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My name is Larry Isen. I am a serial stock market investor. I am 57 years old. I've been investing in small stocks for over 20 years. I was born in Buffalo, NY and attended college at the University of Colorado. I have bachelor's degree. I publish an investment newsletter devoted to China based... More
My company:
Emerging China Stocks
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  • Like Roberto Duran: Fund Managers Say No Mas to China Stocks
    It was one of the most famous fights in history. November 25th, 1980- the Superdome in New Orleans- the rematch for the Welterweight championship of the world between Olympic Gold Medalist Sugar Ray Leonard and the sensational Roberto "Hands of Stone" Duran, a national hero in Panama. It was a classic match up of the plodding puncher Duran against a flashy, fast Leonard.

    Leonard and Duran had fought in Montreal earlier that year, and Leonard lost in a decision against a fighter he hated. In the rematch Leonard, who was winning handily, claimed victory in the 8th as Duran turned his back to Leonard and said "No Mas" to the referee. This ended Duran's reign as welterweight champ. It's one of the most famous events in boxing history.

    After the fight Duran claimed to have been suffering from stomach cramps, and announced he was retiring from boxing. He actually retired 22 years later at the age of 50.

    A lot like Roberto Duran, the biggest fund managers who were formerly active in the small cap China space are saying No Mas to the same stocks that have treated them so well in the past.

    The annual post summer Rodman Renshaw conference in NY this past week is usually a coming out party for the China sector. This year it was very well attended by over 100 based China companies, but the mood was somber at best as the news of late has been full of rumor, innuendo, and accusation of fraud on the China front.

    With many small cap China stocks now trading at 3 to 5 times this year's earnings and delivering 50% growth rates, the issues here are certainly worth exploring as these valuations make absolutely no sense- unless the numbers are fraudulent or the market has lost its mind. As it turns out, it's a combination of both.

    The institutional community in the US is now demanding a higher standard from the China based companies as regards accounting reporting. There are 10 stocks of 200 being overtly attacked by short sellers. Assuming there's truth in half the cases, that leaves 195 stocks trading on the AMEX, NASDAQ, or NYSE delivering real numbers and absurdly undervalued.

    Like Roberto Duran, after a little rest and recovery, these fund managers will be back to fight the good fight just like Duran- for another 22 years. But- they are demanding some changes.... Read on.

    Recent Ugly Revelations

    There has been a raft of negative publicity related to China based stocks of late. Want a few ticker symbols? How about ONP, DYP, DGW, CGA, CHBT, and last week's casualty- UTA. All have been the subject of smear campaigns and unusual scrutiny.

    Don't you believe for one second investing in China stocks is dead on Wall Street. Friday, September 17th was a big day. Soufun Holdings Limited (NYSE: SFUN) came public on the NYSE. This company owns a real estate, home improvement, and home furnishing web portal in China.

    The IPO of SFUN was priced at $42. Reminiscent of the rah rah dot com days, SFUN closed at $73.50, for a whopping 75% gain on opening day for those lucky enough to get a piece of this IPO. This is just what the China sector needs to get energized again.

    The institutional community seems content with the information coming out of Baidu (NYSE: BIDU) and Soufun (NYSE: SFUN), but is turning its back on the small cap stocks.

    Here's a few examples of the recent stocks under attack from short sellers:

    • Orient Paper (AMEX: ONP): This one probably represented the tipping point. The company was attacked by a newly minted web site:, who claimed the company's books were fraudulent and based most of their allegations on the name of a subsidiary, and that subsidiary's differential in the numbers on the taxes it was paying relative to the financial performance ONP was reporting. The company responded by hiring outside independent auditors from a major firm to review the company's reporting.
    • China Biotics (NASDAQ: CHBT): This company has been under attack based on its filings with the SAIC- something you will hear more about. In short, their filings on which they pay their taxes in China do not match their filings on which they base their earnings and financial performance in the US.
    • Duoyuan Printing (NYSE: DYP): This story is just butt ugly, and there's no doubt there is some sort of fraud going on in this situation. This company was smart enough to hire Big 4 accounting firm Deloitte Touche as their accounting firm- but they outsmarted themselves. Deloitte simply wanted to know how they spent a little over $3 million in expenses, and the company thought it was too much to ask for. As a result, Deloitte was fired, and since then there has been a wholesale defection of board members and top management. Clearly, something does stink at this one. Sounds to me like management was siphoning of some funds for itself- deja vu Dennis Koslowski of Tyco fame who ended up in jail.
    • Duoyan Global Water (NYSE: DGW): Duoyan Water has the misfortune of having some of the same founding shareholders and the same Chairman as the former Chairman of DYP- the Chairman also happens to be the largest single shareholder. DGW has had no compliance issues with auditor Grant Thorton, and is making a pre emptive strike by getting a third party to review its compliance standards. The market is throwing out the baby with the bath water here.
    • China Green Agriculture (NYSE: CGA): This fertilizer producer has recently had its numbers called into question. Again- there's no proof or investigation the numbers are fraudulent- simply unqualified authors who are getting their message out are questioning their reporting based on items in the financials they claim just don't make sense.
    • Universal Travel (NYSE: UTA): This is the latest casualty of a short attack based on rumor in innuendo this week. The free fall was precipitated by a professional short seller- John Hempton of Bronte Capital wrote a scathing "expose" wherein he demonstrated the company's web sites didn't provide him with Western style online travel services. He concluded the company is nothing but a phone in travel service, and claimed their numbers must be fraudulent based on their labor overhead vs their revenues. Conveniently, Hempton is located in Australia, and therefore enjoys a level of insulation from both civil law suit and SEC investigation.
    There's a few more examples of companies falling victim to either their own self induced foibles or fabricated attacks from those standing to gain. It's the perfect storm for the short sellers to have their way with the public- the market environment is one in which investors will sell first to preserve capital, and find out the truth later. This group of short sellers is extremely well organized and knows how to work the media to their benefit.

    The August 30th edition of Barron's contained a featured article entitled "The Big Dangers Of Small Stocks From China". This article was a beauty. Claims were made about the performance of many small stocks, but when one really drilled down and got the facts, the claims in the article were baseless. In fact, most of the stocks mentioned in the article did perform well during certain periods aligning with market conditions, and all out performed the major indexes as measured from the time they really began to trade some volume. If you want to read the fact based rebuttal to the nonsense, click here.

    Part and parcel of these attacks is of course, the blood sucking attorneys. Law firms are popping up everywhere filing class action suits based on the conclusions of the uncredentialed noise makers. No doubt, this was all organized in advance as well.

    As I said, well organized, using the media, and winning the battles on the short side. Not that I have any problem with short selling. I believe any investor who does their homework should profit from digging up information that allows them to gain from their knowledge. Just legitimately borrow the stock according to SEC regs and short all you want. Over the years, I have been very critical of the SEC's failure to prevent the illegal naked short selling that was allowed to run rampant in small stocks. It took the run on the bank stocks in the '08 crisis for them to do something about it.

    The biggest fund managers in the small to mid cap China space are now like Roberto Duran- they are saying No Mas- no more investing in positions without some changes in corporate governance out of China based companies with US listings.

    Here's what they want:

    • Big 4 Audits wherein the big boys at the audit firms in the US are willing to sign off on the audits.
    • More transparency in the financial presentations from the companies.
    • It would help if the PCOAB- the auditors oversight board, was allowed in China. This is the Public Accounting Oversight Board created by Sarbanes Oxley to audit the auditors. The Chinese government has not allowed it in China.
    • SAIC conformity: This has been an issue that has plagued a few companies. SAIC is the State Administration For Industry and Commerce. Companies within China report their sales and profits to this organization in China for the purpose of paying taxes. There have been some discrepancies between the numbers companies report to the SAIC, and the numbers they report in the US accounting filings. The SAIC numbers are lower to avoid paying higher taxes.
    The view of the institutional US community: We've funded you with billions, so now you have to do things our way, or take the highway.

    Over the past two days I have broached these issues face to face with the CFOs of several small cap China based companies, and there will be some changes across the board. Some of them are getting the message.

    For example, the CFO of Biostar Pharma (NASDAQ: BSPM) told me the company was reluctant to hire a Big 4 accounting firm as the cost was 4 times what they were paying a reputable Hong Kong based auditor. CFO Bill Chen,formerly an auditor in China with Earnst and Young, knows his stuff. He did tell me the audits coming out of his Hong Kong based auditor were exhaustive. Lower level accountants were sent for days at a time to stores carrying their products all around China, and they would count merchandise as it left the shelves. All distributors were contacted to confirm sales, and all bank accounts were reviewed at the banking level.

    In their next 10Q filing, this CFO intents to disclose the numbers BSPM files with the SAIC along with disclosure according to US SEC standards.

    He also explained to me there were still many cultural differences between the way business is done in the Far East, and the way it is done in the US. For example, he views it as business as usual in China to report lower numbers to avoid taxes. Most retail businesses with cash registers report little of their revenue. The tax code is more of a guideline, and there are often negotiations between companies and the government concerning how much they will pay in taxes and how they will report their top and bottom lines. He felt the SAIC reporting differences were blown way out of proportion.

    In my view, this institutional buyers strike against the China small cap stocks is a heaven sent opportunity for individual investors. You simply have to exercise a bit more caution, and be a little more selective. Valuations are likely to stay down as the smoke clears on much of this stuff, and the target rich environment for short sellers diminishes.

    There are many great small companies that will grow and prosper in the "New China". I will be taking a little more time to use my China resources to check channels, review their audit process, know who the auditors are, and check SAIC filings.

    The CEOs of these entrepreneurial China based companies tend to be very hard nosed and frugal. They will resist the costs associated with compliance standards. Those who play ball will be rewarded with better valuations over the longer term.

    There will undoubtedly be more revelations coming out of the short side concerning these China based companies. I'm certain China Media Express (NASDAQ: CCME) is one they are targeting- the short position is inexplicably large, and the valuation has been bashed down to a mind numbingly cheap level. Iconic accounting firm Deloitte Touche is their auditor, but I'm quite certain the shorts have something up their sleeve. When the revelations come out, I'll decide if the stock is a buy when it swoons, or if it's time to exit stage left.

    Fortunes have been made by astute investors who were willing to take a chance when the market decimated a whole sector based on the missteps of a few. Regional banking stocks in the '08 crises come to mind- the market priced many healthy banks for collapse, and fortunes were made by those intrepid investors who waded in at the point of maximum pessimism.

    China companies with Hong Kong listings are faring much better. Valuations and volumes of equivalent sized companies in Hong Kong are currently far better than their US counterparts. Hong Kong global investors are far more comfortable investing in China based companies. Far East investors know Far East companies.

    We're close to the point of maximum pessimism now. It will take some time for the process to run its course, but investors will come out better on the other side. This climate is a great opportunity to invest in great businesses for the long term.

    Disclosure: Long CCME

    Disclosure: Long CCME

    Disclosure: Long CCME

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

    Mar 20 4:42 PM | Link | 6 Comments
  • October Monthly Edition: Part 2 Funds Fleeing All China Stocks
    Funds Fleeing All China Stocks

    For those of you who are following this wasteland of a sector, you might have noticed a big, giant whoosh down in all the China small cap stocks from their already absurdly oversold levels, coupled with a 40% hammering of many of the China large caps that had previously been immune to the fraud issues.

    In case you were wondering, this was another news driven sell-off, where many of the funds who are more "fundamental" in their strategy said just "Get Me Out" of this thing with no regard for price.

    The catalyst for the sell off was what I'll call "non news news".

    This past Friday, Reuters interviewed SEC Enforcement Director Robert Khuzami who commented specifically about the investigators inability to obtain the audit work of Deloitte Touche's China subsidiary on Longtop Financial (NYSE: LTP). This was one of the most very high profile fraud cases as it was a Goldman Sachs IPO.

    Delloite's China division refused to produce its records stating it would be a violation of Chinese law to do so. Chinese law forbids the production of these documents under the guise of a National Security issue.

    Then, on this past Monday, James Doty, the chair of the US Public Accounting Oversight Board, stated as it relates to a proposal to do joint inspections with Chinese regulators:

    "we will have to consider using the tools we have at our disposal, and which the Congress gave us for this purpose, to protect investors,"

    Chinese Regulators and US Regulators sat down in July to discuss moving this forward, and they agreed to meet again this month. According the Bloomberg, the date has not been set yet.

    Lynn Turner, former chief accountant for the SEC, was interviewed by Bloomberg on this matter. She stated the PCAOB has the authority to impose a variety of sanctions on auditors that won't cooperate with inspections including revoking their registrations.

    The net possible result of all this if the Chinese won't cooperate and allow the inspections? The PCAOB could revoke the registrations of all the audit firms who do business in China. This would result in all China based companies failing to comply with SEC reporting standards. They would all be relegated to the Pink Sheets as non reporting companies, or possibly completely de listed as US public companies if the SEC chose to go there.

    The reason I say this was "non news news" is that it has been widely known investigators have not been able to obtain these records on Longtop under the guise of national security issues for some time. I had read about it months ago.

    The only thing that has changed is there's a couple of regulators answering some questions to the news media about the issue.

    However, it does appear the US is beefing up the public rhetoric on this issue, and looking for some sort of resolution to the problem.

    The market is interpreting this to mean there's now a whole new level of risk which could effect all the companies with China businesses who trade with US listings. The honest companies could now get the axe as well, and the market is pricing in that risk.

    Congress Gets in the Act

    News out of the US Senate is not too China friendly either. Our legislators voted 79-19 to pursue a bill which would allow the US government to impose duties on imports from countries who were not allowing their currencies to float in the open market, thereby creating an unfair advantage to the offending country.

    This bill is targeted directly at China on the premise their exports to the US remain unfairly competitive as their currency is artificially weak. A stronger Chinese Yuan would make their exports more expensive in the US, and possibly bring jobs back stateside according to the Senate Logic.

    Guys- if you want to bring back jobs, just drop the corporate tax rate to 15%, and figure out an amnesty program to allow companies to repatriate capital. Nothing to it.

    The Net Result

    The net result of all this negative China sentiment sent stocks reeling to all time lows. All the small caps with any institutional sponsorship dropped 20% to 40% on high volume.

    The Chinese markets, where fraud is not issue, are now trading at 2 year lows. The global environment has investors believing China is going straight from an overheated inflationary economy to a deep recession. The markets are not pricing in a "Soft Landing" scenario for China.

    There's an Op Ed piece in the Wall Street Journal today suggesting this is not the time to publicly pressure China on the appreciation of the Yuan. It has been appreciating slowly over the last couple of years as the Chinese promised, and to the rest of the World the bill before Congress appears to be a desperate recognition we're trying to legislate our way out of this recession.

    It seems unlikely this inspection issue will end up in a worst case scenario. Overtly challenging the Chinese with public threats is not the way to achieve the inspections.

    The Chinese are extremely sensitive to public challenges, and won't care if all their companies lose their US listings if publicly chastised.

    The resolution must happen behind closed doors, and the Chinese will want something in return for allowing the inspections.

    All we need is a resolution to the following issues to see strength come back into the sector:

    • Economic indicators suggesting China's economy will have a soft landing- with lower inflation and slower growth, as opposed to crashing into a recession.
    • A perceived resolution to the banking and Sovereign debt issues in Europe.
    • The market's belief all Chinese stocks won't be de listed which requires help from the Chinese regulators.
    • Signs the US is not falling into a major recession.
    • The Fraud issue quieting in people's minds.

    My thoughts on the macro picture? Glad you asked. Getting all the aforementioned issues resolved is no small feat, but it's worth hanging around for.

    These stocks are getting so cheap there's going to be a massive rebound when all this smoke clears and the ship rights itself.

    I don't know when all this will happen, but when it gets started there will be a 2 year bull market with some of the stocks appreciating 4 and 5 fold from current levels.

    At present I still own all of the stocks in the portfolio. However, I'm now 90% in cash, and for the most part on the sidelines waiting for this irrational flight from risk to pass.

    I believe all these issues will get cleared up eventually, and when they do there will be a massive run in some of these stocks as many of them power past valuations below the cash they have in the bank, straight to 10 times their next 52 weeks of earnings power.

    When we get there, many stocks traded at $1 to $5 will be in the teens. The stocks in the China sector are now much like the Dot-Coms in 2001- fortunes were made investing in the right companies when the market thought all technology companies were closing their doors. If you were around then, watch this sector. Eventually, it will be Deja Vu all over again.

    Warmest Regards,

    Larry Isen

    Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
    Oct 10 3:34 AM | Link | Comment!
  • When Companies Don't Matter Anymore
    Companies Just Don't Matter Anymore

    In the monthly review I generally cover the latest information on each company in the portfolio and provide some sort of outlook.

    At this point it's a waste of time as we're at a stage in the market where companies just don't matter anymore. All that matters is the macro picture.

    The big issue we need to face right now: When will companies matter again? Right now, there is nothing but selling in every China based issue and most stocks globally, and values are falling like a barrel over Niagara Falls. Companies don't matter- selling is all that matters right now.

    So, in my view, here's the big question. Is today's market 1946, 1960, 1962, 1966, 1974, 1987, 1998, and 2002?, or is it 2008 all over again?

    If it's 2008, you should simply sell everything, take your lumps, and get out. If it's any of the other aforementioned years, we're probably within two weeks of the bottom.

    Yale Hirsch, the creator of the "Stock Trader's Almanac", did the definitive study on seasonal patterns in the markets. He studied 1949 to 1975 in great detail.

    After doing an exhaustive study, Hisch found October to be the "Bear Killer". He noted every Post WWII bear market died in October. His study, that included 1946, 1957, 1960, 1962, 1966, and 1974. Going forward after his study, you could also include 1987, 1998, and 2002.

    Here's a more current look at the S&P 500 showing the markets indeed put in their Bear Market lows in October 3 times- 1987, 1988, 2002.

    The exception, and the one that's of course most fresh in everyone's mind, is 2008. If this is a repeat of 2008, we're all better off selling everything and going short. There's no hope for six months:

    Here's the '08/'09 decline in the markets. Note the "Niagara Falls" style drop in September. Very similar to today's market.

    The S&P 500 trades in the 900 range for October, and even bounces slightly in November. Then, it loses another 25% before making its bottom in March of 2009.

    So, I ask again- we October be the Bear Killer it has been for 10 major Bear Markets since WWII, or is there another 25% downside and six months of torture in large cap stocks, which will be far worse for small cap stocks?

    There are a couple of ways to try to get a handle on the potential for an October market bottom.

    One tried and true way is sentiment indicators. As the theory goes, the majority of market participants are always wrong, so when you have major sentiment swings, you simply go the other way.

    As of last week, the latest survey from the American Association of Individual Investors showed only 32.5% are bullish, meaning just under 70% believe the market is headed lower. Good, but not quite extreme enough. This means 3 out 10 believe the market can go higher this year- I'd rather see it be 1 0f 10.

    The Volatility Index - the VIX-can be another good indictor. I've found over the years when the VIX exceeds 40, there's very negative sentiment and it's likely to reverse.

    The VIX was over 40 in the summer of 2010, and we had a strong, multi month rally from there. However, at the height of the 2008 panic, the VIX made it to 90, which shows it is capable of going a lot higher than today's level of about 44.67.

    Sam Stovall, Chief Equity Strategist at S&P, and a guy with good common sense, points out that 8 out of the last 9 times the market has dropped over 10% in Q3, it has rebounded an average of 7.2% in Q4. That's a more pleasant picture.

    There are two main reasons I've decided not to panic and sell everything today: 1. To me, it just doesn't feel like 2008. I just don't believe the potential problems with the banking system in Southern Europe can derail the global economy as much as the market is pricing in, and 2. A gut instinct that the last nasty Bear Market stayed until March 2009, so the current one will find a bottom in October.

    However, I could change my mind tonight, sell everything, and move into a cave until the storm passes.

    Conclusion: Right now- Not in panic mode yet, but it sure is tempting.

    In two weeks I'll be coming up on the one year anniversary of launching this service. After being up 40% in the first two months, it turned very ugly very fast, and it's been dismal ever since. Considering I woke up Jan 1 in a hospital bed after back surgery to start 2011, it's been one miserable year.

    I know there are better times ahead, and I want to be there for the next huge rally in these stocks. From these levels, it could be breathtaking.

    The Giant "Whoosh"

    We might need one more giant "Whoosh" to establish the bottom and set up for a rebound. This would be the point at which everyone completely gives up and sells everything.

    Perhaps it will come in the near term. Watch for it.

    I'll publish a Part II of the monthly edition covering each of the companies in the portfolio. Earnings season will be on us in the next few weeks, and it will help return a little sanity to the markets.

    However, earnings won't matter much. What will matter is what companies say in their outlooks. The market will be hovering on every word as companies attempt to forecast how they see the future.

    Warmest Regards,

    Larry Isen

    Oct 06 2:18 PM | Link | Comment!
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