How Do You Find Tomorrow's Champion Stocks As Bear Markets Wind Down? By Lynn Carpenter 
“Nothing personal, it’s just business…” From the mouth of some Gordon Gecko-ish “greed is good” lizard as he backstabs the competition, a Godfather character, or a Chainsaw Al Dunlap type as he cuts old mens’ jobs to save a corporate buck, that’s about the disinterested cruelty you’d expect. But “just business” has a bright side. A very bright side. It’s how good stock analysts find great companies--by focusing on what’s “just business” and leaving the emotions of the latest market price to others. Today, the ability to do that well will give you the kind of intellectual power that will seem almost magical as the bear market starts its end phase. Analyzing the business and not other people’s opinions of the moment—a.k.a. what they’re paying for the stock today—is always the right strategy for a value investor, but in this economy it almost assumes the shape of a secret weapon. Bear Market Down, Bear Market Up—Two Different Psychologies Here’s why: Bear markets have a distinct two-part pattern. First, whatever set them off overwhelms everything. This time, it was the mortgage crisis and oil prices that did the dirty work. Day after day, no matter what else happened, the deluge of bad news from those two issues dragged everything to the bottom with them. Everything. Even software, biotech, and gambling stocks… even REITs that specialize in storage lockers, though none of these industries have much to do with mortgage rates, and oil prices affect them only modestly. All cats are gray at night. The only stocks that escaped the devastation were those tied to commodities like steel or coal because, like oil, their prices were rising at astounding rates. INTERNAL ENDORSEMENT Winners Cherry Pick!
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You don’t want to miss out… because, today, you can jump into any one of seven companies at what should be their once-in-a-lifetime lows… each is poised to take you to new highs. Grab this low-hanging fruit here. | Eventually, this “buried in the flood” effect changes. The human mind can only be scared witless by the same thing so many times. The same old subjects begin to dull with familiarity. And the first part of the bear market begins to end. The second part starts… and that’s when other matters like earnings, sales records, mergers, acquisitions, and product breakthroughs that used to get a bare moment’s notice amid the pressing bad news suddenly seem fresher and more interesting. The trick to bear market part two is using the right bits of this good news to find not only the earliest stocks to emerge from the bear market while they’re still cheap, but more importantly those companies with strong legs. The Winner’s Tattoo Draws a Heart Around Profit Margins Headlines won’t help you much in this search because they will focus on the less important things too heavily. They will, as usual, dwell on whether earnings expectations were met or missed. They’ll linger over sales growth without examining its quality. The numbers you want to dig for in those press releases are the ones the smart analysts will be watching—the profit margin trends. In particular, pay attention to profit margins to note whether they are getting better. Those will be the companies to examine well and think about buying. With inflation at work, sales growth may be no more than price inflation driving up the dollars taken in… but profit growth still means something. The S&P 500 has an average 1-year increase in sales of 8% at present. On the surface, that sounds excellent, but it’s not. Of the nearly 3,000 stocks that match or beat that 8% sales growth, only 571 can brag about a 5% or better improvement in their 5-year average net profit margin. Yes, many companies are selling more, collecting more dollars, but they are paying much more for materials and overhead. They are holding on, which is something admirable in itself. There are good stories among them, but it’s hard digging to properly analyze them deeply. Instead, go the easier route, the one that surprisingly few people even consider. Look for companies that are improving their profit margins. How do you find them? As this bear market ends, read a few more paragraphs into the earnings press releases that interest you. Read past the usual headline and top paragraph basics and get to the part about profit margins. It’s hard to increase profit margins in a recession. It’s hard to do it with inflation. And it is proving really hard now when businesses are facing both. If you have to focus on one thing in the earnings reports coming your way this season, make it profit margins. That’s the secret the pros will be looking at, too. Lynn Carpenter P.S. To let me know what you thought of today's article, send an e-mail to: feedback@investorsdailyedge.com. [Ed. Note: For more companies that can protect and grow your wealth, check out Lynn Carpenter's Rising Tide Letter. She recommends companies that consistently deliver outstanding results. Click here for more info.] Food Fight! Cheaper Corn, Higher Oil—Which Food Companies are Winning and Losing Now By Lynn Carpenter As an example of how the improving net margin separates winning companies from those getting along OK or worse, there’s no better place to look than the food companies. For many of them, the soaring costs of corn, wheat and oil have raised their costs painfully. The cereal makers intend to raise prices again, which may result in more dollars to the sales column of future earnings reports, but not necessarily to better earnings or, most importantly, better profitability. Quarterly reports have millions, billions and thousands dancing across the charts of financial results, footnotes, interpretations…. But the basic idea is simple: If you made 1,000 boxes of granola in your kitchen at a cost of $3 a box and sold them for $5 a box, you’re doing nicely. If your ingredients and fuel suddenly raise your cost to $4 a box, your profit margin is 50% lower. Now raise your selling price to offset that dollar increase in costs that you anticipate. Add a little extra for good measure, you’ll price your granola at $6.50 a box. And by the way, those two teenagers and the part time driver that are helping out still get paid… they’re costing you 50 cents a box. Next quarter, you count up sales dollars and find they’ve soared 20%. A year ago, you sold $1250 worth of granola in the same quarter. Now you’ve jumped to $1,500. Break out the Cold Duck. But wait… when you look beyond the higher dollar sales intake, you discover things are not so good. That 20% increase in sales came on only 230 boxes of granola compared to 250 last year in the same quarter. What’s more, that 50-cent a box cost for labor increases to a 55 cents per box clip. And you miscalculated the impact of fuel. You thought it would go up 50%, not that it would double. Now, despite “better” sales, you’re running on a much thinner margin. And then Jane down the street gets into the business, and she’s offering her wares at $6 a box. This is what is happening in the food business right now. Many are battling rising input costs and tough competition. But few are actually benefiting from events and price trends. The telltale difference is in who’s merely holding on against pressure and who’s advancing in how profit margins hold up. For instance, Kraft was a hot stock for a while after Altria spun it off. But from an 8.6% average net profit margin over the past five years, it dropped to 7.2% last year. And in its most recent report, that margin was down to 5.8%. That drop came despite the illusion that all was well because sales rose 8.4% from FY 2006 to FY 2007. Profit margin in 2008 will be lower still if the early quarters’ trend wins out. In contrast, Hormel reported a 17% improvement in its net profits from a year ago, thanks to lower pork prices and a newfound love among cash-strapped families for its iconic product—Spam. Of course, if you’re talking turkey—that might be a problem next quarter, but probably not enough to turn Hormel’s trend the wrong way. That’s the kind of trend you are looking for. This sort of information is in the companies’ press releases, including those issued through Business Newswire. I used food companies as an example because we all understand that business easily. And this is just a cursory glance, an example of the kind of information you want to see. But it’s not too hard. Just let those press releases come to you. Skip the headlines and check what they say about how profit margins are doing. You are bound to find some companies that will emerge from this bear market and this shaky economy ahead of others. Good luck, and here’s to Spam in a can. INTERNAL ENDORSEMENT How to Survive – and Thrive –
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