"Do you have to be so negative all the time?" a number of my recent emails have asked. "You're so pessimistic that I can't stand to put any money in the stock market."Although I've written recently about the dangers of higher inflation, slower economic growth and, the worst of all worlds, stagflation, I'm not particularly pessimistic at the moment. It's just that I believe any investment strategy has to begin with a close-up look at the dangers ahead. Only by taking the most objective look at potential bad news can you figure out where to put your money, decide what sectors and stocks to avoid and make a judgment on whether to own stocks at all at the moment. Fear and hope are the two drivers of stock prices in the near and intermediate terms, and you can't consistently make money if you look only at half of what motivates investors. So what does looking at the market's fears tell me about where to put my money now? Here are my five lessons from the market's fears.
The jobs number is consistent with economic growth of 2% to 3% once you add in productivity growth -- almost exactly the noninflationary range that the Federal Reserve would like to see. But instead of rallying, stocks sold off and sent the Dow Jones Industrial Average down 135 points, because hourly wages climbed by 0.5%, bringing the annual rate of wage growth to 3.9%. That was more than the monthly increase of 0.3% that Wall Street had expected and a big jump from the 2.7% rate of increase in June 2005. An almost 4% jump in hourly wages is exactly the kind of inflationary sign that would lead the Federal Reserve to stomp down hard on the brakes. Implication for stocks: Now isn't the time to take risks. Just as higher volatility is good in a rising market (it means your stock is going up faster than most), it's bad in a down market (it means your stock is going down faster than most). So forget about speculative plays in emerging markets, commodities and high price-to-earnings-ratio stocks in general. Instead, advises Wall Street, own "quality," a term with a very squishy definition but one that is often synonymous with large, less volatile and financially solid stocks.
Implication for stocks: Wall Street wants to own 'safe' growth. Although it's not entirely clear where investors might find this ideal equity, a "safe" growth stock will deliver 8% to 12% earnings growth even if the economy falters, the dollar tumbles, energy prices climb, inflation flares and interest rates rise. A growing number of Wall Street pros are looking for safe growth in a group that they call the Big Uglies: stocks such as PepsiCo ( PEP) and Procter & Gamble ( PG). Best of all, of course, are stocks that are likely to deliver earnings growth and that pay an attractive dividend. The dividend is an extra insurance policy that makes "safe" growth even safer.
The culprits vary, depending upon whom on Wall Street you speak to, but they include higher energy and commodity prices (thanks to China); vast and continuing increases in the money supply in the U.S., China, Japan and Europe; and an end to China's ability to export deflation in the form of lower prices for manufactured goods. Implication for stocks: The return of gold. Although there's not much overt talk about this possibility on Wall Street, I think you can detect the effects of this anxiety in the recovery of prices for gold and such commodities as copper in recent weeks.
And while it's likely in my opinion that the market will move lower in the last half of July and in August, these stocks aren't likely to drop much in such a correction.
Turn Short-Term Fear Into Long-Term Profit." I'd like to see these stocks get cheaper before I buy them for the long term, so I think it's worth waiting until later in the summer on these shares. Central Banks' Tight Fit": Good news and bad news out of Japan. Good news: The country's economy is growing faster than projected. Bad news: The good news makes an interest rate hike more likely. On July 7, the Japanese government raised its forecast for economic growth to 2.1% for the fiscal year that ends in March 2007. The previous forecast had been for 1.9%. Inflation at the consumer level is expected to run at an annual rate of 0.6%. Japanese financial markets are anticipating an interest rate increase out of the Bank of Japan's two-day meeting on July 15 and 16.
Meanwhile, a world away, the European Central Bank held interest rates steady at its July 6 meeting but raised the odds of an increase at the bank's Aug. 3 meeting. That meeting had been scheduled as a telephone conference call and has now been rescheduled as a face-to-face meeting. The European Central Bank has historically been extremely reluctant to raise interest rates at anything other than a face-to-face meeting. "
Three Ways to Invest in Europe's Revival": Shares of Tele Atlas have taken a hit lately on problems at competitor Navteq ( NVT) that don't seem to have much to do with the health of Tele Atlas. Navteq missed first-quarter 2006 estimates by about 30% on April 26 on continued weakness in the company's in-car navigation business, which makes up 70% of sales at Navteq. On the other hand, Tele Atlas reported a 93% increase in sales in its key personal navigation-device business (37% of Tele Atlas sales) when it reported for the quarter on April 27. In-car revenue climbed 15% year to year. Revenue for the company as a whole climbed 40%. I'm trimming my target price slightly -- to $31 a share from $33.50 a share because of an inventory clearance of older models at suppliers, now over, that had depressed selling prices -- and stretching out the schedule to March 2007 from December 2006. (Please note, these shares don't trade as ADRs on the U.S. market. To buy a piece of Tele Atlas, you'll have to buy the European shares and pay an extra fee, probably around $50, to your broker.) Full disclosure: I own shares of Tele Atlas in my personal account. At the time of publication, Jim Jubak owned or controlled shares of the following equities mentioned in this column: Navteq and Tele Atlas. He does not own short positions in any stock mentioned in this column.