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Top picks for '05

Globe and Mail Update

Last year, Smith Barney's top picks as a group gained just under 19 per cent, including dividends, topping every key U.S. market index.

The group did so well, in fact, that Smith Barney decided to increase the number of top picks for 2005.

Last year's advance - from Jan. 8 to Dec. 31 - beat the 8.87-per-cent return recorded by the Standard & Poor's 500 index and the 9.76-per-cent advance by the Russell 3000 index over the same time period. Nearly a third of the 2004 top picks were too small-cap to be in the S&P 500; hence, the comparison with the Russell 3000.

Against that backdrop, Smith Barney, the brokerage arm of Citigroup Inc., has unveiled its list of top picks for 2005. The new list includes 59 stocks, up from 49 last year. The increase reflects Smith Barney's expanded coverage. Each pick is what the analyst following that sector believes will be the best performer in that sector this year.

The list includes a number of well-known names such as RadioShack Corp. (RSH-N) and J.C. Penney Co. Inc. (JCP-N) in the retailing sectors, Intel Corp. (INTC-Q) in semiconductors, Cisco Systems Inc. (CSCO-Q) in telecom equipment, Bank of America (BAC-N) in the banks, PepsiCo. Inc. (PEP-N) in beverages and Time Warner Inc. (TWX-N) in entertainment, but also some lesser-known names such as Bone Care International Inc. (BCII-Q) in specialty pharmaceuticals, Pactiv Corp. (PTV-N) in containers and packaging, and Community Health Systems Inc. (CYH-N) in health care facilities.

United Parcel Service Inc. (UPS-N) got the nod in the airfreight and surface transportation group. "UPS is the pre-eminent player in the parcel delivery market and is a core long-term holding for transportation investors," according to analyst Scott Flower. He also noted that the company generates sector-leading returns on capital and substantial free cash flow including dividends.

Charles Schwab Corp. (SCH-N) and Merrill Lynch & Co. Inc. (MER-N) were the picks in the brokerage and asset managers category. "We believe the Charles Schwab franchise has strong upside earnings leverage, driven by the combination of continued organic growth, improved leverage of its cost infrastructure, and a better equity market environment," said analyst Prashant Bhatia.

Speaking of Merrill, analyst Ruchi Madan said "we believe Merrill has more leverage to a better equity environment than investors think, and we find the valuation to be very compelling."

Gillette Co. (G-N) was the top choice in the cosmetics and household products group. Analyst Wendy Nicholson said that Gillette "has returned to being one of the consistently faster-growing companies in the group." She feels that it is appropriate for the stock to trade at a premium multiple.

Geoff Kieburtz selected Halliburton Co. (HAL-N) as his top pick in the oil-field equipment and services sector. The analyst pointed to Halliburton's "strong and improving operational performance in a robust and growing oil-field services market," as well as the final settlement of the asbestos liabilities with the funding of a trust for claimants early this year and the expectation that Halliburton will spin off the Energy Services Group and the Kellogg Brown & Root subsidiaries this year.

Not for the faint-hearted


Investors in real estate investment trusts didn't have to buy a ticket for an amusement park to get a stomach-churning ride last year. REIT prices were up and down like a roller-coaster, points out Scotia Capital analyst Himalaya Jain. Scotia Capital's REIT Index swung by more than 20 per cent in 2004.

Net sales of close to $3-billion for dividend and income funds during last year's RSP season pushed the bank's REIT Index up 9 per cent . But after soaring to a new record in March, the index lost 17.6 per cent in just two months, mostly fuelled by fears of rising interest rates. By mid-year, the benchmark was climbing again, ending the year back at March levels. All in, Mr. Jain calculates the REIT sector ended the year with a total return of 17.4 per cent and a price-only return of 8.4 per cent. That makes the fifth year in a row, he points out, that REITS have outperformed the S&P/TSX composite index based on total returns.

Looking ahead, Mr. Jain expects 2005 will bring total returns in the single digit region. He predicts a strong Canadian dollar will dampen returns in the lodging, industrial and to some degree the office sector. Still, he expects flow of funds will once again be the main factor in determining just how well this sector fairs. Put simply, if interest rates stay put and investors can't find anywhere else to park their cash, REITs should remain a favourite this RSP season.


© The Globe and Mail

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