Income Security Recommendations
BondsOnline Advisor –June 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.
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Equity Strategy
Citi Smith Barney
With the major stock markets indices surging through May and the Dow Industrials and Standard & Poor’s 500 hitting new all-time highs, Citi strategist Tobias M. Levkovich points out that small-caps continue to lag large-caps. Even so, he notes that several small-cap industry groups seem likely to beat the small-cap benchmark during general small-cap underperformance. They include several sectors within Technology, as well as Media, Telecom, and Commercial Services & Supplies.
Areas to avoid include Small-cap Diversified Financials, Health Care Equipment & Services, Transportation, and Energy, he notes. Specific Materials and Consumer Discretionary sub-industries are also worrisome, he adds. “We remain constructive on small-caps from an absolute performance perspective,” Levkovich adds in his report.
The Citi report singles out 15 stocks that currently have Buy ratings, including one high yielding issue. Get this month’s Yield and Income Newsletter for more.
Banc of America Securities
BofA also still prefers large caps to small caps. Among small-caps, it prefers growth to value. However, it does assert that an eventual shift toward easier monetary policy is likely to favor small growth stocks over small value issues, especially if the Fed allows the domestic economy to decelerate further. “The value component is more vulnerable to further earnings deceleration, while we see relatively full P/E multiples as the main risk to the growth component,” adds Tom McManus in the report.
Banc of America Securities Fresh Money List
The investment bank’s Fresh Money Focus List, which it began publishing in April 1999, highlights 10 Stocks to Buy Now. “Our primary concern is to accurately reflect the returns provided by the stocks, rather than any skill we might possess in timing their purchase or sale,” it explains.
It stresses that the addition of a stock to the list normally requires the removal of another while removing a stock doesn’t imply a reduction in its attractiveness to the analyst covering it. The highest yielding stock among the group is Johnson & Johnson (JNJ), added to the list on December 18, 2006.
Merrill Lynch US 1 List
Merrill describes its US 1 list as a collection of its best investment ideas that are drawn from its universe of “BUY” rated US listed stocks (including ADRs), covered by the firm’s analysts. The goal is to provide superior investment performance over the long term. Get this month’s Yield and Income Newsletter for more.
Utilities-Energy
Banc of America Securities
The investment bank recently raised its target price for the Philadelphia Utility Index (UTY) to 600 from 525. “Given the higher rate-case growth, we can easily justify valuation parameters greater than the historic range,” it asserted. It told clients that p/e ratios of strong growing utilities could expand as wide as 19 times, assuming a sustained period of rate-base growth.
BofA pointed out that it still favors deregulated utilities over defensive issues. “We still favor utilities with unregulated generation assets, particularly if investors believe that the forward natural gas price curve will hold,” it added. Get this month’s Yield and Income Newsletter for more.
Closed End Funds
Stifel Nicolaus
Stifel points out that in general, closed-end funds are trading at historically high levels compared to longer-term averages. So, it counsels clients to be patient in purchasing shares of closed-end funds that are trading above historical average levels. It also warns that the robust new issue closed-end fund market could negatively affect the valuation of closed-end funds already trading in the secondary market, as older funds may be sold off to purchase new funds. “By purchasing funds at moderate to large discounts, investors will be able to significantly reduce downside risk,” it adds.
More specifically, it points out that a recent name change, move to quarterly distributions and a slight adjustment to investment parameters has created some confusion for shareholders of two closed-end funds.
Stifel singles out Nuveen Tax Advantaged Total Return Strategy Fund (JTA), a diversified fund which primarily invests in dividend-paying common stocks. It also invests in senior loans, U.S corporate bonds, notes and debentures, convertible debt securities, and high yield debt securities. The fund recently announced its eighth dividend increase since its inception in January 2004.
REITs
Deutsche Bank
The investment bank recently upgraded eight real estate investment trust (REIT) stocks to
Buy from Hold. “These stocks have the most meaningful upside potential from current levels to our targets,” it added.
The bank pointed out that it had been cautious on the group for the past three months as funds flows turned negative and investors pursued other alternatives.
It elaborated that it turned slightly more positive on the heels of the $15.5 billion buyout offer for Archstone-Smith Trust. The bank asserted that the deal is significant on two fronts. First, it stops what it called the “indiscriminate shorting” of REITs in the aftermath of the sub-prime lending blow-up. “Instead, we believe the deal suggests that any short position is vulnerable to a privatization announcement at virtually any time,” it added. “We think any company could be subject to a bid at virtually any time.”
In addition, Deutsche asserted that if the ASN deal goes ahead as proposed, it would generate $6.5 billion of recycled deal capital, equaling the flows into the REIT mutual funds in 2006.
Banc of America Securities
In general, the investment bank perceives the group as being “more fairly valued.” It adds that it expects a continuation of what it perceives to be a tug-of-war between fears over potential declines in property values and continued strong capital flows into commercial real estate. In this environment, we recommend that investors now place an even greater emphasis on stock picking,” the bank asserts. BofA stresses it favors companies with high-quality management teams, clean balance sheets, and strong low-risk growth profiles derived through a geographic focus on coastal/infill markets and/or development opportunities. Get this month’s Yield and Income Newsletter for more.
Fixed Income Strategy
Citi Smith Barney
Citi recently reiterated its view that the Federal Reserve is likely to cut the Fed Funds rate by 25 basis points this year, although it points out that this forecast has been moved out to the fourth quarter.
“Mixed market signals and mostly encouraging economic data have failed to generate higher volatility or outsized conviction in the fixed income markets in recent weeks, although benchmark U.S. government bond yields have backed up toward the upper end of our projected 4.5%–5.0% trading range,” it points out.
It notes, for example, that during the last month, 10-year and 30-year Treasury yields have risen by more than 20 basis points, to about 4.85% and 5.00%, respectively, their highest levels since January. “This is largely due to the bond market’s growing belief that prospects for second half 2007 economic growth are quite positive and that supportive financial conditions may preclude any meaningful policy easing in the United States this year,” it says.
Citi does point out that the long end of the yield curve has backed up and Fed policymakers continue to signal that they are focused on inflation risks rather than risks to growth. However, it stresses, “recent developments do not suggest that bond yields are about to break out to higher ranges.”
UBS Wealth Management - Municipal Bonds
UBS points out that rising yields currently offer some compelling opportunities in the secondary market for municipal bonds. It notes that since its prior report two weeks earlier, the muni market has declined in eight of the past nine trading sessions. “This negative price action was brought about by a rising stock market, stronger-than-forecasted economic data, and concerns that Chinese demand for Treasuries could fade going forward,” it adds.
Yields have risen for shorter term paper such as those with one- and two-year maturities as well as for the 17-year spot on the curve. “This run-up in yields presents investors with numerous opportunities, as prices on secondary market offerings cheapened to compete with new offerings,” UBS adds.
It notes that this is especially true for states with high issuance, such as California, Florida, New York, and Texas.
UBS recommends Variable Rate Demand Obligations (VRDOs), asserting they are attractive compared to fixed-rate municipals. However, it says investors, especially those in high tax states such as California and New York where their paper tends to trade rich to general market paper, must start considering moving out of variable-rate paper and into fixed-rate paper. “This will allow them to start to position their portfolios now so they can get ahead of competition for paper over the next few months, while avoiding the seasonal drop-off in supply in August,” it explains.
It also points out that municipals continue to offer income-oriented investors an opportunity to pick up additional yield on a tax-equivalent basis. It recommends investors look to the eight- to 15-year range to lock in a competitive fixed-rate yield.
Stephen Taub is the editor of Yield and Income Newsletter, and a veteran finance/business journalist with more than 26 years of experience. He has been associated with BondsOnline and the BondsOnline Advisor for five years. Taub is also currently a contributing editor for Institutional Investor magazine, Alpha magazine and. CFO.com, and a contributor to complianceweek.com. Previously, Taub served as Editor-in-Chief of Financial World magazine and individualinvestor.com, and V.P. of Content for CFO.com.
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