Value Microcaps Pick Six Lotto 12

[lentinman]

ABH3VT CHAMPION'S SUMMARY:

See Champion's Board

http://investorshub.advfn.com/boards/board.aspx?board_id=4067

ABH3VT COMMENTARY

With a hat-tip to Researcher59, whose style for this note I have shamelessly copied, I submit my write up for the VMC Champions Board:

PERSONAL BACKGROUND

I'm 43 years old and have lived in NYC for the past 10 years. Married, with 2 kids, I work out of my home office and have been a full time investor/trader since 1995. I also manage money for friends and family via a general partnership that I set up back in 2000 to manage money in a format similar to a mutual fund. I was introduced to the stock market through my father when I was in high school. Our timing was pretty good as the great bull market of the 1980s and 1990s had just gotten under way. I was smitten and decided to major in economics, which was the only market oriented degree I could find at Amherst College. I graduated in 1988 (the year after the crash) and drifted into management consulting. It wasn't really what I wanted to do, but it gave me time when I wasn’t working at my full-time job to get introduced to the internet and online investing in the early 1990s (anyone remember the old Prodigy bulletin boards??) I did well enough in those years by riding some of the early internet stocks but never felt comfortable with the momentum trading style. My investing philosophy eventually gravitated toward a value oriented style, but I wanted to combine this with stocks that were still fast growers. That led me into the world of microcap stocks, which was the only segment of the market where I could find companies that appeal to BOTH growth and value investors. I was an early participant in the Yahoo stock boards and Raging Bull and followed everyone over to Ihub about 4-5 years ago...and have been here every since.

INVESTING PHILOSOPHY

When I first started out, I read as much investing material as I could get my hands on. I read everything from Peter Lynch to William O'Neill and even some classics like "Reminiscences of a Stock Operator" and Graham and Dodd's "Security Analysis". Another book that was instrumental in shaping my investing style was "What Works on Wall Street" by James Shaughnessy. It had some good long-term data for different investing styles and argued for a value style married to relative strength/momentum. One of the stunning numbers that came out of that book was the incredible returns available in microcap stocks.......and I was determined to narrow down the best microcap stocks based upon what I felt would appeal to both growth and value investors. What I've come to believe is that stocks that are cheap relative to their forward earnings growth (low PEG ratios) offer the best opportunities for appreciation. So, for every stock that I look at, I try to predict what they will be able to show in earnings per share in the coming year, trying to factor in such things as seasonality, lumpiness in sales and orders, one-time expenses (or income), tax rates, dilution from warrants and options, etc. I also look at operating strengths such as ability to generate cash flow from operations, low debt levels, barriers to entry, and gross margin expansion (i.e. ability to scale up easily). What are constraints on this growth? What is the likelihood that a company will need to issue more stock to meet this demand? How much insider buying is occurring? What is the organic revenue growth rate and how sustainable is it? What forward multiple will the market be willing to give this stock relative to its competitors? I tend to favor the defensive and less cyclical sectors like medical/health care, education, food, etc and avoid the extremely competitive, low margin businesses. I also place a premium on predictable, visible sales growth with expandable margins, so that eps can grow at a faster rate than sales. I keep spreadsheets of selected income statement, balance sheet and cash flow information by stock and also track all PRs or other relevant filing info that comes from the company. I participate on conference calls and attend investor conferences. I will call up the CFO and/or the CEO on specific questions that aren't Reg FD challenges - (assuming that they can speak English!) In short, I try to do everything legally possible to figure out why a company is doing well and what the likelihood is that it will be able to maintain that condition and create strong catalysts for new shareholders to want to own the stock (at higher prices) in the future.

Once I find a company I like, I then look for a good price level to buy in. Sometimes that will mean looking at obvious levels of technical support, and I always determine a "margin of safety" for that specific company. For example, once I have come up with what I consider to be a reasonable range for fair value, I will start buying at prices that are 65% of FV. I usually like to average down a few times, "legging" into a position over time and thus lowering my cost basis. How often I do this depends upon how much I like the strengths of the company and how compelling the value is. Other times, I have to judge market conditions and move faster to get into a full position. I also don't usually like to invest more than 6% of my portfolio in any one stock, although I will and have made exceptions to this rule. I typically hold around 15-25 stocks at any one time, although my top 10 is generally weighted much heavier than other positions. My returns since Dec 2000 have averaged nearly 20%/year and that is without the benefit of any leverage.....in fact, I'm usually heavily in cash at most points and have rarely been more than 60% invested at any one time during that period. (I’m around 30% invested at present.) I have had only one down year since 1995, and that was 2008. I am still learning more about how to professionally manage a portfolio and would like to get better at shorting/hedging, either by shorting individual stocks, ETFs, or using options on indexes to hedge. I have rarely used these tactics, although one could argue that my heavy cash positions provide downside protection and act as a decent buffer on volatility.

PSL12 CONTEST

A lot of factors came together to create a perfect environment for my picks to do well in the most recent contest. All of my stocks were focused upon growth in China, and this meant I was in one of the hottest sectors of the market. I attribute this to a growing recognition and acceptance during the last few months that China's economy was going to emerge relatively unscathed this year from the economic meltdown in the US and Europe. Second, risk taking came back into vogue during the summer and that, along with sidelined cash coming into the market drove a lot of "hot" money into some of the stocks that I picked. While I think that all the increases in price were justified, often these moves take much longer to occur, not necessarily a few weeks or months! With that said, I chose the following as my starting six: CBPO.OB.....CKGT.OB.....RINO.OB......TXIC........WEMU.OB........YGYB.OB

My biggest winners in the contest were RINO and TXIC. RINO (a pollution-abatement equipment company selling to major iron/steel cos in China) benefited from uplisting to the NASDAQ during the contest period, which opened it up to a wider range of investors. It also was able to show two very strong quarters of eps and sales growth that were no longer impacted by large non-cash charges that had hurt eps numbers in the prior year. TXIC was trading at a 3x forward multiple when I first bought it and the fact that it had a better than expected quarter and had exposure to the truck and SUV market in China made it a stock that investors/traders wanted to own. Selling those stocks when I did and locking in decent gains were important, but I then used the proceeds to buy a couple of radio stocks that had been mentioned on the VMC board by several others (thanks MikeDD and Nelson). I bought SALM and ETM as I thought they represented the best of that segment at the prices available, and both appreciated nicely in the closing weeks of the contest to propel me to the win. The radio stocks appealed to me because of how cheap they were on an adjusted earnings basis (backing out the impairment charges) and because they had very good free cash flow which I thought would appeal to the value investors out there. It also did not hurt that a few momentum traders bought them for their charts, which showed them all bursting out of long-term bases after some sharp declines in 2008. WEMU was the only pick that I lost on, because they reported a very poor Q2 result. I was fortunate to only lose about 8% there. CBPO, CKGT, and YGYB were all solid examples of what I like: strong sales and eps growth, low PE and PEG ratios, good operating metrics (low debt, decent cash flow, etc), and participation in defensive sectors. YGYB got noticed by the Motley Fool, CKGT benefited from the general rotation into low PE, high growth China stocks, and CBPO is simply a strong company in a very protected and profitable blood plasma product niche. All had been sold off during 2008 and early 2009, so some of this rise was a reversion to the mean and IMHO long overdue.

Some final comments: Successful investing is a function of having risk:reward ratios in your favor as much as possible and knowing when to sell and when to overweight certain stocks. In order to accomplish this, I have to work and dig harder than the person I just bought from (or sold to). I am an inveterate “fader”which means I generally am happier going against the crowd, selling when stocks are soaring and buying dips or crashes. My holding periods vary greatly, depending upon the fundamental outlook and the initial reasons for buying a certain stock. If the story has changed substantially for the worse, I sell immediately. If bad news is because of temporary issues, I will re-evaluate and look to add on weakness or hold and look to sell at better prices in the future. Once a stock has hit my FV range, I start to sell it off slowly, trying to milk as much out of a rise as possible and then wait for more earnings information. I always want to have identifiable future catalysts on my side to generate buying enthusiasm, and there is nothing like strong sales and earnings per share growth to create that. Never be ashamed at taking a profit, but adjust your selling discipline a bit if the market is telling you that you are undervaluing your stocks and selling way too early. Establish a comfort level and decide which scenario is more painful: missing out on the potential upside of a blow-off top or watching a relatively overvalued stock you own dramatically decline in value.

We have a lot of very talented and insightful posters on our Ihub board and I feel fortunate to be a part of this group. I hope that some will find this information helpful and I look forward to contributing more in the future.