Three Sectors and Four Stocks to Consider - Despite the Macro Uncertainty

Includes: AXS, GILD, SMOD, TSL
by: David Brown

What does the market want, anyway? I know that’s the name of this newsletter, but it’s not an easy question to answer in recent months, and especially in the last couple of weeks.

The market roared out of the gates this morning (typical of recent days), with the S&P 500 reaching a 5-month high, up nearly 13 points, to within kissing distance of the “magic” 1200 mark. Presumably, the rise was on news that the G20 agreed to refrain from devaluing their currencies for economic gain. But by the end of today’s session virtually all those gains were given up, with the S&P 500 closing at 1185.

The market seems to be suffering from schizophrenia, seeing good as bad and bad as good. For instance:

Last Week, IBM (NYSE:IBM), Caterpillar (NYSE:CAT), Eli Lilly (NYSE:LLY) and Apple (NASDAQ:AAPL) easily beat their earnings estimates and provided improved guidance. Yet all those stocks were down for the week. Contrast that with USG Corporation (NYSE:USG), which missed estimates by nearly 10% for another dismal quarter, prompting nearly all analysts following the company to lower their 2010 and 2011 earnings expectations.

Yet USG rose 8% today, which is higher than before they announced earnings. Presumably, this was because the announcement that existing home sales, while still gloomy, were 10% better than last month’s even gloomier number. Note that those are NOT NEW HOME SALES, but rather existing home sales.

You see? Good is bad and bad is good.

Along the same delusional lines, the Finance Sector rose nearly a full percent last week, despite the specter of improper foreclosures and a number of other quite serious banking problems.

We can place the blame for this dichotomy on macroeconomic uncertainties. Are we in a double-dip recession or is economic growth making progress? Is the dollar going to rise, as it did last week, or fall, as it did today on the G20 news? Buffeted by political, military and economic pronouncements, asset managers leap first this way and then that, which manifests as schizophrenic behavior in the markets.

So after the smoke cleared from the last week’s very positive corporate results and economic releases that were neutral at worst, the market staggered to a mere +0.6% gain for the S&P 500. Mid-cap value stocks led, up +0.67%, while small-cap growth stocks trailed, down -0.2%, although that group is still the leading cap-style for the last one-month and three-month periods.

This certainly was not a flight to safety, as Health Care, Utilities and Energy were near the bottom of the sectors. Interestingly, the sectors were led by high-flying Transports, up +1.75% for the week, and the enigmatic Finance Sector, up +0.93%. The fickle Capital Goods Sector came in third, up +0 .72% despite the rise in the dollar.

Seemingly impervious to the perils of the financial industry, the Finance Sector continues to top our forward-looking sector model, because of the relatively low valuations of financial stocks. Energy and Health Care are in slots two and three. At the bottom of the forward-looking model are Consumer Services, reflecting the cautious spending of consumers, and Transportation and Capital Goods.

What we can take from all this? Just the fact that it is not at all clear what the market wants. We have an environment of money managers who are worried about the condition of the economy, the upcoming mid-term elections, the value of the dollar, and renewed military threats. Despite all of that, the volatility index (VIX), surprisingly, has continued to stay relatively low, around 20, although it was up a bit today.

But there is one solid tenet we can fall back on. The overweening desire of money managers over the past 25 years has been to find stable, growing companies properly valued, whose earnings represent strong cash flow and whose accounting is clearly conservative. In looking back at our charts over the past 10 years, we find few months if any where these kinds of stocks were not rewarded at least in line with the market, and generally, much better.

This week offers a number of economic reports that might influence the market, but if the market reacts the way it has these past few weeks, the results could be good or bad, regardless of the numbers. It will be good news if existing home sales are supported by new home sales on Wednesday. We also have consumer confidence on Tuesday, durable goods on Wednesday, initial jobless claims on Thursday, the Chicago PMI on Friday, and most importantly, also on Friday, the first estimate of the third quarter GDP.

4 Stock Ideas for this Market

This week, I started with the Undervalued Large Cap Growth preset search on (, but added several additional parameters. I included Large, Mid, and Small caps, and upweighted Technicals, Insider Buying, and Analyst Revisions. Here are four stock ideas that seem interesting:

SMART Modular Technologies (NASDAQ:SMOD) – Technology
Gilead Sciences (NASDAQ:GILD) – Healthcare
Axis Capital Holdings (NYSE:AXS) – Finance
Trina Solar (NYSE:TSL) – Energy