Every year our AmTech Research analysts put together a report to present AmTech's favorite trends and stock picks going in to the new year. As in the past, many of our picks are contrary to consensus thinking as we continue to prefer stories that are in their early stages or are not fully understood by the Street and, as such, should offer greater upside potential as objectives are realized and the stories gain momentum.
We were fortunate with our 2007 picks, as several of our top ideas found favor with the investment community. As investors embraced several themes and drove stock prices throughout the year for both solar and wireless/mobile data, the performance for our 2007 top picks substantially outperformed any of the major indices. The performance of the group of stocks (AmTech's Top Stock Picks for 2007) equally-weighted generated a return of 43%. This calculation includes adjustments for our follow-on reports as pertains to ratings downgrades and dropping of coverage of several names during the course of the year. This compares to returns of 4.2% for the S&P500, 9.0% for NASDAQ, and 7.0% for the DJIA over the same time frame (1/5/07 thru 12/31/07). Standout performers included SPWR +262%, RIMM +141%, CY +114% and NOK up 93%, three of which we are including among our best ideas for 2008 as we remain confident that there is substantial incremental upside still to be realized and valuation remains compelling along with story fundamentals.
Performance Summary (1/05/07 thru 12/31/07)
This year, with a slowing economy and weakening market performance going in to 2008, we have selected two sectors to focus on – Alternative Energy and Internet – as well as a handful of individual stocks that we believe offer unique stories that should reward investors in 2008.
2008 – Not Even Half-way Through the First Month and Already Pain Has Been Inflicted
Less than two weeks into the New Year, fear, uncertainty and doubt soaring along with the increasing likelihood of recession as the staunch aversion of global investors to American consumer exposure has propelled equities to disquieting decumbent levels. With the NASDAQ descending a quick 7%, the SOX plummeting 11%, and both the DJIA and S&P down 4%, U.S. equities are off to an ominous start for 2008 as investors face a shaky financial services industry, a strapped consumer, a sinking dollar, dislocation in credit markets, increasing volatility in equities, and general broad-spread pessimism among other factors not conducive to putting money to work in an unforgiving market. Oil prices have re-emerged as a significant concern for global equity markets having doubled in the past year and quadrupled in the past four years. Robust growth and potent demand from the emerging markets continues to drive increases in demand. For example, automobiles in China increased by roughly 25% last year. While oil prices will more than likely continue to have a negative impact on investor psychology and potentially consumer spending, it is a catalyst to find ways to move away from fossil fuels and provides a strong impetus for the continuing proliferation of the alternative energy industry.
The Consumer, Real Estate and Mortgages
Having been resilient for years despite widespread predictions of slowing consumer spending, it would appear that a decline is finally inevitable. Unlike the market downturn from 2000-2002 when surging real estate prices permitted the consumer to leverage his most significant financial asset and effectively utilize his home as an ATM, we are now seeing both declining real estate prices along with a massive mortgage debacle. Couple this with an effective savings rate of zero, which has persisted for years, and one might beg the question of where the U.S. consumer can turn to now to finance a seemingly insatiable appetite of consumption. With default rates accelerating and the financial industry in severe turmoil, any hopes that the consumer might maintain substantial spending levels seems quite a stretch. The solvency of mortgage giant Countrywide is in question, and the sub-prime write-offs and the players who have been impacted seem to be continuing to increase. The deterioration of the consumer credit appears to continue to not only be problematic, but arguably to be increasing in magnitude weekly based on the news flow. One might argue that with the decline in housing values and an aging boomer population, the average savings rate is more likely to see an uptick to better position oneself for retirement and long-term security, increasing the likelihood that consumer spending might actually not only decline substantially, but that this could make for a trend that could last for several years, or at a minimum until the real estate and mortgage situation has eased, and values along with home inventories have stabilized.
December Quarter 2007 – So Far So Good – Where are the Pre-announcements?
Surprisingly perhaps, we have seen a very benign pre-announcement season thus far with no significant misses or guide-downs 10 days beyond quarter end. Indeed, there seems to be little concern about December quarter reports, but rather intense trepidation about what most companies may have to say about the outlook for next quarter and beyond. Moreover, there is abundant angst over what appears to be lofty full year consensus estimates for many companies in numerous sectors. And lastly, the "sell-first, figure-it-out-later" mentality with virtually any stock considered possibly sporting a plethoric multiple has caused investors to unload even the highest-quality, strong secular growth and long-time darlings such as AAPL, FSLR, SPWR, etc.
Very Narrow Leadership – Needed the Horsepower of a Few Great Stocks in 2007. Likely Again in 2008
Exceeding the market last year necessitated owning the very narrow group of leadership stocks which accounted for a disproportionate amount of market returns. Portfolio managers concentrated in names such as RIMM, GOOG, AMZN, AAPL, NOK, SPWR, FSLR and HPQ had phenomenal performance. However, 2007 proved to be a very challenging year for many investors, especially those managers with a bias towards valuation stories. We observed sundry investors, many of whom are very astute with a consistent history of market-beating returns, who simply struggled to make sense of the market or to find ways to make money. Thus far, the stock action in 2008 portends a similarly difficult market environment with a likely diminutive quantity of companies able to buck the trend of declining consumer spending, and stagnant IT spending that will seek to optimize ROI in an insidious investment environment. If the more pessimistic global economic scenarios unfold this year, there will be few places within the equity markets in which to hide. However, we believe that some of the stronger current societal inclinations will avail some investors to position their portfolios to reap prodigious returns.
Global Warming? Alternative Energy Will Prosper
It has been our contention for quite some time that pandemic fear of global warming, carbon footprints and excessive greenhouse gases will instigate an amalgamation of investors, scientists, journalists, opportunists and activists to spawn new companies, investments and such enormous broad-spread interest in alternative energy that this industry will proliferate for the next decade and beyond. We believe there is such tremendous secular growth and legs to this story that the venture community will pour resources into this sector on such a scale that this industry will see growth dynamics and excitement similar to the internet and technology development of the 1990s. The motivation of the global populace coupled with the visibility and attention that the media brings to this movement generates an unrivaled opportunity in our view to satisfy a societal desire for altruism to improve the planet while simultaneously providing a gargantuan profit opportunity. Thus, despite a very challenging macro and market backdrop, we maintain our strong conviction that investments in alternative energy companies, while continuing to be volatile, will reward investors with the patience to own the top companies for the long term.
LEDs in 2008 Will Be Like Solar 2007
Despite the phenomenal performance by industry leaders such as SPWR and FSLR, we believe the recent pull-backs in the stocks of these companies will prove to be fortuitous for investors who can tolerate the volatility. As we have written extensively in the second half of last year, we also believe the opportunity for companies such as Cree within the LED space will be enormous. While the solar opportunity excites so many investors due to the unlimited and clean nature of its energy that is so easy to visualize and comprehend, the lighting opportunity with LEDs is similarly vast. The global lighting industry is so antiquated with the same technology entrenched for the past century. Those who have seen or experienced the benefits of LED lighting quickly realize the enormity of the value proposition for a company such as CREE, so well positioned for the next few years and likely the next decade. With 90% energy savings, a lifespan of 20 years, and no harmful environmental impact from toxins such as Mercury from fluorescent lighting, we believe investors will quickly understand the leverage and revenue opportunity for CREE in the coming years and dramatically increase the value currently ascribed this company if it is not bought by a larger company with the vision to leap-frog the competition sooner. LEDs for the general illumination industry are simply the biggest innovation in lighting since Thomas Edison invented the light bulb well over a century ago.
Internet – Still Major Growth Ahead
The growth from the internet along with other more traditional technology companies will continue, but will be increasingly difficult to distinguish and monetize for investors in our view. Nevertheless, we believe that quality companies like Google and Yahoo will continue to attract growth investors and diversified investors seeking safer and liquid companies, which while not immune to a global economic recession, are still likely to sustain growth and outperform. Both companies have already experienced sizable share declines. We believe that over the course of 2008, these internet companies along with emerging markets play MercadoLibre have a strong probability of providing investors both relative and absolute performance.
RIMM – 2008 Should Be Another Great Year
While IT spending is likely to slow, has matured over the past decade, and productivity enhancements for the enterprise are minimal at this point, wireless data still provides significant gains in productivity, is subsidized by the carriers and presents a tremendous value proposition. As RIMM has appreciated 8,500% over the past five years since its low back in October 2002, enumerable skeptics have attempted to pick the top and proclaim the story over. Even as RIMM continues to execute, there are pundits anticipating that we are within a few quarters of witnessing a fundamental peak in the story, and its growth plummeting along with the stock and multiple. We maintain our conviction that RIMM is one company in which investors should keep a core position and invest for the "long-term." Likewise, we believe with the recent pull-back and the stock right around $100, RIMM has created a very high value recurring revenue stream and with only 12 million subscribers in an industry in which 1.2 billion handsets are sold globally, RIMM is only in early stages of this game. RIMM is likely to see its 12 million subscribers grow to 100 million subscribers with an earnings power of $13 to $14 per share within three to four years. While many investors have been reluctant to chase RIMM due to a steep chart and apparently large market cap, RIMM's transformation and creation of shareholder value over the years justifies its valuation. With growth estimates varying widely, but largely in excess of 60% annually, a premium valuation is warranted. The P/E alone puts RIMM below 30 on F2009 and a 20 P/E on F2010. While our price target is a conservative $175, RIMM is one of the few large-cap stocks we believe could realistically still triple or quadruple from current levels over the next few years.
Some Exposure to Quality Companies at a Compelling Valuation Level – Good Risk/Reward for 2008
As we have said, we think 2008 is already shaping up to be a challenging year. With quality companies such as NOK trading so inexpensively, and with HPQ's recent pull-back, we believe investors are likely to see both relative and absolute performance from the quality blue chip names which will likely benefit from a flight to safety/quality if the environment remains so challenging. If conditions improve, these stocks could provide some portfolio octane. Likewise, INTC is dominating over AMD. PC demand is better than the stock price would suggest. With a one year view or longer, we believe INTC is quality at a great price. On the Defense side, we recently launched on Lockheed Martin (NYSE:LMT), which is Peter Arment's top pick. Two weeks into 2008, LMT is very well positioned for long-term growth as it's poised to receive its largest share of the upcoming FY09 DoD Budget in seven years. Coupled with the F-35 entering production, LMT will continue to de-couple itself from its peers and consensus estimates remain way too low.
And lastly, our top healthcare/specialty pharmaceutical name is Forest Laboratories. Why own this here and now? We believe the current FRX share price reflects only the franchise risk to its current core products, but doesn't properly value its pipeline assets. We believe that the stock will benefit from significant positive news flow on the near-term horizon, including: 1) Significant pipeline updates in 2008, and 2) Share buy back to provide support. However, the company does have a pipeline consisting of several interesting assets that could become commercially viable products prior to that timeframe, helping to alleviate the pressure of the transition period. We do not expect all of the pipeline products to make it though the FDA, but believe that several have a decent chance, including nebivolol and milnacipran in 2008.