As We Near Fiscal Cliff, Avoid These Vulnerable Stocks

According to a recent study by CEO organization Business Roundtable, major corporations are preparing for the Jan. 2 onslaught of the fiscal cliff.

Unless an accord is reached, the fiscal cliff could lead to negative U.S. economic growth for the first half of 2013 and unemployment soaring to 9.1%, according to research from KBW.

The fiscal cliff will deliver a market-wide impact, but the brunt of vulnerability will be placed on a lot of the same sectors and companies that suffered during the Great Recession.

The good news for many of these stocks is they've all enjoyed good runs this year, delivering healthy returns for investors.

The bad news is that could all change by Jan 2.

Fiscal Cliff Danger Zone: Three Stocks to Avoid

Defense, housing and finance stocks are sure to be clobbered if the fiscal cliff is crossed.

Federal spending is the lifeblood of the defense industry, which will feel the most pain from fiscal cliff spending cuts. Many of these companies do not have the diversity in business operations to survive.

Lockheed Martin Corp. (NYSE: LMT) is particularly exposed as it is the nation's largest defense contractor.

Already Lockheed Martin has created fiscal cliff survival plans. According to its Chairman and Chief Executive Officer, Robert Stevens, Lockheed Martin has slowed down hiring new employees and is prepared to lay off workers.

LMT's share price fell about 50% from September 2008 to February 2009 due to the Great Recession, but the fiscal cliff effect could hit it much harder since defense spending was still strong during the stock's last tumble. Lockheed is up almost 17% this year to over $94, and 50% since 2009.

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The fiscal cliff spending cuts affecting the defense sector will have a ripple effect into related markets. That includes the Washington, DC housing market which won't be able to continue a recovery if people in the region start losing jobs.

That's why home builder NVR Inc. (NYSE: NVR) is in trouble.

Building luxury homes in the Washington, DC area, NVR had to file for bankruptcy back in 1992 due to adverse economic conditions in the mid-Atlantic region at that time.

Since then, NVR has recovered and is much stronger - but not strong enough to withstand a brutal home building slump near the nation's capital.

NVR is now trading around $844 a share, up nearly 27% this year. Goldman Sachs Group Inc. (NYSE: GS) in July downgraded NVR from "Neutral" to "Sell."

While the housing market has shown signs of a budding recovery, the small business community is still struggling.

In a recent poll by National Association of Manufacturers (NAM) and the National Federation of Independent Business (NFIB), two-thirds of the respondents said they would not be expanding due to economic uncertainty in the United States.

That will hurt small business development company American Capital Ltd (NASDAQ: ACAS).

American Capital functions like a bank and brokerage house in facilitating financial transactions for smaller businesses. Without small business spending ACAS finds itself in a vulnerable market without the size to absorb dire economic conditions.

American Capital is up nearly 74% in 2012, but its earnings-per-share growth is falling on a quarterly basis and for the year. At present, earnings-per-share growth is predicted to be only 1.03% for 2013.

If a fiscal cliff-fueled recession hits, the share price of American Capital will likely follow the same trajectory it did on the previous recession. American Capital fell from almost $40 a share in 2007 to around $1 in early 2009.

While the past performance of a stock is not a definitive indicator for its future actions, what happened to the share price of Lockheed Martin, NVR, and American Capital Strategies during the Great Recession could likely be replicated if we tumble down the fiscal cliff.

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