Money Managers Say More Gains Are Out There

U.S. stocks should continue their drive to new highs in coming days as corporate earnings top investor expectations, though speed bumps may slow the trip, money managers said.

Drug company Bristol-Myers Squibb Co., chocolate maker Hershey Foods Corp. and toothpaste seller Colgate-Palmolive Co. are among the companies scheduled to report second-quarter profits during the next few days.

Of the 213 companies in the Standard & Poor’s 500 Index to report earnings to date, 56 percent of them topped expectations - paper company Weyerhaeuser Co. earned 47 cents a share, surpassing the 31-cent forecast. Only 24 percent of the companies fell short of estimates.

Signs that Corporate America is hitting on all cylinders helped the Dow Jones Industrial Average crash through 8,000 on Wednesday.

The move came just five months after the 30-stock average topped 7,000 for the first time.

“Earnings have clearly been the catalyst for the move higher,” said John Kim, chief investment officer at Aeltus Investment Management, which oversees about $40 billion in assets. “These 1,000-point levels seem to be quarterly events, not milestones. There’s a greater likelihood we’ll see 9,000 before 7,000.”

The journey to 9,000 won’t be a straight line, to be sure, because stocks may be getting expensive, some money managers said. The price-to-earnings ratio of the S&P 500 is about 20.5 - that is, the average company’s stock in the index trades more than 20 times higher than its trailing annual earnings per share.

When inflation isn’t a concern, the P/E moves between 14 and 21 times earnings, analysts said.

“Everything’s perfect, but it doesn’t get better than perfect,” said Terry Diamond, chairman of Talon Asset Management, which oversees $450 million in assets. “The question becomes how much of it is discounted in the market.”

Among the stocks Diamond added recently is Vitalink Pharmacy Services Inc., which sells medications and consulting services to nursing centers and their patients. So far this year, the stock is down about 18 percent.

“It’s becoming harder and harder to find good ideas,” Diamond said. “Stocks are fully priced or overpriced, but investors are afraid to sell because they don’t know what to buy next.”

Friday’s drop in share prices tarnished a record-setting week. For the week, the Dow Jones Industrial Average fell 31.36, or 0.4 percent, to 7,890.46. Before Friday’s 130.31-point drop, the 30-stock average had been up 1.2 percent for the week.

The Standard & Poor’s 500 Index fell 1.38 to 915.30 for the week, losing a 2.2 percent gain, while the Nasdaq Combined Composite added 45.37, or 3 percent, to reach 1547.99.

Among the companies expected to please investors next week is Caterpillar Inc., the world’s largest maker of tractors and construction equipment. The Peoria, Illinois-based company is forecast to earn $1.11 a share, up from 97 cents a year ago. So far this year, Caterpillar is the Dow’s fourth-best performing stock, its 45 percent gain lagging only Wal-Mart Stores Inc., Travelers Group Inc. and International Paper Co.

International Business Machines Corp. is expected to report earnings of $1.42 a share next week, topping last year’s second-quarter profit of $1.26 a share. IBM’s stock is up about 38 percent this year, topping the S&P 500’s 24 percent gain.

“Valuations are high, but market joys go further and last longer than you expect,” said James King, a money manager at Voyageur Asset Management in Minneapolis, which oversees about $6.5 billion in assets. King owns drug maker Merck & Co., which climbed 4.8 percent this week after its profit topped forecasts.

Some of the expected enthusiasm for profits next week could be tempered by remarks from Federal Reserve Chairman Alan Greenspan, who will discuss the state of the economy with lawmakers in Washington on Tuesday and Wednesday.

During Greenspan’s last address, on Feb. 26, the Dow industrials fell 55.03 points when Greenspan hinted the central bank was poised to raise interest rates.

While it’s impossible to predict how investors will interpret Greenspan’s remarks, inflation remains subdued and probably won’t force the Fed to boost borrowing costs anytime soon. On Wednesday, the Labor Department said the consumer price index rose just 0.1 percent in June.

Rising interest rates are bad for stocks because they make it more expensive to borrow the money needed to finance operations. Also, rising rates tend boost the appeal of fixed-income assets and can siphon flows of money into stocks.

Investors said the market still has momentum on its side, and probably won’t reverse course soon. Workers saving for retirement continue to shovel money into 401(k) plans and are favoring stock investments for their long-term return.

An estimated $53.85 billion was invested in stock funds in the second quarter.

“We’ve definitely seen over the last six months a distinct shift in the bank channel from fixedincome to equity investments,” said Greg Knopf, head of the mutual fund division at Union Bank of California, which manages $4.6 billion.

At the same time, investors concerned about risk are shifting money into more conservative equity investments rather than fixed-income products, Knopf said. Income funds, for example, tend to invest in banks, oil companies, utilities and other companies that pay big dividends on a periodic basis.