- The Washington Times - Friday, March 6, 2009

ANALYSIS/OPINION:

The stock market has been quite the topic these past several months and as I look at the chart of the S&P 500 dating back to January 2008 it looks like a roller coaster ride.

The view inside the seat would say we are in that long scary drop and at some point we will start to climb up and maybe have a few more bumps along the way. The question on everyone’s mind, as with that white knuckling roller coaster rider, is when?

Good question and the adage used in the investment world is “it’s hard to catch a falling knife” and by that I mean one can get cut blindly sticking your hand out. With that said, however, we do look for signs and data points that suggest a turn in the market is near, be it higher or lower. These signs and data points come from a variety of places, such as economic data points, commentary from companies both public and private, third party data for a variety of industries and a host of things that when taken together form an investment mosaic.

One example of items that I keep an eye on is earnings expectations for the S&P 500 on a per share basis. As with individual stocks, there are a variety of services on the Internet that allow you to track analyst expectations for revenues and earnings per share; my suggestion is to look some up using Yahoo Finance.

Back in late November and early December, earnings expectations for the S&P 500 called for positive earnings growth in 2009 of around 7 percent. While that may have been what a select group of people had been expecting, it flew in the face of the economic data and company commentary from earlier in November and October. As public companies disclosed their December quarter results, many of them missed expectations, reduced their outlook for 2009 and in some cases announced layoffs.

Flash-forward to where we are now and the S&P 500 has fallen 16 percent since early December as analysts have dropped their earnings expectations for it by 34 percent to the current $61.22 per share. Looking in the rear view mirror, what looked oh so cheap in December per some market pundits was not really all that cheap after all.

I do feel better at current levels about the market in so much as the potential risk-reward tradeoff is far more favorable over the long term and by that I mean the next 12-plus months. I say this not because of the government stimulus talk but rather because in the past 44 years the worst declines in the S&P 500 have been in 1973-1974 and 2000-2001 and were 37 percent and 37.6 percent, respectively.

By comparison, the S&P 500 has fallen 50 percent since the end of 2007. At the same time, market multiples as measured by the current price to earnings ratio for the S&P 500 is 11.6x, which is well below the 14.4x the S&P bottomed at in October 2002 on a forward earnings basis.

Just because the risk-reward tradeoff is better in my view does it mean we are out of the woods? No.

Does it mean that if we are to begin investing in stocks again we need to be prepared for some ups and downs and in general be a patient investor? Yes.

Does it mean we should plow all of our money back into the market right now? No.

What it does mean is we need to do our homework to identify opportunities and invest in a prudent way. The last thing we need now is a regression to the day trading mentality that existed during the Internet bubble at the start of the decade.

Part of our investment mosaic at SlipStream is to identify what we call “irreversible trends” and then use corroborating data points to validate or invalidate our views. Data points can take all shapes and sizes and some are obvious, like the conversion of media from analog to digital (hence our Digital Individual theme) and some can be under the radar, like Education - Tooling and Re-Tooling.

One of the themes that has been working for us is “the cash-strapped consumer,” where we focus on companies that offer products and services that people consume and need to replenish, such as personal care and feminine care items, groceries and the like.

Data points earlier in the week showed up trends in both consumer savings levels and personal spending levels. My stance on that is following commentary from companies like Procter & Gamble, Kraft, Heinz and others that stated consumers were de-stocking their pantries over the past several weeks and consumers are back in restocking.

From my vantage point, the two companies that I would look to revisit and do more homework on would be Procter & Gamble and PepsiCo, which when viewed together represent a meaningful portion of consumables in your average household and both are trading at levels that are essentially in line with the market multiple. Aside from restocking and valuation, both companies pay a dividend and those yields at current stock prices are 3.5 percent for PepsiCo and 4.3 percent for Procter & Gamble.

This is but one of the trends that we are looking at today at SlipStream; there are several more and there is always the chance we may identify a new one. The reason I mention “the cash-strapped consumer” theme as well as Procter & Gamble and PepsiCo is these trends occur in everyday life and data points abound for all of us to look at.

The trick is to pay attention to what is going on around you, question the data (ask your family and friends what they are doing) and look for corroborating evidence. After all, we are talking about what you may want to do with your money - I would hope you are not only interested but are paying attention.

Chris Versace is the founder and portfolio manager of SlipStream Capital Management, LLC based in Reston. SlipStream utilizes and builds on the strategies and tools Mr. Versace employed as an equity analyst for more than 15 years at Salomon Brothers, Donaldson, Lufkin & Jenrette and most recently Friedman, Billings and Ramsey. At the time of publication, Mr. Versace had no positions in the companies mentioned in his column, although positions may change at any time.


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