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Taking Stock

Tony Crowell

Tony Crowell

Farewell To May, Hello To Summer

The market had a good month. As May comes to a close, the S&P 500 is up around 6% for the month and 15% since the beginning of the year. As always, investors now ask, “What’s next?” Stocks tend to follow Isaac Newton’s first law of motion that an object remains in motion until acted on by a force. The recent much-publicized rises in the Dow Jones and S&P averages thus preliminarily suggest further rises until a “force” acts upon them.

As the media advise us continuously, there exist an ample supply of forces that could arrest the momentum of the market. Perhaps as a result of resulting anxieties, recent stock gains seem not to have erased the investor skepticism that persists since the financial crises five years ago. The market has doubled since then but many investors; perhaps frustrated at having missed these gains, find reasons to remain on the sidelines.

Mentioning Isaac Newton brings Apple (AAPL-$451) to mind. This remains my largest position despite its indifferent recent performance. No longer a glamorous growth stock, it bas evolved to a solid income stock with a 2.7% yield. The probability of dividend increases alone makes it a keeper; new innovations will eventually provide additional returns.

Of the many risks that hang over the markets, the return of higher interest rates is among the more probable. Chairman Bernanke has led a remarkable campaign of bond buying that continues to keep interest rates low while providing a playing field for economic growth. Turing around the world’s largest economy is a formidable task and these efforts have been remarkably successful.

As intended, their success will spawn an environment of slowly increasing interest rates, governed as carefully as possible in order not to strangle the recovery. The prospect of these inevitable higher rates see seems to have been forgotten by Wall Street which suddenly sold utilities, REIT’s and other interest sensitive stocks.

Investors should take a clue from these actions, looking to companies in industries that are not dependent on the current eased interest rates. I have advocated for months selling bonds, as rising rates will torpedo their prices.

These changing forces bring uncertainties to markets today. Most investors overvalue apparent certainty while more successful investors accept calculated risks and keep their courses while remaining vigilant to the needs to trim sails when needed. With signs of an improving business outlook, stocks in companies whose fortunes are geared toward business recovery will outpace the consumer and utility stocks that have been popular.

Cummins (CMI-$117) is a superb example. Its recent quarterly earnings were disappointing but its outlook is bright. This big Midwestern engine manufacturer is bringing out an engine for big trucks that runs on natural gas. With shale oil flooding the country with this fuel, its timing is excellent. A smaller engine will follow for such attractive markets as school buses.

Earnings recovery should come this fall. Meanwhile its 1.7% yield and seven-year record of dividend increases will reward investors.

General Dynamics (GD-$78) has similar prospects in an entirely different sector. The lows seem behind it in its defense and homeland security businesses while its commercial lines are already increasing sales. Its Gulfstream division, the leading line of business aircraft, is a major contributor. GD yields almost 3% and has bumped its dividend for 18 straight years.

Finally, Generac Holdings (GNRC-$39), another solid manufacturer from the Midwest, designs and makes a broad line of electric generators that are increasingly popular in the residential market. Estimates are for around $3.40 a share for all of 2012 and its forthcoming June report is likely to draw further interest to this stock. A forthcoming secondary offering may put a temporary ceiling on its price while a $5 special dividend lies ahead.

Those who didn’t “sell in May and go away” did well. The summer may be quieter for stocks but an improving economy will sustain their prospects.

Tony Crowell manages stock portfolios for individuals and their trust and retirement accounts with CROWELL•ROBERTS Investment Counsel, a registered investment advisor in Laguna Beach since 1993. [email protected] 949.494.1376/

800.697.2622 www.crowellroberts.com

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