2005-02-12 Report

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Bill's Portfolio:

I don't have a lot to say about me this week " my head is not in the game.

But there is a ‘big picture' play you might want to look into. It's called Sandisk (NDQ: SNDK).

As the cost of flash memory comes down, there is a broadening of technology applications underway. There is also a case where flash memory is quickly replacing hard drive memory.

I'm going to write it up later this week because SNDK is still trading at a relatively low 17 PE, even after the price has moved up to $24.81.

I'll be recommending a put write: SNDK Jul5 25.0 P (SWQSE.X) at $2.85 (last trade), although the Friday close was $2.65 bid, $2.80 offered, so you may have to go $2.75 offered to short the put. Then if the stock gets put to you before July expiry, your cost is $22.25. I like the stock below $23.

If you want a good offsetting trade, I'd buy a put on Apple (NDQ: AAPL), which seems to have a $40 Steve Jobs premium built into the current price of $81.21. I josh of course, but nonetheless I am not a fan of some of the new Apple iPod technology that Wall Street is hyping these days. And, boy, are they hyping Apple big time!

Remember, what goes up, typically comes down. In the case of AAPL, there is a serious mean reversion issue to consider.

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ETF:

These sector charts are for (1) sectors 10 (energy), 15 (basic materials), 20 (industrial) and 25 (consumer discretionary) (2) sectors 30 (consumer staple), 35 (healthcare), 40 (financial) and 55 (utilities), and (3) sectors 45 (diversified tech, software, semiconductor), and 50 (telecom).

In recent reports, I have been recommending that traders look for opportunities to accumulate good quality stocks that are priced relatively low in healthcare (sector 35), telecom (sector 50), the tech semi-conductor sub-industry group (tech sector 45), and the goldminers (sector 15).

I certainly didn't mislead you, did I? On Friday, the semiconductor sub-industry group (45301020) was up 3.13 percent, well ahead of any other. And on Thursday, immediately after I urged readers to buy the goldminer stocks, that sub-industry group (15104030) was up about 6 percent over the past two days.

Now you see why it's important to read my blog.

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Bonds:

Based on higher prices, the bond market continues to reflect an economic slowdown. Economy touts like CNBC's Larry Kudlow can't argue with a yield spread that is now down (even further) to 207 basis points.

From long-term charts of the U.S. Treasury debt market, you can see that all rates started to rise in April 2004, immediately after the March Jobs Report. The short rates have continued to rocket north, but the longer the maturity, the rates have increased less. In fact, the 30-year U.S. T-Bond yields actually have been falling (until reversing direction in mid week).

By the end of this past week, yields for all maturities are now rising, which means that all U.S. treasury debt prices are now falling.

From the Fixed Income (Bonds) Yield Table at Yahoo Finance, you can see that the 30-year U.S. T-Bond is now yielding 4.48 percent, which is the same as the prior week. But, after the 30-year T-bond yield fell to a cycle low of 4.35 percent on Wednesday, it zoomed up to 4.48 through Thursday and Friday.

The implications there of course are that stock prices for the interest-sensitive group like Fannie Mae (NYSE: FNM) and Freddie Mac (NYSE: FRE), plus the home-builders, are likely headed south as the bullish price cycle has now peaked.

A week ago I noted that "as excess cash starts to move into equities, it will come out of the long bonds. The cash allocation process of the past cycle has resulted in depressing yields on the long bonds to record lows, for the past year(s), which is a superb environment for the mortgage finance industry." But, that particular capital market cycle appears over.

One sell-side analyst who wasn't asleep at the switch was the one from Smith Barney who, by the end of Thursday, noted the move up in the long-bond yields, and immediately down-graded six home-builders, including HOV, TOL and PHM.

Oh my, wasn't that rating change an easy one to see coming from miles away. The rest of Wall Street will wait a week or two to see if the long bond yields continue to move higher before they too issue downgrades on the interest-rate sensitive stocks.

Let's have a look at the charts for ten stocks in this sub-industry group (20103010). Thank you Prof. Burton Malkiel for telling the world that stock prices are random. Yes, you made it to the President's Economic Advisory Council (some years back), proving once again that traders can out-trade economists all day, every day.

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Commodities:

Commodity prices are indexed by the Commodities Research Bureau. The CRB index ($CRB at StockCharts.com), daily data view, looks like commodity prices have continued to broadly decline over the past week, as I had forecasted the prior week.

There is more to come on the downside from the CRB index, largely because of falling oil prices, although this past week crude oil moved up a tad from $46.48 to $47.16.

This chart of the Crude Oil price ($WTIC at StockCharts.com), daily data view, shows that oil prices are still in a declining cycle.

The question remains, when does the world see $35 oil (not $55 oil)?

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Gold:

Last week I stated: "I am also starting to consider the goldminers again (sector 15 basic materials) on the basis that the EUR to USD may start to move higher, but I want to see the Euro:USD rate above 1.32 to confirm my interest in the golds. In the meantime, the goldminer ETF that trades on the Toronto Exchange could be attractive. This is the iUnits S&P/TSX Capped Gold Index Fund, which trades under the ticker symbol TSE:XGD. It could be good timing to start taking fractional positions in XGD, saving most your ammunition for when the USD starts heading south again, which is when the gold stocks will start to move up."

Then Thursday morning at 7am, I wrote in my blog that I was starting to accumulate the best goldminer stocks, and just after 10am I issued a ‘gold alert' because the group was taking off like a rocket. That's what happens when the USD collapses, as I wrote last week that I had been expecting any day now.

Last week I wrote: "Traders sold off gold bullion heavily at the market open on Monday (Jan 31) and Thursday (Feb 3), and to a lesser extent at the open on Tuesday (Feb 1), as we see from this (interactive) chart of the GLD bullion ETF that trades on the NYSE."

That extreme move on the downside is often a shake-out prior to a move higher, and since the goldminers tend to move ahead of the bullion, I alerted you to the strengthening that I saw in the goldminer group near the end of the prior week: "Traders also indicated that after the Thursday opening sell-off, they went back into the goldminers, as we see from this (interactive) chart of the goldminers that trade on the NYSE."

I didn't know at the time for sure what was about to happen in the gold market, but I knew I wanted you to be on the alert, so I asked the question: "Is this end-of-the-week trading in goldminer shares simply short covering, a recognition that the price cycle is now extended on the down side? After all, most of the major goldminers have lost about 20 percent in the past ten weeks, as seen in the following weekly data chart from StockCharts.com."

So I nibbled a week ago, then added more prior to the bull move on Thursday. Going forward, however, I'd like to see the USD weaken further before committing additional positions to the goldminers. I'd like to see the EUR:USD pair above the 1.3250 mark. It closed the week at 1.2863.

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Forex:

Last week I explained why the Chinese yuan would not be revalued in the near future. I do expect that scenario to occur sometime in 2006, and with it there will be an outcry by shoppers at Wal-Marts across the U.S. when they get to the cash register. The concept is called "sticker shock".

When the yuan is floated, there will be an upward revaluation of perhaps 33 percent (my guess is as good as any of the baker's dozen economists working at Morgan Stanley " you know the sell-side firm that employs one economist who writes the report and twelve others to explain it).

That means Wal-Mart has to pay a third more to buy the goods they import to sell to Americans, and by now we all know that Wal-Mart has a profitable business model " even if some Quebecois unionists seem to think they can change it.

Last week I explained that "a higher yuan (versus the USD) presents a double-whammy to Americans, as in addition to making U.S. imports more costly, it would also be attractive to all countries in the Far East, like Korea as well as Japan, since all these countries are net exporters to China. China buyers would have an easier time of purchasing there;The U.S. administration will only truly want the Chinese yuan to float (upwards) if ever the U.S. becomes a net exporter to China " like Korea and Japan are today. All this is obvious. It is just as obvious that China has no intentions of changing its financial model right now because, as the saying goes, ‘if it ain't broke, don't fix it'."

China's Deputy Central Bank Governor Li Ruogu told the G7 ministers and central bankers a week ago there is no timetable for a revaluation of the country's currency. He will not likely change his tune until interest rates rise in China to a point that the Chinese domestic economic growth is burdened, and the Chinese people start to complain.

The recent strength in the USD took a hit Thursday morning, and I was ready for it, as I called the rally in gold and the decline in the USD a couple hours earlier. A week ago, I stated: "I see the USD price trend weakening, as it has for the past few years, but not to the same extent." I think we'll see more of the same in the coming months.

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International Equities:

As to the global stock markets, let's have a look at the past week's activity through a snapshot of the interactive charts at Investertech.com:
(Japan, Taiwan, Hong Kong, Singapore)
(U.K., Germany, France, Italy)
(Canada, Mexico, Brazil, Australia).

The commodity producing countries (Canada, Mexico, Brazil and Australia) all had another good week as evidenced by the country ETF.

Canada is back in the news again, unfortunately, and I'm not referring to Nortel news (give your head a shake), the ex-Prime Minister Chretien's golf ball antics at a formal commission of enquiry into illegal spending by his government, or the Wal=Mart labor issues in Quebec (get in line fellows).

No, no, no. The Great Stelco Comedy has returned to the stage.

ROBTV television viewers in Canada can watch a televised (industry) debate on Stelco (TSE: STE.A) at 1:30pm ET Monday Feb 14. The video will be available at www.robtv.com a day later. This is Canada's largest steel manufacturer, put into bankruptcy protection at a time when the company has been making historical record profits. This quarter report should be a beauty too.

Management really screwed up when they tried to kill the union. Now the union is helping six bidders come to a fair price to take over this company that has been managed for years like a dog.

I can't wait for the Stelco deal to go down, at which time (counting minutes), management and the board will be summarily turfed.

Management is now trying to explain away their stupidity by saying that it wasn't the bondholders at all that were the reason for their pleading bankruptcy and getting court protection. I said before the bonds were never in default.

Stelco management now is saying that the unfunded pension liability is to blame. Well, if that's so, tell it to the stakeholders (workers, shareholders and all) of Alcan (NYSE and TSE: AL) and Falconbridge (TSE: FL).

I'd like to throw my two cents into the Stelco debate. On Thursday and Friday, two stakeholders -- who should be under court-ordered silence during the restructuring/bidding process -- started to yap. Will there be any sanctions on these people? Not bloody likely.

One party is the Ontario government that issued a statement that Stelco bidders would be required to take full responsibility for the present unfunded pension liability. But, isn't that obvious. That's what buyers do.

So why say it now, unless the government minister is in bed with people who want to push the transaction price down?

Mr. Minister, why not just keep your trap shut when the restructuring matter is currently before the court? Why direct your remarks to Stelco when you could have just as easily pointed out the unfunded pension liabilities of so many other Ontario-based corporations, like Falconbridge and Inco?

I'll tell you why you spoke up. It's because you, sir, are just another political pig at the trough, elected by the people, but working hard to help your friends.

This stuff makes me sick.

The second devious party in the Stelco joke-of-the-week is even one of the bidders in the court-managed restructuring process, another Ontario steel company, Algoma Steel (TSE_AGA).

However, Algoma Steel management didn't have the decency (or respect for the law) to return the Stelco due diligence documents and keep their yap shut until the process was over. No, Algoma Steel management stated, along with the Ontario government minister, that the Stelco pension liabilities were so high they couldn't see a deal in the making. Then they pulled out of the bidding, and made a big fuss about doing so.

Why did they do that? I'll give you two possible reasons:

(1) It was good for a neat two-day 17.2 percent gain in the stock. I wonder how much front running preceded that news conference " the one that also just happened to pick this time to say that during the restructuring in 2001, there were some mistakes in calculations, so the employees were going to each receive a $17,000 bonus.

(2) Algoma Steel was itself a bankrupt dog just a couple years ago. The same re-organization specialist (Hap Stephen) and the same bankruptcy judge (Farley) were involved in that rape of the shareholders too. After all the lawyers, friends of the court, and so on, took their pound of flesh, there was nothing left for the Algoma Steel shareholders. Raped.

But, where is Algoma Steel today " just three years later? Well, it's trading at $34.20 a share. Guess who got all the stock? Management and the bondholders got 100 percent of the stock in the new Algoma Steel.

Sound familiar? 2001. Steel company shareholders raped. Hap Stephen. Judge Farley.

Fast forward to 2004. Stelco. Another steelmaker. Same jurisdiction, Ontario. And who just resigned from the Board of Directors of Stelco? Yes, the previous Chairman of the Ontario Securities Commission. The newspapers suggest that the stench in the air got to him.

Is any of this starting to turn your stomach? It must if you are a stockholder (of any corporation, not just Stelco), a believer in fair equity markets, or just a person who thinks government and securities commissions and judges are there to serve and protect society.

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U.S. Equities:

Alcoa (NYSE: AA), which is a major player in the basic materials sector, had a good week (actually a good Thursday-Friday).

Now if you have read the top banner edu-link to U.S. equities, you'll see that I focus on the Dow 30 component stocks, and I run overlays of charts in groups. You'll see that I like to observe General Motors (NYSE: GM) in connection with AA.

Well this week, with AA popping up (along with a strengthening in golds), GM just couldn't make it higher. But it will.

The first quarter 2005 is a period where North American auto dealer inventories have to be worked down. Plant layoffs are up. Interest rates are starting to move up, so maybe the margins on the profitable GMAC financing unit are being squeezed. Soon, the bad news will be over. Car buyers will flock to the dealer lots and they'll see an astounding array of new GM product that is priced to sell.

And in my big picture view of GM, I can't take my eyes off their recent pull-out of the slow-growth European market together with their multi-billion dollar investment commitment to China. Shanghai will be the ‘Motor City' of this century.

BTW, in case you haven't been watching, with all the Japanese manufacturers that have set up in Southern Ontario, along with the North American Big Three and Magna International, Ontario is now producing more cars than Michigan.

On to telecom: Last week, I pointed you to SBC (sector 50), (NYSE: SBC), which I like as another long-term play. This one is based on benefits that should accrue from the AT&T (NYSE: T) acquisition that was done at a good price. SBC is in a technical long-base pattern, and may stay that way for many months, as the company has to resolve its post-merger issues. This is a good candidate for writing puts after the stock price declines to a point you don't believe it would go down further.

I know that readers liked the Dow 30 price performance table I have been publishing, but I don't have the time or resources to do it this week.

No matter, you can do it yourself by copying the following list of the Dow 30 stocks and entering them in the window for "Summaries" at Investertech.com.

After you bring up the list, click on the Performance tab, and voila, there it is.

To sort for the relative price performance of the Dow 30 components for any recent period, you just need to click on the column header of the period that interests you.

AA AIG AXP BA C CAT DD DIS GE GM HD HON HPQ IBM INTC JNJ JPM KO MCD MMM MO MRK MSFT PFE PG SBC UTX VZ WMT XOM

Here again are the Dow charts from Investertech.com that I broke into groups of ten, which you can add technical indicators for as well. (list one) (list two) (list three)

For each of the individual Dow 30 component issues, using Investertech.com, you can look at the different time frames from intra-day to monthly data charts, and see the technical indicators at the points where trends and cycles reverse.

AA

AIG

AXP

BA

C

CAT

DD

DIS

GE

GM

HD

HON

HPQ

IBM

INTC

JNJ

JPM

KO

MCD

MMM

MO

MRK

MSFT

PFE

PG

SBC

UTX

VZ

WMT

XOM

Here too is a 30-minute data chart of the Dow, S&P 500, Nasdaq Composite, and Russell 2000 (small cap) indexes. I like to look at them all on one page to get a sense of the broad U.S. equity market strength or weakness, including technical support or resistance lines.

Is the Dow soon to hit 11,000 and higher?

I can't say, but I do think with all the hype from Wall Street these days (GOOG, AAPL, MSO) at a time the Fed is tightening, and the yield curve is flattening, and the VIX and VXN are over the moon, that 10,800 is in nose-bleed territory, and caution should be the order of the day.

I look down the list of the Dow 30 components, and my targets for PE on each one, given a rise in interest rates (meaning downward pressure), and I can't see the rocket fuel for this rocket. It looks to me like, "Houston, we don't have lift-off."

Then again maybe that octogenarian Greenspan is going to put on his dancing shoes again this week " you know, the same ones he was wearing a week ago in Europe " to impress the Congress he now says have got their spending habit under control.

The mind boggles.

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Enjoy your weekend.

BCara@BillCara.com