Stein and Zacks roundtable
GEOFF COLVIN: It's pure frustration for investors: The market's been going nowhere for weeks, neither up nor down, trends are non-existent, and every piece of good news, like the surging economy, comes with an equal and opposite piece of bad news, like high oil prices -- confusion reigns. What do you do in a situation like that? You sort it all out with a couple of very smart guys who can bring some badly needed fun to the process. Ben Stein is a former trial lawyer, economist and teacher, a very funny actor who's also been a serious writer about the markets for many years; his newest book is called How to Ruin Your Financial Life. He joins us from Los Angeles. Mitch Zacks is a portfolio manager at Zacks Investment Management, whose Zacks Method has been remarkably successful at spotting good stocks early. He joins us from Chicago.
Ben, last summer on this program, I was talking to you about your book Yes, You Can Time the Market, and you said then was not a good time to get into stocks. In fact, it would have been a pretty good time to get in. What gives?
BEN STEIN: What basically gives is, I made a mistake, of which I make a great many. But we have a Web site that goes with the book that's www.yesyoucantimethemarket.com, and we were by October and November calling that it was a good time to buy, and that is fairly close to the time the market started to really move.
The market is really not badly priced now by historical metrics. And what it will do in the short run, I have no idea, but by historical metrics, the Dow and SPDRs, that is the S&P, are not bad as price/earnings ratios go, as price dividends go, as price to sales go, as price to book goes. They're not badly priced, and we see a lot of hemming and hawing about the market, but unless there's some terrible terrorist event, I think we are going to see some good moves in the market in the next several years.
COLVIN: Well, so you take a very long-term view of when is a good time to buy and when is not a good time to buy.
STEIN: A very long time. I have no clue as to what's going to happen in the short term. I make no pretense of being able to guess that at all.
COLVIN: But when you come down to it, you're saying now is one of those good times to buy.
STEIN: Now is a time when by historic measurements you will get excellent returns over the long run. What it will be next month or the month after, I have no idea. But for the next 10 or 15 years, now I think is a pretty good time to buy.
COLVIN: Mitch Zacks, one year ago the P/E ratio on the Dow was 29; today it is down to 19. Is the market cheap?
MITCH ZACKS: The market is cheap by historical metrics. Essentially what happened is you had prices rise at the same time you had earnings accelerate, but earnings rose substantially faster than prices. The net result is the P/E multiple fell. Looking at P/E multiples now, the forward P/E multiple of the S&P 500 is around 17. It is cheap by historical metrics. The only fly in the ointment, so to speak, is the potential of higher interest rates by the Fed.
COLVIN: Right. Ben, you mentioned SPDRs. I gather you've been buying them? Can you tell us what they are and why you're buying them?
STEIN: SPDRs are the ETF of the S&P 500 Index.
COLVIN: Exchange-Traded Fund.
STEIN: Right. And they're a very inexpensive way to buy stocks. I mostly buy the Diamonds, though. The Diamonds are the Dow ETF, and I think the Dow ETF is less subject to wild fluctuations around the mean. I think the long-term move of the SPDRs has been better, but in terms of standard deviation around the mean, the Dow is better. There's a smaller standard deviation.
COLVIN: Meaning less variability, more stability.
STEIN: Right. I am almost 60. I don't know how many more years I have to work -- I hope not too many -- so I don't want to have too much variability. I'll accept a somewhat lower growth rate in return for less variability.
COLVIN: Well, and in that regard, I gather you've been buying some very unsexy annuities. Is that right?
STEIN: I've been buying annuities. You know, variable annuities have changed a lot. The ones I've been buying have no surrender charge, they have no sales charge, they guarantee a 6 percent growth rate per year. That is a pretty darn good rate. I'm buying them with a sub-account being in the SPDRS, and so I get whatever gain that is, and if it's not much of a gain, at least I get 6 percent. I get the highest anniversary value in the 10 years I own them before I plan to start annuitizing them and drawing them out. I think that's a very good investment.
People might want to rethink variable annuities. They have a lot of advantages. They do not have the tax advantages some other investments have, but they also have the huge tax advantage of no tax on the income as it's compounding during the accumulation phase.
COLVIN: Mitch, you mentioned the risk that the Fed will raise rates. In fact, as far as I can tell, the whole world now believes that the Fed is going to raise rates a quarter point week after next. Do you think it's going to happen, and if so, what's the affect going to be?
ZACKS: Well, you're definitely going to see the Fed raising rates. I would expect to see three 25-basis-point rate increases by the end of the year.
If you look historically at what happened when the Fed raised rates, what you find is that within the cyclicals, you find the industrials tend to do very poorly in a rising rate environment. What tends to do very, very well in terms of cyclicals are the technology stocks and to some extent basic materials stocks.
Outside of the cyclicals, you know, defensive sectors, such as the medical sector and consumer staples, tend to also perform well in a rising rate environment. What you want to be avoiding, though, are the consumer discretionary stocks. These are stocks that benefit when consumers are spending, and with a higher rate environment, higher borrowing costs are probably going to pull back a bit on the consumer. You might have some offset to that by lower unemployment, but generally speaking, as rates go up, people, it costs people more to borrow and they're less likely to make those big purchases. So if anything, with the higher rate environment, I would be moving into medical stocks and if you want to be a little bit more aggressive, looking at technology
stocks.
You know, I like the SPDRs as an ETF. I also like the Qs as an ETF, that's QQQ. The Qs obviously are the Nasdaq and you're getting a lot greater technology exposure. The Dow as an index, you know, as a price-weighted index, is a little bit of a funky index. It's very hard to make a case for it, I think, from a basic financial perspective. It's very hard for me to say why you want to be buying these 30 Dow stocks as opposed to diversifying to a greater extent by buying all the stocks in the S&P 500.
STEIN: Well, if I may respectfully answer that, the data is, that the Dow does roughly about the same as the SPDRs -- roughly, especially if you take out bank allowance or standard deviations -- and diversifying to 30 of the largest companies is large enough diversification to capture almost any of the changes in the industrials. It is not large enough to capture the technology sector, but the SPDRs are large enough to capture the technology sector. A very large part of the SPDRs are also in the technology sectors, so I don't think you do need to go to the Qs.
The Qs have a fantastic variability and are still down enormously from their highs in late 1999 and 2000. I think that, at least for people in my age bracket, that's a pretty risky investment. The Dow is a much more conservative investment, and it's not going to swing like the Qs, but it's not going to swing down like the Qs either.
ZACKS: But, Ben, if you're saying the market is undervalued based on historical metrics, won't it make sense to increase your risk exposure?
STEIN: But I don't think the Qs are undervalued, Mitch. I think the Qs are still very pricey.
ZACKS: Okay.
COLVIN: Ben, your book is called How to Ruin Your Financial Life, and it contains some very sound advice on that topic. Specifically, what is the worst mistake people make in deciding which stocks to buy?
STEIN: I think it's thinking that they can outperform the market. I think that, as I said, one of the great ways to ruin your financial life is to not accept average market returns but go for the fence and swing for the fences, try to pick the stocks that are going to go up 1000, 2000 percent in the next couple of months.
You know, it is so sensible for the ordinary investor to just go with a large, diversified mutual fund or a large ETF and not try to pick stocks. Mitch may be able to pick stocks -- God bless him if he can -- the ordinary investor cannot. The data on this is overwhelming.
But even more basic is, the biggest mistake you can make is not doing anything at all, not learning about the stock market, not investing, just putting it off until tomorrow because it's too worrisome, and also not worrying about retirement. People who do not make plans for retirement are really, really basically hurting themselves as badly as they possibly can.
But there are a lot of other ways to hurt yourself badly, like maxing out your credit cards and then getting new ones, setting up a high-consumption, high-profile lifestyle.
COLVIN: How about those free investment seminars?
STEIN: Ah, free -- yes, watch free investment seminars, either on TV or in person, and follow the advice to the letter. That's a grand way to ruin your financial life. And also, act on financial stock tips that you hear while you're in the locker room of the gym. They have real value. A good way to ruin your life quickly.
COLVIN: Mitch, your method for spotting good stocks early is to look at analyst reports; specifically, whether the analysts are revising their estimates, their earnings estimates, upwards or downwards for a particular stock. Up is good; down is bad. When you look at that now, what are those indicators telling you?
ZACKS: Well, you're seeing very, very strong earnings growth. I mean we're going to see in the second quarter probably greater than 20 percent year-over-year earnings growth for the S&P 500. This is probably going to be the fourth quarter that we've seen greater than 20 percent earnings growth, and that earnings growth is what has been behind the market's movements since we've been on here last. Going forward, you're seeing very, very strong earnings, you're seeing low P/E levels. Basically what we're seeing is the, about a 7 percent appreciation in the market over the next 6 to 8 months.
COLVIN: Ben, I gather that you, like Warren Buffett before you, have had a revelation about the value of private jets. Can you tell us about that?
STEIN: I love private jets. I can't even start to describe to you. I have a piece in Sunday's New York Times about how much I love private jets. I've been flying on them a bit lately. They are paradise. It is beyond great to be in a private jet. Nothing else compares; not sex, not drugs, not good food. Nothing is like being the only passenger on a private jet.
And once you've done that, to then wait 90 minutes in a steamy airport security line at Dulles Airport, as I did yesterday, is unbearable. You have seen heaven once you're in a private jet, and after that everything else seems awfully grim.
COLVIN: Well, do you think the lavishness of life aboard the jets in any way contributed to the big corporate scandals of the past few years?
STEIN: If you have been riding on private jets, going to your private lodge, having your company pay for NBA courtside tickets, having your company pick up the mortgage on your house, you can't walk away from that. If it takes defrauding your investors, if it takes lying to the SEC to keep those privileges -- you'll do it, because you cannot walk away from a private jet.
I know you think you can. You think to yourself, "Well, how can it be that different from being on a regular airplane?" It can be. It's night and day. It's the difference between being alive and well, and alive and sick. That's how big it is.
COLVIN: You've explained a lot to us today, Ben. Thank you very much. Mitch, you too. Ben Stein, Mitch Zacks, thank you.
Alzheimer's Disease
KAREN GIBBS: One of Ronald Reagan's most lasting legacies may very well be the attention he has brought to Alzheimer's disease. President Reagan has put a very public face on one of the most devastating illnesses of our time. But a search for the cure in what has been described
as "the biggest health threat facing baby boomers" is caught up in political intrigue. President Bush's decision to restrict the use of embryonic stem cells in research has drawn the ire of the medical community and even Nancy Reagan.
Before we look at the industry searching for a cure, it's important to examine the scope of the problem.
(Documentary video clip begins)
DAVID SHENK, author: Reagan had Alzheimer's disease in his family, and, looking back at the jokes he made in the White House, it is clear he was concerned that he might get it. In one of the routine check-ups with his White House doctor, he started by saying, "I got three problems
I want to tell you about today. The first is that I'm having a little trouble with my memory. I can't remember the other two."
I think Reagan did a very important thing in telling people that he had Alzheimer's disease. I think that it helped people come to grips with this emerging phenomenon that we are all going to have to face.
NARRATOR: Alzheimer's disease is a slow, silent killer. It draws the curtains over a patient's life and pulls families into its devastating grip. For over a century, scientists have been struggling to unravel this profound mystery. Tantalizing new clues are emerging and breakthroughs are especially critical now in the face of a looming public health disaster. Fifteen years ago, there were approximately 500,000 Americans with Alzheimers. Today, there are 5 million, 10 times as many.
SHENK: It used to be just this individual tragedy. Now it is this individual tragedy that is happening so many times, it is becoming a social tragedy and an economic tragedy.
NARRATOR: Every year past age 65, the percentage of people with Alzheimer's increases. By the time you reach 75, you have a 10 percent chance. If you live past 85, the numbers are much worse.
DEKOSKY: Anywhere from 25 percent of people over 85 to even as high in one study as 47 percent of people over 85 have some level of dementia. That's an incredible number of people with disease.
SHENK: We now have 4 to 5 million Americans who have the disease. They're estimating that the total economic cost of that -- people losing their jobs, people having to give up their jobs to take care of their loved ones, all the medical costs associated with the disease -- over a $100
billion already annually. But that is going to be dwarfed when the baby boomers start to turn 65. When the baby boomers start to get this disease, those numbers are going to explode
RUDOLPH TANZI, author: If you look at the cost of Alzheimer's now and you look at how many patients we are going to have in 2030 because of the baby boomer phenomenon then it can be predicted that our entire federal budget will be consumed caring for Alzheimer's patients by 2030 if we don't do something about this disease between now and then.
(Video clip ends)
GIBBS: That excerpt from the PBS documentary, "The Forgetting: A Portrait of Alzheimer's" paints a terrifying picture, and begs the question: just what is being done to find a cure for this menace? Ultimately, the answer may lie with Wall Street -- which is pouring hundreds of billions of dollars into the biotech and pharmaceutical companies researching the disease. Amy Stevens, a medical doctor, follows the indutry for Goldman Sachs. She joins us from New York.
Amy, do you think the piece we just heard from PBS accurately states the magnitude of the problem?
AMY STEVENS: The question is, is it going to be in epidemic proportions if we find some treatments that can just push back the point of progression? By pushing back the point of progression five years, you could virtually cut in half the number of patients that are affected by Alzheimer's Disease, because normally people are diagnosed within six years or so of their death, and not always from Alzheimer's, but just because of their age. And so if you were able to push back either the appearance of symptoms or once symptoms have appeared very much slow their progression, you could significantly cut down on the number of patients affected by this.
So I think it's yet to be seen whether or not in 10 years we're going to have on our hands an epidemic problem with Alzheimer's Disease, but it will be certainly one of the diseases that will be most challenging, I think, for the drug sector to treat.
GIBBS: We're talking just daily living experiences, and quality of life deteriorates over time. How can embryonic stem cell research help this?
STEVENS: People have a tendency to look to stem cell research as the best future answer because they seem to have great potential. I think a lot of the treatments that are underway right now that are really not as much based on a great understanding of the disease have somewhat more promise than stem cell research in the very near term, because getting through all those hurdles with stem cell research is probably going to take in the neighborhood of at least 10 years.
GIBBS: Amy, what are some of the alternatives to treatment of Alzheimer's other than stem cell research?
STEVENS: Well, the current treatments that are available are essentially four drugs, cholinesterase inhibitors that have been around for a bit of time in the United States. These drugs like Aricept, Reminyl, were brought forward by largely the large-cap pharmaceutical companies. You have these drugs that are treating really the mild-to-moderate portion of the population that has Alzheimer's and doing that in a fairly effective way, but that effectiveness is more defined as extending out the time period that people have before they really become debilitated.
GIBBS: I've also heard that one of the problems in trying to find a cure for these debilitating diseases is just a lack of resources. How can you address that?
STEVENS: I think to some extent that's true. The specialty pharmaceutical companies have always been more focused on drugs that are really closer to commercialization, so buying drugs that are out there and offering them, either reformulating them and then offering them to the public, that kind of thing. And so Forest Labs, which is the company that makes Memantine, essentially did that with their drug. Memantine is known as Namenda on the market. And this drug was available in Europe for almost 10 years before it was brought over to the United States.
Memantine affects the moderate-to-severe portion of the disease, whereas the other four drugs I talked about before, the cholinesterase inhibitors, they are meant to treat the mild-to-moderate patients. And what you see is, you know, people trying to make the most out of the time that they have left and perhaps using the drugs in categories or areas for which they are not approved. However, at this time the drugs that are being written, or the prescriptions that are being written for Memantine appear to be about 90 percent in the moderate-to-severe category, so really staying where they should be. And thus far we've seen significant uptake of the drug and there are solid expectations going forward that this will be a major contributing product to Forest.
GIBBS: Who's leading the effort to find a cure or at least better treatment for Alzheimer's?
STEVENS: You know, there are a large number of companies out there that are focusing on this. Memantine is being developed by Forest but it's also being developed by Allergan in a neuro-ophthalmologic condition, which is essentially glaucoma, but normotensive glaucoma, which just means that we're able to lower the blood pressure in the eye, which you do with traditional glaucoma drops, but despite lowering the pressure, the person continues to have vision loss.
(Note: Goldman Sachs has a financial relationship with AGN and FRX)
And then companies like Elan, which is a small specialty pharmaceutical company, developing vaccines that could cause the body to react against the bad proteins essentially and get them out of the system. That was one of the more promising treatments that was coming along, and it was unfortunately a trial was halted in Phase 2 for Elan where they were seeing a number of patients' brain inflammation which caused them to need to stop the trial. But that was a very promising exercise.
There's a company that's actually trying to do similar work with a vaccine, Lundbeck, it's a European pharma company, and they're working with a biotech company called Pharmexa, which is a Danish biotechnology company.
GIBBS: What industries do you think could be affected by this burgeoning population of baby boomers with potential Alzheimer's
disease?
STEVENS: What we're seeing is an expansion of companies like nurse staffing companies which have been doing very well recently just dealing with the shortage of nurses that are out there. And I think you can see something similar or expect something similar in terms of caretakers or some hybrid of the two.
| Symbol | Company |
| HCR | Manor Care |
| BEV | Beverly Enterprises |
| KIND | Kindred Healthcare |
GIBBS: Amy Stevens, thank you very much for joining us.
STEVENS: Thank you.
NBA prediction
GIBBS: But the stock market weakness may be short-lived. In another one of those stock market/sports indicators -- when the Lakers win, the markets fall. In 2000, 2001 and 2002 when Shaquille O'Neal and the Lakers won three championships in a row, the Dow was benched, losing investors money. And while no one should invest based on the outcome of a basketball game, Tim Ghriskey of Solaris Asset Management says its just one of many bullish indicators.
TIM GHRISKEY: In terms of our outlook for the stock market this year, we think the stock market's going to end up in positive territory, probably solidly positive territory for the year, on the back of an improving economy. he economy is improving, corporate earnings are improving. Those are the real drivers of stock prices.
But having said that, hopefully the anecdote of the Los Angeles Lakers losing in the NBA finals is a positive one for the stock market, because if you look over the last ten years, the Los Angeles Lakers, when they have won the NBA finals, the market has been down. So in our house we were heavily in back of the Pistons to win the championship and for the Lakers to lose.
GIBBS: By the way, when Shaq's Orlando Magic lost in the 1995 championship series, the market ended the year up more than 33 percent.
COLVIN: So if the market is up this year, at least send Shaq a thank-you note.
That's our program. Next week, we're going to share with you some startling results from our just-completed Wall $treet Week investor survey. They may give you a surprising perspective on the presidential campaign.
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