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Executive Summary February 27, 2015

The Economy

The economy appears to be taking a breather after several strong months, with the past fortnight's economic data being a mixed bag.

On the positive side, new orders for nondefense capital goods spending excluding aircraft, which is considered a good gauge of business investment, bounced back after four months of declines, rising 0.6 percent in January. Overall, durable goods orders were up 2.8%.

New claims for unemployment rose slightly since our last newsletter, but are 10.4% below year-ago levels. Continuing claims, the data for which lag new claims by a week, moved slightly lower since our last newsletter and are 18.4% below year-ago levels.

Retail sales tumbled 0.8% in January, according to a new report from the Census Bureau, the second straight big monthly drop. That's 2.8% higher than they were in the year-ago period, one of the smaller year-over-year increases we've seen recently. It's worth noting that gasoline station sales are included in retail sales -- in January, they were 24% below year-ago levels. So while retail sales were down 0.9% in December and 0.8% in January, they're down just 0.2% over that period if you strip out gas station sales. Given the growth in employment and wages recently, the December and January declines may well be a case of consumers not yet spending the money they're saving at the pump, rather than a sign of any sort of economic trouble.

New home sales, meanwhile, were just about flat in January compared to December, according to the Census Bureau. They were about 9% above year-ago levels. Median sale prices were about 9.5% above where they were a year ago.

Housing starts slipped by 2.0% in January, according to the Census Bureau, but are more than 18% above year-ago levels. Permit issuance for new construction dipped 0.7%, but is about 2.4% above where it stood a year ago.

Elsewhere, oil prices seem to have stabilized in the $50 range, for now at least. Gas prices, on the other hand, are rebounding. A gallon of regular unleaded on average cost $2.33 as of Feb. 25, up 29 cents from a month earlier, according to AAA. Still, that's more than 30% below where it was a year ago.

Since our last newsletter, the S&P 500 returned 1.1%, while the Hot List returned 1.4%. So far in 2015, the portfolio has returned 9.3% vs. 2.5% for the S&P. Since its inception in July 2003, the Hot List is far outpacing the index, having gained 253.4% vs. the S&P's 111.0% gain.

Portfolio Update

It's been another good fortnight for the Hot List. As of midday trading on Thursday, 7 of the portfolio's 10 holdings were in the black since our last newsletter. Leading the way was generic drugmaker Lannett Company, which was up 10.5%. Lannett still appears to be riding the wave that it caught earlier this month when it announced stellar earnings. Reports have also been circulating that the firm is on the hunt for acquisitions.

Not far behind Lannett was Sanderson Farms, which was up 9.7% since our last newsletter. Its rise seemed to be driven partly by its announcement of strong fiscal first quarter earnings and revenues. But much of its gains occurred before its Feb. 24 earnings release. It's not clear what the catalyst was for the stock's gains prior to the earnings announcement.

On the downside, petrochemical firm Sasol was down 8%. The South African firm said the negative impact of lower oil prices on its earnings is causing it to change its dividend policy. Previously, the company's policy was to maintain or raise dividends, but now the firm has adopted a more flexible approach that will give it the option to decrease dividends, according to Reuters. Investors were not pleased, and shares fell sharply.

With almost two months of 2015 now in the books, the Hot List has bounced back strongly from its 2014 struggles. We'll check back in on the portfolio's performance in two weeks, at which time we will perform our regularly scheduled rebalancing.

Editor-in-Chief: John Reese

Guru Spotlight: Martin Zweig

Martin Zweig is known as one of the greatest growth investors of all-time, and when it came to picking stocks, he said there were two main ways to go about it: the rifle approach and the shotgun method.

The rifle approach involves investing in a small number of company's whose prospects, fundamentals, and businesses you've analyzed thoroughly. The shotgun approach, meanwhile, involves systematically screening large numbers of stocks to find those that have specific quantitative characteristics -- that's what we do with the Hot List.

Which did Zweig prefer? The shotgun method. In this passage of Winning on Wall Street, he explained why, talking first about the rifle method and then about the shotgun approach:

For some, the shotgun approach can be a difficult one to adopt because you're basically acknowledging upfront that you're going to pick some losing stocks. The rifle method offers the illusion of more control, the idea that by getting as much information as possible on a limited number of firms you can always (or almost always) make the right decision. But the truth is that there are just too many moving parts in the stock market for anyone to be right anywhere close to all the time, whether you use a rifle or shotgun approach. Even the most famous and perhaps the best rifle method stock picker ever, Warren Buffett, makes mistakes -- in his 2008 letter to Berkshire Hathaway shareholders, Buffett said that he had cost the firm billions by investing in ConocoPhillips at the wrong time earlier that year, for example. (In fact, in my latest article for Seeking Alpha, I talked a bit about how Buffett's letters are often filled with his acknowledgments of his own errors.)

The reality is also that you don't need to be right all the time. As Zweig said, "If you are right 60% of the time, ride your profits, and rein in your losses, you'll find that when you're right you're very right, and when you're wrong you're only moderately wrong. In the long run, a 60% success rate translates into huge gains, a 50% rate into solid gains, and even a 40% rate can beat the market."

My Guru Strategies are proof of that. In the chart below, you can see the accuracy rates (that is, the percentage of stocks that they made money on) for each of my 10-stock portfolios since their inceptions.


As you can see, none of these portfolios has made money on more than 61.3% of its picks, and yet all but two of them are beating the S&P 500 since their inceptions, most by pretty wide margins. The strategy with the lowest accuracy rate -- my Momentum Investor portfolio -- has been right on just 47% of its picks, but it has beaten the S&P by 3.2 percentage points annually since its inception nearly 12 years ago.

I think one of the greatest benefits of the shotgun approach is that it lends itself to systematic, unemotional investing. Since you are just screening for stocks that have particular fundamental qualities, there's no hunch playing or guesswork. If the stock meets your criteria, you buy it; if not, you pass. With a rifle approach, you're going to get into more subjective analyses of the firm's products and business. Rare investors like Buffett, who have exceptional business acumen and the ability to keep their emotions at bay, can have great success doing that. But most individual investors lack the discipline (and time, frankly) needed to thoroughly analyze a business and not be swayed by what the rest of the world thinks.

As I noted earlier, you're not going to be right on 100% of their stock picks, or anything close to that. No one can do that. But what you can do is set up an investment framework that helps limit the behavioral mistakes and emotional decision-making that so many investors fall prey to. To me, using a shotgun approach is a key part of doing that.

News about Validea Hot List Stocks

Sanderson Farms (SAFM): Sanderson said on Feb. 24 that it posted fiscal first-quarter profit of $2.87 per share, beating analysts estimates of $2.76 per share, according to the Associated Press. Sanderson posted revenue of $667.4 million in the period.

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

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Lannett Company, Inc. develops, manufactures, packages, markets and distributes solid oral (tablets and capsules), extended release, topical and oral solution finished dosage forms of drugs. The Company also manufactures active pharmaceutical ingredients through its Cody Laboratories, Inc. (Cody Labs) subsidiary. The Company operates pharmaceutical manufacturing plants in Philadelphia, Pennsylvania and Cody, Wyoming. Customers of the Company's pharmaceutical products include generic pharmaceutical distributors, drug wholesalers, chain drug stores, private label distributors, mail-order pharmacies, other pharmaceutical manufacturers, managed care organizations, hospital buying groups, Governmental entities and health maintenance organizations. The Company's products include Levothyroxine Sodium tablets, Digoxin tablets, Butalbital, Cocaine Topical Solution and Morphine Sulfate Oral Solution.

Sasol Limited (Sasol) is an integrated energy and chemicals company. Sasol mines coal in South Africa and produce natural gas and condensate in Mozambique, oil in Gabon and shale gas in Canada. In South Africa it refines imported crude oil and retail liquid fuels. It has chemical manufacturing and marketing operations in South Africa, Europe, the Middle East, Asia and the Americas. It operates in four segments: South African energy cluster, International Energy Cluster, Chemical Cluster and Other businesses. Effective March 31, 2013, Sasol Olefins & Surfactants sold G.D. Portbury Ltd. On 16 August 2013, Sasol Investment Company (Pty) Limited, a wholly owned subsidiary of Sasol, entered into a definitive sale and share purchase agreement pursuant to which Main Street 1095 (Pty) Limited, completed the acquisition of 100% of the interest of SPI International (Pty) Limited (SPII). SPII is the indirect owner of a 50% interest in the Iranian joint venture, Arya Sasol Polymer Company.

Sanderson Farms, Inc. is a poultry processing company which is engaged in the production, processing, marketing and distribution of fresh and frozen chicken and other prepared chicken items. In addition, the Company is engaged in the processing, marketing and distribution of prepared chicken through its wholly owned subsidiary, Sanderson Farms, Inc. (Foods Division). It produces a range of processed chicken products and prepared chicken items. It sells ice pack, chill pack, bulk pack and frozen chicken, in whole, cut-up and boneless form, under the Sanderson Farms brand name to retailers, distributors, and casual dining operators in the south-eastern, south-western, north-eastern and western United States and to customers who resell frozen chicken into export markets. During the fiscal year ended October 31, 2013 (fiscal 2013), it processed 452 million chickens, or over 3.0 billion dressed pounds.

Zumiez Inc. is a multi-channel specialty retailer of action sports related apparel, footwear, accessories and hardgoods, focusing on skateboarding, snowboarding, surfing, motocross and bicycle motocross for young men and women. The Company operates under the names Zumiez and Blue Tomato. The Company operates ecommerce Websites at www.zumiez.com and www.blue-tomato.com. Its apparel offerings include tops, bottoms, outerwear and accessories, such as caps, bags and backpacks, belts, jewelry and sunglasses. Zumiez's footwear offerings primarily consist of action sports related athletic shoes and sandals. Its equipment offerings, or hardgoods, include skateboards, snowboards and ancillary gear, such as boots and bindings. The Company sources its private label merchandise from primarily foreign manufacturers around the world.

Jones Lang LaSalle Incorporated (Jones Lang LaSalle), is a financial and professional services firm specializing in real estate. Jones Lang LaSalle has over 200 corporate offices worldwide and operations in more than 1,000 locations in 70 countries. The Company offers integrated real estate and investment management services on a local, regional and global basis to owner, occupier and investor clients. It delivers an array of Real Estate Services (RES) across its three geographic business segments: the Americas, Europe, Middle East and Africa (EMEA), and Asia Pacific. LaSalle Investment Management, a wholly owned member of the Jones Lang LaSalle group that consists of its fourth business segment, is a diversified real estate investment management company. In July 2014, Jones Lang LaSalle Inc acquired CLEO Construction Management (CLEO), a construction project management services firm that specializes in medical facilities.

Apple Inc. designs, manufactures and markets mobile communication and media devices, personal computers and portable digital music players and sells a variety of related software, services, peripherals, networking solutions and third-party digital content and applications. The Company's products and services include iPhone, iPad, Mac, iPod, Apple TV, a portfolio of consumer and professional software applications, the iOS and OS X operating systems, iCloud and a variety of accessory, service and support offerings. The Company offers a range of mobile communication and media devices, personal computing products and portable digital music players, as well as a variety of related software, services, peripherals, networking solutions and third-party hardware and software products. The Company's primary products include iPhone, iPad, Mac, iPod, iTunes, Mac App Store, iCloud, Operating System Software, Application Software and Other Application Software.

Hibbett Sports, Inc. operates sporting goods stores in small and mid-sized markets predominantly in the South, Southwest, Mid-Atlantic and the Midwest. The Company operates 927 stores consisting of 910 Hibbett Sports stores and 17 smaller-format Sports. The Company's merchandise assortment emphasizes team sports complemented by localized apparel, footwear and accessories designed to appeal to a range of customers within each individual market. The Company's primary retail format is Hibbett Sports, an approximately 5,000 square foot store located primarily in strip centers, which are usually near a Wal-Mart store. Of these stores, 730 Hibbett Sports stores are located in strip centers, which include free-standing stores, with the remaining 180 stores located in enclosed malls, which are the only enclosed malls in their county.

Starwood Property Trust, Inc. is a holding company. The Company, through its subsidiaries is focused on originating, acquiring, financing and managing commercial mortgage loans and other commercial real estate debt investments, commercial mortgage-backed securities (CMBS), and other commercial real estate-related debt investments in both the United States and Europe. The Company operates in two segments: Real estate investment lending (the Lending Segment) and LNR. Real estate investment includes all business activities of the Company comprising investments in real estate related loans and securities that are held-for-investment.

Amtrust Financial Services, Inc., (AmTrust) is a provider of property and casualty insurance. The Company operates in four business segments: small commercial business, Specialty Risk and Extended Warranty, specialty program and personal lines reinsurance. Small Commercial Business segment provides workers' compensation to small businesses. The Company's Specialty Risk and Extended Warranty segment provides coverage for consumer and commercial goods and custom designed coverages. The Company's Specialty Program segment provides workers' compensation, package products, general liability, commercial auto liability, excess and surplus lines programs and other specialty commercial property and casualty insurance. The Company subsidiaries include: Technology Insurance Company, Inc. (TIC), Rochdale Insurance Company (RIC), AmTrust Insurance Company of Kansas, Inc. (AICK), AmTrust Lloyd's Insurance Company of Texas (ALIC), Oryx Insurance Brokerage, Inc. and TMI Solutions, LLC.

The Middleby Corporation (Middleby), through its operating subsidiary Middleby Marshall Inc. (Middleby Marshall) and its subsidiaries, is engaged in the design, manufacture, marketing, distribution, and service of a line of cooking and warming equipment used in all types of commercial restaurants and institutional kitchens, and food preparation, cooking and packaging equipment for food processing operations. The Company conducts its business through three principal business segments: the Commercial Foodservice Equipment Group, the Food Processing Equipment Group and the Residential Kitchen Equipment Group. The Company's commercial foodservice equipment is marketed under a portfolio of brands, including Anets, Beech, Blodgett, Blodgett Combi, Blodgett Range, Bloomfield, Britannia, CTX, Celfrost, CookTek, Doyon, frifri, Giga, Holman, Houno, IMC, Jade, Lang, Lincat, MagiKitch'n, Marsal, Middleby Marshall, MPC, Nieco, PerfectFry, TurboChef, Viking, Wells, Wunder-Bar and others.

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.