PSB Portfolio Update September 2010

| September 21, 2010

September 21, 2010

September Came In August This Year…

September is historically the worst month for stocks.  Since the 1950s, the S&P 500 has dropped an average of 0.6% in September.  February and June are the only other months of the year stocks tend to fall in value.

This year, however, it seems the September Swoon happened a month early.

In August, the S&P 500 dropped more than 4.7%.  And the Russell 2000 dropped over 7.5%.  It was a brutal month for investors.

But so far in September, the market averages are moving higher.

The S&P 500 is up over 7.2%.  And the Russell 2000 is a hefty 8.1% higher.  That breeze you feel is investors everywhere breathing a collective sigh of relief.

So, what gives?

A bunch of discouraging economic news in August sent investors running for the hills.

Second quarter GDP numbers showed the U.S. economy was slipping dangerously close to a double dip recession.  Despite massive economic stimulus, unemployment levels were holding steady at a disappointingly high 9.6%.  And weak housing data seemed to imply another big drop coming for home values.

Then in rode Ben Bernanke on his white horse to the rescue.

The Fed Chairman pledged to do whatever is necessary to stimulate economic growth and prevent a deflationary spiral.  These strong words provided a shot in the arm investors desperately needed.

Now with interest rates near zero already, the Fed can’t lower them any further.

But the Fed can buy government bonds and inject billions of dollars into the monetary system.  This “quantitative easing” strategy can effectively lower interest rates charged on mortgages, corporate loans, and consumer loans.

In other words, by lowering the cost of borrowing, quantitative easing can help stimulate economic growth.

The Fed last did a round of quantitative easing in March.  They bought a whopping $1.7 trillion worth of mortgage and government bonds.  This helped boost economic numbers across the board.  And it sent the market climbing to yearly highs.

So, is the Fed now gearing up for round two?

The scuttlebutt on the Street is the Fed is preparing to buy at least another $1 trillion of Treasury securities.  But there’s disagreement over when the Fed will actually do it.

At this point, I don’t think the timing of the purchase will dramatically affect the market. The fact the Fed’s prepared to act if needed should keep the market moving higher.

Best of all, if the Fed decides another round of quantitative easing isn’t needed, it means the economy is improving.  Given these scenarios, it’s no wonder investors are getting more and more bullish.

Of course, this all bodes well for us.  A growing economy combined with improving investor sentiment means better days ahead for penny stocks.

Now, let’s take a look at the position updates…

Position Updates

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.

. . . . LJ International (NASDAQ: JADE) – Hold

JADE is continuing higher in a solid uptrend.  The shares recently hit a new high of $3.65. That gave us an impressive 37% gain.

Management’s bullish third quarter forecast is driving the shares.  They’re expecting a 30% jump in revenue to $34 million.  And they’re forecasting earnings growth of 200% to $0.15 per share.

JADE is scheduled to report on November 4th.  Hang on to your shares for greater gains.

. . . . Mindspeed Technologies (NASDAQ: MSPD) – Hold

MSPD is on fire!

On Friday, the stock surged over 16% on triple the average daily volume.  Buyers were clearly snapping up shares in a hurry.  What’s more, the stock hit a high of $8.75giving us a sweet 24% gain.

A couple of positive news articles are driving the shares higher.  The articles highlight what we already know.  MSPD has terrific earnings growth potential this year and next.

This is a classic example of what can happen when you get in front of the herd.  The shares are now trading above our buy up to price.  So, I’m moving MSPD from Buy to Hold.

Hang on to your shares for greater gains.

. . . . Group (NASDAQ: WWWW) – Hold

We’re off to a terrific start with this September pick! has been moving steadily higher since we recommended it.  The shares recently hit a high of $5.49.  That gave us an impressive 20% gain in just under two weeks.

The shares are climbing for a couple of reasons…

The first is surprisingly strong earnings guidance for next year.  Remember, management’s projecting earnings of $1 per share.  At a recent price of $5.39, is trading at just 5.4x the 2011 estimate.

What a bargain!

The other reason is speculation over the takeover value of  The self-proclaimed leader in internet domain registration has put itself up for auction.  Word on the Street is the company could sell for more than $1 billion.

Remember, WWWW just purchased, a leading provider of domain registration to small businesses.  If a bidding war breaks out for web services companies,’s market value could soar!

With the shares now trading above our buy up to price, I’m moving from Buy to Hold.  Hang on tight for greater gains.

. . . . PLX Technology (NASDAQ: PLXT) – Buy up to $4.54

PLXT has been moving sideways in lock step with the chip industry index.  But that may not last much longer.  The shares could be gearing for another leg up shortly.

At the Intel Developer Forum last week, the company unveiled the world’s first PCI Express (PCIe) Gen 3 switch.  This cutting edge hardware is capable of moving 64 gigabits of data per second over optical fiber.

That’s 6 times faster than 10 gigabit Ethernet!

The demonstration was meant to show OEMs how to future-proof their systems with Gen 3 technology.  According to Gartner Group, PCIe is expected to dominate the interface with enterprise solid state drives by 2013.

PLXT is already shipping over one million units of PCIe products per quarter.  And the company has more than 65% share of the PCIe switch market.  Looks like PLXT will continue dominating this market for years to come.

Go ahead and buy PLXT up to $4.54 per share.

. . . . FSI International (NASDAQ: FSII) – Hold

Concerns about a slowdown happening in the chip industry are weighing on FSII shares. Several industry heavyweights have warned chip sales growth may be weakening.

For example, Intel recently cut their revenue target for the third quarter due to weaker than expected consumer demand for personal computers.  And Samsung warned we might see an oversupply of memory chips early next year if global computer demand weakens further.

However, despite the gloomy outlooks, chip sales continue growing.

Global chip sales increased 1.2% in July from the prior month to just over $25 billion.  And they’re up an impressive 47% year over year.  What’s more, the Semiconductor Industry Association is sticking by its forecast of 28% growth for the year.

Investor attitudes toward chip equipment stocks should improve soon.

The second half of the year usually sees stronger tech spending.  Consumers tend to spend more for back to school and holiday purchases.  And corporations typically spend the remainder of their annual tech budgets.

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

Given the current uncertainty, I’m moving FSII from Buy to Hold.  Let’s give the trade a little more time to develop.

. . . . SMART Modular Technologies (NASDAQ: SMOD) – Buy up to $6.14

SMOD is moving higher in a nice uptrend.  The shares are up more than 25% from the late August lows.  Investors are piling back into the shares ahead of fiscal year 2010 earnings.

Here’s why…

The company’s expected to post huge year over year increases in both revenue and earnings.  Analysts are looking for revenue growth of 56% to $689 million.  And earnings are expected to soar nearly 25-fold to $0.75 per share.

Despite the recent rally, SMOD shares are still misvalued…

At a recent price of $5.59, the shares are trading at just 7.5x the FY 2010 estimate. That’s a low P/E for a company expected to grow earnings 28% annually over the next five years.  In fact, the company’s PEG ratio works out to a paltry 0.27.

Given the stock’s huge growth potential and misvalued share price, we’re maintaining our Buy rating.  However, to reflect the drop in share price, we’re lowering our buy up to price to $6.14.

SMOD offers 97% upside to our price target of $11.  Grab your shares now if you haven’t already.

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

TGB is moving higher in a solid uptrend.  Since early July, the shares are up more than 32%.  Strong second quarter earnings are keeping the rally going.

Here’s a quick recap…

Revenue increased 7% to $54.7 million.  Net earnings soared nearly four-fold to $45.4 million or $0.24 per share.  And earnings beat analysts’ estimates by 380%!

Significantly higher copper and molybdenum prices drove the increases.

Copper prices are up 26% over the past year.  A falling dollar and insatiable demand in China are behind the rise.  What’s more, strong economic growth in China is expected to fuel even higher copper prices next year.

This is great news for TGB and for us.  Continue holding TGB for greater gains!

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

LLEN keeps knocking the ball out of the park!

Take a look at their fantastic first quarter (FY 2011) results…

Revenue soared 395% to $55.3 million.  Net income rose an impressive 306% to $10.9 million.  And earnings surged 177% to $0.36 per share.

What else can I say but… Wow!

Strategic acquisitions, lower production costs, and higher coal prices drove the increases. What’s more, strong economic growth in China is expected to continue driving robust demand for coal.

Despite these stellar numbers, LLEN shares have been declining recently.  A negative Barron’s article is weighing on many Chinese stocks including LLEN.

But I’m not worried about it…

I don’t think the negative attitude toward LLEN will last for long.  Eventually, the company’s outstanding financial performance and sound management will win out.

We’ve already booked a big profit on half the position.  Let’s hang on to the remaining shares for bigger gains to come.

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

In last month’s Update, I told you about the company’s outstanding second quarter earnings.  I also talked about management boosting revenue and earnings guidance for all of 2010.

Now, management has offered up another gift to shareholders.

They’ve authorized a share buyback program.  Under the program, the company will repurchase up to $1 million worth of ZSTN shares in the open market.

This is great for ZSTN and for us…

Share buybacks reduce the number of shares outstanding.  This helps increase earnings per share.  It also shows management has tons of confidence in the company’s growth outlook.

Now ZSTN has pulled back a bit after last month’s huge rally.  Remember, the shares surged 66% in just six weeks!  But the pullback is nothing to worry about.  Stocks often pause to consolidate huge short-term gains.

With the shares now trading below our buy up to price, I’m moving ZSTN from Hold to Buy. Grab your shares of ZSTN now if you haven’t already.  ZSTN is a buy all the way up to $6.50 a share.

. . . . Information Services Group (NASDAQ: III) – Hold

Management’s cautious business outlook is still weighing on the shares.  But as we said in the last Update, it’s too early to throw in the towel.

Clients cannot afford to put off their outsourcing needs indefinitely.  And III could have a strong fourth quarter as clients spend their outsourcing budgets before year’s end.

Continue holding III for a potentially big recovery in outsourcing advisory services.

. . . . Kulicke & Soffa (NASDAQ: KLIC) – Hold

KLIC has not been performing well lately.

The company spooked investors when they warned about a major customer delaying orders.  Then a few Wall Street analysts lowered estimates for this year and next.

The prevailing opinion now is chip equipment makers will have a phenomenal year in 2010 but growth will slow in 2011.  This attitude is keeping a tight lid on chip equipment stocks… especially KLIC.

It also didn’t help matters any when CEO and co-founder, C. Scott Kulicke, announced he’s retiring on September 30th.  He’s being replaced by former Lattice Semiconductor CEO, Bruno Guilmart.

Despite the recent concerns, I still think KLIC offers significant upside potential. The company’s expected to post earnings of $1.95 a share this year and $1.62 a share next year.  And next year’s earnings could move much higher if the economic recovery strengthens.

However, given the current uncertainty, I’m moving KLIC from Buy to Hold.  If you already own the shares, hang on to them.  Let’s give this trade more time to play out.

. . . . China Natural Gas (NASDAQ: CHNG) – Hold

CHNG is going through some turmoil to say the least.

Last month management announced the company had inadvertently defaulted on a note and warrant agreement.  After consulting with the Audit Committee, the Board decided it had to restate financial statements for 2009 and the first quarter of 2010.

This event caused CHNG shares to drop 37% in August.

Then on September 7th, the company said it had hired Big Four accounting firm Ernst & Young to help develop better internal controls.  This boosted investor confidence in a big way.  And the shares rallied 40% over the next few days.

Now the shares have pulled back again as some investors exit the shares.

Normally when a company has financial reporting issues, I say hit the eject button. But in this case, I think we should hang on to our shares.

Here’s why…

Late last week, management said the restatements weren’t necessary after all.  They had two independent law firms review the matter.  And both of them said the company was never in default on the note or warrants.

The company is now working with their independent auditors to restate the restated financial statements.

I have to admit this whole situation smells fishy at first.  But the company’s law firm and accountants are both highly reputable firms.  I don’t believe they would advise CHNG to do something as extraordinary as restate restated financials without firm legal footing.

They must believe it’s the right thing to do.

And that changes everything…

Right now CHNG is suffering from a lack of investor confidence.  But when the smoke clears, I think investors will see management did what they were supposed to do… even though it reflected badly on themselves and the company.

This should help restore investor confidence fairly quickly.

What’s more, restored confidence should get the shares moving higher.

Let’s give this trade more time to develop.  I’m a big fan of the company’s natural gas businesses.  And natural gas is poised to play a much bigger role in supplying China’s energy needs.

Continue holding CHNG for a major turnaround.

. . . . SkyPeople Fruit Juice (NASDAQ: SPU) – Hold

After reporting terrific second quarter numbers, SPU threw investors for a loop.  They announced a secondary offering of nearly 5.2 million shares at $5.00 per share.

News of the offering sent SPU down immediately to just under $5.00.

The timing of the deal was unfortunate for us as SPU was trending higher.  But the company raised almost $25 million in cash.  They plan on using it to make needed improvements to their facilities.

This is good for us longer term.  The improvements should make the company more productive and more profitable.

Right now we need to be patient.

The shares are badly oversold at these levels.

I expect bargain hunters will move in and scoop up shares in short order.  Remember, we’re into the harvest and squeezing season now… the third and fourth quarters are typically SPU’s biggest selling and most profitable quarters.

For now, I’m going to keep SPU at a Hold.  I want to see the shares stabilize before moving them to a Buy.  If you already own SPU, continue holding for better times ahead.

Action To Take

  • Move Mindspeed Technologies (NASDAQ: MSPD) from Buy to Hold
  • Move Group (NASDAQ: WWWW) from Buy to Hold
  • Move FSI International (NASDAQ: FSII) from Buy to Hold
  • Move ZST Digital Networks (NASDAQ: ZSTN) from Hold to Buy
  • Move Kulicke & Soffa (NASDAQ: KLIC) from Buy to Hold

Category: PSB Portfolio Updates

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