These days, when people corner Eric McKissack at social gatherings and ask for investment advice, he offers up this little gem: “The panic period has passed. If you haven’t already gotten back into the market, you should. This is a good time to be looking at your portfolio in the context of a multi-year recovery.â€
McKissack, CEO and chief investment officer of Chicago-based Channing Capital Management, is a devotee of value-minded investing. As such, he and his staff are interested in stocks ready to rebound while showing sustainability. To prepare for what he sees as an imminent upswing in the economy, McKissack suggests that investors seek out shares in companies that are likely to participate in the economy’s resurgence–those that operate in the technology, industrial materials, and consumer discretionary sectors, for instance. Channing Capital, founded in 2004, manages stock portfolios for a variety of institutional clients, including public employee retirement funds, corporations, universities, and foundations. McKissack’s firm also manages two publicly traded mutual funds for the Calvert Group–the Calvert Small-Cap Value Fund (CCVAX) and Calvert Mid-Cap Value Fund (CMVAX).
So, you believe the worst is behind us–both in the economy and the financial markets?
Like I said, the panic period we saw is over. Investors are starting to focus on longer-term fundamentals again. On the whole, 2009 will continue to be a good year for the markets. There will be some retail investors moving back into the market–not satisfied with what they’re gaining in money market accounts. I would say double-digit increases [for the major stock indices] for the year are not out of the question. We may not go there in a straight line, but we will hold on to some of the gains we’ve seen this year as investors gain confidence that there will be an economic recovery. It’s about the tailwind of the stimulus working behind us.
Any reasons to be cautious, getting back in?
Yes. We’ve seen some of the worst performers and most distressed companies recover nicely in the market’s rebound, and some of the best companies lag. We don’t think that will continue.
How do you see the economic turnaround unfolding?
Economically, we won’t have a typical recovery. Early in 2010 is when we see the economy bouncing back. There should be some signs in the first half of the year. But large deficits and increased deleveraging by consumers will make this a less robust recovery than those in the past. Unfortunately, people may not feel better because the employment picture won’t be that good. Hiring might return in a meaningful way in late 2010, but we may see a recovery where a lot of jobs might not return. I think unemployment could reach double digits, and I’m not sure when we would get back below that. But when we do, higher single-digit unemployment may be around for a while. The numbers we’re accustomed to seeing in a recovery won’t be the same. The historic stimulus will definitely lead to a recovery, though.
What industries or sectors should investors consider in the early stages of recovery?
Conventional wisdom is that early cycle plays such as consumer discretionary, financials, materials, and industrial cyclicals will do well. Those can be attractive areas for investors. Some of those stocks have moved closer to fair value levels lately. So, you should be careful that the expectations of recovery aren’t already priced in.
So what do you like in those sectors now?
Banking has been challenged over the last year. We’ve seen several banks that have bounced back dramatically. Some of the most distressed, poorly capitalized, and lowest credit quality banks have bounced back demonstrating ability to raise capital, etc. So, banks have done very well. By contrast we are recommending a bank that has done well throughout. People’s United Financial Inc. (PBCT)–formerly a mutual bank, owned by depositors–converted in 2007 to being publicly owned. That’s one of the reasons they have such a strong balance sheet. Last year, it was one of the best-performing banks because of high loan quality and the strength of its balance sheet. It had no capital inadequacies. Two things that drove banks to problems were lack of capital and poor quality capital. This year, as investors have gotten more interested in the banks that were troubled, People’s stock has underperformed–because it was stable.
People’s made an acquisition of Vermont-based Chittenden Bank in
2008, demonstrating an ability to pursue a strategy of growing in their market. It was a successful transaction. They are pretty conservative–and that’s a good thing for a bank. Some investors are impatient with their failure to acquire, but they are likely to do so in the future–possibly buying larger banks outside of their New England region or smaller banks in their area. We think they’re waiting to pick from banks that aren’t strong enough to make it. People’s is a conservative, quality bank with a big cash war chest. For people who have concerns about banks this is one to consider. We see their shares trading at around $22 in a year.You’re clearly hot on financials. Does anything else in the sector excite you?
Definitely. We think financials are going to be important to a recovery. Fiserv Inc. (FISV) is a company that provides core data processing for banks and financial services companies. They also own CheckFree, an online banking and bill payment service. Fiserv’s primary customers are banks, credit unions, savings and loans, and other financial service institutions, and they have a large market share in the data processing area. Banks are loyal customers. They tend to have three- to five-year contracts. There’s not a lot of switching of vendors. In general, they tend to have sticky client relationships. While Fiserv’s clients are banks, this is really a data management company, dependent on bank customers–one of the reasons their stock
got beaten up last year: guilt by association. But we see this as a strong business model. Fiserv has been a very acquisitive company, growing through acquisition. In fact, CheckFree was one of their acquisitions. We have a 12-month share price target of $61 for Fiserv.How about the consumer discretionary space? Do you like anything there?
Hanesbrands Inc. (HBI) is a company that suffered during the market downturn from having a highly leveraged balance sheet. They have a lot of debt. In 2006, Hanes spun out from Sara Lee. While they were part of Sara Lee, they didn’t get the capital and investment in the brand that they should have. Now, as a separate company, they are getting the attention they deserve. They are reducing indebtedness. With Hanes products–underwear and activewear–you don’t have the fashion-sensitive issues of other clothing brands. You make a T-shirt this year, and it’s not out of fashion next year. With brands like Champion, their clothes are more like staple products. In addition, the company is operating more efficiently, moving operations offshore. They are doing the right things to improve margins. We think Hanes is positioned to deliver double-digit earnings growth over the next five years. In a price-to-earnings sense, the stock is cheap [trading at around $15 in mid-July]. We believe the share price could go to $23 over the next 12 months.
This article originally appeared in the September 2009 issue of Black Enterprise magazine.