Recession Coming? -- Page 2

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Block and Tackle
While emphasizing the importance of fundamentals in football, Vince Lombardi once said, "Statistics are for losers." Block and tackle well, and the statistics will take care of themselves. What can investors learn from Lombardi on this one? Don't let the statistics get to you too much these days, either in earnings or overall economic reports. For investors interested in developing their own portfolios, that means seeking out individual companies that block and tackle well--no matter what the score is. A few bad breaks can put a team behind. For companies, the slowing economy can make for tough sledding, and executing on fundamentals gets even more important.

But that doesn't mean we can ignore the economy, either. When interpreting results, we have to try to account for the influence of factors within the control of the company, and those outside of it. Slowing sales don't necessarily mean slowing performance. Good companies can shine, relatively speaking, in a tough economic environment. At Morningstar, we believe that a firm's economic moat gets even more important in times of economic weakness or inflation.

Some Cheap Stocks in a Slowing Economy
These four firms are very sensitive to overall economic trends, and their stock prices have really taken it on the chin in recent months. We think they offer compelling value at today's prices.

 Home Depot  (HD)
Morningstar analyst Brady Lemos has a fair value estimate of $44 per share on Home Depot, which is currently trading at $28. This is a 5-star, wide-moat stock. Brady is fully respectful of the weakness in housing activity, and hasn't been a Johnny-come-lately on that score. But he believes that HD has "one of the widest economic moats in retail." Most of the present value in his fair value estimate is due to expectations for 2009 and beyond. In today's tougher times, Home Depot is striving to improve its customer service and corporate governance, which should stand shareholders in good stead down the road.

 Harley-Davidson  (HOG) 
Marisa Thompson has a $60 fair value estimate on Harley, which ticked below $46 a few days ago. This wide-moat company has one of the strongest brands around, developed around high-quality production processes and a fervently loyal consumer base. Harley's sales are tied to trends in discretionary income, which won't be this weak forever. Harley's prospects for significantly higher international sales look bright. Marisa respects Harley's financial strength and recent capital management initiatives, which should bolster the firm amid recent slowing sales.

 Winnebago (WGO)
This is another company whose stock has recently been beaten up by concern about income trends, credit availability, and higher energy prices. But Winnebago's strong brand and quality reputation should also stand it in good stead in the longer haul, and we've assigned the firm a narrow moat. David Whiston's confidence in Winnebago's longer-term prospects are bolstered by demographic trends, and strong relationships with distributors help reinforce the value residing in consumer respect for Winnebago quality. Like Harley-Davidson, Winnebago's near-term results are subject to some financing risks, but David likes Winnebago's financial strength.

 First American Corp (FAF)
Speaking of financial risks sensitive to trends in housing activity, here's a pick from Jim Ryan. First American provides title insurance, which protects owners (and lenders) from loss in the event of legal challenges to ownership documents. Claims actually tend to rise during weak housing markets, a factor depressing cash flow. But weak housing markets don't last forever, and First American doesn't view itself as just an insurance company. It has branched out from its roots in title data to provide an array of information services valued by real estate market participants, and it has garnered a narrow moat. Housing weakness will likely weigh on near-term results, but Jim has accounted for that, and his fair value estimate still resides at $59, well above First American's recent $34 price.

Squinting Ahead
A few things are worth keeping a close eye on for evidence of a developing recession. Consumer spending makes up more than half of total GDP, and it makes sense to watch if weakness in spending spreads beyond durable goods. It will also be worth watching business investment spending, particularly on equipment. Business investment spending held up quite well in the third-quarter GDP report, but it can turn on dime in a developing recession. The next edition of this column will focus on trends in business investment and will look at some of the industrial and technology firms we like.