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Executive Summary December 24, 2009

The Economy

While it isn't what one would call robust, the economic recovery nonetheless seems to be continuing as we head toward 2010.

Since our last newsletter, we've learned that Gross Domestic Product actually grew at a 2.2% pace in the third quarter -- significantly lower than the initial estimate of 3.5%, and still short of the downwardly revised 2.8% figure issued last month. That's much lower than the typical growth seen coming out of recessions, though growth of any kind is welcome news given the breadth and depth of the recession. The good news within the GDP revision was that, while downward adjustments to consumer spending numbers were largely to blame, those adjustments were in large part due to lower spending on health care; spending on clothes, food, gas, and durable goods like automobiles was about as strong as previously thought.

Industrial production, meanwhile, continues to increase. According to the Federal Reserve, it grew by 0.8% in November, rising for the fourth time in five months. The report showed that manufacturing activity also increased for the fourth time in five months. And, it showed that industrial capacity utilization -- which tumbled to very low levels earlier this year -- rose again, reaching its highest level of the year.

In the housing market, the news has been very mixed. Tuesday, the National Association of Realtors reported that existing-home sales rose 7.4% in November, reaching their highest level since February 2007. Sales are now 44% higher than they were a year ago, the group said.

But on Wednesday, a government report showed that sales of new one-family houses plunged 11.3% in November. Sales prices rose, however, increasing from an average of $255,900 in October to $280,300 in November.

While they were buying new houses at a slow pace, consumers were on the whole spending more money in November, a good sign. Personal incomes increased at a 0.4% rate -- the highest pace in six months -- and consumers upped their spending by 0.5%, the second straight monthly increase. Consumers' struggles have been at the center of the debate on how strong the recovery will be, with many saying that overleveraged consumers -- who make up about two-thirds of the U.S. economy -- won't spend enough to drive a robust recovery. The increase in consumer spending is thus very good news.

Directly connected to consumer spending is another key factor in the recovery: unemployment. The latest jobs data showed that initial claims for unemployment rose slightly in the most recent week (ending Dec. 12), the second straight weekly increase. And, while the figure is about 15% below year-ago levels, it remains high.

Another major factor to keep an eye on is the dollar, which over the past fortnight has shown surprising strength. As of yesterday afternoon, the dollar was up more than 5% since Dec. 3 against the Euro, and more than 6% against the Yen. The consensus seemed to be that the dollar was gaining on speculation that the U.S. recovery will lead the Federal Reserve to increase interest rates next summer.

The dollar's rise corresponded with gains for the stock market -- an unusual event over the past couple months, when the two have moved in opposite directions from each other. The S&P 500 has gained 2.2% since our last newsletter, while the Hot List was even better, rising 6.9%. Since its inception in July 2003, the Hot List has gained 140.7%, while the S&P is up just 12.0%.

What Worked -- and What Didn't

All in all, 2009 has been a very strong year for the Hot List, with the portfolio's 46.8% gain nearly doubling the S&P 500's 24.1% rise. It has almost wiped out the losses from a rough 2008 (the portfolio is down about 6% since the start of '08), something the broader market cannot claim (the S&P remains down close to 25% over the same period).

Given that this will be the final Hot List issue before the new year, I thought it would be good to take a look back at the past 12 months and see just where the portfolio got the most value, as well as where it misfired.

Let's start with the positives. One main area in which the Hot List found a lot of value in 2009 was the retail/consumer discretionary arena. The strength retail showed was a good example of why sticking with a strategy is so important. Many of the year's best picks were retailers, and the Hot List was early in snatching up some of them.. Eventually, however, the value of these bargain stocks shone through, leading to some huge gains.

A case in point is one of the year's best performers, The Dress Barn, a women's bargain clothing chain. The Hot List picked up Dress Barn on Jan. 23. At the time, the retail outlook was bleak, and Dress Barn scuffled for the first few weeks it was in the portfolio. But then it took off, and by the time the Hot List sold the stock on April 17, it had gained 70.1%.

Dress Barn wasn't through helping the Hot List, however. It returned to the portfolio on July 10, gaining another 23.5% before the Hot List sold it on August 7. (Interestingly, in the April 18-July 9 period in which Dress Barn was out of the portfolio, the stock lost about 11%.)

Another retailer that excelled was Jos. A. Bank Clothiers, the men's retailer whose discount-driven promotions helped it keep boosting sales in a rough climate in recent years. The Hot List picked up Bank on Feb. 20 and held it until October 2, earning a 78.2% profit along the way.

One of the portfolio's quickest risers of 2009 was another consumer discretionary stock, Deckers, which makes a variety of casual footwear and accessories. Deckers was in the Hot List for just one rebalancing period (May 15-June 12), but it surged 46.2% in that time.

Another consumer goods firm that had a short stay but big rise was Chinese jeweler Fuqi International. The Hot List snatched up Fuqi on June 12, and sold it on Sept. 4 for a 64.1% profit.

There were, however, consumer discretionary picks that didn't fly. Sketchers, the casual footwear maker, had been losing ground while in the Hot List in the latter part of 2008. It continued its downward path in 2009, losing 46% from the start of the year through Feb. 20, when the Hot List cut bait on it.

Toymaker JAKKS Pacific also struggled, losing 33% from the point it joined the portfolio (a few days before the new year) until the Hot List sold it on Feb. 20. On the whole, however, these consumer-type stocks were a major boon for the portfolio in '09.

Another area that contributed to the Hot List's outperformance: energy. While the energy sector was in the middle of the pack in terms of the broader market's performance, the Hot List found several big winners. Oil services firm Oil States International gained 59.3% while in the portfolio from March 20-May 15. It then returned to the Hot List a month later, gaining 5.1% from June 12-Aug.7, and was then picked up again on Oct. 30 and has gained another 15% (through yesterday).

Another oil services firm that had more than one strong stint in the Hot List in '09 was World Fuel Services. The Miami-based firm gained 28.4% while in the portfolio from March 20-May 15, and then returned from Sept. 9-Nov. 27, gaining another 17.7%. (It also lost 10.6% during a June 12-July 10 stint.) Lufkin Industries, yet another oil services firm, packed a similar one-two punch, gaining 23.0% from May 15-June12, and then returning to the Hot List to gain another 22.0% from July 10-Aug.7. (Like World Fuel, Lufkin also had a losing stint in the portfolio, dropping 8% from March 20-April 17.)

Other big winners during 2009: Schnitzer Steel, which gained 65.9% while in the portfolio from Jan. 23-June 12; Net 1 UEPS Technologies, which makes card-based payment systems for underserved areas in developing countries and gained 23.9% from Jan. 23-Feb. 20; and Chinese I/T firm VanceInfo Technologies, which gained 28% from Sept. 4-Nov. 27.

While there weren't a lot of big losers in 2009, there were some, and several came from the capital goods sector. Industrial firm Kennametal joined the portfolio a few days before the start of 2009, and lost 28.6% by the time it was sold on March 20. The Hot List then snatched it up again on April 17, only to be disappointed again when the stock tumbled another 16.8% before the portfolio cut bait on May 15.

Welding and cutting tool specialist Lincoln Electric, meanwhile, lost 18.1% while in the Hot List from Feb. 20-March 20, and manufacturer Esterline Technologies, which serves the aerospace & defense industries, joined the portfolio a few days before the start of 2009 and lost 45% by the time it was sold on March 20. Infrastructure play Astec Industries also lost 14.1% while in the portfolio from Aug. 7-Sept. 4.

Other disappointments outside the capital goods sector included Frontier Oil, which lost 20% from June 12-Nov. 27, and clothing retailer Genesco, which dropped 20.1% from June 12-July 10.

New Decade, Same Approach

Now, as 2009 passes into the rearview mirror, I'm optimistic about 2010. The economy is steadying itself, huge amounts of government stimulus money have yet to make their way into the system, and interest rates remain at or near historically low levels -- all of which bode well for stocks. While I'm not counting on 2010 to feature the same huge gains that we've seen this year, I'm also not ruling it out. Remember, the last time the market had a big rebound year was 2003, when the Hot List surged 57% (vs. 11.1% for the S&P); that didn't mean the portfolio was out of steam, however -- it gained another 23.5% in 2004, more than doubling the S&P. There's a lot of talk that 2010 will be a stock-picker's market; if it is, the Hot List should fare well, given its ability to find the most fundamentally sound, attractively priced stocks in the market.

Whatever the case may be for the broader market and economy in the new year, we'll stick to our long-term strategy. By doing that and fighting off the temptation to flee the market when things looked quite dire earlier in the year, the Hot List was able to reap the benefits of one of the best rallies in history, while many skeptics sat on the sidelines. Over the long term, I think that type of discipline will allow the portfolio to continue to beat the market by a substantial margin.
Editor-in-Chief: John Reese

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The Fallen

As we rebalance the Validea Hot List, 2 stocks leave our portfolio. These include: Jacobs Engineering Group Inc. (JEC), Emcor Group, Inc. (EME), .

The Keepers

8 stocks remain in the portfolio. They are: Itt Educational Services, Inc. (ESI), Tidewater Inc. (TDW), National-oilwell Varco, Inc. (NOV), Oil States International, Inc. (OIS), Chevron Corporation (CVX), Aeropostale, Inc. (ARO), Dresser-rand Group Inc. (DRC) and Fuqi International, Inc. (FUQI).

The Newbies

We are adding 2 stocks to the portfolio. These include: World Acceptance Corp. (WRLD), Telvent Git, S.a (TLVT), .

Portfolio Changes

Newcomers to the Validea Hot List

Telvent GIT SA (TLVT): This Spain-based global I/T firm focuses on markets involving sustainable use of resources, including the energy, transportation, agricultural and environmental sectors. Some of its work involves helping manage energy sources more efficiently, reducing CO2 emissions by reducing traffic congestion, and optimizing the complete water cycle. The $1.3-billion-market-cap firm has taken in about $1.2 billion in sales in the past year.

Telvent gets approval from two of my models, the Momentum Investor approach and my James O'Shaughnessy-based growth strategy. To see why, scroll down to the "Detailed Stock Analysis" section below.

World Acceptance Corp. (WRLD): Based in Greenville, S.C., World Acceptance specializes in small, short-term loans, and has close to 1,000 offices in the southern and central U.S., and Mexico. Its loans are generally under $3,000 and have durations of less than 24 months, and much of its business comes from repeat customers. It's a small-cap (about $560 million), and it has taken in about $420 million in sales in the past year.

World Acceptance gets approval from four of my Guru Strategies, those I base on the approaches of Peter Lynch, Warren Buffett, Martin Zweig, and James O'Shaughnessy. The "Detailed Stock Analysis" section below explains why.

News about Validea Hot List Stocks

Chevron Corp (CVX): Chevron said last week that it has closed a deal with Chubu Electric Power Co. of Japan for about 20% of Chevron's share of natural gas from the Gorgon project in Australia. The deal includes a 0.417 percent equity stake and 1.44 million metric tons per year of liquefied natural gas from the $40 billion-plus Gorgon project, which is located on Barrow Island off Western Australia, Reuters reported. Chevron currently owns just over 47% of the project, according to Reuters.

Oil States International (OIS): An Oil States subsidiary has received a $460 million contract from Imperial Oil Ltd. to provide lodging for workers during the development of the Kearl oil sands project in Northeast Alberta, Canada, the Associated Press reported. The contract begins April 1 and runs through March 31, 2013, AP said.

The Next Issue

On Friday, Jan. 8, we will publish another issue of the Hot List, at which time we will take an in-depth look at one of my individual Guru Strategies. 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

FUQI   |   WRLD   |   TLVT   |   ARO   |   OIS   |   NOV   |   CVX   |   DRC   |   ESI   |   TDW   |  

Fuqi International, Inc. (Fuqi) is a designer of precious metal jewelry in China, developing, promoting, and selling a range of products in the Chinese luxury goods market. The Company's products consist of a range of styles and designs made from gold and other precious metals, such as platinum and Karat gold (K-gold). The Company also produce jewelry items that contain diamonds and other precious stones on a custom-order basis. Its design database contains over 30,000 products. The Company operates through its wholly owned subsidiary Fuqi International Holdings Co., Ltd. (Fuqi BVI) and its wholly owned subsidiary, Shenzhen Fuqi Jewelry Co., Ltd. (Fuqi China). As of December 31, 2008, the Company had 69 jewelry retail counters and stores in China.

World Acceptance Corporation 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. The Company offers standardized installment loans through 944 offices in South Carolina, Georgia, Texas, Oklahoma, Louisiana, Tennessee, Illinois, Missouri, New Mexico, Kentucky, Alabama and Mexico as of March 31, 2009. World Acceptance Corporation serves individuals with limited access to consumer credit from banks, savings and loans, other consumer finance businesses and credit card lenders. The Company also offers income tax return preparation services and access to refund anticipation loans through a third party bank to its customers and others. During the fiscal year ended March 31, 2009 (fiscal 2009), the Company opened 98 new offices, 11 other offices were purchased and three offices were closed or merged into other existing offices.

Telvent GIT, S.A. is an information technology (IT) company that specializes in value-added real time products, services and integrated solutions to customers in targeted industrial sectors (Energy, Transportation, Environment and Agriculture), as well as Global Services, primarily in Europe, North America, Latin America, the Asia-Pacific region, the Middle-East and Africa. Products and services solutions include systems integration, consulting services, design and engineering services, real-time business-to-business information services and software. The Company has five segments: Energy, Transportation, Environment, Agriculture and Global Services. On October 28, 2008, the Company's subsidiary, Telvent Export, acquired 100% of DTN Holding Company, Inc., a business information service provider in North America, for a purchase price of United States.

Aeropostale, Inc. is a mall-based specialty retailer of casual apparel and accessories. The Company designs, markets and sells its own brand of merchandise principally targeting 14 to 17 year-old young women and young men. The Company also sells Aeropostale merchandise through its e-commerce Website, www.aeropostale.com. As of January 31, 2009, it operated 914 stores, consisting of 874 Aeropostale stores in 48 states and Puerto Rico, 29 Aeropostale stores in Canada, and 11 Jimmy'Z stores in 10 states. The Company locates its stores primarily in shopping malls, outlet centers and, to a much lesser degree, lifestyle and off-mall shopping centers. The Company has developed a new retail store concept called P.S. from Aeropostale, which will offer casual clothing and accessories focusing on elementary school children between the ages of seven and 12. It offers a focused collection of apparel, including graphic t-shirts, tops, bottoms, sweaters, jeans, outerwear and accessories.

Oil States International, Inc. (Oil States) through its subsidiaries, is a provider of specialty products and services to oil and gas drilling and production companies worldwide. The Company operates in a number of oil and gas producing regions, including the Gulf of Mexico, United States onshore, West Africa, the North Sea, Canada, South America and Southeast and Central Asia. Its customers include many of the national oil companies, major and independent oil and gas companies and other oilfield service companies. Oil States operates in three principal business segments: offshore products, tubular services and well site services. The Company's well site services segment includes the accommodations, rental tools and drilling services businesses. On February 1, 2008, Oil States purchased all of Christina Lake Enterprises Ltd., the owners of an accommodations lodge (Christina Lake Lodge) in the Conklin area of Alberta, Canada.

National Oilwell Varco, Inc. (NOV) is a provider of equipment and components used in oil and gas drilling and production operations, oilfield services, and supply chain integration services to the upstream oil and gas industry. The Company operates in three segments. The Rig Technology segment designs, manufactures, sells and services systems for the drilling, completion and servicing of oil and gas wells. The Petroleum Services & Supplies segment provides a variety of consumable goods and services used to drill, complete, remediate and workover oil and gas wells, service pipelines, flowlines and other oilfield tubular goods. The Distribution Services segment provides maintenance, repair and operating (MRO) supplies, and spare parts to drill site and production locations worldwide. In April 2009, NOV acquired ASEP Group Holding B.V. and Anson Limited.In December 2009, National-Oilwell Varco, Inc. acquired Hochang Machinery Industries Co., Ltd. and South Seas Inspection (S) Pte. Ltd.

Chevron Corporation (Chevron) manages its investments in subsidiaries and affiliates, and provides administrative, financial, management and technology support to the United States and International subsidiaries that engage in fully integrated petroleum operations, chemicals operations, mining operations of coal and other minerals, power generation and energy services. Exploration and production (upstream) operations consist of exploring for, developing and producing crude oil and natural gas, and also marketing natural gas. Refining, marketing and transportation (downstream) operations relate to refining crude oil into finished petroleum products; marketing crude oil and the many products derived from petroleum, and transporting crude oil, natural gas and petroleum products by pipeline, marine vessel, motor equipment and rail car. In April 2009, Reliance Industries Limited bought back Chevron Corporation's 5% stake in Reliance Petroleum Limited.

Dresser-Rand Group Inc. is the global supplier of custom-engineered rotating equipment solutions for the applications in the oil, gas, petrochemical and process industries. The products and service applications include oil and gas production; high-pressure field injection, gas lift, and enhanced oil recovery; natural gas processing; gas liquefaction; gas transmission and storage; refining; petrochemical production; and general industrial markets, such as paper, steel, sugar, distributed power and United States Navy. The Company operates globally with manufacturing facilities in the United States, France, United Kingdom, Germany, Norway, China and India. It operates a range of products and clients to the global client base in over 140 countries from the global locations in 18 United States states and 26 countries. The Company operates in two business segments: new units, and aftermarket parts and services.

ITT Educational Services, Inc. (ITT/ESI), is a provider of postsecondary degree programs in the United States based on revenue and student enrollment. As of December 31, 2008, the Company offered master, bachelor and associate degree programs to approximately 62,000 students. As of December 31, 2008, it had 105 institutes and nine learning sites located in 37 states. All of its institutes are authorized by the applicable education authorities of the states, in which they operate, and are accredited by an accrediting commission recognized by the United States Department of Education (ED). During the year ended December 31, 2008, the Company began its operations at eight new institutes. As of December 31, 2008, the Company offered 33 degree programs in various fields schools of study: information technology (IT); electronics technology; drafting and design; business; criminal justice, and health sciences.

Tidewater Inc. provides offshore supply vessels and marine support services to the offshore energy industry through the operation of offshore marine service vessels. As of March 31, 2008, the Company had a total of 430 vessels, of which 10 were operated through joint ventures, 61 were stacked and 11 vessels withdrawn from service. The Company provides services supporting all phases of offshore exploration, development and production, including towing of and anchor handling of mobile drilling rigs and equipment; transporting supplies and personnel necessary to sustain drilling, workover and production activities; assisting in offshore construction activities, and a variety of specialized services, including pipe laying, cable laying and three-dimensional (3-D) seismic work. The Company operates in two segments: United States and International.

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.


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