ENGlobal and Terra Industries: Trading Against Adverse Market Trends

Includes: ENG, TRA
by: Debra Fiakas

Punxsutawney Phil, the ubiquitous groundhog who now annually predicts the timing of spring weather, has come a long way from the furry prognosticator of German folklore to a sophisticated meteorologist with his own web site and public relations group. His handlers, the officers of the Punxsutawney Groundhog Club, manage his social and professional calendar, orchestrating his image like a rock star. As with the most temperamental performer, this year the handlers had to drag their furry little charge out of his burrow to execute on his annual prediction for six more weeks of winter (shadow in full view) or an early spring (no shadow in evidence). According to P. Phil you can get out the rain jacket this week-end.

Not to be outdone by a rodent, Elaine Chao, Secretary of the Labor Department released her team’s prognosis last Friday for the nation’s economy through a measure of the unemployment rate in January. According to Labor, the unemployment rate climbed to 4.6%, a four-month high. Coupled with a tepid expansion of 111,000 new jobs during the month, this means only moderate growth in the economy (shadow in full view). Wall Street had been looking for 150,000 new jobs (no shadow in evidence) so most investors were prepared for a slowing from December 2006, when 206,000 new jobs were created. Trading during the day was mixed as investors processed the implications of the greater-than-expected shortfall. Maybe investors were simply perplexed by the mixed “shadows.”

What does this mean for small cap investors? Probably something, but not much! While macroeconomic conditions ultimately affect every company, small cap stocks often trade against trends running through the greater market, especially negative economic signals. Company-specific factors often matter more to investors in smaller companies as early stage operations can thrive and their valuations climb dramatically even under adverse economic conditions. Take a couple of names from our coverage universe as examples.

ENGlobal Corp. (NASDAQ:ENG) provides engineering services to the oil and gas industry and biofuel producers. It has experience engineering labor shortages and wage inflation. A little less pressure in the labor market would be a plus for ENGlobal. Furthermore, economic weakness is not likely to affect its customer base for some time as its customers are flush with cash and poised to make record capital investments.

An early spring could be a big plus for Terra Industries, Inc. (TRA), which produces nitrogen and other fertilizers. An early planting season could mean better orders. Nonetheless, the prospect of dramatically increased corn plantings in the 2007 season is probably a more important driver for 2007 results. Terra has a number of things going on that in any case will have positive effects on its future profitability, such as a restructuring of debt that lowers interest obligations and a new partnership with a strong fertilizer player in Europe. So with all due respect to Ms. Chao, Punxsutawney Phil’s prediction might have as much value for small cap investors as the monthly labor report.

Disclosure: The author does not own the companies mentioned herein, although her firm has a current Buy recommendation for ENG and a recommendation to take profits in TRA.