Stocks in a World of Pain

profiting on stocksIt is not as if this is something hard to find; stocks in pain, that is. But I thought it might be interesting to shed some light on stocks not battered as much in the financial press—those that depend on federal spending, such as health and defense stocks. For the first time this year, these stocks are trailing the S&P 500 Index. And that, in Washington parlance, is code for health and defense sectors likely ending up with thinning revenues if the Democrats lose the majority in Congress in mid-term elections.

Take for example Lockheed Martin Corporation (NYSE/LMT), the company whose main lifeline consists of defense contracts. During the third quarter, it has lost 5.9% of its market cap, while the S&P 500 has surged about 16% during the same period. (Notably, Lockheed Martin has bounced back during the month of October, but that is just speculators betting on Democrats, in our opinion.)

Something similar, albeit worse, has happened to Tenet Healthcare Corporation (NYSE/THC), which collects a third of its revenues from the government. It has shed 17% of its market cap during the third quarter.

In other words, if Republicans win the majority in Congress, their win could put health and defense stocks in a world of pain. Why? A Republican win could mean less government spending, and less government spending between now and 2012 will definitely mean lower revenues and weakened fundamentals.

On September 23 of this year, House Republicans announced their platform, which mainly revolves around spending cuts. If they take a 20-seat majority, which is one among very few predictions concerning November elections, made by New York Times blog FiveThirtyEight, a Republican win would translate into extending tax cuts and burying the health reform that President Obama just signed into law in March.

In other words, companies depending on government contracts will have to figure out some tough belt-tightening, because that money tap is not likely going to go their way at least for the next two years.

Of course, healthcare and defense companies are watching this power play intently. And they are bracing themselves for the worst-case scenario. Lockheed said they have already taken measures that would recognize the changing realities, which is a nice spin on something truly depressing, such as the fact that currently 58% of Lockheed’s revenues come from its defense segment.

As for Tenet, when universal health care was passed in March of this year, the stock got about $32.0 billion worth of wind under its wings in extended benefits slated for uninsured Americans until 2014. The company believes that the healthcare bill will not die, even with the Republican majority in Congress, and that, in the long term, it will deliver to the healthcare sector and Tenet’s own bottom line. Again, this is damage control, because the Republican agenda could really hurt such companies.

Now, speculation can go the other way, too, and one could easily say either that all the negativity has already been factored into defense and healthcare stocks’ performances, or that the threat of the Republican majority is exaggerated. I think that the November 2010 elections are going to set the course, so I would be prepared and would at least place defense and healthcare stocks on my radar. Don’t forget: money can be made in any kind of market. For example, if indeed there is a Republican electoral gain, shorting stocks in these two sectors could prove profitable in the short-term.