Plenty of Inflation Plays
The market as a whole is now eighteen trading days into a consolidation process, as the major indexes hold above their January 22 lows. However, we still haven’t seen enough strength to conclude the trends have turned up, and that’s why our market monitor above remains tilted into the bearish camp. However, among individual stocks, there are a few (not a ton, but a few) emerging signs of strength. Some growth stocks are acting better, but if this market gets going to the upside, the real leadership is likely to be found in commodity and inflation-related stocks – gold, silver, steel, coal, oil, natural gas and the like. So that’s where your focus should be. This week’s Top Ten contains many familiar names, including six commodity-type stocks. Our favorite is Cleveland-Cliffs (CLF), a maker of iron ore pellets. You could buy a little here, but be aware that earnings are due out Thursday night, which will cause volatility.
| Stock Name | Price | ||
|---|---|---|---|
| CALM (CALM) | 0.00 | ||
| CLF (CLF) | 0.00 | ||
| CMED (CMED) | 0.00 | ||
| CMO (CMO) | 0.00 | ||
| COG (COG) | 0.00 | ||
| FDG (FDG) | 0.00 | ||
| ILMN (ILMN) | 0.00 | ||
| KGC (KGC) | 0.00 | ||
| MTL (MTL) | 0.00 | ||
| WMS (WMS) | 0.00 |
(CALM)
Why the Strength
Back for a second Top Ten appearance after just two weeks is Cal-Maine Foods, the largest shell egg company in the U.S. There aren’t any subtleties to this company’s success; eggs are a source of low-fat, high-quality protein for dieters (and everyone else), and an increasing number of people are willing to pay a premium price for specialty eggs — cage-free, reduced cholesterol and organic. Cal-Maine has devoured ten competitors since 1989, building strength by acquiring both additional laying capacity and increasing distribution channels. With huge profits under its belt — its December 28 earnings report featured a 526% increase in earnings — it’s a good bet that more acquisitions are in the works. Despite egg-price increases, they still represent a real bargain as a protein source, so the future looks bright for Cal-Maine, which pays a small dividend.
Technical Analysis
Since blasting out of a long base in the single digits in November 2006, CALM has been a real mover. It doubled from 14 to 28 in just two months last year (from August 10 to October 10), then settled into a jumpy range with support at 21. That great earnings report spiked the stock from 25 to 31 in late December, just in time for the January market freeze to hit it. CALM looks like a good buy under 30, just as we said two weeks ago.
CALM Weekly Chart
CALM Daily Chart
(CLF)
Why the Strength
With the developing world leading a global hunger for steel, Cleveland-Cliffs’ six iron-ore mines in Michigan, Minnesota and Eastern Canada — plus its controlling interest in an Australian iron ore mining company and a smaller one in Brazil — just keep getting more valuable. The company supplies iron ore pellets to integrated mines in the U.S. and Australia. It also produces large amounts of the metallurgical coal that’s used to make coke from its mines in West Virginia and Alabama. And finally, Cleveland-Cliffs has an agreement with a Japanese steel company to produce a new form of nearly pure iron nuggets from taconite that could really boost the bottom line. Tie this package together with a 0.6% dividend and a sprinkling of speculation that it’s a takeover target, and Cleveland-Cliffs looks a little less like a stodgy commodity company.
Technical Analysis
CLF’s seven previous Top Ten appearances going back to 2004 are a good sign that this is a stock in a long-term uptrend. A look at the chart going back to 1991 shows a stock that grew slowly through the 90s until mid-1998 when it hit the skids. After a big double bottom in 2001 and 2003, the stock has been a powerhouse, rising from 4 to 118 in less than 5 years. With a new breakout under its belt, the stock may need to consolidate a little. Either look for a pullback below 110 as a prudent buy point, or try to build a position with small nibbles on smaller dips.
CLF Weekly Chart
CLF Daily Chart
(CMED)
Why the Strength
With four Top Ten appearances in 2007 and one last month, China Medical Technologies (C-Med) should be familiar to Top Ten subscribers. Nothing has changed for this Chinese company. It continues to have one conventional product line featuring diagnostic kits that use chemoluminescence to produce glowing results in tests for thyroid function, diabetes and other conditions. The simplicity and reliability of these kits makes them very popular in China’s rural hospitals. C-Med’s takeover of Beijing Bio-Ekon Biotechnology, a former competitor in the diagnostic testing business, immediately added sales and clout. The wild-card in this deck continues to be the High Intensity Focused Ultrasound (HIFU) machine, C-Med’s device that can destroy tumors inside the body without anesthesia, pain or incisions. C-Med will be reporting its fiscal third quarter results on February 28, and a good report will no doubt give the stock another boost. But the possibility of positive results from the clinicial trials of the HIFU machine in the U.S. is never far from investors’ minds. The small dividend (0.7%) is nice, but almost irrelevant.
Technical Analysis
CMED has been building a series of bases, first more than three months tight around 24 in early 2007; second, two months at 32 in June and July; third, more than three months in a range between 40 and 45; and finally, a jumpy month in the area of 50. In the short term, much will depend on the results on February 28. In the long run, CMED and HIFU are totally intertwined. We think aggressive investors can buy a little on any dip under 50.
CMED Weekly Chart
CMED Daily Chart
(CMO)
Why the Strength
Capstead Mortgage is a REIT (Real Estate Investment Trust) that invests mainly in ARMs (adjustable rate mortgages) that are issued and guaranteed by government-sponsored entities. That alone can be rather dull, but Capstead uses leverage, which enhances returns when times are good, like now. The result is not just a quarterly dividend, which brings you 5.4% annually, but rapid price appreciation as well! Capstead loves periods of falling rates, which lower its costs of borrowing. And as for the risk in the market, management commented in its fourth quarter report, “we are cautiously optimistic that the turbulent credit markets experienced the last two quarters are largely behind us … we believe we have improved our ability to withstand periods of contracting market liquidity by lowering our leverage to approximately 10 to 1, expanding the number of lending counterparties with which we routinely do business, and bolstering our long-term investment capital by raising approximately $324 million in common equity capital over the last four months.”
Technical Analysis
CMO’s long-term chart, dating back to 1985, reveals a very cyclical pattern, dominated by the forces of interest rates. The stock peaked at 40 in 1997, and at 18 in both 2001 and 2004. And now it’s back at 18 again. Short-term this looks high (the 50-day moving average is down under 15), so we’ll maintain last week’s buy range of 14 to 16, but if the stock can stabilize in this area in the weeks ahead, that buy range could be moved up.
CMO Weekly Chart
CMO Daily Chart
(COG)
Why the Strength
Cabot Oil & Gas (no relation to Cabot Top Ten Report) is an independent producer of natural gas and oil, with headquarters in Houston and producing properties in all the usual locations: Texas, Louisiana, Appalachia, the Rocky Mountains and Canada. The biggest reason for Cabot’s strength is simply the rising price of energy. But management isn’t sitting idly by and letting the market dictate its future. The company has a goal of achieving double-digit annual growth of both production levels and reserves, and it easily achieved that goal in the past year, posting 14% (pro forma) growth of production and 14% growth of reserves. Also, the company engages in hedging, which insulates it from major price swings in the industry. In 2007, this hedging provided a positive pickup for natural gas prices and a slight reduction for oil prices. As long as the trends pushing energy prices up remain intact, Cabot is likely to be one of the winners.
Technical Analysis
COG was founded in 1989 and came public in 1990. But it wasn’t until 1999 that the stock’s real uptrend began. In 2001, the bear market cut the stock in half, but since then the trend has been up, interrupted only by periodic phases of base-building. Last year, for example, the stock hit 42 in June, and then spent eight months trying to break through that level. It finally succeeded early last week, and as the week closed the stock spiked up to 46 on a great earnings report. What’s next is most likely a consolidation of this advance, so if you’re attracted to COG, we suggest buying on any dip toward 42, a level that now represents support.
COG Weekly Chart
COG Daily Chart
(FDG)
Why the Strength
Fording Canadian Coal’s story is a bit complicated – it’s actually an open-ended mutual fund trust that owns a majority interest in Elk Valley Coal, an operation that itself owns stakes in six coal mines. And, because it’s a trust, it pays out much of its income in quarterly dividends … and those dividends fluctuate wildly from quarter to quarter, depending on income. (It paid $2.09 in dividends last year.) The bottom line is that this operation is heavily tied to the global market of metallurgical coal – the stuff used to make steel. That market was tight at the end of 2007, and a big flood in Australia has caused even more supply disruptions, boosting the price further. Because of longer-term sales contracts, this trust won’t realize much higher prices during the next quarter or two, but analysts expect earnings to soar more than 60% for all of 2008, with more gains beyond that. All told, we like it.
Technical Analysis
FDG has been uptrending since November 2006, but the real action began just a month ago, when shares soared from 31 to 49 in three weeks on huge volume. Since then, buyers and sellers have quieted down, with the stock bouncing around in the 40s on generally quiet volume. Indeed, FDG has closed right around 47 each of the past three weeks, a bullish clue. And we’re impressed that the stock shrugged off the group’s weakness on Friday. If you’re interested, you could buy a little in the mid 40s.
FDG Weekly Chart
FDG Daily Chart
(ILMN)
Why the Strength
Twenty years ago, when the desktop computer era was beginning, one of the best possible investments was Microsoft, because almost everyone getting a computer bought Microsoft software. Today, as the genetic medicine era is gathering momentum, we think Illumina is a similar great investment, because most institutions in the industry buy at least one of the company’s genetic testing tools. Illumina boasts a perfect ten-year record of revenue growth, the company posted its first annual profit in 2006, and profit margins are now consistently high. We like the barriers to entry in the business, the recurring revenue the company gets from selling disposable supplies and the growing institutional interest. And as for the high PE ratio, we know that the best growth stocks always look expensive. Long-term, we’re very confident about this company’s future.
Technical Analysis
ILMN came public in mid 2000 when the market was still frothy, peaked at 5, and then fell all the way to 2 in early 2003. But since then the trend has been up; this marks the stock’s tenth appearance in Cabot Top Ten Report since 2005. Most recently, the stock soared from 60 to 75 in one day on an important court settlement, and then pulled back to touch its 25-day moving average at 64 before regaining the high ground. If you own it, sit tight; if you don’t own yet, you could buy a little in the weeks ahead, in preparation for the eventual breakout above 75.
ILMN Weekly Chart
ILMN Daily Chart
(KGC)
Why the Strength
Kinross is a major gold producer, with headquarters in Toronto but operations located all over the globe. The company is obviously benefitting from a bull market in the price of gold, but Kinross has more going for it than that. In 2008, management expects to open three new, lower-cost mines – one in Brazil, one in Eastern Europe, and the other in the U.S. – that will boost its production by 20%. But it gets even better after that, as management believes production will jump another 25% to 30% in 2009, with average costs decreasing thanks to the new mines. Of course, all these plans will go to waste should gold prices reverse their uptrend, but for reasons we’ve written about many times (Fed rate cuts, inflation, a weaker U.S. dollar, etc.), we don’t believe that’s likely. Kinross is a good bet to head higher in the weeks to come.
Technical Analysis
Like most gold-related stocks, KGC spiked to new highs within a few weeks of the market’s August 2007 low. And it’s generally motored higher since then, with some periodic consolidations along the way, including a pause during the past four weeks. We like the fact that this stock has closed tight (i.e., around the same levels) each of the past four weeks on declining volume, a classic sign that current investors are holding on to their shares while new buyers accumulate in a tight price zone. We think you can buy a little here, and look to add to your holdings should the stock break out above 24. On the flip side, a break below 20 would be your sign to get out.
KGC Weekly Chart
KGC Daily Chart
(MTL)
Why the Strength
Whatever you may think of Vladimir Putin, he has Russia shaking off the layers of rust from its Soviet past. Mechel’s huge deposits of coal, iron ore and nickel make it a perfect fit in this high-growth environment. The company mines coking coal that it uses to make steel products including long steel and specialty steel, and has enough left over to be the largest exporter of coking coal concentrate. With its coal reserves, the company’s move into the electricity generation business (it bought 49% of a Bulgarian coal-fired power plant) makes good sense. The stock’s most recent advance came on news that the company is considering spinning off its mining operations, a move that would, if completed, put a $4 billion chunk of cash in the company’s pocket. With excellent growth prospects and a tidy 1.8% dividend (and its earnings safely reported in December), Mechel looks like an emerging leader.
Technical Analysis
MTL has had a great run since it bottomed at 19 in mid-2006. It soared from 24 to 100 in 2007, and just broke out above its two-month resistance level at 100. The stock may be a little extended here, as it should consolidate at least half-way back toward its old resistance level. So look to buy a small stake anywhere under 105.
MTL Weekly Chart
MTL Daily Chart
(WMS)
Why the Strength
WMS Industries is one of the few leading growth stocks (as opposed to commodity-related stocks) in the market today. The company is a leading producer of slot machines, and right now, the industry is set for renewed boom times. As CEO Brian Gamache said, “This is probably one of the biggest transition periods in the history of the gaming industry,” as a possible 750,000 slots will be replaced by newer, more lucrative video machines during the next few years. New demand remains terrific – one analyst counted 14 scheduled billion dollar-plus projects in Las Vegas and Atlantic City; California just approved new casino-friendly legislation to boost state revenues; and gaming popularity should increase as states look for new sources of revenue. WMS has about 20% to 25% market share in the sector, and growth has been sure and steady. Longer-term, we think it’s a winner.
Technical Analysis
WMS has picked up ground four weeks in a row, decisively moving out to new peaks on good volume. The firm’s fourth-quarter earnings report was generally better than expected, and any selling pressures have been light and brief. Don’t expect WMS to rocket higher, but buying on a pullback of a couple of points should work out fine.