Wall Street Week with Louis Rukeyser; 3013; Defense Stocks and the Election

It's 30th year as America's most widely watched and trusted source of economic and financial advice Wall Street Week With Louis Rukeyser is made possible by Hillary Clinton. Who's equally at home stealing silicone. With Wi-Fi. In cyberspace. The professional services the answer reviews the people. Of the week and. By A.G. Edwards committed professionals providing a full range of financial services and investment advice. A.G. Edwards trusted advice exceptional service by Oppenheimer Funds. Where a long term approach to investing has helped put financial security in the hands of millions of Americans. Oppenheimer Funds the right way to invest. By the Kauffman fund. Small Company aggressive growth fund.

And by contributions to your PBS station from viewers like you. Thank you. Produce Friday September 29. Our panelists are Mary feral Tom Gallagher and Robert Stovall. Tonight's special guest is Veyron K. Callan aerospace and defense analyst for Merrill Lynch. Their name and I'm Louis Rukeyser of the Wall Street Week. Welcome back. Look folks I'm as sentimental as a next guy. Heck I'm really a sentimental as the next gal. But to be candid there's one piece of hallowed tradition that I just assume Wall Street stopped observing as many viewers have crossed Lee pointed out to me. I've just taken my first Indeed my only two week vacation of 2000 and the stock market duly and slavish Lee sees that occasion to re-enact the venerable Rue Kaiser vacation jinx. Now look I appreciate the honor but call me

crazy. One of these years I just assume they forgot the occasion since I last perched on this couch. The Dow Jones Industrial Average has dived by nearly 600 points. Nasdaq has plummeted by more than 300 household names like Intel and Apple recorded their worst single trading days ever and the whole technology sector has made it its most second in September on record when this cat was away not only did the mice play. It was an Olympic field day for the rats. So my message for the night is babies. I'm back. And I want all this nonsense to stop immediately. It appears that we have some support in this hope that distinguished health if that is not an oxymoron. Harvey Eisen gave my anticipated return tonight as a key reason for switching his vote this past week from neutral to Bush saying and I respectfully quote

seems like whenever Lou comes back after a market decline a rally follows. Now that's a tradition we all can embrace. But just in case there might be some other reason for the market's sudden downhill reaction we'll be talking with our panelists about what it all really means and whether for the first time since 1990 all three major U.S. stock indexes are going to finish the year with a loss. It certainly hasn't been much of a party in the first three quarters with the Dow now down more than 7 percent for the year. The S&P 500 more than 2 percent and the formerly high flying Nasdaq nearly 10. We've been warning here for years that the fantastic returns of the late 90s could not be taken as a norm but sometimes we'd just as soon not be proven right. Clearly one of the things on the market's mind is the third quarter ends along with. Earnings warnings product delays high oil prices a swooning euro

and a mood as sour as appropriately enough for when Apple. Is the presidential election and the awful suspicion that one of these candidates might actually win. And since a major issue already is the state of our national defenses we'll be talking with a man whose understanding of the numbers goes far deeper than just the Gallup poll. About what the election really will mean to the defense and aerospace companies and to us as citizens and as investors. But first let's check out the latest example of a scary tradition and see what really did happen this past week in Wall Street. The Dow Jones Industrial Average continued its longest losing streak since Would you believe it September of last year. As investors fretted about a growing pile of evidence that a slowing economy is reducing the outlook for corporate profits the Dow gave up close to 200 points to close at ten thousand six hundred fifty

two days after touching its lowest level since August 1st. Among the broader indexes Nasdaq was the worst hit sinking on Wednesday to a level not seen since June 1st. But the New York Amex and Russell 2000 are ahead for the week and the year our elves remain overwhelmingly convinced that the real prize or vacation Jinx will be do we followed by the traditional post vacation snap back. With the Dow rising by more than 5 percent between now and New Years. But our halos this week go to the three who voted neutral three months ago. Since the Dow's net rise since then is now only about 2 percent. And even admission by the Bureau of Labor Statistics that it understated consumer inflation by a tenth of a percentage point for the year through August failed to halt an improvement in the bond market which often benefits when investors flee from stocks. Oil rose today for the first time in seven sessions and then a 20 percent decline after the European

Union backed away from a plan to pump some of its own petroleum reserves into the market. The price of crude is still close to thirty one dollars a barrel. And in a week in which the greatest economic may have been scored by that brilliant. Financial analyst and perspective. Half a billion heiress Anna Nicole Smith. And a bunch of almost equal historic importance occurred in Verona Italy. A comedy club owner moving beyond commercial TV's longtime reliance on laugh tracks to make you think someone said something funny. Secretly released laughing gas through the air ducts of his club. Unfortunately he was caught and arrested in Hollywood he'd surely have been given. An Emmy. You know if I was going to take to make this market start acting better. A lot more laughing gas I'm afraid this is so dismal the last two weeks. I think that the problems you mentioned are receding in importance the ease the

energy problem or earnings problem election problem. There is zero and I think as more confidence builds that we really do have good fundamentals than the markets respond. Third quarter earnings we've seen the worst all the bad preannouncements But the they should really be up closer to 12 percent which is a very good strong quarter window dressing as the favorite phrase for changing your portfolio near the end of a quarter throwing out the ones that have done poorly and into the stocks that have done OK we're likely on that basis to have an early dinner and I think that that will a lot of what you saw today on the negative side was that portfolio dressing that these portfolio managers trying to get to start looking better as the next quarter begins so I think that that gets another negative behind us and I think frankly these corrections have made the market look cheap it was certainly not cheap last March we've endured a very painful down trend across the board in these indices. And I think we've reached a point where that's getting back to attractive levels again. Do you buy the fallen angels or the new favorites like utilities.

I mean I don't buy utilities. That's what I would for when I get really. If you feel that. We were exceptions but there are some stocks acting very well. Companies like Bed Bath and Beyond Tiffany's people are worried about the consumer but some spenders are way out there. Paso Natural Gas benefitting somewhat from these problems with energy so I think that there are still very good companies that have not not necessarily fallen angels but we're reaching a point we could go for those too. So I'm going to what extent of it all this the presidential campaign has given the mortgage. I think the difficulty in predicting the outcome is probably a factor in the market you look at the polls now they're just dead even. So the market probably doesn't know who to bet on. If you look in the past when there's been close elections it's coincided with flat to down markets usually with the rally right around the time of the elections I won't be at all surprised if that's been a factor. In terms of the technology. Both sides say they love technology don't they. Well that's true that's true. You have an important element of the technology area just this week with the Supreme Court giving Microsoft a favorable procedural ruling. Microsoft rallied pretty

sharply on the news we just seem to be dragged down by the by the rest of the technology to explain how that helps Microsoft. Well rather than taking the case on directly the Supreme Court said that they're going to allow the appeals court to hear the case. The appeals court had a favorable ruling from Microsoft in the past case of the assumption is that they're more likely to get a favorable ruling there. And the Supreme Court then may be more likely to accept a favorable ruling of the appeals court by the way if I can just add I think it underscores the importance of the presidential election there as well because the assumption is that Bush wins he's more likely to have a favorable settlement for Microsoft and Gore wins will probably continue with the current Justice Department policy. Why then do you think Microsoft did not behave better for the week of the whole. It just looks like you know there are times when Microsoft pulls up the Nasdaq this is a time when the rest of the Nasdaq was probably pulling down Microsoft. Plus there's still some uncertainty with the case it is going to take a long time for that to to for a final solution there and the uncertainty of all of that might just be hanging over Microsoft as well.

What are some of the other industry groups that are most affected by the election. I think the one that stands out the most is the drug sector both because of it mainly because of this issue over prescription drug benefits which is seen as kind of a de facto price control mechanism for the way that the vice president has proposed it. The drug companies are treated less adversely under Bush by say tobacco is in a similar category. I think defense stocks do better under Bush environmental stocks and some prescription benefit managers are kind of sectors that would do better under Vice President Gore. Still though you're one of only three who approached became famous enough to be neutral three months ago a posture you have maintained. What is the what is that behind your neutrality. I've actually been neutral since January 7 when I realized as this year. Yes. I realize the Fed was serious about raising the cost of renting the money and the cost of doing business which would probably set the rising earnings I'm also concerned about earnings expectations so I'm still feeling that way it's a moving average 5 percent up or down and I think it's going to stay there for a while. But I'm I'm

very encouraged as far as the opportunity of doing better than 5 percent here in the fourth quarter. Looking back to all the years since 1990 the fourth quarter has been much better than the third quarter and it's been led by technology. So I think some of these bargains created stocks like you like Hewlett-Packard just to name one of the last several days is a is an opportunity for them are you doing two or three if you want. Well I think Packard and Applied Materials and I actually I'm thinking about I'm not sure of getting the type of bottom fish and Eastman Kodak and Apple computer but that would take more courage than I have this evening. If you feel fourth quarter may be that strong. Are you edging toward bullishness and your vote. Yes I am. It's a three month thing I think I could be right that I keep getting halos at neutral for a few more weeks but the next move I make will be toward the bully side and probably fairly soon. Oh that's a you can buy options on the stove or vote was worth a lot this is ready.

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5 8 1 4 3 3 8. The poor machine our own number just couldn't take it anymore. Now before we meet tonight's special guest a leading analyst of defense stocks let's see how that always controversial group actually has performed on each of the last four presidents. As we examine the truth behind arms and the man. Who would have guessed for example that the greatest performance of defense stocks occurred during the presidency of Jimmy Carter. The S&P 500 rose only 28 percent total in Carter's four years in office. But the S&P aerospace and defense group soared by one hundred sixty nine percent. The stock market ignited during Ronald Reagan's eight years in the White House with the S&P up by 118 percent. But despite Reagan's hawkish image the aerospace defense group could muster only a 65 percent gain. And the pattern of under-performance by the aerospace defense group which now includes Boeing General Dynamics B.F. Goodrich

Lockheed Martin and Northrop Grumman has continued under Reagan successors. The group scored only a 33 percent gain during George Bush's four years as president. While the S&P 500 was gaining 51 percent and the roaring stock market of the past eight years with Bill Clinton as president has taken the S&P 500 up by 232 percent. But despite a recent surge the aerospace defense group has continued to be a relative laggard by 212 percent. So clearly there is not much correlation between the perceived emphasis on defense by the incumbent president and the actual performance of the stocks in that industry. What else is moving those stocks and where will they move under Clinton's successor. For some thoughts on that let's go over now and meet tonight's special guest Byron K. Callan. Welcome back Byron we think we've. Got a path you've played before. Good to be back with you. Indeed for three straight years Byron Cowan has kept

as ahead of the curve. At the politicians as to what's really ahead for the defense and aerospace industry which he has been covering quite brilliantly since 1987. He's been manning the defenses for Merrill Lynch since 1993 with the issue now front and center again during this presidential election campaign. It seemed especially appropriate time to ask Byron for his current strategy. Byron how much difference will it make in your area if George Bush or Al Gore is elected. The Right now I think it's probably more a perceptual difference. The two campaigns are really talking about generalities at this point we haven't seen the specifics of their defense programs. But I would agree with the notion that defense will probably fare better under a Republican administration than a one under a Democratic administration. How do you explain that history in which they did. Best of all relatively under Jimmy Carter. I think you have to look at where the stocks were coming from the mid 1970s were a period of some difficulty for the defense sector they came off very depressed

levels defense spending started to rise under under Carter and the stocks were coming off a very depressed base with some budget tailwind behind them. Is it just a matter of perception that there will be more defense spending under George Bush. Or is it a question of which sector would benefit most. I think it's probably a little bit of both. Again neither campaign has really articulated exactly how they'd spend the defense dollars in the future. The Bush campaign has probably been a little more vocal about missile defense about possibly skipping a generation of select weapon systems and investing more in research and development. So I think maybe some of the higher tech sectors might be perceived to do better under a Bush administration. Bring us up to date on what the press called Star Wars in which President Reagan always insists on calling the Strategic Defense Initiative we're going to have a missile shield. We have a plan for a missile defense system it's the national missile defense

system. The president President Clinton decided to defer a decision on that until the next administration I think will probably evolve it had been a system that was originally conceived to prevent against a very limited attack. I think as we go forward we'll probably see that notion expanded So yes Star Wars is alive and well. Realistically are we now able successfully to shoot down incoming missiles. We've had some tests where we can do it but as a full up system no we're not there today. Given the uncertainty to which both you and Tom Gallagher have alluded. Should investors hold back on investing in this area now. I don't think the argument today is whether we're going to cut defense spending the argument is how much more we're going to spend on the sector so I actually think the sector looks pretty good for a long term horizon. What are your favorites now. My favorite is still General Dynamics that would be my number one pick. But I also like Northrup Grumman Litton L-3 Communications ally and tech systems and Northrop Grumman. That's why I like it

too that I think General Dynamics is probably the best managed company. It has one of the strongest defense program bases and also as a business jet business it's doing fairly well. Some of the others Litton has good exposure to the building market. Northrop Grumman has a great technology portfolio L3 has been a wonderful company and in buying other firms and also executing a strategy as a merchant supplier So those are the the reasons in a nutshell. As I noted the group's relative performances picked up a bit lately as I think it's still in this group. There's nothing that I think is way ahead of itself there are a couple of stocks that I think need to have some issues sorted out before they can move higher but the groups are very strong lately which ones need a little sorting. I have neutral opinions currently on a near-term basis on both Lockheed Martin and Raytheon. I think for Raytheon I'd like to see them square away some issues in their general aviation business. Their defense business is actually a much firmer footing now and on Lockheed Martin I think they need to sort out some developments in their

commercial space business which also I think has favorable long term view but still need some near-term issues sorted out. They've been times in the past when you correctly state us away from this group you know seem to be steering us toward it. I think I'd steer you selectively toward some of the names here I'm not. I don't think it's a buying entire sector story at this point I'd still be selective in my and my stock picks within the group. We have a very well selective panel to talk with you now have to fire and these are perceived as old economy stocks yet like other companies they're greatly impacted by this information technology revolution. Any standout from their competitors for their effective use of technology. I know it's perceived as an old technology sector but they really use a vast array of amazing technologies. Some of the companies Lockheed Martin has several hundred patents and fiberoptics communications systems so I think the issue is whether or not these companies can bring some of these technologies to the commercial market. That's where some of the real value can be created in the sector.

Higher in the outlook is for higher defense spending. But how worried are you that the government will use its buying power to squeeze the profit margins of defense contractors. I don't worry about the government trying to squeeze the contractors for profit margin. If anything I think the government has been much more attuned lately to the fact that this is a sector that competes with the rest of the economy for people for for technology and they've become much more attuned to the health of this industry so I don't see any concern on the horizon that profitability is going to come under pressure in this business. The Europeans don't spend the same GDP percentage on military as we do but they do spend. Does the weak euro or hurt the oil price have an impact here. I don't see a great shift coming up between the European and U.S. in this year as a result of some of these things that have been the news in the news lately. European defense budgets are fairly stable right now and they have a fairly strong presence in the Middle East so they might

actually be helped by some of the the increase in oil prices in particular. Byron the crash of the French Concorde seems to have eliminated supersonic travel from the scene. Is that good for Boeing which never got into this area and how does it stand in the competition with Europe's air bus. I think the Concorde crash itself it's not going to create a new Concorde. There won't be a new supersonic transport developed. The Concorde project was one of the more costly ones for the industry. I think the Boeing has actually even the game somewhat with their boss. Their market share is even down after a a rocky year last year. One of the things that Concorde never paid much attention to was fuel cost. The best the industry has to to what extent is it impacted by a rise in oil prices. I actually think the civil aircraft market is helped by rising fuel prices. If you look at the U.S. airline fleet a number of airlines are still flying relatively older fuel efficient airplanes. And as long as fuel remains fairly high level

it's going to become a lot less economical to operate those airplanes we should continue to see some demand for newer planes to replace the gas goes in the fleet as any traveler can tell you. Air travel has been much fun lately. Does that suggest more buying of planes. I think I wouldn't look at the congestion that's emerging at some of the major airport hubs as an indication that the skies are overcrowded some certain airports are overcrowded but it doesn't seem to have impacted aircraft buying plans by some of the airlines if anything it may push airlines to buy larger airplanes and the ones they currently operate turning back to the defense side of the equation. Are you content with the state of America's defenses. I think currently the military is capable of executing the missions that are demanded of it today. More more than I've seen in my career there's there's. A lot of vocal vocalization of concern that if we don't reverse some of the trends these capabilities are going to

erode in the next five or six years time what's the most dramatic new development we can expect in defense. I still think it's probably going to be the application of information technologies to defense needs the wireless communications the information power that people see in their day to day lives is being applied to military that has some pretty radical implications for the size and type of the military forces that the U.S. could deploy in the future. That mean that we could have smaller forces. Correct I think we will see far smaller forces as a result of that. Thanks very much Byron Callan. Wonderful as always thanks to the panel. I hope you'll be back again next week when my guest will be a veteran and always controversial economist who is now also a major Wall Street strategist. He's Ed your identity. And give us his latest thinking on where the economy and the markets are heading. And precisely how next month's election could change that course. So I hope you'll vote to join us. Meanwhile there's a been Wall Street Week. I'm with you guys tonight.

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