Themes for the Long Haul
Patience is no virtue for many Wall Street players. If they can’t make money on an investment in a few days, or weeks at most, they’re out.
That style doesn’t suit individual investors who have to live in the real world, where there are children to dress for school and dogs to walk. Most people would prefer to be long-term investors; it’s less time-consuming day to day, and as a strategy it has acquitted itself well over the decades.
The challenge, of course, is finding investments that you’d truly be comfortable holding for a minimum period of several years -- and then holding them through the inevitably bumpy ride.
Imagine you’re back in late December 2000. For whatever reason, you decide that commodities like copper, gold and iron ore could be a great business in the new decade. You discover global mining firm Rio Tinto, which then is selling for $72 a share. You buy it.
Today, the stock is worth nearly $199 a share. You’re up 176%, compared with a price decline of 1.3% for the Standard & Poor’s 500 stock index in the same period.
But along the way, you would have had to contend with several sell-offs in Rio Tinto, including one in 2004 that took the stock down nearly 25% over three months. Your patience would have been severely tested, yet the reward for staying the course would have been bountiful.
It may seem elementary to say, “Look for good long-term investments,” but the elementary often is what investors forget at times when markets are caught up with very short-term concerns -- such as, will the Federal Reserve stop raising its benchmark interest rate at 5% or at 5.25%? (As if, four or five years from now, that will have mattered at all.)
Where would you bet today if you were looking for substantial returns not in a week or a month, but by, say, 2010?
What follows are three investment themes that may have places in a diversified portfolio. They aren’t right for everyone, obviously, but the ideas may at least help focus you on industry and economic trends that have the potential to generate hefty gains in the long run:
* Robert Hagstrom, manager of the Baltimore-based Legg Mason Growth Trust stock mutual fund, believes that the greatest growth story of this decade is so obvious, many investors may be looking past it. He’s talking about the Internet sector.
Google Inc. had its own mania last year, but the stock has fallen 22% from its record high in January, to $365.80 on Friday. Year to date, Amazon.com Inc. is down 25% and EBay Inc. is down 14%. And this, in an otherwise rising stock market.
Hagstrom owns all three of those Net giants in his fund, as well as Yahoo Inc., Expedia Inc. and IAC/InterActive Corp.
He is amazed that other investors don’t see what he sees, looking out the next few years.
“I can’t think of anything that adds more upside than the Internet,” Hagstrom says. “To me, that’s the slam-dunk growth idea.”
His optimism is rooted in the assumption that the use of the Internet for entertainment, information and commerce still is in a relatively early phase.
The difference between now and the peak of the Net stock craze in 2000, Hagstrom reminds, is that the field of major players has narrowed significantly. And those remaining players, he says, are profitable, dominant franchises.
“Unlike in 2000, it’s not just counting eyeballs [on websites], it’s counting cash flow and real dollars,” he said of the large Net companies.
What’s more, he believes that the potential for smaller rivals to displace the Net giants in their niches is limited, because of the brand recognition the leaders enjoy and the resources they can bring to bear in innovation.
“In this business, the barriers to entry are very low, but the barriers to success are very high,” Hagstrom asserts.
His $600-million fund benefited from the huge rebound in Net stocks in 2003. Since then, however, the portfolio has lagged behind the S&P; 500. It is down 1.2% year to date, but over the last five years it was up 10.6% a year, on average, compared with 4.4% for the S&P; index.
As for the prices of Net stocks relative to current earnings, Hagstrom says long-term investors shouldn’t be afraid to pay up for true growth stocks. EBay is priced at 36 times 2006 estimated earnings per share; Google is priced at 41 times.
All great growth stocks, Hagstrom says, “are disparaged as being overpriced,” except in retrospect.
* Investors who can’t stand paying high price-to-earnings multiples might appreciate Doug Sandler’s idea of a compelling growth stock sector: investment banking and brokerage.
Like the Internet giants, the top investment banking firms essentially are middlemen. They make money by finding something their clients want -- investments, merger partners, more capital, etc.
Sandler, chief equity strategist at Wachovia Securities in Richmond, Va., sees bankers such as Goldman Sachs Group Inc. as being in a great position to capitalize on the ongoing business globalization wave.
Corporate mergers often don’t work out as either the acquirer or the target hoped, Sandler notes. But the one constant, he says, is that the investment bankers always get paid.
And unlike industries that face high costs to develop new products to boost sales, “bankers don’t have to spend $4 billion a year on R&D;,” Sandler says.
That may be true, but firms like Goldman, Bear Stearns Cos. and Lehman Bros. Holdings Inc. also are at the mercy of financial markets’ swings. If stock trading dives, for example, so will their revenue, and probably their share prices.
That volatility risk is why investors typically pay so little for the stocks, relatively speaking, compared with earnings per share. The bankers’ price-to-earnings ratios generally are between 10 and 12 based on estimated 2006 earnings.
The stocks have been riding a wave of investor interest over the last year in particular; Goldman shares are up 40% in that period, which may give even some long-term investors pause. If so, this could be a good business to put on a “buy when it drops” list.
An easy way to hold a collection of the stocks, Sandler says, is via an exchange-traded fund called the StreetTracks KBW Capital Markets fund (ticker symbol: KCE). It owns shares of leading investment bankers as well as some mutual fund companies and discount brokerages. The fund is up 8.1% this year.
* If you believe that the globalization of markets and investing is permanent, there’s another interesting way to play it: the bonds of emerging-market countries such as Brazil, Mexico and Russia.
As the fortunes of many emerging-market nations have improved in this decade, their stocks have been hot investments, and so too their bonds.
The result is that these countries, which a few years ago paid double-digit annualized yields to borrow, now pay far less, although still more than what’s available on U.S. bonds.
Brazil this month sold 31-year dollar-denominated bonds at an annualized yield of 6.8%, or about 2.1 percentage points more than what the U.S. Treasury pays to borrow via 30-year bonds.
One camp on Wall Street sees emerging-market bonds as too risky now -- not enough yield to compensate for what might go wrong politically or economically in those countries.
Art Steinmetz, manager of the Oppenheimer Strategic Income bond fund in New York, takes a different view. He says emerging-market bond yields may still be in a long-term decline as those economies expand and as their finances strengthen.
“It strikes me as similar to the U.S. situation in the early 1980s,” Steinmetz says of many emerging markets. U.S. inflation was tumbling in the early ‘80s and the economy was improving, but investors still demanded double-digit yields on long-term Treasury bonds for most of the first half of that decade. They didn’t believe things had taken a sustainable turn for the better.
It was, in hindsight, a great time to be buying bonds. As yields on new bonds fall, older fixed-rate securities appreciate in value.
Steinmetz said his $6.8-billion fund has about 30% of its assets in emerging-market bonds. About half of the assets are in U.S. fixed-income securities, which could be a buffer, or a drag, on the portfolio over time, depending on what happens with U.S. interest rates.
Investors who want funds that own only emerging-market bonds will find plenty available from major fund companies.
(For a list, and performance data, go to mutual fund tracker Morningstar Inc.’s website at www.morningstar.com and click on the “funds” tab. Then, on the right, click on “category returns,” then on the “emerging markets bond” category.)
In the late 1990s, there was a reasonable argument that emerging-market bonds, and foreign bonds in general, were too exotic for small investors. But if you believe that the global economy is in the midst of a long-term wealth shift to the benefit of emerging-market countries, their bonds make as much sense as their stocks as elements in a diversified portfolio.
Tom Petruno can be reached at tom.petruno@latimes.com. For recent columns on the Web, visit www.latimes.com/petruno.
