Motley Fool Hidden Gems Investing - Motley Fool Money: 05.29.2009

Episode Date: May 29, 2009

The economy continues to contract and foreclosures continue to rise. General Motors gears up for bankruptcy. And Microsoft adds some Bing to its search. In this installment of Motley Fool Money, Motley Fool analysts Seth Jayson and Shannon Zimmerman explain what it means for investors, air a few beefs, and share a few stock ideas. Learn more about your ad choices. Visit megaphone.fm/adchoices

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Seth Jason and Shannon Zimmerman. Guys, good to see you. Good to be here. We're short one body. You know, you were in Italy. James is up in the great state of Maine. That's right. When do I get my day off? You know, sometime in the fall. Okay. We've got a lot to get to this week, including the latest economic and housing numbers, some wheeling and dealing at GM, and some new search in Microsoft.

So we'll talk about all that, share a couple of stock ideas, and air a few beefs. Shannon, we're going to start with the big picture, which is, frankly, just not that good. That's right. News out on Friday that the economy contracted at a 5.7% clip in the first quarter. This is now the longest recession since World War II. On the housing front, the National Association of Realtors reported that sales of existing homes rose in April, But according to the Mortgage Bankers Association, 12% of homeowners are now either behind on their mortgage or in foreclosure. And the foreclosure rate on primed fixed-rate loans has doubled over the last year.

Is there any upside for investors in this news? No, apparently, according to the market, there is. It's a what-me-worry kind of Wall Street response to really what is some fairly grim ongoing news. On the subprime piece, nobody should be surprised at all, if for no other reason but that we've been talking about this here on this podcast for quite a while, that what was thought by some, but not by us, to be a subprime contagion has now drifted into other areas of the mortgage market as well. Foreclosure is not just for deadbeats anymore. The title of a great blog post that everybody should go look at right now from my partner here. So that was inevitable.

You know, unless you're among the super wealthy, like my partner here, you're all living through the same economic drama-rama. And so, this was going to happen eventually. Maybe the subprime piece of it was the canary in the coal mine, but, you know, we're behind that canary. And so, sure enough, this has happened. So, from an investing point of view, I think now is a great time to remind yourself that we are far from being out of the economic woods just now. And then to take a look at your portfolio and to ask yourself, you know, the rally that we have all experienced and enjoy, because it's more fun to be up than down, is that really supported by fundamentals, either in terms of the companies you hold or the macroeconomic reports that are coming out.

I would argue that it's not, and that's an argument for thinking very clearly about asset allocation now. Exactly. You need to look at your companies, like Shannon said, and say, what kind of growth are they priced for? And if they are priced for more growth than you expect is coming, it could be time to sell. Anything in the housing news really leap out at you? What, besides that everyone wanted something to clap about and it was the usual kind of bogus housing news? Let me talk about the National Association of Realtor Home Numbers. Everyone was going, hey, housing has gotten better, you know.

But this is a seasonally adjusted rate number. And so it's only better when you look at last month. As opposed to last year, it's actually much worse. And then you have to remember on top of that that in some markets that are some of the hotter markets right now where houses are actually being sold, bought and sold, you know, as much as 50% of the activity is foreclosures, short sales, distressed sales of other kinds. So I completely unscientific number. I think you're 10, 20% below if you consider normalized sales and not a lot of that really distressed stuff. So this is not great news. And the only reason the media presents it that way, I have to wail on the sort of despicable National Association of Realtors propaganda machine.

These are the people who said there was no housing bubble. These are the people who always want you to think that a home is an investment when really it's a nice place to live and it only works out if you pay the right price. So don't believe in this. Do the math if you're looking at houses and things are just not as great as everyone would like you to think. Yeah, and the fact that the yields are rising on mortgage debt is not a good thing at all. And another sign that the drip, drip, drip approach that Washington is taking to solving this problem is about dripped out. Yeah, what Shannon's referring to, I think, there is the fact that mortgage bond yields, there's sort of a rebellion. And so the yields on these are above the level where the Fed, where the government wants them to be.

And, of course, they were pumping a ton of money in to try and lower the yields by upping the price to try and push down mortgage rates because, in the end, the price you and I pay for a loan is related to this. And what's happened is, big surprise, you can't push on a string and have it work. Right. All right. Shares of GM fell below $1 on Friday in advance of the company's expected filing for Chapter 11. Is there any way GM reinvents itself, or is this just delaying the inevitable that this company is no longer in existence in any form in five years? No, and probably are the answers to those questions. Basically, it is a delay of the inevitable, but I think that given our current circumstance, that's probably a good thing. I

don't believe that either at the level of its products or the labor management dynamic that exists across the auto industry, the American auto industry can reinvent itself in time to save itself. And so basically, I think that what has to happen now is sort of an orchestrated dismount. And that's, I think, a part of what is underway. And that's good right now, because we're not just talking about the jobs that would be lost at GM or across the broader auto industry, but around the ecosystem that exists. And so you're talking about dealers, suppliers, mechanics, The whole gamut of things that touch on the auto industry, if the demise was to be hastened, that would be at risk, and I don't think now is the time to risk that. Yeah, and I disagree with Shannon a little bit on that.

I think had this happened more quickly in the early days, and he and I talked about this around the water cooler quite a bit, I think that would have been more of a danger. One of the silver linings of this storm cloud that is this long, drawn-out death rattle is that people have heard about this so much, I think they're to the point of being really bored. And I think they also understand there were actually a couple of shrewd moves made by the government. I think when Obama and his people said, hey, we'll back warranties and things, they took away the risk that people would just stop buying these cars dead and then effectively kill the surviving pieces of these companies. So I think that most Americans and most people understand that the good parts of these companies are going to survive. Unfortunately, the bad parts are now the taxpayers' problem.

And one bad is maybe not the word that I would use, But one interesting thing for people to contemplate as we watch the unwinding of GM over the course of however long it's going to take is that this is a company that is not run for shareholders, it's not run for current employees, it's run for retirees. And that makes it a very tough moral issue, but not so much an economic one. This week, Microsoft started rolling out its new search engine, Bing. Microsoft is describing Bing as a, quote, decision engine, and reports are the company plans to spend up to $100 million on marketing it. Apple co-founder Steve Wozniak, the Woz himself, has gotten a sneak preview and calls it, quote, astounding.

What do the Fonz call it? Hey. Bing will be fully launched by June 3rd. Seth, we'll start with you. You're a Microsoft guy. Have you taken Bing out for a spin? You know, none of us can do that yet unless we're special and we're given access to the special web page. I think the WAS only saw the presentation and looked impressed.

And the presentation is impressive. I was not absolutely as surprised as some people, but I've used the LiveSearch product for longer. I use sort of three or four Internet search engine products every day because I find they all work better for some things than others. And Live was organizing some of this data this way a while ago. and then all of a sudden they switched to this kind of Google-like list of things, and I really disliked it, and I didn't understand why they were going in that direction. I guess I do now. They wanted to move it all behind a wall and make the presentation even better,

which I think they've done. I'm under no illusion that this can stop the Google juggernaut because this is a brand issue and it's a habit issue, and people are in the habit of typing Google and going. But I think if they can actually organize this stuff in a way that's quick, saves people clicks, gives them the information they're actually looking for more quickly, then they have a winner. And Microsoft has a bit of experience with this.

They revamped the toolbar in Office, for instance, in a way that most people found jarring at first, but far superior to the way they had done in the past. Are you referring to the mysterious ribbon? The ribbon. I'm talking about the ribbon. And so they have some experience with this, and if it works out, good for them. We've got a viable challenger. If not, you know, it's another $100 million down the tubes.

Yeah, and I'm all about a viable challenge, and it does seem to me to be the case that what they're trying to do is save people some keystrokes. I would suggest that Google has some things built into its capabilities that also address that. Basically, if you want to refine your search query, Google is offering predictive search queries based on what other folks who have also searched on I Love Microsoft have put into the mix. The lurch from a fairly spartan interface with live search to what looks like a much more robust but also more complex interface for Bing is a dare. It's a daring move on their part because it's tough to get complexity right when it comes to interface. I don't think this is a game changer. I think it could be a game ender. If it doesn't work, then Microsoft, I think, will see the inevitable, and that's that Google is the dominant force.

And the one company we're not mentioning here yet is Yahoo, because when you look at the search market, Google has 64%. Yahoo has 20%. And Microsoft has only 8%, which I have to believe, as much as it stinks to be in third place, Steve Ballmer must be going insane that Yahoo has such a huge lead Ballmer clearly is insane you know it's again it's a brand

and it's a momentum thing Yahoo is a name people know and I think their product has been inferior for years certainly the presentation how to just get a single word in that box is awful but it shows you how powerful habit is and why even if Microsoft's product were awesome it would be a tough go

I mean if Google or Yahoo even were doing something like this I think people would be having spasms of ecstasy. The fact that it's Microsoft makes it really tough. People want to hate it. Yeah, I remember back in the days when my older relatives thought that AOL was the internet. I think Yahoo sort of enjoys some of that legacy familiarity.

A big thing that Microsoft is fronting in a lot of the press material is that they are spending $100 million on this ad campaign, and they're getting some hype in advance of that. But the hardest thing to do in marketing is to change people's behavior. I don't think it's going to get it done with $100 million ad spend.

All right, it's time for What's Your Beef? time to tee off on a stock a company a person someone in this room shannon we'll start with you well don't you start with me uh no my beef is with consumer confidence i hate it i i why do you hate freedom in america an apple pie uh i love consumers i am one myself uh but the confidence thing uh in terms of the way that it gets overhyped and uh wall street overreacts to it is really just an embarrassment to what is supposed to be a rational market system. A rational market. It's anything but. And so, basically, what I think that savvy investors ought to do is to

take a look at the overreaction that typically meets, you know, oh, these soaring consumer confidence numbers that have lately been reported. And if we could have like a reality check number that rolled up myriad data points into one easy to understand, so easy that even a pundit on CNBC could get it, that would be a good reality check, because the data is not supportive of the kind of confidence that we're seeing, nor the market swinging up as high as it has. So, just to circle back around to a point that we were both making earlier, now is a fantastic time not to be head faked by consumer confidence, but to stay focused on company fundamentals. And bear in mind, too, that we're about to come up on a season where earnings are going to be against very easy comps.

So, factor that into your thinking, too. And then also, whether or not the economic data is supportive of the rally you've seen, the market scene, and that apparently some consumer somewhere who got polled are feeling quite good about. Seth, what's your beef this week? You know, my beef is that sometimes you're just really fired up to be angry about something, and then some jerk comes away and takes away your reason to be angry. You're talking about me? By being all nice to you? I know, or fixing the problem, and it's a huge letdown. Am I the only one who feels that way? On the way back from Italy, I'm stuck in Philadelphia, and it's one of those

flight delays where they don't just say to you, Hey, you'll be leaving five hours from now. So you can make an informed decision, maybe rent a car, maybe crawl back home to DC because that would be faster. No, they just keep saying another 20 minutes, another 20 minutes. So this happened to me on United and a United flight. And I was just irate. So I wrote this horrible letter. I didn't send it right away because the airport didn't have free wifi. Otherwise I could have been in trouble. I sent it the next day and I, and I, I toned it back and I just explained how I felt completely misled and how I just didn't know of any other industry where people could be treated this way. And the companies wouldn't try to make it right. And darn, if United customer

relations didn't send me back a very nice letter and a $150 voucher. Nice. So that that's the way to treat angry customers. I sort of wish it was a policy because I feel like if it were a policy that everyone who was delayed more than three hours automatically got a voucher, they would find a way to fix these kinds of errors. But it's better than nothing. So I was going to beef on United, and now I have to give them the golf clap instead.

For a mere $150. Which begs the question... You can buy Seth Jason. And how much was Wozniak bought for? I think all the Woz needs is... For endorsing the bean. I think a Happy Meal is enough to get the Woz going. All right, it's time for Stocks on Our Radar,

sponsored by Motley Fool Inside Value. Invest like an adult. For a free 30-day trial, go to insidevalue.fool.com. Shannon, as we head into June, give me one stock that's on your radar. Well, this is a stock that I think is near and dear to Seth's heart. It's Logitech, and it's a great company. The mouse and keyboard people. Exactly, a computer peripherals concern, and the ticker is LOGI.

Great company, tough industry. It's a commodity-like industry with fickle consumers who are apt to either make do with what they have during downturns or to trade down as well. So there's an element of competing on price that is sort of built into its industry. That said, Logitech has been a fantastic company for a long time. Annualized return over the last 10 years is about 23%, I think. So shareholders have become quite wealthy over that. Long-term shareholders have become quite wealthy over that stretch of time. You drill down into it, and to me, it looks like they are the best operator in a tough business.

And so even if you like the company fundamentals, which I do, fantastic balance sheet, debt-free, clearly firing on all fundamental cylinders, management is great as evidenced by its profitability track record. But at some point, you look at your margins, and the gross margin figure here is about, what, 30% roughly? So they're taking home about 30, or they're banking about 30 cents on every dollar that they take in. Well, that's only at the top. It gets even less as you go down. Exactly. And so we are doing work on this company, and I know it's one that you're a fan of, but how do you reconcile that disconnect between what seems to be a great company but a tough industry? Well, you're talking about one of our companies over at Hidden Gems, and I had this discussion with my team, and this is one of those situations where I try not to hit my head against the wall sometimes about the competition and trying to figure it out, and I just look, and the margin numbers are actually very steady. And so that suggests to me that they do have some secret sauce, whether it's their product development, brand, name itself, or otherwise, that is responsible for this.

And sometimes you don't need to be able to put your finger on it if you see the evidence strongly enough. And so that's all I'll say about Logitech before I get to my radar stock. Sure, one stock in your radar. And this is a stock I know Shannon will love because it's the kind of company he loves. It is a company that has actually really phenomenally high margins, even net margins. and they produce cash flows, huge cash flows year after year. They are in a tough business,

but they are by far the market leader. And these are all companies, the kinds of things you love in a company, right, Shannon? As Spandau Ballet once said, so true. So true. Unfortunately, it's Microsoft. So I draw Shannon in and then stick in the knife. You learn some things when you're in Italy

and how to stab is one of them. Yeah, how are those margins on Zoom? How's that working out for them? Well, Microsoft, not unlike other companies you like, Costco or Target or others, has some lost leaders, and the Xbox is actually the most famous one. But Microsoft still makes an awful lot of cash. The price now at $20 isn't as great as it was a few months ago when it was down below. They've always got problems.

They've got people trying to sue them for billions, fining them for billions. They operate in some markets where things don't work out, Zune, Search. But they also operate in a lot of markets, Office, operating systems, where they didn't get the job done originally and eventually they did. And they're still a huge leader. They're actually very good to shareholders and they're worth a look.

They're very boring. And after all, everyone hates them and that's usually a good time to buy a stock. I don't hate them. I just wish they would stick to what they're good at. If you agree not to quote Spandau Ballet anymore, I think they might agree to that. All right, Seth Jason, Shannon Zimmerman,

thanks for being here. Good to be with you, Chris. Thanks for listening to this edition of Motley Fool Money. You can check out past episodes at MotleyFoolMoney.com. As always, people on the program may have interest in the stocks they talk about. Don't buy or sell stocks based solely on what you hear. Do your homework and make your own decisions. And remember, the conversation continues 24-7 at Fool.com. I'm Chris Hill. We'll see you next time. Thank you.