The leaves are changing – Should your portfolio?
Should changing leaves mean changes to your portfolio? To be sure, we’re not recommending drastic portfolio reallocation. Rather, the following are some thoughts assuming you’d like to do some pruning or have a few dollars to add to round out your existing, well-balanced portfolio:
Although this sector has shown the best earnings growth and stock price performance since 1/1/04, the outlook for energy appears to be neutral. The bullish argument is that stocks should continue their rise if serious shortages develop as a result of Hurricanes Katrina and Rita.
The bearish argument is that the current price environment may encourage conservation and hurt demand.
The outlook remains positive. While recent performance has been rocky (thanks to Big Pharma), the long-term trend of an aging America suggests more sophisticated drugs and medical devices. New drugs and greater sophistication should mean increased spending. Look for strength from device makers, biotechs and generics. We’ll also see continued pressures to contain costs which should help insurers.
After the excesses of the ‘90s and the carnage of the early ‘00s, a clearer picture is emerging. Wireless providers and niche players offer hope but current valuations are a bit frightening. It’s the legacy carriers who face the most risk. Competition from cable, wireless and the internet mean lower prices at a time when infrastructure spending is rising to meet the demand for TV and high-speed internet.
Retaining customers will be a costly challenge.
Uncertainty over The Fed keeps the outlook unclear. Rising short rates with consistently low long rates makes the “carry trade” unprofitable.
Risk abounds for those who’ve tied their fortunes to the real estate market. One bright spot is the asset management business where demand from retirees and baby boomers continues to grow.
Consumer spending holds firm at about 2/3 of GDP. Let’s look at staples and discretionary items:
These stocks tend to be good defensive holdings as we continue to buy groceries, etc. regardless of economic conditions. But where’s the profitability? Input prices continue to rise as do transportation costs.
Pricing power is non-existent in the face of competition from behemoths like Wal-Mart. There’s no hope on passing along costs to the consumer.
This is a nice way of saying selling us stuff we really don’t need: dining out, specialty retail, movies, luxury goods, etc. No worries here as those of us buying what we don’t need tend to have the disposable income to afford it. This sector doesn’t suffer as much with rising prices and interest rates. Companies catering to the masses might be crimped but those catering to the upper incomes should continue to thrive in the strong economy.
The outlook here is mixed. Transportation continues to be hurt by higher fuel costs whereas defense and construction should benefit from security concerns and hurricane rebuilding respectively. Industry tends to suffer on the back end of economic cycles but any downturn might be offset by increased corporate spending.
We pine for the days when adding “dot-com” to the name of a company meant a boost to the stock price. Oh where have those days gone? Although the tech-heavy NASDAQ is roughly 50% below where it was when the bubble burst, technology represents a continued area of growth and strength for the U.S. economy.
What’s more, valuations are attractive as many “growth” companies look attractive relative to their “value” brethren. And this sector is one of the few untouched by rising energy prices. A potential problem: what happens to accounting profits (notice we didn’t say economic profits) as stock options are expensed?
Thanks to China’s insatiable appetite, commodity prices have skyrocketed over the past few years. But like energy, do higher prices lead to greater conservation? It’s not likely as we still need materials as inputs to other products. However, changing supply considerations (China is expected to become a net exporter of steel) and rising energy prices (some products such as aluminum require lots of energy in their production) offer stiff challenges. Look for strength from suppliers of inputs (e.g. coal) but weakness from producers of end products (think refined goods such as chemicals).
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