Economies everywhere seem to be slowing or stalled, giving investors little to choose from. So where, exactly, can you look for growth? Here are some ideas.
Find me some growth! Please! Anywhere in the world.
Europe isn’t growing—and the weaker economies are locked into austerity budget cuts. The US isn’t growing—unless you call 1.3% annual growth in the second quarter “growth”—and the budget cuts in the debt-ceiling deal sure aren’t going to accelerate this economy.
India is slowing. Brazil is slowing. Even China may be slowing.
Is it any wonder that the stock market is in a deep, deep funk?
Sure, stocks are reasonably priced—or even cheap—by historical standards. But that assumes something like normal economic growth. Do you see it? Anywhere?
What’s an investor to do? Well, I’m going to offer you ten stocks that I think can still give you some earnings and revenue growth even in this slow global economy.
But let’s start with a quick survey of the growth—or lack thereof—landscape.
The US Is Stalled
I might as well begin with the United States, since the numbers are fresh in my mind. Second-quarter economic growth came in at just a 1.3% annualized rate. In the first quarter, growth was running at only 0.4%. That put first-half 2011 growth below 1%.
And hopes that the slow first half was just a soft patch caused by disruptions in the global supply chain as a result of the Japanese earthquake and tsunami have started to fade.
The Institute for Supply Management survey put the manufacturing sector, the sector that led the economy during the first stages of the recovery, close to slipping into negative growth, with a reading of 50.9. The 50 level separates growth from no growth.
On August 2, consumer spending data showed a 0.2% drop in June. That is worrisome, because actual spending fell even though consumer incomes inched upward. That combination can signal a loss of confidence in the economy, which leads consumers to spend less in preparation for tougher economic times.
Oh, and don’t forget the debt-ceiling package itself. Granted, the budget cuts are very back-end loaded—meaning the pain is delayed for years and years—but the country is still looking at $21 billion in reduced government spending in the fiscal year that starts in October. Whatever good cutting the US deficit will do in the long run, reducing government spending sure won’t add to economic activity in the short run.
And then there’s the cost imposed on the US economy by what the debt-ceiling deal didn’t do. Because the package isn’t the kind of credible, long-term deficit-reduction plan that the credit-rating companies were looking for, the United States still faces a good chance of getting downgraded from AAA in the fall.
That would bring higher interest rates—unless the rest of the world is so horrible that the United States looks like a safe haven in comparison. Projections are that the higher rates triggered by a downgrade could knock 0.4 percentage points off US growth—and that’s a big deal when your economy is growing at just 1.3%.
NEXT: Growth Around the World?
|pagebreak|Growth Around the World?
What country (or countries) will pull the global economic train if the US can’t?
Japan? Puh-leeze. The Organization for Economic Cooperation and Development put Japan's economy in another recession last time it did a survey, with the economy shrinking an additional 0.9% in 2011.
Europe? Well, the last time the OECD did its projections, it forecast 2% growth for the countries in the Eurozone. But that was before the second Greek rescue package proved a bust in building confidence, and before European exporters—the region’s strongest economies—reported slowing growth due to more-expensive currencies.
(Europe’s weakest economies are shrinking or eking out 1% growth as budget austerity programs bite. If you want to consider a scary prospect, think about the need for budget cuts in France to reduce that country’s deficit.)
Think about this ratio: If the OECD projected 2% growth for the Eurozone when it was projecting 2.6% growth for the United States, what would it project in updated figures if projected US growth dropped to 1.5% for the year? (The answer is 1.2% growth.)
But there’s always the developing world, right? Certainly, growth in these economies is stronger than in the world’s developed economies. However, growth rates have been dropping.
India just cut its forecast, for the fiscal year that ends in March 2012, to 8.2% from 9%. With the Reserve Bank of India still committed to raising interest rates to fight inflation, I think that projection is headed lower.
Same story in Brazil, where inflation is forecast to end 2011 at 6.3%, above the government’s target of 4.5% (plus or minus 2 percentage points), and to retreat only slightly, to 5.3%, in 2012.
And this is despite increases in its benchmark Selic interest rate to 12.5%, with economists projecting a rate of 12.75% by the end of the year. (Rates are expected to decline only slightly in 2012, to 12.5% by the end of that year.)
You can imagine what punishment a 12.5% interest rate is handing out, even in Brazil, where double-digit interest rates are the norm rather than the exception. Economists project that the economy will slow to a 4.5% growth rate, according to a Bloomberg survey, from 7.5% growth in 2010.
Now, there’s nothing wrong with 4.5% growth. Economies in the developed world would sell their souls for that kind of growth. But 4.5% growth is a problem for stocks if investors had been expecting 7.5%. That’s one reason Brazilian stocks are in a bear market.
And it’s the big worry about China. Growth in China peaked at an annual rate of 11.9%—a rate no one thought was sustainable or healthy—in the first quarter of 2010.
Growth in the first quarter of 2011 was at an annualized 9.7%; it dropped to 9.5% in the second quarter. The World Bank is projecting 9.3% growth in China for all of 2011.
But no one really knows, because no one is sure how hard China will step on the brakes to control inflation, which climbed to 6.4% in June. That month, food prices climbed at an annual rate of 14.4%.
If China continues to raise interest rates and bank reserve requirements, will Beijing stop with one or two more increases—and will that be enough to tame inflation? Or will the government risk pushing growth lower to get inflation under control?
This answer to this wouldn’t be nearly as important if demand from China didn’t set the margin price for so many things—such as copper, fertilizer, and soybeans.
NEXT: Finding Stocks for a Low-Growth Economy
|pagebreak|Finding Stocks for a Low-Growth Economy
OK, that’s the backdrop. Now, how—concretely—do you approach stocks in a low-growth global economy?
1. Go for the pockets of high growth that look likely to hold up in this environment, that aren’t highly leveraged to global demand, and that aren’t horrendously overpriced in comparison to their growth rates.
Chinese Internet stocks, volatile as they are, fill this niche. Go for market leaders such as Baidu (BIDU) and Tencent Holdings (which trades as 700.HK in Hong Kong), In the United States, Apple (AAPL) fits the bill.
2. Look for individual companies with products that are needed by long-time-horizon industries and that are in short supply. Customers will be reluctant to cut orders too steeply if they know that, once they’ve stepped out of line, they won’t be able to get the supplies they need.
Mining equipment is one example, and I’d look at stocks such as Joy Global (JOYG) and Titan International (TWI).
3. Look for companies that make products that raise profits, sales, and market share at other companies. There are a number of these in the auto sector, where auto suppliers selling components that save gasoline—yet still provide the power that drivers want in their driving experience—are hot commodities.
Here I’d look at makers of turbochargers such as Borg Warner (BWA) and producers of stop-and-go transmissions such as Johnson Controls (JCI)
4. In tough economies, investors have long looked to companies that sell low-priced consumer goods and services. McDonald’s (MCD) does well in downturns, for example, because consumers still looking to eat out find the company’s offerings at an attractive price point.
In this global economy, I’d find similar companies—with the twist that they’re doing business in faster-growing developing economies rather than in the developed world. So instead of McDonald’s, I’d look at Arcos Dorados (ARCO), the largest McDonald’s franchisor in Latin America, or at Yum! Brands (YUM), which has hitched its KFC and Pizza Hut brands to growth in China and the rest of Asia.
5. And finally I’d add a few growth stocks that have been beaten down and then beaten down some more, but where the longer-term growth story is intact. These will require patience, and the key is to get them cheap enough so that you can hold onto them for a year or more.
One example that comes to mind is Brazilian airline Gol Linhas Aereas Inteligentes (GOL). Shares traded at $14.14 on April 29, but closed at $7.08 on August 3. The causes:
- The general bear market in Brazilian stocks;
- the effect of higher prices of fuel;
- and increased competition in the Brazilian market, which has put pressure on prices.
The company cut its forecast for EBIT (earnings before interest and taxes) margins for 2011 to 4%, from 10% on July 27. But take a look at the price now: Credit Suisse cut its price target to $10.20 from $17.21 after the margin news. However, the stock now trades well below even that lower target price.
I own most of these stocks (Apple, Baidu, Tencent, Gol, Arcos Dorados, Joy Global, Borg Warner, Johnson Controls and Titan International; I’m not counting McDonald’s as a recommendation, but as an example) in Jubak’s Picks and my other portfolios. But I recognize that they aren’t the only way to tackle the current low-growth climate.
For example, low growth—even with all the bad debt and bad-debt scares floating around—means that you can take interest-rate risk in developed economies off your list of worries. I think that makes dividend stocks that pay above the skimpy yields offered by government bonds a very attractive part of this mix.
I’ll take a look at some picks in that sector in my next column, and I’ll update my Dividend Income portfolio too.
