Markets

Stocks to Buy Before the Recovery

The market usually takes off before the economy picks up. So buy sooner rather than later.

By Amy Bickers, Associate Editor

From Kiplinger's Personal Finance magazine, August 2008

Nordstrom, at $34, and Penney, at $39, have roughly tracked the S&P 500 so far in 2008. That's not bad, but what you should know is this: After the recession of 2001 ended in November of that year, Nordstrom shares shot up 60% in six months. Penney didn't bounce much, but it's a better-run company now.

To get inside even more shoppers' wallets, use the Consumer Discretionary Select Sector SPDR (XLY), an ETF from State Street Global Advisors. It invests mostly in big-store chains but also in brand names, such as Disney and Nike. The fund plunged 26% between July 2007 and January 2008 but has since rebounded 12%.

Heavy industry. Consumer spending accounts for 70% of the economy. But not every investment pro thinks you should put anywhere close to 70% of your portfolio in companies that build homes, make cars, produce breakfast cereal or sell iPods. Rather, says Bruce Bittles, chief investment strategist for Robert Baird, a Milwaukee securities firm, identify companies that will benefit when big businesses spend big again.

One such company is Martin Marietta Materials (MLM), which holds rich reserves of limestone, granite and other materials in quarries across the central and southern states. Because rock is so heavy, it is generally mined for local use. That's why competition from imports is minimal. The stock fell by half between June 2007 and March 2008. Now, at $113, it sells for 18 times estimated 2008 profits of $6.28 a share. Analysts see a healthy 14% jump in earnings next year, and profit forecasts are likely to rise if the economy mends and construction picks up as a result.

For a global alternative, San Francisco money manager Simon Baker recommends construction-equipment giant Caterpillar (CAT). Many investors view Cat as a cyclical company despite its ability to generate record sales and profits even when the economy falters. Thanks to strong overseas sales and the weak dollar, Cat has been largely unaffected by the slump in the U.S. And as of mid June, its shares are up 11% for the year, making Cat the third-best-performing stock in the Dow Jones industrials. Just imagine how the stock might jump if Cat could add the fruits of a U.S. recovery to its prosperous operations in places such as Russia and Latin America. At $80, the stock trades for a reasonable 13 times estimated 2008 earnings of $6.05 a share.

ETFs geared to what might once have been called Smokestack America generally focus on materials or equipment makers. So the best way to play this theme is to split your money between two ETFs. As its name indicates, Vanguard Materials ETF (VAW) puts you right in the middle of commodities makers, such as DuPont, Dow Chemical and Alcoa, not to mention seed producer Monsanto. Put the other half of your industrial money in Vanguard Industrials ETF (VIS), whose biggest holdings include Boeing, Caterpillar and Deere. The annual expense ratio for both funds is a low 0.22%.

Technology. Whether the next economic recovery is tepid or torrid, Paul Latta, of the Seattle brokerage McAdams Wright Ragen, believes technology companies will be leaders. That's because corporate America will continue to cut costs, and the "way to do that is to put cash into better technology," says Latta.

Speaking of leaders, Latta likes Applied Materials (AMAT), the biggest maker of equipment used to produce semiconductors. Morningstar calls Applied "the closest thing to a one-stop shop for chip manufacturers." The company is also extending its expertise in semiconductor gear to the business of solar equipment, which could be a major source of future growth. At $19, the stock is up 7% for the year and trades at a not-so-cheap 24 times estimated earnings of 79 cents a share for the fiscal year that ends in October. But analysts see an earnings jump, to $1.10 a share, the following year.

Oracle (ORCL) has been on a shopping spree and is now the world's biggest seller of business software. Peter Goldmacher, an analyst for Cowen & Co. and a former Oracle employee, says acquisitions of business-oriented software developers, such as PeopleSoft, Siebel Systems and BEA Systems, broaden Oracle's product line as well as its client base. And that should ensure that Oracle will participate more than others in a broad recovery. Meanwhile, says Goldmacher, the $22 share price doesn't reflect the boost those purchases will give to Oracle's growth rate. The stock, which trades at 16 times the $1.37 per share that analysts expect Oracle to earn in the four quarters that end next November, may already be anticipating better times. It's up nearly 25% from its March low.

For a diverse collection of domestic tech stocks, buy iShares Dow Jones U.S. Technology Sector ETF (IYW). It gives you all the top-tier names -- the biggest holdings are Microsoft, IBM, Apple, Cisco Systems and Google -- and is well divided between hardware and software, so you don't have to guess which part of the tech universe is in or out of favor.

NEXT: Remember the Little Guys

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