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Technology Report Weekly Roundup

BY Richard Suttmeier | 08/12/05 - 05:54 PM EDT
Stocks in Focus: CSCO, GTW, IDTI, JNPR, MSFT, NEWP, OTEX, QLGC, RSAS, SUNW, TWX, VRSN, XLNX

The Nasdaq pullback this week hoists a couple of red flags that could stymie the market sooner than I expected. And the negative market reaction to quarterly earnings reported by Cisco Systems (CSCO:Nasdaq) and Dell (DELL:Nasdaq) clouds what I still believe is a positive outlook for technology for the remainder of 2005 and beyond.

The Nasdaq decline from the Aug. 4 high of 2219 to today's low of 2145 is a modest 3.3% cooling off on the overheated index, and a pullback of similar magnitude occurred in June. However, two warning signs this week -- the higher 30- year U.S. Treasury yields and higher crude oil prices -- signal that it will be much more difficult for the stock market, including the tech-heavy Nasdaq, to move higher.

In June, the Nasdaq traded as low as 2040 with the 30-year yield at 4.18% and crude oil at $55.90 per barrel. However, when the Nasdaq began its decline a week ago, crude oil prices were bubbling above $62.00 per barrel and the 30- year yield had climbed to 4.62%. Today, crude oil traded close to $67.00 per barrel, which will negatively affect the market.

A closer look at the 30-year U.S. Treasury reveals further proof of why stocks will struggle. The daily chart for the 30-year U.S. Treasury yield shows that it's been below its 200-day simple moving average (SMA) since Aug. 6, 2004. Since then there have been three tests of this key moving average in which a rising-yield trend reversed -- on Dec. 4, 2004; March 23, 2005; and Aug. 9, 2005. The 200-day SMA ended the week at 4.619. A trend in which the 30-year yield rises about 4.62 will make it cheaper than (or yield above) its 200-day SMA, and that is a negative for stocks. A rising 30-year yield pulls down my calculation for the fair value of every single stock, which could lead to further downside for the Nasdaq.

So how much will stocks suffer? The best way to measure just how severe a Nasdaq correction could be is to evaluate its weekly chart profile and the location of key levels from my models. Today's close at 2157 below my monthly pivot at 2162 signals that a correction over the next three to five weeks could reach my monthly value level at 2060, for a 7.2% pullback. If this correction does not occur, then the rally should resume with my quarterly risky level as the target at 2381. (A value level is a price at which my models project that buyers will emerge, while a risky level is a price at which investors are likely to reduce holdings, according to my model.)

On the earnings front, results for key tech stocks have not been strong enough this week to offset the two red flags. Cisco reported record earnings, but Wall Street was upset by a potential weaker-than-expected current quarter, even though the company reaffirmed its long-term guidance and forecast an annual revenue growth rate between 10% and 15%. After reporting after the close yesterday, Dell traded as low as $36.10 today, down 8.8% from Thursday's close of $39.58, as its guidance for the current quarter was below Wall Street estimates.

The major economic event for the week was the Fed's decision to raise the federal funds rate to 3.5%, its 10th 25-basis-point hike since June 2004. This increase was expected, but now many economists are projecting that the Federal Open Market Committee will continue to raise rates right through Fed Chairman Alan Greenspan's retirement in January. My call is for the FOMC to stop raising the funds rate at its Nov. 1 meeting, in order to provide a neutral stance to smooth a transition to a new chairman at its Jan. 31-Feb. 1, 2006, meeting. Next week's economic data include readings for both consumer and producer price inflation, housing starts and industrial production. Odds favor that inflation readings will be well-contained, that the housing market will begin to soften, and that industrial production should continue its rebound.

The technology-specific economic surveys continue to be strong. On Tuesday, JupiterResearch indicated that online ad sales would more than double over the next five years. This projection indicates to me that marketers are gaining confidence in the Internet, particularly in paid-search advertising, and the number of companies advertising online is on the rise. Spending on ads that include new technologies, such as enhanced graphics and sound, is also increasing.

My fundamental models show the technology sector 13.9% undervalued, and health care 2.9% undervalued. All other sectors are overvalued: basic industries, by 6.5%; capital goods, 4.3%; consumer durables, 5.6%; consumer nondurables, 6.3%; consumer service, 1.1%; energy, 16.0%; finance, 2.6%, public utilities, 7.4%, and transportation, 1.3%. These readings continue to suggest that a rotation into tech stocks is a compelling longer-term investment strategy.

Within technology, computer manufacturers ended the week 27.2% undervalued vs. 25.1% last week; semiconductors ended the week 20.2% undervalued vs. 17.2% last week; and software remained 15.6% undervalued.

The benchmark Technology SPDR (XLK:Amex) ended the week down 1.75%, while the S&P 500 was up 0.32%. Since its inception April 4, the model portfolio is up 6.17% (including cash) vs. a gain of 7.44% for the XLK and 4.91% for the S&P 500.

The model portfolio's gain since its inception on the dollars invested is 7.35%. Of 21 open positions, five are outperforming the XLK and three are showing double-digit gains.

I continue to hold 19 long positions in the model portfolio, and because of the possibility of a deeper Nasdaq correction, I established two short positions this week. Both were in exchange-traded funds: the Semiconductor HOLDRs (SMH:Amex), as the Philadelphia Semiconductor index (SOX) has led the market with the strongest industry gain since the end of April, and the Nasdaq 100 Unit Trust (QQQQ:Nasdaq). These additions bring the number of positions in the model portfolio to 21, near the maximum of 25. Once the total reaches this limit, I will close an older holding whenever I find a better long or short candidate.

Now let's recap all of the portfolio holdings. A quick reminder on the rating system: Ones are stocks that are buys right now. Twos are stocks that are buys on a pullback in price. Threes are stocks that are sells on strength in price. Fours are stocks that should be sold right now.

Long Positions

ONES

Cisco (CSCO:Nasdaq, $17.80, 600 shares, 7.88% of the portfolio): This position consists of three lots -- 225 shares added at $17.66 on April 4, 175 shares at $19.25 on June 14, and 200 shares at $19.19 on June 27 -- for an average cost basis of $18.63. Cisco is 36.7% undervalued, and I am reducing my price target to my quarterly risky level at $21.30, which I expect shares to reach over the next six months.

On Monday, Reuters reported that Cisco was considering buying Nokia (NOK:NYSE ADR) to obtain its wireless infrastructure technology. But Cisco CEO John Chambers indicated on the company's earnings conference call Tuesday evening that an acquisition of such magnitude was not in his business plans.

Cisco reported that its fourth-quarter profit rose 12% year over year, on steady demand for routers and other Internet equipment. Despite solid results, shares declined in after- hours trading because the revenue forecast for the current quarter was slightly below Wall Street estimates. If my premise -- that demand for broadband around the world is on the rise -- is true, then a modest one-quarter revenue miss should provide an opportunity to add additional shares to the model portfolio on weakness to a lower value level.

Gateway (GTW:NYSE, $3.81, 1,200 shares, 3.37%): I added 1,200 shares of Gateway on July 6 at $3.42 a share, and the stock is 68.0% undervalued. My price target is my quarterly risky level at $5.59, which I expect to be achieved over the next six months.

Because of accounting questions that arose from Gateway's April agreement with Microsoft (MSFT:Nasdaq), Gateway filed a notice with the Securities and Exchange Commission on Wednesday that it is delaying the filing of its second- quarter earnings report. Gateway got the SEC guidance it needed on Aug. 2, and should be able to provide quarterly results on Monday.

Integrated Device Technology (IDTI:Nasdaq, $10.80, 375 shares, 2.99%): I added 375 shares of IDT to the portfolio at $10.42 on July 11. The shares are 47.2% undervalued, and my price target is the stock's 52-week high at $21.25, which I expect it to reach over the next six months.

On Monday, the Federal Trade Commission told Integrated Device Technology and Integrated Circuit Systems (ICST:Nasdaq) that the waiting period related to their pending merger had ended. Both companies expect the merger to close this fall, subject to approval by IDT and ICS stockholders. This merger makes sense to me as the pair's product lines should meld together quite well. IDT provides hardware, software and memory technologies to enhance network equipment, while ICS designs silicon-timing devices and digital multimedia applications. IDT announced Thursday that it will hold a special stockholder meeting on Sept. 15 to vote on matters related to the merger.

Juniper Networks (JNPR:Nasdaq, $23.58, 175 shares, 3.04%): I added 175 shares of Juniper to the portfolio at $23.70 on July 25, and my model shows Juniper 54.0% undervalued. My price target is my quarterly risky level at $33.37, which I expect the shares to reach over the next six months.

Juniper demonstrated my theme that telecom providers and other organizations would be upgrading their Internet protocol (IP) environments, with several announcements this week. The company said that Northwestel, a subsidiary of Bell Canada, is using some of Juniper's routers to upgrade its network because of their ability to support a wide range of voice and data services. Juniper also announced that the city of Burbank, Calif., received a "Best Deployment Scenario - 2005" award from the Info Security Products Guide for installing Juniper's firewall and network security software.

Microsoft (MSFT:Nasdaq, $27.05, 150 shares, 2.99%): On June 30, I added 150 shares of Microsoft at $25.06, and the software maker is 11.5% undervalued. My price target is my semiannual risky level at $35.20, which I expect shares to reach over the next six months.

While this week didn't bring any significant news on Microsoft, the company will be getting a lot of media attention over the next six months or so as it releases new products and upgrades, including Xbox 360 and Windows Vista. The publicity surrounding these releases should provide a nice boost to shares in the coming months.

Newport (NEWP:Nasdaq, $13.12, 600 shares, 5.81%): I added 300 shares of Newport to the portfolio at $14.17 on July 11, and another 300 shares on July 29 at $13.17, for an average cost basis of $13.67. Newport shares are 59.5% undervalued, and my price target is my monthly risky level at $15.41, which I expect the stock to reach over the next six months.

There are no new developments to report on Newport this week. The stock's slide since mid-July has been a reaction to its earnings report, and I used this weakness to add to the position on July 29. As global broadband demand continues to grow, I expect Newport to benefit.

Open Text (OTEX:Nasdaq, $12.11, 325 shares, 2.90%): I added 325 shares of Open Text to the model portfolio on July 26 at $12.24. The stock is 59.6% undervalued, and my price target is my semiannual risky level at $18.34, which I expect shares to achieve by the end of 2005.

Open Text is offering new content storage archiving software for Microsoft users, the company announced Tuesday. The software helps organizations save large electronic documents such as those required by court cases and compliance mandates. Archiving software has become a growth segment in the technology sector because of companies' need to manage and store electronic information on secure networks to meet regulatory requirements.

QLogic (QLGC:Nasdaq, $33.68, 275 shares, 6.83%): The model portfolio's original position of 150 shares was established on May 11 at $29.39. After trading a second lot of 125 shares for a gain of 11%, I added the shares back on July 21 at $31.10, giving me an average cost basis of $30.17. QLogic is 23.4% undervalued, and my price target is my quarterly risky level at $39.35, which the stock should reach over the next six months.

Although there was no significant news on QLogic this week, the stock did perform well with shares rising from $32.64 at last week's close to as high as $33.77 today, despite the market's decline.

RSA Security (RSAS:Nasdaq, $12.74, 325 shares, 3.05%): I added 325 shares of RSA to the portfolio at $12.21 on July 11. The company is 47.7% undervalued, and my price target is the stock's quarterly risky level at $17.44, which I expect the shares to reach over the next six months.

This is another one with no news to report this week, and shares ended the week down slightly.

Sun Microsystems (SUNW:Nasdaq, $3.84, 3,000 shares, 8.50%): This position consists of two lots -- 1,500 shares added at $3.55 on April 21, and another 1,500 shares at $3.75 on June 2 -- for an average cost basis of $3.65. My price target is the 52-week high at $5.65, which I expect the stock to reach in the second half of 2005. Excluding its pending purchase of StorageTek (STK:NYSE), which is 14.5% overvalued, Sun ended the week 24.7% undervalued.

As another example of renewed demand for broadband, Sun announced on Monday that it would be supplying wireless services provider T-Mobile with software and hardware to upgrade its service-delivery portal. The new portal will improve the processing of online Internet transactions made via the T-Mobile customer portal across Europe, and will also provide subscribers with downloads of content such as games and music.

Sun also announced that it will be using Palm's Treo smartphone to send instant messages, and provide a secure, Web-capable device for accessing corporate applications, email and calendars. The service is used by Sun's U.S. field services organization for remote and onsite access to its call-management system to better serve Sun customers. Sun is thus willing to spend on new IT products if it can increase productivity, which I believe this move will accomplish.

Time Warner (TWX:NYSE, $18.24, 450 shares, 6.05%): This position consists of two lots -- 225 shares purchased at $17.47 on April 4, and another 225 shares at $17.16 on April 20 -- for an average cost basis of $17.32. Time Warner is 29.6% undervalued, and my price target is $25.84, the stock's fair value, which I expect it to reach within the next six months.

The big news for Time Warner this week was that billionaire investor Carl Icahn appears to be organizing an investor group to advocate the breakup of Time Warner, including the spinoff of America Online, according to media reports. Icahn believes that the only way to increase shareholder value is to bust up the company into separate businesses.

However, AOL continues on pace with its makeover. On Monday, the unit acquired Wildseed, a privately held wireless technology provider, to expand its wireless group. The new AOL.com portal needs to have wireless connectivity, and the AOL wireless division will now include AOL Mobile, Wildseed and Tegic Communications, added in 1999. Wildseed's technology will be used to upgrade AOL's overall wireless capabilities.

VeriSign (VRSN:Nasdaq, $23.39, 150 shares, 2.59%): This 150- share position was added to the portfolio at $24.06 on July 21. The stock is 36.2% undervalued, and my price target is my quarterly risky level at $31.97, a price I expect the stock to achieve over the next six months.

VeriSign announced Tuesday that it has completed its stock repurchase program from 2001 and that a new $500 million stock buyback program would commence immediately. No time limit was set for completion of the new program. This did not help share price this week as the stock declined below my monthly value level at $23.90 to a low of $22.60 today. Friday's close should give me a new value level for next week, and I will send out an alert on Monday if any action is merited.

Xilinx (XLNX:Nasdaq, $27.00, 150 shares, 2.99%): This 150- share position was added to the portfolio at $26.52 on June 20, and the stock is 31.6% undervalued. My price target is my monthly risky level at $30.85, a price I expect the stock to achieve over the next six months. There are no new developments to report on Xilinx this week, and the chipmaker's stock dipped alongside the broader market.

Zygo (ZIGO:Nasdaq, $10.99, 400 shares, 3.24%): I added 400 shares of Zygo at $10.60 on July 11. The company is 59.7% undervalued, and my price target is the stock's March high of $14.48, which I expect the stock to achieve in the second half of 2005.

Zygo will release its fiscal 2005 fourth-quarter results at 4 p.m. EDT on Thursday, Aug. 25, followed by a conference call at 6 p.m. The consensus estimate is for earnings of 17 cents a share. Expectations in this market environment have been difficult to judge, but shares are undervalued enough to merit staying with this stock through the earnings report. To review, Zygo supplies optical metrology instruments and precision optics used in making semiconductor capital equipment.

TWOS

EMC (EMC:NYSE, $13.33, 300 shares, 2.95%): EMC, an early entry in the model portfolio that was traded for about a 15% gain, rejoined the model portfolio at $13.75 on June 29. The shares are now 59.6% undervalued, and my price target is my monthly risky level at $15.15, a price I expect EMC to reach over the next six months.

EMC is expanding its line of information technology (IT) products, and in addition to storage hardware, the company is offering software to help customers manage their IT networks, including servers and networking gear. With its new enhancements, the company is providing more security features to protect the complete networking environment from viruses and cyber-terrorism.

Intel (INTC:Nasdaq, $26.31, 475 shares, 9.22%): This position consists of three lots -- 175 shares added at $23.10 on April 4, 150 shares at $26.19 on June 27, and 150 shares at $26.95 on July 20 -- for an average cost basis of $25.29. Intel is 21.4% undervalued, and my price target is my quarterly risky level at $30.98, which I expect the stock to reach in the next six months.

On Thursday, Goldman Sachs downgraded Intel to neutral because the brokerage firm believes that Intel's planned capital investments in new plants will shrink margins and reduce revenue. In my opinion Intel is putting cash to good use, and based upon this week's price weakness, I will be looking for a lower value level at which to add to this position next week.

SBC Communications (SBC:NYSE, $24.46, 170 shares, 3.07%): I added 170 shares of SBC to the portfolio at $23.70 on July 11. The company is 21.6% undervalued, and my quarterly risky level is at $29.22, which I expect the stock to reach over the next six months.

An important part of SBC's business strategy is targeting small-business customers, and this week the company unveiled several new services that are available on its "biz-eye-view" Web site for these customers. Current services include advice on small-business issues, and tools its customers can use to start and manage their business, and one new feature is a relationship with UPS (UPS:NYSE) air-express services that benefits SBC customers. In addition, small-business customers can learn about other SBC services on the portal, which could result in additional revenue for SBC.

Sirius Satellite Radio (SIRI:Nasdaq, $6.73, 1,000 shares, 4.96%): This 1,000-share position was established at $4.81 on April 28. Sirius is 31.5% undervalued, and my price target is my monthly risky level at $8.04, which I expect the stock to achieve over the next six months.

New content is a key factor in expanding the appeal of satellite radio, and Sirius continues to forge ahead in this area. On Monday, Sirius Satellite Radio and the Ivy League announced a multiyear agreement to broadcast a "Game of the Week" for football, men's basketball and men's hockey in Ivy League sports. Then on Tuesday, the radio service launched its broadcast of BBC Radio 1, which gives Sirius subscribers their first opportunity to listen to the most influential and highly acclaimed music channel from the U.K., which includes a cutting-edge mix of pop, rock, rhythm and blues, and hip-hop music. I preset the channel in my car on this announcement.

Also this week, W Hotels said it was expanding its partnership with Sirius to offer its guests the satellite radio service. W launched "Sirius suites" in New York and Los Angeles in February and is expanding the service to suites in its Chicago, New Orleans, San Francisco, Seattle and Silicon Valley hotels.

Symantec (SYMC:Nasdaq, $21.76, 400 shares, 6.42%): I added 225 shares of Symantec at $18.31 on May 11, and another 175 shares on July 29 at $22.10, for an average cost basis of $19.97. Symantec is 26.1% undervalued, and my price target is my annual risky level at $25.53, which I expect the stock to achieve over the next six months.

The Symantec-Veritas merger yielded new benefits this week. On Wednesday, Symantec released an upgraded version of a Veritas storage product for Linux users. This is one of Symantec's first initiatives in combining the products of the two merged firms.

Another new offering released this week is Symantec's email security product. The service blocks unwanted spam, stops viruses and automatically archives older emails. This helps keep customers' email systems from failing.

Short Positions

THREES

Nasdaq 100 Unit Trust (QQQQ:Nasdaq, $39.21, (200) shares, 5.78%): On Wednesday, I added a short position of 200 shares of QQQQ at $37.34. This short was established to protect the portfolio from the risks of the red flags that I mentioned in the opening of this week's summary.

My price target to cover is my monthly value level at $36.44, which my model suggests is the risk, given a correction over the next three to five weeks. I set a buy- stop at the QQQQ's new 52-week high at $40.50.

Semiconductor HOLDRs (SMH:Amex, $36.34, (200) shares, 5.36%): I added a short position of 200 shares of SMH at $37.13 on Tuesday. This week's high for the Philadelphia Semiconductor index (SOX) was just above my weekly risky level at $474.87, which was the level I used to add this short. This position give the model portfolio a hedge against a further drop in the chipmakers.

My price target to cover is $34.12, my monthly value level. Given a market correction, my models suggest that this level will be achieved over the next three to five weeks. My buy stop is the ETF's new 52- week high at $38.50.

Regards,

Richard Suttmeier

Stay Tuned for Monthly Report

The final edition will be sent out Wednesday morning.

02/28/06 - 12:39 PM EST
Making Adjustments
Stocks in Focus: CSCO, EMC, INTC, TWX

Booking profits in one position and trimming three others.

02/24/06 - 11:07 AM EST
Removing a Hedge
Stocks in Focus: SMH

Suttmeier's closing this protective position, which is no longer necessary.

02/23/06 - 10:11 AM EST
Technology Report Weekly Roundup
Stocks in Focus: CSCO, DELL, EMC, INTC, JNPR, QQQQ, SMH, SYMC, T, TWX, XMSR

The market's resilience continues as almost all sectors remain overvalued.

02/24/06 - 06:17 PM EST

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