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Art and Diamonds

Tony Crowell

Stocks continue to churn about, building what appears to me to be a base for another substantial advance. Investors are still learning to live with the latest round of disturbing developments with the memories of the financial crisis still causing residual nervousness. March quarterly earnings reports are trickling in with investors looking at them with the skepticism of young girls first being asked for a dance.

Earnings surprises are less frequent these days as the SEC encourages early announcements of material developments. Alcoa, always the first of the Dow 30 Industrials to report, weighed in with earnings beating estimates on sales gains that fell a bit short of expectations. This report will probably be typical as companies increase profit margins by squeezing more output out of their existing work force while deferring new hiring until sales pick up more strongly.

That’s somewhat of a stalemate and one of the reasons I have been advocating stocks in the tech sector with solid increases in sales of their equipment and services that boost business productivity. Leaders include IBM (IBM-$164), EMC (EMC-$27), Cognizant Technologies (CTSH-and Oracle (ORCL-$34) in big caps. Among smaller cap companies, Safeguard Scientifics (SFE-$19) holds equity stakes in around two dozen life science and technology companies, providing an excellent way to obtain diversification in these important sectors.

One reason I believe many investors are still so gloomy despite the very positive markets of the past two years is that the past decade was abnormally poor for stocks. (It ended very badly for real estate, too, but that’s another story.) The decade of the 2000’s in which the Dow Jones Industrials managed to gain only 7% in ten years while the S&P 500 was down was the second worst decade since 1926, beaten out only by the 1930’s, the years of the Depression.

Long-term returns since 1926 (very long-term) were just under 10% for big cap stocks, 12% for small caps and half that for bonds. I do not expect readers to plan for the next 85 years but the important point is that time is on the side of those with longer horizons. The past decade saw investor expectations bludgeoned by the dot-com market collapse, terrorist attacks on American soil, a collapse of real estate values and a global financial crisis. Under these assaults, it is no wonder that stock returns suffered. I think it likely that this decade will see a return toward the historical averages, perhaps even a bit more.

One short-term trend is increasing spending for luxury goods. Even while many are looking for jobs, the spending classes are being augmented by the newly affluent in China and oil exporting countries, plus absurdly overpaid American bankers. I personally spend more at Costco (COST-$76) but sales and earnings are rising faster at Harry Winston Diamond (HWD-$17) and Sotheby’s (BID-$49).

Harry Winston combines 19 luxury salons with a 40% interest in Canada’s largest diamond mine. Rio Tinto (RIO-$72), another portfolio member, owns the other 60% and operates the mine. Sales from everything totaled $624 million for the year ending in January, up 61%. Rough diamond sales made up 44% of all sales, aided by higher diamond prices.

Luxury sales including watches made by the company were strong, almost doubling in the most recent quarter. Early estimates for earnings for the fiscal year ending next January look for $.67 a share, up more than 100%. After buying out minority interests, this company is starting to attract Wall Street interest and seems to have inherited its founder’s stylish flair for publicity. In 1958, he gave the 45 carats Hope Diamond to the Smithsonian, sending it by insured and registered mail in a box wrapped in brown paper for $145.29 postage.

New York’s Sotheby’s is one of the two leading auction houses for fine art, jewelry and other collectibles. The other is its London-based archrival, Christie’s. An old adage has it that at Sotheby’s businessmen are pretending to be gentlemen, and at Christie’s gentlemen are pretending to be businessmen. Both companies were found to have behaved like criminals in fixing prices, resulting ten years ago in criminal penalties for both and a new CEO for Sotheby’s, who is credited with rescuing the company.

The art market is beginning to sizzle and Sotheby’s should post a small profit for the March quarter after a loss a year ago and seems headed for close to $3.00 for the full year. Both companies are reasonably valued and even provide a small cash dividend. Their stocks add luster to stock portfolios.

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. (949)-494-1376/(800)-697-2622; www.crowellroberts.com

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