Standard & Poor's Mid-Year Outlook

06/20/2003 12:00 am EST

Focus:

Standard & Poor's truly stands out in the investment business. It has historically kept a stable of award-winning analysts, and published what is considered among the highest quality, independent research on Wall Street--all with no conflicts of interest. Its publication, The Outlook , offers a 12-month forecast at the start and in the middle of each year.  Here is their mid-year outlook, featuring their market expectations and their favorite sectors and individual stocks.

"The long winter of investor discontent seems over. After three consecutive down years, the S&P 500 appears poised to post a double-digit gain in 2003. Several factors have led us to this conclusion. The first is precedent: A four-year decline is extremely rare. The last time the S&P 500 posted a fourth consecutive year of negative returns was in 1932. Although the global economy has problems today, they are not even close to those of that Depression year. Another historical precedent that argues for higher stock prices is that 2003 is the third year of the four-year US presidential cycle. Since the end of World War II, the S&P 500 has never experienced a decline in the third year of this cycle. The reason, apparent again this year, is that elected officials do all in their power to boost the economy in advance of elections.

"That brings us to the second reason we expect stocks to rise this year—an improving economy. Fiscal stimulus, in the form of the latest tax cut, should begin to be felt in July as employees see the effects of lower income tax withholding rates and many parents receive checks reflecting the increased child tax credit. Overall, the tax cut should boost real growth in US gross domestic product to above 4% for several quarters, says our chief economist David Wyss .

"The other factor in the improving US economy is monetary stimulus. With interest rates at four-decade lows thanks to the Fed’s stream of rate cuts that began in January 2001, the cost of financing everything is more reasonable. Consumers have been the primary beneficiaries of low rates so far, but we expect capital spending to pick up in the second half of 2003 as shortlife equipment (such as computers and other technology) put into service in the late 1990s reaches obsolescence.

"Also, the conclusion of the war in Iraq means an end to the uncertainty that restrained some business spending earlier this year. Despite the positives, the economic picture still has some nasty elements. Aside from replacement of short-life goods, businesses are not buying much equipment. Capacity utilization in manufacturing is at a 20-year low in the US, and outside this country overcapacity is even greater. In addition, unemployment remains stubbornly high. But both employment and capital spending should gradually improve as the economy strengthens, and are likely to be much less of a problem this time next year. The third reason that we expect a positive year for stocks is the action of the market itself. After struggling within a 10-month trading range, the S&P 500 has broken out decisively.

"S&P chief technical analyst Mark Arbeter observes that the breakout indicates the trend has switched from neutral to bullish. Arbeter sees strong volume trends on both the NYSE and Nasdaq as a sign that stocks are under accumulation, another indication of further gains ahead. We believe that the S&P 500 will end the year at 1030, for a 17% 12-month gain. By the middle of 2004, we expect the '500' to reach 1105. As a result, we advise keeping 65% of your investment portfolio in stocks. We would hold 15% in bonds, primarily short-term issues, as interest rates are likely to rise. Keep 20% in cash. History, an improving economy and technical factors all presage gains ahead."

S&P's Favorite Sectors and Stocks

"Cable operators have begun to reap the rewards of heavy expenditures for advanced system upgrades, with more than $70 billion spent over the past eight years. Some of our picks in broadcasting and cable include Comcast (CMCSA NASDAQ), Hispanic Broadcasting (HSP NYSE) Univision (UVN NYSE), and Westwood One (WON NYSE). Univision is planning to acquire Hispanic Broadcasting. In addition, publishing is on an upswing as newspaper and magazine ads have strengthened recently. Some of our choices in this industry are Gannett Co. (GCI NYSE), Meredith Corp. (MDP NYSE), and Belo Corp. (BLC NYSE).

"Healthcare distributors are benefiting from favorable consumption trends. We see operating margins in the industry continuing to widen, with cost controls helping to reduce operating costs as a percentage of revenues. Some of our highly ranked distributors are AmerisourceBergen (ABC NYSE), Cardinal Health (CAH NYSE), McKesson (MCK NYSE), and Patterson Dental (PDCO NASDAQ). We also remain positive on selected biotech issues. Some strong buys in this group are Amgen (AMGN NASDAQ), Millennium (MLNM NASDAQ), Martek Biosciences (MATK NASDAQ), and Medimmune (MEDI NASDAQ).

"We regard integrated oil and gas as a safe haven. These stocks are relatively safe investments, owing to their conservative accounting practices and steady cash flows. Our top picks are ExxonMobil (XOM NYSE) and Total S.A. (TOT NYSE). We also find oil and gas drilling to be an attractive area due to strong industry fundamentals. Some names we like are Global Santa Fe (GSF NYSE), Nabors Industries (NBR NYSE), and Ensco International (ESV NYSE).

"Computer services companies tend to have significant recurring revenues, notable operational leverage and solid balance sheets. Among our industry favorites are Affiliated Computer Services (ACS NYSE), Computer Sciences (CSC NYSE), First Data (FDC NYSE), and Sabre Holdings (TSG NYSE). In addition, the systems software sector is a key play. Many software vendors and customers are currently focusing on Web services, with particular emphasis on the integration of disparate systems and applications. Our top pick is Microsoft (MSFT NASDAQ), followed by Sybase (SY NYSE), CheckPoint (CHKP NASDAQ), and Symantec (SYMC NASDAQ)."

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