Value Line is regarded as the best independent research available. More than just recommendations, Value Line provides the rationale behind its picks for greater understanding.
- Don D., California
Stock Screen: Best & Worst Performing Industries - September 23, 2011
Among the many features found in each week's issue of Value Line's Selection & Opinion is a list of the seven best and worst performing industries over the past six weeks. These rankings can be found on the inside back cover of Selection & Opinion. The roughly 1,700 stocks in the Value Line universe are divided among roughly 100 industries. Notably, for the purposes of calculating these results, the performance of each stock is equally weighted to the others in its industry (i.e., irrespective of market capitalization).
A quick review of the industries on our best/worst performer list can usually provide some insight into the underlying trends driving the broader market. The rather diverse group of industries at the top of this week’s best performing list is indicative, we think, of investors’ lack of conviction in the closing weeks of summer. Overall, the Value Line Arithmetic Index finished the six-week period ending September 20th in roughly the same spot as it began the period. The interim, though, was marked by frequent swings in investor sentiment, with day-to-day moves in the broader market of 1% or more a common occurrence.
For most of August and September, noncyclical industries comprised largely of low Beta stocks held down many of the spots in our top-performing list. This week, we find the Natural Gas Utility Industry still leading the way, with a gain of 7.4%. However, other groups that have made frequent appearances in our top seven, such as Water Utility, Household Products, and Oil/Gas Distribution, are nowhere to be found.
In their place, we find less defensive industries, a shift that suggests to us that market participants were beginning to show some inclination to take on more risk in search of investment ideas. (The heavy losses suffered by the market on September 21st, and 22nd, the two days following the conclusion of the latest six-week period, shows how quickly investors in the current environment can retreat to less risky assets.) In particular, two of the names among this week’s best performers tend to exhibit a high-degree of volatility. Betas for most Apparel and Oilfield Services / Equipment equities are well above the market median (1.00), implying that portfolios composed of such stocks will tend perform well in a rising market, but are susceptible to selling off sharply in a slumping one.
Investors, incidentally, seemed to feel much more strongly about the worst performing industries than they did about the best ones. Trucking stocks declined more than 20%, and five other groups also suffered double-digit losses (Newspaper, Human Resources, Power, Insurance (Life), and Foreign Electronics). By comparison, the 7.4% gain registered by the Natural Gas Utility Industry was rather pedestrian.
In looking for individual investment ideas among the best-performing industries, we will focus on one of the lower profile ones: Healthcare Information Services. The group rose 5.2% in the past six weeks, good for fifth best in our rankings. The combined market capitalization of the eight companies in this group is less than $25 billion, about half of which is attributable to the industry’s biggest player, Cerner Corp. (CERN).
Demand for the services these companies provide is likely to continue to climb in the years ahead. Among the factors working in the industry’s favor are an aging population and the need for hospitals and other healthcare providers to utilize technology in order to lower costs and reduce medical errors. The latter issue is even getting a push from the government in the form of 2009’s HITECH Act. This legislation provides financial incentives to hospitals, doctors, and the like to upgrade their information technology capabilities. Against this relatively favorable operating environment, most of these companies are poised to post strong profit gains in 2011 and 2012. And though considerable regulatory, legislative, and legal uncertainties still abound, we expect these positive trends will remain largely in place through mid-decade.
For instance, at Cerner, revenues should climb at a low-teens rate in each of the next two years, with earnings advancing at an even faster clip. The uptick in sales activity at the company, which develops clinical and management information systems for hospitals and integrated delivery networks, is being partly driven by the healthcare market’s response to the HITECH Act.
Meanwhile, athenahealth (ATHN) has also been delivering strong results so far in 2011, a trend we expect to continue over the balance of the year and into 2012. The provider of Internet-based business services for physician practices has been benefiting from lower client attrition and increased physician office activity. The company’s ability to help doctors meet the “meaningful use” requirements of the HITECH legislation also augurs well for growth prospects over the next three to five years.
Even with the relatively bright growth opportunities available in the industry, investors need to exercise caution before taking positions in the stocks of healthcare information companies. Perhaps the biggest reason for pause is valuation. Most of these equities trade at price-to-earnings multiples that are well in excess of the broader market average. These elevated ratios tend to make the stocks susceptible to wide price swings. The prospect of a contraction in earnings multiples over time also means many of these issues have below-average appreciation potential to 2014-2016. Income-oriented investors will also find their options limited. Most of these companies generate strong cash flow relative to rather modest capital spending requirements, but thus far only one, Computer Programs and Systems (CPSI), an Alabama-based provider of information services to roughly 650 hospitals, pays a dividend.
At the time of this article’s writing, the author did not have positions in any of the companies mentioned.