Sunday, October 30, 2005

Seasonal Factors Favor the Bulls


A volatile stock market tends toward the upside after several false starts. The jumpy market has managed to end on higher highs and higher lows over the last couple of weeks. The S&P500 closed up 19 to end at 1198 on Friday. The 1.6% rise was welcome, albeit on just above average volume. The nasdaq composite rose 1.2% on a bit better volume. Unlike the S&P500 the nasdaq composite did manage to stay above its 200 day moving average. The market's performance has been hopeful but less than inspiring, lacking volume, leadership and breath.

Seasonal Factors Favor the Bulls

It is no secret that the last quarter of the year tends to be the best one for stocks. On average the market rises about three percent during the period. Will history repeat itself this year? Only time will tell for sure but here is some food for thought.

The current bull market is nearly three years old. From a long term technical perspective signals say this market is about out of steam. To make matters more interesting the market has traded in a narrow range for the last year, often a sign of a break-out in either direction. If this market does break out soon, the down side has to be favored given the length of this bull market and uncertainty about earnings growth. However, if the Fed is done raising rates the market may move higher, provided fiscal policy remains neutral or better. As I mentioned before in a previous post we are protecting our positions with puts in certain cases and are carefully rebalancing our portfolios.

A Word About Our Key Market Factors

Our Key Market Factors are telling us to be neutral on this market. Energy prices remain relatively high with oil above $60/barrel. So long as the price stays stable at these levels we are unlikely to get more negative on energy. We would become more positive however, if oil dropped below $55/barrel and stayed there for a while. Rising interest rates have made us negative on the cost of money. We feel that a 10 year treasury above 4.50% is at or above neutral and likely to stimulate more savings than spending among consumers. Earnings have been good this quarter with 68% of the S&P500 beating estimates while 19% have fallen short. Still fourth quarter previews have been conservative leaving investors uncertain about their future. It will be the speculation on the part of the smart money that determines the direction of stocks into the year end and beyond. New leaders are likely to emerge at some point. Stay tuned as we find these leaders first.

  • ZHNE - Zhone remains an interesting investment. Earnings came in flat, which was a victory of sorts given the acquisition of Paradyne. The company has increased its cash position in the quarter by about 25% and revenues have more than doubled, yet the stock trades at about 1/2 its book value and more than a 2x discount to its peers. In our opinion the street views Zhone's business as less than sexy. Although wireline telecom is a dying business Zhone brings new broadband and service life to the thin pair. Zhone's products allow service providers to send voice, data and video through existing phone lines giving customers a competitive choice in many international markets. Zhone now has 640 customers, with no customers having more than a ten percent share of revenue. In fact, Zhone's top 5 customers account for only 29% of the business. In this quarter's conference call CEO Mory Ejabat hinted at the possibility of a tier one customer coming onboard in the next few months. Further, rumors have it that there is a management shake up taking place and the making of a revitalized team is underway. We expected stock price volatility through earnings season and got it with a bit more to come when the lock up period ends in a few days. We are adding shares and remaining patient as we believe this out of favor company is in position to profit in the near future.



Excellent thoughts

9:46 AM  

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