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5i Research Blog

The FED Backstop

Once again, the FED tells investors it is safe to go back into the water.

Peter Jan 25, 2012

Best start in 25 years

US markets are off to their best start to a year in 25 years. What's up with that? Isn't the world ending?

Peter Jan 22, 2012

Don't give up on growth

In October of this year, for the first time since the Civil War, the returns on U.S. Treasuries went above the return of stocks. Not the one-year return; everyone knows bonds beat stocks last year. Not the five-year, nor the ten-year return. Nope, Treasuries beat stocks over the past thirty years. Think about that for a second. All the hard work you put into your portfolio, all the research and stress, and all the…..risk, and what do you have to show for it versus your neighbor who bought only safe, secure, government-guaranteed bonds? Nothing. Your bond buddy did better, and now has that smug satisfied smile of superiority. That’s Point A.

Point B is a collection of stocks, and their one-year returns. Look at Netflix, down 60%; OpenTable, down 40%; Gildan, down 32%; and, of course, Research in Motion, down 76%. What does this group of stocks have in common? Just this—at one time—not very long ago, they were fabulous growth companies. Their revenues and/or profits were accelerating, their valuations were high because of their rapid growth, and investors were clamoring all over themselves to get a piece of the action. Now, those same formerly fabulous stocks are treated like garbage, and no investors wants much to do with any of them. If you combine Point A—the fact that Treasuries have now beaten stocks for three decades, and Point B—that some fabulous, former growth stocks are now treated like diseased rats, you may be concluding that Growth—and Growth Stocks—are dead forever. Why bother paying a high multiple for a high growth company, if you are only going to underperform a safe and secure guaranteed investment? Why take the chance? This is common investor thinking these days. As an individual investor, you may be now ONLY interested in bonds and fixed-income products. You may be buying some of the structured income products that are being flogged by investment bankers and trust companies to take advantage of this surge in demand. You may be forsaking all growth, and all possibility of growth.

This kind of thinking, of course, is unwise. We talked about a bond bubble in last week’s column. Nobody can predict when it will pop, but we do know that no one really wants anything to do with stocks, and most investors these days are happier taking a 1% yield on a bond (upon which they lose 2% after taxes and inflation) than take any sort of chance on a company, let alone an expensive growth company. But you must know that when everyone ignores a sector, it becomes cheap. The S&P 500 Growth Index, for example, right now is trading at 15 times price-to-earnings. This Index represents the fastest-growing companies in the U.S. Some of those companies—like Intuitive Surgical—are growing very fast (ISRG grew 41% in the third quarter). Effectively, since every investor seemingly only wants bonds, you can acquire great, fast-growing companies cheaply. What’s the rub, you ask? Well, let’s see what the usual complaints are against growth companies. Usually investors say growth companies are too expensive—we’ve covered that. Or, investors say growth companies don’t pay dividends. That’s changing fairly fast, though, since many growth companies are trying to get more attention by actually paying shareholders some of their earnings. Many investors further say growth companies are ‘too risky’. Not sure of that anymore. Most growth companies are sitting on piles of cash and their valuation multiples are ridiculous (on the low side). Fast growth, tons of cash and cheap doesn’t sound that risky to us.

So what’s the problem? Fear. It’s “safer” to be with the crowd. It’s “safer” to own value stocks. It’s “safer” to worry about Europe and stick your head in the sand. The “safer” moniker is completely debatable right now, but let’s not go there. Surely, though—without argument—the growth route is going to be more profitable if there is any sort of market sentiment shift whatsoever.

Peter Jan 04, 2012
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