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But what to put on your watchlist? In the latest entry in our ongoing series, Motley Fool Pro and Motley Fool Options analyst Bryan Hinmon, CFA, shares four companies that perhaps unfairly carry the stench of their industries.
One to watch
When Bryan mentioned his first watchlist company was a homebuilder, I physically cringed. And that's been the market's reaction as well, with good cause. But NVR (NYSE: NVR ) has a business model that has allowed it to avoid the misery suffered by its rivals, actually turning a profit over the past two years. While most builders buy land and build speculatively, NVR purchases options to buy land and exercises those options only if demand dictates, a strategy that has allowed the company to keep very low debt levels.
But none of that hides the cringe-worthy nature of a homebuilder in a brutal economy. Fortunately for opportunistic investors, the stink will get worse. The company benefited last year from the Federal tax credit for first-time homebuyers, a program that was extended through June. When the company announces its year-over-year comps, investors who read only the headlines likely will flee, leaving an outstanding buying opportunity for those who are watching for the bad news.
Two to watch
The housing malaise also has been tough for Whirlpool (NYSE: WHR ) , a solid company that doesn't get much love despite the brand equity of its appliance portfolio: Whirlpool, Maytag, KitchenAid, Jenn-Air, Amana, and more. As the housing market crumbled and the economic downturn curtailed purchases of new appliances, the company focused on trimming the fat from its operations and increased the spending on its research and development, believing that innovation drives new sales.
Things aren't as bad as they might appear on first blush. Nearly half of the company's revenues come from outside North America, and any upturn in domestic homebuilding is a $1 billion opportunity. But an outstanding 2009 in terms of free cash flow, largely the result of timing issues, makes the company look even cheaper than it is. A drop of 15% or more -- hardly unlikely, considering bad news on the housing front can send the industry into firesale mode -- would likely move the company from Bryan's watchlist to his portfolio.
Three and four to watch
Likewise, any negative news story about the defense industry will send shares spiraling downward for any company that has anything to do with defense. And there are plenty of negative news stories swirling, including persistent rumors that the administration is looking to trim $100 billion from the defense budget.
But Bryan points out that the bulk of those cuts, if they come, will be in salaries, base closures, and programs to build tricked-out planes and trucks. While such news would rightly be brutal for defense stalwarts such as Northrop Grumman (NYSE: NOC ) or Raytheon (NYSE: RTN ) , the government is not going to stop spending on information technology or communication. That makes him very bullish on L-3 Communications (NYSE: LLL ) , which provides electronics and communications equipment (stuff) to government agencies, and ManTech International (Nasdaq: MANT ) , which provides high-tech IT services (not stuff). L-3's projects are for mission-critical communication components where reputation is critical, and that is a significant advantage for L-3. ManTech has great exposure to growth areas like defense spending (intelligence, cyber-security, and technology), and very little to areas rumored to be cut (vehicles, planes, and other combat-related equipment).
Bryan's just about ready to buy both of those companies. His strategy is to wait for the next round of unrelated bad news, the noise that obscures the buying opportunity in these two outstanding values. Then he's ready to profit.
And that's exactly why it pays to watch. You can make smarter investing decisions with your own version of My Watchlist, new and free from the Fool. Click below to start following one of the stocks mentioned above: