Falling Margins Affect Stocks

Call it a wolf at the door, a significant new market danger that’s already rearing its head. That’s the threat of margin disappointments, which produce earnings shortfalls and growing stock risks. By the same token, there’s a surefire trend featuring “demographic darlings,” one that’s practically a guaranteed moneymaker if you pick right.First to the wolf, who was spotted by Morgan Stanley strategist Henry McVey. It’s not another case of a boy crying wolf. Margin assumptions are too high, warns Mr. McVey, who is telling clients to brace for higher single-stock risks until this issue is revolved. Already, he notes, Alcoa, Maytag, Sarah Lee, Lear, and Pactiv. have indicated slowing growth and rising costs are leading to disappointing margins and earnings. In the process, some of these stocks have paid a stiff price.The good news, Mr. McVey observes, is that analysts are now finally reducing their margin forecasts. But the bad news, he adds, is that 76% of the companies in the S&P 500 are still expected to post higher margins this year. Mr. McVey is skeptical margin targets will be met, prompting him to predict generally flat, not rising, margins this year, plus 7.1% year-over-year earnings growth, versus consensus expectations of 10.5% growth.In an effort to minimize future blow-up risks, Morgan Stanley has identified a group of S&P 500 companies with huge imbedded 2005 margin assumptions. Some key names include Electronic Data Systems, Circuit City, Transocean, Noble, Newmont Mining, Charles Schwab, Siebel Systems and Fifth Third Bancorp.Now to the can’t-miss trend if there is such a thing on Wall Street. In this case, though, you can count on it. Whether the stocks chosen to capitalize on this trend are the best bets is another matter, but there’s no question that veteran investment advisor Stephen Leeb of Leeb Capital Management is on the money with his concept, namely we’re all getting older and “old news is good news” for investors.Mr. Leeb makes a compelling investment case, kicking off with some imposing statistics. Notably, between 2012 and 2020, the world’s population will rise 9.4%. But the ranks of those 65 and older will swell nearly twice as fast, growing by 18.7%, or 80 million people.Significantly, the bulk of these newly minted senior citizens will be concentrated in wealthy places like America, other Western nations, and in countries experiencing surging economic growth, such as China and India.A word of caution, notes Mr. Leeb. Senior citizens are not big spenders. On average, in fact, they spend 30% less than those under 65. By and large, the products that matter the most are life’s essentials, notably health care and insurance. Seniors spend nearly twice as much on drugs than the overall population and 60% more on health care. As for insurance, particularly life and health, the elderly spend a fraction more than the population as a whole.In other words, health care and insurance or, as Mr. Leeb characterizes them, demographic darlings, are tailor-made to appeal to the fastest growing segment of a growing population. His top six picks, pegged to generate earnings growth ranging from 14% to 20%, are AFLAC, Allergan, American International Group, Novartis, Teva Pharmaceuticals, and Zimmer Holdings.Bad vibes from insiders: A reader, Beatrice Schoenfeld, e-mailed me: “Dear Dan, I know corporate insiders have been heavy sellers in recent months, which worries me. Are they continuing to sell heavily in 2005, which would worry me even more? Thank you.”Answer: Not only are insiders still selling, but they’re doing it big time, $1.9 billion worth, following sales of $4.1 billion in December, according to Thomson Financial. More significantly, insiders sold $55 worth of stock in January for each dollar’s worth they bought (normally, insiders, reflecting the heavy issuance of options, sell at a $20 to $1 ratio). This latest January sell-buy ratio was the worst reading Thomson has recorded in 10 years. Importantly, not only were the selling numbers awful, but so, too, was insider buying, which totaled just $35 million, the lowest monthly buying volume since the early 1990s. Interestingly, when insiders, as a group, buy or sell en masse, versus an individual stock, they’re right, I’m told, about 80% of the time in flashing the future direction of the market.

Falling Margins Affect Stocks

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