Historical analysis from Schaeffer's suggests that the annual adjustments in the NASDAQ-100 index typically provide buying opportunities for the stocks that are removed. As an example, the stocks kicked out last year averaged 57% returns for the year compared to only 34% for those added to the index last December. See the table below. The index makes a yearly adjustment at the end of December to rerank the top 100 non-financial stocks that are listed on the NASDAQ exchange.
Table - NASDAQ-100 Returns
This year's removal included five stocks with three of them falling out due to other stocks surging. Those stocks include Fossil Group (NASDAQ:FOSL), Microchip Technology (NASDAQ:MCHP), and DENTSPLY (NASDAQ:XRAY). These stocks actually had a solid 2013 placing them in the unique situation of not being beaten down stocks.
Conversely, the stocks of Nuance Communications (NASDAQ:NUAN) and Sears Holdings (NASDAQ:SHLD) provide intriguing removal stocks after a weak couple of years. Both stocks underperformed the market gains with Nuance down a smashing 30%. Another intriguing aspect to these two stocks is that famed investors are bullish on these stocks while the index is dumping them. Typically, investors don't get the opportunity to load up on stocks below these investors buy in points.
Beaten and bruised Siri
Nuance Communications offers investors the unique combination of a beaten stock down where investors can buy the stock below legendary activist Carl Icahn. Mr. Icahn has been consistently buying the stock during the recent downtrend and now owns around 19% of the outstanding stock. Worth noting is that Icahn made a famed investment in Netflix (NASDAQ:NFLX) that was removed last year. The stock has soared from under $100 when pulled from the index to over $375 a month ago.
Nuance is a developer of software for voice commands and natural language products that continues to struggle due to the switch from perpetual licenses to subscription services. Revenue growth has plunged to single digits with organic growth near the flatline while earnings continue to drop with upfront expenses adding up to develop the subscription services. Analysts forecast revenue to only grow 6% next year with fiscal year 2015 earnings below those of the recently ended fiscal year 2013.
The combination of a stock price that has dropped around 50% from early 2012 highs and a legendary investor buying up the stock sets the tone for the typical stock that the removal from the NASDAQ-100 provides the opportune investment.
Sears Holdings offers an intriguing investment where famed mutual fund investor Bruce Berkowitz owns a large stake in the stock. Not to mention that CEO Eddie Lampert had legendary returns prior to starting Sears Holdings. Berkowitz via Fairholme Capital Management owns a roughly 19.5% position in the stock. Combined with the roughly 50% controlled by Eddie Lampert via personal shares and his ESL Partnership, the two control nearly 70% of the outstanding shares.
While investors typically focus on the retail operations of Sears Holdings, the company is much more focused on monetizing vast assets including real estate and the announced spin-off of Lands' End. In fact, the recent deal to lease the second floor of its store at the King of Prussia Mall to Dicks Sporting Goods is another sign of the shift towards a REIT. In the process, the Sears portion of the store will be redeveloped into a smaller, focused operation.
The company still operates vast retail operations that will generate revenue exceeding $36 billion for the year. The biggest concern is the negative earnings that could pressure cash flow, but the company has numerous assets that it can unload including the real estate, a 50% position in Sears Canada, Lands' End, Automotive Centers, and various other assets.
Whiles Sears hasn't had a vastly negative stock in the last couple of years like Nuance, it has still underperformed the indexes by a wide margin.
The studies show that stocks removed from the NASDAQ-100 after weak periods typically show strong returns over the next year. Of the five stocks removed on December 23, Nuance and Sears Holdings share the traits of the stocks that rebound the most. Even more interesting is that the removal of these two stocks is fighting the moves of legendary investors.
Disclosure: I am long SHLD. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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