Posted on: Sunday, December 7, 2003

Bargains to buy now are low-tech

By John Waggoner
USA Today

Even though the technology-laden Nasdaq composite index is down by more than half since 2000, investors still adore technology.

People love gadgets and the lure of quick gains, which is why they will sink money into companies that make jet packs and remote-controlled sheep.

But tech stocks usually are propelled by massive breakthroughs, such as PCs and the Internet, and none is currently on the horizon. In the near future, you might make more money in low tech: old-fashioned manufacturing companies.

U.S. manufacturers have been depressed for so long, many are seeking therapy. The steel industry, for example, just saw the end of a 20-month tariff treatment. Foreign steel had been slapped with extra tariffs in the United States to make U.S. steel more attractive. President Bush ended those tariffs Thursday under the threat of a trade war with the European Union.

Fortunately for the steel industry — one of the most perennially depressed sectors in the past quarter-century — life is improving for manufacturers. The economy is growing, which lifts demand for manufactured goods. Manufacturing stocks, along with media, transportation and commodities stocks, are called early-cycle stocks because they fare well at the start of an economic recovery.

That's partly because manufacturers get clobbered in a recession. By the time the economy gets rolling again, manufacturing stocks are usually cheap and out of favor. Any improvement in earnings takes Wall Street by surprise.

"These are stocks that are terribly depressed, and that's where the surprises are — and the best values," said Milton Ezrati, senior economic and market strategist at the Lord Abbett funds.

This time around, manufacturers are getting an extra boost from the swooning U.S. dollar. It takes about $1.21 to buy one euro, the European currency. At the start of the year, you could buy a euro for $1.05. That means U.S. goods have become cheaper abroad, and foreign goods more expensive in the United States.

Some U.S. manufacturers already are seeing brisk turnarounds. Cummins, the engine maker, is expected to earn $3.40 per share in 2004, compared with $1.20 per share for 2003. Toolmaker Black & Decker should see earnings rise to $4.24 per share next year, up from $3.88.

So far, the biggest gains have been in the smallest companies, which feel the effects of an economic turnaround first. Unless you have the urge to evaluate small-company manufacturing stocks, your best bet is to buy a mutual fund that has a high concentration of small-cap manufacturing. Two good choices:

• Aegis Value (800-528-3780). This fund looks for beaten-down, out-of-favor stocks that are selling well below their intrinsic value — or what an intelligent buyer would pay for the entire business. Morningstar, the Chicago investment tracker, says about half its portfolio is in manufacturing. The fund has gained 140 percent the past five years, compared with 22 percent for the average stock fund.

• Royce Special Equity (800-221-4268). Manager Charles Dreifus is another deep-value small-company investor. Like Aegis, Royce has more than half its portfolio in manufacturing stocks, Morningstar says. The fund has gained 100 percent in the past five years.

Large-cap manufacturers may be a bit easier to find. One simple technique for finding big, undervalued manufacturers: The Dogs of the Dow, the 10 stocks in the Dow Jones industrial average with the highest dividend yields.

They're dogs because companies don't normally offer generous dividends.

These companies often have seen their prices fall, which raises their dividend yield — the payout divided by current price.

In theory, when you buy a Dow Dog, you're buying shares of a big, successful company when it's cheap.

The doggiest Dow manufacturers now: General Motors, DuPont and International Paper.

Companies that make paint and paper will never be as glamorous as those that make laser-guided bowling balls. But even companies that have the next new thing will need boxes to put it in — and trucks to deliver it.