The Dark Horse Hedge
By Scott Brown at Sabrient, and Ilene, at Phil’s Stock World
Scott Brown, Managing Director – Retail Division at Sabrient, is launching a newsletter with Phil’s Stock World based on the highly successful and popular Investors’ (H)Edge product. The Dark Horse Hedge newsletter is a Long/Short retail portfolio taking advantage of technical market trends to tilt the balance of LONG vs. SHORT in bearish, bullish or range bound markets for added Alpha (the measure of return on a risk adjusted basis). Long and short equity positions taken in The Dark Horse Hedge portfolio will be chosen using to Sabrient’s rating system, which is primarily based on fundamental criteria. Because the stock positions will generally be held for intermediate to long periods, these positions are ideal for using with option strategies taught by Phil Davis, of Phil’s Stock World.
The Dark Horse Hedge (DHH) newsletter will follow a number of guidelines in an attempt to minimize systemic risk, or “Beta.” Beta is a measure of the volatility of a portfolio in comparison to the market as a whole. To keep beta low, the DHH portfolio will have both long and short positions. Consequently, dramatic moves in the market will always be in the direction of at least part of the portfolio.
Using Sabrient’s rating system, we will focus on being long high quality stocks, and short low quality stocks. Long positions should fare better than average during market selloffs. In contrast, the short positions, selected from the lowest ranking stocks, should perform well during selloffs. These stocks are also expected to underperform higher quality names in a stronger market. This strategy is designed to balance the goal of attaining Alpha with the desire to keep Beta relatively low.
We will follow this list of guidelines in building the DHH portfolio.
1. When fully invested, the Portfolio will have 24 positions. However the portfolio may not be fully invested.
2. Tilting (or weighing) of the portfolio will be based on the position of the SPX relative to its 50 and 200 day Moving Averages
- If the SPX is below both its 50 and 200 day MA the portfolio will be tilted SHORT with 67% SHORT and 33% LONG (i.e. up to 16 SHORT and 8 LONG positions when fully invested)
- If the SPX is between its 50 and 200 day MA the portfolio will be balanced equally LONG and SHORT (i.e. up to 12 LONG and 12 SHORT positions when fully invested)
- If the SPX is above both its 50 and 200 day MA the portfolio will be tilted LONG with 67% LONG and 33% SHORT (i.e. up to 16 LONG and 8 SHORT when fully invested)
3. A hysteresis will be used around the tilting to avoid whipsaws.
4. 10% will be maintained in Cash for swing trade alerts. Exceptions may be made to devote more than 10% of the portfolio’s value in in swing trades when presented with compelling opportunities.
5. Each position will be monitored daily with alerts for changes on the next trading day open.
6. Portfolio assumes a $100,000 starting account using leverage of the LONG positions to SHORT.
Positions are chosen using the Sabrient Outlook Score and Top and Bottom ranked stocks.
The S&P is currently under both the 50 and 200 day MA so we are starting with a short tilt of 4 SHORT and 2 LONG.
stockcharts.com
Here are the initial positions we are going to take to achieve a bearishly weighted, partially invested portfolio. As we follow the market moves over the next week, we will begin adding positions to fill out the portfolio.
For each position, we will allocate 7.5% of our total portfolio value to each of the below positions. Click on stock symbols for Sabrient’s research reports.
SHORTS:
The St. Joe Company, JOE, $23.16
Sabrient rating: Strong sell
The St. Joe Company, together with its subsidiaries, operates as a real estate development company in Florida. The company operates in four segments: Residential Real Estate, Commercial Real Estate, Rural Land Sales, and Forestry.
As St. Joe’s is a major land owner and property developer in Northwest Florida, about 70% of St. Joe’s properties are within 15 miles of the “now imperiled coastline.” It doesn’t matter that they purchased 577,000 acres at a low price. The bottom line is that contractors have already found tar balls on St. Joe’s beaches and nobody wants that kind of beachfront property.
USG Corporation, USG, $12.08
Sabrient rating: Strong sell
USG Corporation, through its subsidiaries, engages in the manufacture and distribution of building materials primarily under SHEETROCK, DUROCK, and FIBEROCK brands worldwide.
On June 24, Moody’s Investors Services downgraded two credit ratings of building materials company USG Corp citing a dim outlook for the building sector. The ratings agency said that USG has low capacity usage rates at its gypsum manufacturing facilities. It believes that demand for gypsum board, used for walls and ceilings, and other building materials won’t be enough for USG to cover its intermediate term interest expenses.
USG has been losing money for several years and the losses are expected to continue for several more years. The bad news from the housing industry over the past week does nothing to improve the outlook for USG, and I think USG is more likely than not to continue to trend back toward its 2009 low, which was below $5.00 a share.
Houston American Energy Corp, HUSA, $9.86
Sabrient rating: Hold
Houston American Energy Corp. engages in the exploration, development, and production of natural gas, crude oil, and condensate. It primarily focuses on properties located in the United States. Last Monday (June 28), Sharesleuth.compublished an article about HUSA expressing a number of concerns, including concerns about the management team’s history, questionable valuations on the Columbian estimates, and significant ties to people with prior SEC troubles. From Sharesleuth.com:
A SPECTACULAR DEAL?
The gains are linked largely to Houston American’s deal last October for a 25 percent interest in a Colombian oil prospect controlled by SK Energy Co., one of Asia’s biggest producers, refiners and marketers.
Houston American said in an investor presentation and subsequent Securities and Exchange Commission filing that the prospect was estimated to hold anywhere from 1 billion to 4 billion barrels of “recoverable reserves.”
The latter figure exceeds the official proved and probable reserves for all of Colombia, and stands as one of the most audacious claims by any of the energy companies operating in that country.
Houston American did not cite a consultant’s report or any other independent study as the source of its estimate. Nor did the company offer any qualifiers, such as the percentage of those reserves it has a reasonable certainty of producing…
Regardless of Sharesleuth’s allegations, the company is trading at 81x earnings in a business that its peers receive 22x valuations. All of this leads me to believe that HUSA is overvalued at $10/share.
AMAG Pharmaceuticals, Inc., AMAG, $34. 35
Sabrient rating: Strong sell
AMAG Pharmaceuticals, Inc., a biopharmaceutical company, engages in the development and commercialization of therapeutic iron compounds to treat iron deficiency anemia (IDA) in the United States, Europe, and Japan.
Applying Sabrient’s rating system, AMAG scores very poorly on several key rating measures. Specifically, a fundamentals score of 4.5 out of a possible 100 (industry average 52.1), measuring the company’s financial health, a balance sheet score of 39.2 out of 100 (industry average 68.8), measuring a company’s liquidity and debt issues, and a value score of 39 out of 100 (industry average 51.6), which measures the company’s stock price against its intrinsic value. These factors combine to suggest AMAG as a good short candidate.
Earnings and Revenue Update: For the quarter ended March 31, 2010, AMAG Pharmaceuticals reported earnings of $-23.1 million or $-1.15 per share compared with $-18.4 million or $-1.07 per share for the prior quarter and $-26.4 million or $-1.55 per share for the same quarter one year ago. Revenues were $13.3 million for the quarter ended March 31, 2010 compared with $13.1 million for the prior quarter and $1.0 million for the same quarter one year ago. Last twelve months’ earnings were $-5.06 per share compared with $-5.23 per share a year ago. Last twelve months’ revenues were $29.5 million compared with $2.3 million a year ago.
AMAG has the dubious distinction of being on the Top 10 highest short-interest companies at 30.2%. Analysts project a loss for the year of $3.88/share and $2.02/share in 2011 which is the “good” news. Estimates for the upcoming quarter have been revised downward from -$.76 to -$.97 in the last 30 days.
LONGS:
Xyratex Ltd, XRTX, $14.15 (trading higher after hours)
Sabrient rating: Strong buy
Xyratex Ltd provides modular enterprise-class data storage solutions and storage process technology. The company designs, develops, and manufactures enabling technology that supports storage and data communication networks.
Xyratex Ltd (XRTX) reported a quarterly profit that beat market estimates as it benefited from strong demand for its storage products. Net income for the second quarter ended May 31 was $43.7 million, or $1.39 a share, compared with a loss of $9.6 million, or 33 cents per share, a year earlier. Excluding items, earnings were $1.49 a share. Revenue rose 134 percent to $455.9 million.
Analysts expected earnings of $1.35 a share, excluding exceptional items, on revenue of $430.3 million, according to Thomson Reuters I/B/E/S. For the third quarter, the company forecast earnings of 87 cents to $1.16 a share, excluding items, on revenue of $385 million to $435 million.
Telecom Argentina S.A., TEO, $16.43
Sabrient rating: Strong buy
Telecom Argentina S.A., together with its subsidiaries, provides telephone services to residential and corporate customers in Argentina. It operates in two segments, Voice, Data, and Internet Services; and Wireless Telecommunication Services.
TEO operates at a 22.6% profit margin compared with the industry average of 2.95%. Additionally, the current P/E is 8.67 while the industry trades at a multiple of 15.95. Lastly the PPE (Projected P/E based on 5 year forecast) is .75 against the industry average of 1.55. So as a value purchase we are adding TEO at 1/2 the price of its peers. TEO’s earnings were up more than 30% for 2009 and are expected to be up nearly as much this year.
*****
Key economic data will come out Thursday and Friday which will determine the short-term market direction. The S&P broke key technical support levels at 1040 today as the Dark Cross formed with the 50 day MA crossing the 200 day MA downward. This pattern has not proven to be as predictive of a bearish sentiment occurring when the 50 day MA crosses the 200 day MA in an upward direction but is worth noting. There are no clear support levels until around 980 on the S&P so the bearish tilt SHORT is in place.
Disclaimer: This newsletter is published solely for informational purposes and is not to be construed as advice or a recommendation to specific individuals. Individuals should take into account their personal financial circumstances in acting on any rankings or stock selections provided by Sabrient. Sabrient makes no representations that the techniques used in its rankings or selections will result in or guarantee profits in trading. Trading involves risk, including possible loss of principal and other losses, and past performance is no indication of future results. More Sabrient Disclaimer here.
Stock selection by Scott using Sabrient‘s analytical tools.
Authors have no positions in the above-mentioned stocks.
