| This is an excerpt from our Special Report: The State of Green Investing 2009, produced by our green investment newsletter, Progressive Investor. You can purchase the report for $89 or receive it as part of a 5 month ($112) or a year ($185) subscription. See the Table of Contents. We included this excerpt to give you some insight into how we fold recommended green investments into the larger view of current market conditions. |
The following interview is with Patrick McVeigh, president of Reynders, McVeigh Capital Management, a green/social portfolio management firm. We talked about his impression of market conditions, the impact of the stimulus plan on cleantech, and how they are managing porfolios under these circumstances.
PI: What’s your impression of current market conditions?
Patrick McVeigh:
We’re open to the idea that this isn’t a decade long mess we’re staring into, but the problems caused by too much debt in the world will not be easy to correct. We’re looking for early indicators of change in the economy, and will increase our equity positions when we have more confidence we’re at a turning point. There are still risks. We’re still at an early stage of working off the excess leverage in the economy. The financial system has been doing that over the past year, but U.S. consumers have started reducing debt only in the past couple of months, and it’s a long process.
Clean energy stocks dropped even further than the overall market and there will be a sorting out. Last year everything went down – it was a period of de-leveraging. Hedge funds and institutions had too much illiquid money. When clients needed money, they had to sell their best stocks because they had the most liquidity. This year, the leading companies will start outperforming the mediocre ones.
PI: What do you look for as early indicators that the worst is over?
Patrick McVeigh:
We look for the news to go from all bad to a little less bad, and then OK. In every recession, people tend to ignore early signals that suggest positive change is happening. For example, lost among all the bad news is that in December, housing sales rose significantly in California, and housing prices are up in 60% of U.S. cities.
We look at the leading economic indicators – they’ve been narrowly up for two months in a row in the US and Europe, but people are writing them off. They say, ‘It’s just a small increase and only in few areas, and the economy still feels awful.’ Historically, this is a good indicator for what will transpire in three to six months. We’re looking for the indicators to be up for three months in a row.
Job losses are a lagging indicator because layoffs occur even after things start to improve. It takes time for businesses to feel comfortable hiring again. When continuing unemployment claims peak that’s the best sign the worst is past – that we’ve hit the bottom of the recession. Since we’re still early in the layoff cycle, we expect unemployment to get worse.
The other measure I use is the manufacturing index (ISM Index). Although it improved last month, it still signals economic decline. It’s important to see further improvements in the next 1-2 months.
These indicators will show whether the stimulus plans around the world are actually helping economic growth. We think they will, but maybe not as much as some expect.
PI: What’s your opinion on the stimulus plan?
Patrick McVeigh:
It might have a quick impact for a few industries, but most of it will be spent in stages over two years. I think there’s enough there to make meaningful change in industries like health care and clean energy.
I don’t think spending on roads and bridges will make a difference for most companies. Those are our grandparents’ programs. The roads and bridges of the future are clean energy, more efficient transportation, and some areas of health care. Investing in the smart grid will take time but it looks like they will finally do it.
China has more of a true stimulus package. They’re focused on direct spending rather than social support for individuals. China’s package is massive given the size of its economy – equivalent to spending $2.5 trillion in the US – and they may double it. Countries around the world are trying to stimulate their economies – it better have an effect for all that money.
PI: We all want the economy to improve, but how do you feel about the fact that it depends on consumption?
Patrick McVeigh:
After this is all over, we’ll probably swing back to more consumption again, but I don’t think we’ll go back to where we were. Most people make changes in their lives only when they’re forced to in times of crisis, but once they’re made they tend to hold.
After the ’70s oil shocks and high prices, it took 17 years before the US consumed the same amount of oil as in 1979. France and Germany never returned. These shocks to the system produce changes in patterns. I don’t see people buying gas guzzling cars again because they know gas could easily become expensive.
This is a wake-up call for the Baby Boomers – they’re retiring and just lost a lot of money in their homes and the stock market – they have to get serious about saving. We have an aging society, and that’s what people do as they get older – save more, buy less. And our country buys a lot of junk.
The good thing is people are looking at how they spend money. We can all get by with spending a lot less by cutting out stuff we really don’t need. Some industries, like the auto industry, will have to make severe adjustments – I don’t think they’ll go back to selling 16 million vehicles a year in the U.S. We have too many cars per household – I think people will cut back on that. We likely will see a sales level of 10 million vehicles as the new norm.
PI: How do you see the stimulus playing out for cleantech?
Patrick McVeigh:
The holy grail is for solar to approach grid parity in 2012. If the Recovery Bill pushes that closer to reality by a year or two and gets this industry to a point where it can stand on their own and grow, it’s done well.
The Bill gives incentives for cleantech manufacturers that build plants in the US. In solar, Applied Materials (AMAT) and Spire (SPIR), which manufacture solar equipment, should benefit. Spire just announced a Buy America program offering to set up plants for foreign solar companies.
The weak housing market will likely offset the benefits to solar installers even with the tax credits. The Bill is more likely to benefit the utility scale solar plants. That points to the usual leaders, Sunpower (SPWRA) and First Solar (FSLR).
In wind, Vestas (VWS.CO) and Gamesa (GAM.MC) will be able to finance projects more easily because of their financial strength and product leadership – that will make them strong beneficiaries of the stimulus bill. Developers will gravitate to the strongest companies during this phase. Over the past couple of years, everyone was sold out of supply, so developers went with any partner they could get. Now, they will choose only the strongest partners.
The stimulus finally provides incentives for geothermal. WaterFurnace’s (WFI) business exploded in Canada when incentives rose there. They should benefit even in this weak housing market. On the industrial, power plant side of geothermal, Ormat (ORA) will also benefit – its stock only recently fell to an attractive price (under $25).
Cellulosic ethanol will also move ahead. Novozymes (NVZMF) will be supplying enzymes for cellulosic ethanol next year. They believe making ethanol from corn cobs can be cost competitive with gasoline in 2010. The stock isn’t quite cheap enough to buy, but it could be once they report slightly disappointing first quarter earnings.
PI: Which other sectors are looking at for investment?
Patrick McVeigh:
Food production is a new theme for us. Agriculture stocks, which were bid up to crazy prices the past couple of years, have crashed. It’s hard to find a sustainable company in food production – we like John Deere (DE).
We recently heard a story about the largest farm in Arkansas, which like most farms, is under attack for its runoff into water supplies. John Deere offered the solution. Their tractors, which have GPS units, can precisely control the grade of the land to prevent runoff as well as precisely control the application of fertilizers – the tractor knows exactly which parts of the land have been fertilized and which haven’t, and turn and off automatically as they drive across a field.
There’s obviously demand for more food in the world. Deere is also involved in wind and holds one of the top spots in efficient irrigation. It’s a strong, recognizable brand with farmers. In the past, the company diversified outside of agriculture, getting into consumer products, timber, etc, but now they’re focused on being a one-stop-shop for agriculture – they serve farmers’ irrigation and equipment needs, and even help them finance wind turbines on their property.
In healthy living, Whole Foods (WFMI) and United Natural (UNFI) have had nice bounces off their lows. The stocks are cheap, but we’d feel more comfortable recommending them once we see the economy turning. Green Mountain Coffee (GMCR) is our favorite company in this space, though we would prefer buying the stock closer to $30. They’ll continue to benefit from consumers trading down from Starbucks to make coffee at home or at the office.
Recycling stocks will go up as industrial demand returns for basic metals for construction etc. because scrap is always cheaper. Sims (SMS), the world’s largest steel recycler, is our favorite. Investors need to realize these are cyclical, commodity stocks, not growth stocks. They trade with the economy – you have to buy them when they’re out of favor … like now. You don’t want to own commodities when they’re popular and expensive.
PI: In this kind of market people advise staying away from small, risky stocks.
Patrick McVeigh:
I define risk more as the strength of the balance sheet than the size of the company. We won’t own any company, regardless of size, that doesn’t have a strong balance sheet.
We’re seeing many large companies on their knees right now because of their balance sheets – five stocks in the Dow Jones 30 have dividend yields higher than their stock price – I’ve never seen that before. That’s because of their crummy balance sheets. There are also high quality blue chips like Procter & Gamble that are cheaper than they’ve been in a long time and look like good values. IBM is a stock we’re looking at – they’re a strong company that seems to be getting into everything green and they’ll handle a lot of the consulting around the health care proposal.
We’re being cautious about some of our European investments. Europe has more potential bad loans than the US and we think it’s likely the Euro will remain a weak currency. As a result, we’re trying to control our exposure to the Euro while still owning large holdings in Vestas and Novozymes.
PI: What’s your sense on when the economy will come out of this?
Patrick McVeigh:
We have told our clients they should expect the economy to remain poor throughout 2009. We believe unemployment will be over 10%.
But we will continue to look for signs that change is occurring – that some things are no longer getting worse. We may be seeing the first signs that the housing market could hit bottom in the next 3-4 months.
When the economy is growing strongly, it’s almost impossible to see what could end that growth. Similarly, during a global recession like we have now, it is almost impossible to see what will make growth turn positive. While we don’t want to jump back into the market just to take another hit, we do think investors should look with a "fresh eye" for signs of change. Are things just as awful or do they seem just a bit better? When things are less bad around the margins, that’s when the stock market usually starts acting better. The stock market doesn’t wait for everything to be great.
The amount of cash sitting on the sidelines now (almost $8 trillion) is at or near record levels. It’s greater than the value of all the stocks in the S&P 500 Index. People have been buying T-Bills and getting essentially no return – they don’t know where to put their money. At some point, people will put their money back in – they can’t accept zero returns forever. While we need to be patient through this period, high quality stocks look very cheap. We believe they will provide above average returns over the next 3-5 years.
We firmly believe we are seeing a shifting of the old guard to the greening of the future. While many blue-chip stocks of the past 50 years are hovering near bankruptcy, the green-chips are beginning to assert themselves.
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