Monday, March 31, 2008

tonights thoughts

Friday recap -- yep, TSRA had a great day as expected thanks to the ITC overturning its stay. I don't know when the actual trial will get started but I suspect it will take a month or so to get on the judge's calendar. That puts the AMKR arbitration up first -- although the big question will be when will we know something because that hearing is not open to the public. Will AMKR settle during the next week? its quite possible. I would expect the stock to rocket into the 30's if AMKR settles. I doubled down at 13.50 and I haven't sold any shares yet (if for no other reason than to avoid a wash sale since my 30 days post purchase aren't up until Friday the 4th of April).

By Friday's close I had made back about 400bps of performance vs. the S&P 500 in the last couple of weeks. TSRA certainly helped. I was as much as -650bps if not even more behind but as of Friday, I am only -250bps vs. the S&P 500. Not bad after such a strong year last year but I wouldn't mind beating the market each year.

Concentration vs. diversification -- wholeheartedly agree with Dr John that concentration is best and from what I can gather he seems to concentrate by industry -- picking promising industries and buying a collection of stocks when their prices are attractive. A very sound strategy although obviously I have simplified it -- see the comments to prior notes from Dr John for a fuller explanation.

Mine is a little more eclectic than that but somewhat similar. I have picked out secular themes that I see driving industry growth and then picking the companies that I think will benefit the most -- based on their competitive position and business models. I'm looking for the best business with the best growth drivers to my theme.

DNA related stuff is one of my secular themes -- the falling cost of genetic analysis and the immense discovery of new information is driving lots of growth opportunities throughout health care. Here are my plays:

LH -- growth in testing especially using DNA based tests which can be used to drive better diagnosis and treatment decisions

ILMN -- leader in genetic analysis tools -- driving the costs of sequencing down

TECH -- consumables used in protein and antibody research. these guys are a shareholders best friend -- they manage a tight ship, focused on future growth opportunities and they care most about driving high returns on capital.

GNVC -- development stage biotech drug company that uses adenovector virus' to deliver a gene that causes the tumor to produce a potent anti-tumor protein called tumor necrosis factor.

BLUD -- not my original reason for buying but they are going to be developing an automated DNA based blood typing instrument and consumables. What worries me about BLUD is that there isn't any true growth in blood type testing -- its all just price increases and automation improvements but no unit growth. maybe some unit growth overseas but competition is more serious too.

In the last week or so I have read about SIAL, IVGN, GHDX, SGEN, GPRO etc. I think too much of the good news is already in SIAL's stock -- TECH's PE is just 2-3 points higher than SIAL yet their organic revenue growth is at least as fast and their profitability is much higher. I could see SIAL being a better stock than TECH based on margin expansion. SIAL sells some proprietary stuff but a lot of commodity stuff too. don't know how far they are going to push that mix. haven't done enough reading yet. IVGN -- just don't trust that management team although they appear to have learned their lessons after some horrible deals.

SGEN -- will wait to hear from GNVC later this year -- if they have a successful PIII trial then the stock will pop and I will have the money to invest in other biotechs -- potentially this one.

GHDX -- still trying to figure out exactly what their tests are about. a biased short seller on has described their tests as essentially statistical coincidence or not necessarily cause and effect but mere correlation. He argues that their tests have no barriers to entry and that others will and have come out with competing tests. don't know.

I'm a financial guy -- no background in health care but only what I have read. So I don't necessarily have an insiders knowledge of health care or any sector other than financials but I still invest this way based on the confidence I have in what I have learned from my reading and basically pattern recognition. While I may not have that insiders edge, I hope that many of those that I read do or that together they do. Is my health care an exhaustive list? nope -- lots of names out there.

Why did I say I didn't want to be too exposed to health care? Because I am always cognizant of the fact that the demographics theme is crap -- you cannot pay for health care with demographics. Health care providers only take cash (in all its forms). Even though most of my holdings are in life sciences related they are still impacted by the total health care market -- R&D spend by drug and biotech companies is impacted by their revenues or potential revenues. Our 3rd party pays set up in this country is a crazy way to pay for health care -- very inefficient with the incentives lining up wrong. but some form of universal care would be even worse -- the health care industry would paradoxically shrink or at least be smaller than you would expect even with the addition of 40 mill new insureds.

I see certain areas being able to overcome this drag on health care spending growth -- life science areas, new life saving drugs and equipment, therapies that can be shown to save money over existing therapies.

Dr John is absolutely right that an information edge is essential to outperformance and those info edges don't come along too often so concentration is key.

I have several other themes that I am playing:

1. energy -- this cycle is going to last a long time because most oil is controlled by socialist nations that are not investing enough to grow supply to keep up with demand. CLB, MCF, ERF, EPD, MMP, VGENX are my plays

2. Asia -- lots of people, lots of productivity potential, where the greatest amount of wealth creation is likely to occur. mostly Matthews Asian Funds but also Wintergreen fund has a large asian exposure.

3. Internet -- Google -- advertising is a big market globally. Google's use of automation is amazing.

4. technology's ability to lower costs and open up markets: FLIR, UEPS, TSRA, etc. (CREE? NTAP?)

5. growth in assets under management, growth in derivatives, growth in credit etc. AB, DFR, CME, MCO. This one is in need of rethinking -- I have been saying to avoid financials and here I am with several of them. What I meant was financials that were lenders or brokers. Yet I am coming to the realization slowly that much of finance could see a big slowdown or lower margins based on the need for cost cutting and less volume as the sector digests about 2-3 decades of faster than GDP growth and rising margins. I still think MCO is a great business but I can also see them having $2.50 in earnings in 2011 -- or no growth from 2007-2011. so if they are selling for 15x 2011 EPS are they still cheap? probably not. need to be selling calls on this one in the meantime trying to make as much as possible while I know the stock is unlikely to go up.

Growth in money management also drives growth in FDS -- a great company built on great execution. But FDS needs growth in employment for the most part -- its true that they can grow by adding new applications so that fees per user go up but there are limits to that kind of growth. easiest growth is to add more users. perhaps this consolidation in finance will also impact money managers? its possible.

I am constantly searching for new themes or trying to think about whether other names would be better -- this is especially true as I watch my financial related names fall down the tubes. in that case more health care might be just what's necessary to outperform.

Friday, March 28, 2008

quick TSRA comment

YIPPEE!!!!!!!!!! The stay was overturned and the stock has jumped above $20. early trading so not very relevant but I expect the stock to stay above $20 today. They still have to win the trial -- which given their 5 of 5 past record should give them decent odds. They also still have to win Amkor but the amazing thing is that if they win these 2 actions, they could add a $1-2 to EPS which could vault the stock all the way back into the $40's or higher. I can't remember the numbers anymore on how much is at stake -- too much lawyer crap in my mind instead.

will respond to Dr John over the weekend hopefully...

Wednesday, March 26, 2008


TSRA -- ITC should rule on the stay appeal this week -- I think the odds are good that the appeal will be successful and the stay will be lifted. I'm not as confident that if they get the same judge their odds of winning are all that good -- he has proven he knows nothing about patents so seems like a wildcard to me. AMKR gets started on monday -- ruling in early may to June - worth 1-2 hundred million so a big deal. downside to the $10-14 range if they lose the stay appeal.

UEPS -- if the South Africans could just keep their electricity on! ugh! That's the story I hear is that the country is falling apart and tearing at the seems with no electricity. Won't impact UEPS as much (off line system) but social unrest is never a good thing. Also the rand is the one declining currecy relative to the $ -- how can you be that unlucky to pick the one currency in the world worse than the dollar? Still a big believer. could easily reach the $30's on news of nigeria or ghana or south africa about faster take up or more fees per card, etc.

market thoughts and other stuff

lots of commentary about a lost decade in the market -- already been there and done that in case most haven't noticed. a flat market for the last 8-9 years. But a very interesting one indeed. In the 2000-2002 time frame if you were diversified you did just fine -- techs and growth stocks (GE, AIG, MDT, etc) got crushed the most while value stocks, small cap and international stocks held up better.

During this last several months outside of financials and consumer stocks the market hasn't been as bad either. There are energy and material stocks that are higher now than they were several months ago. There are health care stocks like ILMN and LMNX that are near highs. LH is only 10% off its highs and probably would be doing even better if not for how bad DGX is doing.

This is not surprising in this bifurcated world -- half the world is seeing strong inflation (energy, materials, industrials, food related, etc.) while the other half is seeing strong deflation (housing, consumer related, financial related). I'm not nearly as worried about inflation as others are -- truth is asset deflation like we have in housing/financial assets combined with too much supply of labor (china, india) will keep inflation in check. The inflation we do have is driven by a supply situation -- slowing US economy, no supply issues with Nigeria, venezuela, iran, iraq, etc., heading into spring where weather related demand should be less, yet price of oil remains near a $100 or more. Everyone has been shocked by the inelasticity of demand for energy yet the truly shocking point is that after a few years of rising prices there has been no noticeable increase in energy supply -- inelastic supply. wow. Oil is as likely to hit $200 as to drop back towards $50.

Also food inflation is a government fabrication caused by farm subsidies and ethanol subsidies which drives up animal feed costs as well as making corn, wheat and other crops more expensive (add a huge chunk of demand for using food as energy and is it any surprise that the price of food is rising? isn't this basic econ 101?)

Back to the market -- it depends on selectivity. Certain areas will continue to suck -- I plan on trimming my MCO if I can get a rally out of it towards $40 -- securitizations are switching to FNM and FRE which I presume don't pay much for ratings. I expect 2008 estimates to drop towards $1.50ish. from closer to $2. I belive wholeheartedly in CME but I also know its likely to be under pressure as it has been when financials get hit. Wouldn't touch banks or brokers because more pain is coming.

Consumer stocks -- tough one. That's one issue with ECL that I have mentioned before -- large exposure to restaurants.

FLIR, ILMN, TECH, LH, FDS, etc -- will they continue to meet or beat estimates? I think so because they all have secular drivers behind them and are not dependent on sectors of the economy that are struggling for their customers. although FDS could be an issue eventually.

CREE is a less mature FLIR with more competition -- i.e. the price points haven't gotten to the attractive stage yet and CREE doesn't have 40% market share so the profitability won't be as good. but its one to watch.

LMNX -- just couldn't get comfortable with it to date but its on a roll.

I see the double bottom in the market and look at the Fed's actions and the bearishness that seems pervasive and think we may have seen the bottom. trucking prices (well brokers like LSTR and CHRW) have seen breakouts in their stocks which leads me to think the US has bottomed economically. Yet it appears housing still hasn't bottomed yet so hard to think the stock market has bottomed.

One thing is for sure -- financials won't be coming back any time soon -- the revenue sources have dried up --
a. securitization being a fnm fre thing means less opp for brokers -- volumes will drop a lot
b. fewer private equity deals means less issuance and advice etc.
c. less leverage or smaller balance sheets means less profits from trading.
d. credit cycle puts bank earnings at risk too.

My hope is that we may have started that flat period like from 92-94 where the market was flat as a pancake waiting for the S&L crisis to be resolved and absorbed by the economy. To deal with housing I figure we are about to have a few years of a flat market. always some opportunities but overall won't be that great. The question at this point is whether we need to have more downside first?

yen carry trade was done by japanese investors looking for higher potential returns than the meager amounts promised at home. Have you seen the Yen? its going up. The next big thing is the dollar carry trade -- expect more of our assets to go overseas.

by the way -- don't have selection ability with stocks? then you probably need to go overseas or find a manager that is as far from indexing as possible because the indexers and closet indexers likely to suck.

I agree with Dr John (see comment to my last note) that finding the right incremental place for money is tricky and fraught with risk. Cash would be nice but I don't know if that's the answer now -- as I said, there is a possibility the double bottom is in.

I posted comments on AMGN and GHDX on the TECH board Dr John if you get the chance.

I don't want to be too tied to health care -- and to diagnostics or life sciences either (which is almost all my HC exposure in my portfolio now).

I look at CREE due to growth opportunities for LED almost regardless of the economy. I like FLIR too for the slow march of technology favors them. Yet who knows about the stock prices -- given their valuation and positive investor sentiment.

I have gotten scared about energy thanks to some smart chartists but they are having a good rally in the mean time. long term still a big believer but near term is harder.

time to post this and start fresh if necessary -- thanks Dr John for posting.

Sunday, March 23, 2008

Happy Easter

This week I have been trying to deal with how far the market has dropped my stock portfolio -- other than DFR, I haven't been exposed to a spread based financial (borrow, lend keep the spread between the two rates) and yet my taxable stock portfolio (as opposed to the IRA's, which remain mostly funds) has been down almost 25% from the highs. Right now it sits at -20%. This compares to the S&P 500, which at the worst was down 20% and is now down 15% from its highs.

Well it boils down to a few issues: 1. loosing big on a couple of positions -- DFR and TSRA that were sizable. Obviously DFR is a permanent capital loss which is a huge mistake -- no matter what your primary goal is to never permanently lose capital. A temporary decline due to sentiment is one thing but a permanent one means you were so completely wrong on the fundamentals that the money is never coming back -- I might be able to get DFR back to $3 but my 2 year old son will be out of college before DFR returns to the mid teens if it ever does.

I continue to believe that TSRA is a sentiment reaction more than a loss of capital -- while its quite possible that it will take a long time to get the money from these customers, I still believe its a matter of when not if. If TSRA loses the appeal, I would expect them to start adding new patents to the cases -- these will be patents that don't expire in 2010. They should at least try this tactic -- the other side has pulled out all the stops to engineer a delay. Why not whip out some more patents to keep the pressure on these firms. Perhaps they can get a separate action on the additional patents that will be heard sooner.

2. My tendency towards complacency in some of my favorite stories -- GOOG is in a great position but that doesn't mean in October at $700 that the good news wasn't priced in and then some -- after August's issues to go right back to new highs doesn't make any sense -- hindsight is 20/20 isn't it? The stock is off near 40% vs. the S&P down 15%. Yet fundamentally they will show better growth and profitability than most of the companies in the index. Valuation matters.

3. UEPS is down 25% yet there has been no real change -- in fact some of their business has actually turned out to be better than expected. The Rand dropping like a stone doesn't help. The delay in resolving the SA welfare contracts doesn't help. The amount of time it is taking them to build up Nigeria or SA wage payment isn't helping either. I still am a big believer in the opportunities but one needs patience.

4. AB -- like I mentioned on Thursday this one is a higher beta stock that goes up faster and down faster than the market. No issues here.

Thoughts on some other stocks:

1. TECH -- practically flat since the market peaked -- its a great business whose valuation has stayed expensive but not unusually so -- don't think there are any mo mo owners here. This is one that I was talking about on Thursday -- roll some profits from the others into stocks like this one.

2. LH -- the stock is being held back by the troubles of Quest Diagnostics -- that stock has dropped and the valuation is too attractive to avoid. I think LH is the better managed and the more focused and the more committed -- kind of like the difference between Philip Morris and RJ Reynolds.

3. FDS is in the mid 50's down from $70 at the peak. Their business is doing great despite all the troubles in the market. The troubles will keep the PE down on this one until either they do miss or the troubles run their course. Its a great firm but if the stock were to go up into the 60's I would really need to take profits unless I was convinced the troubles were over.

4. MCO -- Expect the odds are good the stock stays in the low 30's but its quite possible it reaches the 20's because the estimates are still too high -- structured product is unlikely to return this year or next in a meaningful way -- MBS is basically owned by FNM and FRE, which has to mean less ratings potential from MCO. This is a phenomenal business though in terms of capital requirements -- as long as they can buy back 5% of the stock each year, it seems to me to be worth owning it.

5. CME. They have a monopoly and earn fantastic returns yet there are 3 issues that give either me or other investors pause. First, volumes are up huge now but as deleveraging continues there will be less need for hedging trades -- fewer firms trading, smaller balance sheets, etc. -- this could mean less volume in the future once the unwinding of the leverage is done. This is quite possible yet I would point out that the OTC market is several times larger than the exchange traded market -- exchanges offer transparency and clearing protection vs. counterparties.

Second, Counterparty risk -- the clearing portion of the firm, which is key to the monopoly is also at risk if someone fails and can't pay up for their side of the trade. There are several levels of protection before CME is on the hook -- given that anyone in trouble would just have to unwind their trades and pay up the losses on the margin, the amounts involved are not the notional amounts but the actual amount needed to settle up -- far smaller. Positions are marked to market at least twice daily to make sure the margin levels are accurate with current market values. I see this as possible but not a high probability.

Third, -- Up until CBOT, most of the growth has been organic growth in volumes traded. Now they are doing deals -- why? because they don't think the growth will be there from volumes alone? could be. Because they are afraid that if they don't buy someone else will and that would endanger the franchise? maybe. either way it is dramatically increasing the amount of capital in the business via goodwill and its unlikely they will earn the incredibly high returns on that incremental capital -- ROIC going down is not the best thing for a stock.

6. FLIR -- chart suggests I will be able to buy it closer to $20 but who knows because they keep announcing defense orders (mostly shipments on stuff they have already won) that provide some reassurance. Key to the growth is the commercial end of things -- how quickly can they get the price points down.

7. ILMN -- next generation sequencing is a game changer -- they have started a product cycle with limitless potential. The amount of information to be gained from sequencing many many genomes is awesome -- this will take share of resources from other parts of health care research. ILMN has dropped the cost of sequencing from millions towards $100k and expects to lower it again towards $10k and $1k over the next several years. There is execution risk as others are competing in this market too -- stumble and they could be gone (just look at AFFX).

8. BLUD -- while the numbers dropped on this deal, they still have a strong product cycle with the echo. They have a long road to bring this bioarray tech to market but this could also be a game changer -- DNA based tools are dropping in price dramatically -- kind of like semiconductors (see ILMN comments),which to me means in several years blood typing will be done using DNA tools not serological tools like today. I'm no scientist so take that comment with a grain of salt but I do understand disruptive technology. If BLUD can commercialize this tech they could easily take market share and build an even better franchise. They will still remain one of the most profitable in health care even post deal.

9. Where to put incremental dollars -- BLUD? TECH? LMNX? ECL? SIAL? IVGN? CLB? CME? MCO? FDS? this is the hard question that I'm struggling with at present. I believe it is too early to add more money to anything financial related.

Trouble with health care -- even the life sciences part I am invested in is that most of it is US based -- growth will be stronger overseas. Then again who doesn't know that yet? investing is about predicting the fundamentals AND finding situations where the gap between perception and reality are widest -- growth is stronger overseas but its hard for that gap to be wide. will have to monitor the market to search for situations where the fundamentals will be much better than perceived in the future.

good luck

Thursday, March 20, 2008

tonight's thoughts

all in all not a bad post Sunday night -- predicted the sharp drop on Monday and suggested a recovery soon after -- Tuesday of course. Predicted FDS would be sold off and told you to expect a short covering pop -- wow did it ever -- from $50 last Thursday to $44 on Monday to as high as $55 on Tuesday. That's one wild ride.

One thing that seems to have flipped is that 3rd bucket -- at least in terms of the commodity related stocks. They were down hard today. Helene Meisler a darn good chart person says they are going to fall big time based on the chart action (she said that pre-today!) but they might rally again one last time. Cramer argues this is just a profit taking correction and the energy names will be right back -- they haven't found anymore energy in the last week so he argues oil goes to $125. He is almost always right but so is she. hard call. I think they both turn out to be right -- correction is harder and lasts longer than Cramer expects but they do come back in the end just like he expects.

If they rally like Helene suggests -- especially after today's drubbing -- I might trim my MCF -- I think the oil services like CLB are less overowned vs. the nat gas stocks which are ridiculous.

Portfolio has definitely taken a big hit this year -- AB, TSRA, DFR, UEPS, GOOG and CME account for probably 60% of the losses with the rest coming from the Asia funds mostly.

AB -- its a money manager that is a leveraged play on the growth in the market -- they go up more and down more so no surprise the stock is down more than the market. I think EPS around $4 this year seems reasonable and that drives a $60 target in a tough environment -- think 15 times the dividend or around 6.6% yield.

TSRA -- fluke action so far based on a hail mary strategy from their legal opponents. Most of the patents TSRA is suing over expire in 2010 -- if the defendants can delay long enough they will expire and TSRA will have to start all over bringing a suit with a new set of patents that will need to go through discovery again, etc. To me it remains a question of when not if -- in the near term we have the AMKR arbitration which is really a contract dispute and the ITC appeal. Win both and the stock is back in business.

DFR -- no excuse. a financial at a time when I have been saying don't own financials. Should have sold all of it in the high single digits when I had the chance. Took to long to realize the evils of leverage applied to DFR just like the brokers and banks.

UEPS -- SA rand is the only currency in the world practically that keeps falling vs. the dollar. They must have some sorry economics in that country to be worse than ours! Gov hasn't made up its mind on the welfare contracts. That is wash to me -- good news that they will keep earning good money on their present contracts for at least another 6 months but bad in that the issue remains unresolved. To me they have the chance to become a really big company -- patience is key though -- by the summer it will be 2 years owning the stock and so far it doesn't look like I will have much to show for it. My plan had been a triple in 5 years -- still got 3 more to go.

GOOG and CME were way too expensive at the highs in October -- I know I mentioned something to that effect about CME here but I didn't take any action -- should have sold.

Issue isn't really about fundamentals its about technicals --- not talking about weird chart patterns but rather how crowded the stock is -- if everyone owns it already, who is left to buy it? and what happens when someone starts selling? yep -- they go down hard. I mentioned this about GOOG and AAPL a month or so ago but still didn't sell any GOOG figuring down $200 was enough -- then it dropped another $100!

What concerns me is FLIR and ILMN -- how vulnerable are they? fundamentally they are great but everyone already knows this. I feel somewhat better about FLIR -- its valuation is much improved -- investment controversy in that one is over whether its a defense stock (they sell at low to mid teens PEs) or a tech stock (their valuations are open ended). For me its a tech stock because they have an open ended growth potential through the consumer biz.

One key lesson that I usually choose not to pay attention to but should -- keep a balance between 3 areas in the portfolio: the horses (those outperforming right now -- ILMN) the tortoises (those steady eddie's that give you a little bit each year that adds up to a lot over time -- TECH, LH, PEP) and the turnarounds -- (those that you hope will start acting better in the future -- TSRA, MCO).

So as you make a bunch in a turnaround that works or in a horse that gets extended, take some off the table and buy a steady eddie or a new turnaround idea with the profits. That keeps you balanced and it also helps to protect those profits because the horses are more vulnerable to sharp corrections if something doesn't go just right in the future -- i.e. mo mo sellers don't ask questions they just shoot.

hope you are holding up well.....

Sunday, March 16, 2008

Bear Stearns and all else

Bear Stearns shows what happens when you are pushing the envelope on leverage during a financial crisis -- they had too much kindling around and a spark hit them last week. By Thursday they needed to be bailed out this weekend the talk is a $2 buyout. wow. if Bear Stearns is worth $2 then what is DFR worth? how about LEH? MER? etc. I expect a sharp downward drop on Monday at least for the financials followed by hopefully a recovery at some point.

First reaction is everything is worthless if Bear is only worth $2.

Second reaction is if Bear is gone that could be the failure that signals a bottom is at hand. The system survived, etc. most others weren't as leveraged or as vulnerable -- bear was too tied to fixed income especially mortgages and that is why they were more vulnerable.

DFR -- almost not a REIT -- they are down to only $500 mill as of last Monday but they are still just doing the minimum to survive. another week later and I'm guessing they have sold more of the portfolio and lost more money. why they couldn't sell the non-agency mortgages last fall or unwound the interest rate hedges sooner is beyond me. could have saved us all a lot of money. big question remains what is the money management business worth.

Great businesses -- Buffett has some commentary in his latest report about what makes a great business -- See's candies increases their pretax income from $5 mill to $82 mill yet their capital is only up from $8 mill to $40 mill. So a $77 mill increase in income from a $32 mill increase in capital -- that's pretty good returns. Not to mention See's has had free cash flow of about $1.5 billion since the early 1970's when Buffett bought it.

My strong business' -- MCO, TECH, FDS, UEPS for starters. They each require little capital to operate and have been able to maintain high returns on capital while growing the capital base.

Moody's has $1.7 bill in assets as of Dec 31st up from $300 mill in 1998 (I think these numbers are right -- I'll fix them tomorrow night if necessary). FCF is up from under $100 mill to over $700 mill in 2007. maintaining high returns as capital grows.

Looking forward -- the biggest risk remains the growth in debt -- likely that debt outstanding shrinks by 10-20% over the next few years. I was looking at their recent preannouncement and thinking about the numbers again. Current estimates are $1.8 bill at worst -- closer to $1.9 bill in revenues would be consensus. I think reality is closer to $1.7 bill at best. That assumes structured and asset backed drop 80% off of 2007 levels. Hopefully that still isn't too optimistic. Assuming 40% operating margins with a 40% tax rate -- think $1.60 in earnings -- so the stock is at 20X 2008 estimates -- a little high but that would definitely be depressed earnings. I could see 2009 being closer to $1.85 bill in revenues or over $2 in EPS. At that point the stock should be in the high $30's to low $40's. a nice gain from here. Could it see the mid 20's? sure but at that point it would be cheap enough for Buffett to buy more. Analytics could be close to 30% of revenues in 2008 -- international could be close to 50% of revenues. My guess would be US ratings would be down to less than a third of revenues. That would be impressive.

FDS -- reports on Tuesday -- will surprise all those selling the stock pre-report. look for a sharp short covering pop because they will meet numbers and not lower guidance. Too many hedge funds assume that FDS must have to cut and miss yet they don't understand that most of the business is buy siders not hedge funds or fixed income. equity buysiders cruising along -- some pressure but not really.

Looked at ECL this summer -- not as good a biz as FDS and MCO but good growth. 30% of ECL is for sale -- Henckel. That could drive the stock below $40 if the market has trouble absorbing all that supply. Lots of growth opportunity at ECL. will need to keep an eye on that one -- nice steady grower with international and health care plus industrial opportunities at a reasonable multiple.

some say their are 2 markets but I think its more like 3. first are the financials -- ugly. second are the consumer stocks and other US economy based companies that are hurt by exposure to financials or the consumer. Last are the stocks tied to commodities, international demand for most anything but especially for infrastructure. the 3rd group looks expensive but keeps on chugging. 2nd group -- many cheap stocks but don't know where the bottom is. 1st group -- who knows which ones survive.

others in 3rd group besides the energy ones I have talked about -- PX or APD -- gas companies. DNA type life sciences like ILMN and TECH.

after being 9% better than the market last year I am behind by 4% in 2008 so far. DFR and TSRA have been problems. CME has fallen more than I expected too -- given that its a monopoly. With any luck TSRA will win the arbitration and the appeal of the ITC ruling. That would get the stock up about 10 points from here -- my guess.

Been looking at GPRO too lately -- they are a testing company selling tests for STDs plus screening the blood supply for various things like hiv, hbv and hpv. they are down to only 26x earnings but that just doesn't seem cheap enough for me. I would rather buy more FLIR or maybe even more BLUD. Still thinking about that deal. Don't know enough about bioarrays to know for sure whether this is going to be a great deal or not.

enough for tonight. here's to hoping the reaction to bear isn't as bad as it could be -- down 5-10% across the board for financials is my base case with some down 50% or more (think lehman).

Thursday, March 13, 2008


well the hits just keep on coming don't they? BLUD dropped somewhere around 20-25% yesterday because they decided to radically change the amount they were spending on R&D by way of an acquisition of a start up company (well they have been around for 10 years but they are a few years away from a fully automated solution so revenues are minimal).

Still thinking through this one -- the hard part is they claim the key to the deal is that no one else is focused on using DNA technologies on the blood bank market. I wonder about companies like ILMN and Gen-Probe. ILMN sells a bead express product that makes me wonder why someone couldn't come out with a blood bank version. Gen-probe sells nucleic acid tests (NAT) that are used for screening STDs and other types of products. Gen-probe has been a good stock but for me I haven't liked the valuation nor could I see as much upside as others given the returns so far.

BLUD's management has a great track record but 15% dilution for the next few years is hard to swallow. that's why the stock got crushed. They claim on the call that this DNA version of blood typing will be additive -- used only for tests that the current technology can't handle. I at first figured they are doing the deal because they believe their franchise is at risk and they have been spending only 2-3% of sales on R&D -- a pittance compared to most health care product companies. The only reason why DNA tech won't replace their current antigen tech is because of price -- something which is continually dropping so its more of a matter of time.

so in some ways despite the drop the story just became more risky -- or more precise the risks became more known -- DNA is something I wondered about prior to buying but decided to trust in management. have to do some more thinking and see what Wall Street's Finest have to say as well.

Oh and the Fed's actions? -- probably helps -- look at what their last auction did to the Libor rate -- I expect this action will help calm spreads within mortgage land to some extent but that doesn't change the fact that home prices are still falling and that there is still probably too much leverage in the system. Not much the Fed can do about the unwind of house prices and leverage but this move might make it orderly -- that might limit the collateral damage -- the innocent bystanders caught up in a liquidity squeeze of someone else's making.

Ken Fisher makes the point in Forbes that we don't have a credit crunch for anyone that has good credit -- true but I think he misses the point about house prices and leverage. still I would agree that the economic situation shouldn't be as dire as many think.

Took another look at the charts and realized the nat gas stocks look like Goog and apple from last year -- a wee bit extended. a better price is likely to come in the future. CLB is the one I should be focused on -- it had its goog moment last year too so its probably much closer to heading back up again then the nat gas stocks.

Monday, March 10, 2008

DFR, TSRA, FLIR, Nat Gas, and whatever else I get to

Ok, first let's cover the DFR -- yes I am feeling pretty stupid for buying more to try to recognize some losses (buy more wait 30 then sell). I am feeling stupid overall too -- what did I say in August? don't own the financials. Why I didn't equate that with DFR I don't know. They were too leveraged and owned the wrong securities with that leverage and they are practically insolvent -- at least that is what is implied by their current share price.

Owning a leveraged portfolio that was funded by the brokers has turned out to be the worst place to be -- the brokers are playing musical chairs with their capital -- there is only so much of it to go around and lately the hedge funds, mortgage REITs and others are having trouble finding chairs.

Their portfolio seemed simple and easy to understand in contrast to the brokers and other financials that owned complex hard to value securities. They have a great track record of credit analysis at a time where they should have known who their fellow investors were -- that was far more useful info than credit analysis. In the ultimate irony -- the mortgage part of the portfolio was merely designed to provide the REIT tax advantage with the risk and the higher returns coming from the alternatives yet its the mortgages that cost them a fortune.

The management company? what is that worth? I have bet a few bucks a share but obviously others disagree. I just find it hard to believe that the management team was that wrong as to sign up to be bought by a REIT that was headed for bankruptcy just a few months later. wouldn't you think they structured the deal to prevent one from destroying the other?

We are only a few months into this issue -- there is going to be more pain to come -- we haven't had any failures yet. So far companies seem to be able to get access to more capital which is why the financials aren't coming back for several years -- tech's have been in a trading range in some sense for about 5-6 years since they bottomed. Most tech's haven't gotten very far since the bottom or if they did they have rolled back over. Apple and RIMM are exceptions. Think about EMC, NTAP, SUNW, JDSU, CSCO, MSFT, etc. old leaders. no where for years. I expect that once the financials bottom they will not get very far for several years either.

Too much capital -- too many competitors meaning there is at once too much capital and not enough capital. There is too much capital but its spread amongst too many companies so there is too much for the industry but not enough capital for each company in the industry. That means pressure on liquidity and once they survive pressure on returns. People keep saying once the business bottoms the survivors will have great returns because the competition will be down so much. That's going to take a long time. When you back out all the leverage that was used you realize the actual amount of debt needed to finance the economy isn't nearly as much as what has been issued over the last few years. That impacts all the infrastructure put in place to produce that debt -- think brokers, hedge funds, mortgage REITs, banks, etc.

Remember my comments from August -- the mortgage market shrinks by 40% or so but the securitizations of the securitizations (CDOs buying MBS) means the actual mortgage related debt falls even more. That remains the biggest risk for MCO -- that the amount of debt issuance falls and keeps falling. Only hope is the rise of securities in Asia as well as the need to replace too many failed short term funding sources with longer term debt (i.e. auction securities).

Moody's has been flat but I think that is a function of a small float and lots of cash flow at the company to buy back stock. soaking up all the volume. it could easily fall to the 20's if people decided debt issuance was going to drop further -- say for them to earn $1.50 instead of $2 or more.

TSRA -- AMKOR arbitration will continue as planned -- panel rejected a stay motion. By law this is a contract dispute not a patent issue. Therefore TSRA should win easily after proving that AMKOR signed a license agreement and is using their technology without paying for it. However, the last few weeks proves nothing is easy or simple with TSRA. I would expect a decent rebound for the stock if they win the stay appeal and Amkor too. What sucks is that management can't buy the stock to show their confidence because of the insider rules -- they have to wait 6 months after their last sale before they can buy at the market price. So far this has held up well during the last couple of days declines. So much volume near these levels I think you have decent downside protection with a large potential upside.

FLIR and ILMN -- too many own the stocks and have been hiding here -- that means people are selling them because they haven't gone down yet and now the charts are broken (well at least FLIR's isn't looking as strong that's for sure). fortunately I sold some ILMN but obviously not enough so far. I will look to add to FLIR in a bit -- a little nervous given how far some of the stocks have fallen and the fact that we still have lots of unwinding to do in terms of fixed income leverage. do not believe there has been any material change in either of their businesses -- perhaps some loss of mo but that seems to be reflected in the price.

Nat Gas -- EOG is my pick at this point. I really like their strategy of using the drill bit to build reserves -- they buy cheap land and find reserves on it -- that's somewhat similar to MCF's strategy just on a bigger scale. I have been thinking a little diversification can't hurt. these nat gas stocks have just broken out from 3 year long bases -- that is usually a good thing for ongoing appreciation. CEO of EOG during their recent analyst meeting called horizontal drilling -- 10% of industry wells this year but 50% of EOG's wells -- a sea change that continues to be underestimated by the industry and by investors. They have identified enough growth paths in terms of areas to be drilled to last them for several years. Only problem is the stock has soared post analyst meeting -- I feel like CLB all over again. This time I am watching the stock pull back first but will probably switch some of my MCF over to EOG as a diversifier. I belive in nat gas overall and I think EOG will maintain strong growth in production, reserves and cash flow while keeping ROCE high. Still can't help but wonder why these won't be the next set of winners to roll over and go back down -- chart says a low volume pull back towards the breakout point is ok but nothing more.

We are at the previous lows -- are we to successfully retest them or are we going a lot lower? hard to say but It seems to me that if we luck out and don't go to new lows we aren't going up either. I expect flat prices at best for quite some time.

today's irony -- that all the concern is about the US economy -- is it in recession or not? yet the price of oil is hitting highs. commodity inflation is not driven by our economy but everyone else's. we have asset deflation combined with commodity inflation. fun stuff.

Friday, March 7, 2008

tonights thoughts

2 Comments in one night!! wow!!! thanks so much for taking the time to share your thoughts -- especially Dr John for sharing that painful story about Elan.

To been there -- good advice about selling and re-evaluating. Sell discipline is my weakness. It is also true that I am not an expert in patent laws, which one could easily suggest means I have no business owning a company that makes its living from patents. I could say the same thing about several of the stocks that I own. I have written before that having a deep understanding of what you own and why is key to great results because it keeps you out of stocks that are overvalued (e.g. living off of reputation) and keeps you in stocks that have dropped more than they should have.

I try to read as much as I can about the companies and industries I invest in to help determine their value better but I can't know everything that's for sure. Its a tough call about how to balance investing in only what you really know well and having enough diversification as to not taking too much risk. the answer is to concentrate your stocks in areas that you know really well while using funds to diversify with the rest of the money.

I try to do that = probably 40% of my money is in funds.

TSRA tried again to issue a press release explaining their position and it helped pop the stock higher but investors also got to see the briefs filed in the ITC appeal including the one by the ITC staff -- that to me was the reason for the pop today. The ITC staff made a great argument for overturning the stay -- because if they stay actions every time when the PTO is involved they shouldn't bother to exist -- they will have no power anymore because every defendant will just get a stay and the PTO or the federal courts will be the real decider of patent cases because the ITC will have neutered itself. A compelling argument -- every organization wants to have a reason to exist and to have as much influence as possible. will it work? who knows. If it does, I would expect to see the stock reach the low $20's.

I got lucky so far on my additional TSRA shares. To me its still a reasonable decision to have added when I did -- there has been more perception change in terms of the patents than real change. Am I rationalizing the decision -- probably.

DFR -- its all about leverage and forced selling. Brokers have limited capital at this point thanks to their mark to market or subprime losses. That means they don't have the liquidity for all the markets anymore -- they must be selective. All the issues from SIVs to Asset backed CP to auction rate securities to the RMBS repo market (both agency and non-agency) are about 1 thing -- brokers/banks not having the capital to offer liquidity to customers. Various fixed income players are leveraged to the eye balls and they are getting some margin calls -- this not only includes mortgage REITs like DFR but also hedge funds and other types of funds (see carlyzle. As they are forced to liquidate, that puts pressure on bond prices, which makes more people insolvent which means more forced selling. a snowball effect.

when do we find enough low leveraged or no leveraged buyers to soak up all the securities and relieve the pressure? beats me but this will likely ebb and flow -- nothing goes straight down without some kind of rally.

To me it seems like the management company is worth more like $3-5 per share -- yet the stock is near $2 per share. I wonder if the REIT portfolio goes under, wouldn't DCM still be around unless they end up pledging that asset as collateral to try to prevent bankruptcy.

Other reading -- well some cautious folks on the MCF yahoo board have got me thinking -- perhaps I should at least diversify my nat gas bet. MCF has done extremely well but is highly concentrated on one big piece of gas in the Gulf of Mexico. There are other companies that also seem to recognize that value is created at the drill bit -- XTO, RRC, CHK, SWN, EOG are some that I am looking into. we'll see where that goes.

thanks again to my two commenters -- I didn't do that well responding but its thought provoking stuff.

Wednesday, March 5, 2008


Well TSRA dropped another 40% or something like that today. Another PTO rejection of patent claims and another huge drop. Doesn't make sense to me in that this is an initial action -- unless people figure the odds of the ITC appeal being successful just dropped -- that is possible.

Essentially some very large holders or a whole lot of medium sized holders have decided to sell and there was no one interested in buying. Do those that sold know something? nope. No one can at this point. TSRA has successfully litigated these patents several times and there is no new evidence being presented. It is absolutely stunning that what has worked every time before has all of a sudden been a complete failure.

What I mean is that investors do not believe the patents will survive challenge despite the fact that a court has ruled in their favor on the same evidence that the PTO is using to reject their patent claims -- generally you would think a court ruling would take precedence over the whim of a patent examiner but not so far. The ITC court has previously ruled that TSRA's technology represented a paradigm shift in packaging technology.

Regardless -- they have $5 per share in cash plus an annualized rate of free cash flow equal to $2 per share so figure 3 years (2008-2010) worth at that rate and then I guess the revenues disappear as the contracts and or current patents expire. That adds to $11 -- the bottom in the stock so far. Gives no value to the digital optics, which is NOT a subject of any litigation and is likely worth at least a couple of dollars per share of value.

Micro pilr -- no licenses but also no litigation -- if they can get customers to switch to this new technology, then the old patents won't really matter any more.

My understanding is that when the ITC judge ruled in favor of the stay the opposing lawyers (i.e. not TSRA's team) actually cheered -- they were just as surprised as anyone by the stay. The PTO starts by rejecting claims and then TSRA submits their evidence and things go back and forth until a final ruling is made and then TSRA can appeal to the courts -- this war is just getting started but the opposition has been more successful than they probably ever figured and have put tremendous pressure on TSRA's management. Believe me the team is feeling the heat from this huge stock drop -- it really shines a bright light on management and they must now operate under the assumption they have no credibility -- that impacts their ability to sell new licenses or defend their IP against anyone and everyone.

Many people buying the stock believe once the ITC rules in TSRA's favor or some other event happens -- perhaps the PTO rules in TSRA's favor just once -- people believe the stock will soar back to previous heights -- maybe but call me skeptical. I think its going to be a long hard road. It took 2 years for the stock to recover from the big decline of early 2005. Once a large number of shareholders -- stock traded HALF its shares outstanding today -- have lost a bunch of money and sold near the lows, they don't come back -- its emotionally too difficult. It takes time for the company to attract new investors and they will now have to convince people to trust their IP again. that will be difficult and will likely mean a lower multiple for TSRA in the future.

I still believe TSRA will prevail ultimately -- its not like much new news came out today other than the stock price dropping to levels that can be justified under almost any scenario.

of course as you read this note there are probably thoughts coming to mind about me being in denial and going through the stages of loss (think grieving) no doubt its true. I had a tough day but I went ahead and added to my position -- almost doubled it. Was that rational? depends -- if I still believe in the story then you have to buy more at these prices. At a low teens valuation you are not really paying for patents anymore just cash on hand and the existing contracts. Was my buy emotionally based -- oh yea. We'll see how well it works out -- but I suspect its going to be a long road ahead -- think 2 years to resolution by which time most current investors or those that have sold the last couple of weeks will have long lost interest.

I sold some GOOG and some MSFT to buy more TSRA -- I still belive in GOOG but its a big company and that has to impact its growth at some point relative to a smaller company. I just thought TSRA offered much greater opportunity. If I had more MSFT, then I would have just sold that and not bothered with the GOOG but alas I needed more funds to rebuild the TSRA position -- thank goodness I didn't buy last week in the 20's -- let's hope next week I'm not saying wish i hadn't bought in the teens.....

I also doubled up on DFR with the idea that I will sell these shares in a month to recognize the losses.

I am really excited about DFR's potential but so far I have been as wrong as possible on that stock. I have thoughts on the entire financial sector but not tonight.

Tuesday, March 4, 2008


How critical are falling housing prices? can anything else do well while housing prices are falling? Key to loan losses is the loan to value ratio -- that's because we are suffering a severity issue not a frequency problem. huh? Frequency refers to people not being able to pay their loans because of something like unemployment -- in a downturn it happens frequently and the bank's losses are relatively small because of the value of the collateral (home).

Severity refers to big losses that happen when the home value has dropped and the owner is far enough under water that they mail in the keys so to speak. After foreclosure costs, the banker will often suffer 25% loan losses -- small number of big losses rather than lots of small losses. The more home prices fall the more owners are under water and the more severity losses the system will have to absorb. Now the WSJ is saying commercial property is experiencing falling values.

Losses have put pressure on bank/broker balance sheets and that is why you saw the auction rate securites fail -- the brokers don't have the capacity to own those securities when they are struggling for capital. But does all this have to hurt ILMN's sales or FLIR's or LH's or TECH's or UEPS's or CLB's or MCF's or anything else non-financial?

depends on how strong the wealth effect is from housing and how strong the offset from overseas growth is in my mind. Have no idea. I have said in the past not to own financials and that I would rather own DFR than most of the banks -- that turned out to be faulty thinking (leverage is a killer). I still am wary of any financials because home prices are still falling. That said, I am nervously long all those other securities and thinking about others. The market has been in a tight range for the last month or so -- between about 1320 and 1400 on the S&P 500. The dip from 1320 to 1270 at the lows was largely Soc Gen induced.

Where do we head from here? New lows or back higher? I'm focused on putting the money into secular growth stories that can do well even in poor economies. That's based on valuation and the strength of the secular cycle. That's why I'm buying BLUD -- recession resistant, relatively attractive valuation with a good secular story. TSRA -- gotten crushed on the whim of an administrative law judge -- long term they win so its a matter of how much to risk and how patient I am for the recovery. I still believe strongly in that story and will likely add some to it.

I am intrigued by AAPL and CREE on the tech side -- but its a tough call for them in this economy. AAPL is too big now not to be influenced by cyclical forces. RIMM isn't cheap enough yet in comparison -- what happens as AAPL comes out with their enterprise strategy - -won't that impact RIMM's PE? CREE -- how much competition will they face in the illumination market? is their new found capital spending discipline sustainable?

I did sell some ILMN today to buy more BLUD -- that's just taking some profits and redeploying them into something with potentially better risk reward. I have had too many round trips to not want to take some gains off the table like ILMN. Love the story but its one expensive stock unless they are able to really beat the numbers. Last year yes, this year -- not so sure.


well that sucked! coming so close to last week's drubbing in TSRA, this really sucks. Seems so obvious in hindsight too -- as in why wouldn't their non-agency RMBS run into liquidity issues in terms of the repo funding?

I hope we are at that point like NLY was at when that stock was around $11 in early 2006 -- they were supposed to be smart investors with a low risk strategy and all of a sudden the stock went from $20 to $11 and the dividend cut crushed too. Since then the dividend has gone up and the stock with it. NLY was suffering from the shape of the yield curve during the Fed's interest rate hikes. They bit the bullet and adjusted the portfolio and from then on the dividend has slowly come back.

Right now everyone loves NLY and no one likes DFR yet right now it sure seems to me there is finally less risk in owning DFR then NLY because DFR has removed their non-agency mortgages so their liquidity risk has all been eliminated (at least relative to NLY). NLY still faces rate risk but DFR hedges their risk away with interest rate swaps. DFR has a management company that offers growth potential as well as a diversified revenue stream -- NLY used to have one too but I don't know how large it is/was as a percent of the total.

For DFR, the management fees should be a larger than expected percent of the total. Their assets under management are holding firm because of the nature of their CDOs (term funded). While the REIT portfolio has declined in size and earnings potential. Pro forma during 2006, the two sides of DFR were about the same -- since then I suspect the DCM part has held up better than the REIT portfolio believe it or not.

since my cost basis is significantly higher than the current price I plan on recognizing those losses in the near future -- probably double up on the stock and sell half in 31 days.

Monday, March 3, 2008


As if I wasn't having enough fun with TSRA declining, now there is a good chance that DFR will drop a lot on Monday. They keep shrinking in size and that will have an impact on how much they will earn.

interesting move to not do the corporate debt anymore in the principal side -- first reaction is that is probably better for lowering risks but not sure that it won't lead to lower income.

if an early estimate is right -- that they might pay 1.20 in 2008 -- that would still amount to a big yield on the current price.

more after the call