so the stock could be vulnerable if the San Jose-based company stumbles.

Then again, if long-term earnings grow 33% a year as expected, it could be a bargain for bottom-fishers now. The stock has fallen from a 52-week high of $121.

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Times staff writer Josh Friedman can be reached at josh.friedman@latimes.com.

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Stocks With a Fundamental PEG

A stock screen for blue-chip companies with sound fundamentals turned up these 20 ideas--14 outside the technology sector and six within tech. The screen looked for members of the Standard & Poor’s 500 index with low “PEG” ratios--defined as a company’s price-to-earnings ratio for the current fiscal year divided by the annualized rate of expected profit growth over the next three to five years--as well as several other criteria. As with any screen, investors should do their own research before making any decisions.

The ‘Anything but Tech’ Portfolio

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Ticker Monday P/E PEG Stock symbol close ratio* ratio* Kaufman & Broad Home KBH $32.38 8 0.5 Apache APA 63.06 12 0.6 AutoZone AZO 27.31 12 0.7 Devon Energy DVN 54.00 11 0.8 Tyco International TYC 56.13 21 0.9 Anadarko Petroleum APC 67.77 17 1.1 Harrah’s Entertainment HET 28.13 17 1.1 Starwood Hotels & Resorts HOT 33.13 17 1.1 Equifax EFX 33.75 20 1.2 Kroger KR 26.69 20 1.2 WellPoint Health Networks WLP 93.50 18 1.2 Marriott International MAR 40.31 21 1.3 Cardinal Health CAH 101.13 33 1.5 Placer Dome PDG 9.50 24 1.5

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The Tech and Telecom Portfolio

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Ticker Monday P/E PEG Stock symbol close ratio* ratio* KLA-Tencor KLAC $31.25 14 0.5 Analog Devices ADI 55.63 22 0.8 Andrew ANDW 20.31 16 0.9 Agilent Technologies A 50.50 23 1.1 Sanmina SANM 93.06 34 1.1 Tellabs TLAB 54.44 33 1.1 S&P; 500 index 1,348.97 24 1.8

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* P/E and PEG figures based on estimates for each company’s current fiscal year, which may end as early as Nov. 30, 2000, or as late as Oct. 31, 2001

Sources: Zacks Investment Research, Bloomberg News