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Lemley Yarling Management Co
309 W Johnson Street
Apt 544
Madison, WI 53703
Bud: 312-925-5248       Kathy: 630-323-8422

We will be away from our desk for the next month (July 12) as we prepare for and celebrate our daughter Christine’s wedding to Gerald Wood here at the farm. Of course if we make any trades we will post them.

June 30, 2011

Model Portfolio Value As of 30 June 2011

$ 567,721

June 29, 2011

Model Portfolio Value As of 29 June 2011

$ 562,175

June 28, 2011

Model Portfolio Value As of 28 June 2011

$ 557,995

Comment on Model Portfolio activity

We bought more Yahoo with the Newell sale money. We switched DreamWorks which is under pressure to General Electric to improve quality and lessen volatility. Second tier stocks are too volatile for us to hold in a dicey market. That is a lesson that we haven’t learned in 40 years.


June 27, 2011

Model Portfolio Value As of 27 June 2011

$ 555,651


June 24, 2011

Model Portfolio Value As of 24 June 2011

$ 553,634

Comment on Model Portfolio activity

We sold RIMM yesterday for a quick short profit.

Newell is up a quick dollar per share in the last days. We were wondering why and today the company announced its new CEO. We took the trade since a rise in price on such news indicates hope not results.


June 23, 2011

Model Portfolio Value As of 23 June 2011

$ 560,629

June 22, 2011

Model Portfolio Value As of 22 June 2011

$ 560,491

June 21, 2011

Model Portfolio Value As of 21 June 2011

$ 564,357

June 20, 2011

Model Portfolio Value As of 20 June 2011

$ 556,740

Comment on Model Portfolio activity

Research in Motion (RIMM), the maker of the Blackberry, is down $50 per share from its high this year. The shares are now priced at 3/4ths of revenues and the price is down $10 per share in the last week at $26. Over half the company shares have changed hands. Revenues were actually up 16% in the quarter but will be flat to down next quarter. The analysts who loved the stock at $60 per share say the company seems to have lost its way. We bought a few shares in larger accounts.

Contrarians Opinions from http://seekingalpha.com/article/275681-talk-of-rim-s-demise-greatly-exaggerated?source=yahoo

Talk of RIM's Demise Greatly Exaggerated

The past week's events have certainly been scary for investors in Research In Motion (RIMM). With headlines declaring that "RIM Is Finished" and "Wheels Coming Off at Research At Motion," you'd think the company was on the verge bankruptcy, especially in light of the fact that RIM received at least six downgrades from Wall Street's typically optimistic analysts. In fact, according to the Toronto Globe & Mail, RIM's situation is so dire that it is putting the entire "Canadian technology 'ecosystem' at risk." All this doom and gloom originated from a single bad set of quarterly (pdf) results.

To be fair, it was a pretty lousy quarter for the company. While revenues were up 16% year-over-year (Y/Y) and Q1 earnings beat expectations, revenues were light versus expectations, and RIM sharply lowered its outlook for the next quarter and full-year fiscal 2012. RIM's growth appears to have stagnated with revenue expected to fall slightly in the upcoming quarter. Furthermore, RIM's new PlayBook tablet is struggling to make a dent in Apple's (AAPL) market share. Certainly, the market is correctly interpreting this press release as very bad news.

That said, the market has, in its usual herd-like fashion, greatly overreacted. Analysts are already writing obituaries comparing RIM to other fallen phone manufacturers such as Nokia (NOK) and Palm. But RIM isn't dead yet, in fact, its balance sheet is downright vibrant. According to the company's latest press release, it has more than $2 billion of cash and short-term investments. Its operations generated nearly a billion dollars of cash last quarter alone. The company has no debt whatsoever to offset against this mountain of cash.

The company also remains wildly profitable. It anticipates making between $5.25 and $6 a share in fiscal year 2012, giving the company a forward P/E of 5. Even companies thought to be in dying industries, such as newspapers, typically trade at higher P/E ratios. For a company in a dynamic industry such as technology, a forward P/E of 5 is insanely cheap.

RIM also benefits from having a very clean balance sheet with very little accounting risk. The company has very little in the way of goodwill or other other soft assets on its balance sheet that could get written down. The company has no debt, and accounts receivables have been falling as well. Without any other obligations to hinder it, RIM has free reign to aggressively repurchase shares. It just announced another buyback that will repurchase up to 5% of the float.

No one is arguing that RIM's management has made the best moves in the past quarters. Clearly the company has lost its edge. Management has failed to adequately address investors' concerns. But all is not lost. The company still has a dominant brand, an enviable balance sheet and cash position, and the resources and capability to mount a turnaround. And with other weaker phone players falling by the wayside, RIM should be able to maintain market share even if it loses more ground to Apple and Google (GOOG). And, unlike its domestic markets, RIM's international growth remains strong -- year over year international revenues rose 67% in the most recent quarter.

While RIM's earnings and revenues will not be able to grow significantly for the foreseeable future, the business isn't dying. If revenues merely stabilize at present levels, the company's shares will represent a compelling value. With a P/E in the 5s and a continuous buyback program, RIM will be able to dramatically shrink its float. And if Apple or Google should face a technological setback of their own, RIM may be again be able to become a growth-oriented company. With billions of dollars of cash on the balance sheet, RIM has time to refocus its R&D. While stagnant sales and revenue are not desirable, RIM is not in a race against the clock, it has plenty of resources to withstand current competition while designing new products that can revive the BlackBerry brand's vitality.

While RIM shares could certainly still fall more before hitting bottom, particularly if Wall Street continues to hurl more negative rhetoric at the company, the future should be bright for RIM shareholders. The RIM story is far from finished. The company has had a rough transition from being a growth-oriented stock to a value stock, but following last week's carnage, it has finally finished the transformation and become a true bargain. With RIM's tremendous operating cash flow and share repurchasing program, investors have a large margin of safety. Unless RIM's brand, patents, and R&D program have virtually no value, RIM shares should rebound from current depressed levels.


June 17, 2011

Model Portfolio Value As of 17 June 2011

$ 552,165

June 16, 2011

Model Portfolio Value As of 16 June 2011

$ 552,789

Comment on Model Portfolio activity

We switched Goldman and Fifth Third to the SPDR Financial (XLF). We don’t have the fortitude to continue to hold individual names through this correction. The XLF has performed in line with both of these issues- actually XLF is down more in the last month on a percentage basis. The financials are undervalued but like Ford they seem to be getting more undervalued. Owing the ETF we don’t have to go through the agony of individual names in the news.

We also sold the large Bank ETF because of our now substantial position in XLF.

Finally, we don’t think the correction is over but the accounts are situated as we would like for any further down trend. Corrections need to be painful in order to work and this one is providing plenty of pain for us. It will be over when it is over and there is nothing we can do about it. Mr./Mrs. Market follows his/her own agenda. We do think the negativity is overblown but everyone in politics, finance and the media is talking his/her own book and negativity sells so we expect no less.

This is Quadruple Witching week and also Quarter end approaches and we think that is the reason for the extra pressure on Cisco and Hewlett and most of the value names we own. Many entities don’t want to own these names which have performed miserably this quarter for their 6 month of one year fiscal year reports.

We added Medtronic and Newell to accounts.

Medtronic dropped from $43 to $38 in the last month on disappointing earnings. Analysts still expect it to earn $3.40 this fiscal year and JNJ just exited the coated stent business so there are only three left; MDT, St. Jude and Boston Scientific.

Newell dropped from $20 to $14 in the last two weeks on lowered but still higher than last year earning’s expectations which remain at $1.40 for the fiscal year.

We have traded both before but to refresh:

Medtronic, Inc. manufactures and sells device-based medical therapies worldwide. The company’s Cardiac Rhythm Disease Management segment offers products for the diagnosis, treatment, and management of heart rhythm disorders and heart failure, including implantable cardioverter-defibrillators, cardiac resynchronization therapy devices, and cardiac pacemakers; AF products; diagnostics and monitoring devices; and patient management tools. Its Spinal segment provides medical devices and implants used in the treatment of the spine and the musculoskeletal system, such as thoracolumbar, cervical, and biologics products; and minimal access spinal technologies platform that facilitates spinal surgeries. Medtronic’s CardioVascular segment offers percutaneous coronary and peripheral vascular interventions; endovascular stent grafts; arrested heart surgery and beating heart surgery equipment; surgical ablations; and surgical heart and transcatheter heart valves. The company’s Neuromodulation segment provides neurostimulators for chronic pain; implantable drug delivery and deep brain stimulation systems; and urology and gastroenterology devices. Its Diabetes segment offers integrated diabetes management solutions; professional CGM; carelink therapy management software; and blood glucose meters. The company’s Surgical Technologies segment develops, manufactures, and markets products and therapies to treat diseases and conditions of the ear, nose, and throat, as well as certain neurological disorders; and image-guided surgery and intra-operative imaging systems that facilitate surgical planning during surgeries. Its Physio-Control segment offers external defibrillators, including manual defibrillator/monitors used by hospitals and emergency response personnel; and automated external defibrillators used in commercial and public settings for the treatment of sudden cardiac arrest. Medtronic, Inc. was founded in 1949 and is headquartered in Minneapolis, Minnesota

Newell Rubbermaid Inc. designs, manufactures, sources, packages, and distributes consumer and commercial products. It operates in three segments: Home & Family; Office Products; and Tools, Hardware & Commercial Products. The Home & Family segment offers infant and juvenile products, such as car seats, strollers, highchairs, and playards; gourmet cookware, bakeware, cutlery, small kitchen electrics, and kitchen gadgets and utensils; hair care accessories and grooming products; cabinet hardware, drapery hardware, and window treatments; and indoor/outdoor organization, food storage, and home storage products. The Office Products segment provides writing instruments, including markers, highlighters, pens, pencils, and fine writing instruments; office technology solutions, such as label makers and printers, interactive teaching solutions, card-scanning solutions, and on-line postage; and art and office organization products. The Tools, Hardware & Commercial Products segment offers hand tools, power tool accessories, industrial bandsaw blades, propane torches, and manual paint applicators; window hardware; and cleaning and refuse products, hygiene systems, and material handling solutions. The company markets its products under the brand names of Rubbermaid, Graco, Aprica, Levolor, Calphalon, Goody, Sharpie, Paper Mate, Dymo, Parker, Waterman, Irwin, Lenox, and Technical Concepts. It serves discount stores, home centers, warehouse clubs, office superstores, and commercial distributors. Newell Rubbermaid Inc. operates in the United States, Canada, Europe, the Middle East, Africa, Latin America, and the Asia Pacific. The company was founded in 1903 and is headquartered in Atlanta, Georgia.



June 15, 2011

Model Portfolio Value As of 15 June 2011

$ 551,864

Comment on Model Portfolio activity

The Alibaba/Alipay brouhaha at Yahoo has settled down and the share price is 10% below our exit of a few weeks ago. We are beginning to repurchase shares in accounts with room for more.

We also have continued to add Goldman Sachs to accounts. They are crooks but we are not going to beat our heads against the wall. If the people they trade with and take advantage of don’t know by now that Goldman considers the customers the suckers we have no sympathy. One analyst suggested that with the new financial rules Goldman won’t be able to make money like they did a few years ago. Where there is a will there is a way and with Goldman there has always been the will to find a way.


Flag Day 2011

Model Portfolio Value As of 14 June 2011

$ 557,719

Comment on Model Portfolio activity


Investors are treating large cap tech like large cap pharma. Both sectors generate tremendous cash flows and are burdened by legacy costs, product obsolescence, and the law of large numbers. Investors have the impression they are losing out to smaller, more nimble, competitors. Amazon (AMZN) seems alone among the large cap technology names in continuing to sport an earnings multiple that befits its profit growth. Rather than debate what kind of earnings multiple investors apply to these stocks -- Apple (AAPL) trades at a 14 times earnings, while Amazon trades at 60 times earnings -- let’s talk about what these companies do better than anyone else... reinvent themselves. Steve Jobs and Jeff Bezos have not been shy about changing their companies and adding entirely new revenue streams, seemingly every year. You may not have noticed, but if you listen to what companies are saying and doing, others have finally caught on and reinventing a company is all the rage. I have been sifting through the Ks and Qs to identify those companies that are being ignored during a period of transition, but if executed properly will be the sector leaders. For now, let’s focus on Cisco (CSCO).

Cisco became a technology powerhouse by using a tried and true business strategy; roll-up your competitors until you own enough market share to preserve your pricing power. Cisco combined great products and great relationships with its “channel partners,” and then was further helped when the bursting of the tech bubble wiped out much of the weaker competition. Cisco was so effective that they controlled well over 50% of the router market and over 70% of the switch market at its peak. Any company printing as much cash as Cisco does (about $10 billion annually) becomes a target of competitors. When companies began rebuilding data centers and communications networks, Cisco’s competition was provided the opportunity they were waiting for to dethrone the king. To the credit of its competitors, Cisco was distracted by unnecessary bureaucracy, its entry into an unattractive consumer business, and the integration of the many different parts of a communications network into one super-duper computing system (called UCS). This allowed competitors to catch Cisco unaware when they slashed prices on lower cost products that may not have been “best-in-class” but were good enough thanks to Moore’s Law. Accentuating Cisco’s problems is that many of its new products are so innovative that they cost significantly more to make than previous versions and will carry lower margins as volumes build. So CSCO may have lost a few points of share, but we are still talking about numbers around 40% in routers and 60% in switches.

In my view the issue with Cisco is not its R&D budget or lack of innovation. The company has spent $24 billion in R&D over the last 5 years and created some of the most technologically advanced products on the planet. The amount of money a company spends on R&D doesn’t mean much if you can’t produce a product (Pfizer (PFE) spent $41 billion over the last 5 years with nothing to show for it) but Cisco has the cutting edge technology that corporate, data center, and service provider customers want and need. In fact Cisco’s “New Products” (some of which were acquired) grew sales by 15% last year to $3.2 billion. As the world increases the amount of data and content it collects, analyzes, and shares, Cisco products continue to make that possible at faster and faster speeds. I can’t think of another company with an offering as broad or as deep. Not all of those products are winners, but many of them are. I recently had a conversation with my company’s datacenter provider who said that:

“Cisco’s unified server (UCS) is years ahead of the competition. Their switches and routers, integrated into their blade server, makes the network unbelievably fast. The future of technology is all about the network, and Cisco has built a better, faster, network.”

is only one view, and stopping there creates the potential for confirmation bias in decision making, but it does show that people who make their living collecting and managing data have some pretty good things to say about Cisco’s products. So Cisco’s problems are less about innovation and more about sales, pricing, and market acceptance of its technology.

The primary risk to the stock is the company's changing relationship with its Channel Partners, which account for 80% of Cisco’s sales, as the company positions for the future. Channel Partners are the IT consultants at IBM (IBM), Accenture (ACN), and Hewlett-Packard (HPQ) that are designing and implementing these datacenter upgrades, and are primarily responsible for the high demand for Cisco’s products. These consultants build the network, and the equipment makers cede the service revenue to the consultants to keep them happy. This is the key to NetApp’s (NTAP) success. NetApp has excellent products, but is willing to leave service revenue on the table for their channel partners, while EMC Corp. (EMC) goes direct to the customer and often steps on the toes of the channel partners. So, you can see NetApp is basically employing Cisco’s business model to the data storage business. When Cisco announced that it was selling its own server with integrated switches and routers (called UCS), this severely damaged its relationship with HP, which was both a channel partner and a server maker. As Cisco ventures deeper into its strategy of rolling up the datacenter into one machine, it also stands to reduce some of the design and service revenue that previously went to its partners. Cisco’s Acadia Joint Venture with VMWare (VMW) and EMC, headed by Michael Capellas, is further evidence of this strategy, as it incorporates a software component into the unified hardware, biting deeper into the revenue of its partners.

In the most recent quarter, Cisco’s service revenue grew by 14% to over $2 billion, and I have to assume that is revenue that the company previously left on the table for its partners. I can’t help but wonder if the recent report from Gartner Consulting -- condemning Cisco’s unified strategy in favor of a multi-vendor dissociated approach -- was a brush back pitch from the consulting industry that is increasingly concerned about a serious competitor with cutting edge technology that is crowding their revenue plate. So it is concerning that Cisco is increasingly positioning itself to compete against its channel partners, but it has chosen the very best partner with which to wage this battle in VMWare (85% owned by EMC). VMWare is the leading virtualization software maker, and while most of its revenue has come from making servers more efficient, virtual switches and virtual routers will play a bigger role in the future. The marriage of virtual software with excellent hardware has been a “killer app” in the datacenter, and Cisco has wisely locked into a partnership that will extend and enhance its leadership position.

It appears that Cisco is not complacent, and is even preparing for a more protracted battle with its sales force in order to create the products of tomorrow and protect its market position. The company has moved beyond just selling hardware and has ventured into collaboration software and hardware consolidation in preparation for the future. Did the company strike-out on the consumer venture? Yes. Is Cisco being challenged by formidable competitors who are seizing the opportunity created by IT infrastructure spending cycle? Yes. Are the fiscal problems of governments around the world (23% of revenue) negatively impacting results? Absolutely. It is also true that if Apple and Google (GOOG) attempt to eliminate your cable box (and bill?), Cisco could be negatively impacted (as would Broadcom (BRCM)) because they have aligned themselves with the service providers in the battle for the living room. However, by most accounts (Gartner included) Cisco has some of the best technology in the business. So let’s not group them in with Microsoft (MSFT) just yet. Cisco appears so confident about its technology that it is positioning to do battle with its channel partners, who become less necessary as Cisco rolls up the datacenter into a one-stop-shop. This is sure to be a volatile ride as the battle plays out in real time, and I would not be surprised to see Cisco dig into its very deep coffers to acquire VMWare and entrench its leadership position. The future of technology is all about the network, and the ability to securely access and collaborate wherever you want, whenever you want, and Cisco continues to dominate this market. Many interested parties have a vested interest in Cisco getting taken down a peg, but the company is not dead. Far from it.

New! The TechStrat Report by Sean Udall. Sean provides in-depth analysis, strategies and trades across the technology sector. Take a FREE 14 day trial.


June 13, 2011

Model Portfolio Value As of 13 June 2011

$ 554,749

Comment on Model Portfolio activity

This article doesn’t make our losses any more palatable but it does add perspective. All three are known as value managers- as are we:

Berkowitz Leads Stock Pickers Hitting Bottom

Bruce Berkowitz, Kenneth Heebner and Bill Miller, three of the best-known U.S. stock pickers, are competing for last place this year after their bets on an economic expansion backfired.

Funds run by Berkowitz of Fairholme Capital Management LLC, Heebner of Capital Growth Management LP and Miller of Legg Mason Inc. (LM) are the three worst performers among large diversified U.S. mutual funds in 2011, according to data from Chicago-based Morningstar Inc. The funds lost 11 percent to 12 percent through June 9, compared with a gain of 3.4 percent for the Standard & Poor’s 500 Index.

“People assume because certain managers have had good streaks that they are always going to be a step ahead of the market,” Russel Kinnel, director of mutual fund research at Morningstar, said in a telephone interview. “It never works out that way.”

The three managers are known for concentrating money in a small number of industries, said Kinnel, a strategy that can produce market-beating gains when the investments work out and large losses when they fail. Berkowitz, Morningstar’s fund manager of the decade, and Miller, known for beating the S&P 500 for 15 straight years through 2005, are wagering on a rebound in financial stocks. Heebner, manager of the best-performing diversified U.S. stock fund over a 10-year period until this year, was betting on automakers.

The two industries are the worst performers this year in the S&P 500 out of 24 groups. Bank stocks, as measured by the KBW Bank Index (BKX), fell 10 percent on concerns that the housing slump, litigation over mortgage bonds and foreclosures and new fee-crimping rules will depress bank earnings.

Betting on Banks

Berkowitz’s $14.8 billion Fairholme Fund had 74 percent of its equity holdings in financial stocks as of Feb 28, Morningstar data show. The fund fell 12 percent through June 9, ranking it last among 870 diversified U.S. stock funds with at least $500 million in assets.

Berkowitz didn’t respond to a request for comment. In a June 9 interview, Berkowitz said he was “more certain” than ever that his investments in financials made sense.

“The trends are getting better,” he said in the interview with Bloomberg Television’s Erik Schatzker. “The balance sheets are getting better and the cash flow is there to take care of the problems.”

Berkowitz said Brian Moynihan, chief executive officer of Bank of America, was doing “a good job” and that the bank “was making all the right moves.” Bank of America, based in Charlotte, North Carolina, fell 19 percent this year, including dividends.

Shifting Gears

American International Group Inc. (AIG), the New York-based insurer that’s Berkowitz’s largest holding, lost 40 percent this year, according to data compiled by Bloomberg. Goldman Sachs Group Inc. (GS) fell 19 percent.

Heebner, manager of the $2.5 billion CGM Focus Fund (CGMFX), didn’t fare better, losing 12 percent through June 9, second-worst among large funds, according to Morningstar. His fund had 36 percent in auto stocks at the end of 2010, according to a regulatory filing.

Heebner, 70, is known for making concentrated bets in industries from homebuilding to commodities and for his willingness to shift gears quickly. CGM Focus Fund, which gained 80 percent in 2007, returned 12 percent a year for the past 10 years, better than 99 percent of rivals.

“We anticipate a better domestic economic environment in the year ahead,” Heebner wrote in a Jan. 3 letter in the fund’s annual report.

Signs of Slowdown

Those expectations were damped when the U.S. economy slowed to a 1.8 percent annual rate of growth in the first quarter, from 3.1 percent gain in the final three months of 2010.

More recent reports suggest the world’s largest economy is slowing further. Manufacturing grew at its slowest pace in more than a year in May, consumer spending rose less than forecast in April, and the unemployment rate unexpectedly climbed to 9.1 percent in May.

Heebner ran the best-performing diversified U.S. stock fund over a 10-year period for 11 straight quarters before he was unseated in the first quarter of 2011 by Thomas Soviero, manager of the $4.2 billion Fidelity Advisor Leveraged Company Stock Fund. (FLSAX)

Investors make a mistake when they judge stock pickers only on short-term performance, said Kinnel.

“Managers don’t go from geniuses to idiots overnight,” he said. “Some of the investments they have made may well pay off.”

‘Short-Term Adversity’

Berkowitz, 53, was named Morningstar’s domestic stock manager of the decade in January 2010. His fund, which opened in December 1999, has beaten the S&P 500 Index every year but one, 2003, according to data compiled by Bloomberg.

“Berkowitz hasn’t had a bad period of investment returns since the beginning,” Steven Roge, a portfolio manager with Bohemia, New York-based R.W. Roge & Co., said in a telephone interview. “It will be interesting to see how he overcomes this short-term adversity.”

Roge’s firm, which manages $225 million, holds shares in Berkowitz’s fund.

Ronald Sugameli, manager of the $126 million New Century Alternative Strategies Portfolio (NCHPX), a mutual fund that invests in other mutual funds, cut his stake in Berkowitz’s fund over the past few months.

Pulling Money

“Berkowitz may be right, but I thought it was prudent to reduce our concentration in the distressed financial sector,” Sugameli said in a telephone interview from Wellesley, Massachusetts.

Investors pulled $2.3 billion from Fairholme Fund (FAIRX) in April and May, according to Denver-based Lipper. The fund attracted deposits of $11 billion in the four years ended Dec. 31.

Miller’s $1.5 billion Legg Mason Capital Management Opportunity Fund lost 11 percent through June 9, third-worst among large funds, Morningstar data show. The fund had 36 percent in financial shares at March 31.

In an April letter to shareholders, Miller wrote that the first quarter was a good one, “for almost everyone except us.” He said technology, health care and financial stocks were attractive. Miller, 61, declined to comment for this story, Maria Rosati, a spokeswoman for Legg Mason, wrote in an e-mail.

The fund’s largest holding as of March 31, Bermuda-based insurer Assured Guaranty Ltd. (AGO), lost 19 percent this year. Other financials in the portfolio that have suffered include Richmond, Virginia-based Genworth Financial Inc (GNW), down 23 percent, and New York-based Citigroup Inc. (C), down 20 percent.

Miller is best known for beating the S&P 500 for a record 15 straight years through 2005 with his larger Legg Mason Capital Management Value Trust. The fund trailed the U.S. benchmark for the next three years as Miller underestimated the severity of the financial crisis and his bets on banks and real- estate companies backfired.

The $3.6 billion Value Trust fell 0.5 percent through June 9, trailing 94 percent of rivals, Bloomberg data show.

Like we don’t know:

The Dow is now up only 3.2% year to date and the correction since the May 2 high at 12,876 is 7.2%. The NASDAQ, Dow Transports, Russell 2000 and Philadelphia Semiconductor Index (SOX) are in the red year to date with these averages down 8.4% to 10.6% since their May 2 highs, which takes the pullback into correction territory.

It probably was all about the oil: http://www.minyanville.com/businessmarkets/articles/oil-auctions-oil-in-iraq-oil/6/13/2011/id/35135

Hugely Successful Oil Auctions in Iraq Creating Windfall for US Oil Services Companies

The success of the recent oil auctions in Iraq is creating a windfall for American oil services companies. Schlumberger (SLB), Baker Hughes (BHI), Weatherford (WFT), and Halliburton (HAL) have committed to drilling 2,500-3,000 new wells per year and building new pipeline and shipping terminal infrastructure that could make the country the world’s largest oil exporter.

The value of these contracts may reach a massive $60 billion over the next six years, and could generate $1 billion in new revenues for each company per year. Two offshore terminals are already under construction, and another two are on the drawing board. If successful, the project will boost the country’s oil production from the current 2.5 million barrels a day to 12 million b/d by 2016.

Iraq’s oil production peaked at 3 million b/d in 1979, and then went to nearly zero after it invaded Iran. I remember those days well, as I was issued a visa to accompany Saddam’s troops to Tehran, only to see it canceled when the Iranians were able to mount a counter offensive. I still have the dessert camos and telephoto lenses need to cover the desert war, although the pants, regrettably, no longer fit. Iraq’s oil industry never recovered.

UN sanctions limited the regime to minimal “official” exports that covered humanitarian imports like baby food and drugs. Tanker trucks smuggled out through Jordan what they could, with the proceeds going directly to Saddam’s family. When the US invaded, bails of hundred dollar bills were found stashed in private homes, the proceeds of these black market deals.

American oil engineers were shocked by the poor state of Iraq’s energy infrastructure after 40 years of neglect. It all has to be rebuilt from scratch. If the new Iraqi government can provide the necessary infrastructure, and stabilize the political and security environment, it will become one of the largest changes to the landscape for international trade in decades. Those are all very big “ifs." It will dump another Saudi Arabia’s worth of crude on the market.

It will also go a long way toward meeting China’s insatiable demand for oil, and put a long term cap on prices. Of course, this is the scenario that antiwar activists predicted eight years ago, but no one else, especially the Bush administration, thought it would take so long to play out. This is so important that I can’t believe no one else is talking about it.


June 10, 2011

Model Portfolio Value As of 10 June 2011

$ 555,039

Comment on Model Portfolio activity

We sold Dell, Nvdia, BP, Morgan Stanley and The Gap. All are recent purchases and with the failure of the bounce of yesterday we would rather have the cash on hand. We have made money trading NVDA, BP and DELL this year but this time we had losses on the trades; 10% on the NVDA; BP was a 3% loss; and the Dell less than 2%. The Gap and Morgan Stanley were minimal losses.

The present pain will eventually lead to gain, keep the faith.


June 9, 2011

Model Portfolio Value As of 9 June 2011

$ 560,577

June 8, 2011

Model Portfolio Value As of 8 June 2011

$ 556,656

Comment on Model Portfolio activity

We added to Cisco.

We switched BankAmerica to the Financial Services ETF (XLF). We did this to moderate the downside if the financial sell off turns into a route while still maintaining exposure. Both issues are down about the same percentage in the last month but BAC is down twice as much a percentage for the year. We want participation in the beaten down financials but given market sentiments a diversified list will give us that participation. We do sacrifice some upside but at this point riding out the downside (any being comfortable adding to the position) to participate in the eventual upside is our primary consideration.

Stock Weight Amount of XLF largest holdings:

J.P. Morgan Chase & Co. 9.20%
Wells Fargo & Co. 7.75%
Berkshire Hathaway 7.36%
Citigroup 6.25%
Bank of America 6.19% 
Goldman Sachs Group 3.98%
American Express Co. 2.92%
Us Bancorp 2.62%
Metlife 2.47%
Morgan Stanley 1.97%

The following is a technical comment from minyanville.com:

Stocks Have Downside Risk to 200-Day Simple Moving Averages
By Richard Suttmeier Jun 08, 2011 8:45 am

With the major equity averages below their 50-day simple moving averages and their five-week modified moving averages, the next major downside milestones are the 200-day simple moving averages at 11,658 Dow Industrial Average, 1250 S&P 500, 2621 NASDAQ, 2209 NDX, 5006 Dow Transports, 765.92 Russell 2000, and 406.43 SOX.

Stocks are no longer overvalued, but they are not undervalued enough to buy aggressively:

On February 18 we had a ValuEngine Valuation Warning with more than 65% of all stocks being overvalued; all 16 sectors were overvalued, most by double-digit percentages.

On May 2 we had a ValuEngine Valuation Watch with more than 60% of all stocks being overvalued; all 16 sectors were overvalued, most by double-digit percentages.

Today, June 8 only 43.5% of all stocks are overvalued therefore 56.5% are undervalued. Only five of 16 sectors are overvalued with Multi Sector Conglomerates 14.8% overvalued.

Ford Accelerates Dramatic Global Growth

Five years into the Alan Mulally era at Ford (F), the automaker is shifting its focus from its U.S. turnaround to dramatic international growth.

"We have the foundation now to serve a much wider range of customers worldwide," said CEO Alan Mulally, concluding a three-hour investor day presentation Tuesday afternoon.

At the start of the conference, Mulally noted "we've been working toward this day for five years," and he welcomed the chance to talk about "where is Ford going in the longer run."

Later, Mulally, who is 65, parried an analyst's question about how long he will stay with Ford. "I absolutely am honored to be serving Ford, and I look forward to helping to accelerate the implementation of this plan," he said.

Shifting to a global focus is not a new concept for Ford; it has been a theme for more than a year. It is, in fact, a necessity because Ford so badly trails rivals in the key Asian markets of China and India.

But on Tuesday, for the first time, Ford attached numbers to its growth intentions. Among them, by mid-decade the automaker wants to increase worldwide sales by about 50% to about 8 million vehicles, up from 5.3 million in 2010.

By 2020, Ford wants small vehicles to represent about 55% of sales, up from 48% today. About 32% of its sales would come from the Asia Pacific and Africa, more than doubling its current percentage of sales from the region.

In terms of margin, Ford said it wants mid-decade global automotive operating margins to increase the 8% to 9% range, from 6.1% in 2010, while North American operating margin in the 8% to 10% range. Additionally, Ford's debt reduction efforts will continue, taking automotive debt to about $10 billion, down from $16.6 billion at the end of the first quarter.

The key to growth in China and India is for Ford to expand its limited product offering. By 2015, Ford would expand its China line from five to 15 products and its India line from three to eight products. In India, for instance, Ford increased sales by 3% by adding a single product, the Figo. In China, Ford currently has about a 4% market share, while General Motors (GM) has about a 14% share.

The good news is rapid growth in the entire China auto market, and Ford's plan to increase its product mix so it is not just in the larger car market when most Chinese consumers are buying smaller cars. Ford said it can reduce prices in emerging markets by creating lower-priced versions of global vehicles.



June 7, 2011

Model Portfolio Value As of 7 June 2011

$ 561,301

Comment on Model Portfolio activity

We added Morgan Stanley and the large Bank ETF to some accounts.

We also bought Talbots down $1.70 (40%) to $2.70 after sales missed by $5 million and going forward outlook disappointed. At $2.72 the share price is suggesting going out of business. We have a long term highly speculative and now almost worthless position in the warrants.

The question with Talbots at this price is will they survive. We think they will but …..

Talbots and Ford have been the reason we have underperformed the market this year. In time we will recoup in Ford but Talbots stands right up there beside Unisys as a stock we wish we had never considered. Given where the shares are priced and that TLB earned money in the quarter we are not surrendering hope. But hope is just that and not and investment measure. Are the shares worth the risk? We tend to think so but we have a warrant position which can’t go down any more and we bought a few shares of common in aggressive and younger folk’s accounts or very large accounts in a very small percent of total assets. The company will both survive and be a grand slam or a strike out.


June 6, 2011

Model Portfolio Value As of 6 June 2011

$ 566,021

Comment on Model Portfolio activity

We sold Ford Warrants and bought a third to half as much common shares in accounts. The time factor on the warrants and the leverage have been bothering us. We also sold Tellabs.

June 3, 2011

Model Portfolio Value As of 3 June 2011

$ 572,702

June 2, 2011

Model Portfolio Value As of 2 June 2011

$ 576,271

Comment on Model Portfolio activity

We added The Gap to accounts and also added to our position in BankAmerica.

Market corrections are painful over the short term. The more pain they inflict; the better they work. If they are too painful- stop watching- we are paid to watch. Market corrections offer opportunity.


June 1, 2011

Model Portfolio Value As of 1 June 2011

$ 578,819

Comment on Model Portfolio activity

Bad ADP Employment numbers of an added 38,000 private sector jobs when 190,000 added jobs were expected have markets significantly lower on the day. The government Employment Report is Friday.


We switched Microsoft to Cisco and reduced our Tellabs holdings.

(WSJ) In the U.S., auto makers sold around 1.09 million cars and trucks last month, down from 1.1 million a year ago, General Motors Co. estimated. On a seasonally adjusted basis, annualized U.S. sales for the month were 12 million, down from 13.2 million vehicles last month but up from 11.6 million a year ago.

GM sales fell 1%, to 221,192 vehicles compared to 223,410 a year ago. Ford Motor Co. said its May U.S. sales declined less than 1% to 192,102 as the discontinuation of its Mercury brand depressed total volumes. Chrysler's sales rose 10% to 115,363 vehicles, largely on a 55% gain for its Jeep brand.

Nissan Motor Co. said its sales declined 9.1% in May to 76,148 units versus 83,764 units a year earlier. Honda Motor Co. and Toyota Motor Corp. also are expected to report declines later Wednesday.

Last month marked just the second time in 18 months the U.S. auto industry reported a significant decline in monthly sales from the year-earlier period. The prior time was August 2010, when sales from the year before were boosted by the government's "cash for clunkers" scrappage program.

Auto makers pulled back dramatically on discount spending for the month. Japan's car companies backed off discounts as they struggled to meet demand in the wake of the March earthquake that crippled many auto plants there. U.S.-based rivals, meantime, limited deals in line with their competitors.

The total transaction price for the average vehicle sold last month in the U.S. rose 2.1% to $29,817, the highest ever recorded, according to pricing researcher TrueCar.com.

…..At GM, sales of passenger cars climbed 13% on the continued strength of its compact Cruze, along with the Buick Regal and Cadillac CTS. However, its full-size pickup-truck sales fell 14% over a year ago.

Retail sales increased 9%, but fleet sales for GM's four core brands dropped 16%, the company said.

Month-end dealer inventory in the U.S. stood at about 584,000 units, up 7,000 from April and 177,000 from the year-earlier month.

Ford, meanwhile, boosted its production forecast for the third quarter saying it will produce 630,000 vehicles in its North American assembly plants, up 44,000 vehicles, or 8%, compared with the third quarter of 2010.

In the second quarter, Ford plans to produce 710,000 vehicles, unchanged from a previous forecast, but up 57,000 vehicles from the second quarter of 2010.

May had 24 selling days, two fewer than last year.

Cisco: An Attractive Investment Is Hiding in the Dark Shadow of Stock Performance

By Vitaliy Katsenelson May 31, 2011 1:30 pm


Markets are efficient, or so we’ve been told. I am not here to put a rebuttal to this academic nonsense, but let me give you one of the core reasons why markets are and will remain inefficient: because human beings are efficient.

To function in everyday life, our brains are used to simplifying complex problems, through pattern recognition. We become accustomed to drawing straight lines when we see two points, and if we get a third or fourth point that fits the line, our confidence about the longevity (continuity) of the line increases exponentially. We become excited, even certain, about prospects of the company we’ve invested in when its stock has gone up for a long period of time, while we often dismiss stocks that have declined or flat-lined, especially if that happened for a considerable period of time.

Imagine an analyst bringing a “fresh” stock idea to a portfolio manager at a large mutual fund. He’d say something along these lines: Cisco (CSCO) is a buy, it has a bulletproof balance sheet with $25 billion of net cash (cash less debt), the stock is cheap – trading at 9 times earnings (excluding net cash), it’s providing double-digit returns on capital, and it is a dominant player in the industry, which is poised to grow at a faster rate than the economy, since, thanks to iPads (AAPL), Androids (GOOG), Kindles (AMZN), Hulus, and Netflixes (NFLX), we’ll all continue to consume digital content.

I can just see the portfolio manager’s smile, his laugh and comment that “This stock is a value trap, it has gone nowhere in more than a decade.” I’m glad I’m not that analyst, as I’d have a huge burden to overcome. After all, Cisco has shattered the dot-com dreams of many investors in the years following 1999, when it hit $80 a share and, for a brief moment, was one of the most valuable companies in the world, sporting a modest P/E of 100+. Since then, gravity has caught up with Cisco’s stock (it always does), and it has declined almost 80% from its highs, to $17. Most investors who bought the stock since ’99 either lost or made no money. Draw a straight line through its chart (you have more than a decade’s worth of data points), and you see it’s either going to zero or at least will continue to go nowhere. Now, you add to this performance a few quarters of disappointing Wall Street guidance, and you have an untouchable, un-recommendable stock.

However, fundamentals – take any metric: revenues, earnings, cash flows – will tell a very different story: They either tripled or quadrupled since 1999. Through no fault of its own, Cisco’s stock was too expensive in 1999, and it took time for the stock to catch up to its fundamentals. Of course, as usually happens, investors get overexcited on both sides of valuation. The same investors who could not get enough of Cisco at over 100 times a little more than decade ago, don’t want touch it at 9 times earnings with a 10-foot pole. (Here is efficient market for you.) The dark shadow of the stock performance hides an attractive investment.

Cisco is not a spring chicken anymore; it has over $40 billion in sales. It will likely see some margin compression as parts of its business mature. Its revenue and earnings will grow at a slower rate than they did over the last decade. But at its current price Cisco doesn’t have to do anything heroic to justify its valuation, it just needs to show that it has a pulse.

It is very difficult to get a unique insight into Cisco’s business or that of any large-cap stock; after all, they are followed by a small army of analysts (Cisco is followed by some 40 analysts). Some sell-side analysts undoubtedly know what John Chambers’ (Cisco’s CEO) favorite cereal is, and can recite the model number of every Cisco router by heart. Most of us cannot compete with that, nor do we need to.

First of all, you need to have a time horizon longer than Wall Street’s. Wall Street is very short-term-oriented, and mutual fund managers are judged and compensated on their monthly and quarterly performance. Sell-side analysts are there to serve their buy-side masters, and thus expend their energy analyzing the next quarter, not the next five years. Therefore a time horizon longer than Wall Street is significant competitive advantage in itself. Cisco’s earnings three, five years from now are likely to be significantly higher than they are today.

It is also important to understand that even a much-followed stock like Cisco will suffer from inefficiency (which as a value investor I welcome), due to investors confusing the lousy stock with the company’s fundamental performance. That is how you find high-quality companies at bargain-basement prices.

Understanding what happened in the past is important, not because it is the precursor to the future, but because it helps to build the analytical bridge, through our own analysis, from today into the future. Be inefficient – don’t draw straight lines.

Editor's Note: Vitaliy N. Katsenelson is the author the upcoming "The Little Book of Sideways Markets" (Wiley, December 2010). You can read his future articles on ContrarianEdge.com

A $45m typo

Goldman Sachs gets burned by, er, Goldman Sachs

May 26th 2011 | Hong Kong | from the print edition


For Hong Kong’s population, trading in complex financial products rivals a day at the track. Despite the territory’s tiny size, its market for “exchange-traded warrants” is the most active in the world. Last year’s turnover of $534 billion put it far ahead of South Korea and Germany, the next biggest. The instruments give investors the right to buy a security at a fixed price, allowing them to bet on which way a market will move or to arbitrage differences between the warrant and its components.

Almost 14,400 such products were issued in Hong Kong last year by a dozen or so big banks, each with a prospectus the size of a phone book that must be approved by the exchange’s listing committee and incurs a registration fee of HK$100,000 ($13,000). Given the warrants’ complexity, problems can emerge. Few cases will excite more Schadenfreude than that involving Goldman Sachs.

On February 11th Goldman issued four warrants tied to Japan’s Nikkei index which were described in three separate filings amounting to several hundred pages. Buried in the instructions to determine the settlement price was a formula that read “(Closing Level – Strike Level) x Index Currency Amount x Exchange Rate”. It is Goldman’s contention that rather than multiplying the currency amount by the exchange rate, it should have divided by the exchange rate. Oops.

The mistake meant that the warrant should have had a much higher price than that quoted by Goldman. According to a report compiled for Hong Kong’s legislature, the exchange was notified at 9.10am on March 31st by a lawyer for Goldman that an error had been made and quotes would be suspended. At 9.40am, just after the opening of trading, the exchange began receiving complaints from traders who wanted to buy in. By 10.52am, with prices spiking and after a request from Goldman, the exchange suspended trading. The notes have been frozen ever since.

Goldman has made an offer to buy back the warrants from holders for a 10% premium on their purchase price, plus a fixed payment to cover broker fees. In resisting a settlement tied to the published formula, Goldman cites a clause in the prospectus that lets an issuer change terms “of a formal, minor or technical nature, which is made to correct an obvious error”.

This argument has not won over the 124 warrant-holders. Based on the formula provided in the prospectus, says one of them, Goldman could be on the hook for HK$350m, as opposed to the estimated HK$10m being offered. The bank’s offer has already been extended once because of lackluster response. Holders also allege that after it notified the exchange of the problem but before trading was frozen, Goldman continued to bid to buy back the warrants while ceasing sell offers that would have meant disclosing the real price based on the prospectus. Goldman merely says it made offers at the “correct” price.

There are wider issues at stake. Warrant-holders slam the Hong Kong exchange, not just for approving the prospectus but for treading softly around an important, and profitable, client. (The exchange has launched an investigation of its own.) Politicians are taking an interest. “If it was possible to renege even on what was written down in black and white, how can we possibly be an international financial centre any more?” asked James To, a member of the Legislative Council (Legco), at a hearing in April; another Legco hearing was held this week and a further one is due in June. Perhaps the biggest question of all concerns the complexity of these instruments. What other risks might be lurking in the market undergrowth?



We plan on being in business for at least the next twenty years and with this in mind we are changing the frequency and content of our internet posts. We will maintain our concentration on market activity while we simplify our business day. We have been writing about the markets for 27 years - on a daily basis for 12 years - and giving investment advice for 45 years. Our guess is that while we haven’t seen and said it all we are pretty close to having exhausted any new words of wisdom we might wish to convey. Markets don’t repeat but they do rhyme. By not posting dally we will be freed up to do some summer/winter activities such as gardening/snowshoeing, riding our horses, walking the dogs and spending a bit more time with the prince and princess when they visit. And so we are going to end our lengthy daily comments but we will continue to post periodically when market events warrant and/or when there is activity in the Model Portfolio.




















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The factual statements herein have been taken from sources we believe to be reliable but such statements are made without any representation as to accuracy or completeness or otherwise. From time to time the Lemley Letter, or one or more of its officers or employees, may buy and sell as agent the securities referred to herein or options relating thereto, and may have a long or short position in such securities or options. This report should not be construed as a solicitation or offer of the purchase or sale of securities. Prices shown are approximate. Past performance is no indication of future performance.