Showing posts with label Fil Zucchi. Show all posts
Showing posts with label Fil Zucchi. Show all posts

Tuesday, February 5, 2008

Barbell Time

Barbell TimeSocialTwist Tell-a-Friend
Fil Zucchi

I won’t begin to guess whether we have seen a multi-month bottom in the broad indices, or whether we will knife through the late January lows on our way to a full-fledged nasty bear market. But I am quite convinced that whichever way the market breaks, it is likely to put in some jaw-dropping moves. Based on that I am adopting a barbell approach to my positions: shorts consist of leveraged bearish ETF’s and volatility in the form of long dated puts, and longs include high beta equities, many of which have suffered some truly remarkable beatings relative to their fundamentals.

Here are some long ideas that should play-out well for longer than a trade if we embark on a multi-month ramp:

Harris Corp. (HRS): the company has a long history and culture of being a build-to-suit manufacturer of military radios; it’s been a safe business model because its market was pre-determined, but it’s also been a frustrating low grower. HRS is now vowing to design spec products, i.e. the “build’em and they will come” approach. If they are successful, the new market and growth opportunities could be tremendous. If it works, this is a “multiple expanding” event for HRS, and if you multiply that by current EPS estimates well north of $4, this stock has the potential of trading at par within two years. Its Broadcast business and the appeal of the company as a take-out candidate (ITT, L-3 Communication, and any number of major defense contractors being possible buyers) are but the cherry on top of this story. If however HRS fails to compete on the basis of innovation, then things could get ugly. But at least the reward here seems commensurate with the new and higher level of risk.

The traffic jams in certain areas of the IP highway are growing worse by the day, and carriers do not seem to have a choice over upgrading their networks. Sticking with the high beta factor, Infinera (INFN) begs to be bought here. They have bar none the most cost effective chassis/blade product to add capacity to any network in a matter of days, and the just reported quarter proves that customers have taken notice. If they can ramp a “metro” product (right now they operate mostly in the long haul area) in time to compete with the Ciena’s (CIEN) of the world, this stock has multi-bagger potential. And speaking of CIEN, much of the skepticism about gross margins and revenue growth for the rest of the year seems to be in the price, and then some. If CIEN can shoehorn itself in the coming Verizon optical build-out, it’s fair to say that none of that upside is in the estimates. Otherwise CIEN may still do just fine by continuing to cater to its largest customer, AT&T (T).

Also in the internet space, I have discussed Akamai (AKAM) at length before, and at risk of stepping in front of its earnings, my sense is that the story there is as good as ever, and the stock has not been this cheap in years.

After the rout of the last couple of months, dry-bulk carriers are setup to trade more like internet stocks than stodgy ship operators. Excel Maritime just agreed to a buy-out of Quintana Marine (QMAR), and while the combined company will have a fair chunk of debt, leverage cuts both ways; both fleets are mostly booked for ’08, ’09 and most of ’10, and at some point the cash flow will have to be discounted in the stock price. The same applies to smaller Paragon Shipping (PRGN), which yields more than 12% right now and was trading north of $25 just a couple of months ago.

In the med-tech area Hologix’ (HOLX) merger with Cytic Corp. (formerly CYTC) has formed the kind of company that will either eat the competition alive, or else is big enough to be a nice addition to a mega-cap looking to juice its growth. I own this one in the “buy it and forget it” part of the Fund.

In the GPS/logistics space, TomTom (TOM2 NA) and Garmin (GRMN) are putting the screws on the component makers – as you can tell by the beating Sirf Tech. (SIRF) has taken in response to its earnings (or lack thereof). That’s not to say that GRMN and TOM are not seeing their share of pricing pressures, but with Broadcom (BRCM) selling its soul to penetrate that market, the gadget makers are in the catbird seat. If the economy holds up and/or the speculative juices return (and remember that assumption is one of the ends of the barbell) GRMN and TOM can make up a lot of lost ground in a hurry.

I stated at the beginning that I would not try to guess which way the markets will break, and I won’t. But my bet (not my guess, just my bet) is that we are in the early stages of a secular bear market. That’s why I rather play the short side with leveraged ETF’s / and or Index puts, rather than individual names. The longs above (and I have positions in almost all of them) are just the kind of names I must and want to own in case the market decides to move higher.

One last macro comment: the media is incessantly comparing the current credit / macro problems to the various credit/currency crisis of the ‘90’s, the junk credit meltdown of ’00-’02, the GM debt crisis in ’05, etc., all of which resolved themselves with equities eventually going higher. Here are the major differences (imho): (i) those past events did not take place with a backdrop of $45 trillion of debt derivatives bet against the credit markets; (ii) even if counterparties risk on these derivatives could be managed, the clearing system for these derivatives has never been stress tested; if it fails to work the consequences on the markets would likely be similar to a counterparty credit failure; and (iii) the past crisis consisted of neatly contained / containable default events: the current credit crisis is already no longer contained; the only question we can’t yet answer is how widespread it will end up being. And that by itself is a frightening proposition.

Friday, October 12, 2007

Random Comments

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Fil Zucchi

I will refrain from too many comments on the nasty reversal we saw yesterday, since there are far smarter technical eyes in this community than me. Rather, a few thoughts on specific names and areas:

  • Keep a close eye on the Baltic Dry Index (BDI) and its proxies, companies like Paragon Shipping (PRGN), Quintana Marine (QMAR), and Dryships (DRYS). In my view they reflect better than anything else the true state of the world tangible economy; and in hindsight I believe they will be seen as the telltale sign of coming runaway inflation. Since July the Index has gone parabolic, with dry bulk shipping rates going through the roof, and there’s anecdotal evidence that the flipping game that spread from stocks, to homes, to commercial real estate, has now infected the “vessels” asset class. Yesterday’s break in these stocks arrived after several days of vertical moves on massive volume. If the BDI follows the stocks breaks, you can kick one more leg from under the broader market.

  • Chatting with folks very close to distressed-debt vulture funds, the consensus is that the weaker of the major homebuilders, Tousa Inc. (TOA), Standard Pacific (SPF), Beazer Homes (BZH), and perhaps even Hovnanian (HOV), would be better off filing for bankruptcy sooner than later; the theory being that there is no way out for them anyway, and at least right now they have enough assets left to effectively reorganize, and the economy is not in recession (yet). If they wait until things really turn ugly fresh capital will be much more expensive.

  • With respect to the last point however, one daunting question is how many multiples of the bonds’ face values are the outstanding CDS against such debts? And where is that time bomb hidden?

  • Corporate bond watchers and equity players are having a heated debate as to whether the recovery in the debt markets of the last couple weeks will set off another wave of M&A, LBO’s, and buybacks. We are already seeing the buybacks, and strategic M&A. In my humble opinion, and based on anecdotal conversations with folks at major PE groups, LBO’s are done and they are not coming back (corporates traders disagree). Debt fueled buybacks have been as consistently successful as flipping a coin: just look at Intel (INTC), Dean Foods (DF), Amgen (AMGN), St. Jude Medical (STJ), not to mention a bunch of the homebuilders. That leaves strategic M&A, where premiums are not likely to be nearly as fat as they were in LBO’s.

  • The last time the Dollar Index (DXY) touched current levels it reversed and shot higher within two weeks. This is week two since the break of the 79 level and any semblance of a bounce is still AWOL. I may end up eating my words (wouldn’t be the first . . . or tenth time), but in my opinion the greenback has at most two more weeks to mount a rally or the next move down will start getting tagged as a “currency crisis”. Of course with M3 ramping at 14% in September and gold and oil going relentlessly higher one could argue that the currency crisis is already here.

  • On a slightly more cheery note, if one has to be long something, I continue to think that small regional banks with little mortgage exposure should benefit from the steepening yield-curve. The RKH Holder is a lazy way to play this. Also, not a day goes by that I don’t find an article concerning the lack of bandwidth in the metro networks and at the switching nodes. Away from the ne’er do wells – Alcatel-Lucent (ALU), Nortel (NT), Tellabs (TLAB) – I think there are tremendous opportunities, especially in software rich companies. Favorites include Ciena (CIEN), Infinera (INFN), F5 Networks (FFIV), Akamai (AKAM), and Limelight Networks (LLNW); once the cable guys finally decide how to avoid getting run over by the Bells FTTP deployments, and they start formulating their capital spending (which is inevitably coming), other viable names will be Ceragon Networks (CRNT), Arris (ARRS), Harmonic (HLIT) and BigBand Networks (BBND).

    And always know where the “emergency exit” is!!

  • Thursday, September 20, 2007

    Home Builders, CDs and Corp. Paper

    Home Builders, CDs and Corp. PaperSocialTwist Tell-a-Friend
    Fil Zucchi

    The following piece was written on August 27:

    “We all know the treatment housing stocks have received and at this point few seem to offer decent risk/reward on the downside. The thing to watch carefully now is the debt of these companies and the news-flow around them.

    I’ve gone over a bunch of fixed income research concerning this group and while the analysts continue to reassure readers that most companies are still cash flow positive and they will come out stronger when the market turns, one can’t help but get that funny feeling that the real message of those notes lies not in the “all is well” boilerplate, but int eh passing mention that technical violations of debt covenants are not a big deal because the lenders will undoubtedly wave those covenants.

    Perhaps they are correct. However, we are often told that bond investors are the “smart” money because they are closer to the financials of the companies than equity investors. After all, bond holders are not in the business of taking principal risk.

    Yet Standard Pacific (SPF) and Lennar (LEN) have had to renegotiate loan terms, Beazer Homes (BZH) won’t say where its debt stands until its internal investigation on accounting issues is concluded, Comstock Homes (CHCI) has already gone through one restructuring and its faith hangs on the future sales at a project in Alexandria, VA, and . . . .well, you get the picture. Furthermore, considering how frothy things used to be for homebuilders, one would think that the covenants were probably loose enough already.

    Are these covenant workouts a sign that bondholders want to avoid defaults at least as much as the debtors? Isn’t this the same movie we saw in the late 1980’s with respect to commercial loans, before everything hit the fan? Will the daily new lows in the stocks of these companies create their own set of technical defaults?

    Most eyes are fixated on mortgage debt, derivatives, and the likes, but few for now dare speak of actual defaults in plain vanilla corporate obligations, especially the kind still rated BB or better (how is that possible?). If that were to happen, that is what you can call the “other shoe”.

    Since then, and despite yesterday’s Fed cuts, very little has changed:

    The 7-year paper of most issuers has rallied 5-10% but still yields 12-15%.
    The CDS’ on these debts have also come in some, but still trade at spreads 3-5x what they were in May, and some spreads suggest a pretty high risk of default. Just a few minutes ago S&P warned that approximately $35b of B rated corporate paper (not just homebuilders) is at risk in 2008, and for our purposes we will ignore that there may be 5x-10x that amount of CDS written against it, for which someone is going to have to pony up some cold hard cash.

    No amount of shuffling of debts between GSE’s or other pan-handling bailouts address the key problem: there is way too much debt out there that folks and companies are beginning to struggle to pay. The homebuilders are at the forefront and they should be watched very closely.

    Editor Note: Fil Zucchi spent this summer on the long trip back to the Old Country -- Italy. We are glad to find him safe and sound at his HQ on the East Coast.

    Thursday, May 17, 2007

    Behind the REITs Slide

    Behind the REITs SlideSocialTwist Tell-a-Friend
    Fil Zucchi

    As the drumbeat of falling REIT stock prices picks up steam, here is a look at the Commercial Mortgage Backed Securities' (CMBS) spreads as calculated by Morgan Stanley. The first shows AAA rated credit, the second BBB. Without getting into the underlying quality of properties for specific REITs, purely from a capital structure point of view REITs' stock prices probably correlate better to the BBBs than the AAAs credit.

    I do not believe there are any "bombs" waiting to go off in REIT land. The elephant in the room however may be the large pension/insurance groups which have dumped billions and billions in private and public REIT's as a failsafe source of double digit returns. Those kind of returns are equal part greed and need, the latter as an effort to balance their returns to their long term liabilities. If these guys don't get their double digit returns on a consistent basis, they're gonna have "issues". It stands to reason that they may have a short fuse if things start moving against them, as any drawdowns would totally screw up their models. We also know that real estate is not exactly the most liquid of asset when "katie starts looking for the door".

    Wednesday, May 2, 2007

    Akamai Technologies (AKAM)

    Akamai Technologies (AKAM)SocialTwist Tell-a-Friend
    Fil Zucchi

    Back on September 15 of last year I sold the bulk of my then very large Akamai (AKAM) position. The stock was around $46.50 and I explained the principal reason for selling as follows: “The fundies story still seems intact, in fact it may still be getting better. My concern is that everyone seems to be realizing this now. AKAM has set a pattern of beating estimates and raising big in the face of skeptical analysts. Now the analysts are beginning to get in front of the company, and the bar is getting raised.” The stock proceeded to touch $60 without me.

    Fast forward to today:

    the business has only gotten better; the company is growing revenues and net income at a 50% clip, and generates cash way in excess of that, thanks to $300+ M in loss carry-forwards, which will allow it not to pay cash taxes until well into the next decade; it has no net debt; its basic business is all about the efficient delivery and management of IP data. If you think that’s a big market opportunity today, wrap your head around this little statistic: as of last month, 70% of 334M Americans were internet users; as of last month 10.4% of 1.3 billion Chinese were internet users; and as of last month 3.5% of 1.1 billion Indians used the internet – can you say unpenetrated turf?

    If both the top and bottom line growth rate next year slows to 37.5%, and falls by 7.5% every year thereafter until a final rate of growth of 15%, by 2011 AKAM will have revenues of about $1.5b and EPS of $3.05, and will have grown at a 26% average for the next four years; The stock closed today at $43.

    These are verbatim exchanges from last week’s AKAM call with my highlights:

    Analyst (Kept anonymous to avoid unnecessary embarrassment): Just from a high level perspective, I think you’ve trained the Street here that you guys put up good results and typically there’s an expectation [inaudible] numbers move up. If you look back at this quarter, is there something that surprised you in the market? Are we kind of going through the hypergrowth phase of this? Is there some change fundamentally out there?

    CEO Paul Sagan: No, actually, I was very pleased with the results. What we said last year – in the first half of the year is, we were surprised at how fast the market was accelerating. I think if you look at our guidance this year it was for some pretty bold growth. If you look at the mid range, it’s almost 45% revenue growth and now that we reported a quarter almost a third of the way through the year, we still feel very comfortable that we’re going to see what I think is exceptionally strong growth off of a large number last year and even stronger expansion on the bottom line. So, no, I don’t see anything fundamentally different and extremely pleased with the performance. I think that some people may have gotten very comfortable with the fact that we kept beating the guidance early last year and decided well, that’s just the way the world works and we kept saying over and over again, we used the same methodology. We’re conservative, we’re trying to understand what’s going on in our business, we moved the guidance up very strongly that part of last year because we had confidence in the numbers, and we continue to have confidence in the numbers and people should listen really carefully to what we say.

    Analyst (Also kept anonymous to avoid unnecessary embarrassment, even though given the prior question it might serve her well to be publicly embarrassed): Okay. And then if I can just follow-up on Todd’s question, so this is the first quarter in six quarters you haven’t been over the high end of guidance for the quarter. And I heard what you just said about you say over and over you can’t keep beating and raising. I’m wondering was there any disappointment for you internally in this quarter and did anything change between the time you gave guidance in January when presumably some of the prices on the renewals in December were set and the current time...

    CEO Paul Sagan: Let me stop you right there. No, we always tell you exactly what we think is going to happen. We got some very pleasant surprises last year and we explained why the phenomenon that we thought was going on that we then captured in our guidance going forward. We gave what we thought was accurate guidance and actually we came in exactly there, so were very pleased. In fact I’d like to be exactly right on it, like to give you an exact dollar and exact penny number and then hit it because it says we can understand everything that’s going on in our business. We came in near the high end of the range. I thought it was a very strong quarter and we continue to be very optimistic about the year.

    In my humble opinion, the two borderline demented questions you read above encapsulate the reason why the stock is down $12 in five days, and why I’m back into the stock and hoping for lower prices still to get even longer. Who says analysts cannot hand us some good opportunities.

    Editors' Note: Both the Author and several HAFN Affiliates own AKAM.

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