Story Stock – 10/02/2001

Fed Myths : The silliness that always accompanies Fed meeting never ceases to amaze, so let’s get right to the task of dispelling the myths. Myth 1: The Fed is running out of ammunition. This myth is propagated by pessimists who want you to believe that the Fed can’t do much more for the economy now that the funds rate is down to 2.50%. But by our tally, that leaves 250 bp more of rate cuts in the arsenal, which can make a significant difference to business borrowers and households with mortgages. Beyond that, the Fed can just pump reserves into the system even with rates at zero (the Bank of Japan is doing that now). We probably won’t get to that point, but it’s important to understand that the Fed still has plenty of ammunition. Myth 2: the Fed needs to stop cutting rates because it risks undermining confidence and hurts those who depend on deposit rates. This is probably the silliest of the myths. There are still those who believe that the Fed can make everything better by pretending everything is better. Psychology has a role in any economy, but the idea that the economy is nothing but a con game is false. If the economy is hurting, the Fed does not help matters by leaving rates high and telling us that everything is rosy (they kept rates high in the early 1930s, and that didn’t work so well). Also, though depositors can be hurt by lower rates, we know for a fact that lower rates, on the whole, stimulate growth. Myth 3: The 50 bp rate cut must mean that the economy is worse than we feared. OK, maybe this is the silliest of the bunch. Let’s make one point clear: the Fed knows just as much about the economy right now as the rest of us, which is not much. After the Sep 11 attacks, the economic outlook is more clouded than ever and only the passage of time will clarify the outlook. The idea that the Fed has more information that confirms a bleaker outlook presumes that such information exists. Even if the Fed already knew Friday’s employment report (which it doesn’t), that would hardly matter. Who really believes that a report detailing the economy in the week of Sep 14 tells us anything about the future? The Fed cut rates aggressively today because the country just suffered an unprecedented attack at a time of economic vulnerability – to quibble about 25 bp in this environment would have been irresponsible. So here are the real takeaways today: 1) the Fed cut 50 bp because it was the right thing to do, 2) the Fed, like the rest of us, doesn’t know what is coming next, 3) Fed rate cuts are most definitely good for the economy, and 4) the Fed has plenty of ammunition left to lift the economy should it become necessary. – Greg Jones, Briefing.com

B.E. Aerospace (BEAV) 10.84 +2.19: Volatility, thy name is B.E. Aerospace… Stock, which plunged 76% from 9/10 to 9/21 (to a low of 3.5), is surging 25% today on news that company’s cockpit security product could be ready for installation on existing commercial passenger aircraft as early as January 2002… System includes an anti-ballistic cockpit door, a patent-pending locking system and a video system to monitor the passenger cabin… According to BEAV management, the total potential market for retrofitting cockpit security systems on approximately 10,000 existing aircraft worldwide is estimated at $1.5 billion to $2 billion (company posted sales of $689 mln over trailing twelve months)… BEAV, as the world’s leading manufacturer of aircraft cabin interior products, serving virtually all the world’s airlines and aircraft manufacturers, is well positioned to meet this now urgent need… Though stock is likely to pullback a bit over the next few hours/days, Briefing.com contends that investors initially overstated the impact the terrorist attacks would have on the company… Airline industry slowdown will definitely hurt business, but as an aftermarket company, BEAV’s downside should be relatively limited… Company could actually benefit a bit as older planes are kept in service longer… In addition, BEAV’s business jet unit could get a boost as corporate leaders turn to private jets as means of transportation… Meanwhile, management has done a good job in recent years of improving margins and strengthening company’s balance sheet… BEAV will also be sheltered by its diverse client base… While clouded near-term earnings outlook is likely to keep stock from building aggressively on today’s advance, long-term growth investors might want to consider using any new-related price dips to (re)enter the long-side given BEAV’s growth potential, strong management team and discounted valuations. — Robert Walberg, Briefing.com

Wal-Mart (WMT) 50.43 +0.67: The retailing behemoth has been on the move to the upside of late (as much as 5.8% off yesterday’s low) and in the process it has broken out of its week long trading range. Prior to the open the company announced that it plans to open 50 new discount stores and 180-185 new super centers next year which represents a total of a 9% increase in capacity. They cited strong financial results from this format as the reason for the expansion plans. The company is also hosting an analyst meeting at 2 ET and positive comments on market share/cost controls may have also underpinned thus far today. The issue is now at a crossroad from a technical perspective.

Abercrombie & Fitch (ANF) 17.90 +1.30: It’s not your typical response to an earnings warning, but when a stock is already down more than 60% from its highs — like Abercrombie & Fitch is– the market sometimes finds a way of looking at things in a more positive light. For ANF, that positive light was seen in the fact that the apparel company’s Q3 (Oct.) earnings outlook was not as bad as the market was expecting. To wit, ANF believes Q3 earnings will be approximately flat compared to last year’s profit of $0.43 per share and that is roughly in line with the current First Call consensus EPS estimate of $0.44. In light of the negative sales impact of the terrorist attacks, recent consumer confidence data, and earnings warnings from other retailers, that is reassuring news in more ways than one. Investors appreciate that point, too, as ANF is trading up nicely in early action. Although the relief rally has plenty of room to run given ANF’s oversold condition, investors should bear in mind that ANF didn’t exactly offer a confident-sounding outlook for Q4 (Jan.), noting that if current sales trends continue through Christmas it will be “very difficult to match last year’s level of earnings for the fourth quarter.” That level was $0.76 per share; the current First Call consensus estimate is $0.81. This is the plight that confronts most retailers, though, as the uncertain economic environment has prompted them to take a conservative stance. The market has become increasingly mindful of that reality, too, as the retail stocks have not behaved well amid concerns the holiday selling season could prove to be a disappointment due to mounting layoff announcements, and the anxiety among remaining workers regarding their own job security, that threaten to curb discretionary spending even further. On top of that issue, ANF faces plenty of pricing and fashion competition from related competitors like Gap (GPS), American Eagle Outfitters (AEOS) and Pacific Sunwear (PSUN). These are considerations that will limit ANF’s upside potential over the near-term, but as Briefing.com has suggested in recent weeks, ANF’s outlook is encouraging for long-term investors at these levels given easier comparisons in coming months, the company’s strong brand identity and capable management team, and the stimulative impact of current monetary and fiscal policies.– Patrick J. O’Hare, Briefing.com

Mercury Interactive (MERQ) 21.11 +2.37: In most cases, an earnings warning doesn’t stir buy interest. Yet shares of Mercury Interactive are getting lift this morning after the company warned it would come in light on both the top and bottom lines. Mercury now expects earnings in the range of $0.10-$0.12 per share versus the consensus estimate of $0.15 per share. On the topline, the company expects revenues in the range of $82-$84 million versus the consensus estimate of $90.9 million. The one positive about an earnings warning is it removes uncertainty from the market. Put another way, last night’s warning removes the guesswork involved in trying to ascertain how badly a company might miss its numbers — this is a big part of what the recent market sell off has been about. Without question, an earnings warning is bad news. Yet the task for investors is to determine how the revised guidance fits with the company’s fundamental outlook and current valuation. Simply because a company issues bad news doesn’t mean its share price should necessarily go down — the converse is true as well. With a revised fiscal year 2002 estimate in the area of $0.70 per share, MERQ trades at roughly 29.0x forward estimates. MERQ’s trailing Price/Earnings multiple is currently 27.4x. Whether those multiples are too high on a relative basis remains open to debate. Yet in spite of last night’s warning the company is expected to grow its cash balance by approximately $10 million this quarter and improve its cash from operations by $12 million. In addition, Mercury remains solidly profitable and continues to maintain its leadership position in testing software. Historically, Mercury has generated gross margins in excess of 85% and when the industry fundamentals return, the company should be positioned to pull down significantly to the bottom line. In the end, there are cases to be made on both sides of the valuation argument. Yet from a broader market perspective, the more frequently negative pre-announcements generate buy interest, the more likely it is the market is close to a near-term bottom. — Michael Ashbaugh, Briefing.com

Stocks to Watch : The truth of the matter is that there is a “market to watch” as all stocks will be in play to a certain extent given that there is an FOMC meeting today. The Fed’s policy decision is due around 14:15 ET, and it is Briefing.com’s expectation– and the consensus expectation– that the Fed will cut rates by an additional 50bp bringing the fed funds rate to 2.50%. That understanding hasn’t done much to bolster the market, though, as current indications suggest the cash market will start the day on a modestly lower note. Presently, the S&P futures are trading approximately 2 points below fair value while the Nasdaq 100 futures are 8 points below fair value. The lackluster tone has been driven by weakness in European bourses and some disheartening earnings warnings after the close yesterday from a host of companies, including Compaq (CPQ 7.85 -0.48), McGraw-Hill (MHP 56.90), and Abercrombie & Fitch (ANF 15.75 -0.85). Those stocks will be standouts in their respective sectors (i.e. computer, publishing, and retail), but, of course, they won’t be the only stocks worth watching. Bullish investors will want to keep their eye on the airlines as they are getting a vote of confidence from Merrill Lynch, which upgraded DAL, ALK, and ACAI to NT ACCUMULATE from Neutral. Separately, Goldman Sachs upgraded SkyWest (SKYW 17.17) to REC. LIST from Mkt Outperform… Biotech stocks should attract some added interest as Andrx (ADRX 70.90 +1.90) was tapped to replace ATHM (now ATHMQ) in the Nasdaq 100 index after the latter company filed for bankruptcy. The inclusion of ADRX will take place before the open on Oct. 4; meanwhile, the replacement of EXDS in the Nasdaq 100 by Gilead Sciences (GILD 56.62) has been moved up from Oct. 5 and will take place Oct. 4 as well… A few pharmaceutical companies making the news this morning… In particular, Johnson & Johnson (JNJ 55.42) and Baxter (BAX 55.50)— both of which were downgraded by UBS Warburg to HOLD from Strong Buy due to valuation… For more detail on these, and other developments, be sure to visit Briefing.com’s In Play page.– Patrick J. O’Hare, Briefing.com