Ironically, some of the most highly-valued stocks in the Dow
appear to hold some of the highest risk. That may come as a
surprise when you consider that the broader markets (as measured by
the S&P 500) have risen more than 80% from their early 2009
lows. Then again, if the markets need a rest in 2011 after such a
strong two-year run, a number of stocks will be ripe for
That's why I'm looking at the Dow's richest stocks today. These
companies sport relatively high price-to-earnings (
) ratios, and more importantly, have a high degree of exposure to
foreign markets. That's a plus if the global
rebounds in 2011. But it will be a real negative if China [See: "
5 Landmines for Chinese Stocks
"], Brazil [See: "
The Number One Reason Brazil Could be Headed for a
"] or even Europe ["
If the Euro Crisis Deepens...
"] find tougher sledding in 2011.
2011 Sales Growth
|Coca Cola (
|Home Depot (
|United Technologies (UTX)
|Procter & Gamble (
Good news priced in
One thing is for sure about the companies in the table above: With
the exception of
Home Depot (
, all have been performing quite well in recent periods. Yet it's
important to check whether the good times can last. In some cases,
cracks are already beginning to appear.
For example, same-store sales growth at
has begun to moderate. November same-store sales rose 4.8%, down
from 6.5% in October. More importantly, sales in foreign markets
appear to be weakening even more dramatically. China in particular
is starting to weaken, according to Citigroup. And that could be a
sign of things to come: when McDonald's ventured into Latin America
in the 1990s, it saw early success. But by 2005, it became
increasingly clear that many Latin American economies simply
couldn't sustain the model, as the cost of a Big Mac rivaled a full
meal sold elsewhere. As a result, the company closed more than 500
stores in Latin America during 2005 and 2006. These days, it's fair
to wonder if the nascent China slowdown is also a sign that the
premium pricing afforded to Big Macs is becoming a problem.
Yet in the United States, McDonald's has had a very impressive run
against key rivals. In 2001, McDonald's controlled about 14% of the
quick-service restaurant (QSR) segment, while
held a combined 10%market share . A decade later, McDonald's' share
has risen to 17% while its two rivals have seen their collective
share slump to 9.5%.
Yet should investors continue to expect Burger King and Wendy's to
keep stumbling? Each of these chains has been able to re-invent
themselves in the past, and each is now controlled byhedge funds
that know the importance of investing in the brand. Just a little
momentum from either of these players could meaningfully blunt
McDonald's' same-store sales momentum.
Mickey D's faces another challenge:commodity costs are rising for
many basic inputs such as wheat and beef. That could pressureprofit
margins. Goldman Sachs notes that "MCD's company restaurant margins
strongly correlate to a weighted basket of 19 commodities."
Coke has always been seen as a premier growth company, which may
help explain why it carries the highest P/E ratio of any stock in
the Dow. Indeed, the table above notes that Coke is expected to
boost sales 23% in 2011. That's simply because it re-acquired its
largest independent bottler. The real growth rate is more sobering:
Throughout much of the last decade, sales rose around 4-6%
annually. Sales only rose above that rate when Coke made
Many analysts expect Coke to boost sales just 5% to 6% in 2012.
Even that forecast may prove optimistic, simply because Coke is
heavily exposed to foreign sales, and a more stable global economy
has led many to expect the dollar to eventually resume a secular
decline that started back in 2006. And a weaker dollar means a drop
in repatriated profits.
Action to Take -->
After boosting operating margins from 20% in 2005 to 30% last year,
the next move for McDonald's may be down. After surging roughly 45%
since February,shares may have more headwinds than tailwinds in
Shares of Coca-Cola have lurched ahead more than 30% since July,
and it's simply hard to see how the stock can benefit from any
expansion in its forward multiple. At best,shares look like dead
money. At worst, they're headed back to $50 as investors start to
look past the deal-fueled 2011 growth and again see this as a
low-growth, long-termbusiness model .
In addition to McDonald's and Coca-Cola, investors will need to be
even more concerned about
Procter & Gamble (
if the global economy hits a speed bump in 2011. Both of these
companies are highly-leveraged to foreign sales growth. Caterpillar
will be especially vulnerable when investors start to think about
the peak of the current mining and construction cycle, which may
come in the next year or two.
Cyclical plays like Caterpillar tend to see their forward multiple
shrink into single digits when a peak is in sight. Right now,
investors must presume that Caterpillar'searnings per share (EPS)
can surge from $5.75 in 2011 to more than $10 a share within a few
already trade for nearly 10 times that very loftyprofit goal. For
the record, Caterpillar has never earned more than $5.66 a share in
-- David Sterman
David Sterman started his career in equity research at Smith
Barney, culminating in a position as Senior Analyst covering
European banks. David has also served as Director of Research at
Individual Investor and a Managing Editor at TheStreet.com. Read
Disclosure: Neither David Sterman nor StreetAuthority, LLC hold
positions in any securities mentioned in this article.
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