BYOP - Bring Your Own Parachute to the Fiscal Cliff and you will be all right! It is natural for investors to panic while everyone is talking about the impending fiscal event that could cause a financial depression of calamitous proportions. Relax! Now is the time to take stock of where we all are and take prudent measures to both protect what we have and take advantage of any new opportunities that may arise. The pundits might make it seem that we are all helpless bystanders who will get swept over the Cliff by the winds of financial misfortune. I would venture to guess that those of us who carry a parachute along with us might fare better than those who don’t!
What is the Fiscal Cliff?
Don’t you get annoyed when technical jargon gets into mainstream media and suddenly everyone is using it; politicians, financial pundits, analysts, and others, including laymen? So, who do you turn to for help assessing the situation? The Motley Fool, of course!
The “Fiscal Cliff,” is a metaphorical reference to a potentially disastrous combination of higher taxes and deep automatic spending cuts to over 1,000 governmental programs, which according to many will bring the United States economy to the brink of collapse and take the rest of the world along with it. Should you stay on it? Should you jump off it? Or should you stay paralyzed while listening to everyone telling you that you are going to get hurt, no matter what you do?
When exactly is all of this about to go down? Doomsday is Jan. 1, 2013, and I suggest that you pack your own parachute that day. The hope, however, is that the United States government will work together to take the necessary steps to avoid the signal event. You might never need to use your parachute, but you will be glad you had one.
What Should be Your Parachute?
One of two things is going to happen on the first day of 2013. Either the higher taxes and automatic spending cuts will kick in, or a compromise will be reached in Congress in time to avert that possibility. The former creates the need to take defensive action and the latter provides a hopeful opportunity to place bets ahead of a possible signal event that is sure to trigger a huge bull run.
First, let us think through this rationally. What is a sane investor to do? For the most part, it is what all investors always do at this time of the year. Investors should take a hard look at their portfolios and then take action to either realize profits or book losses in preparation for the new tax year. Many hedge funds and institutional investors are doing this already.
The nearly 25% drop in the value of Apple (NASDAQ: AAPL) is not just a result of the impending Fiscal Cliff or the tempered expectations for the iPhone 5. A lot of it is explained by the profit-taking to take advantage of favorable tax rates for capital gains and dividends. There is too much uncertainty about whether or not current tax structures will remain in place, come Jan. 1.
A prudent course of action for individual investors would be to do similar tax planning while re-evaluating the reasons why a stock is being bought in the first place. Are the reasons for buying the stock still valid? If yes, it might be prudent to hold the position regardless of the current turbulence in the markets. How about your losers? Rather than letting them continue to bleed value and drag your portfolio down, consider booking your losses now. Either way, taking stock(pun intended) of where you are right now is a valuable exercise.
Stocking up for a Soft Landing
So, what stocks should you own, now that we are at the brink of the metaphorical cliff? One answer lies at President Obama’s doorstep! After all, the President created a legacy with his signature health care legislation that he championed and signed into law – the Patient Protection and Affordable Care Act, euphemistically called ObamaCare.
The recent election cleared away any pretensions about whether the law will survive or not. The biggest beneficiaries are the pharmaceutical companies, health insurance plans, and pharmacy benefit managers, along with hospital operators. Good picks are CVS Caremark (NYSE:CVS), Walgreen and Rite Aid in the retail pharmacy space, along benefit managers such asExpress Scripts (NASDAQ: ESRX) and Magellan Health Services (NASDAQ: MGLN). Note that CVS Caremark is both a pharmacy benefits manager as well as a retail pharmacy network.
Hospital operators such as HCA Holdings and Tenet Healthcare will stand to benefit despite their misgivings about how they will operate under the new healthcare regime. In fact, both HCA and Tenet reported record third quarter earnings just last week. Tenet saw a phenomenal $77 million increase in earnings over the previous quarter, which represents 40% quarter over quarter! It is conceivable that the addition of millions of insured patients in the coming years to the healthcare pool could add to their bottom line.
Drug manufacturers such as Pfizer and Eli Lilly will now face a larger market, along with their generics counterparts such as Teva and Watson Pharmaceuticals. Participants in the healthcare industry should generally prosper since healthcare is usually a safe pick regardless of the new Obamacare landscape. After all, healthcare makes up a significant portion of the GDP, estimated to be about 17%!
Dividends and Playing Defense
The expectation is that dividends from stock will no longer get preferential treatment starting in 2013. Does that mean that you should dump dividend stocks? Of course not! That would be foolish (small f). After all, income is a good thing. So what if Uncle Sam takes a bigger bite of the apple? Solid names like Proctor and Gamble, Johnson and Johnson, and Colgate Palmolive continue to be safe plays. Fiscal Cliff or not, these stocks continue to be safe havens.
What about companies in the defense sector? Mitt Romney did not win, so there goes the prospect of the additional $5 trillion in defense spending that had many a defense contractor salivating. Additionally, if we decide to go over the Fiscal Cliff, defense stocks will face additional pressure as automatic cuts in defense will likely result in reduced profitability across the board. Lockheed Martin, Northrop Grumman, General Dynamics, and Raytheon are all obvious names, along with less obvious ones such as Computer Sciences Corporation, Booz Allen Hamilton, L3 Communications, and Boeing.
Positioning for a Rally
There is a huge amount of money on the sidelines waiting to play under what is expected to be clearer skies starting Jan. 1, or maybe even earlier should Congress negate the possibility of a Fiscal Cliff through some kind of bargain. Which sectors will benefit? Quick answer – the very ones that are suffering right now in anticipation of the economy teetering over the edge! Technology stocks such as Apple, Google, IBM, Qualcomm, Oracle Corp, Cisco Systems and EMC Corp are all stellar names, along with quintessential favorite – Microsoft.
The banking sector is a less talked about but attractive candidate as well. If no one has to jump off the Fiscal Cliff, then obviously there will be an enormously positive impact on the investing climate, the jobs market, consumer sentiment, and the housing market. 12 million jobs are expected to be created in the next four years, according to media reports based on the opinions of a number of analysts. Banks are a natural beneficiary in this scenario, and well known picks are JP Morgan Chase, Bank of America, Wells Fargo, Citigroup, and Goldman Sachs along with some lesser known but equally good regional banks such as Webster Financial Corporation, First National Bank of Long Island, and Bank of Marin Bancorp.
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