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Why You Should be Bullish on Banks, Tech and Consumer Stocks Now

Fund manager Villalta talks about which sectors are hot

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Everybody hated bank stocks in 2011, but everyone is wild about them in 2012. Citigroup (NYSE:C) is up 28% since Jan. 1, JPMorgan Chase (NYSE:JPM) is up 32% this year and Bank of America (NYSE:BAC) is up 50% year-to-date.

Should you buy in now, or should you sit tight? Is the tech sector — which is equally frothy right now — worth chasing? Is Europe going to sink all corners of the market?

These are the questions investors want the answers to as we enter the choppy spring and summer seasons for the market. So I went right to one of the most respected names in the business for the answers.

Thomas Villalta is lead portfolio manager for the Jones Villalta Opportunity Fund (MUTF:JVOFX). “Opportunity” is the key word there, since Villalta has shepherded his fund to an impressive 15% return year-to-date — easily beating all major indices and almost doubling the return of the Dow Jones Industrial Average.

I asked him some questions recently about the state of the stock market, and here’s what he has to say about where Wall Street has been in the past several months — and, more importantly, where it’s going.

Highlights include:

  • A continued bullish view on banks
  • More room to run in technology
  • The rise of consumer stocks
  • Don’t sweat Europe — worry about the Middle East and oil

I particularly liked his insights about how many investors’ “tendency to view an unrelated or tangentially related situation as representative of a current situation is a common behavioral error that individuals, professional and amateur, make.” That’s spot-on, and a reason many of us talk ourselves into making the wrong decisions.

Here’s Thomas Villalta’s insights, in his own words:

Q: Top holdings of JVOFX right now include BofA, Citi, JPM, Goldman Sachs, Wells Fargo and a handful of other banks. Walk me through these trades. Did you hold them during the mayhem of last summer, or did you buy more recently?

A: We held all of our financial holdings over the second and third quarter of 2011. In fact, we added to many of these positions, maintaining our relative weights. Our strategy — which is largely focused on identifying what we perceive as behavioral errors associated with certain stocks or sectors of the market — influenced our decision to purchase many financial stocks in late 2008 and early 2009. But while we believe we are relatively good at identifying stocks that trade at a discount to intrinsic value, we can’t always be certain that a cheap stock will not become cheaper. The market swoon in mid-2011 had the feel of the 2008-09 financial crisis. We believe many investors, professional and individual, were viewing the events in Europe through the prism of this recent market panic.

The tendency to view an unrelated or tangentially related situation as representative of a current situation is a common behavioral error that individuals, professional and amateur, make. In behavioral science, this is often referred to as a “representativeness” bias — a situation that individuals view as being representative of another unrelated situation.

But in this case, our research led us to believe that many of the more pessimistic eventualities that drove the downward movement in financial stocks were not as dire or would not have as significant of an impact as was implied by share price declines. As a consequence, if a 3% position in the portfolio fell to a 2.5% position (due to share price decline), we purchased more shares, in effect maintaining the 3% position. Indeed, in some cases we increased our percentage weightings in certain positions to take advantage of what we believed was very advantageous pricing.

Q: Performance year-to-date for your fund has been very impressive, with over 15% gains. The outperformance of banks has had a lot to do with that. Is the momentum going to stop soon, or is there room left to run for investors?

A: We think there’s significant room to run, and the recent pullback in financial shares, in our view, presents a very good entry point for investors seeking exposure to this sector of the market. We continue to believe that many of our financial holdings will drive performance in coming months, as concerns about European banking crisis effects are proven exaggerated.

Keep in mind that many of the largest banking institutions are trading at less than book value. While we don’t think we will see the high-teen or 20%-plus returns on equity that were prevalent prior to the financial crisis, we do believe that a 10% return on equity is achievable. Consequently, a multiple of 1.0 to 1.5 times book value is, in our opinion, appropriate and would imply significant additional upside.

Q: Other than the banks, what are some other stocks in your fund’s portfolio that you have the most confidence in going forward?

A: Technology and consumer-oriented businesses are very appealing to us at present. Microsoft (NASDAQ:MSFT), Hewlett-Packard (NYSE:HPQ) and Corning (NYSE:GLW) are, in our view, very undervalued. Hewlett-Packard in particular stands out, as many sell-side analysts are equating turnover at the top with organizational disarray. While we would certainly prefer to see better corporate governance at HPQ, and more stability at the top for this company, the individuals tasked with HPQ’s segments are very qualified and highly regarded. While we were not holders of HPQ when it traded above $40 per share, we do think the company is very appealing at prices in the low to mid-twenties.

In addition, we really believe that the U.S. economic recovery is beginning to take hold and become self perpetuating. U.S.-centric consumer-oriented businesses like Home Depot (NYSE:HD) and MGM Resorts (NYSE:MGM) are very good ways to participate in a recovering consumer.

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