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Rally may mean time to adjust your portfolio

It's a truism. When the economy is bad, seek refuge in stocks of companies that offer stuff people don't cut back on: deodorant, toilet paper, health care and the like.
/ Source: The Associated Press

It's a truism from Investing 101. When the economy is bad, seek refuge in stocks of companies that offer stuff people don't cut back on: deodorant, toilet paper, health care and the like.

Such stocks have in fact widely outperformed the market during Wall Street's nosedive, even though they proved far from immune from damage.

But now it may be time to consider playing less defense within your portfolio.

Certainly a more aggressive approach would have paid off in recent weeks.

After hitting a nearly 12-year low on March 9, the Standard & Poor's 500 index rocketed up 27 percent in a month, led by technology and financial stocks. That was more than double the 12 percent gain of the Consumer Staples Select Sector, an exchange-traded fund which invests in such typically defensive consumer stocks as Procter & Gamble Co., Coca-Cola Inc. and Colgate-Palmolive Co.

Does that mean it's time to ditch the focus on recession-resistant stocks, or is it better to remain cautious until employment begins to level off and there are clearer signs of whether the stimulus is taking effect?

When assessing whether you're ready to introduce more risk, it's important to understand how the market performs historically. For instance, because defensive stocks generally underperform in a recovery, investors who either sit tight with conservative portfolios or tiptoe back into the market by buying "safe" stocks might be making the wrong moves.

"There's a danger (with safe moves) from the standpoint that you could buy stocks that don't catch most of the rebound," said David Goerz, chief investment officer of HighMark Capital Management in San Francisco. "If you don't consistently rebalance, you miss out on the recovery and you can actually end up well behind as we come out of this."

In order to best position yourself to participate in a stock recovery, it's better to buy cyclical stocks like tech, manufacturing and other industries that rely on economic growth as the global recession moves closer to an end.

Barclays Wealth, the wealth management arm of British bank Barclays, recently began recommending that clients begin dialing up risk accordingly.

"Our basic advice is be defensive by having more bonds or more cash and use your small stock portfolio to play offense," said Aaron Gurwitz, the firm's New York-based head of global investment strategy. He recommended going light on consumer staples and other defensive stocks while looking more for ETFs and stocks likelier to benefit from a recovery.

But others believe it's too early to make more aggressive moves. After all, while some economists have publicly predicted the recession will end in the third quarter, the economy remains vulnerable and a return to boom times is nowhere on the horizon.

While they won't lead the pack in a recovery, Tom McManus, chief investment officer of St. Louis-based Wachovia Securities, thinks consumer staples and health care companies with strong balance sheets are still sound buys at current market prices.

"There's no shame in underperforming in an up market as long as you're making a reasonable amount of money," he said. "I don't feel comfortable owning those more cyclical companies if there's a risk that the economy continues to move sideways for a year or more."

If in fact the worst is over, there was no safe haven to be found in stocks during the market slide. But the traditional refuges at least fared the least poorly.

Health care stocks fell an average 19.7 percent and consumer staples dropped an average 22.6 percent in the 12 months ended March 31. Those losses marked the best returns of any major sector. During the same period the S&P 500 shed 38.1 percent of its value, according to Thomson Financial.

Even with recent bouncebacks, those declines suggest there could be plenty of upside left in many supposedly defensive stocks. Those with the most appeal have strong cash flow, reasonably low debt levels and not too much reliance on any single country or product.

A few of the stocks that investors may want to take a closer look at include:

PROCTER & GAMBLE — The world's largest consumer products manufacturer has 24 billion-dollar products, ranging from household brands such as Charmin and personal care products such as Crest and Head & Shoulders to prescription drug brands like Actonel and health-care products.

Its shares are down more than 30 percent from last fall as consumers spend less overall, buy electric razors less often and trade down from premium brands such as Tide. But the company has a well-diversified international operation and has maintained its streak of raising its dividend for 52 straight years, with a current dividend yield of 3.3 percent. Trading under $50 for weeks, down from a September peak of over $73, the stock may be a bargain. Morningstar Inc. pegs the stock's "fair value" at $77.

CVS CAREMARK CORP. — The nation's largest drugstore operator faces challenges for its Caremark pharmacy benefits management business, which falls to third-largest in that category with the announcement that Express Scripts Inc. is buying WellPoint Inc.'s PBM business. However, the Woonsocket, R.I.-based company's profits have risen steadily throughout the recession as customers buy more CVS brand products. Its shares are trading at almost exactly where they were six months ago, around $30, but have a ways to go to reach last June's record high of $44.29.

Those who are bullish on the stock say combining one of the top pharmacy benefit managers and the biggest drugstore chain gave the company considerable economies of scale and an unparalleled competitive position.

RALCORP HOLDINGS INC. — The private-label food maker, based in St. Louis, offers cereal, salad dressing, jelly, corn chips and other products sold widely. Its fiscal first-quarter profit rose as higher prices and its acquisition of Raisin Bran maker Post Foods boosted sales. Walter Gerasimowicz, chairman and CEO of Meditron Asset Management in New York, expects the stock to reach $108 in the next year to 18 months, roughly double its current level.