Avoid This Sector in 2010

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2009 is coming to an end, and a lot of investors are breathing a sigh of relief. With job losses diminishing and more signs that the economy is stabilizing, hopes are high that next year will finally usher in some much-needed economic growth. It appears that optimism is spreading throughout the ranks of professional money managers -- unless you're talking about the prospects of one sector in particular.

What a difference a month makes
The most recent Bank of America (NYSE: BAC  ) Merrill Lynch fund manager survey found that 80% of respondents believe that the world economy will see positive growth in 2010, up from only 69% just a month earlier. The 213 fund managers polled for the survey also predict equity markets will return 7.7% next year, based on the average of survey responses. Another bright spot reveals that manager expectations for corporate profits are at their highest level since December 2003.

But there is one notable sector that fund managers are shying away from in the coming year -- financials. A net 28% of survey respondents are underweight in financials, up from just 11% the month before. Apparently, a whole lot of industry insiders don't think our troubled financial sector is out of the woods just yet. And they may be right.

Can you spare a dime?
Being bearish on financials isn't really too contrarian of a call to make right now. After all, many of the big-name players that got beaten down to within an inch of their lives last fall have staged strong rebounds this year. Wells Fargo (NYSE: WFC  ) , Goldman Sachs (NYSE: GS  ) , and JPMorgan Chase (NYSE: JPM  ) have all more than doubled from their March lows. The doomsday scenario has likely been avoided, and this year's rally has worked out some of the excessive fear-based pressure on these stocks.

But looking ahead, the future is anything but sanguine for the financial sector. While they have wobbled back from the brink of disaster, most large banks in this country are still in a heap of trouble. They have yet to clear a large portion of toxic and non-performing loans off of their books. Losses and net charge-offs are still eating away at balance sheets. Hampered by these liabilities, big banks have been hoarding cash and tamping down on lending, which will cut into interest income in the coming year. This crisis wasn't created overnight, so it's going to take some time, and much more of a financial hit, to fully clean up the mess and get this sector back to full health.

Go west, young man ... or east
But while financials may end up on the injured reserve list for quite some time, that doesn't mean there aren't pockets of opportunity in this sector -- you just might need to travel outside of U.S. borders to find them! One investment maven who has been singing this song is Marty Whitman of Third Avenue fame. Ever the contrarian, Whitman has loaded up his Third Avenue Value Fund (TAVFX) with financial names -- to the tune of two-thirds of assets, according to the most recently available portfolio data. A whopping 40% is dedicated to Hong Kong real estate firms like Henderson Land Development and Cheung Kong Holdings. Whitman feels these companies are well-capitalized and relatively cheap, and their exposure to fast-growing mainland China should offer significant growth opportunities in the coming years. Another top 10 holding that pops up in the fund is Canadian money manager Brookfield Asset Management (NYSE: BAM  ) , which has built a remarkable portfolio of infrastructure and power assets using a long-term, strict value investment process much like Whitman's own.

To be fair, Whitman does make room in his portfolio for a few domestic financial names like real estate operations firm Forest City Enterprises (NYSE: FCE-A  ) and Bank of New York Mellon (NYSE: BK  ) . Since Whitman looks for "safe and cheap" companies, the fact that he's finding something to like in certain areas of the financial sector seems to imply that there may be a few relative bargains out there in this sector -- if you want to go out on a limb a little bit. However, given the current state of much of the financial sector, finding those few, rare worthwhile opportunities may be just slightly less difficult than finding that proverbial needle in a haystack.

Regardless of how the global economy shapes up next year, one thing is certain -- we've got a long way to go in repairing our broken financial system. There are pockets of opportunity out there in financials, to be sure, but those who venture out onto the scarred battlefield now may do so at their own risk.

For more insider investing and personal financial planning tips, check out the Fool's Rule Your Retirement service, which provides top-notch retirement and mutual fund advice. You can start your free 30-day trial today.

Amanda Kish is the Fool's resident fund advisor for the Rule Your Retirement investment newsletter. At the time of publication, she did not own any of the funds or companies mentioned herein. Brookfield Asset Management is a Motley Fool Global Gains pick. The Fool has a disclosure policy.

Read/Post Comments (7) | Recommend This Article (20)

Comments from our Foolish Readers

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  • Report this Comment On December 18, 2009, at 4:11 PM, ron153 wrote:

    Generalities about sectors are useless. You cannot evaluate individual companies that way, any more than you can evaluate all basketball players or all baseball players. There are extremely attractive opportunities, most notably Wells Fargo. Wells has much stronger earning power than its competitors, and higher credit quality. Its acquisition of Wachovia will provide enormous benefts and is very misunderstood.

    Wells Fargo is the largest holding in my personal and client portfolios. It is Warren Buffett's second largest holding and the only stock he personally owns other than Berkshire, and Wells is Prem Watsa's largest equity investment as well.

    Ron Beasley

  • Report this Comment On December 18, 2009, at 6:31 PM, abvincent1 wrote:

    This is precisely the headline a smart investor looks for. A sector beaten stiff that is driven endlessly through the headlines with negative negative negative. Just think had you bought the Qs after the nasdaq bubble what would your return be today? Or better yet, had you simply bought BAC last Mar when the headlines read "socialize the banks" and people were acting as though they had the aptitude of a gold fish.

    Here I know, chase performance in 2010! Actually, please do, I have been quietly building my financial position along side the likes of John Paulson, Doug Kass, Warren Buffett, GoldmanSachs, etc.

    I think there is one thing a logical person would conclude: the government will not let these banks fail.

    You hear now "the easy money has been made". Oh how wrong they long as the financials are the ugly step child of the community there remains ample opportunity in the space---and what I will dub "easy money" for one who invests for longer than a few months. My advice? Ignore the media smoke and realize if things were as disgusting as you are constantly being told, why would the govt be allowing them to stand on their own two feet now?

    Put in some headphones, build a position, and wait for every one down the road to wonder why they didn't do the same thing...

  • Report this Comment On December 18, 2009, at 8:22 PM, 8Lives wrote:

    abvincent1 speaks the truth.

  • Report this Comment On December 22, 2009, at 1:56 PM, MrsCathyGF wrote:

    Well, that article was a deep and penetrating glimpse

    into the odvious.....

  • Report this Comment On December 24, 2009, at 1:24 PM, GOFORAWILDRIDE wrote:

    As usual MF gets a idiot to write another negative analysis on a sector that is about to make me tons of money as I can see thru the SMOKE AND MIRRORS and all the HYPE OF STAY CLEAR OF THIS OR THAT so that money can be made.

    Then and only then will the TUNE CHANGE TO BUY BUY BUY so that JOE INVESTOR with an investing IQ of 42 will again lose their money to the SNAKE OIL SELLING SLICK HUSKERS.

  • Report this Comment On December 24, 2009, at 6:26 PM, peters46 wrote:

    A Merrill Lynch survey says stay away from financials? Considering the experiences a friend had with Merrill Lynch, that has me wondering which financials I should put 80% of my portfolio into. And ML being part of BA imparts no credence to the survey.

  • Report this Comment On December 24, 2009, at 7:00 PM, peters46 wrote:

    The 80% was an exaggeration to show how little faith I could ever have in anything Merrill Lynch said. But I am looking at 8-10%.

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