Earnings-based environment
Interview: PBHG Funds---Sutton, Michael---Chief Investment Officer
>> more earnings news. electronic data systems, e.d.s., says it will miss analysts’ forecasts for the year. the seller of computer services is losing business to i.b.m. and other rivals and a u.s. navy contract has weighed on earnings. test delays and software glitches racked up losses of more than $1 billion for this project. e.d.s. says that profit may miss by as much as 28 cents a share this year, second-quarter earnings also to miss. as for the last quarter, latest quarter, e.d.s. narrowed its net loss to $12 million or two cents a share, backing out the items, it was in line with the forecasts. shares of e.d.s. have gained 17% in the past year. our next guest is bullish on technology and medical technology stocks and says we’re transitioning from an interest rate-driven market to an earnings-driven market . michael sutton, chief investment officer with pilgrim baxter joins us from the firm in wayne, pennsylvania. thank you for joining us. michael, why are we transitioning to, away or into an earnings-based environment right now? it seems like everybody is talking about rates.
>> everybody is talking about rates and they have been for some time. bonds have been an attractive alternative for many people but now we’re moving into the part of the cycle where rates, by most measures, will head up. we’ve seen early signs that employment is improving. we had a durable goods order last friday up 3.4%. that shows us the strength from the consumer moving into strength in businesses.
>> if you look at what the -- you told our producers earlier, you said you are significantly overweighted in technology since july. let’s be specific here. what exactly is “significantly overweighted” for your portfolio in terms of percentages?
>> i run a number of different portfolios. but the large cap growth product we’re talking about here, everybody looks relative to their benchmark and the benchmark for this particular product is the russell 1000 growth, which is roughly 28% in technology stocks and we’re close to 40% technology exposure in this portfolio.
>> if i look at the market , the s&p 500, over the past six months, though, info tech has been the worst performing group, up 7% versus 20% for energy, 16% for telcos.
>> telco doesn’t make up all of technology and a lot of the companies we own in the technology space such as ebay and yahoo have done very, very well over that period of time.
>> so as far as medical technology, are there any particular names that you find attractive given your earnings recovery scenario?
>> we’ve owned boston scientific for a very long time, anticipating the taxes for approval for the drug-coated stent that happened about a month ago. other companies we like in the space include zimmer which just reported a strong number tonight, beating estimates between three and five cents. they do hip replacements and there’s a large growing market for people as they grow older to have those kind of operations.
>> as far as your overweight percentage, what would be your benchmark, if you will, and how much overweighted are you in medical technology right now?
>> in medical technology, the benchmark is somewhere in the neighborhood of 16% and we’re probably 20%.
>> so 25% overweighted the benchmark, if you want to do percentages of percentages. so you’re not that concerned about interest rates but you have to pay attention to them or do you not either?
>> i really don’t try to focus on economic ideas. what i try to focus on is a very bottom-up driven analysis where i look at companies that exhibit strong earnings or business momentum. if we can see a company whose revenues are growing very strong and whose earnings are growing very strong and they’re exceeding the consensus’ expectations very much like zimmer just did today, those are the companies we’re interested in.
>> let’s talk about apollo group, the parent company of the university of phoenix, one of your favorite picks. 81.5% 12-month gain. the stock is really hot, no question about it. what will drive it higher?
>> education is a growth business and this is a $16 billion company. it’s really leveraging the internet to generate leads for new students. it’s a very cost-effective way to do it. the long-term earnings and revenue growth in this company are north of 30%. return on invested capital is about 50%. we’re looking at online population growth of 58%. this is the 15th quarter in a row that they’ve reported over 50% growth in that segment. >> i could say, though, trading at 53 times next year’s earnings so perhaps it’s already in the stock.
>> clearly there’s been news in the stock and what i look for is companies that exceed expectations. so they almost always look expensive. we’re not scared away by that because, quite frankly, when the company―when i bought the company 140% ago, a lot of people thought it was expensive then so as long as you continue to put up the numbers, it will earn that multiple it’s trading at.
>> michael sutton, thank you very much. apollo for the past six quarters has had an average earnings per share surprise of 16%. michael sutton is chief investment officer at pilgrim baxter. americans are in the mood to buy homes last month. record new home sales and the full story up after the break.
