GE is a good single stock bet on US market

Serious Money: General Electric (GE) of the US is the world's largest company. Last week it reported earnings for the second quarter up 24 per cent from the previous year, the biggest such rise in 18 months. Profits rose by at least 10 per cent in all of GE's main divisions.

The company makes aircraft engines, locomotives and other types of transport equipment, home appliances, lighting, electrical distribution and control equipment, generators and turbines, nuclear reactors, medical imaging technology and plastics. Its financial arm, GE Capital Services, is a global behemoth. Just to add further diversification, the company also owns US television network NBC.

In many ways, GE is a proxy for the US economy and its stock market. While the correlation is far from perfect, owning shares in GE is about as good a single stock bet on the US market as you can get. That hasn't always been true historically but will be, I suspect, going forward.

GE, for example, has actually underperformed the market by around 15 per cent over the past five years. Since GE began its most recent rally, just over two years ago, the underperformance has been much more muted at around 2 per cent in total return terms. It used to be said that what's good for General Motors is good for the US. I suspect that a better comparison would substitute "Electric" for "Motors".

GE is doing very well, as suggested by its most recent results. Yet on the day of the profit announcements its shares fell. Why? Well, it could be that the good news was already in the price. GE met the average expectation of analysts for the quarter but hinted that the next quarter may not be quite as good as Wall Street currently expects. The share price duly fell.

Wall Street is like that: for such a rational, efficient pricing machine, the US stock market often finds itself myopically focused on the next quarter's results, totally failing - for a while at least - to see the bigger picture.

While profit guidance, as it is quaintly called, was edged lower for the third quarter, it was raised for the year as a whole. The bigger picture seems to be that GE's operating environment is getting better. To the extent that it can be described as a cyclical company - exposed to vagaries of the global economic cycle - it seems that things are improving at a rate of knots, which was not what we were led to expect by the gloom merchants who earlier this year were forecasting global growth to plummet.

Should an optimistic investor buy shares in GE? I'm tempted to say yes, but only in a qualified way - that GE's shares are not particularly cheap is perhaps my biggest concern. A price/earnings ratio approaching 20 corresponds to other, more sophisticated, valuation measures that indicate a company that is fully valued, if not actually expensive. As we know, however, valuation is not the only driver of a company's share price.

If the market continues to be surprised by an improvement in GE's operating performance and starts to upgrade its earnings estimates, the current valuation will be maintained and the share price will rise in line with upped earnings forecasts.

GE chief executive Jeff Immelt has been on a restructuring programme, including aggressive acquisitions and disposals, that may yet surprise analysts.

Anyone who shares my view that the outlook for the US and world economy is not about to fall into recession and who has been impressed by GE's ability to achieve stellar profits growth - remember how hard such growth is for a company of its size - should regard an investment in the company as a reasonably safe bet on the S&P 500. There are valuation concerns about the stock and the index but anyone looking for a simple, non-index fund way of buying a proxy for the market would do well to look at GE.

An investor looking for a slightly racier punt closer to home would be advised to look at the German giant Siemens. It is often compared to GE in terms of the type and range of businesses.

However, Siemens has historically failed to match the returns achieved by GE, unable to restructure its businesses as the global environment altered dramatically and saddled with Europe's far less business-friendly regulatory and labour market environment.

But things might be changing. Siemens has a new chief executive who has cut his teeth in the US and is committed to raising returns. Profit margins for Siemens as a whole run at about half GE's level.

Most analysts rate the chances of Siemens achieving an uplift in sustainable profitability at about nil. That's a bet on history repeating itself: Siemens has been a serial restructuring disappointer. But Germany's changing environment - a country quietly realising that it must restructure or die from an economic perspective - combined with new management might just mean that Siemens' time has come.

Any investment in Siemens should be seen as a bet that restructuring will deliver positive surprises to earnings. Hence, such an investment might take some time to pay off. But markets may start to anticipate improvements to profitability. The chief executive is making lots of very positive noises and the share price has begun to edge up.

If GE is anything to go by, the short-term operating environment for Siemens may also be looking up.

Chris Johns is an investment strategist with Collins Stewart. All opinions are personal.