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Luck Running Strong or Running Out?

Jason Stipp

Jason Stipp: I am Jason Stipp for Morningstar and welcome to the Friday Five. With Saint Patrick's Day right around the corner, we're talking luck today on the Friday Five, who's still got it and where might it be running out.

Joining me with the details is Morningstar's markets editor, Jeremy Glaser.

Jeremy, thanks for being here.

Jeremy Glaser: Jason, I feel very lucky to be invited back.

Stipp: So, what do you have on the Friday Five this week?

Glaser: This week we're going to take a look at Ireland, at McDonald's, at Hitachi, Netflix, and finally Realty Income.

Stipp: I can't think of a better place to start a Saint Patrick's Day Friday Five than with Ireland, but their luck, questionable?

Glaser: Unfortunately, the luck of Irish has run out for the Irish. Certainly, Ireland has been under siege for a long time. Their banking crisis continues to deepen. There are continued fears about how they're going to get their fiscal house in order, given that they have this enormous outsized housing and banking sector, and one that doesn't look like it's going to come back anytime soon.

For the first time in generations, they are seeing mass emigration from Ireland again, and they are not really seeing that competitive business spirit that had really helped the Irish economy out for so long.

So it looks like their luck has run out for the time being, but I think long-term structurally they will be able to fix the economy, but there is going to be a lot of pain before that, and I think the rest of the European Union is going to have to be willing to help out, and be willing to probably provide even further bailout funds before Ireland is going to be completely back on track.

Stipp: Back here in the United States, some results came in from McDonald's that showed they might have a little bit of some luck problems here in the U.S. I know you have a special guest here today to help explain that.

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Glaser: Yes, exactly. Even though McDonald's has been selling plenty of their delicious Shamrock Shakes – hmm, minty – their results in the United States were a little bit lower than expectations when they reported their monthly same-store sales.

I think there is continued fretting about higher gas prices and people driving less, employment continuing to be down, that their new menu items have been successful, but are they going to be able to keep that momentum going?

McDonald's is obviously doing very well, doing better than their competitors. They've been very lucky, but that can't go on forever. I think they're going to start seeing more difficult comps, and certainly McDonald's luck may be running out a little bit.

Stipp: I can actually smell the mint over here, Jeremy.

So, in the tech sector, some shareholders got lucky recently with an acquisition of part of a business. Can you explain what's going on there?

Glaser: Yes, Western Digital is buying Hitachi's hard drive business at a price that we think is actually pretty fair. We don't think they're horribly overpaying, but Hitachi is getting a pretty good deal out of this, and I think Hitachi shareholders really have to be pretty happy.

The hard drive space is one that's been doing a lot better with the economic recovery and people buying PCs again, but there are some long-term structural issue such as the move to solid-state flash memory that really could impact the hard drive industry, really could make it less and less relevant as the years come on.

By cashing out now, getting their fair stake, not having to worry about some competitive dynamics, I think Hitachi is going to be stronger for it, and Western Digital can really focus on their core competency, which is running these hard drive companies.

Stipp: I played with one of those new MacBook Airs the other day in the Mac Store. It has that solid-state memory, very responsive, could definitely be a game-changer on that front.

So moving along, Jeremy, to the entertainment industry, Netflix stock just keeps going up and up and up. Is luck going to run out for their shareholders?

Glaser: We've been wondering for a while when Netflix's bubble was going to burst. We think the stock is pretty overvalued, and we've worried a lot about competitors coming into the streaming space, primarily, and this week we heard that Warner Bros. was going to offer at first just one film available to stream on Facebook, but I think that the way that this streaming deal on Facebook is going to roll out just shows that Netflix luck is still there.

They're going to offer only one film. It's going to cost $3 for 48 hours of streaming, and you could really only watch it on your computer. I think where Netflix streaming really has a lot of competitive advantages versus, say, some of these smaller offerings from Warner Bros. is that they have created this ecosystem of streaming this content to your TV, be it through something like an Apple TV or a TiVo box or any number of different TVs and Blu-Ray players, you can get that content to your TV in a way that none of other streaming services can really offer in a robust way yet.

Will this change over time? Certainly. I think you have competitors like Amazon that are going to make aggressive moves into this space; they are already starting to. But to get really worked up over these little one-off deals that some of the studios are doing, I think kind of misses that big picture.

Will their luck go on forever? I don't think so. Again, as I said, the Netflix shares are still pretty pricey, but this particular threat is not one that they need to be worried about.

Stipp: In dividend stocks, Jeremy, Realty Income has been a real powerhouse of dividend regulatory. Will investors' luck with that dividend continue?

Glaser: This has been one of our favorite dividend picks for a while. They actually pay a monthly dividend, and the business is really managed in order to make those cash payouts. What their forte has been is buying retail properties for some of the maybe less-than-investment-grade credit quality retailers who want to do a sale leaseback so that they have the building, they sell it to Realty Income, and then lease it back immediately. This is something that's been pretty productive for them.

This week we found that they went and bought a big portfolio of different types of buildings like warehouses and office space, things that are really outside of their general core competency. Now, they got a great yield on this. They are going to get 8% current yield, which given where interest rates are now, is pretty impressive for Realty Income, but it opens up that question: Are they going to be able to continue their strength that they've had in retail into these other sectors? They don't have the same expertise there. They are a relatively a small company. It could be hard to do that kind of research.

As of now, we think the luck is still there, but certainly we're keeping a close eye on where that luck goes if they start making a lot more of these acquisitions moving out of their core competency.

Stipp: Well, Jeremy, I'll say slainte to you and your Shamrock Shake. Thanks for joining me this week.

Glaser: You're welcome, Jason.

Stipp: For Morningstar, I'm Jason Stipp. Thanks for watching.