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Taking Stock

Tony Crowell

Tony Crowell

Financial Forecasts, Fads & Fashions

The New Year invariably inspires financial media commentators to publish their predictions for the next twelve months. The more specific they make them, the less their numbers will match the actual outcomes. The most accurate forecast I’ve seen came from a celebrated Wall Street trader who responded to a question as what the market would do by growling, “It will fluctuate.” Fortune telling is sometimes entertaining but I believe that trying to identify trends, which is hard enough, is more useful.

Interest rates always strongly influence markets and much of the gains last year were attributed to a benign interest rate climate. As the year came to an end, the Federal Reserve finally signaled an end to its steady bond buying programs, however, this tapering process was announced as gentle reductions. Ten-year Treasuries ended the year at 3%, up from 1.76% at the end of 2012. With rates going up, longer-term bonds will continue to go down.

Inflation is low and the economy continues to grow at a moderate pace. These suggest that long-term rates, including mortgage rates, will continue their recent rise at a moderate rate. Increases in rates this year of 1%-2% will have some impact on the important housing sector but a recent strong bump in the consumer confidence is encouraging. Existing home sales and housing starts are both up. New home sales are flat, however, this is typically the last indicator to turn and should be up by summer.

Energy is another important sector. Traditionally, the large asset bases of big oil companies provided a stable, dividend-rich lode of stocks for investors. Their industry is changing as this country’s huge shale deposits are bringing new sources of oil and gas to market. Growth of the global economy will build energy demand but vastly increasing supply will keep a lid on energy prices, which may even turn down.

Stable or lower energy prices benefit most sectors other than energy stocks. Cabot Oil & Gas (COG-$38) looks like an exception. This Houston-based company primarily aims at natural gas exploration and production in the Marcellus Shale in Pennsylvania with other windows in south Texas and Oklahoma. As one of the purest larger companies ($1.7 billion sales) in this new sub-sector, it has not gone unnoticed and currently trades at about 60 times 2013 earnings.

That’s a bit rich but these earnings will be twice 2012 and another double is forecast for 2014. The company is making substantial capital expenditures and its excellent results are sending its forecast earnings even higher. There’s even a small dividend.

Manufacturing is another vital sector that suffered during the financial crisis but is coming on strong. Economists last year consistently forecast every month that the ISM manufacturing index would show a slowdown and they were wrong for the last six months as it continued to expand, showing increasing growth.

This building momentum will boost industrial stocks like General Electric (GE-$27) and Cummings (CMI-$138). Chemicals, aided by lower energy prices and their increasing emphasis on advanced agricultural products should flourish, led by DuPont (DD-$63), Dow (DOW-$43) and Eastman (EMN-$80).

Assessing these varied trends points toward a growing economy with stocks moving up. They’ve had a good run but earnings are at levels and forecast levels that should support more advances with a normal pullback sometime this year.

A growing economy builds energy demand aiding companies like NRG Energy (NRG-$28), a $10 billion sales Princeton-based provider of wholesale energy services nationwide. It also has a retail energy business. New activities emphasize distributed solar, smart meters and electric vehicles. The company is reasonably valued ($9 billion market cap) and yields 1.7%.

It is attractive but I am buying its recent spinoff, NRG Yield, Inc. (NYLD-$39), which NRG took public this summer, while retaining 65% ownership.  Its assets consist of former NRG operating assets under long-term contracts. The initial annual dividend was pegged at $1.20 a share, equal to a 3.0% dividend yield. The company presently intends to make modest dividend increases quarterly, aiming for a $1.40 in a year.

The financial media continue to shout about flimsy concepts like Twitter or Bitcoins. Earnings and dividends will invariably outperform financial fads and fashions. “The fundamental things apply as time goes by.”

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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