Here at New World Investor we’ve been following the S&P 500 very closely. I believe that by tracking the S&P using my new tools, we can see where the market as a whole is headed next. Since the S&P top on October 26, there have been a lot of streaky moves in both directions, but no real progress. In spite of today’s weakness, it is still possible that the S&P 500 can break 1390 to the upside and then race up to 1440, but it has worked itself into a position where it is very unlikely to hold 1440 or stage the usual yearend rally from current levels. The index really needs at least a rest and, more likely, a significant downside break to be able to stage a run at a new all-time high. The market is like a daredevil lining up to jump 50 cars on a motorcycle — it needs to back up and get some distance so that it will have enough momentum to breach the gap. Once we see what the back up and takeoff look like, we’ll know if it is going to clear the cars for a strong 2007, or wind up in the hospital.
We’ve been discussing the market’s next move for a couple of weeks now. And it’s true that there are a couple of different scenarios that could play out with the S&P, but I think a successful “Evil Knievel” scenario is the most likely. Either way, we are right on the cusp of finding out which path this market will follow.
If I’m wrong and the market decides to go sideways for three months, our stocks should still do relatively well. The market drop from May to July hit small stocks and technology stocks especially hard, so prices are very attractive, and most of our companies have good news coming. Hedge funds are badly underperforming this year to date, and in the closing couple of months, they are likely to chase any stock with good news in an effort to beat their performance benchmarks. That would make for a volatile but rewarding time in our MegaShifts. After that, if the market breaks out we will add more investments in anticipation of the two-year run. If it breaks down, we will get out of many positions.
However, if the market follows my most likely scenario and breaks sharply soon — which includes the S&P 500 getting as high as 1440 before it cracks — then we will be scooping up stocks around the end of the year or in January for a subsequent rally in 2007. The momentum following a break under 1360 would probably carry the S&P 500 back below 1300.
Subscriber Mike L. wrote: “You have set some lofty targets for these stocks, targets that you had initially felt would be reached by the end of 2006, and now I notice you are talking about 2007 in your most recent reports. When are these stocks going to live up to their billing…there are only 60 days until 2007. What are we to expect?”
I have reduced some target prices where companies or industries are developing slower than expected, but in general you are right — I still think these stocks will hit their targets, but in most cases not until next year. The targets always assumed a decent market environment, and in spite of the recent rally in large capitalization stocks, we are not in a decent market environment for smaller companies and tech stocks yet. Two out of my three scenarios would say that environment will happen in the first half of 2007, and in general, I think it is realistic to assume these targets will be hit by mid-year or sooner.
Avian Flu MegaShift
BioCryst (BCRX) reported yesterday morning, losing $15.6 million or 53 cents a share. They had $61.6 million in cash at the end of the quarter. On the conference call, management said that there will be three presentations on Fodosine on December 10 at the very important American Society of Hematology (ASH) annual meeting. The drug treats a variety of blood cancers, including cutaneous T-cell lymphoma. Merck recently got approval for Zolinza to treat this disease, and they are pricing the drug at $90,000 a year. It has an overall response rate of 30% with nasty side effects, including thrombocytopenia in 20% of the patients, diarrhea in 49%, fatigue in 46%, nausea in 43% and anorexia in 26%. Fodosine has a much better side-effect profile and is about to enter its pivotal trial under a Special Protocol Assessment, which essentially guarantees FDA approval if they hit their numbers.
On peramivir for flu, BCRX is planning to finish both Phase II trials this flu season — intravenous in hospitalized patients, and intramuscular in outpatients — but they are putting backup sites in place in South America just in case they need to pick up more patients quickly to finish the trials.
Mike B. emailed: “I bought a great deal of BCRX at $28. Now the goal is a target of $20. Should a person sink a lot more money now so when it hits $20 he may “break even.” Is this irrational thinking and am I way off base?”
Mike, the target is $30, not $20. The buy limit is $19, and the stock is currently trading around $11. This would be an excellent time to double up on BCRX and get your average cost down. Everything is going well here, and BCRX remains a Top Buy up to $19 for my $30 target.
Biotech MegaShift
Dendreon (DNDN) reported yesterday morning, and released an interim analysis of the ongoing P-11 clinical trial for Provenge in patients with non-metastatic, androgen-dependent (or hormone sensitive) prostate cancer. This study is limited to patients with recurrent prostate cancer who have not yet developed metastatic cancer. P-11 measures the ability of Provenge to extend the time it takes for PSA levels to double. It is not a registration study and will not be submitted to the FDA as part of the current Biologics Licensing Application (BLA), because the FDA wisely does not allow PSA (prostate-specific antigen — a common measure of disease advancement) endpoints to be used for approval either for a primary BLA, NDA (New Drug Application — the chemical drug equivalent of a BLA) or for label expansion.
But the study did show a projected 35% increase in the time it takes PSA to double, and again showed that Provenge has an excellent safety profile. DNDN will continue to follow the patients until metastases (cancerous tumors spreading throughout the body) in order to get even better estimates of how much Provenge helped. There was a persistent immune response 21 months after administering Provenge. The immune response was strengthened by a booster shot of Provenge, so everything lined up nicely.
The company said that the last parts of the BLA will be filed this quarter, on schedule. During the earnings announcement, managements also said that they lost $20.7 million in the quarter, and have $92.6 million left. They also said that they are on track to use $100 million for the year, implying an acceleration to $30.8 million used in the current quarter. Obviously, they have everything bet on approval of Provenge in June, and they do have enough cash to get the ball to the goal line.
DNDN could reduce their business risk by signing a partnership deal before the FDA decision, but they will get much better terms after the decision. So, unless a big pharma shows up with an offer that assumes approval, they will have to make a difficult decision. As far as I am concerned, they’ve played this hand alone so long that they may as well play it out and bank on FDA approval.
Mike L. also asked: “With the increased trading volume on Denderon of late, am I to assume Wall Street is becoming a little more bullish on Provenge?”
Nope. They still don’t get it. The stock is moving up on good data releases and progress in filing the BLA. Here are all the actions on DNDN for the last two years by Wall Street, including the most recent neutral rating from Banc of America Securities.
| Date | Firm | Action | From | To |
| 11/2/2006 | Banc of America Sec | Initiated | Neutral | |
| 7/5/2006 | JMP Securities | Upgrade | Mkt Perform | Strong Buy |
| 10/18/2005 | Banc of America Sec | Initiated | Neutral | |
| 7/22/2005 | UBS | Downgrade | Neutral | Reduce |
| 5/16/2005 | JMP Securities | Upgrade | Mkt Perform | Mkt Outperform |
| 3/8/2005 | UBS | Upgrade | Reduce | Neutral |
| 1/12/2005 | Piper Jaffray | Downgrade | Outperform | Market Perform |
| 1/12/2005 | UBS | Downgrade | Neutral | Reduce |
| 1/12/2005 | Delafield Hambrecht | Downgrade | Buy | Hold |
| 1/12/2005 | Lazard Freres | Downgrade | Buy | Hold |
| 1/11/2005 | Needham & Co | Downgrade | Strong Buy | Buy |
| 1/11/2005 | MDB Capital Group | Downgrade | Buy | Neutral |
Wall Street may not even recommend the stock until after they have FDA approval. Although the stock has been marching up since the June lows, DNDN remains a strong buy up to $7 for my $14 target.
eResearch (ERES) reported another soft quarter last night, with weak December-quarter guidance, which knocked the stock down $1.75 today, yet it was accompanied by an unusual and very positive conference call. First, the numbers: They did only $22.2 million in sales with seven cents a share pro forma earnings, compared to the consensus expectation for $23.5 million and five cents. Then they guided for $18.0 million to $20.5 million in sales in the current quarter, with four cents to six cents proforma earnings per share. That was well below the consensus of $25.9 million and eight cents.
But the real reason for the lower guidance is that the new management team has done a contract-by-contract evaluation of when each clinical trial will start and how rapidly it will grow. They have concluded that the typical trial no longer starts six months after contract signing — it now takes a year. This is due to both increased regulatory issues and to customers giving themselves more time to structure trials to meet the new guidelines.
Tina asked: “I’ve been reading message boards and I’m a little concerned about ERES. Is it true that Wellington liquidated their ENTIRE 3.7 million share? Should we be concerned?”
Wellington, a well-known value stock investor, did sell their eResearch position. However, at June 30 the stock still was heavily held by other top-quality value managers, including:
| Holder | # Shares | % of Issue |
| Blum Capital Partners | 9,043,090 | 18.30% |
| RS Investment Management | 7,338,840 | 14.90% |
| Mazama Capital Management | 4,157,718 | 8.40% |
| Royce & Associates | 3,716,000 | 7.50% |
| Pequot Capital Management | 1,764,350 | 3.60% |
| Barclays Global Investors | 1,546,082 | 3.10% |
| Muhlenkamp & Co. | 1,183,615 | 2.40% |
| Total: | 28,749,695 | 58.00% |
With such a heavy commitment by well-known value investors, I am not worried about Wellington’s sale. I think management is doing everything right to run the company better and regain Wall Street’s confidence by setting low expectations. The opportunity has not changed, so ERES remains a buy all the way up to $16 — it is that undervalued — for my $30 target.
ViroPharma (VPHM) drew an email from Mike: “After reading today’s letter about VPHM, you stated that the generic approval would now take until 2008 to 2009. Where did you get that info and why hasn’t the stock moved up as this was supposedly what we have been waiting for. The stock dropped after today’s conference call. Your previous letters have stated a reversal would pop this stock back up three to four points or so. What is the problem with the stock? When I look at all the other biotech’s in the sector that don’t make money or have the pipeline, their prices are much higher with no earnings whatsoever. Please advise, when will Wall Street put a fair value on this company?”
I know this is frustrating. The government has not announced that ViroPharma has won the generic battle, but their most recent revision of the new guidelines for generic approval does not include the previous references to Vancocin. ViroPharma really can’t say anything about that until the FDA formally says something, and Wall Street is not going to notice until ViroPharma says something. After that, the Street will put a fair value on the stock, which, as you point out, is much higher than its current level. That’s why VPHM is a strong buy while it is under $13 for my $28 target.
Content on Demand MegaShift
Telkonet (TKO) won the final round at the FCC, as I expected, when the agency classified Broadband over Power lines as an information service, ignoring ham radio operators complaints that it was a way to transmit that interfered with their spectrum. Thus, the FCC put BPL on the same footing as DSL or cable broadband. BPL Internet subscribers tripled in 2005 from a small base, and it will soon have the critical mass required to attract the attention of market researchers and Wall Street analysts.
John asked: “What is the downside risk with TKO?” In a fundamental sense, zero. But in a sharp market drop, development-stage stocks tend to take a hit as all the market makers pull their bids, and then they rebound as either the market recovers or their fundamentals push them up.
Anthony commented: “You have been saying for months that Telkonet is going to announce a major financing deal and/or investor. What is going on — none of what you said about TKO is happening!”
Well, Anthony, the two biggies were the EDS contract and the financing. The EDS contract happened. The financing will happen, but I think management would like to see the stock higher before they commit to anything. Even a strategic investor has to pay some attention to the current price of the stock. But I still think that announcement is coming. Continue to buy TKO under $5 for my $15 target.
New Energy Technology MegaShift
Gasco Energy (GSX) reported yesterday morning. They did $6.1 million, up 30% from last year as record quarterly production (up 94%) more than offset lower natural gas prices. They lost a penny a share, in part due to higher work-over costs on existing wells. Their drilling program is going very well, as they added another rig and are finding more gas than they expected in two of their Rocky Mountain lease areas.
Denise asked: “What’s up with GSX?” Pretty much everything is up but the stock price. Natural gas prices will be climbing from here even in a warm winter, and spiking during the inevitable cold spells. GSX will follow prices for now. GSX remains a Top Buy up to $4.50, with a $9 target — more than a triple from here.
Ocean Power Technologies (OPWT) may eventually benefit from a November 4 Associated Press story on tidal energy. It was a puff piece for a private company, Verdant Power, which plans to put a pilot project of two underwater turbines on the floor of the East River off Manhattan. The incoming and outgoing tide turns propellers that spin the turbine, generating electricity. This technology works, but there are very few places where water is constricted enough to provide the necessary pressure and speed to efficiently produce electricity. The East River is one, and both Makah Bay in Washington State and the Cook Inlet in Alaska are possibilities. A dozen sites have been studied in the last four years, but no one has applied for a development permit to go ahead with a commercial project. The ideal site has a flat bottom, is not in boating lanes and can somehow deal with the fish population. Hopefully, anyone researching tidal energy will get to wavepower and OPWT.
With the increased interest in tidal and wave energy sites, the Federal Energy Regulatory Commission is holding a public meeting in Washington D.C. on December 6 to discuss marine energy technologies, and we can watch it on the commission’s website. Buy OPWT under $1.50 for my $3 target, and remember that I prefer that you buy it in London (symbol OPT) up to 82 pence, if your broker will execute trades there.
New Materials MegaShift
Integral Technologies (ITKG) took a tumble late last week, and I sure hope you loaded up when it went under my buy limit. Steve and many others wrote: “What about ITKG? Big sell off.” All that happened was that a Wall Street firm suspended coverage, probably because either the analyst left or the firm is involved in an investment banking deal with ITKG.
Yesterday, their ElectriPlast technology won a CES Innovations 2007 Design and Engineering Award in the Enabling Technologies product category. The stock has been pushing higher ever since — up almost 13% today. ITKG is a buy on every dip under my $2.50 buy limit for the initial $4 target price — and much higher numbers later.
Security MegaShift
American Science & Engineering (ASEI) reported $29.6 million in sales and 69 cents a share proforma for the September quarter, beating the 63-cent estimate. They have a record backlog of $117 million, up $54 million from last year’s report, and they said that prospect activity is strong.
Forbes.com reported this morning that another newsletter recommended the stock. We’ve all had plenty of opportunity to buy it under the limit, which it moved above today. Buy ASEI on dips under $59 for my $93 target.
Video iPod
PortalPlayer (PLAY) agreed to an acquisition by Nvidia (NVDA) for a really low price, $13.50 a share. Nvidia, a company I know well, has the inside track to provide a processor for the “real” video iPod. PortalPlayer has some technology Nvidia desperately needs to win Apple’s business. So, why is PLAY management willing to sell for $13.50? I haven’t seen the detailed filings yet, but there is often a deal to employ the acquired management at high salaries with big options. I hope that is not the case here.
There are so many other companies that could use PLAY’s intellectual property and business, including Toshiba and Broadcom, that I think there could be another bid. Hold PLAY — I am suspending the target price — and let’s see if a bidding war gets underway.
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