Wednesday, November 21, 2012

October Portfolio Review

It’s the end of the month and time to reflect on another investing quarter. I’m a great believer that anyone who writes (or shouts loudly) about investment should always try and disclose how they are doing themselves. For the record I am up 54% YTD. Don’t get too excited I’m leveraged (so expect volatility) and hedge but for those who know or care my Sharpe ratio is close to 1. For the purposes of most readers I write articles discussing investment ideas on the long side of the portfolio. I short indices not stocks.  In this article I’m going to discuss the last quarter and some of the stocks I wrote about in June in order to try and identify some trends.

Article Write Ups

I have tabulated the articles below, they are graded in terms of the optimism expressed at the time. What should be noted is that the S&P has performed very well during this period.  As a rough guide, FactSet and McCormick are a kind of dividing line. They were looked at and rejected on the grounds of valuation whilst those above were viewed favorably. Those below were looked at less favorably.

I’ve held and exited positions in Acuity Brands and ConAgra and recently initiated a position in Adobe Systems (NASDAQ: ADBE).  Acuity hit its price target but I would advise investors to keep an eye out for its forthcoming results. I would argue that ConAgra is the pick of the high yield food stocks.  Turning to Adobe Systems, it has been a difficult summer for technology stocks. Many have underperformed as the market starts pricing in a cyclical slowdown, but I am intrigued by its long term prospects. The company is undergoing a structural shift in how it sells its solutions, moving from a license sale to selling subscription based software as a service (SaaS) solutions. This is resulting in lower initial revenues but the idea is that the (hopefully) increased lifetime value of a client plus new sign-ups will generate more value in the long term. I buy the argument.

Verint Systems Inc (NASDAQ: VRNT) has underperformed largely because it’s management were too optimistic in the last quarter and the stock got hit when it had to downplay expectations recently. I’ve recently initiated a position in its rival Nice Systems.  Verint is a sort of hidden play on big data. It’s really a workforce optimization company but as companies increasingly need to make sense of masses of unstructured information with big data analytics, they will also be driven to better capture and analyze customer interactions. And that’s where Verint comes in.

I also like Discover Financial and have written positively on it recently. I’m afraid I failed to pick some up due to a familiar failing of mine. I tried to time a buy on the dip. Lesson learned but then again I’ve told myself that before!

Evaluation Still Matters

The two stocks that were rejected on evaluation grounds (FactSet and McCormick) have both underperformed the market. I still like both stocks but find their evaluations have a lot of optimism baked in. Funnily enough, they both gave results recently and confirmed that underlying growth remains good. FactSet saw some decent growth in client numbers and McCormick seems to be on an underlying growth path of around 4%.

Another stock that deserves a ‘neutral’ view is Ciena Corp (NASDAQ: CIEN). The stock is exposed to the bits of telecommunications spending that are holding up OK like wireless and 100G optical network spending. However, the company also talked of an expected pickup in carrier spending in the second half. Others have spoken of this but so far none has reported it and, if anything, the commentary around telco spending has got worse not better. I would approach the sector with caution although some point these stocks will be great value

High Yield and Housing

Two areas of the market that have been working well are high yield stocks and US housing related stocks. I’ve been looking at and buying both themes hence the interest in ConAgra, Procter & Gamble (NYSE: PG) and Pier 1 Imports.  I believe PG’s performance demonstrates what the market is favoring at the moment. It is not doing anything wonderful operationally, but it seems that any relatively high yield stock is seeing support come in for it as long as it doesn’t disappoint too badly. PG does have some upside potential from lower commodity input costs, but I am a bit concerned by its reliance on emerging market growth. I’m also concerned that while the US luxury and specialty retail markets are doing well the mass market remains tough.  No matter, the market wants high yield right now to compensate for very low treasury yields.

As for housing related stocks, I hold a few and like the near term prospects at Pier 1 however longer term I think this business could see some powerful competition from rival specialty retailers, big box retailers encroaching on its market and online competition from the likes of Amazon.  That said, the sector has been very good recently and I think there is more to come. It offers a way to hit what Home Depot described as a sweet spot in the economy.  Stick with the housing trade. It’s working.

Avoid China, Avoid Facebook

I’m a China skeptic and think the authorities will find it harder to stimulate the economy than most people think. This viewpoint goes a long way to explain why I’ve been negative on things like Joy Global and Caterpillar in the past. Frankly the more that China’s GDP forecasts get weaker the more you will hear pundits (usually with no skin in the game) telling you to buy the China plays because they are cheap. In my opinion there are plenty of ways to buy in the market rather than betting on a communist country to stimulate growth.

The last stock discussed was Facebook (NASDAQ: FB). I see absolutely no reason why this stock should trade at a premium to Google. In fact it deserves a discount. Google trades on an EV/Ebitda multiple of 13.8x while Facebook is on 35x. Why?

Google has a tried and tested management that has demonstrated it knows how to generate revenue across many platforms and a hugely powerful position in mobile search. Facebook is a business trying to manage a transition to mobile at the risk of alienating the generation of value (user generated content) in the company. The switch to mobile won’t stop people googling around and looking at websites but it might stop Facebook users generating content. Particularly if that content is on a small screen and interrupted with Facebook ads.

Many thanks for sticking with this post and I hope there have been some ideas here which will be interesting for investors.