If I had to pick only 3 sectors that I believe will do well in a lousy market -- and exceptionally well in a good one -- they would be energy, materials, and health care. In some industries within these sectors, prices have been artificially depressed or overlooked in 2009’s rush to re-embrace technology, financials, and, thanks to taxpayers' unauthorized largesse via auto incentives for some, house-buying credits for others, etc., a similar rush to consumer durables, real estate, retail, and non-durables.
If I had to pick one sector that is likely to be poison to your portfolio in 2010? Bonds. Artificially-depressed interest rates may or may not continue in 2010, but the perception that such rates can last will evaporate like snowflakes on the tongue of the large, hot beast we call government. When that happens, buyers will demand higher rates of return and existing bonds will have to fall in price to equal those higher rates.
Energy will always be in demand. Even if the economy were to slow again, it’s not as if people will quietly freeze in the dark or never visit grandma again. Some industrial demand may wane, some trips may be postponed but our need for energy in the USA and other developed nations will not plummet – while it will continue to skyrocket in the developing world.
Some 25 years ago I wrote that once someone in (what we then politically-incorrectly called) The Third World stopped walking and got a bicycle, they hungered for a scooter. And once they had a couple yuan or pesos or rupees put aside, they lusted after the freedom and mobility of an actual automobile. Growing economies ship goods by rail and people by air and vice versa and everything in between. We need energy to grow, to move, to live.
But what kind of energy? I’ll take any kind we can produce, personally. But I believe as an investor you are best served not by something that provides 12/100 of 1% of our nation’s energy (like solar); not even wind, solar, biomass (including the federal giveaway program called ethanol), geothermal, et al. You are best served as an investor by fossil fuels because that’s where the technology is best-proven, that’s where there lies an abundance of riches ready for the taking, and that’s where, well, where the money is.
Of the fossil fuels, coal is so universally reviled that its safest plays offer low stock prices and high dividend yields. And natural gas is seen, by those who don’t understand that the technology of shale fracturing produces a huge bonanza which quickly tapers off to a steady stream, as being in a glut. Rather than write the rationale for each of the favorites we own and own for those clients for whom it is appropriate, I encourage you to sift through our previous articles -- the titles will quickly lead you to the right choices.
Among the coals, the coal royalty firms Natural Resource Partners (NRP) and Penn Virginia Resources (PVR) don’t own a single coal mine, operate a single piece of extractive equipment, and have no operating liability. They simply own the land on which others mine – and receive whopping override royalties for so doing. Both yield 8.5% plus.
In the natural gas arena, I like Encana (ECA), Devon (DVN), EOG (EOG) and Chesapeake (CHK) best among the explorer/producers. Among the pipeline firms, which I consider the more conservative way to see some growth and supplement it with serious dividend income, those I suggest you read our prior articles and do your own research on companies like Boardwalk (BWP), OneOK (OKS), Magellan Midstream (MMP), Williams Partners (WPZ), Williams Companies (WMB), and Penn Virginia (PVR) – yes, the same; they get about 60% of revenues from coal and 40% from transporting, storing and distributing natural gas. Most have moved nicely since we bought them, but still yield above 6% and some around 8%.
Which brings us to the metals and miners. Many people believe gold is an “inflation” hedge and should only be purchased if inflation looks to be on the increase. History shows that is simply not true. Gold can rise in deflation, inflation, peace, war, good times and bad. Gold is, more accurately, an “uncertainty” hedge – and I believe 2010 will offer boatloads of uncertainty. I think most commodities in general and base and precious metals in particular will respond to this uncertainty with price increases – though none will do so like gold and silver. I’m not among the camp that believes there will be blood in the streets and universal starvation. We’ve seen worse and muddled through it. I believe we will this time as well.
If you agree, you’ll want to be long some of the best and brightest mining firms rather than long physical metals or solely in ETFs that invest in physical metals. The metal may go from $1100 to $1500 an ounce – a really nice 36% move. But a quality miner who is making a profit of, say, $300 an ounce at $1100, must add only incremental labor, tax, and other expenses if the stuff sells at $1500. So their profit per ounce mined may go from $300 to $600, hence my desire to buy the miners. I’d rather have a 100% move if we’re correct than a 36% move.
Among those I find most interesting: Goldcorp (GG), Kinross (KGC), Yamana (AUY), and Agnico-Eagle (AEM), I love the gold royalty firms like Royal Gold (RGLD) and Franco Nevada (FNNVF.PK), especially Franco Nevada, for the same reasons I like the coal royalty firms – it’s a similar business model. There is a silver royalty company, too, Silver Wheaton (SLW). Since I have not researched the silver producers to my own satisfaction, I stick with the two silver ETFs, iShares Silver Trust (SLV) and ETF Securities Silver Trust (SIVR), though one more speculative company I’ve recently been buying is a Canadian miner with 100% of their operations in China, Silvercorp Metals (SVM). You can also buy a whole host of gold-related ETFs as well, both the kind that store the metal and those that buy shares of the miners. And here’s one more -- a “pick and shovel” play on uncertainty in 2010 leading to more mining of more metals at higher margins: Major Drilling Group – MJDLF in The States – does what their name implies; they contract drill for others. If drilling heats up, it’s likely they will heat up, as well.
Finally, to health care. Whether Harry Reid has given away enough of our future in sweetheart deals to ensure the beginnings of universal health care or not, the health care industry has been put on notice. With or without government bureaucrats running the show, more Americans are going to be getting more pharmaceuticals, making more visits to hospitals, and getting more care, in-patient, out-patient and at-home, than ever before.
Personally I like the at-home and medical device maker segments the best, but hospitals, big pharma, biotech, managed care and all the other segments of this business should grow like Topsy in 2010. Among the at-home care firms, you might want to begin your research with Addus (ADUS), Gentiva (GTIV), Amedisys (AMED), or LHC Group (LHCG). Among device makers, I’d start by researching Boston Scientific (BSX), Medtronic (MDT), St. Jude Medical (SJT), and C.R. Bard (BCR).
About those bonds... I know bonds. I retired a few years back as head of Fixed Income for Charles Schwab. And I believe there is a season for every purpose under heaven. We made excellent, safe returns for clients in 2009 by buying a number of closed-end bond funds at a discount. They have almost all gone to a premium now. I see bonds and bond funds as “priced for perfection.” And perfection is not what I expect to see in 2010. Why settle for 3% and 4% yields when the risk of capital loss is as great or greater than with equities yielding twice that much? And bonds will never “raise their interest.” The equities we like best raise their dividends all the time!
For those who say, “Yes, but at least bonds will return your principal at maturity.” That’s true. But if, at maturity, the $1000 you receive will only buy you a loaf of bread and a movie ticket, you must concede it may not have qualified as Best Investment of the Decade. In the long run, you will get “something” back. But when someone said back in the depths of the 1930s, “Don’t worry, in the long run it will all work out,” John Maynard Keynes observed pithily, “Yes, but in the long run, we are all dead.”
Author's Disclosure: We and/or clients for whom it is appropriate are currently long each of the companies noted above under “Energy,” most of those in “Metals and Mining” but, thus far, only ADUS, MRK and PFE in health care. But we’re just getting started…
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Also, past performance is no guarantee of future results, rather an obvious statement if you review the records of many alleged gurus, but important nonetheless – for example, our Investors Edge ® Growth and Value Portfolio beat the S&P 500 for 10 years running but will not do so for 2009. We plan to be back on track on 2010 but then, “past performance is no guarantee of future results”!
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