10 stocks the experts love for 2007

By Michael Brush

If you liked the stock market's gain this year -- and 14%, so far, is nothing to laugh at -- stick around.

You're in for a repeat in 2007.

But before I tell you how to take advantage, here's a quick look at why stocks are going to continue their roll.

• Economists overall are predicting 2.6% economic growth next year, but they're in for a surprise. James Paulsen of Wells Capital Management says improving prospects for housing and auto sales mean those two sectors won't continue to hide the robust 4% growth in the 91% of the economy outside those two sectors. Better economic results will result in better stock performance.

• The consumer will again lead the way. Continued strong job and income growth, lower gasoline prices and lower mortgage rates -- the engine behind refinancing -- will keep Americans spending, Paulsen says.

• Companies sitting on cash hoards will start to spend again. "So far companies are using their cash to raise dividends, buy back stock and buy each other," says Paulsen. "But at some point they are going to get back to spending it."

• There's a shortage of stock. Companies are buying back shares at record rates and the flow of initial public offerings has been light, says value investor John Buckingham, who pens the chart-topping Prudent Speculator investment newsletter and manages the Al Frank Fund (VALUX). With so many dollars sloshing around in the world, the demand-supply imbalance favors stocks, says Buckingham, who thinks the S&P 500 ($INX) could advance 15% in 2007.

• Despite this year's gains, says Buckingham, the S&P 500 trades for just 15.7 times 2007 expected earnings, thanks to double-digit profit growth this year. Over the past 18 years, the S&P 500 has traded for an average price-earnings ratio of around 20.

Optimism in action

OK, so what if economic growth does accelerate? As I've done for the past two years, I've consulted some of the country's top investment newsletter writers.

Here are some of their top picks for the coming year.

Two discount tech stocks

Buckingham's Prudent Speculator perennially tops the ratings of the Hulbert Financial Digest, which tracks newsletter performance. Prudent Speculator picks are up 26.7% a year on average over the past 15 years -- a category in which Buckingham takes first place. He also has the best returns over the past 10, 20 and 25 years (for returns that are not adjusted for risk).

That's an enviable record. So while most investors shun Cypress Semiconductor (CY, news, msgs) partly because of concerns that its products include "commodity" memory chips, I'd bet with Buckingham. Cypress also makes more sophisticated programmable chips for which demand and pricing are strong. And if the economy is surprisingly healthy next year, that will favor the markets Cypress serves: consumer electronics, networking and wireless infrastructure and computing.

Cypress looks downright cheap. It owns 52 million shares of an alternative energy company called SunPower (SPWR, news, msgs). Those shares are worth $2 billion. Strip that out of Cypress' $2.4 billion market cap and it means the market values the company's chip business at $400 million. That seems low for a business that did $1 billion in revenue in the past 12 months.

Another regular chart-topper among investment newsletters is George Putnam, who writes The Turnaround Letter. Putnam looks for ignored or hated companies that are broken but in the process of being fixed in a "turnaround." This approach has registered gains of 18.2% a year over the past 15 years. Putnam takes second place for that time frame, behind Buckingham.

A favorite Putnam pick right now is one-time tech star JDS Uniphase (JDSU, news, msgs). Putnam believes the company will benefit from a "spending war" among telecom companies such as Verizon Communications (VZ, news, msgs) and cable companies like Comcast (CMCSA, news, msgs) as they compete for the same customers. Telecom companies are installing fiber channels in homes so they can offer television. Cable companies, meanwhile, are invading telecom turf by launching Internet-based phone service.

China, via Canada

Investment Reporter editor Marc Johnson favors large, well-established companies that have a long history of increasing dividends and profits. They also have to be available at a fair price. This approach has rewarded readers with 14.1% gains over the past 20 years. Investment Reporter wins first place for risk-adjusted returns over that time frame, according to Hulbert Financial Digest.

Johnson, who is based in Canada, thinks two Canada-based China plays will shine next year.

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