Wall Street Week With Fortune; 0150

Get after pen and paper. With that the new fortune for you Should you invest in companies that lose customers. Could be will explain. And if everyone says it's time to get out of font Why do they keep going up that and more coming up on Wall Street Week With fortune. Wall Street Week With fortune is made possible by contributions to your PBS station from viewers like you. Thank you. I'm Karen Gav and I'm Jeff called and welcome to Wall Street Week With fortune. Well if you're feeling a little lightheaded it's because we have been up at this altitude for quite a while now the Dow closing above 9000 up again today up again this week about two and a half percent just like the S&P 500 in fact up four of the past five weeks since the Dow hit its low in March when the bombs were falling on

Baghdad it is now up 20 percent up 20 percent in just 87 days and you have to wonder if just maybe we are at the beginning of a no fooling bull market. Of course the next thing you wonder is how to play it how to invest in this market and one smart answer for sure is the new Fortune 40 the fortune 40 is the model portfolio we introduced last summer it generated tremendous interest. More important did what it's supposed to. It beat the market. Tonight we're going to introduce to you the new this year's Fortune for one of the companies on that fortune 40 list is AF lack commercials featuring that ubiquitous duck and various straight men have put that stock on investors radar screens. Fiberglass right. Right. Right.

But you know that commercial underscores the importance of star power and media celebrities and one media celebrity was in the news this week resigning as CEO of Martha Stewart Omnimedia course that pushed the unemployment ranks a little higher. Unemployment rate at 6.1 percent and make those non-farm payroll job losses seventeen thousand and one. But you know Jeff it is does to score it the importance the irony of the fact that the stock at the crux of the Martha mess ImClone is up like five hundred thirty five percent from its September lows. Interesting. Well it is interesting of course another media investor's celebrity investor didn't do too well was Ted Turner and you may remember that on this program a month ago we said he had essentially given up on AOL Time Warner of which he is the largest shareholder sold a huge block of his stock for 790 million dollars it turns up if he had just waited one month and sold that stock today instead he would have made an additional hundred and twenty five million dollars that he still has that seven hundred ninety million to

reinvest and he has said somewhat ruefully that he intends to invest it conservatively and prudently. Well maybe Ted Turner wants to take a look at this fortune model portfolio last July Fortune's magazine introduced to the fortune 40 40 investments in a portfolio designed to weather some tough times. It was a bold and successful idea. As of May 23rd the diversified group of stocks along with some bond funds returned twelve point seven percent beating the S&P with a lot less of the gut churning ups and downs. Now it's time to roll out the new portfolio. And tonight we're going to put it to the test asking a couple of market pros if they'd buy these stocks. Michael Farr president of Farr Miller in Washington and Richard Maher uses some of the same screens fortune used when picks he picks his stocks. Joseph Stevens and company Fortune's Dave Reinecke also joins us from New York. Gentlemen welcome. Thank you. David let me ask you what's new about this new fortune 40.

Sure. Setting aside the fact that the market has rallied so hard in the last few weeks as as Jeff mentioned earlier in the show we've taken a more bullish stance a year ago. You could really look at the stock market to be that happy right now there are some some positive things going on. So we have increased our weighting in domestic equities to 75 percent. We've got a 10 percent weighting in international equities and a 15 percent weighting in bonds the major difference is that we've lightened up on bonds which isn't a reflection of the bond rally sort of having peaked out. It's just saying that stocks look a little better. You still want to have some a little bit of a comfort zone and there are some balance from bonds that bullish is this bullish stance warranted for the fourth quarter. Hey Karen I'm a little scared find myself nervous it's been so long since I've felt bullish certainly for the big run up in the market I was just scared that prices were getting too high the past three years have been dreadful and yet I do find myself feeling positive and bullish right now I think the fundamentals and

infrastructure are in place for this market to rise and I really like this. The basics of this list in the Fortune 40. Well if I could add something from what Michael said Sorry to drop you there. But yeah we're not exuberantly what we're saying is that yeah the market is not inexpensive right now the P E for the S&P 500 is just scary in terms of where it stands next to historic. So that's where some discipline stock picking comes in I think your two guests today have exposed have shown that over the last few years. So let's talk about some specific stocks to look at the health care sector. You've got Johnson and Johnson Medtronic Pfizer striker United Health Group C R Bart Coventry health care and Vic tradin Patterson dental stairs and Novo Nordisk 80 yards there as just some of the stocks that they see in the healthcare sector that are attractive. What do you think about that. I think a lot of them are overbought right now meaning that momentum is very strong on these stocks and you really have to think that momentum is

going to stay with us more for a long period of time for this to play out. I get a little bit nervous as to levels of where the industry is all right. And I can see a correction in July if the deflationary indications start to show through in the economy that Alan Greenspan is worried about. Mike you seem to like Patterson Dental in that group. Tell me why I like Patterson dental because it's first it's tends to be more of a mid-cap company. They are a dental supply company. It is a great growing industry they have strong fundamentals and supplying almost everything that a dentist needs and for the larger equipment they finance it and they found we have found as we've looked into the company and talked with the CFO that dentists are very good credit risks. I think that the stocks and all of the stocks on the list have certainly run up in here in the short term but for longer term to have the fundamentals of this less superior earnings power you know if

earnings are the most significant predictor of stock price performance over time. This is a great place to start. Patterson dentals a great name. Richard you were kind of looking over some of the major big drug companies and go into the biotech Tommy. I like the Bristol-Myers and Merck better than Johnson Johnson and tronics because they both screen better using value engine number one and number two their technical patterns on chart look very good and I like to do both the fundamental overlay using value engine and the technical overlay using proprietary analytics. And in terms of biotech we have a very strong biotech research department of Joseph Stephens and we have two names that screen very well using value engine and they're called Cell Therapeutics and gentry Inc. Both having very good potential and kidney cancer treatment. So let's take a look at the financial sector now of course there's AF lack and investor average 3 the reinsurance company Sallie Mae Texas regional bank shares and then we've also

got HTC insurance holdings safe call W.R. Berkeley and a B in Amroth. A lot of these a property casualty companies. David what happens if we get another terror attack. While that's certainly going to be a risk but I think when you're investing in Affleck that's not going to be a concern they're doing more supplemental insurance related to historically. To cancer patients broaden out from that it's more of a play on baby boomers who are aging and are going to need some help with those out-of-pocket expenses that aren't covered by their basic medical insurance programs. Mike what do you think about the financial sector. I like the financial sector very much I think that a lot of it is still very reasonably priced. There are some pretty strong dividends in that sector as well. This list is not my ideal list of financials. The Property Casualty Insurers do concern me a little bit but you know different opinions make what makes a market. And you know it's tough to bet against the success rate that this list had last year.

Oh you're so kind. When I hear that you were like a Robert Redford in the natural you know we had one good season but how would he have done if he came back the next season is that right. Find that out and you came back you know I don't write for the father but you have the right man we should have just retired. Let me ask you Richard about Sammy because it hit its all time high. This went too far out of the bucks in the Fortune 40 that have hit all time and or 52 week highs for that matter so you really as I said in the opening you're betting on a continuation of this momentum and if the banking system gets a little testy here with the potential deflation down the road some of these profit could be really squeeze at some of these regional banks so I really question the Texas bank. Let's also look at the technology sector there you know I think Karen if I could just interrupt you for yeah I'm sorry. But why get some. I'm in New York so a lot of the rude but I think it might be important to let people know that when we say the fortune of 40 this isn't like a bunch of Fortune writers sitting around saying Here are the 40

stocks and bond funds we like that there are these two screening methods that we use one of them is is the value engine that Richard uses. And we've also added something that Zacks Investment has given us in terms of trying to find the earnings momentum so while some of these companies are at their highs the evidence suggests that there are things are continuing to grow which makes us feel less scared at the same time we're not saying this is the ultimate stock buying list. OK well leading this tech this whole rally has been the technology sector the Nasdaq doing just really well this whole year in fact up another 31 points this week. Looking at our technology sector Microsoft system Sandisk and Western Digital here and of course all boats got lifted today with the hostile takeover bid for PeopleSoft Oracle. What do you have to say about that. I think that a lot of things that we like about technology stocks for years particularly leading into the heat of the bull market are still true

because they went down we started not to like them anymore but the technology affords greater productivity that it can increase profit margins and everything else is still true brings more dollars to the bottom line. And so I think that it makes sense with a higher beta area meaning it's a little more volatile that it will move up first. Fundamentally my company Farr Miller and Washington uses the same sorts of screens and has for years that are used in the Fortune 40 list. And these companies I think with superior earnings over the next few years will be very strong but you have to look at it for the long term. But you also see different things and you know you're looking at the same list. You don't like Sandisk Richard you do. I do like Sandisk I think has got a great short pattern is a bit overboard but. I think that's a great stock and getting to the international cause we could throw in some of the technology. Yes and I would have picked a Nokia or an S AP on the international side to have that exposure and yet be in

technology. And don't forget Cisco don't forget EMC it's a nice turnaround story and they both like on the value engine they have like a 5 rating. And if you look at the value engine's rating out of 5000 companies only 84 can get a five rating so it's interesting and there were no Internet stocks on there no internet and I think that's a surprise because the value engine was really superb at the beginning of the year. Picking the Internet sector is a very strong sector and it certainly proved to be so. As was the biotech sector and as was the beat down telecoms. That's Richard there's no I mean no question about that but what we're trying to find were some stocks where there is going to be some downside protection when you look at the Yahoos of the world. Yeah they're they're sort of their qualifications look great but the multiples are so high and I just one aren't you a little scared about some of those numbers that they're still fetching Cisco still. It's up there pretty high and Microsoft gives me a little jitters and and it's nowhere near those guys.

Well you know I admit that most of these stocks are all over board and Yahoo is one of them that is overboard. But I. But on a correction of 10 to 15 percent there would be a good addition to the portfolio under the assumption that the Internet is going to be a part of the expanding economy. You're going to try and get to the rest of the list now. The consumer sector CBS Corporation get nat gas and Tribune along with Wal-Mart Pacific Sunwear California and Unilever. And I can look at the intersect right now the energy and industrial sector Occidental Petroleum see a worldwide poll co-producing and talk to the oil company another international one. Let me talk to you David. Is the consumer not tapped out there and you're betting on that engine still pumping. I think there's a lot of risk there. When you look at though a company like CBS I mean people still need to go to the drugstore when you look at a company like Ned. I as a disclosure I used to work for a good net. Flagship newspaper known as USA Today and I got to tell you that is the cheapest company you will ever find from a shareholder standpoint that's a great thing if they're

just going to squeeze the money the profits out of there no matter what happens. They're running out of time Michael give me your favorite stock on this list. I like Pfizer as my favorite stock on the list I think that their pipeline is very strong I think the valuation is reasonable well-managed company. And those earnings are growing. A lot of patent protection but that predictable earnings growth earnings growth I think will drive that price very nicely forward over the long term. Richard your fans are on the list. I would have to go with the Sandisk because I like technology in this list because I think a little short on technology in terms of its choices and syntax has the very strong momentum and you've got the last word venture. Michael and David thank you very much for joining us. Well it's one of the basis of economics a company offers a product or service. You buy it and the business makes a profit. At least that's the way it's supposed to work. In reality most companies have no idea how much they make or lose with you which means they're missing a huge

opportunity to increase profits. Jeff and Columbia University professor Larry Seldon have written a book about this called Angel customers and Demon customers. They wrote it with you in mind because it's all about how companies can make their investors richer. A few pioneer companies are already profiting big time from understanding how customer profitability determines the share price. That's been an important but little reported factor in the success of Dell Computer For example Canada's largest bank Royal Bank of Canada understands customer profitability deeply and its stock is up over 100 percent in the three years since the rest of the market started to tank. Now America's largest consumer electronics retailer Best Buy is joining the small group of companies that really try to put customers at the center of their business starting by understanding how much they make or lose with various customers and why. Best Buy is up against intense competition from Wal-Mart and others and looking for ways to maintain its success. My co-author and I visited the Best Buy

store to talk about getting a handle on customer profitability. If a company wanted to figure this out how would they go about it. They start with product profitability for example this product right here and they'd look at all elements of cost for the product and then they try to figure out the customer's specific costs. And almost nobody does that. Those customer specific costs include things like how much time you spend with the salesperson whether you return the product and exchange it and even how you pay a store makes more if you pay cash than if you use a store credit card and pay the balance within a month. When companies sort out all those costs they're inevitably stunned. They typically find that just 20 percent of their customers account for 150 percent of the company's profit while their worst customers actually lose lots of money. Hiding in those numbers is a big opportunity. So you discover some customers are extremely profitable. The first thing you want to know is why these companies are meeting those customers needs extraordinarily well.

To see how think of shoppers looking at expensive digital cameras what they really want is to take digital pictures print them out an e-mail them to friends and family. Suppose they are casual cryptographers and not technically savvy. Their need is not a product. Life is camera their need is expert advice and on how to do this. Make sure they're buying the right. Product and if they get the advice if they get advised by the camera are likely to buy the computer and the printer. The company makes a ton more money but that's not what most companies do. They try to sell the product and miss out on terrific profit opportunities. The opportunity and the challenge are especially big in departments where it can be tough to make a profit. So the big shocker for a lot of companies is when they find they have lots of deeply unprofitable customers people they're losing tons of money on just by doing business with intense competitive price pressures such as in DVDs returns discounts. All of that. So what does a company do. They can't let that customer walk out the door buying only the

unprofitable product they've got to understand their needs they've got to communicate their ability to meet those needs and sell them additional products to meet them. So if a customer is unprofitable that represents some kind of failure on the part of the company. Yes absolutely it's not the customer's problem. It's a new way of thinking that represents a big change at most traditionally organized companies. It all sounds great. The fact is most companies don't do this. If I'm an employee at a company that wants to do these things what am I going to do differently. Jeff I've got to get you to not focus just on store sales not just on products you've got to focus on Meet the customer meeting my needs. And as a result I'm going to give you great profitability. And what happens after that then because the customer is thrilled. I feel great. You're having a blast serving me and the shareholders make time. And that is the whole point after all in recent months several large companies including AOL Time Warner Yellow Freight Aetna and Sprint have told investors

they're dropping unprofitable customers. Now those companies may or may not be doing the right thing. But we can expect lots more attention to this topic of customer profitability not just for managers but also from shareholders and analysts. Well just lately loads of investors have been paying rapt attention to one particular topic we have gone bonkers for bombs pouring billions into bond mutual funds even with interest rates at 50 year lows. Does that make any sense. What is the smartest move now as part of the Fortune 40 we've focused on five funds that we think make sense in this environment the Calamus Growth and Income Fund. Dodge and Cox income Fremont bond PIMCO foreign bond fund and Vanguard short term bond index can Volpe oversees the short term index fund as well as all the other Vanguard bond investments and he is here to help us figure it all out. Ken thanks for being here. Thanks Jeff. Now I presume you think that the Vanguard fund is a fabulous choice for this list

but what do you think of the others. I think the others are pretty good as well I think the time right now is it's practive for looking at increasing risk away from Treasury securities and into corporate securities as well as high yield in emerging markets. Those have been parts of the market that are really going to benefit as the economy comes out of the weakness that we've seen recently. You know over the past few weeks several guests on this program have really told viewers to be wary of bombs. There really is only one general direction French restaurants to go from here and that is up and that means that bond values will go down. It's very risky right now. We think that there is much more risk in terms of treasuries and in terms of quality corporates than there is reward. I don't buy what everybody else can buy. And right now everybody's buying bonds. I'm not optimistic on bonds. So Ken are these guys right.

I would agree with them I think if you look at what's happened with regard to the the asset allocation for investors somebody who is 60 percent stocks back in December of 99 that they would be about of more at the peak of the market would be about 40 to 45 percent stocks now if they didn't rebalance. Meaning the rest would be in bonds that would be in bonds and that is if you want to market and that's very heavy right now so investors really should be looking at moving out of bonds and into stocks because the stock market has as has been reduced over the last three years and they're probably under weighted. What they need to do is look at their long term allocation and rebalance to the long term allocation. And what probably means moving out of bonds and not into bonds. Right. But as you suggested earlier not all funds are the same Obviously there are all kinds of distinctions to make now are there some columns that look more attractive than others. Right no. Well I think if the economy continues to grow and the thing that is really a corporate types of credits are going to do better now a lot of that has already been priced into the market. We've had a huge rally in corporate bonds a huge rally in high yield market.

I think the emerging markets have been very strong. But I think that could continue as investors look to move away from the very kind of safe money market in Treasury type securities and into credit securities in the equity markets. Right. You think Greenspan is going to cut rates next time around he has really suggested he might. Well if he does he can't cut them a whole lot more than than than the race right now so if he does that seems to be already that there's a Fed cut priced into the bond market right now. So that's not going to do a whole lot for the bond market. You know Vanguard conducted a survey last year that I found just remarkable because it showed that investors really don't know much about bonds. I was amazed to find 70 percent of them don't realize that when interest rates go up bond prices go down. Right that worry you as you see them piling into bond funds. Well it worries me a lot. Exactly because right now at the very lowest rate that we've seen in the bond markets in the last 50 years we have

we have the highest strongest cash flow into bond funds. And I think there's a lot of investors that are looking at past performance and not looking at really future expected return and you think about it right now a two year Treasury is yielding one point two percent. So for the next two years an investor in a short term Treasury Security should expect to get one point two percentage points of it. And it's not a whole lot of return but I think what they're doing is they're looking at past returns and they're in there trying to to project into the future those kinds of returns much like they did in the equity markets in the late 90s and 2000 classic small investor behavior and I guess your message is don't be the classic small investor. Yes the message is look at your allocation where you really want to be from a stock bond allocation and then take a look at where your weights are in get get them in line because we have we've had a 35 to 50 percent decline in stocks over the last three years and many investors have an under way to the equity market right now. Ken thanks so much for your views. Thank you very much Josh. Appreciate it.

You know. If bombs aren't enough of a gamble for you there is a horse race coming up this Saturday it's the Belmont Stakes which is going to get a lot more attention than usual because Funny Cide just might win it and that would be the Triple Crown the first Triple Crown we have seen in 25 years. But if you want to play the ponies without actually betting on the race and don't have the cash to buy a horse. Check out you bet dot.com a small California company that allows gamblers to place online wagers on horse races. The site is legal in most states but it's a risky stock now trading a little over $3 a share. That's our show for tonight if you've got a question right to Wall Street Week With Fortune Owings Mills Maryland 2 1 1 1 7 or e-mail us WSW at PBS dot org. Next week we'll talk about things your broker never told you the real risk of owning stock. The new meat market timer extraordinary lane guard to rally who says the market has nowhere to go but way up. So now to learn more about this program visit

PBS dot org America Online keyword PBS. For a transcript of this program send $5 to transcripts of Wall Street Week With Fortune Maryland Public Television Owings Mills Maryland 2 1 1 1 7. Wall Street Week With fortune was made possible by contributions to your PBS station from viewers like you. Thank you. Yes.