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Investing Outlook for 2008

Stocks of large, growing companies and foreign companies will continue to excel next year.

By Steven Goldberg

December 26, 2007

If there's anything I've learned in more than 25 years as an investor, it's that trends tend to stay in place longer than you think they will. I think that will be the case in 2008.

In other words, a lot of the things that worked like a charm this year will continue to shine. And a lot of the investments that got clobbered this year, will suffer some more.

Take financials and consumer-discretionary stocks. Through December 7, shares of homebuilders plunged 53% and real estate investment trusts (REITs) fell 27%, according to Standard & Poor's.

I wouldn't go near either industry next year. And I'd look for funds that aren't too heavily weighted in the broader financial and consumer-discretionary sectors.

I don't expect a rebound in residential real estate in 2008, either. Housing prices tend to decline at a glacial pace. Homeowners don't like to sell a house for anything less than the highest price it ever commanded. Rather than sell for a lower price, they'll hang on, hoping things will get better. Many will rent out their houses or delay moving.

I expect housing prices on the whole will decline for quite some time. And once they do finally hit bottom, they'll scrape along at those low levels for years to come. All real estate, of course, is local. So in stronger regional economies, prices may well head back up next spring.

More broadly, stocks of small companies and "bargain" stocks have been the sad sacks of '07. Through December 19, Morningstar's index of small-company value stocks has sunk more than 9%. Over that same period, the broad-based Wilshire 5000 index has gained 5%. Value stocks are stocks that are cheap based on earnings, assets or other measures.

Small caps have done poorly across the board -- down 6.5%, according to Morningstar. Value stocks also have done poorly, losing 3%, largely because so many financial companies are classified as value stocks.

What has worked this year?

Stocks of large companies and stocks of growing companies. Large-cap growth stocks are ahead more than 10% on average. Large caps, on the whole, have gained 5%, and growth stocks have jumped almost 12%.

Nevertheless, large caps and growth stocks remain cheap historically compared with small caps and value stocks. That's why they should keep doing well next year.

Strangely, many of the classic growth stocks, such as healthcare stocks and consumer-staple stocks -- that usually hold up well when economic growth slows -- didn't live up to expectations. Instead, technology and business-services stocks have led the market.

I'd expect that to change as the economy continues to slow. Either way, the basic rule applies: Stick to stocks of large, growing companies. They have the financial muscle to survive an economic downturn, and they are the main beneficiaries of the boom in exports.

My favorite funds are Vanguard Primecap Core (symbol VPCCX) and Marsico Growth (MGRIX).

I'd give a slight nod to Primecap Core over Marsico, even though Marsico has had a better year in 2007. Primecap boasts lower expenses and more of the slower-growing classic growth stocks that haven't caught fire yet.

Of course, 2008 won't be a carbon copy of 2007. For instance, energy stocks have soared 31% this year. Barring more geopolitical madness in the Middle East, I don't expect big gains next year. Oil prices ought to fall somewhat as global economic growth slows -— and that, inevitably, will hurt the stocks. It's time to trim a bit here.

Stick with emerging markets. A big question mark hangs over emerging markets. They have turned lower on fears of a slowdown in the U.S. But many experts say that emerging markets are finally strong enough to stay healthy even if the U.S. catches cold.

I don't know, but I'd hold onto emerging-markets funds because the long-term story remains so powerful. T. Rowe Price Emerging Markets (PRMSX) is the cream of these funds. It won't put up the barn-burner returns it's posting this year, but Price has a great team of overseas analysts, and the fund has returned 16.7% annualized over the past ten years through November 30

Don't run away from foreign stocks. The dollar is probably close to a bottom against the euro and the yen -- though not against emerging-markets currencies. But foreign economies are still stronger than the U.S. economy.

I'd stick with Dodge & Cox International (DODFX), a member of the Kiplinger 25, for overseas stocks. Low costs, first-class stock research, and a patient approach are all pluses.

I don't expect a deep or prolonged recession -- nor a truly awful bear market. I don't expect a strong stock market, either. And that's all the more reason to emphasize funds that buy large, growing stocks -- and foreign stocks.

Timing the stock market is a fool's game, but putting more of your money into the attractive parts of the market is just common sense.

Steven T. Goldberg (bio) is an investment adviser and freelance writer.

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