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Battipaglia: Ten Favorites
05/23/2003 12:00 am EST
"Terrorism is in effect a new cold war, with the actions in Afghanistan and Iraq; indeed, we must fight this war and we will prosper at the same time that we take these actions," says Joe Battipaglia. The Ryan, Beck & Co., analyst believes that just as our stock market and economy benefited from our winning the prior "cold war," the new cold war will also lead to potential benefits for us.
"I believe the next year will be extraordinarily promising for investors after essentially three years in the wilderness. The president framed this war on terrorism as something very different. It is not a clash of large armies but rather an ongoing effort to dramatically, politically, financially, and in some cases militarily, push back against an enemy that hides in the shadows. In many respects this is like the cold war that ran from 1945 to 1989. So it is instructive to us to think about the US economy during that period of time to see the parallels. We persevered, contained our enemies, the US economy became the world’s biggest, strongest, and most productive, because not only did Communism fall but the Japanese juggernaut rolled over in the 1990s from which they have yet to recover.
"In the 12 months following the Cuban missile crisis, despite fears among the public, the US economy grew rapidly – over 66% in real terms. The stock market jumped by 30%. I raise that to your attention because indeed I believe what we face today are similar circumstances. The question becomes not should we do this – we must – but can we afford to do so. And there I believe the news is very promising, because when you look at the US economy today, the cost of the Iraqi campaign and homeland security can be borne by our budget. The US budget deficit is roughly $6 trillion. When compared to about $10 trillion in annual GDP what you discover is that amongst the largest economies in the world this is among the lowest percentages of debt compared to GDP. In Japan, that debt is 150% of GDP. When you look at military spending in the US, understand that it is one half of what it was at the height of the cold war, and indeed as late as 1986, when defense spending as a percentage of our budget was 7.5%. It is now half that. So that number can rise, and our debt can rise to allow us the short-term ability to meet all of our international obligations and to allow our economy to expand."
"Deficits today are 3% to 4% of GDP, depending on how you want to measure it. In previous periods, including the Reagan administration, it was 6% to 8%. Our current position financially today is certainly strong enough to meet the requirements of this new cold war. Last year’s economy grew by 2.4%. This year’s economy in the first quarter grew by 1.6%, despite the war. It seems to me that this economy has a vitality to it that will not be upended by war, but can support it at its own prosperity. In fact, we just saw a spike in consumer confidence at the end of this recent war that suggests the consumer is in good stead."
"Many have said that the consumer is exhausted, that they cannot possibly carry on their economic activity. The fact of the matter is that there are 131 million Americans working today, their incomes have expanded every quarter throughout the recession and this modest recovery. Indeed, in this last quarter, incomes rose by $88 billion. And the balance sheet of these consumers is in excellent shape, and the reason is that it is fully diversified. Contrary to what some might say, we did not put all our money in dot-com stocks and suffer from the collapse of that bubble. According to the Federal Reserve, through the fourth quarter of last year, the American consumer balance sheet is diversified in this manner: 27% is in real estate, which has appreciated very nicely over this time; 25% in cash and bonds, another market that has been great, adding to the value of portfolios over the past three years; and equities, which represent 23% of that balance sheet. The final 16% of the consumer portfolio – the fourth piece to the puzzle – is represented by private enterprise. That’s small business in this country that employs less than 50 people. It’s very hard to measure the economic value, but entrepreneurs know the value of their companies."
"So if you take this all together – equity, real estate, bonds, and private enterprise – the total assets owned by the American consumer are $49 trillion. That’s down some $3 trillion from the peak in March 2000, so we lost about $7 trillion in the value of stocks, but also picked up about $4 trillion in the value of real estate and bonds during the same period of time. The next thing you might say is that we are so heavily laden with debt. That is not true. The fact of the matter is that when you add up all the mortgage debt outstanding, the revolving credit charges, the total is $9 trillion of debt held by the American public. So when you net this $49 trillion from the $9 trillion of debt, we have a bottom line net worth of $40 trillion.. That, in fact, is where the American balance sheet is today."
"Now, where do we stand with business investment? All technology stocks are now being dismissed, as if business will never come back. However, the best performing stocks since the October lows have been these same maligned companies. What happened in the economy is simply this: we had a period of excess speculation in capital spending and building for a future that was ahead of itself. The correction process took three years and now we are at a point where depreciation expenses are running higher than capital spending, where inventory levels are at their lowest in quite some time, and technological obsolescence factors are creeping into everything we do."
"It’s not surprising to me that we are starting to see a pick-up in capital spending. In fact, in the fourth quarter of last year, capital spending rose by 1.5%, spending on software grew by 5%, and I won’t be surprised if despite the war, we see capital spending rise in this quarter and over the next two quarters. On an annualized basis, I believe we are growing at least by 3.5%, which is a very powerful run-rate for a $10 trillion economy. So why is the mood so negative? This is a jobless recovery. We have lost 2 million jobs in the past two years, in part due to the layoffs in the telecommunications industry, as well as in the travel industry post 9-11. Meanwhile, managements have been more cautious and have avoided taking risks. We’ve had sweeping rallies up and then back down. But after numerous false starts, I think this is not a false start. I think we are going to a series of new highs and higher lows."
"For the longest time, investors just wanted safety. They wanted to be in cash and Treasuries, no matter what the rate. As a result, the stock market did not perform. Businesses made the same decision. No new plant and equipment, no investment in new operations. Now, lo and behold, investors are starting to look for the returns offered by higher risk investments. And the same thing is going to happen in the business community, as the economy chugs along. And it will build on itself, quarter after quarter, well into 2004. Watch what the Fed does. They will keep money supply growing. They will do nothing about interest rates. They will not talk about fighting inflation. The Fed will be our friend. So don’t be surprised if the major averages move up another 10% to 15% before this year is out, and the NASDAQ composite could go up by 30% before this year is out."
"Let me give you 10 stocks to consider. Make sure they are right for your portfolio. I am just going to give you the big cap names that I think will work right now. In the technology arena, continue to think that the low-cost producers with leading market shares will be the victors. Dell (DELL NASDAQ), Microsoft (MSFT NASDAQ), and Intel (INTC NASDAQ) are the ones to bet on. Dell has done well, but I continue to think they will take market share from the competition. Microsoft has been in the mid-20s for quite a while but their earnings will be consistent, and value will be ascribed to them. And Intel continues to invest heavily in their future, and I believe they will be successful. They have no debt and a lot of technology. They spend more on research than the sales of most of its competitors. I would buy the stock in the high teens for a move to $30 over the next year."
"Amgen (AMGN NASDAQ) has doubled over the past year. Why? It’s one of the few big healthcare companies growing at 30%, with new products. I think they can continue that record and investors will continue to pay for that growth. Johnson & Johnson (JNJ NYSE) has proven that product diversity works. Clean balance sheets work. And they are extraordinary marketers. And they will be consistent in their earnings results, and investors will pay for that."
"In the financial services arena, American International Group (AIG NYSE) is a leading reinsurer that is moving into the consumer side and they are moving in with a vengeance. They had an earnings interruption in the last few years, which is smoothing out. North Fork Bank (NFB NYSE) is a commercial bank in the mid-Atlantic and New England area that is growing very quickly. They have made major acquisitions that have worked for them. It’s a plain vanilla business – commercial lending, bank deposits, and banking services. None of the baggage of the 1990s, like investment banking activity."
"I like two stocks in the consumer side of things – Procter & Gamble (PG NYSE) and Comcast (CMCSK NASDAQ). Comcast is building a very credible force in the cable business. They are now getting the benefit of the move to high-speed Internet access by those same cable consumers. I believe their strategy will be successful. They have managed the balance sheet well and have not made any financial blunders. Procter & Gamble is the ultimate multi-national consumer products company, except that they will continue to reinvent themselves and deliver earnings to the investor."
"For those who want income, I would also suggest Kinder Morgan (KMP NYSE), a limited partnership. It has a roughly 8% yield and is a transportation company – pipelines for petroleum products. It’s a dull and boring business, but it surely is consistent. It is designed to give you a cash flow return that is very competitive in today’s environment."
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