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Ashraf Eassa
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  • Reflections On ARM

    As someone who is fairly public with his calls here on Seeking Alpha, I will tell you that I get a lot of flak. For every couple of folks who appreciates the effort I put into a piece, there's always that individual that takes my work personally and sends a particularly hateful message to my inbox. I get it, especially whenever I make a bad call (and believe me, it happens; I'm only human), and sometimes it can be downright demoralizing. Sure, the "red" in my account hurts too, but I usually have enough convictions in my position to be able to wait it out (and I don't risk enough on any one position to crater my portfolio if it turns out I'm really wrong)

    Today, I'm going to take a step back and analyze just what's "going wrong" with my call on ARM Holdings (ARMH), a company that I have been wrong on thus far (short recommendation at $37 - $38 on November 28th). But first, let me explain my motivation for writing this.

    People Hate Short Sellers

    It's unfortunate, but sometimes a piece of "hate mail" really sticks out to the point where I feel it necessary to respond. This particular message was sent to me filled to the brim with ad hominem attacks:

    (click to enlarge)

    In this message, I am accused of "causing subscribers to lose their hard earned money". making "psychotic statements", and for being completely clueless. Now, I have to defend myself and point out that I did not recommend shorting ARM until the stock hit the $38 level, so anybody following my advice is down only a mere 12%. Not the best call on the planet, but certainly not the biggest wealth destruction move ever. One sizable correction and anybody who followed me can get out unscathed (or just sell a LEAP put and call it a day, but I digress...)

    Further, I need to defend myself on the accusation of "psychotic statements" -- everthing I write is backed up with hard data when applicable, and when I take liberties to "guess" on where I believe the industry is going, it is usually accompanied with reasoning that is, to the best of my knowledge, based on factually correct notions. I could be wrong, but I certainly take issue with being accused of beingdishonest.

    On the issue of being "clueless", I will simply defer that judgement to my readers at large, as my perspective is likely to be colored by the notion that I am, in fact, biased towards myself!

    Anyway, this article is being written to be useful, so I'll get to the point that I'm trying to make: analyzing my mistake with respect to the ARM short position.

    Investing Versus Trading

    When it comes to taking any position (long or short), you have to ask yourself a couple of things:

    • Am I taking a long term position or a short term position?
    • Are you taking a position on what you believe regarding the fundamentals, or are you trying to swing trade?
    • Can you afford to be wrong in the near- to medium term?
    • Can you afford to be wrong in the long term? If so, what would cause you to give up?

    A quick look at ARM's chart shows a stock that's actually quite nicely intact:

    (click to enlarge)

    Look at that...beautiful! Stock is above the 50 DMA, the 50 DMA is above the 200 DMA, and ARM's CEO is great at rallying up the investment community on why ARM is the best company ever.

    If you're looking for a near-term trade, then I would look at waiting for the stock to test the 50 DMA. If it can hold that level, then it might be a good idea to buy the bounce, but if it breaks through that on heavy volume, then it's probably best to sell/short it. I'll leave it to hardcore charting software and chart experts to make that call.

    But if you're in this for the long term and actually have a thesis in mind, then you have to come up with what you think the company is worth (multiple, and then your model of future earnings/growth rate). If your model suggests that the risk/reward looks good, then make your particular bet and have the means to remain solvent no matter what. Hedge appropriately, have an exit strategy, and so on. I personally think the stock is worth $20 - $25 per share, and I further believe that upside risk is probably about $3 - $5 from here, so I'm still shorting. However, someone else may have an entirely different view/model, and I certainly respect that.

    But see, it doesn't matter that my initial call at $38ish is down -- so what? $5/share? Again, that's 11% so not exactly breaking my bank, especially as I still believe that in the end, I'm going to make money. But I have to deal with the idea that I could be wrong, and I have to accept that it could cost me money.

    Am I Wrong?

    When a position goes against you, it is imperative to ask "why" it's going badly. In order to truly know your position, you need to have a exquisite understanding of the opposing view. So, as ARM continues its rise, I ask myself, "am I wrong?"

    To answer this question, I ask the following sub-questions:

    • Do the 2014 earnings estimates on which the forward multiple is dependent look reasonable?
    • Are the main drivers of the stock price still intact?
    • Does it look likely that the thesis that I have in mind will play out within a reasonable time frame?

    Right now, I believe ARM is flying high because of its dominant position in smartphones and the multiple growth opportunities that the Street sees in servers, internet of things, and so on. The expectation is that in 2013, revenue growth will slow slightly to ~15% from 2012's 19%, but then accelerate in 2014 to post 17% growth. The idea, then, is that since ARM's IP licensing/royalty model offers fairly substantial earnings leverage, that EPS will grow quite substantially over these next couple of years from $0.70/share in 2012 to $0.85/share in 2013 and $1.12/share in 2014 (note the dramatic acceleration into 2014).

    My view is that such acceleration, especially by the end of 2014, will be impeded primarily by Intel's (INTC) increasingly aggressive push into the smartphone/tablet space (35% of ARM's net income comes from these spaces), which should, at the very least, keep ARM from raising royalties on its licensees in a bid to compete with Intel, which has a very favorable cost structure for this kind of business. I also think that a potential dark horse in the form of Imagination Technologies, especially with all of the key MIPS (MIPS) CPU IP, could emerge as a viable alternative for low cost core/graphics IP for the rapidly growing, low cost smartphone/tablet spaces which further caps any potential royalty license rate increases on ARM's part.

    I could be wrong, but that is the bet that I am choosing to make, especially as past history has shown Intel to be a voracious competitor in the end markets that it chooses to compete in, albeit it is not always quite "first".

    As far as I'm concerned, those 2014 estimates are far too high, and my thesis will either be proven or disproven as 2013 marches on, especially as we see Intel become much more fierce a competitor in tablets in the second half of 2013. Smartphone share gains, I expect, don't really have a material effect on ARM's growth rate until 2014.

    So as far as a long term thesis, I still see no reason to believe it to be false, but in terms of purely short term drivers, I don't see an immediate catalyst to help compress ARM's valuations. It is very likely that I will continue to be "wrong".


    Shorting a stock on valuation is tough, especially when the catalyst is seemingly nearly a year away. I expect this position to continue to be "painful", and I wouldn't be surprised if I keep looking like I'm "wrong" for the near future. Short positions are tough to hold, and I could end up coming out of this looking completely wrong, but before writing me off as someone who spouts "psychotic" statements, understand that there is a rationale here. I want to make it clear that you should only follow this trade if you believe that the negative catalysts that I believe will show up will actually show up. In short, my articles are a starting point for further research, and incremental datapoints as they become available. I try my best to make good calls, but I'm only human.

    Disclosure: I am short ARMH.

    Additional disclosure: long INTC

    Tags: ARMH
    Mar 11 1:03 AM | Link | 8 Comments
  • Learn From Your Mistakes

    As many of you are aware, Jim Cramer is a television personality who makes frequent appearances on CNBC. Many retail investors look to him for wisdom and advice, and quite frankly, I think the guy is incredibly smart and has a near encyclopedic knowledge of a multitude of stocks. His advice is generally very simple: if the stock has improving fundamentals and is on an uptrend, buy it. If the stock is seeing deteriorating fundamentals and is on a downtrend, sell it.

    It's simple, it's easy, and quite frankly, it's a strategy that will make you a lot of money in a bull market. This is what the folks who rely on CNBC need -- simple, actionable advice that is likely to pay off in the near term. Your average Joe wannabe investor doesn't have the guts or the patience to go contrarian, and quite frankly, contrarian bets are very tough to see through to the end. Cramer's style works for the most part, and he's also pretty entertaining.

    Even Jim Cramer Is Wrong...You Will Be Too

    I see it all the time. Whenever Cramer makes a "bad" call, he usually gets lambasted for it by the "investing public". Jon Stewart tore the man to shreds on "The Daily Show" for making the wrong call on Bear Stearns. Yep, Mr. Cramer made a bad call and the stock went to $0. Whoops!

    So, tell me, have you ever made a bad call? Have you ever had a bullish thesis that eventually played out the exact opposite as you thought it would? Or maybe you simply didn't have all the facts? Raise your hand if you have. Anybody who didn't raise a hand (or at least answer 'yes' to the question in your heads) is one of the following:

    1. The most amazing stock picker/trader ever in the history of the stock market
    2. Not truthful

    Sorry, but I don't believe in unicorns and pixie dust, so I'm thinking that #1 isn't viable. You're deluding yourself if you think that you're a perfect stock picker and have never made a bad call/pick. You've made some bad ones, I've certainly made bad calls, and even the world's best hedge fund managers have made bad calls.

    It's okay to be wrong, but it's important to learn the right lessons from those mistakes.

    Learn Your Lessons, And Cut Your Losses

    Whenever anybody makes an investment in a stock, it is usually predicated on a thesis that the company will ultimately grow sales and earnings over a particular period of time. This could be due to a belief that the demand environment for a particular product will improve dramatically, or that a company will take market share from other players. Perhaps you see catalysts that others don't seem to be talking abut too much.

    The point is, when you buy, you have a reason. As long as you have reason to believe that this thesis is intact, you should be willing to buy more shares on the way down (that's why I never buy it all at once). But when the thesis doesn't play out/turns out to be wrong, then you absolutely need to reevaluate your investment.

    It's okay to change your mind. Really! If the facts change, then you are doing yourself a disservice by hanging on. It's okay to take a loss if things go sour and you decide that you really don't want to own that company/ETF anymore. You'll lose money, but don't let losses get deeper and deeper. More importantly, learn the lessons from it. Ask yourself the following questions:

    • What changed?
    • Were there any "clues" that I missed that will be helpful to look or if I'm trying to invest in a similar situation again?
    • Is there a plausible case that I can see for a recovery/rebound?
    • Did I employ proper risk management techniques to minimize the damage from the losses?
    • What would I do differently next time?
    • Did I even do my due diligence?

    If you learn the lessons, you'll become a better investor. If you simply blame it on "short sellers" and "rigged markets" then you're not going to get anywhere. Life isn't fair, and the financial markets are doubly unfair. It is raw, unbridled capitalism in these markets and you need your wits and you need guts to survive. But above all else, you need to make mistakes so that you can learn what not to do in the future. This is worth more than a few lucky trades. A lot more.

    Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.

    Mar 04 10:21 AM | Link | 3 Comments
  • NEW! Ask Your Stock Questions Every Week!

    I have thoroughly enjoyed my time on SA, but I would like to expand my role here to serve YOU, the reader. So I'm going to try a little experiment...

    Every week I'm going to set up an instablog, just like this one, and I'd love to have you ask me YOUR questions! Want an in-depth analysis of a stock that nobody talks about? Or maybe you want my opinion on a few tickers? Perhaps you're wondering if right now is the right time to pull the trigger on a stock you've been looking for and maybe want help weighing the pros and cons? Or maybe you just have a question about one aspect of a company that you follow/own?

    Think of this as Jim Cramer's "Lightning Round", only exclusively about technology stocks, and with the potential for a very detailed analysis!

    What I plan to do is, for the majority of tickers, do a "quick pick and list" giving a general impression of the company and my views on it. For a really juicy, not widely covered ticker (or if I just have a lot to say), then it could lead a full, focus-ticker article.

    This is a mutually beneficial gig: I get to look at stocks I might not have otherwise looked at, and hopefully in return you will find my comments helpful. It will also lead to very intriguing discussion between all of the readers of the article (believe me, my readers sometimes post much more insightful comments than my entire articles!)

    Think of this instablog as the "kick-off" article -- start leaving your tickers, specific questions, and more here!

    Jan 27 12:53 AM | Link | 21 Comments
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    1 day ago
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    5 days ago
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