Income Security Recommendations

BondsOnline Advisor – August 2007
By Stephen Taub

The BondsOnline Advisor strives to present you with income investment insights from analysts throughout the United States.  Bonds, preferred stocks, real estate investment trusts, or master limited partnerships can be a part of a successful income portfolio – and BondsOnline and PreferredsOnline provide the “Income Investor Tools” to keep you informed.

For a full list of the 21 stocks and 18 closed-end funds in the August issue - subscribe to our Yield and Income Investor Newsletter www.yieldandincome.com.  The newsletter is also available to monthly and annual subscribers to PreferredsOnline – All Sectors, www.epreferreds.com.

Global Equity Strategy/Credit Suisse Securities
The investment bank recently proclaimed the return of large stocks. “We are now seeing evidence of a turnaround in the fortunes of big-cap stocks,” said CS in a recent report.

For one thing, it believes big caps are cheap. CS noted that the group historically traded on an average 30% premium to the market, yet now it trades on an average discount of close to 17%. “On a sector-adjusted basis, big cap trades on a 10% average discount to small cap,” it added.

CS also believes the economic backdrop appears increasingly to favor big caps. For example, it said large companies outperform when credit spreads rise, which is occurring.

It also asserted that big-cap credit quality is generally better than that of small cap, and earnings momentum of big cap is better than small cap.

Strategy/Citigroup Research

Citi recently told clients its model favors large-caps over small-caps for the first time in four quarters, noting that four out of five model factors favor large-caps this quarter.

For example, at the beginning of July, its model forecasted for the first time in four quarters that the S&P 500 will outperform the Russell 2000 through September 2007.

How good is this model? Its out-of-sample back-tested Large-/Small-Cap Rotation Model from first quarter 1993 through second quarter 2007 has returned 3.77% per quarter, while those of the S&P 500 and Russell 2000 indices were 2.92% and 3.10%, respectively. Citi also asserted that the model has forecasted correctly in 37 of the last 58 quarters (63.8%).

Strategy/Wachovia Securities

The bank recently noted that investors are clearly becoming more risk averse in the wake of the collapse of the subprime mortgage market and torrent of multi-billion dollar deals waiting to be securitized.  “Risks have clearly increased in the economy, particularly with firms tied to housing and motor vehicle manufacturing,” it added.

On the positive side, the economy remains relatively sound, Wachovia noted. Also, the trade deficit recently declined, as exports increased.

Looking at the yield curve, the bank asserted that the inverted yield curve and the below 5 percent 10-year rate are too rich to be consistent with the fundamentals. “There is no recession and inflation is not dead,” it added.

It maintained the Fed is unlikely to ease this year and the dollar is likely to weaken further. Foreign capital inflows have diminished in recent quarters, it added “All this suggests that fundamentals do not support current yields,” Wachovia asserted. As a result, it expects benchmark Treasury yields to rise and liquidity premiums to narrow from here.

Master Limited Partnerships

Credit Suisse recently launched coverage of a number of MLPs, two of them with an “outperform” rating.

Three of the companies it began covering specialize in exploration and production of oil.

 “We believe that certain MLPs are poised to experience rapid asset growth in the coming years through consolidation of mature domestic properties,” Credit Suisse said in a recent report. However, it noted that much of that growth appears to be reflected in current valuations.

“We are also concerned that the many new MLPs scheduled to come onto the market will create heightened competition for suitable long-life mature assets, thus driving up transaction prices and reducing the currently available accretion benefits,” it added.

Citi and Lehman also weigh in on MLPs in the August issue of Yields & Income Newsletter.

REITs

Lehman
The investment bank recently reiterated its top rating on a pair of venerable retail REITs noting that their stock prices have fallen back somewhat in recent weeks.

Credit Suisse Securities
CS recently singled out a niche REIT that owns and manages technology and datacenter-related real estate. It currently owns in excess of 60 properties, comprising more than 11.8 million rentable square feet, in over 25 markets throughout North America and Europe.

The  stock has fallen from the low-40’s in the past month or so, which the investment bank believes has created a great buying opportunity. “Contrarian investors won't have to wait long for positive news flow,” it added, noting that the company reports second quarter results after the close on August 7. “We are confident the recent weakness has been technical in nature, and unrelated to underlying fundamentals or company-specific news flow,” CS added in a recent report.

Electric Utilities and Independent & Integrated Power

Citigroup
Citi recently noted that the Philadelphia Utility Index is down about 6.9% since July 19. The Integrated issues are down 8.1% while the Defensive names are off by 4.4%. Although most of the Integrated names are up over that period despite the recent sell-off, Citi said it continues to be “very bullish” on the underlying fundamentals for the integrated utilities.

In fact, it noted that the recent volatility has “stirred the pot” and created a good entry point for two stocks, noting that they have “highly visible rate-base growth stories and the ability to show stable/rising earned return on equities despite the general risk of compressing returns.”

Credit Suisse Securities
CS pointed out that it still likes the fundamental backdrop for Competitive Power companies as tightening market conditions lead to pricing, and hence earnings expansion, which it explained will be necessary to attract and sustain investment in new power plants.

For more on this sector, and the specific recommendations, subscribe now.

Special/Situations
A number of investment banks have recently lifted their price targets and/or earnings estimates for an eclectic group of relatively high dividend-paying stocks. They include consumer products companies, pharmaceuticals, telecom companies and managers of assisted living homes. The August issue of Yield & Income Newsletter contains them all.

Fixed Income Strategy

Citigroup
Citi recently pointed out that the U.S. bond markets remained in a state of turmoil. “In our view, this pattern reflects a swing of the pendulum from one extreme to the other: from a too-low payment for risk, to a sharply reduced willingness to take on risk at any reasonable price,” it added.

It noted that spreads over Treasury yields in riskier sectors have widened by as much as 200 basis points since the beginning of June, and the high-yield corporate bond/loan markets have virtually stopped functioning as a source of new capital.

“Even the strongest non-government bond sectors have underperformed Treasuries by a significant amount, reflecting an environment where institutional investors seem unwilling to take on any significant risk at all,” Citi told clients.

Citi’s advice: Focus on the best quality non-Treasury sectors, where market access remains strong, and where investor appetite is likely to return most rapidly.

Barclays Capital Research
The investment bank recently acknowledged that the US market was the main beneficiary of the flight-to-safety moves when the market’s volatility picked up. “The market is back to pricing in two Fed cuts over the coming year,” it asserted.

With that said, the bank describes itself as neutral near-term outright, but medium-term bearish. It said the best way to express this sentiment is via cheap puts.

However, it warned that it does not think the recent equity and credit market corrections will induce Fed easing at this point.

Looking around the globe, Barclays said Euro rates also rallied on rising risk aversion. With rates back to “slightly dear,” it said it continues to prefer small longs--early 2008 maturities--to small shorts outright at this point.

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