Cocktail Party Stocks
Golf, and Nothing But Golf
Get Your Motor Running
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One of my favorite mutual funds used to be an offering from a big Boston investment house that took the favorite picks of a large number of the company’s stock and bond fund managers and put them all into one fund.
Think of it! A large-cap managers’ favorite large-cap, a tech fund manager’s top technology pick, and so on. It seemed ideal.
The trouble was, the fund consistently underperformed both the broad market and the funds run by the various managers. It seemed that the manager’s success with their funds was more due to their portfolio construction and risk management than to their stock picking.
But performance wasn’t why I liked the fund. What I loved was its nickname, which was “The Cocktail Party Fund.”
It was called that because it was made up of the various managers’ favorite stock stories, the ones that they would talk about if someone asked them about a stock at a party.
At Cabot, we like stocks with good stories, too. We’ve always said that anyone who’s going to invest in a stock should be able to give a summary of why they were buying. (It’s the equivalent of the elevator pitch, which requires you to say--in the minute or so it takes an elevator to zip from floor to floor--why a company ought to hire you.)
I still believe that. If you don’t have real clarity about what makes a stock a good place to risk your money, you shouldn’t buy. (And “some guy on television likes it” doesn’t qualify.) And that real clear reason is often a good story.
But I want to talk just a bit about the danger of relying too heavily on story. Because a great story just isn’t enough; you also need solid fundamentals and a supportive chart.
As a China and emerging markets guy, I used to love China Medical (CMED). The company had a nice, stable sales base of medical diagnostic kits that were cheap, simple and easy to read, perfect for small clinics in rural China.
But the company also had a high-intensity focused ultrasound (HIFU) machine that could destroy tumors by heating them. No incisions were required and there was no pain. It seemed like a fabulous technology to me (and other investors as well), and we kept waiting for the HIFU machine to get a clinical trial in the U.S. or Europe that would unlock the Western market.
A small trial ultimately got underway at a medical center in Washington state, but there was never a definitive result. China Medical ultimately sold the HIFU technology to another company and CMED is now trading just above its March 2009 lows. Some stories just don’t have happy endings.
I still get questions about CMED from people who loved it and would gladly buy back in just to be able to tell the HIFU story ... if the company still had it. It was a perfect cocktail party stock.
Pharmaceuticals and other health stocks are great sources of stories that may or may not bear fruit. (I once got a stock tip from my doctor (!) who had it from a drug salesman that a particular drug was going to push its company’s stock through the roof. Didn’t happen.)
MELA Sciences (MELA) is another great example. The company’s MelaFind optical detector has reportedly had great clinical results, identifying malignant melanomas on patients’ skin at a much higher rate than that achieved by dermatologists alone. The company was featured in Cabot Wealth Advisory back in July 2009, when it was still known as Electro Optical Sciences. The stock got a great boost a month later, zipping from 7 to 11 in just a few weeks.
But in late March, the FDA asked the company to produce more details on its clinical trials and the stock nose-dived right back to 7 again, which is what you could have bought it for in 2006.
The MelaFind story is powerful, especially because there’s an entire generation of sun-loving Baby Boomers poised to suffer the consequences of their blithe sun worship. Melanoma is a deadly cancer, and early detection is vital, which is exactly the MelaFind’s specialty.
But, as investors have been finding out for years, story isn’t enough.
Some investors, either because they will be lucky enough to buy at the right time, or because they were just too stubborn to sell, will probably make good money on MELA. Probably. (The approval by the FDA isn’t actually a cinch, after all.)
But a company with a record of real earnings growth and a chart that shows investors piling in and pushing the price up is still a better bet.
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Even though I played my first round of golf during my freshman year at college, I’ve been a fan for much longer. Whatever people may think of the relative merits of golf versus, say, football, baseball, basketball or Nascar, there’s a freedom to the game that fascinates me.
All you have to do is hit the ball in the right place. There’s nobody guarding you or harassing you. Nobody plays defense. There’s no clock (except for the PGA’s TV-inspired limits, which penalize only the pokiest players).
There has also never been a perfect game. You can’t pitch a shutout or bowl a 300.
And anyone who has ever played knows that every once in a while you can uncork a shot that feels fabulous, whether it’s ripping a drive or landing an approach close to the hole or sinking a tough putt. The number of people who have said to themselves that “if I could just hit that shot all the time, I’d be on the Tour” is probably huge.
But being able to hit good shots with millions of people watching and millions of dollars on the line is excruciatingly hard. It takes a kind of discipline and talent that very few people have.
I’ll be watching The Masters tournament this week, just as I always do. I’ll have the same goofy bets on the outcome with my friend in North Carolina.
But I’ll be watching with the sound turned off.
I want to see golf, not some morality play or an attempt to peer into the soul of any of the players. I’m going to try to enjoy it despite the self-righteous, salacious inquisitiveness of the swarming media ghouls. (You can add the appropriate epithets to the preceding sentence yourself.)
For me, there is one story in Augusta, Georgia, this week, and that’s the attempt by hundreds of talented golfers to make peace with a superbly testing golf course. My appreciation will be greater because, after years of watching this same course humble the great and (occasionally) exalt the daring, I know the course well, even though I’ve never played it, and never will.
Golf and The Masters will survive this year’s short-lived circus of notoriety. And that’s what I’ll be watching: Golf and The Masters. Period.
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My stock idea today--China Electric Motor (CELM)--is appropriate for fans of high-risk, high-potential stocks. The company makes small electric motors of the kind that power automobile windshield wipers, lawn trimmers, hair dryers and air conditioners. With 31 product lines that include 1,200 different specifications, the company’s motors power an enormous range of devices.
Roughly half of sales go to Chinese customers and sales growth has averaged 78% for the past five years, with earnings increasing every year. The company’s Q4 earnings report on March 31 showed a 50% jump in earnings (to 15 cents a share) on a 58% gain in revenue.
The risk in CELM comes from its thin trading volume (just 256,000 shares a day, on average) and its low price (it came public at 4.5 in January and hasn’t yet topped 7). These figures reflect a potential for high volatility and will probably discourage institutional investors.
But with a product line that will benefit from increasing Chinese sales of consumer goods (like blenders, air conditioners and autos), the potential is there.
I follow companies like China Electric Motor all the time, gauging when they show the right blend of market opportunity, fundamentals and improving investor sentiment to become part of the portfolio for the Cabot China & Emerging Markets Report. When the time is right, I’ll recommend this company, or another with an even better package, to my subscribers. Then I’ll follow up that recommendation with advice about when to buy, when to hold and when to sell.
The results have made the Cabot China & Emerging Markets Report the top-performing investment newsletter for the last five-years, according the authoritative Hulbert Financial Digest.
If that sounds good to you, you can get a no-risk trial subscription by clicking the link below.
http://www.cabot.net/info/cem/cemkj06.aspx?source=wc01
Sincerely,
Paul Goodwin
For Cabot Wealth Advisory
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