Dear New World Investor:

The transition to a new website is well underway; please bear with me as we work out the bugs. I will be able to send you more frequent, focused missives and you will be able to comment, question, argue or agree with me and your fellow subscribers. I’m really looking forward to getting this rock-solid, and then expanding it to include even more features and functions.

Yesterday’s rally and drop was not fatal to the bullish case, but it was ominous. After trading around 850 as support for several weeks, the S&P 500 rallied back up to 850 in the morning and then failed. Volume was rather low, so there still is a chance the quick trip down to 750 that I talked about last week can be avoided. But we need to see eager buyers showing up at 830, enough of them to get back over 850 quickly, to believe that a visit to 750 is off the table for now. A drop under 810 would practically guarantee that a bigger move down to 750 is underway. These oscillating consolidations almost always end in a big move in one direction or another, but at this point it is not clear which direction will win out.

No matter what happens in the stock market, there are some remarkable things happening in the gold market, and it is time to take advantage of what looks like a big forthcoming move in both gold and silver. This is part of the New World of investing, when the Fed is flooding the world with dollars. The Fed’s assets have grown by $1 trillion in the last 12 months—a huge expansion of their balance sheet. That gets leveraged into the economy through fractional reserve banking, and will lead to double-digit inflation at some point.

Does the Fed care? Not really. At last weeks Federal Open Market Committee meeting, Fed officials said prices are increasing too slowly: “The committee sees some risk that inflation could persist for a time below rates that best foster economic growth and price stability in the longer term.” That means they will keep the monetary pedal to the metal until they see inflation picking up, and that’s good news for gold and silver prices.

It even looks like the next move up for precious metals could be a huge speculative move driven by retiring and desperate baby boomers. For the first time since 2007, Treasury investors are factoring in accelerating inflation in the future. Although the December quarter consumer price index fell at a 13% annualized rate, the 10 year Treasury note now yield 2.72 percentage points more than the CPI. That’s the biggest spread since December 2006, and it one indication that future inflation is a growing factor in investors’ decisions, in spite of the current deflationary forces.

Gold may have been “disappointing” in 2008 in dollar terms, but what a lot of people don’t realize is that it was very strong in Euro terms, or when priced against other commodities like oil, or even against the S&P 500. Here is gold in terms of the Commodity Research Bureau index of things you actually need to live—food, gasoline and oil, construction materials, etc.:

Source: StockCharts.com

And here is gold in terms of the Euro—what bear market?

Source: StockCharts.com

Finally, here is gold in terms of the S&P 500:

Source: StockCharts.com

It’s also interesting that the day-to-day pattern of gold prices is changing. In 2008 it seemed like every decent rally day was followed by a big decline day as traders took profits. But now we are seeing a rally-consolidate-rally some more pattern. The gold buyers are sitting on their profits. Physical gold has almost disappeared, with coin dealers sold out and generic one-ounce bars selling for big premiums on Ebay. Normally, you can buy gold coins at a 2% or less premium to the spot price. Silver coins typically sell a little under the spot price. Today you will pay at least a 5% premium for gold coins, and probably much more, assuming you can find a dealer who has any inventory. The situation is even worse with silver, where coins are selling for a 50% premium or more.

These artificial premiums will fall as refiners gear up to produce more one-ounce bars. For now, if you want to own gold coins, the best deal is Canadian Maple Leaf coins. The Bank of Nova Scotia sell coins at about a 3.7% premium, or one-ounce wafers at a 2.6% premium.

Incidentally, gold does not seem to set off airport metal detectors. You still can’t take more than $10,000 out of the country, though—and that’s at real value, not face value. But rather than buy scarce gold coins, or travel to Canada in the middle of winter, there’s an easy way to move 5% to 10% of your portfolio into precious metals. I’m no gold bug, but with the U.S. dollar being debased at an accelerating rate, having 5% to 10% of your portfolio split between gold and silver seems prudent to me, and a lot smarter than holding Treasury notes and bonds.

The SPDR Gold Shares (GLD) is a $19.9 billion exchange-traded fund (ETF) designed to track the price of gold bullion. It actually holds gold, as well as futures contracts and other gold-related instruments. I considered recommending the Market Vectors Gold Miners ETF (GDX), but it is designed to track the AMEX Gold Miners Index. Mining stocks can move differently from the price of gold for quite some time, in part because mining expenses go up in a hot gold market, and the mining companies’ earnings don’t keep track with the price of gold. I want you to buy GLD up to $92 for a $150 target in 12 months, and higher numbers after that.

The iShares Silver Trust (SLV) is another exchange-traded fund, this one with about $2.2 billion in assets . I suspect silver will outperform gold from current levels, but both will do well and I recommend allocating half of your precious metals exposure to GLD and half to SLV. The objective of SLV is to provide a simple, cost-effective way to make an investment that will track the price of silver…exactly what we want to do. Buy SLV up to $13 for a 12 month target of $20, and a much higher long-term target.

Earnings, Earnings, Earnings

What with bringing up the new website and getting ready for my Orlando Money Show presentations tomorrow and Saturday, sleeping has lost out to listening to conference calls and analyzing December quarter results. While they aren’t all winners, most of our companies are doing quite well in light of the ugly environment out there.

Avian Flu MegaShift

Crucell (CRXL) reported this morning, with revenues up 22% to $120.5 million and 37 cents per share. They were profitable for the quarter and the year, as promised. The single analyst publishing on the stock was looking for $112.8 million and 10 cents. Much of the large difference between expected and actual earnings was accounted for by a big chunk of license revenue. Management guided for 20% growth in sales in 2009, a significant improvement in operating profit and solid positive cash flow. On the conference call, they said that their business is not expected to be affected by the economic recession in 2009.

All of this was overshadowed, though, by the way the shares have been whipped around by the on-again, off-again merger talks with Wyeth. When Crucell announced they were in talks with Wyeth, CRXL shares jumped 40%. But on Monday Pfizer made a $68 billion acquisition bid for Wyeth, and Crucell announced that Wyeth had withdrawn from the talks. CRXL fell 12% on Monday, after dropping 11% on Friday on rumors of a Pfizer-Wyeth deal. (Will the SEC investigate this obvious leak of inside information? Sure, like they investigated Bernie Madoff.)

The stock rebounded a bit as word went around that Wyeth had been willing to pay as much as $26 a share for CRXL. Both Sanofi-Aventis and Novartis have expressed interest in Crucell’s business in the past, and I expect one or the other to step up with a bid in the $30 to $35 area. Hold CRXL for my target price of $35.

Biotech MegaShift

Rochester Medical (ROCM) reported sales of $8.4 million and only four cents a share pro forma, as they continue to deliberately spend extra money on sales and marketing to take advantage of their current market opportunities, thanks to changes in Medicare reimbursement rules. Sales gained only 3% (13% on a constant currency basis, thanks to the drop in the British pound) because branded sales dropped 4% due to timing issues for male external catheters at one distributor. Male external catheter sales in the U.S. fell 15% instead of growing slightly, and this is still Rochester’s largest product line. This distributor places a few very large orders during the year, and branded sales should return to normal in the March quarter. Excluding the male catheter products, branded intermittent catheters were up 27% over last year and Foley catheters were up 8%. Private label sales shot up 18%.

On the conference call, management said that in April they will introduce a new, improved Foley catheter line, which should help hospitals make the decision to move away from latex to silicone. The company has $35.7 million in cash, and probably will announce an acquisition shortly. Their exact wording was: “There are now new efforts on the strategic front, which may lead to new opportunities as well in the future.” I suspect it will be a company that helps them go direct-to-consumer with their new FemSoft catheter, someone with a complimentary product line and established direct-to-consumer channels and expertise. ROCM had another good quarter and should land some big hospital chain orders shortly. ROCM is a Top Buy all the way up to $20 for my $40 target.

Content on Demand

Cisco (CSCO) reported $9.1 billion in sales for their January quarter and 32 cents a share, beating expectations for $9.0 billion and 30 cents. But in the conference call after the close yesterday they said January was very weak and guided low for the April quarter. They are looking for $7.8 billion to $8.3 billion in sales in the current quarter, down 15% to 20% from last year. That’s well under the $8.7 billion consensus.

CEO John Chambers does not pull any punches, and he said the outlook was murky enough to make it hard to forecast, but he felt an obligation to shareholders to try. The stock went up a bit today, so maybe some shareholders appreciated his candor. Although the revenue guidance was disappointing and became the main focus of Wall Street, it was obvious that Cisco will easily exceed its guidance to cut expenses by a $1 billion run rate by the end of the year. They have already passed $1 billion and probably will hit about $1.5 billion in savings. Also, Wall Street paid zero attention to the fact that CSCO generated $3.2 billion in cash during the January quarter, and is targeting $1.5 billion to $2.1 billion in the April quarter. The July fourth quarter usually is sequentially up for seasonal and quota reasons, which leads me to think Cisco will report $1.25 to $1.29 for the year. If we subtract their $29.5 billion in net cash—$3.87 per share—from today’s close and divide by $1.25, we see we are buying one of the world’s dominant technology franchises for a 8.5X P/E ratio.

I still think global Internet infrastructure spending will be strong, aided in part by President Obama’s broadband initiatives, and the Cisco January 2010 $20 LEAP call can still be bought for my $12 target. The stock has to close at $32 to reach my target, which looks like a big move from today’s $16 area, but CSCO will be one of the first tech stocks the institutions buy when money starts to come off the sidelines. Cisco last traded at $32 in October 2007.

Harmonic (HLIT) reported last Thursday after the close, and I got the basic numbers into that issue of your Radar Report: $96.9 million, in sales, up 11% from last year and 20 cents a share pro forma, up from 19 cents last year. Both numbers beat the consensus, but they said revenues for the normally slow March quarter will be in a range of $72 to $78 million. The consensus was looking for $88.7 million. On the conference call, they gave a little more color on their forecast and the stock has stayed above the pre-announcement close.

Harmonic reported $365.0 million in sales and 70 cents a share for the full 2008 year. The consensus estimates for 2009 are $336.5 million and 33 cents, with the drag on earnings being a higher tax rate as the company finally chews through its net operating loss carryforwards. For 2010, the Wall Street outlook is for $361.4 million and 46 cents. Revenues are projected to show a 1% decline from 2008 to 2010. That’s nuts. All over the world, telecom, cable and satellite companies are locked in a life-and-death struggle to bring high definition video to customers. I think the company will earn 40 cents a share fully taxed this year, and 70 cents in 2010
HLIT hasn’t been this low since the middle of 2006, and with $3.44 in cash and no debt, it costs only $1.67 to buy 40 cents in earnings this year, a P’E ratio of 4x depressed earnings. HLIT remains a Top Buy up to $10 for my $18 target.

Infinera (INFN) also reported after the close last Thursday, clobbering the top line consensus with an $86.2 million quarter and matching the 10 cent loss estimate. They added seven new customers in the quarter, and their customers are telling them that spending for optical transport will continue through the recession. In the current quarter, they expect to add several new large customers, and this will significantly impact both revenue and gross profit margin guidance. Three significant new customer wins with European customers will require considerable spending this quarter, but all the associated revenue will be recognized in the second and third quarters.

So they guided for revenues between $65 million and $70 million, with a loss of 12 cents to18 cents a share. The consensus numbers as I listed last week were $75 million and a nine cent loss, so there was some disappointment there and the stock was hit for about $1.50. But at the rate they are booking customers, the March quarter should be the low, with steady top and bottom line progression through the year. Buy INFN while it is under $10 for my $30 target.

NetLogic Microsystems (NETL) reported a decent quarter, with $30.9 million in sales (down $1.4 million from a year ago) and 30 cents in pro forma earnings. Analysts were looking for only 23 cents pro forma, on $31 million in sales, bu the company has been trimming costs everywhere but R&D. They have moved several designs to TSMC’s 55-nanometer line to bring down costs and improve performance. Most of their competitors are at 130 nanometers; i.e., way behind.

On the conference call, management said that Cisco accounted for 32% of sales this quarter, down from 36% in the prior period. Given Cisco’s weak guidance, I expect Cisco to account for around 25% of NetLogic’s sales this quarter. (NetLogic is more bullish and thinks sales to Cisco will be up, not down , in the March period.) That should be the bottom, because NetLogic has 27 design wins at Cisco and only five are in production today. Alcatel-Lucent was 18% of sales and is growing. No other customer accounted for more than 10% of sales.

NETL is very well positioned, because their knowledge processors go into advanced designs in the wireless and wireline industry, as well as in routers and switches. Even if a Comcast, for example, cuts their capital spending budget, the cuts will be in legacy equipment that doesn’t generate a lot of high-margin revenue. Comcast and others will keep deploying advanced gear to offer higher-speed Internet access, high definition Internet Protocol TV and such. In addition to Alcatel-Lucent selling into the 3G cellular network providers, NetLogic has multiple design wins at companies like Ericsson, Nokia, Tellabs and Huawei. These companies will supply the equipment for the 3G cellular build-out in China, which that government is backing as part of their stimulus program.

Management guided for flattish revenues at $30.2 million and 21 cents a share pro forma in the current quarter. I think each quarter after this will grow, based on the timing of their many design wins going into production. NETL is just barely under my $23 buy limit and can be bought for the $47 target.

QuickLogic (QUIK) reported $5.9 million in sales for the December quarter, down 5% from the September period and down 45% from last year. The declines are due to the expected run-off of legacy product revenues. The new products are growing. The company lost four cents a share pro forma. The consensus was looking for $6.4 million and a loss of four cents per share.

On the conference call, management said QUIK has a lot of design activity with broadband modem suppliers, which should be a strong growth business under the Obama infrastructure plan. The VEE system for backlighting liquid crystal displays, such as the ones on cell phones, is getting very high design activity. We should see meaningful revenues from VEE begin in the June quarter and grow rapidly.

However, they guided March quarter revenue for a sequential decline of 7% to 24%, with revenues from both legacy and new products declining due to seasonality. This is very similar to the guidance from other programmable chip makers like Xilinx and Altera. That should be the low. The company had identified 56 design win opportunities at the end of the June quarter, 75 at the end of September, and 88 at the end of December. They had a very successful Consumer Electronics Show in January, and probably have over 100 sales opportunities today. Many of those from last June and September have or will soon turn into wins, and then go into production. I expect the company to grow this year in spite of the economy. They have plenty of cash and a good balance sheet to support rapid growth when it hits. QUIK remains a Top Buy all the way up to $4 for my $8 target, and along with Towerstream (TWER) is one of the cheapest stocks I have ever followed.

SanDisk (SNDK) reported revenues down 31% in the December quarter to $863.9 million, but that beat the consensus forecast for $766.7 million. However, the company took massive writedowns ($8.47 a share) for asset writedowns, excess inventory charges, idle capacity costs, the kitchen sink and other items. They also issued disappointing sales guidance for the current quarter of $475 million to $575 million, compared to the Street’s estimate of $631.7 million. To top it off, they said that although they have enough money to get through 2009, they are going to file a shelf registration for $300 million to $500 million of stock, which at current share prices would represent dilution of 12% to 20%. That’s what really killed the stock, yet an actual offering is not likely to happen.

So why do we own SNDK? Three big reasons. First, it has about a $14 book value. Second, Wall Street is hopelessly negative. One analyst downgraded SNDK to a sell and said: “We expect the NAND market to continue to face a challenging environment throughout most of 2009 and believe despite SanDisk’s cost cutting measures and streamlining of products that it will continue to incur considerable losses further eroding its balance sheet.”

Third, the NAND flash market has already turned up. Samsung, the arch rival of Toshiba and SanDisk that offered to buy SanDisk last year for more than 3X today’s price, issued a press release discussing improved memory chip pricing. This is not widely accepted yet. As solid state drives gain traction, especially in netbook computers, I think SNDK will have a heck of a run. The 20%+ pounding they took after the earnings announcement has taken out the near-term risk. SanDisk remains a Top Buy up to $15 for my $32 target.

Silicon Image (SIMG) will report after the close. The consensus is looking for $56.7 million and breakeven. If there is anything surprising in the report or on the conference call, I’ll send a Flash Alert. I expect to reduce the buy limit on SIMG to $5 and the target price to $11 after I have analyzed the quarter and listened to the conference call.

New Economy MegaShift

Omniture (OMTR) also will report after the close. The consensus is looking for $84.8 million and 13 cents a share for the December quarter, and $88.5 million and 13 cents a share for the March period. Again, if there is anything significantly different in the report or on the conference call, I will shoot you a Flash Alert. Otherwise, buy OMTR up to $11 for my $22 target. (Note: I am moving OMTR from the Content on Demand MegaShift to the New Economy MegaShift, where it was the last time we owned the stock.)

WiMAX MegaShift

Alvarion (ALVR) reported December quarter revenues of $70.1 million, a decrease of 6% from $74.3 million in the September quarter, but an increase of 6% from last year. WiMAX shipments were up 23% from the September quarter and up 55% to a record $57.7 million from last year. WiMAX revenues (shipments that could be recognized as sales) rose 21% from last year to $43.9 million. The company broke even for the quarter on a pro forma basis. The consensus was looking for breakeven on $71.1 million.

The sequential decline in revenues was due to the company’s inability to recognize $2.4 million of revenues from the sale of products to Nortel after Nortel filed for bankruptcy protection on January 14. Last week, Nortel repudiated the joint WiMAX agreement between the two companies. The joint customer they were serving through Nortel probably will become a direct customer of Alvarion at a higher profit margin.

Alvarion had a positive book to bill ratio (orders to shipments) in the December quarter, which is a very different story than the weak order patterns I am hearing from other companies. The company entered 2009 with a backlog that was double a year ago. Their March quarter guidance was for $65 million to $73 million in sales and a pro forma earnings range from a loss of two cents to a profit of four cents a share. That is in line with the consensus, rather than the typical disappointing guidance this quarter. President Obama’s broadband infrastructure plans are tilted towards rural areas, which gives WiMAX an advantage and gives investors an enticing concept. ALVR remains a Top Buy all the way up to $11 for my $17 target.

Your happily using independent online computer support Editor.

Michael Murphy, Editorr
New World Investor

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