Editor's note: SuperModels columnist Jon D. Markman is on his second week of vacation, so he has turned the column over to his alter ego, Modelman, to answer reader mail. The letters are edited for grammar and may be condensed.
: A lot of work went into designing and testing the Flare-Out Growth trading system. How has it fared over the last three years? I'm particularly interested in the monthly model.
-- Bill Reed
: I would like to know if the Flare-Out Growth momentum screens are available for readers now, as you have provided in the past.
-- Silvio Ramirez
: Longtime readers will recall that the Flare-Out Growth trading system was the cornerstone of the SuperModels column back in the Bubblemania years of 1997-2000. After extensive testing and achieving excellent real-time results with monthly three-stock portfolios, I also described FOG in great detail in the first edition of my book
"Online Investing" in 1999, then updated it in 2001 with a timing component in the second edition of the book.
The system uses the Screener at
to look for high-momentum stocks that are taking a breather before shooting back up again -- a pattern that chartists call a "bull flag." The timing overlay simply states that the model is in effect only if the
15-day moving average is higher than its 40-day moving average. Thus constrained, the model was only sporadically in effect during the bear market period of 2000 through 2003. It got caught in a serious whipsaw in 2002, losing one-quarter of its value in a short time, but it made up all that ground and more this year.
In my columns, I have regularly identified FOG stocks in the Fine Print section whenever the model has gone into effect. Those five stocks are up 84% through Aug. 15, vs. a 14% rise in the
and 25% rise in the Nasdaq Composite.
I asked Jeff Mindlin, an analyst at Camelback Research Alliance (an affiliate of my fund), to rerun a historical test of the FOG system based on the criteria shown on Page 30 of the second edition of "Online Investing". His study, detailed in the table below, confirms that the system has worked well since 1990, advancing 58% on average per year, with a standard deviation of 40%. It scored a 70% gain in 2000, a 6.7% gain in 2001, a 23% loss in 2002 and a 35% advance this year through July.
At the moment, the top five stocks are
. The parameters are:
Market cap over $100 million.
Average daily volume over 1.5 million per day.
Previous one-month return greater than 0% and less than 25%.
Previous three-month return greater than 0% and less than 25%.
Rank by FOG Index (previous 12-month percentage return minus previous three-month percentage return minus 3 times the previous one-month percentage return) = high as possible.
: I am a regular reader of your column, and enjoy your insights into emerging trends. I am interested in taking a position that plays on the IT outsourcing to India trend. I am specifically interested in
Cognizant Technology Solutions
, one of your
20 picks for the second half. I would be interested in your views on the companies, as well as the bigger-picture view of this trend.
-- Andrew Larsen
: The trend toward outsourcing Fortune 1000 companies' information-technology services, including application development, to lower-cost workers in India and elsewhere will only strengthen in years to come.
Cognizant, which commands a phenomenal network of Indian technology workers, has been particularly successful so far at amassing U.S. and European clients in the financial services industry, and it is now expanding into retail, manufacturing and health care. However, as its clients have become increasingly savvy about the number of reliable companies capable of handling jobs in India, pricing has become an issue, and margins may suffer. Cognizant already is expensive, considering it does not actually make anything unique.
Investors enamored with its growth rate should thus pause to reflect why it merits a price-to-sales multiple of better than 6, while domestic competitors such as
Electronic Data Systems
get sales multiples of less than 1. Conservative investors should try to pick it up only on significant dips in price.
: Why must you continue to hammer away at
Sirius Satellite Radio
? You are forcing the stock to go down! Are you selling short, hoping to buy it later at a lower price? You have already caused substantial losses for many stockholders. Remove all your articles. Work on some other stock you don't like for whatever personal reasons.
-- Charlie Capozzoli
: Little did I know, when I first wrote about Sirius, that I was wading into a cult of satellite worshippers. I've received dozens of emails complaining that I must be trying to sandbag the stock for personal reasons. Well, the appearance of an article does not move a stock with 900 million shares outstanding -- at least not for long. If an article adds a bit of new information to the knowledgesphere, it's quickly absorbed by market forces and neutralized by traders with contrary opinions.
Sirius shares have declined lately, because investors' ardor for momentum stocks generally has waned in the summer. They are also still very pricey for a company that is not yet growing revenue and free cash flow as fast as bulls expected. One of the big problems for Sirius, and for its competitor
XM Satellite Holdings
( XMSR), is that -- unlike cable or satellite television, or the Internet for that matter -- they do not offer any unique content that is so outstanding that consumers feel they must have it.
Even in their earliest days, cable and satellite TV offered a compelling blend of sex, movies, sports and news to consumers tired of bland, limited network and local fare; the Internet offered sex, email, chat and search. Satellite radio offers
radio, but nothing so necessary to the conduct of modern life that it has reached enough consumers' must-have lists. As good as it is, it lacks sufficient word-of-mouth buzz to drive an epidemic of want. Sirius and XM need a major draw that consumers can't get anywhere else.
On the other hand, it's possible that just providing a better radio experience will be enough. And the best news for shareholders is that both companies have raised so much cash this year in secondary stock offerings and convertible-bond deals that there are no extinction-level events on the horizon that threaten to send shares to zero.
: Your article on June 12 quoted
Mr. P saying the market would top out between then and June 17, and go down as much as 20%, or to the March lows. The S&P 500 topped out on June 17 and is now down 4.6%. It looks like Mr. P may have called another one. What's his current view?
-- James Farley
: That was indeed one of Mr. P's best calls: The S&P 500 hit 1015.26 on June 17 and has not eclipsed that level since. If you recall, the market was going straight up at the time, and bears were throwing in their soggy towels. I got several emails then from readers crowing that the anonymous hedge fund manager I call Mr. P was finally going to be proved wrong.
Yet his three-year record of alternately bullish and bearish pronouncements via my column is still unblemished. He is currently bullish on bonds, bearish on stocks, bullish on wheat and soybeans, and bullish on natural gas.
He says the economy right now is held up only by the last remnants of mortgage refis and tax cuts -- and the only companies truly doing well are cyclicals selling to China. He notes that 11% unemployment in the European Union limits its consumers' ability to buy more from U.S.-based multinationals. He notes that virtually all of the recent increase in U.S. industrial production has stemmed from an increase in the use of utilities due to the hot weather -- not factory production. ("The media is out to lunch on this," he says.)
As for his negative view on stocks, the 30-year veteran says "I have never seen so many people turning their backs on fundamentals and betting on hope. Eight months ago, they saw no hope. Now that's all they see. It's a Prozac market." He also notes that with bond yields up, the pressure on pension funds to boost returns by buying stocks is off. You can buy a 30-year bond at 5.52% and finance it with short-term debt at 1%; that's a positive carry of 4.52 percentage points -- the widest spread on Treasuries in decades. With risk-free returns like that, he says, who needs the risk of lending money or buying stocks?
Jon D. Markman is senior investment strategist and portfolio manager at Pinnacle Investment Advisors. While he cannot provide personalized investment advice or recommendations, he welcomes column critiques and comments at
firstname.lastname@example.org. At the time of publication, he had a long position in Sirius Satellite Radio, but positions can change at any time.
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