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Executive Summary March 29, 2013

The Economy

Like a pesky bee that just won't go away, the European debt crisis has once again been buzzing threateningly around the global economy. But while many investors have been preoccupied with the short-term pain its stinger could cause, the U.S. economy has been continuing to show signs of a slow and steady long-term recovery.

Case in point: the housing market. Housing starts rose 0.8% in February, while permit issuance for new home construction rose 4.6%, according to new government data. That puts starts more than 25% above their year-ago level, and permit issuance more than 28% above its year -ago level. In addition, existing home sales rose 0.8% in February, according to the National Association of Realtors, putting them 6.3% above where they were last February. Sales prices were up 10%. Pending home sales, a forward-looking indicator, fell slightly (0.4%), but that was mostly due to constrained inventory, the Realtor group said. Pending sales are still at their second-highest level in three years, and are 5% above where they were a year ago.

Industrial production also increased in February, rising 0.7%, according to the Federal Reserve. Part of the gain was due to weather, as the unseasonably warm temperatures of the previous couple months gave way to more typical conditions, increasing utility output by 1.6%. But, manufacturing output was also up significantly, gaining 0.8% for the month.

New claims for unemployment, meanwhile, were up slightly since our last newsletter, but the four-week moving average has actually declined. New claims are 2.4% below where they were a year ago. While that's not as big a year-over-year decrease as we've seen in many recent weeks, part of that is due to tougher year-ago comparisons as the jobs recovery progresses. Continuing claims remained about even since our last newsletter. They are down nearly 9% from year-ago levels.

Mixed news came from the most recent durable goods report. Overall, durable goods increased 5.7% in February, according to the Commerce Department, a nice reversal from January's 3.8% decline. But, orders for core capital goods -- the type of goods that indicate businesses are investing more in equipment and facilities -- fell 2.7%, the biggest decrease in seven months. The decline did follow a big January, however, when orders jumped nearly 7%, so companies may simply have not needed to order as much given what they had done the previous month.

Finally, there is Cyprus. The tiny Mediterranean island nation's debt problems have been the focal point of the financial news for the past week or two. Investors were worried that the country's troubles could lead to a domino effect that would decimate the Euro zone, and spread to the rest of the world (haven't we heard this song before?). The country was able to negotiate a Euro zone-financed bailout, however, and on Thursday, Cyprus banks finally reopened. As of this writing the run on banks that some feared would occur had not transpired.

Since our last newsletter, the S&P 500 returned 0.4%, while the Hot List returned 1.6%. So far in 2013, the portfolio has returned 12.1% vs. 10.0% for the S&P. Since its inception in July 2003, the Hot List is far outpacing the index, having gained 204.1% vs. the S&P's 56.9% gain.

Editor-in-Chief: John Reese

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** Validea Capital Management is a separate investment advisory firm managed by Validea.com founder John Reese. Thre information above in not intended as personal investment advice and should not be interpreted as such.

Portfolio Update

For much of the past two weeks, despite the Cyprus fears, the broader market has hung in there, with the S&P 500 actually surpassing its all-time high during trading on Thursday. And for much of these two weeks, the Hot List portfolio has been outpacing the market. It's been led by newcomer Dollar Tree, which join the portfolio on our March 15 rebalancing. Through March 27, its shares were up more than 8%.

Several other Hot List holdings, including USANA Health Sciences, Starz, World Acceptance, and TJX Companies, had posted gains in the 4% to 5% range since our last newsletter (also through March 27). Most of the losing positions involve relatively minor losses, with the exception of Jos. A. Bank Clothiers, which was down more than 6% since it joined the portfolio on March 15. Its fundamentals are still strong, however, so it remains a good bounce-back candidate.

News about Validea Hot List Stocks

USANA Health Sciences (USNA): USANA announced plans to expand operations into Colombia during the third quarter of 2013, which will give the firm operations in 19 markets worldwide. Part of the plans involve having an office in Colombia's capital, Bogota, the company said.

Dollar Tree Inc. (DLTR): Shares of Dollar Tree were up more than 8% since our last newsletter (through March 27). The catalyst for the strong performance seemed to be optimism about bargain retailers in general, after Dollar General and Ross Stores both posted strong quarterly results.

Guru Spotlight: Martin Zweig

Today's Guru Spotlight is a bittersweet one. While it's always interesting and worthwhile to examine the great Martin Zweig's approach, we're also commemorating the recent passing of the investment guru, who died in February at the age of 70.

Zweig was an intriguing character known for putting his fortune to use in some pretty fun, flashy ways. He owned what Forbes reported was the most expensive apartment in New York City, a penthouse atop Manhattan's Pierre Hotel that was at one time valued at more than $70 million. He was also an avid collector of a variety of different kinds of memorabilia. The Wall Street Journal has reported that he owned such one-of-a-kind items as Buddy Holly's guitar, the gun from Dirty Harry, the motorcycle from Easy Rider, and Michael Jordan's jersey from his rookie season with the Chicago Bulls. (Zweig also used his money for some very noble purposes -- in 2011, he and his wife, Barbara, pledged $5 million gift to Mount Sinai Hospital, which went toward the Zweig Family Center for Living Donation, a facility that focuses on providing medical, surgical, and psychological care to living organ donors.)

Zweig became well known back in the 1980s as a frequent guest on PBS's Wall $treet Week with Louis Rukeyser, where he famously called the 1987 market crash. Just one trading day before the crash, he said he expected "a brief decline, but a vicious one" that would be similar to the 1929 crash. Stocks tumbled more than 20% on "Black Monday", but -- just as he predicted -- made a quick comeback, reaching pre-crash levels in just about a year.

Zweig was a growth investor, and his methodology was dominated by earnings-based criteria. He looked at a stock's earnings from a myriad of angles, wanting to ensure that he was getting stocks that had been producing strong growth over the long haul and even better growth recently -- and he wanted their growth to be coming from the right sources.

Zweig's thoroughness paid off. His Zweig Forecast was one of the most highly regarded investment newsletters in the country, ranking number one for risk-adjusted returns during the 15 years that Hulbert Financial Digest monitored it. It produced an impressive 15.9% annualized return during that time. Zweig also managed several mutual funds, and was co-founder of Zweig Dimenna Partners, a multibillion-dollar New York-based firm that has been ranked in the top 15 of Barron's list of the most successful hedge funds.

A Serious Strategy

Zweig may have spent his cash on some flashy, fun items, but the strategy he used to compile that cash was a disciplined, methodical approach. His earnings examination of a firm spanned several categories, and I've incorporated them into the Zweig-inspired model I base on his book, Winning on Wall Street. They include:

Trend of Earnings: Earnings should be higher in the current quarter than they were a year ago in the same quarter.

Earnings Persistence: Earnings per share should have increased in each year of the past five-year period; EPS should also have grown in each of the past four quarters (vs. the respective year-ago quarters).

Long-Term Growth: EPS should be growing by at least 15% over the long term; a growth rate over 30% is exceptional.

Earnings Acceleration: EPS growth for the current quarter (vs. the same quarter last year) should be greater than the average growth for the previous three quarters (vs. the respective three quarters from a year ago). EPS growth in the current quarter also should be greater than the long-term growth rate. These criteria made sure that Zweig wasn't getting in late on a stock that had great long-term growth numbers, but which was coming to the end of its growth run.

While Zweig's EPS focus certainly put him on the "growth" side of the growth/value spectrum, his approach was by no means a growth-at-all-costs strategy. Like all of the gurus I follow, he included a key value-based component in his method. He made sure that a stock's price/earnings ratio was no greater than three times the market average, and no greater than 43, regardless of what the market average was. (He also didn't like stocks with P/Es less than 5, because they could be indicative of an outright dog that investors were wisely avoiding.)

In addition, Zweig wanted to know that a firm's earnings growth was sustainable over the long haul. And that meant that the growth was coming primarily from sales -- not cost-cutting or other non-sales measures. My Zweig model requires a firm's revenue growth to be at least 85% of EPS growth. If a stock fails that test but its revenues are growing by at least 30% a year, it passes, however, since that is still a very strong revenue growth rate.

Like earnings growth, Zweig believed sales growth should be increasing. My model thus requires that a stock's sales growth for the most recent quarter (vs. the year-ago quarter) to be greater than the previous quarter's sales growth rate (vs. the year-ago quarter).

Finally, Zweig also wanted to makes sure a firm's growth wasn't driven by unsustainable amounts of leverage (a key observation given all that's happened in recent years). Realizing that different industries require different debt loads, he looked for stocks whose debt/equity ratios were lower than their industry average.

Macro Issues

There's one more thing you should know about Zweig. He relied a good amount on technical factors to adjust how much of his portfolio he put into stocks, and the indicators he used are quite relevant given today's environment. Some included the Federal Reserve's discount rate; installment debt levels; and the prime rate. His mottos included "Don't fight the Fed" (meaning investors should be more bullish when interest rates were low or falling) and "Don't fight the tape" (which related to his practice of getting more bullish or bearish based on market trends).

Those rules are tough for an individual investor to put into practice; Zweig used what he called a "Super Model" that meshed all of his indicators into a system that determined how bullish or bearish he was. But over the years, I've found that using only the quantitative, fundamental-based criteria Zweig outlined in his book can produce very strong results. My Zweig-inspired 10-stock portfolio has been a very strong performer since its July 2003 inception, returning 118.6%, or 8.4% per year, while the S&P 500 has gained just 56.3%, or 4.7% per year (through March 26). The portfolio is having a strong start to 2013, already up nearly 15%. It tends to choose stocks from a variety of areas -- it goes where the growth is. Here are the portfolio's current holdings:

USANA Health Sciences (USNA)
Sturm, Ruger & Company (RGR)
Lululemon Athletica (LULU)
World Acceptance Corp. (WRLD)
First Cash Financial Services (FCFS)
The TJX Companies (TJX)
Netease, Inc. (NTES)
Questcor Pharmaceuticals (QCOR)
Oracle Corporation (ORCL)
V.F. Corporation (VFC)

What I really like about the Zweig strategy is that, while it certainly would qualify as a growth approach, it doesn't look at growth in a vacuum. As you've seen, it examines earnings growth from a variety of angles, making sure that it is strong, improving, and sustainable. In doing so, it allows you to find some fast-growing growth stocks that are not paper tigers, but instead solid prospects for continued long-term success.

The Next Issue

In two weeks, we will publish another issue of the Hot List, at which time we will rebalance the portfolio. If you have any questions, please feel free to contact us at hotlist@validea.com.

Current Portfolio

Detailed Stock Analysis

Disclaimer: The analysis is from Validea's selection and interpretation of content from the guru's book or published writings, and is not from nor endorsed by the guru. See Full Disclaimer

USNA   |   STRZA   |   TJX   |   TEO   |   LEA   |   WRLD   |   RDS.A   |   DLTR   |   JOSB   |   LUKOY   |  

USANA Health Sciences, Inc. develops and manufactures science-based nutritional and personal care products. The Company has operations in 15 markets worldwide, where it distributes and sells its products by way of direct selling. The Company reports operations in two geographic regions: North America and Asia Pacific, which is further divided into three sub-regions; Southeast Asia/Pacific, Greater China, and North Asia. North America includes the United States, Canada, Mexico, and direct sales from the United States to the United Kingdom and the Netherlands. Southeast Asia/Pacific includes Australia, New Zealand, Singapore, Malaysia, and the Philippines; Greater China includes Hong Kong, Taiwan and China; and North Asia includes Japan and South Korea. The Company's customer base consists of two types of customers: Associates and Preferred Customers. As of December 31, 2011, the Company had 222,000 active Associates and 64,000 active Preferred Customers worldwide.

Starz, formerly Liberty Media Corporation, is an integrated global media and entertainment company with operating units that provide subscription video programming on domestic United States pay television channels (Starz Channels), global content distribution (Starz Distribution) and animated television and movie production (Starz Animation). As of January 14, 2013, its network included Starz, Encore, and Movieplex, Retroplex and Indieplex. Its businesses included Anchor Bay Entertainment, Starz Worldwide Distribution, and Starz Digital Media. Starz Animation produces animated television (TV) and movie content for studios and networks. Starz Distribution develops, produces and acquires entertainment content, distributing it to consumers globally on digital versatile disk (DVD). On January 11, 2013, Liberty Media Corporation (Liberty) and Starz announced the completion of the spin-off of Liberty from Starz.

The TJX Companies, Inc. (TJX) is the off-price apparel and home fashions retailer in the United States and worldwide. As of January 28, 2012, the Company operated in four business segments. It has two segments in the United States, Marmaxx (T.J. Maxx and Marshalls) and HomeGoods; one in Canada, TJX Canada (Winners, Marshalls and HomeSense) and one in Europe, TJX Europe (T.K. Maxx and HomeSense). As a result of the consolidation of the A.J. Wright chain, all A.J. Wright stores ceased operations by the end of February 2011. It completed the consolidation of A.J. Wright, converting 90 of the A.J. Wright stores to T.J. Maxx, Marshalls or HomeGoods banners and closed the remaining 72 stores, two distribution centers and home office. In December 2012, the Company acquired Sierra Trading Post, an off-price Internet retailer.

Telecom Argentina SA, (Telecom), is an Argentina-based company primarily engaged in the provision of national fixed-line telecommunication services, international long-distance service, data transmission and Internet services, as well as mobile telephony. The Company also offers such solutions as online business and Web hosting, virtual private network (VPN), mobile operating systems developed by Microsoft and Blackberry, toll-free telephone numbers, call centers and voice over Internet protocol (VoIP) line, as well as other services mainly aimed at corporate clients. As of December 31, 2012, the Company owned its subsidiaries structured in two business segments, Fixed Telephony, which comprised Telecom Argentina USA Inc and Micro Sistemas SA; and Mobile Services, with Telecom Personal SA, Nucleo SA and Springville SA.

Lear Corporation is a tier 1 supplier to the global automotive industry. The Company supplies its products to automotive manufacturers with automotive seat systems and related components, as well as electrical distribution systems and related components. The Company has two segments: seating and electrical power management systems (EPMS). The seating segment includes seat systems and related components, such as seat frames, recliner mechanisms, seat tracks, seat trim covers, headrests and seat foam. The EPMS segment includes electrical distribution systems for traditional powertrain vehicles, as well as for hybrid and electric vehicles. As of December 31, 2011, it had 20 joint ventures located throughout Asia, as well as five in North America, two in Europe and Africa and one with operations in all three regions.

World Acceptance Corporation operates a small-loan consumer finance business in 12 states and Mexico. The Company is engaged in the small-loan consumer finance business, offering short-term small loans, medium-term larger loans, related credit insurance and ancillary products and services to individuals. As of March 31, 2012, the Company offered standardized installment loans through 1,137 offices in South Carolina, Georgia, Texas, Oklahoma, Louisiana, Tennessee, Illinois, Missouri, New Mexico, Kentucky, Alabama, Wisconsin, and Mexico. The Company serves individuals with limited access to consumer credit from banks, credit unions, other consumer finance businesses and credit card lenders. In the United States offices, the Company also offers income tax return preparation services to its customers and others.

Royal Dutch Shell plc (Shell) is an independent oil and gas company. The Company owns, directly or indirectly, investments in the numerous companies constituting Shell. Shell is engaged worldwide in the principal aspects of the oil and gas industry and also has interests in chemicals and other energy-related businesses. The Company operates in three segments: Upstream, Downstream and Corporate. Upstream combines the operating segments Upstream International and Upstream Americas, which are engaged in searching for and recovering crude oil and natural gas; the liquefaction and transportation of gas; the extraction of bitumen from oil sands that is converted into synthetic crude oil, and wind energy. Downstream is engaged in manufacturing; distribution and marketing activities for oil products and chemicals. Corporate represents the key support functions, comprising holdings and treasury, headquarters, central functions and Shells self-insurance activities.

Dollar Tree, Inc. (Dollar Tree) is an operator of discount variety stores offering merchandise at the fixed price. As of January 28, 2012, the Company operated 4,351 discount variety retail stores. Its stores operate under the names of Dollar Tree, Deal$, Dollar Tree Deal$, Dollar Giant and Dollar Bills. As of January 28, 2012, it operated 4,252 stores in 48 states and the District of Columbia, as well as 99 stores in Canada. It buys approximately 58% to 60% of its merchandise domestically and imports the remaining 40% to 42%. Its domestic purchases include basic, seasonal, closeouts and promotional merchandise. It maintains a selection of products within variety store categories. During the fiscal year ended January 28, 2012 (fiscal 2011), the Company opened 278 new stores.

Jos. A. Bank Clothiers, Inc. (Jos. A. Bank) is a designer, manufacturer, retailer and direct marketer (through stores, catalog call center and Internet) of men's tailored and casual clothing and accessories and is a retailer of tuxedo rental products. Jos. A. Bank sells all of its products under the Jos. A. Bank label through 556 retail stores (as of January 28, 2012, which includes 25 outlet and factory stores and 15 franchise stores) located throughout 43 states and the District of Columbia in the United States, as well as through its catalog call center and Internet (www.josbank.com) operations. It sources substantially all of its merchandise from suppliers and manufacturers or through buying agents using Jos. A. Bank designs and specifications. It has two segments: Stores and Direct Marketing. The Stores segment includes all Company-owned stores, excluding outlet and factory stores (full-line stores). The Direct Marketing segment includes the catalog call center and the Internet.

NK Lukoil OAO (Neftyanaya Kompaniya LUKOIL OAO or NK LUKOIL OJSC) is a Russia-based integrated oil and gas company. The Company is engaged in the business of oil exploration, production, refining, marketing and distribution. It is an owner of refineries, gas processing, petrochemical plants and gas stations network located in Russia, Eastern and Western Europe, as well as Africa. The Company's petroleum products are sold in the Russian Federation, the Commonwealth of Independent States (CIS) countries, Eastern and Western Europe, Asia and the United States. NK Lukoil OAO operates through numerous subsidiaries and affiliated companies. As of December 31, 2011, the Company's major shareholder was ING Bank (Eurasia) ZAO with a stake of 75.93%.

Watch List

The Watch List contains the highest scoring stocks according to our guru consensus system that are not currently in the Hot List portfolio. We provide this list both for informational purposes and for investors who are not comfortable with a portfolio of ten stocks.


The names of individuals (i.e., the 'gurus') appearing in this report are for identification purposes of his methodology only, as derived by Validea.com from published sources, and are not intended to suggest or imply any affiliation with or endorsement or even agreement with this report personally by such gurus, or any knowledge or approval by such persons of the content of this report. All trademarks, service marks and tradenames appearing in this report are the property of their respective owners, and are likewise used for identification purposes only.

Validea is not registered as a securities broker-dealer or investment advisor either with the U.S. Securities and Exchange Commission or with any state securities regulatory authority. Validea is not responsible for trades executed by users of this site based on the information included herein. The information presented on this website does not represent a recommendation to buy or sell stocks or any financial instrument nor is it intended as an endorsement of any security or investment. The information on this website is generic by nature and is not personalized to the specific situation of any individual. The user therefore bears complete responsibility for their own investment research and should seek the advice of a qualified investment professional prior to making any investment decisions.

Performance results are based on model portfolios and do not reflect actual trading. Actual performance will vary based on a variety of factors, including market conditions and trading costs. Past performance is not necessarily indicative of future results. Individual stocks mentioned throughout this web site may be holdings in the managed portfolios of Validea Capital Management, a separate asset management firm founded by Validea.com founder John Reese. Validea Capital Management, which is a separate legal entity and an SEC registered investment advisory firm, uses, in part, the strategies on the web site to select stocks for its clients.