Tuesday, July 13, 2010

PEPCO (POM)/EXXON Alcoa/Re-Starting LT Strategy/Aon-Hewitt/Atlantic Power/Bought 50 XIN at 2.57-LT

A. Re-Starting Lottery Ticket Strategy: Headknocker has become concerned about appointing the Old Geezer as Head Trader. There are many reasons for HK's anxious trepidation. For one, the OG's brain is turning to mush, some form of oatmeal HK suspects. Sometimes, the OG forgets what he is going to say before uttering the verb in the sentence. On a few occasions, HK has noted that the OG has fallen asleep at the trading desk, claiming that he is just resting his eyes for a few moments, and then wakes up suddenly and says "Buy a 1000, What the Heck". While HK will not minimize those particular concerns, the most pressing issue is that OG is under the influence of the Lame Brain RB who disclaims all responsibility about anything and everything. And as the LB just noted, the RB never sweats the details, let alone the million or so variables, alternative scenarios and contingencies studiously followed by the Stock Stud LB. Yea, the RB replied, "the King of Picayune & Perpetual Indecision, time for a man of action rather than a Cerebral Deep Thinking NERD"

To deal with this last problem, HK thought that it would be best to entertain the RB by re-starting the LOTTERY TICKET strategy, which has been in suspension for several months, hoping that the $300 maximum limit on purchases made pursuant to that strategy will be a sufficient restraint to keep the RB from losing all of the capital here at HQ, or to at least slow down the capital drain. Somehow, the nit wit managed to make money during its last buying foray, proving the cliche once again about the blind squirrel will sometimes finds those nuts.

Though, Headknocker hastened to add that a repeat performance by the RB will most likely happen again only when pigs start to fly. Clich├ęSite.com IdiomSite.com It is necessary to communicate with the RB, and to all True Believers, using only phrases at those two linked sites. Some of the staff here at HQ thought they may have seen the LB in a state of prayer but instantly dismissed any such observation as an illusion, if not plain delusional.

B. Alan Abelson and the Lack of Balance in Processing Information and Forming Opinions-The True Believer Syndrome: Abelson quotes with glowing approval the statement of a technician who points out that undervalued is not the same as being cheap. Barrons I am still thinking about that remark. Perhaps it depends on one's perspective. If Intel was undervalued at say 10 times earnings, some would say that was cheap with a 3%+ yield, while the perma bears would say Intel is not cheap until the price is around 5 times earnings.

While the S & P has gained over 10% annualized before inflation since the year of my birth (Annualized Returns), Alan has nonetheless been writing his column in Barron's predicting doom and gloom for virtually that entire period, or maybe it just seems like he has been writing his Barron's column since 1951. Alan was bullish for perhaps two weeks in 1982 during that run, voicing for decades now all kinds of real and imagined reasons why the market should fall, always emphasizing the negative, frequently blowing the negative out of proportion and perpetually disregarding or dismissing any facts inconsistent with his perennial bearish thesis.

In short, Alan is referred to here at HQ as a person who lacks balance. Those individuals are not favored here at HQ as soothsayers. Lacking any balance in his thinking, his commentary is consequently not really helpful, and can actually be harmful. If I had listened to Alan and his fellow ghouls, David Rosenberg and David Levy, all of whom expressed their profound pessimism in the March 9, 2009 edition of Barrons, I would have lost money during the following year rather than realizing a huge percentage gain. (see Just Gloom for David Levy's opinion; and Barrons for the doom and gloom forecast of both Abelson and Rosenberg).

1. PEPCO (POM)(owned): I re-initiated a position in PEPCO, an electric utility, a few weeks ago by buying 100 shares at 15.96 after reading a story that POM had signed an agreement to sell its Conectiv Energy power generations assets to Calpine. That part of Pepco's business had been an albatross for at least a couple of years. POM completed the sale of its Conectiv Energy wholesale business to Calpine on 7/1/2010 for 1.63 billion dollars. FORM 8-K

I am reinvesting the dividend to buy additional shares, and most likely will be a seller in the $18 to $20 range. I do not expect any dividend hikes for the foreseeable future. At the current dividend rate, the yield based on a total cost of $15.96 is around 6.77%. As with my other electric utility holdings, I am primarily interested in the dividend yield and would ultimately be satisfied with a 2% to 5% annualized return on the shares. For POM shares, my goal is a 10% annualized return which can be achieved with less than a 3 1/2% per year increase in the share price from the $15.96 starting price. The price closed at $16.68 last Friday and I have received one quarterly dividend payment on those recently purchased shares. Pepco Holdings Inc, POM That is an increase of 4.5% in the share price since my purchase in early June. If the price was the same after four quarterly dividend payments, then the annualized yield would be about 11.27%. The dividend yield provides me with a good head start to achieve the modest goal of a 10% annualized rate of return. A $18 price with four dividends would translate into a 19.55% annualized yield assuming four dividends and a sale at $18 one year after the purchase.

While utility companies are by their nature low expectation buys, the following illustrates why I own them as part of my portfolio. ED and DUK are my only long term, core utility holdings. I also own PNW with a small profit in the shares. Added to PNW at $31.9 That buy was an average down. I have bought and sold a few others including Southern and Progress Energy, and no longer have positions in the common shares of either SO or PGN. Sold 101 SO at 33.93 Sold All PGN I am also under water in some recently purchased shares of First Energy and Exelon. BOUGHT 100 FE AT $39.54 Bought 100 EXC at 44.25

2. Exxon (owned): Exxon completed its acquisition of XTO Energy last month: www.sec.gov XOM issued 416.4 million shares of its stock to former XTO shareholders. This increased Exxon's outstanding share count by about 9%. Given the low natural gas prices prevailing today, the market has reacted negatively to this acquisition since its announcement. XOM plans to buy back about 3 billion dollars of its stock in the 3rd quarter to offset the dilutive impact of this acquisition. Exxon will leave XTO's hedges in place for 2010 and 2011 but will not hedge any future production. Exxon will attempt to restructure the assumed debt from XTO and announced a tender yesterday to purchase two of XTO's senior notes: XTO Energy Inc. Announces Offers to Purchase Debt Securities for Cash

While this acquisition makes Exxon the largest U.S. natural gas producer, several analysts have cut their near term price targets due to this merger. S & P, for example, reduced its 12 month target by six dollars from $85 to $79, while maintaining its five star rating.

While it is impossible for me to view the XTO transaction as positive in the near term, Exxon views it as accretive in the long term. Assuming that prediction pans out, the current weakness in the shares may be a buying opportunity for long term investors. The current price of around $58 is close to 10 times estimated 2010 earnings: XOM: Analyst Estimates for Exxon Mobil Corporation By long term, I am referring to those investors who can hold for more than five years, reinvest the dividends to buy additional shares, and then wait for the next opportunity to pare the position. This approach is always predicated on the investor having strong hands to wait for the selling opportunity, and a recognition that no one knows whether the price will continue to fall. A five year chart of Exxon shows a $95 price in December 2007. A return to just $80 would be about a 38% return on the shares plus the dividend which is currently around 3%. Exxon Mobil Corp, XOM Stock Quote

3. Atlantic Power (own ATP.TO): Atlantic is a Canadian company that owns power generation assets in the U.S. While it is easy to buy shares on the pink sheet exchange, I bought my 200 shares in Toronto so that I could receive the dividends in Canadian dollars. The current yield is around 9% and the dividends are paid monthly. Atlantic Power Corporation, ATP Stock Quote - (NASDAQ) ATP Just about all of the quote services have different symbols for these foreign securities. The Fidelity symbol is ATP:CA. Marketwatch uses CA:ATP. Yahoo has ATP.To. Google Finance uses TSE:ATP. The symbol for the U.S. ADR traded on the pink sheet exchange is ATLIF. This stock has been volatile since I first acquired shares at 11.97 CAD, but the volatility has been in a narrow range recently. This is a link to a 3 month chart, hopefully, of ATLIF. I added another 100 of ATP after selling my shares in a similar type company. Sold 100 MCQPF at $7.18 and Bought 100 ATP:TO at 13.01 CAD MCQPF is a smaller company (Bought 100 MCQPF at $5.84), and I did not want to follow two of these Canadian power producers.

I am not monitoring ATP too closely. My goal is just to collect several monthly dividends and then sell the shares for whatever profit is available. This is one of the securities bought with my Canadian dollar position where I am satisfied with the return provided by the dividends.

The reason for bringing ATP up today is that there is some recent news on it. For the tree huggers out there, Atlantic recently announced a 40 million dollar investment in a 183 MW wind power project in Idaho: Press Release

4. Aon (own junior bond in TC form-DKK, KTN, KVW): Aon announced yesterday an agreement to acquire Hewitt Associates for approximately 4.9 billion dollars, about 1/2 in Aon stock and 1/2 in cash: Hewitt Associates, Inc. to Merge with Aon Corporation I do not own Aon common which fell almost 7% on the news. So far, this news has not had a negative impact on the Aon junior bond in a TP. FINRA That security is the underlying bond in the trust certificates DKK, KTN and KVW that I do own.

5. Bought 50 XIN at $2.57 ( LOTTERY TICKET Category For the RB's Entertainment)(see Disclaimer): The Great LB, Stock Stud Extraordinaire, was not about to waste its time researching the RB's LT selections yesterday. Instead, the LB said, "Nitwit, just do your thing". So, the RB wrote the symbols of several securities on a sheet of paper, threw them up into the air, and the wad that landed closest to the OG's right toe was the RB's stock selection for the day. LB could not resist saying that this selection process was a vast improvement over the Lame Brain's usual technique. The OG noted that the selection was not totally baseless, except the OG gets the willies whenever the RB starts to buy small Chinese companies even as LTs, adding only one of them have made money so far.

For what it is worth, and the LB just said nothing, the two analysts that follow this small Chinese builder estimate an E.P.S. of 57 cents in 2010 and 91 cents in 2011. XIN: Analyst Estimates for Xinyuan Real Estate Co If XIN earns 91 cents next year, then the forward P/E would be 2.82 at the $2.57 price. Price to sales is .37 and price to book is around .42: XIN: Key Statistics for Xinyuan Real Estate

This is a link to its annual report: Form 20-F

This is a link to its SEC filing for its 1st quarter report: Form 6-K

The stock price has not fared well: Chart Though, as RB just said for those who question its stock picking prowess, a smashed stock price is sort of prerequisite for a LT. HK was pleased, peace and harmony were restored here at HQ, and all that the Great Leader could lose from the RB's selection was $130.

6. Alcoa (owned): I do not have high hopes for Alcoa for the short or intermediate term and expect a slow and long slog back to the $30 to $40 trading range prior to Near Depression. Alcoa Inc. Chart | AA I can manage to be patient given those low expectations and the prices paid for my shares. Some were bought in March 2009 at $5.6 and the remainder below $11.5. For reasons that escape the LB, the OG is reinvesting the meager dividend to buy additional shares since a position was first established in late Fall of 2008.

After the close yesterday, Alcoa reported better than expected earnings, earning 13 cents per share which was one cent higher than the consensus estimate. The company raised its forecast for global aluminum demand from 10 to 12% based "on improved end-market demand". Revenues rose 22% from the linked quarter in 2009. The consensus estimate for revenues was 4.97 billion and AA reported 5.2 billion. Shipments rose 4% and revenues 6% from the 1st quarter of 2010.

I try not to over think a small position like the one taken in Alcoa during the Dark Period. The $5.6 price probably only made sense to some of the talking heads on CNBC, all of the Masters of Disaster, Alan Abelson and David Rosenberg. Tangible book value was over $12 per share then, and is currently around $12.36. AA: Key Statistics for Alcoa Inc I had to go back to 1987 to find a price for Alcoa that low: Chart | AA I then asked myself a simple question which had a simple answer. Did the world need aluminum and lots of it? As I said, it is best sometimes not to over think an investment. The CEO Klaus Kleinfeld talked about the megatrends that will drive aluminum demand in the years to come during the conference call, see Alcoa Inc. AA Q2 2010 Earnings Call Transcript starting at page 4.

Then, I asked myself during the Dark Period, how will the aluminum companies react to the fall off in demand during the Near Depression period? Well, that was not hard to answer either. There would be employee lay-offs, cost cutting and plant closures. Once demand returned, the aluminum companies would be leaner and meaner with potentially higher profit margins. I will just wait.

I also bought a new position in the regional bank basket strategy on Monday which I will discuss in the next post


  1. Re: Valuation and assigning multiples (5,10,15?)

    If one subscribes to Bill Gross's thesis of a "New Normal, low future growth rates (~3%) foretell relatively low multiples on the major indexes.

    Gross's thesis is summarized in his latest July monthly forecast:

    Essentially, he argues there is a shortfall in "global aggregate demand" due to not enough internal consumption from the growth nations to make up for the slowing developed nations.

  2. I think Gross has a point in his "new normal" argument for the next two or three years, as consumers and governments in the developed world deleverage from clearly excessive debt levels.

    I suspect that the normalized growth rate in developed nations like Canada and the U.S. will be closer to 3%, lower in Japan and Europe, whereas emerging markets will grow 8 to 12% and become far more important in the upcoming years. Besides the growing middle class in emerging market countries, who will be a major source of increases in aggregate demand, there will also be significant world population growth, mostly in countries where consumers have little debt and hence have an ability to increase spending dramatically with improving economic conditions.

    The Gross argument is probably holding sway for the time being and may explain the market's low multiple at present. But that multiple compression at the market level is causing multiple compression in a large number of large, multinational companies, who sell into growth markets and who have the capability of growing earnings on average by more than 10% per year. A multiple of 10 or 12 times for those companies would represent a buying opportunity in my view.

    If I could buy a large, financially sound company, with access to markets worldwide, and pay for the purchase out of after tax earnings in 10 years, then that to me is underpriced even if Gross is right about the long term future of sluggish growth in developed countries due in large part to excessive debt levels and the ongoing deleveraging process.