The Basic Materials Sector SPDR Fund (XLB) was down 1.6% during the June 2011 quarter, while the S&P 500 was down half a percent. The sector includes companies involved in such industries as chemicals, construction materials, containers and packaging, metals and mining, and paper and forest products. Of the approximately 700 stocks in the basic materials sector, 66 stocks trading above $1 at closing on June 30th went down more than 25% during the quarter and another 13 went up more than 25% during the quarter (see Table). These 79 stocks were analyzed to determine if they would continue in the same direction, or if they would reverse their moves going forward. The following are the best buy and sell ideas based on that analysis.
Sell China Shen Zhou Mining & Resources (SHZ): SHZ is a Chinese company engaged in the exploration, development, mining and processing of fluorite, copper, zinc, lead and rare earth elements in China. SHZ and its rare earth peers Molycorp Inc. (MCP), Avalon Rare Metals Inc. (AVL), and Rare Element Resources (REE), have all been extremely volatile in the last nine months as there have been strong disagreements between the bulls and the bears, with the bears taking the position that the rare earth prices and hence the prices of these stocks had reached a cyclical peak as more rare earth production comes online, while the bulls maintained that the long-term trend in rare earth prices is up as demand may continue to out-strip supply.
It seems that the bears may have temporarily scored as SHZ is back down below $3, more than 75% off its all-time high of $10.84 in December 2010. This is because worldwide there is a scramble to find new rare earth deposits and to resume exploration in known deposit areas so as to reduce the reliance on China, which currently controls 97 percent of the global supply. China is also the largest consumer of these rare earths, and it is clamping down on exports to secure the supply for its own industries, thereby driving up the prices. Japan, which is the second largest consumer of rare earths is particularly interested in securing its supply, and recently Japanese scientists discovered a huge area at the floor of the Pacific Ocean at depths of 12,000 to 20,000 feet that is estimated to contain 80 to 100 billion tons of rare earths compared to known global reserves of just 110 million tons. The Japanese have estimated that it would take five to 10 years to develop the underwater deposits. However, others have opined that this is no more than a ‘pipe dream’ and that it is ridiculous to dig anything up and haul it from those kinds of depths. Either way, it seems pretty obvious that rare earths are not that rare after all, and that while short-term rare earth prices could go up, the long-term picture may not be as bullish. We believe that most of these negatives are already reflected in the price of SHZ, so we would not be sellers here, but SHZ is likely to remain range-bound in the near future between $2 and $5, so we would be sellers into any rally approaching $5.
Buy Coeur D Alene Mines Corp. (CDE): CDE is engaged in the exploration and development of silver and gold mines in the U.S., Mexico, South America and Australia. It dropped 30% during the quarter, and it is down 11% YTD. CDE trades at a forward 9 P/E, near the bottom of its historic range, while earnings are projected to rise from a 19c loss in 2010 to $2.60 in 2011 and $3.12 in 2012. Analysts are generally bullish on the stock giving it a mean target of $39, and a high of $50, well above current prices in the $28 range. Furthermore, of the nine analysts that cover the company, three rate it at strong buy, three at buy, and three give it a hold rating; no one gave it an underperform/sell rating.
CDE is mostly a silver play, as in 2010 approximately 95% of the total company sales came from silver sales and the remaining 5% came from gold sales. The stock has corrected 30% from its April highs in the $37 range, mirroring the correction in silver prices since silver hit almost $50 in late April. The consensus is for silver prices to get stronger and move past the $50 range due to a projected improvement in the global economy which will lead to an increase in the demand for industrial applications, and rising demand from India for making jewelry. Furthermore, CDE has mostly completed its major investments in its new mines during the middle part of the last decade, and it is now in a position to increase production while lowering its costs. We believe the recent 30% correction in the stock price offers a compelling buying opportunity for the company’s shares, and we would be buyers here.
Sell Cabot Oil & Gas Corp. (COG): COG is engaged in the exploration and production of oil and gas in Rocky Mountain and Appalachian areas and in the Andarko Basin in TX and LA. The company also transports, stores, gathers, and purchases natural gas for resale. It rose 25% in the June quarter, and is up 75% YTD. COG trades at a forward 30 P/E, and at a high 77 P/E on a trailing twelve month (TTM) basis, at the top-end of its historic P/E range. Revenues and earnings fell to $844 million and 98c in 2010 versus $879 million and $1.72 in 2009, and are projected to rise to $1.01 billion / $1.24 in 2011 and $1.38 billion / $2.21 in 2012. We believe that COG is fully valued at current prices and the downside risk due to a drop in natural gas prices exceeds any residual upside opportunity in the short-term. The stock is approaching its $72 all-time high that it set in the first half of 2008, and at a minimum is likely to consolidate here for the next few weeks and months.
Other Big Movers: Other prominent big movers in the basic materials sector in the June 2011 quarter included Royale Energy Inc. (ROYL), engaged in the exploration and production of oil and natural gas primarily in CA, UT, TX and LA, that was down 47% for the quarter; Novagold Resources Inc. (NG), a Canadian company engaged in the exploration and development of mineral properties in Alaska and British Columbia, that was down 29% for the quarter; Golden Star Resources Ltd. (GSS), a Canadian International gold mining and exploration company producing gold in Ghana, West Africa, that was down 26% for the quarter; North American Palladium (PAL), a Canadian Company engaged in the production of palladium and other base metals in two mines in Ontario and Quebec, Canada, that was down 37% for the quarter; GMX Resources (GMXR), engaged in the exploration and production of oil and natural gas in East Texas, that was down 28% for the quarter; US Gold Corp. (UXG), engaged in the exploration and development of gold and other precious metals and base metals in NV and Mexico, that was down 32% for the quarter; BPZ Resources Inc. (BPZ), engaged in the exploration and production of oil and natural gas primarily in Peru and Ecuador, that was down 38% for the quarter; Abraxas Petroleum Corp. (AXAS), engaged in the exploration and production of oil and gas primarily in the U.S. and Canada, that was down 34% for the quarter; Arch Coal Inc. (ACI), engaged in the production of steam and metallurgical coal from surface and underground mines, that was down 26% for the quarter; Rubicon Minerals Corp. (RBY), a Canadian company engaged in the acquisition, exploration, and development of gold properties in Canada and the U.S., that was down 32% for the quarter; Transatlantic Petroleum (TAT), engaged in crude oil and natural gas exploration and production in Turkey, Morocco, Bulgaria and Romania, that was down 45% for the quarter; China Gengsheng Minerals (CHGS), a China-based manufacturer of mineral-based heat-resistant products, including monolithic refractory’s, industrial ceramics, fracture proppants, and fine precision abrasives, that was down 39% for the quarter; ION Geophysical Corp. (IO), a provider of seismic products and services to the oil and natural gas industry worldwide, that was down 26% for the quarter; Forest Oil Corp. (FST), engaged in the exploration and production of oil and natural gas primarily in North America, that was down 29% for the quarter; and Global Industries (GLBL), a provider of construction and subsea services to the offshore oil industry primarily in the U.S. Gulf of Mexico, that was down 44% for the quarter.
Of these, PAL, GMXR, UXG, AXAS, ACI and FST are the only ones that are being accumulated by high alpha or guru funds that have a long-term track record of beating the market averages. In contrast, NG and BPZ are under heavy distribution by guru funds based on the latest available March 2011 quarter 13-F filings. Furthermore, guru funds have no ownership in ROYL, SHZ, GSS, RBY, and CHGS.
Credit: Historical fundamentals including operating metrics and stock ownership information were derived using SEC filings data, I-Metrix® by Edgar Online®, Zacks Investment Research, Thomson Reuters and Briefing.com. The information and data is believed to be accurate, but no guarantees or representations are made.
Disclaimer: Material presented here is for informational purposes only. Nothing in this article should be taken as a solicitation to purchase or sell securities. Before buying or selling any stock you should do your own research and reach your own conclusion. Further, these are our ‘opinions’ and we may be wrong. We may have positions in securities mentioned in this article. You should take this into consideration before acting on any advice given in this article. If this makes you uncomfortable, then do not listen to our thoughts and opinions. The contents of this article do not take into consideration your individual investment objectives so consult with your own financial adviser before making an investment decision. Investing includes certain risks including loss of principal.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.