Defense, oil in the limelight


Operation Desert Storm has shoved two of America's least beloved industries -- defense contractors and big oil -- to the investment forefront.

While both flex a lot of power, past instances of overbillings by defense firms and price hikes by oil companies continue to rankle many average folks. Furthermore, as is the case with tobacco firms, some individuals and mutual funds avoid the stocks of these two groups on purely philosophical grounds.

Wall Street analysts think the image of the defense industry has improved, while oil firms have a long way to go.

"I firmly believe that Operation Desert Storm is leading to a dramatic reversal of the perception that the defense industry can do no right," said Wolfgang Demisch, director of research with UBS Securities Inc.

Defense stocks have been rising ever since Saddam Hussein invaded Kuwait, their upward potential expected to increase if war continues several months. But there is uncertainty, mostly due to federal budget constraints.

"Exclusive of the Persian Gulf, fundamentals of the industry haven't changed a lot, and the federal budget will still have some negative impact," said Howard Rubel, defense industry analyst with C.J. Lawrence Morgan Grenfell. "These stocks should be considered long-term holds."

Oil company stocks haven't been as blessed as defense stocks. They rose significantly on the initial outbreak of war as oil prices jumped. They then fell back in October and have underperformed the overall market because it seemed likely there would be no major negative effect on oil supplies. The companies' tremendous fourth-quarter earnings reflected the oil price hikes of August and September.

"OPEC surprised everyone with its spare capacity, and I expect oil prices to stay in the upper teens to low 20s so long as there is any chance that supply could be negatively affected, and then decline to $15 a barrel," predicted Stephen Smith, oil analyst with Bear Stearns & Co. "At that point, OPEC will have to act, pushing the price closer to $20 again by year-end."

"I suggest a market weighting of oil company stocks in a portfolio right now, then a gradual increase over the next three to six months as conditions in the Middle East improve and prices begin to rise again," said Eugene Nowak, oil analyst with Dean Witter Reynolds Inc.

Defense offers profitable opportunities. Both Demisch and Rubel recommend the stock of Boeing Co. as the dominant aircraft maker, which should benefit from lower oil prices after the war.

Demisch suggests stock of United Technologies and General Electric for their jet engine production. Beneficiaries of greater emphasis on strategic defense initiatives would include Rockwell International, General Motors "H," Martin Marietta, Lockheed Corp. and TRW Inc.

Meanwhile, Rubel suggests Raytheon Co. for its missile systems and its business and defense electronics, plus E-Systems for surveillance systems.

Oil is trickier, with international companies preferred right now.

Nowak recommends Exxon Corp., Chevron Corp., Mobil Corp. and Texaco Inc.

Smith likes Royal Dutch Petroleum as a debt-free haven in tough times, followed by Mobil, featuring good production and a clean balance sheet. His second-tier choices would be Chevron and Texaco.

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