PSB Portfolio Update June 2010

| June 15, 2010

June 15, 2010

What’s Going On In China?

This month I want to take a closer look at the situation in China.  We have a number of Chinese companies in our portfolio.  So, what happens in China has a big impact on our trading.

Chinese stocks have struggled so far in 2010.  The Shanghai Stock Exchange is down more than 20% for the year.  And many of our Chinese penny stocks are down as well.

But it looks like the correction has found bottom.

Investors are realizing China is still the fastest growing major economy.  Europe is sliding headfirst into a double-dip recession.  And the U.S. economic recovery is slow and steady.

In contrast, China continues to grow rapidly.  Exports surged 48.5% in May.  And industrial production rose 16.5%.

More importantly, the industrial production figure was down slightly from the year ago period.  This is a good sign China’s economy is growing at a strong pace, but not overheating… not yet anyway.

Given the steep correction and solid growth in China, I believe Chinese stocks are due for a rally.  It could last a few weeks to a few months.  We’ll have to see how it plays out.

However, once the rally is done, Chinese stocks may tread water or worse yet give it all back.  There are some warning signs inflation is starting to heat up.

Consumer prices climbed through the important 3% level in May.  Producer prices are up more than 7%.  And many are concerned China’s real estate market is reaching bubble levels.

This puts the Chinese government in a very difficult spot.

They’re going to have to delicately tap the brakes to keep inflation in check.  But they need to be careful of hitting the brakes too hard and squelching economic growth.

At some point, investors are going to factor this difficult balancing act into market prices. I’m guessing they’ll be worried the Chinese won’t be able to pull it off.

What’s the upshot of all this?

I’m going to be watching our Chinese stocks very closely going forward.  And there’s a good chance we’ll be exiting most if not all of them during the next upward move.  So, be sure to read each new issue and update as we roll them out.

Now, let’s see how our positions are doing…

Please Note:  We don’t necessarily update every open position each month.  We focus on the positions experiencing significant news, notable price movement, or a change in recommendation.  Please refer to the Performance page on our website for our current buy, sell, or hold recommendation for any positions not mentioned in the Update.

Position Updates

. . . . Trailer Bridge (NASDAQ: TRBR) – Sell

It’s time to push the eject button on TRBR.  The company missed earnings estimates last quarter.  And analysts have recently cut estimates across the board.

It looks like TRBR is poised to fall further.

Let’s exit now to conserve capital for better opportunities.  Go ahead and sell TRBR.  Be sure to use a limit order when placing your trade.

. . . . Human Genome Sciences (NASDAQ: HGSI) – Hold

We got some great news from HGSI last week.  The company has officially applied for FDA approval of lupus drug, Benlysta.  The shares are moving higher on the news.

Remember, FDA approval of Benlysta could send HGSI soaring again.

The ongoing rally looks very strong.  Even news the FDA won’t approve the company’s hepatitis C drug can’t derail the Benlysta enthusiasm.

The shares are now up a solid 29% since early May!

Right now HGSI is trading completely on potential FDA approval of Benlysta.  Investors are buying shares after the recent pullback to get in ahead of the FDA decision.

Continue holding HGSI for greater gains.

. . . . SMART Modular Technologies (NASDAQ: SMOD) – Buy up to $6.88

We’re off to a good start with our newest recommendation.  SMOD traded up to a new high of $6.46.  That gave us a nice 5% gain right off the bat.

Not bad considering we’re in the middle of a market correction.

Next up for SMOD are third quarter earnings.  They’re scheduled to report after the market close on Thursday, June 17th.  If they can beat estimates, the stock should jump.

Analysts are expecting revenue to rise 96% to $180 million.  And they’re looking for earnings to increase from a one cent loss a year ago to a profit of $0.18 per share.

If you haven’t bought your shares yet, grab them now.  SMOD may blow through our buy up to price if earnings are strong.

. . . . Nova Measuring Instruments (NASDAQ: NVMI) – Buy up to $5.00

Our other pick from the June issue is also off to a solid start.  NVMI climbed to a new high of $4.55.  That gave us a nice gain of 5% in just our first two weeks.

Not even the market correction can keep these shares down.

NVMI is jumping on great news.  The company snared an important new customer… a large DRAM manufacturer.

This new customer just purchased a stand-alone metrology system.  And they placed a multi-million dollar order for several integrated metrology systems.

These orders will provide an immediate revenue boost.  Most of the systems are scheduled to ship in the current quarter and the next.

The chip equipment recovery is clearly alive and well.  And NVMI is right at the center of it.  According to the company’s CEO, NVMI is “playing a larger role in new capacity build-ups, and [is] well positioned to continue capitalizing on these positive trends.”

Don’t miss your opportunity to get into NVMI.  The shares may not stay below our buy up to price much longer.

. . . . Taseko Mines (AMEX: TGB) – Hold

TGB shareholders received great news the other day.  The British Columbia provincial government has granted TGB a 25-year mining lease for the Prosperity gold-copper project.

This is another important step forward in development of the Prosperity mine.  The mining lease is the highest form of ownership rights for minerals found in publicly-owned land.  And it gives TGB the right to use the land for mining purposes.

Furthermore, securing a mining lease is an important condition of the company’s agreement with Franco Nevada.  Remember, the Franco Nevada deal provides 45% of the funding needed for the Prosperity project.  Now TGB can check that condition off the list.

Continue holding TGB for greater gains.

. . . . L&L Energy (NASDAQ: LLEN) – Hold

LLEN is breaking out their checkbook again.  The company is looking into buying a 51% stake in Shunda Mining.  If the deal passes due diligence, LLEN will invest an undisclosed amount into Shunda.

The deal offers terrific growth opportunity for LLEN.

Shunda has two operating coal mines producing 750,000 tons of coal per year.  And they have a coal washing facility producing 900,000 tons per year.

The funds from LLEN will be used to finish construction of a new coking facility with production capacity of 1 million tons.  And they’ll increase production capacity of the coal washing facility to 1.2 million tons.

Management expects the deal to add to earnings within the first year.

Once the deal’s done, we could see management raise their FY2010 and FY2011 guidance again.  If so, the shares are even more misvalued than we showed in our last update.

For now, we’re sticking with our $16.00 price target.  That’s just 12x the 2011 estimate of $1.33 per share.  We may revise it higher if management raises guidance. Continue holding LLEN for greater gains.

. . . . GT Solar International (NASDAQ: SOLR) – Buy up to $6.00

SOLR is continuing to see their business recover.  Check out their fourth quarter numbers.

Revenue jumped 12% from third quarter levels to $194.7 million.  A sequential increase like this is a good sign business is expanding.

Although net income fell slightly to $33.3 million, it was still 182% higher than the year ago period.  And earnings surged 188% year over year to $0.23 per share.

Best of all, both revenue and earnings beat analysts’ estimates.

Management cited strong demand and high order rates as reasons for the company’s outperformance.  The company’s Asian customers are making “significant investments to increase capacity…”

And demand for the company’s products keeps growing.

SOLR just announced the sale of $70 million worth of polysilicon production equipment. The customer is a major polysilicon maker in Asia.

This strong demand should continue at least throughout fiscal year 2011 (ends in March 2011).

Management just raised their revenue and profit forecast to the upper end of previous guidance.  And analysts have boosted revenue and earnings estimates across the board.

We need to remain patient with the shares.

They haven’t moved up on this great news because of concerns about the coming slowdown in Europe.  However, if strong demand in China, the U.S., and India can make up for Europe, we should see SOLR surge higher.

Let’s give this trade a bit more time to work out.  SOLR remains a buy.  But we’re lowering the buy up to price to $6.00.

. . . . ZST Digital Networks (NASDAQ: ZSTN) – Buy up to $6.50

China’s IPTV market just got a major assist from the government.

Up until now, IPTV has been hampered by a turf war among Chinese government agencies. Separate agencies protecting cable and telecom companies have prevented either industry from offering competing services.  This has slowed the nationwide rollout of IPTV.

The deadlock now appears to be broken.

Last week, senior Chinese government officials specified each agency’s sphere of authority.  The nation’s cable regulator now has exclusive control over content on IPTV. And the Ministry of Industry and Information Technology has complete authority over data transmission of the video feed.

This imposed truce now clears the way for a two-year nationwide trial period for triple play services.  A state sponsored research institute estimates the IPTV market opportunity at $100 billion.

ZSTN is perfectly positioned to cash in on this opportunity.  Remember, they dominate the IPTV set-top box market in China’s largest province.  And they have developed strong brand recognition.

I’m expecting ZSTN to benefit nicely from the coming growth spurt in IPTV.

The shares have dropped in the recent market correction.  You now have a great opportunity to pick up shares at a big discount.  Grab your shares now if you haven’t already.

Due to the recent price drop, I’m lowering our buy up to price to $6.50.

. . . . China Natural Gas (NASDAQ: CHNG) – Buy up to $8.00

Great news for CHNG!  The Chinese government is going to raise wholesale natural gas prices by 25%.  It’s the first price hike in over three years.

CHNG can now raise prices across the board.  They can charge more for pipeline gas.  And they can raise prices at the pump for compressed natural gas.

Higher prices should boost revenue and earnings going forward.

Plus the price hike comes at a good time.

The company is on the verge of completing construction of their new liquefied natural gas (LNG) plant.  This is a lucrative industry.  And now CHNG will be able to sell LNG at higher prices right off the bat.

It looks like the worst is over for CHNG shares.  They appear to have bottomed out. And they look poised for a nice recovery.

If you already own the shares, hang on to them or buy more to lower your cost basis.  If you don’t own CHNG, now’s your chance to grab shares at a big discount.

. . . . China Marine Food Group (AMEX: CMFO) – Hold

CMFO has been rocked by volatility in recent days.  The shares dropped 15% yesterday on bald accusations of fraud against the company.  And they’ve bounced back nearly 6% today after the company denied the allegations.

Here’s how it went down.

A blogger accused the company of defrauding shareholders with the recent purchase of Shishi Xianghe Food Science and Technology (Xianghe).  They’re the makers of the “Hi-Power” marine algae-based drink.

Specifically, the blogger took issue with CMFO buying Xianghe for roughly $28 million.  I’m not going to refute each of his ridiculous points.  The key is this guy clearly has no clue about valuing a business.

But that’s not even the worst of it.

Without any evidence, this guy accused CMFO’s majority owner of using the Xianghe transaction to put the $28 million into his own pocket.  I’ve never seen such a blatant hatchet job.

So why would some guy bash CMFO out of the blue?

The disclosure at the bottom of his nonsensical rant says it all.  He’s got a short position in CMFO.

Hmmm… he’s got a short position in the stock… he writes a blog accusing the company of fraud with absolutely no evidence to back it up… and the shares go down 15%.  Looks like a clear-cut case of stock manipulation to me.

I think the acquisition of Xianghe is great for CMFO.

Hi-Power generated $7.6 million in sales in the second half of 2009.  Sales of Hi-Power are expected to add $20 million to CMFO’s top line this year.  And this product should generate $4 million in profit.

These aren’t just pie in the sky forecasts either.

CMFO has sold $4.9 million worth of Hi-Power drinks through the first five months of 2009. And sales are accelerating.  May 2010 sales surged 20% over April’s levels.

How is this a bad deal for CMFO?

I fully expect CMFO shares to recover from this temporary downturn.  However, until the dust settles, I’m moving the shares from buy to hold.

. . . . China Gengsheng Minerals (AMEX: CHGS) – Hold

Our patience with CHGS may be starting to pay off.  The shares appear to have bottomed.  And now they’re starting to move higher.

The shares got a boost from recent bullish economic numbers.  Chinese exports surged a whopping 48.5% in May.  It was the second straight monthly increase.  And they handily beat economist estimates of a 30.2% increase.

The data show China’s economic growth is continuing at a robust pace.

They also show the recovery in global markets is gaining momentum.  And most importantly, they indicate the European debt crisis has not impacted the global economic recovery.

This is good for CHGS because they need to boost exports of higher margin fracture proppants.

However, rising consumer and producer price indexes in China are reigniting fears of growing inflation.  If the trend continues, China may be forced to raise interest rates. Higher interest rates could dampen China’s economic growth.

We’ll have to wait and see how this plays out.

In the meantime, CHGS shares are starting to move upward.  It’s not clear if this is the beginning of a new bullish uptrend or just a bear market rally.  We’ll be keeping a close eye on the shares to see what develops.

As a result, we’re moving CHGS from buy to hold for now.

. . . . Tianyin Pharmaceuticals (AMEX: TPI) – Hold

TPI is getting dragged down in the broad correction of Chinese pharmaceutical stocks.  A number of the larger drug stocks got way overvalued.  So we’re seeing a price correction in the entire sector right now.

Unfortunately, TPI is getting caught up in it despite having a low valuation.

Right now the shares are sitting at a critical support level.  If it holds, the shares should make a new upward move.  If it doesn’t, we’ll need to exit the trade to conserve capital.

We’ll be keeping a close eye on the shares in the days and weeks ahead.  For now, we’re moving TPI from buy to hold.

. . . . China Pharma Holdings (AMEX: CPHI) – Hold

CPHI is caught up in the Chinese drug stock correction as well.  They too are trading at a critical support level.  We’ll be watching CPHI like a hawk to see if support holds here.  For now, we’re keeping CPHI at a hold.

Action To Take

  • Sell Trailer Bridge (NASDAQ: TRBR)
  • Move China Marine Food Group (AMEX: CMFO) from Buy to Hold
  • Move China Gengsheng Minerals (AMEX: CHGS) from Buy to Hold
  • Move Tianyin Pharmaceuticals (AMEX: TPI) from Buy to Hold

Category: PSB Portfolio Updates

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