Good News or Bad News

Usually higher interest rates have a negative effect on stocks. However, The Wall Street Journal thinks that stocks can do well despite higher rates this year.

Investors are right to be concerned, but they shouldn’t panic. The market has had a long time to get ready for a rate increase. And history shows that stocks can rise considerably during periods when the Fed is tightening credit.

The article notes that for 14 periods when the Fed raised rates (going back to 1958) the market only suffered two times and rallied a dozen times. Specifically in 2003 to 2007, 1986 to 1987 and 1961 to 1966 the market rallied more than forty percent despite higher rates. It would appear that the common wisdom about higher rates hurting stocks in not necessarily true.

Picking Stocks

The reason we expect stocks to suffer when interest rates go up is because borrowing money becomes more expensive. USA looks at stocks in 2015. There are more factors that determine stocks prices besides interest rates. For example, energy stocks have taken a big hit with the fall in oil prices and will likely make a comeback as oil prices recover.

Here’s where. There are nine stocks in the Standard & Poor’s 500, including miner Freeport-McMoRan (FCX), energy project construction company Quanta Services (PWR) and biotech darling Gilead Sciences (GILD) that are definitely worth a look.

To make this highly selective list of stocks, they need to meet a number of stringent criteria. They must get a perfect “5” STARS stock rating from S&P Capital IQ. They must also be rated “buy” or “outperform” on average by the analysts that rate the stock and have at least 20% or more upside before hitting the 18-month price target. Lately, the stock must be rated “neutral” or better by stock rating service New Constructs. New Constructs compares the value of stocks with the expected future cash flows.

The point of this being that there are always stocks the will profit in any market. It simply requires sound fundamental analysis to find them.

Debt or No Debt

Companies with a lot of debt are more likely to be hurt by higher interest rates. But, will higher interest rates hurt stocks of companies with large cash reserves? These companies do not need to borrow money and will only be hurt to the extent that higher interest rates lead to fewer purchases of their products. USA Today lists twenty six companies with no long term debt.

Consumers know how hard it is to resist borrowing money. Companies face the same temptation, if not more so, especially with rivals leveraging up and taking advantage of low-interest rate loans.

Yet, there are still 26 non-financial companies in the Standard & Poor’s 500 index, including social media company Facebook, payments processor Visa and accessory seller Michael Kors that ended the first calendar quarters reporting no long-term debt.

Ranked by market value the list starts with Facebook, Qualcomm, Visa, Cognizant Tech, PICCAR and Michael Kors. It ends with F5 Networks, Petsmart, Urban Outfitters and GameStop. Read the article for more info. The point is that not all stocks will be hurt by higher interest rates.

Will Higher Interest Rates Hurt Stocks? DOC

Will Higher Interest Rates Hurt Stocks? PDF

Will Higher Interest Rates Hurt Stocks? PPT

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Home builders are certainly not on the first page of today’s value investing opportunities. However, economic cycles are called that because they cycle. If and when banks start offering mortgages with lower down payments and when the economy slowly but surely mends itself the prospects for home builders may start to look up. Using the old adage about buying when there is blood in the streets, the next year or two could be an excellent opportunity to pick up a home builder stock or two when their fortunes seem the lowest. For the long term investor interested with an investment horizon of decades instead of months the home builders might turn into a good buy in the not too distant future. Our point in discussing this is not to suggest that the investor buy Lennar, KB Homes, Hovnanian, or any of the rest. It is to help investors develop a rationale for investing using a specific example, in this case investing in home builders in a down market.

When considering what will, hopefully, be recovering stocks in a couple of years the investor will want to look for the basics. Does the company have cash? How much debt does it carry? In the case of investing in home builders how much land does the company already own and is that land in areas when people want to build and live? The issue will not just be investing in companies with cash but investing in companies with a viable future based on good management and an attractive product line. In this case the issue will be if these builders have modified, and probably downsized, the homes that they build to be more in tune with the post recession world. Young adults are starting to sound like their grandparents and great grandparents, the survivors of the Great Depression. Saving instead of spending and an eye to the future instead of conspicuous consumption seem to be the order of the day. Those home builders who catch on to this growing trend may be the ones to look for when picking new winners by investing in home builders.

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