What to Buy in 2011 and What to Sell in 2010

(This is my  annual note to friends and fellow investors who follow my picks. I have made a number of them over time, and most will not be discussed here. If there are others that I picked that you want me to talk about, just leave a comment and I will get to them as I have time.  The more significant ones are included here, and are also available at my blog on Morningstar.com to subscribers there.  – BMR)

As a good Value Vulture, I set upon a course through 2008 to now to buy distressed companies and companies that were profitable but having their stocks hammered unjustly by the greater circumstances of the market.

They had to have incredible cash flow, lower debt, a 17% discount to fair market value and dream of all impossible dreams, a 3% or better dividend return.

This, in good times, produces a list of 20-30 companies that are experiencing hard times.  In 2008-2009 the list was almost 180.

I filtered that down somewhat into recession categories.

I bought big pharma and products companies like JNJ at depression era pricing.

I owned and held and bought more of MLPs like Kinder Morgan (KMP, KMR) because moving oil at fixed rates is not tied to the price of crude and because cars and buses and trains and airplanes still need to roll.

I looked at restaurant retail, the one indulgence that people have a hard time giving up, and focused on simple indulgences like Starbucks and Panera and P.F. Changs with its legions of Pei Wei restaurants rolling out just at the right time and Ruth’s Chris for the eventual recovery, being bought at a fraction of its value ($4.00 to $22.00)

I looked at automotive, and the need to keep cars up longer, and bought Auto Zone (AZO) both before the plunge and during it.

I bought banks, and the preferred stock of companies like Wells Fargo (J series) not expecting their immediate health but knowing within the 5-7 years following this debacle that companies who can write off losses in a year and have a 2-3 Billion rebound the next get profitable eventually.

Annual Crop Review – Harvest and Sew

Stocks are like crops.  You plant some seeds and you should watch your investments grow. Some go more slowly than others.

2010 was a harvest year. Panera (PNRA) has achieved spectacular results as white collar workers scaled down to it from company lunches at finer eateries rather than brown bag it. . My exit came in the middle of a big run up in the company in early December, but at 76ish I began seeing reports that suggested that increased employment and easing of company wining and dining policies may move traffic to other eateries over the next 3-5 years. Bought 31ish – Sold High 70s – Now 103

I sold P.F. Changs (PFCB) because the stock has overheated with enthusiasm (The lemmings are running to my side of the boat in this sector). I can’t see that kind of upside for the next five years so I sold to lock in profits. Bought in the 20s, and sold in the 50s.

It was also a year to divest of the oil ship stocks, which settled back down in price to levels not far above where I bought them, but which produced such whopping dividends over the oil inflation of a few years ago (4.00/gal in the US) that their 21% returns for that period of time plus stock spin offs were more than ample. The dividend sails have trimmed down to 3.9% which is still respectable, but I can get that from companies with more growth potential over the next 3-5 years. Sailing off into the sunset with my thanks are Ship Finance Limited (SFL) and Frontline (FRO).

Departing the dock of my stock harbor too is Carnival Cruise Lines (CCL) in spite of Morningstar’s sunny (albeit wrong) advice.

Living down in South Florida you see a lot of the cruise game because they have huge sailing ports in Fort Lauderdale and Miami.  Carnival is the budget cruise company, and it did well when people belt-tightened into it, but with the rise of the super-ships at Royal Carribbean and Norwegian, which have thousands of rooms at a wide variety of price points, you will see a lot of customers lured to boats that answer budget needs across a wide variety of pocketbooks.  The Allure and Oasis of the Seas have their allure.  I hear Carnival cruisers talking about taking a trip with Royal Caribbean just to see these monsters of the deep, so that must be having some level of effect on the CCL business, and the disaster off the coast of Mexico didn’t help their image much either.

Until Carnival dumps some of its aging fleet and builds a few boats in that category that go toe-to-toe with the bigger players, not the place to be.

I  divested DELL, a stock which has irritated me for years, as it finally came back up, through acquisitions when it was in its 2008 depression, to levels where I netted a break-even level what was a smaller and dissatisfying investment. The company remains headless, soulless, and attitudinaly adrift, facing monumental headwinds from Apple in retail, while also being  punked and clueless in the business sector by IBM and Oracle with its new Sun server  hardware division. Michael Dell did nothing to turn around the company, and service and support from India and other parts of the world where DELL outsources are shamefully bad.

I sold off business software giant Oracle (ORCL) because it finally became the profit center that it should be, but its forward growth from here is probably more of a function of investors rewarding it for the smarts that I saw in it three to five years ago.

Where do we go in 2011?

This is going to remain a low-growth, politically charged landscape for the next year or so, although all of the piles of cash that corporations are sitting on will have to start being invested slowly particularly before large mutual fund and hedge fund shareholders start looking at ripping the mergers of 2001-2006 apart.

Holds: The bank stocks continue to hold the stink of rotting fish to the lemmings in the quick buck world and to the writers of financial fantasy at the investment analysis companies that were pumping them up when they were selling.  Most are holds.  Pipelines like Transcanada (TCLP) are converting from MLPs to common stocks to avoid a Canadian tax whammy, but they are still fine holdings.  Natural gas delivery companies are still doing well.  Con Ed (E) continues to roll along, as do investments in Home Depot (HD) and Lowes (LOWE) which are starting to emerge from nearly a decade-long slump. Cemex (CX) is paying out annual small stock dividends as it watches the construction picture slowly improve. Diageo (DEO) the big alcoholic beverage distributor is trading in the 70’s up from the 40s, paying about a 4% dividend.  Hold them.

Investments that pay a steady dividend and have good prospects for a stable to growth future are the places to be. In a heated market they will also see the first signs of reward, in most cases.

I hold a few mutual funds of quality at First Pacific Advisors and Alpine, but the post-2008 Mutual Fund landscape is still more about recovery than anything else, and many of the funds have changed their rules, particularly regarding the paying of dividends, to unacceptable positions.  You are better off laying off money into high dividend paying stocks that are of promise and “too big to fail” than you are in placing your trust and money with people who showed very clearly how poor they were at reading the tea leaves themselves, and wiping out 10 to 15 years worth of gains in a single month.

I only will speak about stocks that I already own (Put your mouth where your money is). Stay tuned for future picks.

Right now, I see Exelon (EXC), which I have owned in the past, divested, and have been repurchasing now at much better pricing as a great future buy. Utilities hold stability in regulated rates, Exelon when it was the Philadelphia Electric Co. (PECO) had a former Naval officer who had one of the best records in controlling the nuclear fleet’s fuel systems handling take over the company and buy up nuclear reactors at pennies on the dollar with their dismantling costs factored in.  In the current environment of Green and finding better solutions to energy needs, Exelon is sitting on top of all of them, has great books and pays a 5% dividend.  Get that at a bank or many of your mutual funds consistently.

Plowshares don’t make squat, but we keep enough wars going to keep companies like Lockheed Martin (LMT) profitable and well funded for the next decade or so. Under 68 it’s a bargain and pays out a 3.81% dividends.

France Telecom (FTE) gains a lot of bad press in Europe but it has weathered the storm in Europe better than most, and its acquisitions of years earlier have given it a very ubiquitous footprint on the phone systems of Europe and elsewhere.  It pays a healthy 7.08% dividend to lock in many years of patience on its growth side.

I still like, and am buying into the following companies which you can read more about at Morningstar:

Avon Products (AVP) 3.04 Div. – They have a huge international footprint and execute well in their cosmetics market sector;

The drug sector has been down overall, but they are, as long as they remain bulletproof and the baby boomers stay alive, elderly, and needing medicine huge profit centers.

Merck, Roche, Abbott, and most notably GlaxoSmithKline (5.00%+) all pay nice dividends, will grow modestly, but are positioned for the run-up that retiring Boomers will cause. These are a good long-term hold and reap the dividends.

I still think Lloyds (LYG) in spite of its stumbles, remains a particuarly good speculative investment. The dividend is under my usual radar but at $4.00 a share, the company, whose insurance and casualty units are worth far more than $4.00 on spinoff , is worth holding a thousand or two and seeing where it goes. I would seriously doubt in 5 years that the company will still be trading at this price/multiple.

Sysco (SYY) has been a long-term favorite, with a 3.43 percent dividend, and one of the most efficient systems of delivering food and products to restaurants. The restaurant business is in gradual recovery. They will reap the benefits of being good ants and building infrastructure during slow times. If there is a growth boom, they will blossom in it, and the 3.43 buys patience while waiting.

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