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Executive Summary December 19, 2014

The Economy

Can the US continue maintain its strength as oil's plunge and China's slowing growth throw a monkey wrench into other economies across the globe?

So far, so good.

The labor market, for example, continues to impress. The Labor Department said the private sector added 314,000 jobs in November, with total nonfarm payrolls rising by 321,000. It also revised its September and October jobs-added figures to indicate a total of 44,000 more jobs were added in those months than previously thought. The unemployment rate remained at 5.8% in November, the lowest it has been since July 2008; the broader "U-6" rate (which unlike the headline number takes into account those working part-time who want full-time work, and discouraged workers who have given up looking for a job) fell one-tenth of a point to 11.4%.

The Labor Department's "diffusion index", which measures the breadth of industries expanding their payrolls, reached its highest level since January 1998. And wages -- which have long been stagnant -- rose a very solid 0.4%.

Industrial production was also impressive, rising 1.3% in November, according to a new Federal Reserve report. October's figure was also revised from a 0.1% decline to a 0.1% gain. For November, manufacturing output rose 1.1%, the Fed said, while utility output, which tends to be seasonally driven, jumped 5.1%. Mining output fell by 0.1%. Industrial production capacity utilization cracked 80% for the first time since March 2008, and is now equal to its 1972-2013 average.

Retail sales made a nice jump, too, rising 0.7% in November, according to another government report. They are 3.4% above year-ago levels.

Elsewhere, the housing market appears to have taken a pause. Housing starts fell slightly, by 1.6%, in November, according to the Census Bureau. They are 7.5% below year-ago levels. Permit issuance for new construction fell by 5.2%, meanwhile, putting it about 5% below its year-ago pace.

Finally, oil and gas prices continue to deflate. As of Dec. 17, the price for a gallon of regular unleaded was just $2.51, according to AAA. That's down 38 cents over the past month. Largely because of that, we saw deflation in November, with the Consumer Price Index falling 0.3%, according to the Labor Department. That put it just 1.3% ahead of its year-ago pace. If you strip out food and gas prices, so-called core inflation was up 0.1% in November, however, according to the Labor Department. Oil's fall seemed to be largely an issue of supply, but recently it seems investors have also become more wary of demand issues (read: China slowdown).

Since our last newsletter, the S&P 500 returned -0.5%, while the Hot List returned 0.5%. So far in 2014, the portfolio has returned -10.9% vs. 11.5% for the S&P. Since its inception in July 2003, the Hot List is far outpacing the index, having gained 224.3% vs. the S&P's 106.0% gain.

The Year In Review

This year has been a pretty wild one for the stock market, with investors swinging between optimism and fear. In the end, it appears the broader market will end up with a fairly average year -- which actually tends to be a rarity. Over the past 40 years, the S&P 500 has returned between 8% and 15% only twice. This year it's up 11.5% after Thursday's big day.

For the Hot List, it has been a different story. It's down 10.9%, which makes this likely to be just the fourth time in its 12 years (including the partial 2003 year) that it will have lagged the index. (Since inception, the portfolio is more than doubling the index's gain, however.)

So, as 2014 comes to a close, this week I'd like to take a deeper look at the Hot List's performance, and the performance of my other guru-inspired portfolios. Overall, the 14 ten-stock portfolios averaged a 3.1% loss for the year, with only two of the fourteen beating the S&P. While many of their leads on the broader market narrowed in 2014, twelve of the fourteen are still beating the S&P since their inceptions, with three more than doubling the index in terms of annualized returns. Here's a look at a few of the notable strategies' performances (with returns through Dec. 18).

The Hot List: It was rough sledding right from the start for our flagship portfolio, which is on track to lag the S&P by the widest margin in any year since its inception. The portfolio was accurate (meaning it made money) on less than 40% of its picks, hurt greatly by the sell-off in small-caps. As that sell-off progressed, investors seemed to be ditching fundamentally sound, reasonably valued small caps along with the bloated, overpriced little guys. This guilt by association effect meant that even the Hot List's rigorous fundamental tests couldn't help it avoid major losses.

The portfolio still found some nice winners, however. Among the biggest were Rex American Resources -- a one-time retailer that morphed into an ethanol production firm a few years back -- which gained about 38% while in the portfolio from July 3-Aug. 29; Silicon Motion Technology (which returns to the portfolio on today's rebalancing), which gained about 15% from Aug.1-Aug. 29; and Monster Beverage, which gained 12% from Oct. 24-Nov. 21. The winners weren't enough to overcome some sizeable losers, however. Russian media firm CTC Media tumbled almost 30% from Sept. 26-Oct. 24, thanks to news of unfavorable Russian legislation about foreign ownership of media firms. Lannett Company was hit hard amid the biotech bust earlier in the year, falling 28.4%. And BBVA Banco Frances fell 19.2% during its one-month stint in the portfolio in August.

The John Neff-based Portfolio: The Neff portfolio has had a great 2014, rebounding nicely from a stretch of underperformance. It has gained 22.4% for the year, while being less volatile than the broader market (beta of 0.94). It's been accurate on 70% of its picks.

The "Low-PE" Neff approach found several big winners over short spans in 2014, including Banco Bradesco, which gained more than 34% from February 14 to April 11. The portfolio also notched nice gains on two stocks that it held for just one month: Warren Resources, which jumped 31.8% from June 6 to July 3, and AmTrust Financial Services, which jumped 27% from September 26 to October 24. The portfolio did run into some significant losers, too, most notably Employers Holdings, which lost 24% from the start of the year to mid-February. But the winners far outpaced the losers, resulting in a very strong year.

The Motley Fool-based Portfolio: After a tremendous 2013 in which it returned more than 61%, the Fool-inspired portfolio came back to earth this year. It has returned 0.4%, putting it on pace for its worst relative performance to the S&P since its inception.

The portfolio's small-cap approach led it to some sizable losers in 2014, including one that was a big winner the year before. Property and casualty insurer HCI Group joined the portfolio in February 2013 and was up more than 150% when 2014 started. But from the start of the year until it was sold in April, it fell 36%. Other significant losing positions included Alliance Fiber Optic Products, which fell 28.6% in just one month (July 3-Aug. 1) and NetScout Systems, a 24% loser in September and October.

The portfolio did find some nice winners, including Spirit Airlines, which started the year in the portfolio and gained about 22% before it was sold in May. Financial firm Piper Jaffray returned almost 24% from May 9 to July 3, and China Distance Education Holdings jumped almost 23% from April 11 to June 6.

Overall, the Fool-based portfolio still has an impeccable track record. In fact, it is my best-performing individual guru 10-stock portfolio over the long haul, averaging annual gains of 15.4% since its July 2003 inception vs. 6.5% for the S&P.

The Top 5 Gurus Portfolios: Like the Motley Fool portfolio, the Top 5 Gurus portfolio has a stellar long term track record but has underperformed in 2014. It has notched a 6.7% gain, leaving it with an outside chance of catching the S&P over the next week and a half.

The portfolio (which uses the top two picks from five of my best-performing strategies) has been accurate on about 57% of its picks throughout the year. It found some big winners, including magicJack VocalTec, which gained 39% from Jan. 17- April 14; insurance industry software provider Ebix which gained nearly 25% from Aug. 1-Aug 29; and surgical center firm AmSurg, which surged 21% from Feb. 14-June 6.

But the Top 5 Gurus portfolio also found a number of significant losers. Like The Motley Fool portfolio, it took a big loss on HCI Group, which was one of its biggest winners in 2013 but lost 31% while in the portfolio for the first two and a half months of this year. Barrett Business Services was worse, falling 43.5% from Sept. 26-Nov. 21.

The Top 5 Gurus portfolio still has a great long-term track record, though -- in fact, it's been my best performer over the long haul, putting up annualized gains of 16% since its mid-2003 inception to more than double the S&P's annualized return. That's an overall 444% gain vs. 106% for the index.

The Momentum Investor Portfolio: Our second-best performer in 2014 has been the Momentum approach, which is up 14.8% after returning more than 51% in 2013. The portfolio has been accurate on 50.8% of its picks throughout the year, proving once again that you don't need to be right anywhere close to all the time to notch nice gains. It found some big winners, including Taro Pharmaceuticals, which gained 47% from June 6- Aug. 29; Internet banking firm BofI Holdings, a 35% gainer from Jan. 1-March 14; and Carmike Cinemas, up 20% from Jan. 17-March 14.

The Momentum portfolio also found some losers, like Lannett Company, down 28% from March 14-April 11, and Middleby Corp., down 19% from March 14-May 9. But while it has found almost just as many losers as winners, the magnitude of the winners has helped it to a solid year.

The Benjamin Graham-based Portfolio: The 10-stock Graham portfolio has been one of our top performers over the long term, but in 2014 it has struggled mightily, losing 22.8%. The portfolio found big losers in CTC Media, which fell 38% from Sept. 26-Oct. 24; luxury retailer Coach Inc., which lost almost 30% from Feb. 14-Aug. 1; and gun maker Smith & Wesson Holding Corp., which lost 29.7% from July 3-Oct. 24.

The Graham-based model did find some nice winners, however. Discount retailer Big Lots surged 38.6% from Feb. 14-March 14; Cheung Kong Holdings jumped 18.2% from mid-March-early July; and USANA Health Sciences gained 11% during its one-month stint in the portfolio in August.

Despite its 2014 struggles, the 10-stock Graham-based portfolio still has an excellent long-term track record. Since its inception (July 2003), it has averaged annualized returns of 12.1%, vs. 6.5% for the S&P.

Staying Disciplined

While our strategies have had a subpar 2014, we'll continue to stick with them. Some broader market forces -- like the small-cap struggles, in particular -- were at play in 2014 that don't figure to be at play over the long term. It's critical to keep in mind that it's common for good strategies to lag the market for periods of time. Hedge fund manager Joel Greenblatt, one of the top strategists of our era (and one of the gurus who inspired my models) has used a strategy that more than doubled the market over a nearly two-decade-long period. But in his Little Book that Beats the Market, Greenblatt wrote that the strategy lagged the market in five of every twelve months. It also did poorly for more than two years in a row in one out of every six periods tested. There were even times when it underperformed for three years in a row.

Greenblatt says the key to generating strong long-term returns is sticking with a good strategy during the down periods, when undisciplined investors bail. That allows you to pick up the high-quality bargains they leave behind. And he's not alone. Many other highly successful investors have expressed a similar view. James O'Shaughnessy -- whose study into the performance of various investment strategies is perhaps the most in-depth of its kind -- didn't cite great foresight or timing or intricate business knowledge in explaining how to beat the market. Instead, he said the key is having the discipline to "consistently, patiently, and slavishly stick with a strategy".

So while most of our models have underperformed this year, we believe that they are good strategies, and their long-term track records support that belief. As I've said before, they look at a myriad of different fundamental and financial criteria that get at the heart of good business and good investing, and they apply these criteria in a disciplined, unemotional way. That's how history's best investors have beaten the market, and we believe it's the way to beat the market going forward.

Have a great holiday, and we'll see you in 2015.

 
Editor-in-Chief: John Reese










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The Fallen

As we rebalance the Validea Hot List, 5 stocks leave our portfolio. These include: Valero Energy Corporation (VLO), Foot Locker, Inc. (FL), Piper Jaffray Companies (PJC), Middleby Corp (MIDD) and Credit Acceptance Corp. (CACC).

The Keepers

5 stocks remain in the portfolio. They are: Agco Corporation (AGCO), Jones Lang Lasalle Inc (JLL), Universal Insurance Holdings, Inc. (UVE), Zumiez Inc. (ZUMZ) and Amtrust Financial Services Inc (AFSI).

The Newbies

We are adding 5 stocks to the portfolio. These include: Blackrock, Inc. (BLK), Sasol Limited (Adr) (SSL), Williams-sonoma, Inc. (WSM), Silicon Motion Technology Corp. (Adr) (SIMO) and United Insurance Holdings Corp.(Nda) (UIHC).

Portfolio Changes



Newcomers to the Validea Hot List

United Insurance Holdings Corp. (UIHC): The parent of United Property & Casualty Insurance Company and its affiliated companies, United is primarily engaged in the homeowners property and casualty insurance business in the United States. It currently writes in Florida, Massachusetts, New Jersey, North Carolina, Rhode Island, and South Carolina, and was recently licensed to write in Texas and New Hampshire. Its target market currently consists of areas where the perceived threat of natural catastrophe has caused large national insurance carriers to reduce their concentration of policies, creating opportunities for firms like UIHC.

United ($430 million market cap) gets strong interest from my John Neff-based model. To read more about its fundamentals, check out the "Detailed Stock Analysis" section below.

Silicon Motion Technology Corporation (SIMO): Silicon Motion is a fabless semiconductor company that makes high-performance, low-power semiconductor solutions for the multimedia consumer electronics market. Its products include mobile storage, mobile communications, multimedia systems-on-a-chip (SoCs) and other products.

Silicon Motion ($800 million market cap) gets strong interest from my Peter Lynch-based model and high marks from several other strategies. To read more about it, scroll down to the "Detailed Stock Analysis" section.

Sasol Limited (SSL): This South Africa-based firm is an international integrated energy and chemicals company which has more than 33 000 people working in 37 countries. It develops and commercializes technologies, and builds and operates world-scale facilities to produce a range of product streams, including liquid fuels, high-value chemicals and low-carbon electricity.

Sasol ($23 billion market cap) gets strong interest from my Peter Lynch-, Benjamin Graham-, and Warren Buffett-based models. For more on the stock, see the "Detailed Stock Analysis" section below.

Williams-Sonoma Inc. (WSM): This San Francisco-based cookware and kitchen supply store, which also owns home products and furniture stores like Pottery Barn and West Elm, has nearly 600 stores across the U.S. and Canada.

Sonoma ($6.7 billion market cap) gets strong interest from my Peter Lynch- and James O'Shaughnessy-based models. To read more about it, scroll down to the "Detailed Stock Analysis" section below.

BlackRock Inc. (BLK): With more than $4.3 trillion in assets under management, BlackRock is the world's largest asset manager. It has taken in more than $11 billion in sales over the past year, and has been growing earnings per share at a 23% clip over the long term.

BlackRock ($57 billion market cap) gets strong interest from my Peter Lynch- and Martin Zweig-based models. For more on the stock, see the "Detailed Stock Analysis" section below.



News about Validea Hot List Stocks

AGCO Corporation (AGCO): AGCO announced that its Board of Directors has authorized a share repurchase program of up to $500 million of the company's common stock. The actual timing, number and value of shares repurchased under the latest program will be determined by management at its discretion within the terms of the authorization, and will depend on a number of factors, the firm said.



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

JLL   |   UVE   |   ZUMZ   |   AFSI   |   UIHC   |   SSL   |   AGCO   |   SIMO   |   BLK   |   WSM   |  



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.





Universal Insurance Holdings, Inc. (UIH) is a vertically integrated insurance company. The Company's insurance products are offered to the Company's customers through Universal Property & Casualty Insurance Company (UPCIC) and American Platinum Property and Casualty Insurance Company (APPCIC), (collectively the Insurance Entities). Substantially all aspects of insurance underwriting, distribution and claims processing are covered through the Company's subsidiaries. Blue Atlantic Reinsurance Corporation (BARC), a wholly owned subsidiary of UIH, is a reinsurance intermediary broker. The Insurance Entities generate revenues primarily from the collection of premiums. Universal Risk Advisors, Inc. (URA), the Company's managing general agent, generates revenue through policy fee income and other administrative fees from the marketing of the Insurance Entities' insurance products through its distribution network of independent agents.





Zumiez Inc. (Zumiez) is a specialty retailer of action sports related apparel, footwear, equipment and accessories operating under the Zumiez brand name. As of January 28, 2012, the Company operated 434 stores in the United States and 10 stores in Canada. In addition, the Company operates a Website that sells merchandise online. At January 28, 2012, its stores averaged approximately 2,900 square feet. 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 also offers a selection of other items, such as miscellaneous novelties.





Amtrust Financial Services, Inc. (AmTrust) underwrites and provides property and casualty insurance. The Company operates in three business segments: Small Commercial Business, Specialty Risk and Extended Warranty and Specialty Program. Small Commercial Business segment provides workers' compensation to small businesses that operate in low and medium hazard classes, such as restaurants, retail stores, physicians and other professional offices, and commercial package and other property and casualty insurance products to small businesses. The Company's Specialty Risk and Extended Warranty segment provides coverage for consumer and commercial goods and custom designed coverages, such as accidental damage plans and payment protection plans. 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





United Insurance Holdings Corp. (UIHC) is a holding company for United Property and Casualty Insurance Company and its affiliated companies. Its business is conducted principally through four wholly-owned subsidiaries, including United Property and Casualty Insurance Company (UPC), which writes insurance policies; United Insurance Management, L.C. (UIM), the managing general agent that manages substantially all aspects of UPC's business, Skyway Claims Services, LLC (SCS), a claims adjusting company that provides services to UPC; and UPC Re. UPC Re provides reinsurance protection to UPC. The Company offers standardized policies for a range of exposures, and its policies include coverage options for standard single-family homeowners, tenants (renters), and condominium unit owners. It also writes flood policies.





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.





AGCO Corporation is engaged in manufacturing and distributing agricultural equipment and related replacement parts throughout the world. The Company sells a range of agricultural equipment, including tractors, combines, self-propelled sprayers, application equipment, hay tools, forage equipment, tillage, implements, engines, precision farming technologies, grain storage and protein production systems, and replacement parts. Its products are used in the agricultural equipment industry and are marketed under a number of brands, including Challenger, Fendt, GSI, Massey Ferguson and Valtra. The Company distributes most of its products through a combination of approximately 3,100 independent dealers and distributors in more than 140 countries. In addition, the Company provides retail financing, through its retail finance joint ventures with Cooperatieve Centrale Raiffeisen-Boerenleenbank B.A. (Rabobank).





Silicon Motion Technology Corporation (SMTC) is a holding company. The Company's operations are conducted through Silicon Motion, Inc. (SMI Taiwan), a wholly owned subsidiary located in Taiwan and FCI, Inc. (FCI), a wholly owned subsidiary of SMTC, located in Korea. The Company is a fabless semiconductor company that designs, develops and markets, high-performance, low-power semiconductor solutions for the multimedia consumer electronics market. SMTC designs, develops and markets high performance, low-power semiconductor products for the multimedia consumer electronics market. Its products include mobile storage, mobile communications, multimedia systems-on-a-chip (SoCs) and other products. Its product offerings address three main markets: mobile storage, multimedia SoCs and mobile communications markets. On October 25, 2011, its subsidiary FCI acquired BTL System, Inc.





BlackRock, Inc. (BlackRock) is an investment management firm. The Company provides a range of investment and risks management services. The Company's clients include retail, high net worth (HNW) and institutional investors, consists of pension funds, official institutions, endowments, insurance companies, corporations, financial institutions, central banks and sovereign wealth funds. The Company's platform enables the Company to offer active (alpha) investments with index (beta) products and risk management to develop tailored solutions for clients. Its product range includes single- and multi-asset class portfolios investing in equities, fixed income, alternatives and/or money market instruments. In October 2013, BlackRock Inc acquired Macquarie Global Property Advisors Ltd. In January 2014, Forge Group Limited announced that BlackRock Inc. and subsidiaries had ceased to be the substantial holder of Forge Group Limited.





Williams-Sonoma, Inc. is a multi-channel specialty retailer of products for the home. The Company is an e- commerce retailer with brands in home furnishings. It operates retail stores in the United States, Canada and Puerto Rico, and franchises its brands to a third party in a number of countries in the Middle East, including Bahrain, the Kingdom of Saudi Arabia, Kuwait and the United Arab Emirates. Its products are also available to customers through its catalogs and online worldwide. The Company operates in two segments: direct-to-customer and retail. The direct-to-customer segment has seven merchandising concepts (Williams-Sonoma, Pottery Barn, Pottery Barn Kids, PBteen, West Elm, Rejuvenation and Mark and Graham) which sell its products through its seven e-commerce Websites and eight direct-mail catalogs. The retail segment has five merchandising concepts (Williams-Sonoma, Pottery Barn, Pottery Barn Kids, West Elm and Rejuvenation) which sells products through its retail stores.





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.





Disclaimer


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.