Barron’s(8/1) Stumbling To The Halfway Mark
(From BARRON’S)    By Vito J. Racanelli
The Standard & Poor’s 500 Index managed a respectable 6% total return in the six months ended June 30, but that included two brief 7% drops and rebounds in March and June. The volatility was enough to restrain the brokers’ average return to 5% in the same period (see table below). Thus ends four straight rankings, extending over 2009 and 2010, in which the mean return of the brokers’ focus lists — or best stock ideas — beat the index.
Blame the waxing and waning macro concerns in the first half, like the sovereign-debt crisis, the economic damage from the Japanese tsunami and worries about a U.S. economic slowdown. Well, strings are made to be broken.
Every six months Barron’s and Zacks Investment Research rank the stock picks of America’s brokers — some of them big-name banks like Goldman Sachs, but others less well-known entities like Wedbush Securities. (For a more detailed description of the methodology, go to www.barrons.com.)
Historically, when times are fat, brokers tend to outperform in this contest. However, in both bear and herky-jerky markets — presumably when stock picking is more difficult and important — brokers tend to disappoint and underperform, as the group did in the first half and during the 2008 bear market.
In any case, each of the six-, 12-, 36- and 60-month periods has winners and losers. The winners in the six-month group can crow a little louder this time because they outperformed when things turned rough in the first half.
Discount broker Charles Schwab scored a double victory, taking first place in both the six- and 12-month contests, up 10% and 40%, respectively. This marks a return to prominence for the San Francisco-based broker, which was a consistent leader in 2005-2007 but then fell to the middle of the pack.
In the three-year tally, McAdams Wright Ragen won going away, with a blistering 47% return, far ahead of the pack and many times better than the market’s return. Though a smaller regional broker with a relatively narrow base of analyst coverage, the Seattle-based broker scored a repeat victory. After a poor start in 2007-2008, McAdams Wright has consistently posted enviable returns, punching above its weight class.
The five-year gold medal goes to, appropriately enough, Goldman, up 24%. The firm has regularly scored at or near the top over the years, particularly in this longer-term period. A look at the S&P 500 chart for mid-2006 to mid-2011 shows a steep “V” pattern: from the end of a bull market, to a bear, and back to a bull market. Consequently, strong five-year performances are notable.
Honorable mentions go to Bank of America Merrill Lynch; Edward Jones, another comeback kid; and New Constructs, which finished second in the three-year rally, but also had a tough time in the six-month contest.
Wells Fargo Advisors has the unwanted distinction of cellar-dweller in the other three periods. A WFA spokesman explained in an e-mail: “We take a full balance-sheet approach, focusing not just on individual security selection but asset allocation and long-term planning,”
At a sector level, a successful strategy can be attributed in part to the brave feat of including health-care stocks, a despised group from 2006-2010. In the first half of 2011, health care was the best-performing sector. Having retail stocks also helped the top performers in the first six months, says Tracey Ryniec, a Zacks equity strategist. Both luxury and budget-minded companies boosted returns, she adds. Energy stocks were a plus, too. The lack of financial stocks, the worst-acting group in the period, was a major advantage. Indeed, financials were a curse to all the periods reviewed.
Greg Forsythe, Charles Schwab’s director of equity ratings, explains that the broker’s revival was due in part to a change in the market. After the credit crunch, stocks were moving up and down indiscriminately on macro factors, and “that’s an environment where our approach struggles.” That phenomenon is receding, and with the tweaking of Schwab’s equity model portfolio — fixed at 100 names and sector-neutral — its performance has improved sharply.
Out-of-favor and contrarian picks such as CBS (ticker: CBS) and Humana (HUM), both up almost 50% in the first half, and Alaska Air (ALK), up 21%, were on Schwab’s list, and remain there.
Forsythe has added and removed factors to improve the model, which tries to find stocks with low but improving expectations. For example, it no longer measures share buybacks, as further study shows they are “much less effective” buy signals than they once were, he says.
Sometimes less is more, and with a much smaller list, just 20 names typically, McAdams Wright’s director of equity research, Paul Latta, has pulled off another victory. His focus list had financials, but they were the right ones: MasterCard (MA) and Moody’s (MCO), up 35% and 45%, respectively, in the first half. Moody’s remains on the list.
For the full three-year ranking, the recent purchase of health-care stocks, few bank holdings, and nimble moves in and out of consumer stocks like Starbucks (SBUX), Nordstrom (JWN) and Whole Foods (WFM), propelled performance — stocks that are no longer on the list. More recently, McAdams Wright has taken on some income characteristics, with a 3.1% dividend yield currently, buying stocks like Microsoft (MSFT) and Intel (INTC).
Another new stock is Philips Electronics (PHG), the Dutch maker of medical equipment, lighting and consumer electronics. It’s a contrarian value call and a way to diversify the list geographically, Latta says.
Goldman moved up to first place in the five-year score from second last time around. The broker’s co-head of Americas equity research, Robert Boroujerdi, says its list benefited from changes in thematic focus as the bull and bear markets played out. Like other winners, Goldman’s 50-to-60-stock list generally lacked financial stocks and recently filled out its health-care position.
Pre-Lehman bankruptcy, he says, Goldman included global growth stocks such as Monsanto (MON). As the global recovery began, in late 2008, it added cyclical stocks, including vehicle-parts makers Tenneco (TEN), Dana Holding (DAN) and Cummins (CMI). In recent years the “conviction list.” as it’s called, took on late-cycle names, like entertainment outfit Viacom (VIA) and Precision Castparts (PCP), both of which remain. New Goldman names: MAKO Surgical (MAKO), a medical-device maker, and Plains Exploration & Production (PXP), part of an overweight in energy stocks, adds Boroujerdi.
Coming in second over five years is Edward Jones, the St. Louis broker whose conservative approach is geared to its Midwest clientele. The 40-to-60-name stock-focus list goes for high-quality companies that pay good dividends and increase them regularly.
That stood the broker in good stead during the bearish part of the period, says Dave Powers, the director of equity research. An underweight in financials and timely purchases of industrial and heath-care stocks have helped boost performance as well.
A recent addition is Boeing (BA). There are concerns about defense cuts and delivery delays for its new 787 aircraft, but Boeing should overcome them, says Powers. In a small departure, he bought non-dividend-paying Google (GOOG): “It has other attributes we look for, including leader in its industry, solid financial position, high returns on capital, strong free cash flow and attractive growth potential.”
Bank of America Merrill Lynch also put up market-beating numbers, though it fell to fifth place over the six months, from first in the previous contest.
The firm’s 20-to-30-name US 1 List, as it’s called, was helped by an underweight in financials and by health-care biotech names like Alkermes (ALKS) and Pharmasset (VRUS), both of which remain on the list.
Oil-and-gas exploration company Anadarko Petroleum (APC) joined the list recently. Steve Fleishman, who is chairman of the committee running the list, says an energy underweight has hurt the list, and Anadarko, which has had impressive exploration success over the past year, will help.
Fleishman says he’s become less enthused about “economic plays.” Like Schwab’s Forsythe, he says that for two years, all stocks were going up together on economic recovery, but “with less clarity on the economic outlook, returns will be more tied to stock-specific factors.”
As the most recent period shows, uncertain stock markets can be the undoing of broker-focus lists. But followers of this contest know most brokers go through hot and cold streaks, so investors should look for durable, long-term outperformance from focus lists. If market volatility continues, the average broker-focus return will wobble, too.
—
For Barron’s subscription information call 1-888-BARRONS ext. 685 or inquire online at http://www.barronsmag.com/subscription/subscription.html.

(END) Dow Jones Newswires
07-30-11 0009ET
Copyright (c) 2011 Dow Jones & Company, Inc.