Portfolio Transactions
We sold Stryker Corp (SYK) at $67.48 and replaced it with Medtronic Inc (MDT) at $52.61. We sold Getty Images Inc (GYI) at 31.00 per share. We purchased Superior Energy Services (SPN) at $39.20.
Portfolio Update
As of this past Friday, we survived the market turmoil. The internal rate of return for Moose Pond Investors was 2.4% for the year to date. This slightly lagged the S&P 500, which was up 4.3% for the same period. See performance report.
Several stocks accounted for the mediocre performance.
Getty Images GYI (-38%) had a disappointing quarterly earnings report. Morningstar star reduced its fair market value estimate. Investors Advisory service recommends selling GYI, noting that the company faces increased competition in the Internet photo images market. Morningstar reduced GYI’s moat rating from “wide” to “narrow.” The visual section of the stock selection guide show the downturn. See the current stock selection guide (SSG) which shows a projected average return (PAR) of only 7.6%. My bad for recommending this one. We should probably sell GYI at some point soon.
Amgen AMGN (-26.6%) has been down for the year. However, most of the analyst reports cite its pipeline and consider it a strong long term buy. Here is the current AMGN SSG. Note that the PAR of 22.7% and that assumes a relatively modest EPS growth of 11%. AMGN is definitely a hold and probably a buy. Now if the market will just recognize what we do!
Of course we had several winners YTD as well. These include INTC (+23.7%), ITW (+24.9%), JKHY (+25.2%), and OXY (+27.8%). This highlights the importance of diversification.
Here are three transactions that may improve our portfolio performance for this year.
- Replace Stryker (SYK) with Medtronics (MDT). Stryker has advanced 22% this year. The price increase has diminished its long term prospects. Morningstar rates it two stars (a little over priced). In contrast MDT is rated five stars (a bargain). Both companies are quality medical suppliers, however, the prospects are a little better for MDT.
- Sell Getty Images (GYI). We are better off selling and redeploying the cash.
- Buy Superior Energy Services (SPN). BNP Is a diversified provider of specialized oilfield services and equipment. While oilfield services are cyclical, the prices for oil and gas have not gone down and the demand for oilfield services continues. The SSG for SPN looks strong. Neither Morningstar nor Value Line cover SPN, but it received a five star rating from Standard & Poors. We should move quickly on SNP as it appears particularly undervalued now.
Sun Hydraulics (SNHY)
One of the excellent companies that caught in the market downdraft last week is Sun Hydraulics (SNHY). It is a small industrial company in Sarasota, Florida, that designs and manufacturers screw-in hydraulic cartridge valves and manifolds, which control force, speed and motion as integral components in fluid power systems.
SNHY has a global network with 53% of its sales overseas. It is not dependent on any one customer, with its largest customer accounting for 7% of revenues. Insiders hold hold 32% of the shares. If you listen to its last quarter earnings conference (found on the company website), you get a sense of a well managed company with a closely knit team.
Analysts predict 20% EPS growth. We assumed 18% growth in the stock selection guide and used conservative PEs. Manifest Investing rates the quality 79.9 and projected average return 19.9%. The PE to growth (PEG) ratio is approximately 1. With $149 million in revenue for the TTM, this company has room to grow. Propose we buy this company now.
- Link to the company website
- Link to stock section guide and data sheet
Semi-Annual Report
For the first half of the year, our internal rate of return is +6.2% which is slightly ahead of the S&P 500 (+6.0%). See portfolio performance report for the first half of the year. Our challenge is to do much better than the S&P 500.
Portfolio Activity
We made some adjustments to our portfolio this quarter to improve portfolio quality and increase diversification. In the energy sector, we replaced Occidental Petroleum and ChevronTexaco with ConocoPhillips and Helmerich & Payne. This split our energy holdings between a mega-cap energy company that both produces and refines, and a quality company that provides contract drilling services to oil and gas producers.
In the financial sectors, we replaced Commerce Bank and Capital One Financial with American International Group. (There is nothing inherently wrong with CBH and COF, although COF has a low return on assets; we just wanted realign our financial stocks.) We exchanged East West Bancorp for Wells Fargo & Co.
We added to our position in Getty Images, Bed, Bath & Beyond, and Amgen. Unfortunately, BBBY reported mediocre earnings after we increased our position. This clipped our overall portfolio earnings for the quarter a little. See chart. However, BBBY remains a high quality company.
Finally, we added information technology holdings with new positions in Microsoft and SAP. We sold UTStarcom. All these transaction together raised the quality rating of the portfolio to 72.2 (out of 100 with 65 being excellent) and the projected average return to 13%.
Most Recent Quarter
Our biggest winners for the quarter were Intel (+24.7%), Maxim Integrated Products (+14.2%), and our energy stocks, Occidental Petroleum (+16.2%) and Chevron Texaco (+10.0%). We had several stocks that did not earn their keep this quarter, Bed, Bath & Beyond (-12.4%), Brown & Co. (-6.8%), Stryker (-4.9%), Synovus (-4.5%), and Walgreen (-5.0%).
The Past 12 Months
It is always interesting to look back over the past year. We had some outstanding winners,Stryker (+50.4%), Factset Research (+45.3%), Chevron Texaco (+34.1%), and Jack Henry & Assoc. (+32.2%). Two stocks disappointed, Amgen (-15.5%) and Brown & Co. (-13.3%).
Looking Forward
Not being a market prognosticator, I’ll leave it for others to predict where the stock market is heading. Morningstar had a very readable outlook, that included a sector by sector analysis. Morningstar observes that some of the mega-cap stocks, like Walmart and Johnson& Johnson are very cheap.
SAP AG (SAP)
SSG and PERT | Google Finance | Company Website
We purchased an initial position in SAP AG on June 13, 2007. Here is the stock selection guide we used for the purchase decision.
Wells Fargo & Company (WFC)
SSG and PERT | Google Finance | Company Website
We purchased an initial position in Wells Fargo & Company on June 13, 2007. This replaces Commerce Bancorp. Here is the stock selection guide we used for the purchase decision.
American International Group (AIG)
SSG and PERT | Google Finance | Company Website
We purchased an initial position in American International Group on June 13, 2007. This replaces Capital One Financial in the financial sector of our portfolio. Here is the stock selection guide we used for the purchase decision.
Microsoft (MSFT)
SSG and PERT | Google Finance | Company Website
We purchased an initial position in Microsoft on June 13, 2007. Here is the stock selection guide we used for the purchase decision.
Portfolio Transactions
We made the following changes to our portfolio:
- Added to our positions in Bed Bath & Beyond (BBBY) and Amgen (AMGN).
- We sold Commerce Bancorp (CBH) and Capital One Financial (COF). There will be replaced with American International Group (AIG) and Wells Fargo (WFC). That will keep the same exposure to financials but with better stocks that have a higher projected average return.
- We purchased Microsoft (MSFT) and SAP AG (SAP).
- We are replacing Occidental Petroleum (OXY) and ChevronTexaxo (CVX) with Conoco Phillips (COP) and Helmerich & Payne (HP). These keep about the same exposure to the energy sector but split between a mega cap oil company and an oil services company. Both companies pay dividends (COP 2.1% and HP 0.6%).
All of these trades together will increase the overall quality and projected average return of the portfolio. See Manifest Investing dashboard. We are still a little ahead of the S&P 500 for the year.
Proposed Portfolio Changes
Between our cash position (4.5%) and funds temporarily invested in Vanguard’s Total Market Index ETF (9.3%), we have sufficient funds to take new positions in up to four companies. Here are several suggestions.
Adding to Existing Positions. It is always a difficult question whether to add to existing positions or buy new companies. Look at our Manifesting Investing dashboard. Of the stocks that account for less than a 4% position in the portfolio, three companies show a good projected average return (PAR > 13.7%) and high quality (quality rating > 65). They are AMGN, BBBY, and GYI. We could add to these positions, perhaps adding the equivalent of 1% of the total portfolio value to each.
Analysts have reassessed Amgen’s drug pipeline and have reduced their earnings projections for Amgen. As a result, the price has declined about 20% this year. With the bad news largely priced in, Amgen may be a bargain. (Of course, I still have the scars from catching other falling knives.)
A Stock to Sell or Exchange. Commerce Bancorp has been a good performer in our portfolio. It has appreciated at an annualized rate of 14.3% since we acquired it in August 2003. However, the fundamentals for CBH seem to be declining. Its return on assets (ROA), one of the key measures of a bank’s performance, has declined to 0.70%. (The ROA was around 0.90% when we purchased CBH.) Margin on net interest income, the return it makes from lending, has also declined. Year-to-date the price is down 3.5%. While declining prices should never be the reason to sell a company, declining fundamentals are. The declining price is probably confirming what we see in the fundamentals. Here is a current stock selection guide for CBH.
The SSG for CBH does not scream “sell” rather it is a “hold.” However, there probably are better opportunities in the financial sector. Two companies to consider as replacements are American International Group (AIG) and Wells Fargo (WFC). WFC pays a 3.2% dividend and has a ROA of 1.7%. For a number of different reasons, AIG’s price has remained relatively static for the past three years while earnings have continued to grow. Look at the two stock selection guides.
Stocks to Consider Buying. The portfolio might benefit from a little more exposure in the technology sector. Two quality large-cap stocks with relatively high PAR are SAP and Microsoft. Microsoft has a near monopoly position in a number of different PC market niches including office products. SAP is probably the last major competitor to Oracle for enterprise software. Like Oracle, SAP has captured a large installed base of customers who annot easily or inexpensively change. Comparing stock selection guides for SAP and Oracle, SAP seems to be the better bargain now. Here are the stock selection guides for Microsoft and SAP.
The final stock to consider buying is General Electric. The stock price has moved sideways, while earnings growth slowed to 7% over the past five years. Value Line projects 7% sales growth and 12% earnings growth over the next 3-5 years. GE’s foreign sales are a plus. Here is a stock selection guide for General Electric. Boring, yes, but the 3.2% dividend, international exposure exposure, financial strength, and steady earnings growth make it a solid core holding.
Summary. Here are the various proposals.
- Add to existing positions in AMGN, BBBY, and GYI when these stocks are in the buy range shown on the stock selection guide. Currently AMGN and BBY are in that range.
- Replace Commerce Bancorp with either American International Group or Wells Fargo.
- Buy one or more of the following: Microsoft, SAP, and General Electric.