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18

AMERICA'S FLING WITH BLING MAY BE OVER, but the shift to thrift -- brought on by a sagging economy and stock market, and heralded on the cover of Time -- also has gone too far. According to Gallup, the polling organization, Americans cut their daily expenditures by more than 40% in the past year. That's not just fewer lattes; it's muscle and bone.
As savings rise and the market rallies, however, a new consumer is emerging, seeking a sensible middle ground between the gross excesses of the mid-2000s and the privations of the past year. He -- and more often, she -- is likely to find i
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t in companies that offer great products, excellent service and outstanding value, which, by the way, doesn't always mean the lowest price.
Barron's has identified 10 companies that occupy this coveted territory and that stand to prosper as consumers trade up again after a protracted period of trading down: Amazon.com , Apple , Bed Bath & Beyond , Chipotle Mexican Grill , J. Crew Group , Nike , Safeway , Target , Toyota and Urban Outfitters . Not all boast cheap stocks at the moment, but each looks like a long-term winner.
We call this group of 10 the Michelle Index in a nod to America's First Lady, Michelle Obama, whose championing of brands that offer good value reflects a nationwide trend. The honor shouldn't be construed as an endorsement of her politics or her husband's, and we don't even know whether she favors all these concerns. But we do know she's famously fond of J. Crew separates, loads her iPod with Mariah Carey and Stevie Wonder, and has been photographed traipsing across the White House lawn in black-and-pink Nike sneakers.

MOST AMERICANS DON'T HAVE Michelle Obama's generous budget. Still, the evidence suggests that rich or poor, consumers are loosening their purse strings nationwide as they feel more hopeful about the future. According to the Commerce Department, personal consumption rebounded by 2.2% between January and March, after plummeting 3.8% in the third quarter of 2008 and 4.3% in the fourth -- the worst six-month spending squeeze since World War II. Separately, the Conference Board reported last week that its consumer-confidence index jumped to 54.9 in May from 40.8 in April, the biggest increase in six years.
Most economists don't yet see the change in attitudes or behavior: Collectively they expect spending to decline by 0.6% this year, a forecast that could prove too gloomy. McDonald's (ticker: MCD) gets it, however. Having ruled the recession with its dollar menu, the fast-food giant is adding a premium $4 Angus burger to its menu to satisfy those who crave meatier fare.
Surveys conducted by WSL Strategic Retail, a New York consulting firm, trace the arc of the nation's latest experience with thrift, which began long before Lehman Brothers' September collapse. The percentage of Americans who tried scrimping on prescription medications spiked to 25% in 2008 from 12% in 2007, before returning to 12% in WSL's latest "How America Shops" survey. The percentage cutting back on cereal purchases fell to 20% in April from 41% a year ago, while those stinting on frozen foods fell to 34% from 58% last year.
"Maybe we've cut back as much as we can and there isn't much more left, or it just isn't working out," says Candace Corlett, WSL's president.
Paradoxically, a sharp rise in savings is partially behind the nascent pick-up in spending, as those with more in the bank generally feel freer to part with their pennies. The nation's savings rate, negative three years ago, recently climbed to 4.2% of disposable personal income. James Paulsen, chief investment strategist at Wells Capital Management, expects it to stabilize near 5%. "The spike in savings has less to do with any 'new normal' in consumer spending than [with] the way we were panicked into buying Treasury bills at the height of the credit crisis," he says.
Paulsen sees consumer spending growing by 2% to 2.5% in the next few years. Here's a closer look at the companies likely to capture the extra dough.
Amazon.com
Do you like hefty discounts, comparison pricing and shopping in your pajamas? Amazon.com (AMZN) wins on all counts.
Launched in 1995 as Earth's biggest bookstore, amazin' Amazon has become the planet's best retailer. It combines unlimited shelf space with a personal shopping experience that includes gift registries, wish lists and product recommendations. The company sells a vast assortment of products, from books to refrigerators to dog shampoo. It also links to a burgeoning network of independent merchants.
So far, Amazon has defied the plunge in retail sales and blown away earnings expectations. It posted a 24% jump in first-quarter profits on an 18% rise in revenue.
The Web accounts for just 5% of U.S. retail sales, and Forrester Research reckons that can easily double in the next five years, leaving the company enormous room to grow. Alas, there's no discount on Amazon shares, which trade at 47 times expected earnings.
Apple
The press had a field day when the Obamas veered from protocol and gave the Queen of England an iPod. But just wait til Liz puts her Bing Crosby playlist on shuffle.
Innovation is hard-wired in Apple's (AAPL) genes, standing the company in good stead in all economies. The iPod didn't exist eight years ago, and today it's the most popular portable audio player in the world, with more than 173 million units sold. The two-year-old iPhone is available in 81 countries.
Apple's sales have grown at an average annual rate of 32% in the past five years, and its earnings at 61%. The company has $28 a share in cash and no debt, and is up more than 1,700% in the past six years. Shares now trade for 135.
Apple's personal-computer sales slipped 3% in the latest quarter. Still, Susquehanna analyst Jeffrey Fidacaro thinks Apple has "significant growth potential, including expanded market share in the smartphone market and above-market growth in its Mac PC business."
Bed Bath & Beyond
After Bed Bath & Beyond (BBBY) beat fourth-quarter forecasts, investors celebrated by sending its shares up 24% in a single session. If Wall Street is right about the recession ending in this year's third quarter, there will be more celebrations in store.
Bed Bath is a massive housewares bazaar. The breadth and depth of its assortment beats that of most department stores, and low prices combined with couponing keep the tab competitive. The company operates 930 stores in 49 states, and management's goal is to open about 400 more.
In the past three years, Bed Bath's margins contracted as then-rival Linens 'N Things promoted heavily to try to stay afloat. It didn't work, and Linens' liquidation last year should boost Bed Bath's profitability and market share. The company has no debt, generates lots of cash and trades at a discount to other home-furnishings outfits.
In bad times, people buy new towels. In better ones, they buy new bathrooms. Either way, Bed Bath benefits.
Chipotle Mexican Grill
Among restaurant chains, McDonald's has cheaper food, a more formidable platform for expansion and, at 15 times earnings, a more palatable stock. But we prefer the gentler ambience and healthier fare of its corporate offspring, Chipotle Mexican Grill (CMG), even if it costs a little more. Besides, a $7 burrito delivers $14 of flavor.
Chipotle's "food with integrity" message is likely to resonate with more health-conscious Americans, maybe even the First Gardener, who recently planted a vegetable patch on the White House grounds.
There has been little increase in the number of Americans eating out of the house in the past six years. Yet fast-food and casual-dining chains have expanded aggressively, gorging on cheap credit to drive growth and placate investors. Denver-based Chipotle, spun out of McDonald's in 2006, chose a different path: It has no debt and about 860 units, half in just five states. A lone spicy outpost in Toronto feeds Canada, for now.
Chipotle's sales and earnings have sizzled since its initial public offering, and its growth rate will moderate as more units open. Indeed, shares that once fetched 80 times earnings now trade for 26. A rash of insider stock sales in April suggests investors would be better off nibbling, not gobbling, at today's 80. Easy on the hot sauce.
J. Crew Group
J. Crew (JCG) imposes a modern sensibility on American classics -- like twin sets for women and plaid shorts for men. The result is designer-quality fashion at mid-range prices that has found fans far from preppie redoubts like Nantucket and New Canaan. Is it any wonder that Michelle Obama chose to wear J. Crew on the Jay Leno Show -- the better to press her point about affordable fashion -- after the hubbub over Sarah Palin's whirlwind shopping spree?
Rival Gap (GPS) is cheaper at 14 times this year's expected earnings, and its troubled child, Old Navy, finally looks to be on the mend. But New York-based J. Crew delivers a better retail experience, complete with well-lit stores and impeccable service. And its Website draws 80 million visitors a year.
J. Crew shares shot up 26% Friday, to 26, after the company beat fiscal first-quarter guidance and forecast operating earnings of eight to 12 cents a share, also better than expected. As CEO Millard "Mickey" Drexler said in the earnings release, "there is no choice in this environment than to continue to be creative and figure out where the customer is going, not to respond to where he or she has been."
We couldn't have said it better.
Nike
According to a recent Boston Consulting Group survey of global consumers, even as shoppers in the developed world have been trading down, those in China and India are trading up. For serious runners -- and weekend warriors -- the brand to own is Nike (NKE).
Nike controls roughly 50% of the highly fragmented $20 billion market for athletic footwear. More than 60% of its sales are overseas. Footwear sales suffer in recessions, but the prospect of double-digit growth in Asia provides a nice offset to setbacks in the U.S. Besides, Nike is gaining market share as its rivals struggle.
Nike has little debt and $2.6 billion of cash, and it pays an annual dividend of a dollar a share, for a yield of 1.8%. (Four Michelle Index components are dividend payers.) The company has maintained its foothold in recession. Come a recovery, it will be off to a running start.
Safeway
Grocer Safeway (SWY) spent the past four years renovating its stores, adding organic produce, fresh-made goods and mood lighting. It converted about 75% of its units to the snazzier format -- just in time for the worst recession in generations.
"It was the wrong strategy for the current market, but not necessarily the wrong strategy for the long term," says Credit Suisse analyst Edward Kelly, who recently upgraded the stock.
Safeway understands the new consumer's quest for healthier choices at prices between those of Wal-Mart Stores (WMT) and Whole Foods (WFMI). Improving the shopping experience will pay off, as well, when the economy improves. The company's West Coast stronghold is relatively untrammeled by Wal-Mart, and its store brands score well with cost-conscious shoppers. Winding down the remodeling project will free up cash flow and boost the company's thin margins. It also is likely to boost Safeway's shares, trading for 20, near their 52-week low.
Target
Michelle Obama has declared herself more of a Target (TGT) than Wal-Mart shopper. The Minneapolis-based chain offers a better mix of substance and style. It faces fierce competition from Wal-Mart and Costco (COST) on food and staples, but such commodities drive just 21% of gross profits even if they contribute 37% of sales.
Target has perfected the one-two retail punch, drawing shoppers in with low-priced household products and winning them over with tea kettles designed by Michael Graves, bedding by Isaac Mizrahi, and Liz Lange maternity dresses. Such "cheap chic" and discretionary goods account for 60% of profits and just a third of sales, earning it the Frenchified moniker "Tar-jay."
Wal-Mart wins hands down in the thick of a recession, but over the long haul Target will attract those willing to pay a bit more for greater value. The median age of its shoppers is 41, the lowest among big-box discounters. Based on the Lexus and Mercedes SUVs in its parking lots, the median income of its customers may well be the highest.
Target is expected to generate $2.5 billion in free cash flow this year. At 14 times expected earnings, its stock, too, is cheap -- and chic.
Toyota
Michelle Obama gets driven everywhere these days. But if she manages to shake the Secret Service and sneak off for an afternoon, she might well drive an environmentally friendly Prius, or a sporty, fuel-efficient RAV4.
Car makers are risky bets; just look at Chrysler or General Motors. But even as auto sales slump for an 18th straight month, losses have started to narrow and showroom traffic is picking up.
Toyota (TM) has long offered slick styling, affordable prices and a wide range of vehicles, now including hybrids. By entering new markets, localizing production and cutting costs, it has managed to increase net income every year of this century -- until 2009. Merrill Lynch, for one, expects global auto sales to bottom soon and the world's largest auto maker to snag even more market share.
Toyota would be a logical replacement for GM in the Dow Jones Industrial Average (see Up And Down Wall Street Daily, "What Now, Dow 30?" May 26, 2009), although that would require Barron's publisher Dow Jones to break with tradition and pick a company outside the U.S. The new consumer would get it -- and approve.
Urban Outfitters
Compared with baby boomers with depreciating homes and decimated 401(k)s, teens and young adults are in pretty good shape. You can't lose your nest egg if you don't have one, and a 25-year-old with a job finds a whole world on sale today.
Lots of stores cater to the young and the feckless, but Urban Outfitters (URBN) has carved out an especially well-defined niche. The company's namesake chain sells moderately priced apparel and home furnishings to the so-called new homeless, folks between 18 and 30 who are moving into college dorms or starter digs. Some will graduate in time to Urban's Anthropologie stores for affluent thirty something women.
Too many retailers expanded zealously during the credit boom. Not so Urban Outfitters, which has fewer than 300 stores and hasn't saturated the market.

ALTHOUGH WE'VE CHOSEN to emphasize what these 10 companies offer consumers, we wondered how they've treated shareholders, as well. To gauge that, we asked the analysts at Bespoke Investment Group to chart how an equal-weighted index of the 10 stocks might have performed over the past decade. (The weight was adjusted with each addition of a newly public stock, such as J. Crew and Chipotle, in 2006.) The result: $100 invested a decade ago would now be worth $504. That's a 404% gain -- compared with a 30% loss for the Standard & Poor's 500 over the same span.
Such outperformance reflects the rise of these strong brands. Their future looks promising, too.
SMARTMONEY ® Layout and look and feel of SmartMoney.com are trademarks of SmartMoney, a joint venture between Dow Jones & Company, Inc. and Hearst SM Partnership. © 1995 - 2009 SmartMoney. All Rights Reserved.

23

IN THE DEPTHS OF THE Great Depression, Franklin Delano Roosevelt inspired confidence when he said, "The only thing we have to fear is fear itself." Today, our economy is definitely showing signs of coming out of a near-depression. Ironically, all our recovery has to fear is the recovery itself.
What I mean is that there is the risk that recovery will get in its own way -- that it could stall itself out before it really gets going.
We really are looking at the beginning of economic recovery here.
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ring-What-s-Next/">The banking crisis is definitely over with the Treasury and its "stress tests" having finally blundered into a formula that has helped troubled banks get back on their feet. New jobless claims, historically an excellent coincident indicator of the end of recessions, appear to have peaked. New orders for capital goods have turned positive for the first time since before last summer's financial crisis, and that's an excellent leading indicator of an investment revival.
But here's the problem. Take oil, for example.
It was a great assist to recovery to have the price of oil collapse to nearly $30 per barrel this winter. That happened because of a collapse in global demand as the world economy fell into deep recession. At the same time, it was good news in that it led to a fall in gasoline prices, which did a lot to enable consumers to go back to the shopping malls and start spending again after a dismal Christmas retail season.
But as the world economy has begun to recover and demand for energy has started to build, the price of oil has doubled. Gasoline price has risen, too. Last December, the average retail price in the U.S. for regular gasoline was about $1.65, according to the Department of Energy. Today it's about $2.45 -- almost a 50% increase.
It's great that the world economy wants to buy energy products again. But it's a lot easier for U.S. consumers to flock back to the malls with gasoline at $1.65 than at $2.45. If it was that low price that made recovery possible, will the new higher price kill it? It's a possibility.
There are a number of similar examples all with the same flavor of good and bad news.
Just think about those shopping malls. At the same time as consumers were left with extra spending money thanks to cheap gasoline, that money went further at the malls thanks to extraordinary price-cutting by merchants. Remember what it was like over the holidays and in January? It was typical to find discounts of as much as 75% on just about everything.
But have you been to a mall lately? Those discounts are simply gone. Yes, I understand that they were necessary at the time to move inventory off the racks and get anybody to buy anything at all. But now that the discounts are gone, stuff in the stores suddenly seems quite expensive -- even though it's just normal.
The same goes for housing. The drop in housing prices across the nation over the last two years has been a catastrophe for homeowners, but it's been a benefit to first-time buyers. Where prices have fallen the most, buying activity has been the greatest.
Take a look at the chart below showing the latest data on sales of existing single-family homes. In the western U.S., where prices have fallen the most, sales volume is soaring. But in other regions, where prices have fallen only modestly, sales are off. It's just like at the malls -- cut the price and the buyers will show up and buy.


But now what? What happens if home prices stabilize here? That would be a wonderful thing to be sure. But there will be a lot fewer buyers when the bargains aren't so obvious, because there are still a huge number of homes that need to be sold.
The worst example of recovery being a risk to recovery is interest rates. As I wrote last week, Treasury bond prices have been falling sharply the last several weeks as investors no longer insist on the absolute safety of government securities. That's a good thing, because it means the investors are willing to take risk again for the first time since the financial crisis last summer. But, at the same time, it's a bad thing because the economic recovery has been greatly assisted by low interest rates. And when bond prices fall, interest rates -- by definition -- go up.
It's an especially bad problem because mortgage interest rates are closely tied to Treasury yields. It's been a blessing to the troubled housing market to have mortgages available at interest rates below 5%. But how long can that last if Treasury yields keep rising?
Same for the interest rates on variable-rate mortgages. Many of them are tied to Treasury yields, and if those yields keep rising, then the monthly payments homeowners will have to make will rise, too. That's as bad for consumer spending as higher gasoline prices. It soaks up money that could be spent on other things.
Normally I'd just wave away all these issues. I'd recognize that the economy is always in equilibrium and say it's perfectly fine and natural for these impediments to recovery to crop up, ironically, as the result of recovery itself. What worries me this time is that the economic shock we experienced last year was so profound and our recovery is so new and so fragile, I'm just not sure we're ready for any impediments at all.
In other words, I'm worried that the economy is going to find its equilibrium at a very low level of activity and growth. Or to put it another way, I'm worried that our recovery is going to be a very weak one.
It doesn't seem to me that the stock market especially disagrees with me. From the March lows, we got as much as a 37% rally, but now that's stalled out. And even in the midst of the Great Depression, we had better than that (we had a more than 50% rally in 1930 after the Great Crash).
So be thankful for such a recovery as we have. It's a good thing. But don't count on the good times rolling anytime soon.
SMARTMONEY ® Layout and look and feel of SmartMoney.com are trademarks of SmartMoney, a joint venture between Dow Jones & Company, Inc. and Hearst SM Partnership. © 1995 - 2009 SmartMoney. All Rights Reserved.

48

Unless you're a repo man, it's tough to find uplifting news in the economy these days. Sure, the market's seen a few rallies this year, but unemployment is rising and house prices are falling. And most analysts' outlooks for corporate profits this year aren't exactly rosy. “There isn't a lot of faith in earnings right now,” says Alec Young, an equity market strategist for Standard & Poor's.
But not every stock will limp out of this recession as Wall Street's walking wounded. Companies with strong, defensible businesses may actually be able to grow during these rough
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times, says Morningstar equities strategist Paul Larson. Such firms tend to have a “wide moat” around their business, which keeps their profits up and rivals out. They may operate in industries with high barriers to entry — think defense contractors and biotechnology. And as weaker competitors falter or go out of business, they can pick up market share and thrive as the economy rebounds. “These are stocks that may bend with the headwinds but not break,” says Larson.
There's some evidence that these companies consistently beat the market, too. Morningstar tracks a few dozen stocks it considers to have wide moats, and from 2004 through 2008 the group gained 13.2 percent, versus a loss of 10.5 percent for the S&P 500. Such stocks tend to have high returns on capital, a measure of profitability that Wall Street loves. And they tend to benefit from “economies of scale” — being so large, they can keep their costs down and beat the competition on pricing.
Of course, wide-moat stocks don't always shine. This year they were down 4.1 percent through the first three months, still better than the S&P but behind stocks with no moats, like retailers. Several large financial firms are on Morningstar's wide-moat list, and their stocks have been hammered. And some companies' moats erode over time — just ask anyone who invested in General Motors thinking its size would protect its market share indefinitely.
Yet with the downturn in full swing, many pros are emphasizing wide-moat companies for their ability to ride out the recession and even boost their bottom line. Justyn Putnam of Gabelli & Co., for one, likes Apollo Group, one of the nation's largest for-profit education companies. The company can charge tuition rates similar to those of state schools and community colleges but still manages to operate very profitably. Enrollment has been rising as more folks head back to school. And the stock looks cheap, trading at 13 times estimated fiscal 2010 earnings, below its historical average. They have “tremendous cash flow,” Putnam adds, and the flexibility to raise prices.
Some experts also see opportunity in smaller firms that have strong niche businesses. Eric Ende, comanager of the FPA Perennial fund, likes Copart, one of the largest auctioneers of crashed, or salvage, vehicles. Copart's business isn't easy to crack, he says, since it operates salvage yards across the country and has developed a sophisticated Internet auction system. Profits have come down a bit as prices for used cars and scrap metal have fallen. But the firm is expanding into the U.K., and its virtual auctions reach buyers in Eastern Europe and other parts of the world where demand is stronger. Analysts also like the company's balance sheet, with no debt and a growing cash hoard — which should help keep it chugging long after the recession ends.
Our Picks
Companies with solid, defensible businesses have strengths that should give them an edge when the economy rebounds.

Apollo Group (APOL)


  • Price: $62


  • Market Value: $9.9 billion


  • 2008 Sales: $3.1 billion*


  • 2009 P/E: 15


Apollo owns and operates the University of Phoenix, a for-profit education giant with nearly 400,000 students nationwide. Enrollment is up this year, as more folks take courses to sharpen their job skills, says analyst Justyn Putnam of Gabelli & Co. The stock looks pricey based on fiscal 2009 earnings, but analysts expect profits to grow 20 percent, to $4.77 a share in fiscal 2010, making the stock more reasonably priced.

Copart (CPRT)


  • Price: $30


  • Market Value: $2.5 billion


  • 2008 Sales: $785 million*


  • 2009 P/E: 17


Junkyard dogs may be familiar with Copart, one of the country's largest auctioneers of old and salvage vehicles. Low prices for used cars are pressuring earnings, but the company has a solid balance sheet. Analysts expect profits to grow as it gains market share from smaller, independent rivals and its Internet auction system reaches more buyers outside the U.S.

VCA Antech (WOOF)


  • Price: $24


  • Market Value: $2 billion


  • 2008 Sales: $1.3 billion


  • 2009 P/E: 15


Pet health care can be pricey, but that's what rings the register for VCA, a large national operator of animal hospitals and diagnostic labs. Analysts expect the firm to acquire 40 to 50 hospitals this year. And while some consumers have cut back on pet care, the company managed to boost revenue and profits in the fourth quarter of 2008. The business has “tremendous cash flow,” says Ryan Daniels, an analyst with William Blair & Co., who thinks the stock has room to grow.

*For fiscal years ending August and July, respectively.

SMARTMONEY ® Layout and look and feel of SmartMoney.com are trademarks of SmartMoney, a joint venture between Dow Jones & Company, Inc. and Hearst SM Partnership. © 1995 - 2009 SmartMoney. All Rights Reserved.

15

Consider two stocks, identical in all respects save one: The first sells for $25 a share and the second for $3. Which should stock buyers prefer?
Versed investors will likely say price alone means nothing, but new evidence suggests the lower-price stock is likely to outperform.
Share price can be an arbitrary thing, since managers can adjust it anytime they like through stock splits and the opposite, called reverse stock splits. More telling is stock market value, or the share price times the number of shares outstanding. For example, Citigroup (
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.com/quote/C/">C) sells for $3 and change per share and Capella Education (CPLS), more than $50 a share. But multiply the prices by the number of shares outstanding, and you find the bank is valued at more than $20 billion and the online school less than $1 billion.
If share price is truly irrelevant, though, why do companies split their stocks? Further, why are stock prices so low? A 2006 study showed that the average stock price had remained about $30 since the Great Depression. Prices of consumer goods have inflated more than tenfold over the same span. If stock prices had done likewise, most stocks would today resemble Google (GOOG), which hasn’t split in its five years of trading and sells for more than $380 a share. For some reason, managers, who understandably strive to increase their stock market values, also seem keen on keeping stock prices low.
A new study suggests why: Low-price stocks outperform high-price ones, all thing equal. Chensheng Lu, a London hedge fund manager, and Soosung Hwang, a finance professor at Korea’s Sungkyunkwan University, studied stock price and return data for 81 years ended 2006. They found that low-price stocks (less than $5 a share) outperformed high-price ones (more than $20) by 0.83 percentage points a month, or 10 percentage points a year. Results are less extreme, but perhaps more relevant, for the period after 1963, since the year before American Stock Exchange and Nasdaq stocks were added to the data set, and the number of low-price stocks rose sharply. During that period, low-price stocks beat high-price ones by 0.53 percentage points a month, or just over six percentage points a year. These results, I should note, are detailed in a paper that has been in circulation for several months, but is too new to have been submitted for publication in a peer-reviewed journal.
Lu and Hwang attribute the results to nominal price illusion, a term researchers use for how investors are fooled by low prices. In the case of my two nearly identical stocks, a 20% increase for each would tack $5 onto the $25 one but just 60 cents onto the $3 one, making the price gap larger. One seems to be outpacing the other, even if price/earnings ratios rise in tandem. Eventually, investors swap the higher-priced stock for the lower-priced one. Managers, perhaps knowing this intuitively, call for splits when prices grow unfashionably high.
Investors should use caution in trying to put this information to work in their portfolios. While low-priced stocks seem to outperform as a group, previous studies have shown they’re also at greater risk for exchange delisting. Those who delve into single digits should pay careful attention to debt levels, since low prices can be a sign of financial distress. Investors who aren’t handy with financial statements can turn to mutual funds that load up on low-price stocks. I have a strong bias against actively managed mutual funds, since studies show most perform poorly. That noted, the Fidelity Low-Priced Stock Fund (FLPSX) has returned 8.6% a year over 10 years through April, vs. 2.5% a year for the Russell 2000. That’s after yearly fund expenses of just over 0.8%.
Two more points to consider. In the aforementioned study, low-priced stocks showed especially strong performance around January. Nimble traders seeking maximum profits might want to shop toward the end of the year and sell by spring. Second, a plunge in stock prices over the past year has made low stock prices less novel. The average share price among S&P 500 companies at the end of 2006 was $51. Today it’s $31. About 11% of members trade in single digits. It’s not yet clear how this swelling of the ranks of cheap stocks will affect their relative performance.
Listed below are stocks priced in single digits which are attached to companies with at least $300 million in yearly sales, modest price/earnings ratios, manageable debt levels and decent prospects for growth.


Screen Survivors


CompanyTickerIndustryShare PriceSales ($mil.)Price Change, 52 Weeks (%)Forward P/E




Data as of May 19, 2009




American ApparelAPPClothing5.47545-2715


BioscripBIOSSpecialized Health Services3.581400-1712


Cal Dive InternationalDVROil & Gas Services9.12919-3510


Flextronics InternationalFLEXPrinted Circuit Boards3.6933141-6613




Sara LeeSLEPackaged Food9.513224-3212




SMARTMONEY ® Layout and look and feel of SmartMoney.com are trademarks of SmartMoney, a joint venture between Dow Jones & Company, Inc. and Hearst SM Partnership. © 1995 - 2009 SmartMoney. All Rights Reserved.

47

Imagine paying for a home in cash. Not just not taking out a mortgage, but buying a home with an amount of money small enough to fit in your wallet. That’s what Volonte Williams, a real-estate investor, just did in Detroit, where he scooped up a three-bedroom house in a nice neighborhood—for $5,500.
It’s one of the stranger side effects of the real estate collapse: the pocket-change home purchase. Back in 2006 “distressed” property—xbank-owned or sold cheap by the homeowner to avoid foreclosure—accounted for less than 10 percent of the mark
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et. Now, according to the National Association of Realtors, the category accounts for nearly half of all sales. The result: deeply depressed home values in neighborhoods from the east side of Buffalo, N.Y., to the suburbs of Orlando and Phoenix. And even as the credit crisis begins to abate and some housing numbers improve, experts expect this ugly underbelly of the market to expand for months, if not years, to come.
For many communities, this collapse is a true-life nightmare, as boarded-up homes plague one block after another. But it’s also inspiring a new breed of eager real estate prospectors who are snapping up homes at absurdly low prices. While no one knows exactly what percentage of these homes is going to investors rather than owner-occupants, brokers across the country say they’re doing a brisk business selling to outside speculators. National listing service Homes.com reports increases of 30 to 50 percent year-over-year in searches for homes in foreclosure-heavy states like California, Michigan and Florida. And at least some of those searchers are buying: Home sales are way up in hard-hit towns like San Diego, Las Vegas and Detroit. In many cities a cottage industry has emerged to serve these out-of-towners, including consultants who help identify promising neighborhoods and flippers offering all-in-one packages. The curious can even hop on foreclosure bus tours, which sell out weeks in advance.
To most investors, of course, buying a neglected home in a struggling city sounds like far more trouble than it’s worth. But for others the crisis represents the chance to start on the path to Donald Trumpdom with a ridiculously low buy-in. Some see it as their last shot at making back the savings they’ve lost in the stock market. Even venture capital firms and hedge funds are joining the action. They buy bundles of 200 to 1,000 homes scattered in cities across the country for 20 to 30 cents on the dollar, hire locals to rehab and rent out the most promising properties, and abandon the rest. Buyers know they are taking a big risk, but the prospect of developing a steady rental income, if not eventually flipping the home, keeps them coming. “The return can be astronomical if it’s done right,” says Scott Galloway, a Huntington Woods, Mich., property attorney who represents venture firms based in Austin, Texas, and San Jose, Calif.
That’s a huge “if” in a recession as deep as today’s. Still, nowhere is this gold rush more frenzied than in one of the toughest markets, Detroit, where we spent a recent few days, and homes that sold for $120,000 in 2006 can now be had for a tenth that price. Never mind the headaches from copper thieves, crooked construction crews and notoriously high property taxes. The fire sale has attracted hordes of real estate optimists, who fly in with wads of cash or play the market from out of town, looking to assemble their own housing empires.
At first glance, Detroit certainly looks like it deserves its reputation as America’s bleakest big city. As of December it had 67,000 homes in foreclosure, and City Hall is predicting a 25 percent vacancy rate. With the median home price inside the city limits dropping to just $5,800, property is so cheap that there’s a movement afoot to convert parts of Detroit to an agricultural economy—some residents are already tending alfalfa fields and herding goats.
But there’s a case to be made for investing here. A shortage of quality rentals in safe neighborhoods keeps rents relatively high. Moreover, while the median home price in most cities is several times the median annual income, the inverse is true in Detroit, indicating room for price hikes once the credit market thaws. David Butler, a real estate veteran and founder of Hotspur Investment Group in Westminster, Colo., says his typical Detroit deal starts with buying a $15,000 single-family home in a nice area and spending another $30,000 on tax liens and repairs. Ongoing expenses such as insurance and property taxes cost another $3,000 a year. But the house can fetch $9,600 to $10,200 a year in rental income, and he expects to sell it for $80,000.
Returns like those are enticing droves of amateur investors. Tae kwon do instructor Donna Nowicki inhabits a universe a million psychic miles from the streets of Detroit. One side of her Center City, Minn., home faces a cattle herd; the kitchen overlooks a cornfield. But she spends many mornings online, touring Detroit’s newest foreclosures, searching for a fixer-upper. And while she has been to the city only once, she has the house-hunting confidence of a native. Last year she and her husband, Jim, paid a local consultant to drive them around town and show them the good neighborhoods. Donna, 47, kept a notebook and marked down her favorite intersections. “You can tell the areas where people are fighters,” says Donna, a second-degree black belt. So far they’ve bought three houses, sight unseen.
The Nowickis, who devour books by investing gurus like Robert Kiyosaki, decided long ago that real estate offers their best hope for a comfortable retirement. But Detroit was Jim’s idea. A 48-year-old sprinkler installer, Jim thinks their contrarian bet will pay off when the auto industry rebounds. Already, the Nowickis have had one success. They paid $15,000 for an impeccable brick colonial in an upscale neighborhood. After just $5,000 in renovations, the home quickly rented to a retired fireman for $950 a month. A local property manager takes care of maintenance, tenant screening and rent collection, and the house should pay for itself in less than two years.
If only every transaction were so smooth. During the rehab of a second home, thieves broke in and stole the water heater, furnace, bathroom vanity—even the toilet. Such burglaries are common, says Mark Maupin, a Detroit investor who teaches real estate at Wayne County Community College. Among experienced investors, standard procedure is to install an alarm system, tune the radio to the talk station and pay a neighbor $100 a month to park his car in the driveway.
The Nowickis did enlist help on a third property. A local woman has been keeping an eye on their $18,900 home near Mercy College and even threatened to shoot a vandal who tried to steal the air conditioner. “I love having her there,” says Donna. But even the neighbor can’t fix the tenant, a single mom with four sons who Donna says lied about her job to get the rental. Despite several ultimatums, she’s slow paying the $850 rent. Still, the Nowickis are far from discouraged; in fact, they’re looking to scoop up a few more bargains before prices start rising.
They’ll have to expand their empire a lot further and get their hands much dirtier to keep up with Volonte Williams, a former jazz musician and day trader turned real estate magnate. After success as a landlord on Buffalo’s decayed East Side—last year, he says, he flipped 10 properties for a $100,000 profit and grossed $14,000 a month in rent—Williams turned his attention to Detroit. So far this year he’s scooped up five homes, some for less than $5,000. He’ll never forget his first visit to the nation’s 11th-biggest city. “It spreads out like an atomic bomb,” Williams recalls thinking as he drove through the unending sprawl of boarded-up homes and businesses. “Like a mushroom.” Luckily, Williams has a field guide in fellow investor Shea Woods, a Detroit native, former forklift operator and self-described karaoke star who attracted Williams’s attention with video tours of cheap properties that he posted on YouTube. Now Woods drives Williams house to house, advises him on deals, reminds him of appointments and makes his phone calls.
Their first stop one cool spring morning is to supervise the rehabbing of a recent purchase. It’s a sunny 1920s home with hardwood floors, leaded glass and a handsome fireplace. Williams, who snapped it up for $5,500, is determined to keep his costs down. The three-man crew plastering and scraping the interior agreed to do the job for just $450, and Williams says he’ll use even cheaper labor for step two: He can hire another local to paint the whole house for $75.
Next, they pile into Woods’s white van to check out the first potential buy of the day, a two-family foreclosure colonial with a rabbit-warren layout, offered for $2,900. It’s one of two promising properties they’ll see this morning, a rare occurrence; many homes priced this low are beyond hope. The day before, the pair ventured to an unfamiliar neighborhood to inspect a bungalow for an out-of-town investor. They were shocked by the apocalyptic scene. Several homes on the block had been demolished. Vacant lots had reverted to prairie land. The remaining properties were caving in, burnt-out shells with smashed windows and missing doors. Woods had to call the investor and break the news: The block wasn’t fit for human habitation.
This block, however, looks well tended, and while Woods and a friend shoot a video (“It’s musty and has a smell to it, but that’s okay!”), Williams does a quick inspection. Aside from a hole in the ceiling, the house is in good shape, empty but for an old Xanax bottle lingering on the windowsill. “I’d be willing to live here,” says Williams. He tells Woods to call the broker and offer $1,000. Woods goes to work right away. “Latrina!” he shouts into his cell phone. “We’d like to make an offer on the Tyler property.”
“A thousand dollars,” Williams reminds his friend.
“Eight hundred,” Woods tells the broker.
One recent morning, Jeremy Burgess, a rising star on Detroit’s home-flipping scene, was interrupted at his desk by a call from France—another potential investor with the usual qualms. Burgess immediately launched into his pitch. “France is not too far away,” he told the caller. “I have investors in Lithuania!” He talked up his properties’ cash-flow potential, the care he put into choosing neighborhoods and homes, the convenience of hiring a local property manager. Within 20 minutes the caller was practically begging to see a list of available properties.
Burgess, 29, is already a local realty veteran. Along with his wife, Jeanna Kiehle, a former ballerina with Lady Godiva hair and a business degree, he bought his first Detroit home in the summer of 2006. Six months later the couple moved to the Motor City to work the market full-time. They now own 13 rental properties, but their focus is on their rehabbing-and-flipping operation, Urban Detroit Wholesalers. Working 16-hour days out of a restored warehouse, they’ve flipped homes to 43 buyers, many of whom have never set foot in Michigan. Burgess says that compared with folks who lost 40 percent in the stock market last year, he’s doing great. “I’m up about 100 percent,” he says. “How about you?”
How do you make a profit in a market where prices have been falling 4 percent a month? Burgess points to three small sections outlined in pink on his city map—areas where the average income is high enough to support decent rents, and residents take care of their property. He buys homes in these neighborhoods at bargain prices, submitting hundreds of lowball offers to banks and taking the handful that pan out. He gets a rehab discount through a partnership with Motor City Blight Busters, a nonprofit that trains ex-cons for new jobs by putting them to work on Burgess’s homes.
But Burgess is really selling what he describes as a hassle-free investment for out-of-towners who want Detroit property without the Detroit experience. A typical client is Paul Belt, a former military-systems analyst who lives in a small town in Nevada, east of Lake Tahoe. Belt, who has never been to the Motor City, spent two years researching the market but couldn’t take the plunge. Then last December he stumbled on a promotional video for Urban Detroit Wholesalers in which Burgess says, “Investing in Detroit is like walking along the street and shoveling up diamonds.” The video explains how his company screens the property, clears tax liens, oversees the rehab and installs a tenant: “No more sleepless nights!” A few weeks later Belt wired Burgess $30,000 for a 780-square-foot bungalow—plus $7,500 to cover the rehab. “Someday, I’m planning on flying out there and taking a look at it,” Belt says.
If Belt made the trip, he’d find a typical Detroit bungalow, neat as a nunnery, with ceramic tile in the kitchen, a fresh coat of tan paint and a postage-stamp front yard. He’d also see several similar homes on the same well-kept block selling for less than $10,000. As it turns out, Burgess paid just $8,000 for Belt’s home in foreclosure last October. While he had to pay $6,000 in liens and closing costs, he still doubled his investment when he sold the home to Belt. Belt says that’s fine with him; if he gets the expected $850 rent, his $37,000 investment will soon pay for itself. And who knows how much it may be worth 10 years down the line? Everybody laughs when they hear he’s bought a house in Detroit, Belt says, but he’s certain the city will stage a big comeback. After all, it can’t get any worse. “Detroit,” he says, “is too big to fail.”
SMARTMONEY ® Layout and look and feel of SmartMoney.com are trademarks of SmartMoney, a joint venture between Dow Jones & Company, Inc. and Hearst SM Partnership. © 1995 - 2009 SmartMoney. All Rights Reserved.

49

Companies don't seem interested in buying rivals at the moment, despite the comparatively low prices they could pay for them. That bodes poorly for stocks in general, but investors can still use the math of takeover pros to find bargains.
U.S. shares are 27% cheaper than a year ago, even after climbing 15% in the second quarter. During the first half, though, the value of announced acquisitions in the U.S. fell 45% from a year earlier, according to data provider Dealogic. TrimTabs, an investment research group, calls the second quarter the most bearish it has seen since it started
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tracking data in 1995, in terms of companies' zeal for selling new shares to the public and their reluctance to spend cash to buy either their shares or entire companies.
Investors should read that as a sign of stock-market pessimism among company managers, which signals poor market returns to come, according to TrimTabs. Perhaps that makes now a good time to raise cash, or at least trade pricey stocks for cheap ones. To the latter end, I've listed five companies below that corporate suitors might think are good deals right now, if they weren't so reluctant to spend. Some of the traits that can make a company a potential takeover target can also make it a promising stock. Chief among them is a modest price.
The companies have, in the parlance of merger and acquisition pros, low EV/Ebitda ratios. EV is enterprise value, which is what an investor would pay to buy a company in its entirety and repay all of its debt. Ebitda stands for earnings before interest, taxes, depreciation and amortization. It's a measure of underlying profit potential that allows for tidy comparisons of companies. A low EV/Ebitda ratio, then, means a company had a modest takeover price relative to its earnings potential. The companies on my list also generate free cash, something acquiring firms like to see.

BJ's Wholesale Club (BJ) shares have climbed 31% over the past five years, vs. an 18% decline for the S&P 500. They now sell for 13 times forward earnings, vs. more than 16 times earnings for the index. Sales and profits for BJ's are rising at the moment, as consumers forsake full-price shops for discount clubs. The company has low profit margins relative to peers like Costco (COST), but also increasing margins, which together suggest both improvement and room for more of it.

Dell (DELL) has suffered sharp sales declines of late, but it has reduced corporate expenses and still produces impressive returns on equity, the mark of an efficient company. In the absence of a global economic recovery, the chief appeal of the stock for investors is a low price. Subtracting the company's sizable cash balance from its stock price, shares go for about 10 times forward earnings.
Listed below are details on these two companies and three others.


Screen Survivors


CompanyTickerIndustryCurr. PriceEV/EbitdaReturn on Equity (%)Dividend Yield (%)




Data as of July 1, 2009




DellDELLPersonal Computers13.735.6046.9n/a


Sherwin-WilliamsSHWChemicals53.756.8632.02.64


Eastman ChemicalEMNChemicals37.905.6314.14.64


BJ's Wholesale ClubBJDiscount Stores32.235.9914.8n/a




Weis MarketsWMKGrocery Stores33.525.938.23.46




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42
Pick Your Favorites
As a child growing up in the 1980s, I was utterly fascinated by the plasma globe, a novelty lamp first introduced by Sharper Image in 1987. A trip to the mall wouldn’t be complete without nagging my parents to let me stop by the store and play with it for a few minutes. I imagined having one of my very own.

Now, with 20 years hindsight, I can see what a downright foolish impulse it was to covet such a useless toy. The plasma lamp was undoubtedly cool, but with limited utility, especially for a 12-year-old boy.
It takes a certain
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level of maturity to realize that you can enjoy and appreciate something without owning it. Even now, I admire the precision engineering and design of the Audi TT, but don’t necessarily need to have one parked in my driveway.
The same sort of discipline should hold true in your portfolio. With markets having rallied sharply since March, investors now sitting on piles of cash are eager to get in the game. And while many stocks and sectors look attractive, the astute investor must concentrate only on his top ideas—whatever they happen to be. You simply can’t buy everything that that looks good and moves.
For example, I’m in awe of many of the advancements being made in solar technology within companies like First Solar (FSLR), Suntech Power (STP), SunPower (SPWRA). Yet in my portfolio, given my risk budget and existing holdings, I simply don’t have room right now. As much as I admire their technology and potential, they’re simply not on my list of must-own names.
One reason is that my first loyalty is always to the positions already held in my portfolio. On the rare occasion trades actually end up working out, I think you should do your darndest to actually stick with them, exactly why many of my previous favorites, Japanese names like Kubota Corporation (ADR) (KUB), Konami Corp. (KNM), Sony (SNE) and Mitsui & Co. (MITSY) have been held or even added to as equities have rallied. 
Between stocks, funds and ETFs, there are always a number of investment ideas that catch my eye. But because you can’t bet on everything, you must narrow down your favorites. You might appreciate a stock but simply not buy it. So pick your top names and leave the rest by the side of the road.
Letting the Market Decide
When I speak with individual investors, they frequently show me a portfolio of stocks in which, these days, many happen to be held at a loss. Indeed, the agonizing quandary most of us deal with is not about which new stocks to buy, but what to do with the ones we already own.
What I don’t advocate doing is waking up one morning and dumping positions, even those held at a loss. Markets have a way of playing us, and the minute we decide to liquidate our holdings is inevitably the moment they decide to jump higher.
Instead, I suggest using stop-loss orders, placed below the current market price, and essentially letting the market determine if I should continue to hold or take my lumps and move on. This can be especially useful in markets such as we are now in, where stocks have rallied sharply off multimonth lows.
One a trade is made and shares are in your portfolio, you might think of it as a horserace where the ponies have left the gate and are already galloping around the track. At that point, all the research and analysis in the world is moot. Keep your emotions out by putting your stop loss orders in. When it comes to holding on or moving on, let the market itself decide what direction you should take.
What’s Hot and High Priced?
As investors, we have a perverse love for low-priced stocks. There’s something bizarrely satisfying about buying thousands of shares of a Citigroup (C) or RRI Energy (RRI) for no other reason than they are low priced. This is exactly the fallacy that hurt so many investors in Sirius (SIRI), a once-$40 stock that, earlier this year, hit an all-time low of five cents a share.
At the same time, we shun high-priced stocks as being “too expensive,” even knowing that stock price is essentially arbitrary. Through the use of stock splits or reverse splits a company can set the price of its stock virtually anywhere.
To that end, the true contrarian might be the investor who seeks out strong, high-priced names knowing that average investors would almost never consider a $100 stock, simply based on its high price.


High Priced...And Worth It


CompanyTickerPrice




AtrionATRI$119.99


Thompson Reuters PLCTRIN167.67


NVRNVR498


Wesco FinancialWSC305




AlconACL112.50




(Another) Bailout Index
Earlier this year we profiled the Nasdaq OMX Government Relief Index (QGRI) and the Ethisphere TARP Index, both designed to track the results of the government’s bailout efforts.
Now Dow Jones is getting into the act. The Dow Jones U.S. Economic Stimulus Index is designed to measure the stock performance of companies expected to benefit from the bailout program, as opposed to companies that are actually bailed out.
The 50-name index holds approximately 38% in industrials, 18% in technology at 15% in utilities, with major components including Freeport-MoMoRan (FCX), McDermott International (MDR), Nalco Holdings (NLO) and Google (GOOG). It is up 10% over the past three months. Can a bailout ETF be far behind?
Parting Shot
“In those days, when grown men with families to support were reduced to selling apples on street corners, any job, no matter how little it may have paid, was considered precious.” That's by David Feldman, writing about his experiences as a stockbroker during the Depression in “The Ups and Downs” (Fraser Publishing, 1997).
SMARTMONEY ® Layout and look and feel of SmartMoney.com are trademarks of SmartMoney, a joint venture between Dow Jones & Company, Inc. and Hearst SM Partnership. © 1995 - 2009 SmartMoney. All Rights Reserved.

14

When it was launched in 1976, the Vanguard 500 index fund (VFINX) – the first of its kind to offer investors market returns at a low price – sparked a heated debate that still simmers in the mutual fund world: Which is better, active or passive management?
Regardless of which camp you’re in, it's hard to argue with the Vanguard 500 fund's success. Since its inception, it has returned an average annual 9.8% while charging some of the lowest fees in the business. Indeed, depending on the share class, the annual exp
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enses run as little at $9 a year for every $1,000 invested. The average actively managed equity fund can charge over 10 times that amount.
Even as the investing world gets sidetracked by "stress tests," dismal earnings and banking woes, it’s still important to remember the most important element of fund-picking: low fees. There are plenty of things that impact fund performance: good (or bad) stock picking, a well-honed (or flawed) investing strategy and the larger economic picture. But fees also play a part -- and there is a powerful incentive to pay attention to them. Over the life of a retirement account, expenses can eat up tens of thousands of dollars.
This week, the SmartMoney.com fund screen looked for funds that had the lowest annual expense ratios in their respective Lipper classifications. That last detail is an important one. If we simply screened for the lowest annual expense ratios, regardless of classification, the table below would be filled with S&P 500 index funds. That's not our goal. Our method finds the cheapest small-cap fund, the cheapest health-care sector fund and the cheapest international offering. We also mixed in performance data. After all, what good are low fees if returns are poor? We ultimately found 22 funds.
Mutual fund fees and how they relate to performance has been widely studied in the academic world. Mark Carhart, a former professor at the University of Southern California, produced a definitive study in 1997. In "On Persistence in Mutual Fund Performance" he tried to nail down exactly what impacts fund performance year after year. One conclusion: "The investment costs of expense ratios, transaction costs and load fees all have a direct, negative impact on performance," he wrote.
Some investors -- especially those who believe in a manager's ability to beat the market -- will take issue with that as a blanket statement. If you were fortunate enough to invest in CGM Focus (CGMFX) heading into 2007 you would have enjoyed an 80% return by the end of the year. That makes paying its 0.97% annual expense ratio much more palatable. However, investors also had to be smart enough to take some profits after that run-up. The fund dropped 48% in 2008.
Investors can also be rewarded in another way for seeking out low-fee funds. If they're willing to move lump sums of money into certain offerings, fund companies will give them a discount. Vanguard offers its Admiral share class to investors with over $100,000 in a fund or to those with $50,000 and 10 years worth of ownership. The share class slashes fees on some funds by anywhere from 18% to 50%. Fidelity's Advantage share class also kicks in with a $100,000 investment.
Of course, in addition to low fees, we want to see a good performance. We offer up our finalists with one caveat: Ailing banks, poor earnings, government programs, falling house prices -- the list of things that can impact stocks is long and varied and won't dissipate any time soon. "Who knows how this stuff will play out," says David Hefty, co-founder of Cornerstone Wealth Management in Auburn, Ind. So while we think the funds below are worthy of consideration, investors of all stripes should prepare for tough times ahead.

The Criteria: The equity funds on our list have annual expense ratios that are in the lowest 5% of their respective Lipper fund classifications. They are open to new money and don't charge a sales load. We waived our usual $5,000 minimum investment criteria since some fund companies offer discounts on larger positions. The funds had three- and five-year performance track records that put them in the top 20% of their peer groups. Finally, we did not consider target date, asset allocation or balanced offerings of funds of funds since they get their own screens at other times during the year.


Funds With Cheap Fees


TickerNameAssets ($ Millions)YTD Return (%)3-Year Average Annual Return (%)5-Year Average Annual Return (%)Expense Ratio (%)




* Sister share class offers cheaper expense ratio ** Instutional share class requires a $50,000 minimum investment *** Admiral share class




BUFSXBuffalo Small Cap125613.5-6.641.861.00


SPFIXCalifornia Investment Trust S&P 500541.46-9.88-1.840.36


CGMRXCGM Realty701-9.50-10.838.770.86


GSFTXColumbia Dividend Income777-2.81-5.592.000.80


FSAGXFidelity Select Gold22476.840.8218.950.85


FSMEXFidelity Select Medical Equip. & Systems10295.26-0.262.810.88


FSCSXFidelity Select Software & Computer Services53811.68-2.731.590.86


FWRLXFidelity Select Wireless23735.66-4.896.770.91


FSMKXFidelity Spartan S&P 500 *48291.47-9.97-1.840.10


HAINXHarbor International **125772.69-8.236.670.79


LEXCXING Corporate Leaders313-4.67-6.273.310.51


JAENXJanus Enterprise115312.23-6.932.810.92


JAOSXJanus Overseas392033.15-3.3213.010.90


MCHFXMatthews China85425.5211.7615.991.23


SWPPXSchwab S&P 50020551.36-9.84-1.770.19


PRHSXT. Rowe Price Health Sciences16591.21-2.442.460.86


RPMGXT. Rowe Price Mid Cap Growth928413.8-7.212.930.82


PRMTXT Rowe Price Media & Telecommunications87020.0-4.287.470.90


VFINXVanguard 500 *345041.43-9.99-1.880.16


VDIGXVanguard Dividend Growth17450.18-3.962.050.36


VWILXVanguard International Growth ***26726.93-10.143.340.28




VWENXVanguard Wellington ***138461.84-2.383.460.18




Recipe

  • Fund Classification = *

  • Annualized 3-Year Return (%) = Display Only

  • Rank in Classification (%) (3 year performance) <= 20

  • Annualized 5-Year Return (%) = Display Only

  • Rank in Classification (%) (5 year performance) <= 20

  • Expense Ratio <= bottom 15% of classification

  • Load Fund (type) = No Load

  • Open to New Investors = Yes

  • Total Net Assets ($ millions) >= 50

  • Year-to-Date return = Display Only


* Screen does not include fixed income, fund of funds, target date or balanced offerings.
SMARTMONEY ® Layout and look and feel of SmartMoney.com are trademarks of SmartMoney, a joint venture between Dow Jones & Company, Inc. and Hearst SM Partnership. © 1995 - 2009 SmartMoney. All Rights Reserved.

13
Applied Materials Post Mixed Results
Computer chip maker Applied Materials (AMAT) swung to a loss for its latest quarter and lowered its outlook, but also said market conditions were improving and that the bottoming process was nearly complete. Shares lost around 4% during early trading Wednesday.
The Santa Clara, Calif.-maker of semiconductors lost 10 cents a share for its fiscal second quarter, in line with Street estimates. (It earned 22 cents a share a year ago.) However, revenue dropped by more than half, to $1.02 billion from
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$2.2 billion a year ago. The company also said its fiscal third quarter loss would come in around six to 14 cents a share. That’s a wider range than the Street consensus of 7 cents a share. Revenue for the next quarter could drop as much as 15%.
"The macroeconomic environment impacting our customers remains difficult and uncertain" Chief Financial Officer George Davis said on a Tuesday evening conference call. "We see low levels of revenues, with spending concentrated in a few customers. In this environment, a change in just one customer's plans can lead to large impacts on our performance."
While the U.S. economy appears to show signs of a slowing rate of decline, CEO and Chairman Mike Splinter said meaningful improvement depends on a sustainable recovery in customers' end markets.
Needhan & Co. analyst Edwin Mok said the current cycle had passed its low point, but Applied Materials' concentrated customer base remains vulnerable and investors should be cautious. Display chips are poised for an upswing, but that could be limited by the company's other business segments.
"Overall, bookings will bounce off a bottom, but the magnitude of a calendar second-half 2009 recovery remains uncertain," he wrote in a Wednesday note.

Bottom Line: Hold
Tech has been a break out sector. But investors need to patient for a longer term recovery.
Cost Cutting Boosts Ann Taylor
Investors on Wednesday bought shares of Ann Taylor Stores (ANN) after the women's apparel retailer said pending quarterly results would be better than expected thanks to tighter cost controls.
President and CEO Kay Krill said at the company's annual shareholder meeting that fiscal first-quarter sales results were soft, but the company will still have good bottom line results when it reports earnings May 20. Wall Street analysts on average expect a loss of 24 cents a share.
Retail sales have become a barometer in the current economic environment. On Wednesday the Commerce Department said retail sales during April slipped .4%, an unexpected drop. That broad market sold off on the news. That data has been reflected in the sales figures at companies like Ann Taylor and Liz Claiborne (LIZ). Both have endured cutbacks in consumer spending.
Krill blamed some of the company’s performance on a product mix that "was not compelling and did not yet reflect the evolution of the brand.” She added: "We did manage our expenses and our inventories very well in the quarter, and we were successful in delivering a first quarter 2009 gross margin rate that was much higher than the gross margin rate we reported in the fourth quarter of 2008.”
Liz Dunn, an analyst with Thomas Weisel Partners, wrote Wednesday that investors who already expected margin improvements would find declining sales projections disappointing.
"We are pleased to see stabilization in gross margin, but longer term operating margin expansion will need to come from improvement in sales trends, which have yet to be realized due to merchandising issues," she wrote. "We could get more constructive on the stock with signs of progress on improving merchandise."

Bottom Line: Sell
Today's bump is at least partly attributable to a short squeeze, as about 11% of Ann Taylor's shares are held short. Shares will likely ebb again before recovery.
Housing Data Hurts Beazer
It's a buyer's market for houses, especially foreclosed ones that sell at a discount. The National Association of Retailers said Tuesday that 134 out of 152 metropolitan areas reported lower median existing single-family home prices during the first quarter vs. the same time period last year. First-time home buyers took advantage of those low prices. They accounted for half of all purchases during the first quarter.
"Many buyers sought deeply discounted distressed sales – foreclosures and short sales – which accounted for nearly half of transactions in the first quarter and weighed down median home prices in most markets," the group said.
That news caused investors to bail on home builders. Beazer Homes (BZH) lost almost 17% in early trading Wednesday.
Beazer President and CEO Ian McCarthy, in a conference call last week after the builder reported a worse than expected quarterly loss of $2.09 a share, said the deep discounts on distressed properties would be a big factor in sales. Foreclosed homes sell at an average discount of 20%.
"I'm worried about the foreclosures," he said Friday.
The NAR data supported McCarthy's fears: Sales rose in six states hit hardest by foreclosures. Housing sales shot up more than double from a year ago in Nevada, rose 81% in California and climbed 50% in Arizona. Sales also increased in Florida, Virginia and Minnesota. The NAR estimated there will be 2.8 million foreclosures this year and 3 million in 2010.
If the bottoming process is a slow one that hurts builders for a longer than expected period, it's also a cyclical one, McCarthy said.
"On the demand side, it has got to come up. There will be demand coming through," he told investors and analysts. "And when you get that, that's why you get that spike back up."

Bottom Line: Hold
The stock is heavily shorted – almost 25% of its public float – and the sector will be volatile for some time. Look for a spike as an exit point unless your risk tolerance is very high.
SMARTMONEY ® Layout and look and feel of SmartMoney.com are trademarks of SmartMoney, a joint venture between Dow Jones & Company, Inc. and Hearst SM Partnership. © 1995 - 2009 SmartMoney. All Rights Reserved.

32

ELECTRIC-UTILITY STOCKS may lack sizzle, but many sport attractively low price-earnings multiples and offer ample dividend yields.
Regulated utilities now trade for an average of 12 times projected 2009 profits, a sharp discount to the Standard & Poor's 500 stock index, which, at around 1040, fetches around 17 times this year's anticipated profits. Based on 2010 earnings estimates, the utilities' P/E multiple of 11.5 likewise is comfortably beneath the broad market's 14. Utility dividend yields average just over 5%, more than double the 2.1% of the S&P 500.
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br />The yield spread between the utilities and the S&P 500 is near a five-year high. The utility dividend yield also stacks up well against 10-year Treasury bonds, which now yield 3.3%, and top-grade 10-year municipal bonds, now yielding 3% or less after the sharp muni-market rally this year. Dividends paid by the major regulated utilities look safe, and investors could see modest annual increases, enhancing the appeal of utility stocks relative to bonds.
Most utilities are expected to report average earnings gains of 6% to 7% in coming years -- impressive for a supposedly dull industry. Warren Buffett is a fan of the sector, admiring its predictable, if moderate, gains. One of the largest divisions within Buffett's Berkshire Hathaway (BRK.A) is MidAmerican Energy, which owns regulated utilities in Iowa and the Pacific Northwest.
Investors won't make a killing in the major utility stocks. Still, many of the shares could see upside of 10% or more in the coming year; include dividends, and the total return might top 15%. And given their defensive characteristics, utilities are apt to hold up better than the S&P if the stock market corrects.
Utilities are a contrarian investment these days. Hoping to capitalize on a recovering economy, many investors are piling into "offensive" shares in the faster-growing financial, technology and industrial sectors. Reflecting this mood, most equity strategists featured in Barron's cover story in our Sept. 7 issue urged investors to underweight utilities.
"This is not ordinarily a time to buy utilities, given the economic recovery and the associated risk of higher inflation and interest rates," says Hugh Wynne, the utility analyst at Sanford C. Bernstein. "But utility stocks may already have factored in the threat of higher rates as well as the risk of increased taxes on dividends when the Bush tax cuts expire in 2011. You shouldn't assume they will underperform." Dividends are now taxed at a favorable rate of 15%. Historically, the bulk of utility returns have come from dividends.
Wynne likes PG&E (PCG) and Edison International (EIX). To those who argue that utilities will underperform in a market rally, he and others counter that this already has happened. The Dow Jones Utility Average is up about 25% from its March low, roughly half the gain of the S&P 500. But year to date, the utility index is flat, versus the S&P's 15% rise. Stocks such as Southern Co. (SO), American Electric Power (AEP), Entergy (ETR) and Exelon (EXC) are down in 2009.
The risks to utilities appear modest, especially compared with the threats facing big telecoms, such as Verizon Communications (VZ) and AT&T (T). Most utilities are in the midst of big capital-spending programs to rebuild their power grids, construct new transmission lines and open new plants.
Utilities typically are allowed to raise electric rates to fund new infrastructure. Most state regulatory commissions agree that the companies need roughly 10% equity returns on their investments in order to keep building capacity. Power demand has dropped about 4% in the past year, owing to the recession -- but that hasn't hurt most utilities. Over time, U.S. electricity demand is likely to rise modestly, spurred by population growth, a recovering economy and increased ownership of electric cars.
There's little variation in the P/E ratios of the big regulated utilities. Companies such as Southern, Consolidated Edison (ED), PG&E, Duke and American Electric are among the safest in the group, because they get the vast majority of their revenue from regulated power operations and little from independent power divisions, whose profits swing, based on market prices for electricity. Prices have been weak because of the recession, a cool summer in much of the country and falling natural-gas prices.

MOST UNREGULATED POWER producers own low-cost nuclear and coal plants. When natural-gas prices are high, open-market electric prices tend to increase, providing a pricing umbrella for the independent power operators. With gas tumbling this year to $3 per thousand cubic feet, power prices have fallen, reducing the independents' profits.
Among the big regulated utilities, Wynne favors PG&E, which serves the northern and central parts of California. Its operations are almost entirely regulated, and its shares trade around 40, or for nearly 13 times projected 2009 profits of $3.16 a share and almost 12 times estimated 2010 earnings of $3.40. Wynne contends that PG&E's profits can expand at an 8% annual clip in the coming years, fueled by capital spending, primarily on new transmission and distribution infrastructure. His price target is 45

A CASE CAN BE MADE for most of the major regulated utilities. Con Edison is low-risk because it is involved mostly in the transmission and distribution of electricity and gas. It is largely out of the power-generation business, and is allowed to pass on changes in purchased-power costs to its New York customers. It yields nearly 6%. Southern historically has had one of the highest P/Es in the group, owing to a favorable regulatory environment and good growth prospects. Its stock has lagged this year, leaving it undervalued.
Citigroup analyst Brian Chin favors American Electric Power, which has one of the group's lowest P/Es. At 30, it trades for less than 11 times projected 2009 profits and yields 5.3%. With operations in the Midwest and Texas, American Electric Power is more exposed to weak industrial markets, and the regulatory environment in Ohio is viewed as difficult. Also, environmentalists and others have stalled construction of a half-finished $1.6 billion coal plant that an American Electric unit is building in Arkansas.

EDISON INTERNATIONAL, Dominion Resources (D), Entergy, Exelon, FPL Group (FPL) and Public Service Enterprise Group , or PSE&G (PEG), are integrated utilities, which have a mix of regulated and unregulated operations. Thus, they carry more risk than regulated companies. Their stocks have trailed those of regulated operators, reflecting weakness in power prices.
Wynne likes Edison International, the parent of both Southern California Edison and independent power producer Edison Mission Energy, which owns a group of coal-fired generators. He has called Southern California Edison "perhaps the fastest-growing, most favorably regulated electric utility in the United States."
SoCal Edison, which is expected to contribute about 80% of Edison's projected earnings of $3 a share this year, is capable of generating 11% growth in annual profits in the next five years. Wynne values SoCal Edison alone at $33 a share, in line with Edison's current share price. That means that investors effectively get Mission Energy free. Wynne has a price target of 36 on the stock.
Edison's profits are expected to fall almost 20% this year, reflecting declining earnings at Mission. If power prices recover, Mission will do better, potentially lifting the stock. It peaked around 60 in 2007.
Exelon, with the largest independent power unit fueled by nuclear plants, is a play on carbon legislation. The more onerous the burden on carbon-heavy coal plants, the better the outlook for Exelon's low carbon-emission nuclear plants.
In sum, electric utilities, with safe and ample dividends and decent growth prospects, are good bets for investors seeking income or protection from the next slide in stocks.
SMARTMONEY ® Layout and look and feel of SmartMoney.com are trademarks of SmartMoney, a joint venture between Dow Jones & Company, Inc. and Hearst SM Partnership. © 1995 - 2009 SmartMoney. All Rights Reserved.

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