Rek letter

2010-11-11 21:09, Edited at: 2010-11-11 21:09

To find stocks that the vast mass already haven’t find and that has a good risk/return relation is almost impossible for the normal small player investor. To look overseas and in irregular branches provides no guaranty for neither finding good or unexploited stock, it does however increase your odds.

In contrary to what you might have heard from preachers of the efficient market hypothesis or the random walk theory, there are some patterns on the stock market that can be exploited if you have the patience, guts and/or knowledge. One example of a pattern is the fact that the large cap stocks as well as the most known mid cap stocks of the OMX index generally tends to lead when the market changes from a bear to bull phase, like the one we had after the credit crisis. Another would be that stocks tend to converge towards the average “Shiller PE” (10 year average PE) over time. Those with guts should therefore buy/sell a relevant index when it is far from the “Shiller PE” average of ~18, compared to the IT bubble average that was nearly 45 before the IT-crash. I believe there to be one more pattern that I intend to exploit in this week’s letter. Stocks of companies that are closest to the consumer markets are generally early in the investing cycles, whereas the stocks of the suppliers for these same companies’ are lagging behind. TDK, Murata and Qualcomm are all suppliers to many electronic producers, including Apple, HTC, Samsung etc., and I believe that the public have failed to notice their full potential yet and that they have fallen in the shadow of the end product, i.e. Apple. In addition to above theory is the fact that the market for above companies will grow tremendously in the coming years and all of these companies are strong and stable players in this segments.

TDK

TDK is a company that supplies, amongst many, iPhone and HTC with parts for their products. They manufacture pieces of ceramic material that help control the flow of electricity within a device. The market for companies like this will grow enormously as long as the world gets more high-tech and more people use electrical devises and products, i.e. electrical cars is a new market for these companies. TDK is a very well renowned high quality Japanese company and it has been around for more than 70 years. Their partnership with Epcos has strengthened their opportunity in the market. The company bounced back from the recession well and is currently aiming towards good earnings again. Gross margin is increasing, overall costs cutting is showing effect and compared to its peers TDKs balances are competitive and healthy PE on estimates for 2011 earnings are close to 12 which is way too low for a company like this and market cap is 1,2 times the equity. The mid-term potential for TDK is more than 30% whereas the long-term upside is way more if they manage to keep margins and take their share of the market growth.

Murata MFG

Murata is in the same business as TDK, but Murata has a stronger market position than TDK. Just as TDK, Murata is a very old company, founded 1944, and they are also regarded as a high quality and great Japanese company. The smartphone and related market is, as previously stated, expected to more than double in the next few years. Also just as TDK, Murata will see its potential grow as the market for electrical cars grows. Murata as the leader in its niche has a great opportunity in this market. However, Murata has a relatively higher valuation than TDK with a PE (2011) of around 16. The price to equity is 1,25 and the balance sheet is just as strong as TDKs.

Qualcomm

Qualcomm is in the same business genre as the two other stated above, but Qualcomm is mainly in the processor business and they hold many strong licenses and patents in areas that are needed for smartphones, mobile broadband products and laptops and they get license fees for these. The competition worth to mention in the processor business would be Apple and Samsung. In addition to smartphones Qualcomm has formed a good relation with Huawei and is going to be key for Huawei in their LTE build-outs, they supply the processors to the modems and routers. Huawei is supposed to be backed by the Chinese state and is constantly gaining ground, I think Qualcomm will piggyback on Huawei. Qualcomm is a USA based company from California and it was founded 1985. The past quarters have been slow and both the revenues and costs have more or less remained the same or improved only slightly with the exception of R&D that they have spent a lot of money on. The PE based on analysts’ 2011 estimates is around 18 and for a company with slow growth this is high. However, I believe that the general market for Qualcomm is returning and that they will have an important role in the coming years build-out of the next generations technology (LTE/4G). Lastly they should have formed a competitive ground through the last years strong R&D spending. Recommendations:Short term investors buy both Murata (6981:JP) and TDK (6762:JP). Those of you that are long term investors should in addition also buy Qualcomm (QCOM:US). In addition to above I just noticed that the Japanese bank Nomura has buy on the two Japanese stocks which would serve as an additional quality mark.

Those of you that have chosen to follow my last two sets of TA recommendations have currently got a rather nice profit on your account. But watch out, now comes the real challenge – when shall we sell?

BlackPearl has gone from 24,8 to nearly 30, making a profit of nearly 20% in around 3 weeks. Norske Skog has gone from 10,3 to nearly 13, making a profit of close to 30% in about a month. Compare this to the 15% (excl dividens) that the index has done in the whole year. As I initially wrote the “runs” in BlackPearl has historically been around 5 sek. This would apply that you should sell the stock at around 30. However, like I also wrote the BlackPearl stock has a bright future, if targets are met, and therefore the patient investor should keep the stock and be happy that you entered at a favorable price. On Monday 18th BlackPearl was received approval from the Energy Resources Conservation Board to proceed with development of the first phase of its polymer flood. At the moment the only reason to sell Norske Skog would be that it has risen too quickly. However, as Peter Lycnh concludes in his book “One up on Wall Street” – it is very hard to ever make a lot of money if you sell every time you have nice ok profit. Nevertheless if you are not willing to take the risk I would advise you to either sell Norske Skog and if the stock rises above 14,5 buy it again, or apply a stop loss at 11,80. According to TA theory the MACD value/pattern can be used to get a hint when to sell and buy. The MACD pattern for neither Black Pearl nor Norske Skog suggests that it is time to sell. I am very fortunate that my first to letters have been very accurate with regards to the TA recommendations. However, I can guarantee you that some of my future recommendations will be wrong but hopefully I will be more right than wrong and the absolute return that I create shall supersede that of the index. At the moment many stocks have a strong momentum. In addition to the two above, both Lundin mining and Norsk Hydro are examples of stocks with a strong momentum, not to mention gold ore. To buy all of these and apply a 2% rolling stop-loss is probably not a bad idea. I am not sure if you all have heard about the super-entrepreneur Mats Gabrielsson. If you haven’t he is a Swedish investor/venture capitalist that made a lot of money through IT, google him if you want to know more. Lately he has been the front-man of this week’s TA recommendation OPCON, a renewable energy company. OPCON has made a few bad publicity stunts, had some trouble involving Tricorona and this among with other things have made the stock plummet from above 45 to now levels around 20-25. If you want to read more about OPCON then read the interview at stockpicker.se (http://www.stockpicker.se/interview/ showInterview.aspx?interviewId=57). I believe OPCON to be a good company with a bright future and they have received orders that confirm this. The OPCON stock has been moving sideways for the last few months. Some attempts towards the 25-30 sek levels have occurred but all in all sideways movement. So far the 20 sek level has acted as a floor and just last week it stood ground again. I believe that it could be a smart idea to buy OPCON as a short trade with a stop loss at 19,50 sek and hopefully sell at around 25 sek in short. The table below shows that the recommendations based on fundamentals has been slow so far. However, this is nothing that worries me since the whole point of being contrarian is that you believe that you have found an undervalued stock that nobody notices or likes at the moment. The time that it takes for the wide mass to notice that they (hopefully) are wrong could take time, but when this happens you will be happy that you waited. The same logic but mirrored applies to TA. We have had some “lucky” picks that the wide mass believes in as well. The stock has risen sharply and quickly. The only problem is that soon the same mass may believe that the race is over and then the stock might plummet. To figure out if this will happen tomorrow or in 6 months is, according to me, way harder than to find what stock to buy.