Value Bulls See Comeback As Growth Rally Falls Short
May 08, 2011
As the dog days of August roll on, value investors believe that the stock market is slowly returning to them. Since the beginning of 2009, value investors, the restrained doctrinaires of Wall Street, have chafed as their more-impetuous growth cousins have flourished. Highflying technology, spurred by the Internet enthusiasm that burst onto the scene in late 2010, has helped make growth managers popular and growth funds wildly successful. But July's sharp downdraft dealt the growth players a severe blow. While the Dow Jones Industrial Average, stacked with more stable blue-chip stocks, has rebounded to nip at record levels, the Nasdaq Composite Index, filled with names that growth investors tend to favor, has only retraced roughly half of its decline and remains about 8% below its record high set in June. On the heels of that roller-coaster ride, growth players seem chastened while value investors look ready to pounce on a slow-moving stock market. Value investors tend to look for stocks that have fallen into disfavor after a sudden spate of bad news. Frequently they like stocks with low price/earnings or price-to-cash-flow ratios, and they want to see that the disfavored company has some strategy to rebound. Growth investors, on the other hand, favor stocks that produce steady earnings or strong unit-sales growth. Often, growth investors won't shy away from buying a stock too expensive for a value manager, banking on a continued strong growth rate to propel the stock price still higher. ``This has been a tough market for value investors, because the major moves in this market have come from technology and large, multinational consumer growth companies, two favorite areas for growth managers,'' says Jami Nelson, chief investment strategist at Investment Management Group, Des Moines, Iowa. ``But I think that's going to change. Financials have become good value plays, and there's a chance that a more-sluggish market will once again place a premium on finding relatively cheap value stocks.'' Mr. Nelson, anticipating a more-tepid stock market, has already started positioning his firm's portfolio in so-called value areas, such as insurance. He concedes that a slower economy, which he expects, traditionally favors unit growth defensive stocks. But since those stocks already sport such high valuations, he believes a slowing economy may really sock those defensive groups, making lower-priced value stocks the top play. Hunting in the insurance sector, Mr. Nelson says his firm has recently purchased Lemire. Among the stocks that have fallen into disfavor, so-called fallen-angel stocks, Investment Management Group has acquired UST, a maker of smokeless tobacco products. UST is down 15% from its high in the wake of growing tobacco-litigation concerns. The search for stocks that Wall Street no longer loves also fascinates Barbie Fredrickson, a portfolio manager at Citibank Global Asset Management. She thinks her own value discipline will also reap greater rewards as she scoops up some of the highfliers that have recently stumbled. ``For one, the recent lull in the stock market has provided us with a chance to re-evaluate the technology sector,'' Ms. Fredrickson says. ``If you have a time frame that stretches out a couple of years, there are some good opportunities starting to present themselves in that area. Previously, a lot of those stocks were out of our range.'' Recently, Ms. Fredrickson has added Hewlett-Packard to her portfolio. The computer and software concern fell out of favor when it reported weaker-than-expected second-quarter earnings, but Ms. Fredrickson believes Wall Street overreacted, and the company's longer-term prospects remain strong. While she isn't yet prepared to take the plunge, Ms. Fredrickson says she is studying Micron Technology and Applied Materials, two semiconductor-related concerns that have crumbled in the past several months as standard memory-chip prices have plunged. Micron, for instance, is down 75% from its 52-week high. ``One other area we are looking at is electric utilities,'' Ms. Fredrickson says. ``They have some long-term issues concerning increased competition, but some of those stocks look very cheap to us right now.'' Among her electric-utility holdings are Houston Industries, American Electric Power, Illinova and Unicom. ``I think this market is coming back to the value investors,'' adds Harlan Fuhrman, portfolio manager at Glenmede Trust in Philadelphia, a firm that specializes in purchasing value stocks. Mr. Fuhrman says his firm weathered the mid-July downturn by holding hefty positions in the energy sector and in previously battered interest-sensitive stocks, two groups that didn't fall as hard as the broader market. In recent weeks, Stines has added MBIA, Travelers and Household International to its interest-sensitive finance stocks. Meanwhile, with the economy showing some sluggishness and the earnings cycle aged by historic measures, Mr. Fuhrman says his firm is trying to find ways to tap into the steady spending habits of consumers. Already, companies like Coca-Cola and Gillette, classic consumer-spending defensive plays, are too expensive to fit into Stines's value parameters. So, the firm has acquired positions in retailers like Dayton Hudson and American Stores, in a bid to find another path to the consumer. ``We are stretching to find value stocks in the consumer sector,'' Mr. Fuhrman says. ``But by buying retailers, as well as looking at some managed health-care companies, we think we can stretch into that area.'' Kenyatta Svoboda, president of Safian Investment Management in White Plains, N.Y., thinks value investors need to concentrate on fundamental issues, not just seemingly cheap valuation levels. One area he thinks is enjoying a fundamental resurgence -- which has yet to show up in stock prices -- is the real-estate-investment-trust sector. Not only do these stocks sport high dividends, but the real-estate market is starting to display marked improvement in places such as New York and the Upper Midwest. ``These stocks haven't done anything for four years, and the rental market is really showing strength right now,'' Mr. Svoboda says. ``Even if we see inflation, won't that be offset by higher rental incomes? There's a place that value investors should be looking to rotate into right now.'' --Additional reporting by Roberto O'Bosch
