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Today’s story starts back in 1987, soon after I joined Cabot as a full-time employee. One of my first jobs was selecting a computer system so that we could transfer our subscriber records from file cards to an electronic database.
The software we chose ran on a Macintosh, so we bought the best we could, a new Macintosh SE, a compact machine that could be carried in one hand and had a 9" diagonal black and white screen, an 8 MHz processor, 1 MB of RAM, and dual floppy disk drives. Price: $2900. To hold our subscriber records, we needed a big external drive, so we bought a 60 MB hard disk. The price: $3,000.
Today a basic iMac comes with a 20" color screen, a 2 GHz processor, 1GB of RAM, and a DVD drive. Total price: $1200. And that includes a hard drive that holds 250 GB of data!
If I still want a separate external hard drive, I can get one that holds 500 GB, and costs only $115.
Or I can buy a 1 GB USB “thumb drive” for a mere $10.
My point: according to my informal unscientific measurements, today’s basic Macintosh outperforms the best Macintosh of 20 years ago by factors of 250, 1000, and 4166 ... while prices (not adjusted for inflation) have fallen perhaps 80%.
The price of a byte of storage has fallen 99.99999%!!
I bring this up today because I’ve been thinking of Parallels, Models and Similarities. Because while history doesn’t repeat exactly, it often rhymes. And because I have two investment ideas that promise great profits - one short-term and one long-term - in part because of factors that parallel my observations of the evolution of the personal computer.
First the short-term idea.
It’s Western Digital Corp (WDC), a leading maker of hard disk drives. Western Digital’s drives can be found in corporate servers, in desktop computers, in portable computers, in backup applications and in consumer electronics, like DVRs, gaming systems, karaoke systems and video surveillance systems. In short, they’re everywhere.
You can buy a Western Digital drive directly, but half the company’s output goes to OEMs who put them in their own products ... because they’re basically commodities.
As such, Western Digital is caught in a never-ending race to make its products better and cheaper, and to do it before the competition.
It’s a cutthroat business, and because of that, hard drive makers have never been great long-term investments.
WDC, for example, came public in 1974. Its stock peaked at 10 that year. In 1984 it traded at 3. In 1994 it traded at 10 and in 2004 it also traded at 10. Not so hot.
Many other companies have done worse. No longer in business are old names like Integral, Tandem, Control Data, MiniScribe and Connor Peripherals. Little Iomega, a thrilling and very profitable investment for us back in 1995 after the Zip drive came out, has lost money in five of the last six years and was just “bought” (in a complex transaction) by Great Wall Technology, which is majority-owned by the Chinese government. Last year, Seagate bought Maxtor for $1.9 billion. And early this year, Western Digital acquired Komag for $1 billion.
That leaves only four companies - Western Digital, Seagate, Samsung, and Hitachi - manufacturing over 98% of the world’s hard drives. Samsung and Hitachi, of course, are electronic behemoths; hard drives are just a fraction of their business.
But why would you want to invest in a hard disk maker anyway? Because historically, these companies have provided many opportunities to make big money quickly, and it looks like we’re entering one of those periods today.
What typically happens in the industry is that as business improves and profits increase, companies expand so they can increase revenues. But the increased production, typically the result of expansion by several firms, means capacity begins to exceed demand, so manufacturers cut prices to move product. Trouble is, that reduces profitability, and as earnings fall, investors desert the stocks. And it’s not until demand for product increases and allows product prices to stabilize that earnings can creep up and the good times return.
All the while, of course, all companies are involved in the never-ending race to increase storage capacities and reduce prices.
So why is WDC attractive today? Because it’s strong ... stronger than Seagate (STX) and stronger than the broad market.
Here’s what editor Mike Cintolo wrote in a recent issue of Cabot Top Ten Report.
“Right now, the industry’s fundamentals are outstanding - lower production from a couple of Asian competitors has kept inventory levels low, while demand remains very strong thanks to an explosion in mobile device sales (the firm’s mobile-related drive sales were up 55% in the third quarter) and healthy growth in computer and digital video recorder shipments. The result: Third quarter earnings crushed estimates by 39%, and the firm just upped its fourth quarter outlook last week. All told, we expect the positive news flow to continue for the intermediate-term.
WDC peaked at 25 in February of 2006, fell to 16 by March of this year, and has been strongly uptrending since. The best aspects of the chart, however, occurred just in the past few weeks - the surge at the start of November was caused by a great earnings report, the stock held up well during the market’s November slide, and last week’s push to new multi-year peaks came on a higher fourth-quarter forecast. WDC is extended to the upside, but we don’t believe a big pullback will come. You can buy a little here, and look to add on strength.”
I think that advice is still good today, but if you buy, I caution you not to fall in love with the stock. If you do, I guarantee it’ll break your heart.
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The long-term investment idea is one I’ve been writing about all year ...solar power.
And the parallel to the computer industry’s past decades is simple.
Solar power cells, like the processors and RAM memory in computers, are built (for the most part) on silicon ... otherwise known as beach sand. There’s plenty of it in the world, but transforming it into high-value electronic components takes time, money and technological expertise.
And until now, the desire and the money just haven’t been there.
But today we have both. Thanks in part to booming growth in China and India, oil is expensive, and there’s no sign it will ever be cheap again. At the same time, there’s growing pressure to address the global warming problem by finding alternatives to fossil fuels.
So money is flowing into solar cell companies. Revenues are growing at triple-digit rates. The profits are very very good, for both producers and investors. The technology is improving steadily. And economies of scale are beginning to kick in.
We’ve seen what the past two decades - familiarly known as the computer decade and Internet decade - have brought in the way of progress in the computer industry. Some progress came from technological advances, while some came from increasing economies of scale.
Now imagine what the next decade will bring in the way of improvement in the solar power industry as the world concentrates on solving the energy problem!
There’s no doubt we’ll see technological progress on a number of fronts. It’s hard to imagine how it could equal the progress made in computing technology, but the demand is there, and the money is there, so I’m confident progress will follow.
And then there will come great progress from economies of scale. We’re still in the early stages here; all the companies in the industry still measure their production capacity in megawatts (MW), but just as the computer industry’s measurements grew from megabytes to gigabytes, so will the solar industry progress from megawatts from gigawatts (GW).
A one-megawatt system, by the way, running continuously at full capacity, could power 778 households each year, according to the U.S. Department of Energy. Trouble is, no location is always sunny, so no system runs at full capacity all the time.
Today, several manufacturers have production capacity topping 500 MW, and several are promising to exceed 1GW in a few years.
In sum, I foresee a glorious decade - and more - for solar power companies, and for far-sighted investors who commit money to their stocks.
As for names, I’ve mentioned First Solar (FSLR) many times before, and that company is still the leader. In fact it hit new highs today, so if you own it you should hold on tight.
But there are many other attractive players in the industry, and I think the potential for these companies is so great that I’ve created a new advisory service that will focus on them ... and other companies in related industries ... and I’ll tell you all about it in Saturday’s edition of Cabot Wealth Advisory.
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Editor’s Note
First Solar has been in the Model Portfolio of Cabot Market Letter since March, and our profit in the stock now exceeds 300%. Other stocks in the portfolio are up less, but in total they’ve propelled the portfolio to a gain of 57.5% (according to Hulbert) for the twelve months ended October 31. In the same period, the Wilshire 5000 was up just 15.1%.
But Cabot Market Letter is more than just a portfolio; it’s a full-featured investment advisory, with award-winning market timing, allocation advice, and in-depth educational features designed to make you a better investors.
To get started with a no-risk trial subscription, simply click the link below.
http://cabotinvestors.com/ecmlhcwa17.html
Yours in pursuit of wisdom and wealth,
Timothy Lutts
Publisher
Cabot Wealth Advisory
