Today, the Dow Jones Industrial Average closed less than five points below its January 14, 2000 record of 11,722.98. This marked the fourth straight day that the Dow closed up. As I said last week, there have been very few negative earnings preannouncements, although we won’t hear from the software companies until next week. Worries about the hurricane season are fading, and even housing seems stronger than expected. The 10-year bond market has rallied enough to bring mortgage rates down recently. And the 10-year yield is well below the short-term yield, signaling a recession ahead.

So all this is pretty standard. The lagging sectors and industries in the business cycle, like capital spending, are doing well. The coincident sectors that make up most of the GDP figures are slowing quickly. The leading sector, housing, is already starting to bottom as the rest of the economy slows down. I still expect a mild, two-quarter recession, possibly starting as soon as the December quarter, but more likely in the first half of next year.

We are also nearly through the typically weak September-into-October period, with only three or four weeks left, and little damage so far. If there is going to be a market decline or shakeout to anticipate the coming economic weakness, it should happen now. But if the market decides to look over the valley, we will start buying stocks again as earnings are announced for the September quarter.

Answers to Your Questions

In the closing weeks of any quarter, there usually isn’t a lot of news on our companies. So aside from a few significant developments, I decided to answer a bunch of your recent emails. As always, none of this is personalized investment advice for any one subscriber’s position, which would be O.K. under the U.S. Constitution but is not O.K. under a higher authority, the SEC.

Before we jump into updates and subscriber questions on specific MegaShifts and stocks, I want to address Tim’s question, as I have received a number of similar emails. Tim wrote: “I bought BCRX, CRXL, ERES, MOBL, PLAY, TKO, TRBM and ZHNE and the total drop in value is 33%. What is the reason for such a drop and what should I do with these stocks? Should I just ride this out and stay invested in these stocks? Do you think they will come back?”

Tim, the market drop in May, June and July was characterized by a sharp reduction in liquidity for riskier investments. Any stock in a developing country, any stock involved in hedge fund leverage and any small capitalization stock was hurt. That’s one reason the Dow is up 9.3% for the year at today’s close, while the NASDAQ Composite is only up 2.9%, the Amex Biotechnology Index is down 1.5% and the Philadelphia Semiconductor Index is down 4.0%. Even though all the companies you cite except PLAY made substantial forward progress in their businesses so far this year, their stocks are down.

But there is good news. The next, and probably final, up-leg of the recovery from the 2000 to 2002 bear market should be starting soon. I would not be surprised to see the Fed start cutting short-term interest rates early next year. I also expect the usual 50% or better broad market upturn from the fall low in the second year of a Presidential term to the end of the third year of the term. This upturn is likely to be led by technology, replacing energy as the main market driver. Technology is likely to be led by our MegaShift stocks, including some recommendations to come in the PC area once we know when Windows Vista will really ship.

So the answer to your last two questions is yes — ride it out, stay invested, buy more if you can, and I think they not only will come back, but go on to surpass my target prices.

Avian Flu MegaShift

A 20-year-old man died of bird flu in Indonesia, raising this year’s death toll to 70, a double from last year. His brother died four days earlier, but no specimens were collected before the brother was buried. This is a common problem in Indonesia, Thailand and other countries with remote villages, and almost certainly means that the real death count is quite a bit higher.

The annual Interscience Conference on Antimicrobial Agents and Chemotherapy (ICAAC, pronounced “ik-aak”) is on right now in San Francisco. On Saturday morning, BioCryst (BCRX) will present late-breaking data with positive results in preclinical testing of injectable peramivir in mice and ferrets infected with bird flu. (Ferrets are the standard animal model for flu.) It could make a big story in the Sunday papers. BCRX is a Top Buy up to $19 for my $30 target as peramivir wends its way through the shortened BioShield approval process.

Crucell (CRXL) took a nice jump after the World Health Organization recommended their five-in-one Quinvaxem vaccine for childhood diseases. The vaccine — which protects against five major childhood diseases: diphtheria, tetanus, whooping cough, hepatitis B and Haemophilus influenzae type b (the leading cause of meningitis) — is targeted at developing countries. And the WHO stamp of approval means worldwide government and nonprofit organizations will get on board the program. The company will book revenues this year, and management repeated their target for cash breakeven in 2007, thanks to this.

Although we bought CRXL for their cell line technology, as a faster way to produce vaccines, including one against bird flu, this vaccine is really good news for shareholders and should push the stock higher. But I personally have mixed feelings about it. I am leery of anything-in-one shots for children, as there is no reason to hit their undeveloped immune systems with such an overwhelming amount of antigens. It may be more convenient for the healthcare system and cheaper for the patients, or whomever pays, but it can cripple and kill children. It escapes me why people allow babies to be vaccinated in the hospital, when mother’s milk will protect almost all of them for months against infectious diseases. It also escapes me why people think the standard DPT three-in-one shot is a good idea, given the possibility of severe side effects or death.

But the market likes this five-in-one vaccine, and the change in sentiment should push the stock higher from here. Buy CRXL up to $28 for my $50 target, based on widespread adoption of their cell line vaccine production technology.

Biotech MegaShift

John asked an interesting question: “How do you see the $4 generic prescriptions playing out from that pilot program at Wal-Mart, and do you see a play in our portfolio?”

The big picture here is the effort to get control of the increase in healthcare costs, especially drug prices. One of the purposes of the new prescription drug program for Medicare recipients is to move the issue of price from consumers to healthcare payers, who presumably will bargain harder for deals and play one drug chain against another. So the losers are the pharmaceutical companies.

The direct winners are the generic companies, but that has turned into a low-margin, difficult business. We may get an opportunity there from time to time, but I am not interested in that sector today.

From a stock point of view, money committed to healthcare should flow out of pharmaceuticals and into an area with better-protected profit margins: Biotech. The discussion of reimbursement for a biotech product never focuses on the cost of production or the profit margins. It focuses on how much money the new biotech drug can save the healthcare system by reducing hospitalization times, curing a chronic disease that today has only treatments for the symptoms, and so on. So, our Biotech MegaShift as a whole will benefit, and I am always looking for new, interesting companies to add.

Biogen Idec (BIIB) drew a question from Ralph: “How much longer do you want us to hold the January 2007 call on Biogen Idec? Are you still expecting some news to break that will move the stock back up?”

Yes, I sure am. I think their guidance for Tysabri sales in the December quarter will be a very positive surprise for the Street, and it is easy to see BIIB at $60 to $70 a share based on excitement around increasing estimates for Tysabri sales. Buy the BIIB January 2008 $45 contract (YZUAI) up to $12 for a $23 target. And you can continue to buy the higher-risk, higher-reward January 2007 $45 LEAP call (IDKAI) up to $10 for my $21 target.

Mike asked a series of questions about Dendreon (DNDN): “I am really high on the potential of Dendreon. Could you further clarify your opinion on: 1) When the final decision from the FDA will come down? And projections for what the ramifications of their decision will be for the underlying stock. 2) What you see the stock doing until that time period? 3) Do you feel it will be approved? If so, when will Dendreon be able to capitalize on a positive decision via sales figures? I am thinking of loading up and I noticed the stock has pulled back a little and it maybe the time to back up the truck?”

Dendreon is on track to complete their BLA (Biologics Licensing Application) by the end of the year. The clock then starts on their fast track review, with the FDA obligated to respond in six months. Because the FDA let DNDN do a “rolling” application, the agency has already reviewed much of the data previously submitted. I expect the FDA to ask for an Advisory Committee meeting, which they could schedule for May.

In the meantime, Dendreon will be releasing data at various scientific conferences and presenting at brokerage firm conferences. So, I expect the stock to maintain its current level or move up slightly on the data announcements, and then take a significant jump when they announce that the BLA is complete and filed After that, more data announcements should let them hold the new price level until the Advisory Committee meeting. Approval from the Advisory Committee will jump the stock sharply, as will final FDA approval. I do think it will be approved, and as you know this is the major area of disagreement on the Street. Bearish analysts say that the company missed its primary endpoint of tumor progression. Bullish analysts, like me, say that they met their secondary endpoint of extending survival, which is the gold standard for approval of a cancer drug, and there is no reason to deny that benefit to men with prostate cancer, given the excellent safety profile of Provenge.

After approval, it would be typical for the stock to sell off as the company goes through the process of getting Medicare codes and reimbursement from healthcare payers. Then there is the excitement of the launch, with a lot of volatility in the stock price, followed by the steady year-by-year growth that I’m expecting.

Of course, there could be a partnership announcement any time, if only to put the Provenge process back into the clinic for other solid tumor cancers, like head and neck or breast cancer. As far as “loading up” on the stock, I have no problem with someone making it a major position at today’s prices. If we do see a big market drop in the next few weeks, DNDN will get hit, but it will be transitory because of all the good news coming. So buy DNDN up to $7 for my $14 target, which I expect after Provenge is approved.

China MegaShift

UTStarcom (UTSI) drew a brief but broad question from Mark: “Hi, what are your thoughts on UTSI, thanks.”

Well, my thoughts are that this is a very cheap stock due to their operational problems for the last six quarters. UTSI appears to have those problems behind them, and they are ahead of expectations on getting their costs back under control. Their basic PAS phone business is slowing but still a cash cow, and they are a serious contender in many of the new Content on Demand areas — Internet Protocol TV over copper and optical fiber, high-speed broadband access and 3G cellular handsets. UTSI is just under my buy limit, and is a buy up to $9 for my $15 target.

Content on Demand MegaShift

Telkonet (TKO) is a stock of great interest to all of us. Todd asked: “I am perplexed with the action in TKO. It appeared you had a pipeline to some significant information that resulted in your feeling confident about this strategic partner. Yet there is no news and no action in the stock to reveal anticipated news. The stock is $2.75 with a buy up to $5.00. This looks like the Mother Load should be played. Yet you are now somewhat quiet on this stock. Should I now be concerned? Relative to the $15.00 target you speak of, how much market action is a piece of the target price versus strategic partner and fundamental news?”

I do have good contacts into this company, and I believe the strategic investment is still on its way. I’ve tried to update TKO in almost every issue of the Radar Report, especially in regard to the big military contract with EDS that finally got announced. This week, the company signed a deal with Ameren Energy Communications to provide BPL access to all commercial and apartment facilities in the Ameren utility’s Missouri and Illinois service areas. River City Internet Group will be the Internet service provider, and TKO will do all the in-building work. This is a huge win for the company, yet it is only a tiny fraction of the business available in the U.S., which in turn is about 10% of what is available in the rest of the world. I still think the stock is a great buy up to $5 for my $15 target. That target is based entirely on the company’s performance and getting the strategic partner, and has nothing to do with my outlook for the market. Realistically, though, the price will be achieved when people are more positive about small cap and development-stage companies. I expect we’ll be in that environment in 2007 and 2008.

Seward had a concern about Silicon Image (SIMG) that I should have addressed a while ago: “I am hearing that Apple might introduce a streaming video technology next week in conjunction with the rollout of its iTunes movie download service. What effect, if any, does this have on Silicon Image and its array of HDMI products? Does wireless streaming technology make SIMG’s hardwired solutions obsolete? Obviously, I am a little confused on the technology here and would appreciate some input from you.”

Although you probably already know this, Seward, the streaming videos are a big boost to the use of HDMI. The forthcoming Apple iTV media center control box has HDMI output, as well as component outputs. It supports an industry coding/decoding standard, H.264, that is supported by both the Blu-Ray and HD-DVD camps and is the key to high-definition TV.

Most important, it means that many users will want to connect their iTV or other media center device to their TV, along with their existing DVD player or home theatre in a box. Today, most sub-$1000 screens only have one HDMI input. Multiple inputs have been a feature of more expensive, and often larger, screens. But if Apple drives the adoption of iTV and competitive products into most homes, we are likely to see two or even four HDMI ports on each screen, in addition to the wireless connection. That’s good news for SIMG, which is a buy on any dip under $10, if the market takes a drop, for my $18 target. I will raise the buy limit after we get through the next few weeks.

Zhone Technologies (ZHNE) pre-announced a poor September quarter after the close yesterday, blaming the shortfall on weak international sales. Instead of $54 million in revenues, they will book $41 million to $43 million. The shortfall will pull down gross profit margins from the 38% to 40% area. I’d been looking for 35% or 36%.

The stock was hit for 34 cents today, down to $1.06. This should be as bad as it ever gets, as the September quarter is the hardest one to close international business. While the old products run down, their new DSL products are still growing rapidly.

Management should guide very conservatively for the December quarter if they have any sense. I’m going to keep ZHNE as a buy based on price, not on timing, but reduce my buy limit to $2 to reflect this latest disappointment. I’ll cut the target price to $5 for next year, although there’s no reason they can’t hit the $7 figure if they execute better in a more favorable stock market environment.

Nanotechnology & Materials MegaShift

Integral Technologies (ITKG) is a small, development-stage company and therefore a volatile stock. John wrote: “Michael, ITKG dropped 10% today and you didn’t comment. Please do!”

There wasn’t any news for me to comment on — this was just the illiquid market getting hit with a sell order. ITKG announced receipt of its 19th patent. They started filing patent applications in September 2002 with four applications. By October 2004 they had filed for 37 patents, and since then they have filed for 72 more. It takes 18 to 24 months these days to get a patent, so the 19 that have issued should be followed by many, many more. Every patent is a new licensing opportunity.

It is best to use 10% down days as an opportunity to pick up a few more shares, instead of worrying about it. This is going to be a long-term holding for us, and after the next few weeks I expect to increase the buy limit. Until we get through the last of this seasonally dangerous period, though, I would continue to only buy ITKG on dips under $2.50 for my near-term $4 target.

New Energy Technology MegaShift

Art asked: “We are invested in oil sands and Shell along with natural gas. What’s the future of those investments after the recent big change in prices. Are we going to be sitting on dead money?”

No. There are two issues with oil. One is price and the other is volume. The price can flip around quite a bit at the margin, based on the weather, geopolitics and how the hedge funds are feeling. Recently, all of those have pointed to lower prices, and we seem to have bottomed around $60 a barrel. I still think the low end of the range for the next year will be $50 to $55. On the high side, $75 to $85 seems reasonable.

The technologies I am recommending — tar sands, oil shale, coal-to-liquids and wavepower — generally turn profitable between $35 and $45 a barrel. As long as volume holds up, which is to say as long as China and India continue to grow faster than 5% a year, all of these projects will produce needed product at an attractive cost. Of course, they will get a windfall every time prices push into the high end of the range, but we don’t need that to make money in the stocks.

Expectations for these companies are very low. For example, Chevron just entered a joint venture with Los Alamos National Laboratory to study new ways to unlock oil shale. The U.S. Geological survey estimates that the U.S. has two trillion barrels of oil shale resources, with about 1.5 trillion of that in the Green River Basin in Wyoming, Colorado and Utah. That’s 65 years of the current world daily oil production of 85 million barrels. But the Department of Energy (DOE) thinks that oil shale production will only hit 100,000 barrels a day in 2030 — 24 years from now. That is flatly ridiculous. Oil sands production was about one million barrels of oil a day last year, and the DOE is projecting only 3.6 million barrels a day in 2030.

Royal Dutch Shell (RDS.A) is the technology leader in extracting oil from shale, and in addition to their Green River Basin work that has been in development for more than 10 years, they have a joint venture with Jilin Guangzheng Mineral Development to explore oil shale resources in China. If the U.S. is only producing 100,000 barrels a day from oil shale in 24 years, we may not be in even the top 10 oil shale producing nations.

The truth is that the world needs to spend about a trillion dollars a year on unconventional oil and alternative fuel production in order to avoid the “peak oil” problem. If the money is spent, our companies will benefit tremendously from the increase in volume. If the money is not spent, our companies will benefit tremendously from the increase in prices.

While oil prices are low and hurricanes are absent, we can buy oil sands cheaply with Connacher Oil & Gas (T.CLL) and oil shale cheaply with Royal Dutch, Gasco (GSX) and Infinity Energy Resources (IFNY). We can pick up bargains in one of the best sour crude refineries, Holly Corp. (HOC), and the clear leader in coal-to-liquids technology, Rentech (RTK). We can get into the early winners in the hydrogen economy, with real products on the market today, by buying Fuel Cell Energy (FCEL) and Plug Power (PLUG). Ocean Power Technologies (OPWT) gives us a very alternative technology that is price-competitive with oil right now, and we can expect more developments to come. I’m still expecting to buy back Cree (CREE) and Energy Conversion Devices (ENER) in the near future — preferably lower than where they closed today.

Charles asked an incisive question: “Are environmentally safe products in your list of MegaShifts? I’m thinking of Winning Brands Corporation’s (WNBD) solvent-free Winning Colors product with its water based cleanup for paint and other solvent messes, as well as another solvent free-product that dry cleaners will probably be forced to change to in the near future that will turn traditional dry cleaning into the environmentally safer ‘wet clean.’ Any thoughts here?”

The New Energy Technology MegaShift is just one of the Green Tech MegaShifts that I am following. I’ve been involved in alternative energy, organic food and green technology for many years, and it certainly looks like a breakout is underway. So the first answer is that there will be a Green Tech MegaShift at some point later this year.

However, Winning Brands is a pink sheets stock that sells for six cents a share, down from 15 cents at the end of August. It was formed by a merger in April, and probably is too small and early stage for the New World Investor.

General Questions

Henry asked: “Do you agree with Forbes’ lead article “The Cheap Revolution” that the “wholesale shift by corporations to cheap chips and open-source software such as Linux” will create a new boom to the detriment of Microsoft, Oracle, Cisco, etc?”

Not exactly. We tried implementing Linux on our desktops — it is very difficult, with very little support available. Linux on servers will spread. So Microsoft has a great opportunity to upgrade one billion existing PCs with Windows Vista, an operating system that can’t be stolen and duplicated. They have a fight in the server market with the Windows Vista Server against Linux. They are vulnerable on the Office side, because there is very good freeware, Open Office, that will run under Vista as well as under Linux.

Oracle databases and applications run under Vista or Linux. They wisely removed themselves from this fight, and win either way as long as they can take seats from IBM and SAP, both of which also will run under Vista or Linux.

Cisco uses Linux in some of its router products, but their customer generally doesn’t care as much what the operating system is in a dedicated product like a router.

And although you didn’t ask, Intel can run either Vista or Linux in native mode, so Dell, Apple, H-P and everyone else also don’t care who wins.

The net of this is that Microsoft is the most vulnerable in the long run, but they have an unbelievable opportunity in the short run — one billion computers times an average of $150 each for Vista is a $150 billion market, theirs for the taking. As long as they don’t blow it by putting out an insecure, crummy product, they have what Scott McNealy of Sun Microsystems used to call an insurmountable opportunity.

This market has been showing remarkable resiliency during what is typically a seasonally weak period. The last half of September and the first half of October are normally especially bad. But maybe this year everyone knows it and has discounted it for the time being. I find that hard to believe, though, because the Fear & Greed Index — the VIX — is still bumping along at multiyear lows. This shows that investors are complacent and not worried about volatility.

What has investors in such a contented state? It could be the drop in oil prices, the benign hurricane season, less saber-rattling around Iran, reduced inflation numbers or the prospect of a split, and therefore, less disruptive Congress that are providing the fuel for this feel-good atmosphere. The lack of negative earnings preannouncements isn’t hurting matters either. Although, there never was much question that companies that gave cautious guidance in July would make their numbers in September. But the real question on my mind is what will guidance look like for the December quarter, especially in the context of a rapidly cooling economy.

In the meantime, the low VIX is at a level that assumes there will be no more hurricanes, a diplomatic solution to the Iran situation, a mild winter in spite of the developing El Niño, a soft landing for housing and good guidance in the October conference calls. Pretty much all of those have to happen to keep the market at current levels. Most of them don’t look likely to me.

Plus, the current state of the market is reminding me more and more of the market we had in May. The steady upturn over the last two months is similar to the steady upturn from early March to early May with this week marking a double top with the early May top. If the market continues along the same path as the May markets, the next five weeks will see a sharp plunge mirroring the May-to-mid-June drop. I believe that’s a higher-probability scenario than what Wall Street is expecting, and it is the risk I want to keep you away from.

Today’s decline triggered an hourly sell signal that bounced weakly up to the prior breakout levels. By closing at 1318, it also triggered a more serious daily sell signal. It would have to close below 1300 tomorrow to trigger a weekly sell signal, and if that happens, I think the complacency will be routed pretty quickly. My idea had been that we’d see the lows during the San Francisco Money Show as October earnings reports got rolling, but I now think a major decline would last into November. We should know soon.

So, with the market currently mirroring the May scenario and a decline on the horizon, I’m not comfortable making any new recommendations at this time. I have several new ideas on my plate right now, but I don’t think it’s wise to even nibble at them just yet. We will have plenty of time to buy new, great stocks at attractive prices once we are through the down period that I’m expecting over the next couple months. And don’t forget, just as life insurance is not a bad idea even if you don’t die, holding cash during a potentially risky period is prudent, even if the market doesn’t go down.

The Canary in the Coalmine

The action in Google (GOOG) is especially interesting to me right now. Google led the market up at the end of last year and earlier this year, and it has been the canary in the coalmine for many of the downturns and upturns since. On Tuesday, Yahoo’s CFO was presenting at the Goldman Sachs Communications Conference and said that advertising demand is slowing “a little” from automakers and financial companies. “A little” turned out to be enough to put Yahoo’s results for the September quarter at the low end of their guidance range. Both Yahoo and Google were hit hard — Yahoo dropped about $4, and Google lost $17, slipping below $400 on Wednesday’s close. Of course, this is the thesis behind my short sale recommendation –advertising is very cyclical, and incremental revenues have nearly 100% profit margins. Cheerleaders like Jim Cramer haven’t seen that yet — on yesterday’s Mad Money, Cramer said that Google “is a repository of all things great” and that the stock may exceed $500 a share because so many children use it and the company generates a lot of cash. I’m sure advertisers will be thrilled to learn that the clicks they are paying for are coming from children.

The big drops in Yahoo and Google on Tuesday and Wednesday are just the sort of initial moves that start a serious decline. At this point, Google bottomed at $395 and bounced to $408 today. I think that it could bounce as high as its Monday high at $418 and still be in the decline scenario. So, I am looking for a break under $395 to short the stock again, and a failure to get back above $410 over the next few days will make me especially interested in getting bearish on Google again. But if GOOG can break through $418, I’ll go back into my cave and wait for another day. I will send you a Flash Alert when the time comes to re-short GOOG.

Meanwhile, we are in the quiet period before the end of the quarter, without a lot of news from the companies. But we have had some interesting developments in a number of our holdings that I want to tell you about today.

Avian Flu MegaShift

Indonesia confirmed another case of human-to-human transmission of bird flu, when a man who cared for his sister in a hospital for six days caught the disease from her. This raises the possibility that the strain of the flu circulating in Indonesia, which has killed 49 of the 65 people infected so far, has begun to make the mutation jump that everyone fears. It is still labeled an avian strain, but one more mutation would probably be classified as an infectious human strain, capable of spreading by coughing or sneezing. I still expect this to happen eventually.

BioCryst (BCRX) said that their cofounder and current CEO will retire in 2007, and began a CEO search. They have plenty of time to pick someone terrific to run the company, and there will be no shortage of applicants now that they’ve made the press release. This does not affect my recommendation to buy BCRX up to $19 for my $30 target, which I expect after the fall migration season brings infected wild birds into the U.S.

Biotech MegaShift

Dendreon (DNDN) will present at the UBS Global Life Sciences Conference on September 27, with a live webcast on their site. I expect them to say that they are on track to complete their BLA filing for Provenge with the FDA by the end of the year, and they may even accelerate the time frame a bit. DNDN remains a buy up to $7 for a $14 target after Provenge is approved.

eResearch (ERES) will also present at the UBS Conference, on Monday. They may update their order forecast for the September quarter, which would help the stock if business is as strong as I think. ERES is a Top Buy all the way up to $16 for my $30 target.

Millennium Pharmaceuticals (MLNM) will present at the UBS Conference, also on Monday. I expect them to focus on their pipeline of new drug candidates, which is getting stronger. Buy MLNM while it is under $11 for my $23 target.

ViroPharma (VPHM) will present at the Conference on Wednesday, and may have an update on the timeline for the FDA review of their challenge to the change in regulations for making generic Vancocin. Buy VPHM while it is under $13 for my $28 target.

China MegaShift

UTStarcom (UTSI) will show a seasonal sequential decline in new PAS phone sales in China, but I still expect their cost-cutting efforts to pay off on the bottom line. The consensus is looking for a 30-cent loss, and I calculate that it will be between 15 cents and 20 cents. Wall Street likes cost cutting, so if the company has good news in its newer product areas, like broadband access, Internet Protocol TV and cellular handsets, the stock could keep rallying. There’s a large short position to be squeezed, as 23% of the shares are sold short. Buy UTSI under $9 — it’s trading back and forth around $9 now — for my $15 target.

Content on Demand MegaShift

Comcast (CMCSA) is benefiting from couch potato syndrome. In spite of the Internet, iPods and new video games, television viewing in the U.S. rose 1% last year to a record eight hours and 14 minutes per household. Teenagers increased their viewing by 3% to an average of three hours and 24 minutes a day, even as they spent more time on the Internet or with music players and video games. Teenage girls’ viewing increased by 6%. In addition, cable continues to gain shares from broadcast and video-on-demand, while the tiny video-to-mobile-device market is the fastest growing of all. This is probably not good news for international competitiveness, the number of homegrown scientists and engineers, SAT scores and the obesity problem, but it’s great news for Comcast.

Comcast is also clobbering Verizon in the Northeast with a $99 a month VVD (voice, video and data “triple play”) offering, and Comcast has signed up over one million phone customers in two years. They also have more than 10 million broadband Internet customers.

Comcast thinks the new video build out by the phone companies will have a minor negative impact. They expect to lose 100,000 video-only customers to the phone companies in 2007, but pick up three million phone customers — and so far, 75% of the recent converts have taken the VVD package.

In addition, the latest auction for wireless spectrum ended Monday, and one of the big winners was SpectrumCo, a joint venture of Comcast, Sprint and TimeWarner Cable. They won enough wireless spectrum to cover 267 million people, or 89% of the U.S. population. This will let Comcast offer wireless phone service using VoIP, as well as audio and video services over the wireless spectrum to mobile devices like phones. Kids will watch MTV on their phone and then buy and download the music video or song they just heard. People will also watch football game highlights on their phones. The OnStar-type service will merge with in-car navigation systems to connect to Comcast so passengers can watch live or on-demand TV, or play multiplayer video games with people in other cars. Comcast is a solid hold for my $62 target.

Silicon Image (SIMG) has a subsidiary, Simplay Labs, which focuses on HDMI design standards, interoperability and testing to be sure different manufacturers’ high-definition consumer products will plug in and play together. It’s the next best thing to an independent industry certification lab, and they announced that 13 more big manufacturers have joined, including Bose, Grundig, Hewlett-Packard, JVC, Microsoft, Panasonic, Thomson and Yamaha.

The stock had a good run recently, and I don’t want you to chase it during this risky period for the market. If necessary, I’ll raise the buy limit later, but for now buy SIMG only under $10 for my $18 target.

Telkonet (TKO) received a patent for an integrated safety disconnect circuit breaker that goes into the Telkonet Coupler to attach power lines to the company’s Broadband-Over-Powerline customer premises box. This is a necessary technology to convince a utility to let TKO take control of the power line before it gets to the building circuit breakers. TKO remains a Top Buy up to $5 for my $15 target.

New Energy Technology MegaShift

Connacher Oil & Gas (T.CLL) received an excellent updated reserve report from their independent consultants. Estimated reserves in their oil sands properties increased a whopping 59%, and recoverable reserves increased 48%. Connacher is going to drill 60 more test holes on its main lease block during the March quarter, and I expect that to lead to another big increase in estimated reserves next year. This is terrific news for us, as it means there is even more oil behind every share than we originally thought. The stock moved up on the news for a few days, but gave the whole move back on weaker oil prices. That is short-term thinking at its worst, and you should keep buying T.CLL up to $4.50 for my $7 target.

Gasco Energy (GSX) is buying their working interest partner, London-based Brek Energy (BREK), for 11 million shares worth about $30 million. The deal is accretive to book value and won’t require any additional capital spending, but will slightly reduce earnings per share next year. Brek held a 14% interest in Gasco’s leases in the Uinta Basin in Utah and the Green River Basin in Wyoming. This is one of a series of small acquisitions of working partners, all meant to increase Gasco’s acreage position in its core exploration areas.

Although natural gas is selling near a five-year low today at $4.73, the January futures are well over $8. The El Niño that is developing will bring the usual very cold weather to the Northeast, where natural gas is used for heating. This is a great time and a great entry point to buy GSX cheaply, well under my $4.50 buy limit, with a $9 target that is still realistic when cold weather hits.

Royal Dutch Shell (RDS.A) had to shut down part of their upgrading (refinery) oil-sands plant when they discovered a leak. The plant turns heavy oil from the sands into synthetic crude, and it is producing 155,000 barrels a day, down about 14% from the pre-leak levels of 180,000 to 190,000 barrels a day. They should have it fixed by this weekend.

The news that Russia is going to cancel Shell’s permits to build the huge Sakhalin-2 project hurt the stock. The project won’t be cancelled, and Shell will be reauthorized, but there will probably be a six- to twelve-month delay in the $20 billion project, and the government may try to increase their royalty percentage. The news knocked the stock back under my buy limit, so if you want to own the technology that will unlock the oil trapped in shale in the Colorado Rockies, buy RDS.A under $66 for my $75 target and collect a 3.9% yield while you wait.

Rentech (RTK) commented on the first Air Force test flight of a B-52 at Edwards Air Force Base using Fischer-Tropsch coal-to-liquids fuel. Rentech received a request for information from the Department of Defense (DoD), which has said that it wants to use coal-to-liquids fuel for energy security reasons. The DoD has a 10-year plan to replace the 50% of current fuel consumption provided by foreign sources. The Air Force spokesman said: “This is an extremely important moment. Our goal is by 2025 to have 70% of our aviation fuel coming from coal-based sources.”

Although the stock didn’t budge on this news, it is obvious that this is the sort of concept that can catch investors’ imaginations at any time, skyrocketing the shares. RTK has a total market capitalization of less than $700 million, and is an obvious acquisition candidate for any of the major energy companies. Buy RTK under $5 — it is a Top Buy for my $11 one-year target, and I expect us to hold it for a few years for much higher prices.

Security MegaShift

CheckPoint Systems (CHKP) has been strong on a rumor that Hewlett-Packard is about to make a bid for the company. It’s a great idea and a nearly ideal fit, which means many investment bankers must have been pitching it to new CEO Mark Hurd for quite some time. H-P could use a diversion from their boardroom scandal, so maybe something will happen between them and CHKP. The rumor also puts the stock “in play” for anyone else who wants to buy a #1 technology position for less than 15X this year’s earnings. I don’t see much risk in this stock, and CHKP should be held for higher prices or a potential bid, where we will exit.

Symantec (SYMC) benefited today when CIBC raised their target price for the stock to $24. CIBC expects the company to beat the September earnings consensus for the third quarter in a row, and pointed out that the on-time release of Norton 2007 at higher renewal pricing will provide a revenue boost. After that, Norton 360 and Norton Confidential will be released, and the company has announced partnerships with Juniper and Dell, with the latter to get control of email archiving. Like Check Point, there isn’t much risk in this stock, and SYMC should be held for higher prices.

WiMAX MegaShift

Airspan Networks (AIRN) settled their differences with Yozan, their major customer in Japan. The way I read it, they will be able to book some of the delayed revenue in the September quarter and most of the rest by the end of the year. Apparently, Yozan insisted on a network optimization program and test. Airspan did that in July and August, and it was totally successful. They showed 99.9% service uptime over the combined WiMAX and Wi-Fi network.

AIRN agreed this morning with Yozan to reduce the contract from $42.9 million to about $28 million for now, and Yozan agreed to take delivery by the end of the year. Yozan will also add on monies for additional network planning, installation and testing, as well as maintenance. Although the stock only rose five cents today on the news, I think people are just not paying attention. This removes a major psychological overhang, plus the uncertainty of when, and even if, Yozan would pay. AIRN can be bought all the way up to $6 for my $10 target as the WiMAX rollout accelerates.

Alvarion (ALVR) has you covered on your next trip to Tonga. The Tonga Communications Corp. is going to use Alvarion’s BreezeMAX 3500 to cover the whole archipelago with high-speed broadband wireless access. The 100,000 inhabitants live on 42 of the 170 islands that comprise Tonga, which are spread over 270,000 square miles. Some of the islands are mountainous and all have tropical rains. Alvarion was the only supplier that could meet their requirements. ALVR is a Top Buy up to $9 for my $18 target.

After the Internet stock bubble burst in 2000, a lot of fuddy-duddies gleefully announced that the New Economy was an illusion, a goofy idea promulgated by Michael Murphy, George Gilder, Esther Dyson and a few others that they thought would never be heard from again. But within a few months, companies were starting up again to build what has become known as the Web 2.0 economy. A few years later, Google, Skype, MySpace and YouTube put the fuddy-duddy case in shambles. Through this whole period, Internet usage skyrocketed, on-line commerce soared, consumers went digital, the VVD revolution (voice, video and data all on one line) accelerated, and wireless mobile communications exploded. Power shifted from producers to consumers, from the U.S. to the globe, and from any company that listened to the fuddy-duddies to companies that accepted and adapted to the New Economy paradigm.

Our first investment in the New World Economy MegaShift, Click Commerce (CKCM), which I planned to hold through 2007, was acquired two months after we purchased it, giving us a 14% gain. I intended our second investment to be Cnet (CNET), although I wanted it closer to $8 than its current price of around $10, and preferably a little further along in bringing their options backdating nightmare to closure. I still think we’ll get a shot at this stock in a month or so. But Cnet has been elbowed out by another company — a recent IPO (initial public offering — remember them?). Furthermore, to use the language of the Internet bubble, this IPO is unprofitable because they are trying to establish a first-mover advantage. The fuddy-duddies must be choking on their croissants.

What’s Going On?

Omniture (OMTR) came public this year on June 27 at $6.50 a share, not much below where it is currently trading. OMTR provides an online service that runs business optimization software for corporate marketing departments that need to manage and integrate online, offline and multi-channel business initiatives. Their SiteCatalyst service collects information on how users interact with their corporate customers’ web sites. This can include how a web user got to the site (Search engine? Pay-per-click? Free publicity?), how they moved around the site, how long they stayed, what they bought, what they almost bought and on and on. All of this can also be related to offline drivers like TV and radio advertising or direct mail, and everything is stored in a data warehouse for easy access by the customer, including the ability to build custom reports.

The customer accesses everything through a web browser — there is no need to buy a huge software package and wait months for it to be installed in-house. This software-as-a-service model, also known as application hosting, is very attractive to me because it provides recurring monthly revenue, instead of the big, lumpy software sales that may come in the last two days of a quarter, or not. I think Wall Street will pay higher price/earnings (P/E) ratios for companies that use this model.

Omniture has a remarkable customer list numbering over 1,000 companies, including Apple, eBay, Expedia, Ford, Gannet, Hewlett-Packard, Microsoft and America Online. AOL and its affiliates are their largest customers at about 12% of sales. These are very technically sophisticated customers, and you might wonder why they would use Omniture instead of just doing this stuff in house. Here’s why.

First, the numbers are enormous. In 2004, the most recent year for which we have solid statistics, companies had $295 billion in online sales and spent $25 billion for online advertising. Since then, the explosion in blogs, RSS feeds and search engine marketing has made it ever more difficult to spend that online advertising budget effectively. And the growth continues — IDC says the number of global online users will go from 820 million in 2004 to over 1.3 billion in 2009. The growth of broadband and mobile networks is likely to increase the amount of time each user spends on the Internet. In 2004, U.S. consumers spent 34% of their available “media time” online, but online advertising accounted for only 6% of total ad spending. In the month of April 2006, just the top 10 Internet properties in the U.S. generated 133 billion page views from 171 million unique users. Tracking ad spending to results is a massive technical challenge. Omniture currently captures over three billion web page views a day and manages over 600 terabytes of data for its customers, with 99.9% uptime — you know how devastating an Internet outage can be to your productivity.

Second, Omniture has established itself as the gold standard for web analytics thanks to the quality of its customers, and it has created a productive cycle of product development. It is rapidly developing new services for its current customer base that have been requested by the clients themselves. At the same time, they are moving down into the middle market of medium-sized, less web-savvy companies, adding new customers easily thanks to their reputation. Sales are currently growing around 100% a year, hitting $41 million in 2005. I am targeting $80 million this year and $130 million in 2007.

Omniture will lose a little money this year, around 15 cents a share, and make a little next year, also around 15 cents a share. At this stage of the company’s growth, profits are not the point — a land-grab for customers is. Competitor WebSideStory (WSSI) is trying to show profits and therefore isn’t spending as much money on R&D, marketing and other growth-oriented strategies, and thus will grow slower. So OMTR has already passed them in size. Omniture was profitable for six straight quarters until early 2004 as a private company, and they could turn profitable tomorrow by slashing marketing and R&D. But we don’t want them to do that.

The company had to cut its IPO price from the $7.50 to $9.00 range down to $6.50 because they did the underwriting less than a month after the Vonage IPO mess. The company has a total market capitalization of $345 million at today’s close, less than 3X next year’s sales estimate. It should be selling for double or triple that, given the growth rate. I don’t see OMTR running out of opportunities until it has at least $300 million in sales, though it will probably be closer to $500 million.

Of course, OMTR will have to continue to execute as well as they’ve been doing. This Orem, Utah-based company is run by a group of Brigham Young graduates in their early 30s. The Board of Directors includes Mark Gorenberg from the software venture capital firm Hummer Winblad, and Rory O’Driscoll from BA Ventures (Bank of America) to provide adult supervision.

The company made its first presentation since the IPO at the ThinkEquity Growth Conference on Tuesday; and the stock moved up from the low $7s to the high $7s on light volume. Given my market outlook, I think a tight buy limit is appropriate. Buy OMTR under $8 for a $20 target in 2007. I’m also adding OMTR to the Top Buys, as this overlooked IPO could dominate web analytics.

Avian Flu MegaShift

Crucell (CRXL) signed up two large customers for its STAR technology licensing program this week. UCB, the maker of the allergy drug Zyrtec, signed a five-year deal, and this morning Novartis signed a one-year license. STAR is the process that increases production of antibodies and proteins using human cell lines. These are two big wins for Crucell, and it remains a buy up to $28 for my $50 target as the bird flu spreads south during the fall migration season that is starting now.

Gilead Sciences (GILD) will benefit from a new U.S. government order to Roche for 21.3 million doses of Tamiflu. The stock should react to the new bird flu season, and the LEAP options are timely buys. Buy the January 2008 $50 call LEAP (YGDAJ) on any dips under $16 for my $30 target, and buy the January 2007 $60 LEAP (GDQAL) up to $9 for a $20 target.

Biotech MegaShift

Biogen Idec (BIIB) presented at a Bear Stearns conference on Monday, and said that Tysabri has launched in the U.S. and some European markets, most importantly Germany. It will launch in Canada and Italy in the fourth quarter, and the remaining European markets in the first half of next year. That includes France, which is a large market for multiple sclerosis.

In the U.S., they expect to have 2,500 infusion center practices trained in the new risk monitoring program by the end of the year. It takes several weeks to get a patient onto Tysabri, so the big revenue impact will hit next year.

Biogen management also focused on a couple of areas that they think analysts are not looking at. One is collaborations and in-licensing, where they announced two deals in the second quarter. This morning, they bought the rights to Aviptadil, a blood pressure drug for pulmonary arterial hypertension. They said that they plan to expand beyond their current core businesses in multiple sclerosis and cancer, and even though they have no debt today, they would not hesitate to use debt for a major acquisition.

The other area is their clinical pipeline, where they have a number of programs advancing into Phase III trials. That includes expanding the label for Rituxan in rheumatoid arthritis, multiple sclerosis and lupus. Rituxan has a novel mechanism of action, and may be able to make a big impact on those diseases. BIIB is well-positioned for a strong move upward over the next six months as Tysabri revenues build, and I still think you will make money on the January 2007 $45 LEAP call (IDKAI), which I’m keeping as buy up to $10 for my $21 target. There may not be quite enough time to get all the way to $21 by expiration, but that will depend on how strongly the stock reacts in the market upswing in November and December. The January 2008 $45 contract (YZUAI) is a safer buy up to $12 for a $23 target.

Millennium Pharmaceuticals (MLNM) also presented at the Bear Stearns conference. They focused on Velcade, their approved standard of care for relapsed multiple myeloma. Velcade also has shown significant clinical activity for front-line myeloma, non-Hodgkin’s lymphoma and non-small cell lung cancer. They believe it can become a billion dollar drug.

MLNM’s pipeline includes eight new molecules in cancer and inflammation, and their goal is to put one or two new candidates into the clinic every year. In the last two years, they have moved five molecules from discovery to development. At the same time, they are determined to show pro forma profitability for this year, as they did in the first half, in spite of the heavy R&D budget. There could be another buyout bid for the company at any time, and MLNM remains an excellent buy while it is under $11 for my $23 target.

Metabolic Pharmaceuticals (MBLPF) still has a wide-open field to be the winner in obesity drugs. Xenical causes rectal leakage, and Reductil has been linked to heart problems, mental issues and even suicide. GlaxoSmithKline’s Alli is just a weaker version of Xenical, and Sanofi-Aventis’s Acomplia is an appetite-suppressing drug, not something that causes the body to release stored fat. Metabolic’s AOD9604 has the right technology. They fully enrolled their Phase IIb study earlier this year, getting 536 subjects in April. Results are expected in March 2007. This drug also appears to be useful against osteoporosis, and a Phase II trial will start in 2007.

Metabolic’s pain drug, ACV1, successfully completed a Phase I safety trial, and the Phase IIa trial is being planned now. This is a buy-it-and-put-it-away stock to make 100-to-1 on your money if it works. Buy MBLPF up to 56 cents a share in the U.S., or buy MBP on the Australian Exchange up to 75 Australian cents. I’m still looking for at least a $4 stock over the next few years, but obviously it has the potential to go much higher on the back of a successful obesity program.

QLT (QLTI) completed their Dutch auction at the high end of the range, buying 13 million shares for $8 each. That’s 14.7% of the outstanding stock, and now the fun begins.

First, there were small presentations on Visudyne combination therapy at the American Society of Retinal Specialists meeting in Cannes this week, and there will be important data at the American Academy of Ophthalmology meeting in November.

Second, I expect a takeover bid from Rodney O’Conner, the major shareholder who founded Atrix Laboratories and sold it to QLT. He said that he may make a hostile tender offer after the buyback process ended, and of course the buyback simply increased his current percentage holding. I expect an offer from him in the $13 area, but others may bid, including Genentech. Now is the time to buy or average down in QLTI under $8, with a potential buyout at my $20 target price.

China MegaShift

Huaneng Power (HNP) received state approval to build two 1,000 megawatt power plants at a total cost of $1.16 billion. They will put up 25% of the cost and borrow the rest. Even in a worldwide economic slowdown, China’s demand for power will keep growing. The recent decline in oil prices cuts Huaneng’s costs, and I expect to see some decent earnings numbers for the rest of the year. Buy HNP under $30 for my $45 target, and collect a 4.6% yield while you wait.

Content on Demand MegaShift

Comcast (CMCSA) expanded their ON DEMAND video on-demand service to include 100 hours of high definition movies, including 20 movies a month from Starz. Customers who see high definition never want to go back, so I expect Comcast to use this as a wedge to dramatically expand HD availability. The company continues to do a great job of leveraging the new technologies to keep its cable cash flows growing. At a Merrill Lynch conference, management not only said that they are “very convinced” of double-digit cash-flow growth this year, but added they expect that to continue for “several years ahead.” CMCSA is a strong hold for my $62 target.

Harmonic (HLIT) announced two new contracts, one with a Norwegian satellite operator and the other with a Hungarian telecom bringing broadband to apartment buildings.

Nokia and Motorola agreed to make their implementations of the new Digital Video Broadcasting-Handheld standard (DVB-H) interoperable. This is an open standard, and Harmonic has been investing R&D for both the head-end broadcasting equipment and the mobile video side. The company is well-positioned for the rapid spread of video to mobile devices. Buy HLIT on dips under $6 for my $12 target. If the stock doesn’t drop that far in the next market decline, I will raise the buy limit a bit.

Silicon Image (SIMG) was a stop on the WR Hambrecht Silicon Valley bus tour yesterday. Management emphasized that Silicon Image is about Secure Digital Content Delivery in consumer electronics, storage and the personal computer. They said that they expect the 36% growth rate of the first half of 2006 to continue, as consumers, electronics manufacturers and content suppliers insist on easy connectivity in the home. SIMG now thinks about that as the Personal Domain Environment. The HDMI standard is the key to delivering easy set-up plus protection that, say, an HD movie bought for $19 won’t disappear off the hard disk.

The China Video Industry Association recently announced that they will promote and support HDMI in consumer electronics — and they make 50% of the world’s TVs. Sony’s coming PlayStation3 supports HDMI, as does the Xbox360, and Silicon Image expects to be the first company to release an HDMI video processor for the PlayStation console. The Apple iTV media center that Steve Jobs previewed on Tuesday had an HDMI connection on the back.

There were 5.0 million HDMI devices sold in 2004 and 17.4 million in 2005. The market research firm In-Stat expects 59.8 million chips sold this year, followed by 123.6 million in 2007, 200.7 million in 2008 and 278.8 million in 2009. That excludes the mobile market, where the new mini-HDMI plug will be adopted in the hundreds of millions.

A lot of these chips will be low-feature “jellybeans” made in China or Taiwan, and that is one of the fears surrounding SIMG’s stock. But the high-end equipment — PCs, LCD TVs, Apple’s media center, high definition displays — will use the richly-featured chips that SIMG makes. At the coming Consumer Electronics Show, SIMG expects to show a home network solution that can display content from any device on any other device with a screen (with an automobile and a mobile interface), provide secure storage and be self-installing.

The company expects to grow 20% to 30% a year in the long term, and get 60% gross margins. Buy SIMG on dips under $10 for my $18 target, and I will raise the buy limit after we see where the stock bottoms on the next market dip.

Zhone Technologies (ZHNE) presented at the Think Equity Growth Conference on Tuesday. Zhone is #1 in the broadband loop carrier market, tying all types of broadband access together for use by the customer. They expect the single line, multilevel service market to grow 30% to 40% a year. Their goal is to increase their gross profit margins from the low 30% area to the 38% to 40% area by outsourcing their manufacturing, a process that is underway. Finally, except for sales commissions, they expect to hold quarterly overhead expenses flat in the $22.5 million to $24.5 million range, so the incremental gross profits can mostly fall to the bottom line.

I know this one is taking a long time to get off the ground, but they have an excellent market position for the worldwide broadband explosion, serving both the cable and telco industries. Zhone has plenty of cash and is paying down debt. The operating leverage in their business model has the potential to make them profitable in the December quarter, and then every quarter next year. That’s what it will take to make this stock fly. Buy ZHNE up to $3.50 for my $7 target, although we may not see that until the first half of next year.

New Energy Technology MegaShift

Holly Corp. (HOC) dropped sharply with the price of oil, giving us an excellent opportunity to buy the stock. As one of the few refineries that can handle heavy, sour crude, it will not be affected by Exxon’s new deepwater discovery in the Gulf of Mexico or a decline in oil prices from $75 to even $55. A lot of the world’s incremental oil capacity, including Saudi Arabia and the Canadian tar sands, is heavy or sour crude. Nobody is building any more of these refineries. Regardless of the price of oil, the world, including China and India, will use more and more of it, and that incremental sour barrel of oil has to be refined somewhere. Buy HOC under $46 for my $60 target.

Nanotech and Materials MegaShift

Integral Technology (ITKG) completed a license with Jasper Rubber Products to have the rights to use ITKG’s ElectriPlast technology. The two companies will wok together on developing new products. This is another in a string of development contracts that eventually will drive a large royalty stream to ITKG.

I had a question from Chet: “Mike, what is your take on ITKG? It’s gone past your recommendation and is still climbing. Are you expecting a major pull back?”

ITKG sailed past my $3 target for this year, but as it says on the web site, this is a multiyear holding. I couldn’t argue with someone taking some of their profits off the table, but I find it difficult to trade in and out of small stocks like this. These stocks are always volatile, and if we see the sharp drop in the market that I am still expecting, ITKG could retreat to under $3 in just a few days. Of course, in the subsequent bull market, it’s likely to go over $5 in 2007. So, I am raising the target price to $4, which it already hit at the end of August, but leaving the buy limit at $2.50 for now. Once we get past the high-risk period for the market, I will adjust the buy limit to try to pick it off when it is in the lower end of its trading range, whatever that is at the time.

Security MegaShift

@Road (ARDI) won two important contracts, and it now looks like they will beat their guidance for new subscribers this year. BellSouth picked an @Road solution for their 17,000 field technicians, and E.ON chose them for 1,300 field engineers. That means the company has booked 61,000 new subscribers so far this year, and they previously guided for 70,000 for the whole year. So, they should report a penny or two profit per share in the September quarter, and guide up for December, where the Street currently is at four cents a share on $26.9 million in sales. ARDI is just under my $5.50 buy limit, and can be bought for the $8 target.

American Science & Engineering (ASEI) moved up nicely after a potentially whopping contract win from the Department of Homeland Security for a new cargo inspection system. The development part of the contract was awarded as a $28.8 million, two-year program. But the follow-on procurement phase is capped at $450 million — big numbers! This next-generation inspection system is targeted at shielded nuclear threats hidden in containers passing through the country’s ports.

Even more important in the short run, ASEI got a contract for 36 Z Backscatter vans, which is worth $42.4 million. This probably means that they will ship more vans this quarter than the 52 they sold in last year’s September period, and that is much more than Wall Street is expecting. In addition, the profitability on this program is substantially higher than it was. The Street estimate for September is 62 cents a share, with a high estimate of 72 cents. If ASEI can ship most of this order by the end of the quarter, they could easily report 90 cents a share. While that would still be down from last year’s extraordinary $1.18, it would more than double the June quarter’s very disappointing 41 cents and should move the stock up sharply. So, ASEI is a very timely buy now, and can be bought up to $59 for my $93 target — which now seems a lot more likely.

Gemalto (GEMP) said it would miss its forecast for 2006 due to economic developments and the costs of integrating the merger between Gemplus and Axalto. I don’t buy it. The economy in their area of expertise is still strong, and they have said all along that they had a handle on the merger acquisition costs. So, until they get themselves straightened out, I recommend that you sell GEMP, and we will revisit the situation later — assuming there is a U.S.-traded stock to buy.

Packeteer (PKTR) should benefit in the short run from an amended IPO filing by Riverbed Technology, a competitor to Packeteer’s Tacit product. The valuation on Riverbed will be very high, and may generate a positive spill-over for PKTR. Longer term, it will mean another well-financed competitor (along with Cisco), but over the next several months I think it will help Packeteer’s stock. Buy PKTR under $10 for my $17 target.

Video iPod MegaShift

Microvision (MVIS) won a $6 million contract from General Dynamics for full-color, helmet-mounted displays for the Army. But they did not get the contract we needed to see to keep holding the stock, as Apple did not introduce a higher-end video iPod on Tuesday. What Apple did introduce was a video iPod with a somewhat brighter screen, although still only 2.5″, with a bigger hard drive and better battery life. They also announced the availability of 75 feature films on iTunes, with many more to come. Apple cannot let customers download these without violating the Burst.com (BRST) patents. It seems to me that Apple must be about to either settle the BRST lawsuit or buy the company. Otherwise, Burst can go for an injunction to stop the video service, which would throw Apple’s market into complete confusion.

I will not know for a while if PortalPlayer (PLAY) won the chip design for this iPod, although I have a call into the company to ask them. By early next week, I should have the bill of materials. Microsoft showed their Zume player today, and it also does not have a Microvision display. It is being built by Toshiba, so the odds are it does not have a PortalPlayer chip, either. But I should know for sure next week.

So, here’s what to do now. Sell Microvision and we will come back to it when Apple finally introduces the high-end video iPod. I’m raising the buy limit on BRST to $1.15, while maintaining my $2 target. Keep buying PLAY up to $12 for my $20 target because even if they did not win this iPod contract, they may well be the processor in the Zume music player.

Google Short Sale

We were stopped out of the Google (GOOG) short sale by my $388 stop loss on Wednesday. When I’ve taken two small losses in a row like this, stopped out both times because the stock moved through meaningful resistance levels, I think it is wise to watch and wait for a while. The stock could easily test back down to $392 or even $388, and still resume its uptrend. But if it can move on up from here, we will be able to move our entry point up to just over $400, and wait for the stock to fall through that before we re-establish the position.

Market Outlook

The last three autumn market drops began from tops set in the September triple witching week, the once-a quarter event when options, options on futures and futures all expire on the same day. In 2003, the decline started on Friday, September 19. In 2004, it began on Monday, September 13. Last year, it started on Monday, September 12.

Each of these tops was followed by a drop of 550- to 700-points in the Dow Jones Industrial Average, in less than a month. Tomorrow is the September triple witching expiration for 2006. Yesterday might have marked the high for this grinding rally, even with a mild hurricane season and sharply falling oil prices. Stay tuned.

On Tuesday, Apple Computer sent out invitations to an event next Tuesday, September 12, in San Francisco. The headline on the invitation said: “It’s Showtime!” I think this will be the long-awaited introduction of the second-generation video iPod. I expect two models — one with a bigger LCD screen and a second, high-end version with a retinal display. Steve Jobs and Apple need a “wow” factor to revitalize interest in the iPod line in advance of Microsoft’s introduction of their Zume MP-3 player. The retinal display — projecting wide-screen, high-definition feature films right into your eyes — would be a double “wow.”

Here’s how you can benefit as the Video iPod MegaShift comes back to center stage. First, there’s an excellent chance PortalPlayer (PLAY) will get the contract for the integrated audio/video chip. Samsung took the audio chip contract for the iPod nano away from PLAY on price, but the new video iPod will be more about technology than price. PLAY is currently trading just above my $11 buy limit. So I’m raising the buy limit to $12 to encourage you to buy PLAY or average down under $12 for my $20 target.

Second, in the December 15, 2005 Radar Report, I recommended Burst.com (BRST) as a buy under 85 cents a share, but the stock scooted away from us. Then in the January 12, 2006 issue, I raised the buy limit to $1, but the stock kept climbing, ultimately hitting $2.10.

Burst.com owns the patents on the video transmission methods that Apple will have to use to distribute a high volume of feature film digital files. BRST sued Apple, which countersued, and that’s what shot the stock skyward earlier this year. The lawsuit also delayed the introduction of this next-generation video iPod, which was first scheduled for the January Macworld Conference in San Francisco. But now BRST is back trading around $1, and I don’t think Apple would be making this introduction unless they are about to announce a settlement or even a buyout of Burst.com. Microsoft licensed the same technology for $60 million, and I think Apple would have to pay more than that. They might as well acquire the company and own the patent. So, today I’m recommending BRST again as a buy under $1.10 for a $2 target.

If you missed the original BRST write-up, here’s a brief excerpt from the December 15, 2005 Radar Report to give you a better idea of Burst.com’s business. And you can read the complete original recommendation online here:

“Burst.com, formerly named Instant Video Technologies, is a tiny Santa Rosa, California, company, with nearly 40 patents on delivering audio and video content over networks, including the Internet and corporate intranets. Their Burstware suite of software products lets customers transmit files faster than real time, by using available bandwidth to push more audio and video data to the end user than the software players like Windows Media Player or RealPlayer are demanding. The extra data are stored on the user’s machine and then played in the appropriate place. This insulates the user from network “noise” and interference, and virtually eliminates the buffering problem. The user gets high-quality full-motion video and CD-quality audio…”

Our third way to invest in this MegaShift is Microvision (MVIS), previously recommended in the July 21, 2005 Radar Report. Microvision would provide the retinal display, if Apple introduces that version of the video iPod now. Here’s brief look at my original recommendation on why MVIS could have shot at providing it retinal display for this version of the video iPod (for the complete original write-up, click here):

Steve Jobs doesn’t want the new video iPod to be background music, like the original iPod. He wants it to be an immersive experience, which is where Microvision comes in. How much more of an immersive experience can you get if MVIS’s retinal display is projecting the feature film directly to you eye? Plus, don’t forget that Steve Jobs loves beautiful displays. The original Macintosh display made the DOS green screen look like the 1950s. The Apple Cinema Displays are awesome. A retinal display would definitely be the next “wow” factor.

One wrinkle since my first recommendation is that the company issued warrants that trade under the symbol MVISW. They have an exercise price of $2.65 and expire in June 2011. At the current low price, I would rather own the stock, which is priced like an option that will never expire. The warrants have even more upside, though, and a small position might be appropriate for your very, very speculative money. I won’t make them a formal recommendation, as they will trade up and down with the stock. Buy MVIS under $1.50 for a $3 target.

Biotech MegaShift

eResearch (ERES) should show good order growth again in the September quarter and finally get more of that into the revenue column. As of late, ERES hasn’t been making headlines, which stirred up this question from a subscriber:

” I guess I’m a little confused about ERES and maybe you can help clear it up. I haven’t seen anything in several weeks regarding ERES. Yet, you still have it listed as a top 10 buy on your list with comments that talk about growing orders for the June Quarter. Just when is the June Quarter? Is it April May June, or is it June July and August?”

ERES did show growing orders for the June quarter (April, May and June), and I expect that to happen again in September. But the key to the stock is whether revenues will start to follow orders up — orders started growing nine months ago, and six to nine months is the usual lag for getting these programs underway and billable. Buy ERES up to $16 for a $30 target.

Content on Demand MegaShift

Comcast (CMCSA) said their video-on-demand service just passed three billion downloads since it was introduced in 2004, and now has 7,500 shows archived for its customers to watch when they want to. Their On Demand service set a new monthly record in July with 180 million downloads. I continue to think that they are doing an excellent job of leveraging the new technologies into their existing customer base, and CMCSA is a good hold for my $62 target.

Harmonic (HLIT) said that Telekom Austria, the telephone company, is launching Internet Protocol TV to their customers using Harmonic encoders and other equipment. Enabling phone companies around the world to compete with cable companies is a major focus for HLIT. This morning they announced a new MPEG-4 encoder that can seamlessly splice together standard definition and high definition video streams — it is the most advanced product of its type. HLIT continues to be a strong buy on any dips under $6 for my $12 target.

Telkonet (TKO) announced a private placement of 2.4 million shares for $6 million, or $2.50 a share. The investor also took five-year warrants for 1.56 million shares at $41.7 per share. This is expensive but necessary money — it is not the strategic investment that I am still expecting to happen. But that process is taking too long, and the company was running low on funds. This gives them the necessary breathing space to get that deal done, and start getting some cash flow from the recently-announced military deal with Electronic Data Systems. Buy TKO up to $5, and I still think my $15 target could happen if the strategic investor announcement has the impact I think it could have in the strong bull market that should kick off in just a few weeks.

New Economy MegaShift

Click Commerce (CKCM) is being taken over by Illinois Tool Works. I sent a Flash Alert about the transaction on Tuesday. If you haven’t sold CKCM already, you should go ahead and sell CKCM for a 14% gain in two months.

New Energy Technology MegaShift

Connacher Oil & Gas (T.CLL) closed their private offering, increasing the size slightly to 5.71 million shares at $5.25, which should net them around $29 million. Directors and officers bought almost 300,000 of the flow-through shares (tax benefits from drilling flow through to the shareholder). That’s a vote of confidence. Buy T.CLL up to $4.50 for my $7 target.

Fuel Cell Energy (FCEL) reported in-line earnings this morning, with revenues of $8.7 million and a 37-cent per share loss. The consensus was for $8.4 million and a 37-cent loss. They received $2.5 million in new funding from the Office of Naval Research, and orders for 750 kilowatts of generating capacity in California. They should shortly announce the signing of two major contracts that they’ve discussed before — one with the Department of Energy and one with the U.S. Navy, totaling $21.5 million. FCEL also said that they are on track to build their multi-megawatt generating plant for $3,200 to $3,500 per kilowatt.

FCEL burned $17 million in cash during the quarter and has $133 million still on the balance sheet. They are on plan, and FCEL is a buy up to $11 for my $22 target.

Holly Corp. (HOC) came down with the price of oil, and is a very timely buy under my $46 limit for a $60 target.

Infinity Energy Resources (IFNY) gave a positive update to their guidance this week. They said that third quarter 2006 oil and gas production will average approximately 5.3 million cubic feet of natural gas equivalent per day, about 15% higher than the record 4.6 million cubic feet per day produced in the June quarter. They also said that they still plan to start drilling again in October, which will lead to a “meaningful” production increase to new record levels. There will be a continuous drilling program in 2007, and they may deploy a second rig.

Their oilfield services operation will do a record $10.5 million in the September quarter, up 13% from $9.3 million in the June period. It is still for sale, and management is still exploring alternatives for debt financing to carry out their exploration and development program. IFNY is a Top Buy under $6.50 for an initial $9 target, and much higher levels over the next three years.

Rentech (RTK) will be presenting at a Credit Suisse conference on September 21. The Department of Defense has decided for national security reasons to switch to diesel and jet fuel produced from domestic coal — exactly the process RTK provides. This is going to be huge, and there is no reason to wait to buy RTK under $5 for my $11target.

WiMAX MegaShift

There is a chicken-and-egg problem with many technologies, especially those involving new hardware and a new service. The hardware companies don’t want to design and build products until they are sure the service or network will be there. The network companies don’t want to invest billions to build something when there are no customers to use it. Intel made a leap of faith by committing to put WiMAX connectivity in their laptop processors. Now Sprint Nextel has solved the chicken-and-egg problem by committing to the new, national WiMAX network that I’ve been talking about. It will be available in the fourth quarter of 2007, running at speeds comparable to DSL and cable modems.

It will provide wireless connectivity not only to laptops, but also to digital cameras and camcorders, music players, security systems for homes and offices, and even home appliances. The manufacturers of all those devices now have to scramble to get products ready for the 2007 holiday season, or risk losing market share to competitors. Of course, the sudden rush to build hardware will tip other network suppliers into providing WiMAX, and they will have to scramble to get ready to compete with Sprint. Sprint plans to spend $1 billion in 2007 and $2 billion in 2008, and they already have cellular antenna systems in 85% of the Top 100 U.S. cities. All in all, this is terrific news for WiMAX.

At the same time, about 300 cities and towns are looking at deploying WiFi networks. Google is going to provision Mountain View by itself and San Francisco in a partnership with Earthlink. But Google says that they don’t want to bid on any other contracts. They want to get their hands on a couple of systems to figure out the best way to deliver search and ads over the other 298 networks. All of these WiFi networks will be upgraded to WiMAX within 10 years.

Alvarion (ALVR) will be presenting at the ThinkEquity conference in San Francisco next week, on September 13th. They and Siemens, their partner, just won a contract with Call Plus in New Zealand to build a WiMAX network. Call Plus is the third largest telephone company in New Zealand, and this will be one of the first WiMAX deployments in that country. ALVR is a buy up to $9 for my $18 target.

MobilePro (MOBL) will present at the Noble Financial Microcap Conference in Charlotte, North Carolina on September 26. MOBL is a buy up to 25 cents for a 60-cent target.

Short Sales

Google (GOOG) finally managed to stop us out yesterday, by closing just over my $384 stop-loss at $384.36. Go right back into it, as this is the time it should start a significant drop, as advertising rates start to fall with the slower economy. Short GOOG over $375 and use a $388 stop-loss. My target remains $200, sometime in 2007.

Market Outlook

The last trading day of a month and the first four days of the following month are normally better-than-average days in the market, as new money flows in from automated investment programs, pension funding and so on. Last week’s persistent, albeit low-volume upturn included solid up moves on Friday and Tuesday — the first and second trading days of September. But yesterday and today the reality hit the fan, and the whole prior week’s gains vanished.

It is certainly possible that the former resistance on the S&P 500 at 1296 could turn into solid support for a move up to the May 8 high of 1327, or even beyond. But that was breached on today’s close, and the market will have to rally tomorrow to keep those upside targets in play. Maybe September and the first couple of weeks of October will turn out to be benign — but that’s not the high-probability outcome. I still think a rapid move back down to 1170, or even 1140, is in the cards.

Subscriber Michael wrote: “Well, you’ve managed to completely confuse me. You are anticipating a possible sharp market downturn, and yet you are expecting the market to go up (as it almost always does) after October. We are not becoming market timers, are we?”

Fair question. I have always been willing to step aside when I see really bad news ahead. We went to 85% cash before the 1987 crash and again in February 2000, before the Internet bubble burst. I’m not always right, for sure, but I just can’t stand to be fully invested when the risks are very high and the rewards are relatively low.

Since I made the mistake of getting reinvested at the end of August 2000, in the belief that the worst was over, I have been deploying more tools to give me an idea of where the risks and rewards lie. Over 30 years ago, I started pointing out to people that most of the statistical work in the stock market is based on a false assumption that stock prices changes follow a normal distribution. Without going into the gory details, a lot of work — like calculating betas and alphas — is based on this false assumption. The infamous hedge fund Long Term Capital Management based their whole investment strategy on it, and when they failed in 1998, they darn near took down the whole international banking system.

I have found, and am using, some new tools that tell me how much energy is available to move stock prices in one direction or another, and about how far prices are likely to go. The tools are based on very solid academic research by people who understand that stock price changes are not normally distributed. It will probably be a couple of years before I totally trust these tools and am willing to talk about them, but right they are pointing to a sharp decline in the broad markets. My outlook for the subsequent rally is not based on these tools, but rather on the usual pattern in the third and fourth years of a presidential term. As I’ve said before, from the October low in the second year of the presidential cycle, the typical 12-month rally is 50% — and that is well worth being invested for. So, my focus right now is getting potential recommendations lined up — I’ve mentioned some in past Radar Reports — and figuring out when and where to pull the trigger so we can cash in big time over the next 24 months. For the equity portion of your portfolio, I’m willing to hold what we have through the coming market storm. You just need to be sure you have a comfortable cash position.

Another subscriber, Zack, wrote: “After reading your suggestions on how to approach the investment in the MegaShift stocks, I need to work towards a higher cash position. Based on the 25 to 30 stocks you have in the MegaShift portfolio, if I can realistically only hold say six to eight stocks, which ones should I focus on? What is your ranking on stocks with the greatest potential for increasing over the next six months?

The Top Buys are a good place to start. My assumptions for the next six months include higher oil prices (in spite of a benign hurricane season so far), a cold winter, much worse bird flu news, persistent inflation, more Fed interest rate increases, worries about the economy slowing and capital spending budgets getting cut, and a slowdown in growth in China.

So if I had to pick six stocks outside of the energy sector for the next six months, I would go with BioCryst (BCRX), Dendreon (DNDN), eResearch, Harmonic, Telkonet and Alvarion. In the energy sector, I think Connacher, Gasco (GSX), Holly, Infinity Energy Resources and Rentech are all cheap. Decide what percentages of your portfolio you want in cash, technology, and energy, and then use these stocks to get invested.

It looks like we were not the only ones to see the value in Click Commerce (CKCM), the first holding in our New Economy MegaShift. This morning, Illinois Tool Works (ITW) announced a $22.75 cash bid for CKCM. The tender offer opens September 18 for 20 business days.

Illinois Tool Works is getting a good deal, buying the stock well below my $40 target price. However, I don’t expect another offer and with CKCM up sharply today to around $22.50, we may as well sell it, take our 14.3% profit in two months, and move on. If you want to hold it a while to see if another bid comes in, you can, but the odds are low. For our purposes, we’re taking our profits now.

I’m finishing the work on some more candidates for the New Economy MegaShift, and one interesting commonality is that they are all acquisition candidates for Old Economy companies that are remaking themselves, as Illinois Tool Works is doing. More on that in a future Radar Report.