wall street nuggets

It was a very good year indeed! Many thanks to the small (but growing) and loyal group of readers who stuck with us the year. Not sure how much longer we will continue the flow of nuggets, but it has at least kept us busy.

The year ended on a bit of a sour note, with the average member of the SigmaInverse universe losing 0.55% on Friday and only about 27% of the members posting positive returns for the day. The only unusual sectors on Friday were those posting gains for the day. Biotech was up 0.5% for the day, Construction was up 0.1% and REITs was up 0.2%. The remaining sectors were all in the red.

While the week ended on a sour note, the markets certainly got off to a strong start and the early strength sustained it so that the cumulative returns for the week were healthy across all ranges of market capitalization, ranging from 0.47% for the Large Cap stocks to 1.28% for those with market capitalization ranks between 2001 and 2500 (Micro2000).

Despite a better than expected Chicago PMI release, in which the regional manufacturing index rose from 49.9 to 52.4, the Daily Sector Performance Chart for Thursday, December 28th, was generally weak except for Alternative Energy (up 1.1%) and Tobacco (up 2.5%). The average member of the SigmaInverse universe lost 0.22%, with only 34.2% of the members posting gains for the day. The Alternative Energy sector was led by DIVERSA CORP [DVSA] which jumped 10.4%, closing at $11.00, following an announcement that it had entered into collaboration with GENOMATICA INC with the goal of developing more efficient bio-manufacturing processes for biologically-derived enzymes, needed in the commercialization of bio-fuel technologies. The Tobacco sector was driven primarily by STAR SCIENTIFIC INC [STSI] (up 12.3%) but given the low price, the move should probably be treated either as an event in the tail of the distribution with no particular significance or possibly as additional speculation on the upcoming legal ruling. Since the volume was up about 40% relative to the average daily volume for the past 90 days on a day when the rest of the companies in the sector were seeing very light volume (less than half the usual daily volume), it appears that there is indeed an anticipation that STAR will receive a favorable ruling by judge Garbis in the patent infringement suit being brought by STAR against RJ REYNOLDS.

Yesterday, we highlighted the three most impressive SI sectors for the fourth quarter. The three most unimpressive SI sectors so far in the fourth quarter are the following:

• Processed & Packaged Goods (up cumulatively 6.8% through 12/27/2006)
• Banking (up cumulatively 5.6% through 12/27/2006)
• Security (up cumulatively 4.6% through 12/27/2006)

Annualizing the quarterly returns for these three sectors certainly produces some rather impressive results on an annual basis, which provides a strong confirmation of the overall strength of the U.S. markets in the fourth quarter.

Wednesday saw broad strength across all sectors. The average member of the SI universe posted a gain of 1.01% and almost 80% of the members of the SI universe posted positive returns for the day. The sector outliers on Wednesday were Alternative Energy (up only 0.2%), Construction (up 2.0%) and Transportation (up 1.8%).

It may come as a bit of a surprise, but, through last Friday, the three SI sectors posting the biggest cumulative gains for the fourth quarter were Airlines (up 23%), Travel (up 22%) and Entertainment (up 17%).

The final week of 2006 opened on a positive note with an average gain of 0.67%.   Approximately 71% of the 3,520 stocks in the SI universe posted a positive return for the day.  The sectors posting unusual returns for Tuesday were (once again) Airlines (up 2.0%), Oil & Gas Production (down 0.7%) and Retail Apparel (down 0.9%).

It’s probably just a coincidence, but the Airline sector on the busiest day of the year for airlines was the biggest gainer on Daily Sector Performance Chart (see below), thanks to some interesting news events involving regional carriers. Overall, of course trading was light in anticipation of the holiday. The average stock in the SI Universe of 3,521 lost 0.14% on Friday, with 35.6% posting positive returns for the day, 60.5% posting losses and 3.9% unchanged.

PINNACLE AIRLINES CORP [PNCL] took off on Friday, closing at $16.75 or a gain of over 56%, after announcing a new Airline Services Agreement, extending the partnership with NORTHWEST AIRLINES CORP [NWACQ] through 2017. NWACQ was down 8.6% closing at $4.04. PNCL was upgraded by Prudential, all the way from “Underweight” to “Overweight.” Part of the deal includes a $377.5 million claim in the bankruptcy proceedings of NORTHWEST AIRLINES so the exposure in that area appears to be largely covered. While the P/E ratio remains attractive, and the terms of the deal are likely to prove favorable over the next 11 years (especially the obligation of NW to provide jet fuel to PINNACLE at no charge, removing fuel as a revenue and expense item from PINNACLE’s statement of operations), we fail to see significant further upside potential unless the company takes advantage of new non-exclusive clauses in the new agreement.

Another interesting deal in the airline sector involved MESA AIR GROUP INC [MESA] up 2.7% closing at $7.92, after announcing that the company would be creating a Chinese regional airline in a joint venture with Shenzhen Airlines. The new airline is expected to launch operations within the year and to have 20 regional jets flying prior to the Beijing Olympic Games in 2008. Given the revenue growth that we are likely to see in this area and the rather attractive P/E ratio, this appears to be an interesting buy opportunity.

SCICLONE PHARMACEUTICALS INC [SCLN] jumped an impressive 38.5% closing at $3.13, on the news of Phase 2 clinical trial results in which a test group of patients with stage IV malignant melanoma, taking its new drug ZADAXIN® in combination with chemotherapy had a median survival period of 10.2 months, compared with 6.6 months for the control group treated with a combination of chemotherapy and interferon alpha.  Even more significant was the fact that the test group had more than double the tumor response compared with the control group.  On the basis of these results, we expect that the company will proceed with Phase 3 trials. Recalling the negative Phase 3 trial results last year for the combination of ZADAXIN and interferon alpha in the treatment of hepatitis C, this remains very speculative at this point. However, the balance sheet is reasonably healthy and the income statement showed a loss of only $0.03 per share in the third quarter. In addition, there is another proprietary drug, SCV-07, in the pipeline that has shown some efficacy in the treatment of multi-drug resistant tuberculosis and possibly other diseases. Given these considerations, it appears this remains a very speculative but intriguing buy opportunity.

Another drug stock with good news on Friday was INTERMUNE INC [ITMN] which shot up 29% closing at $28.40 on the news that a Japanese drug company SHIONOGI & CO LTD had reported positive results in a Phase 3 trial of a new drug pirfenidone in the treatment of idiopathic pulmonary fibrosis. INTERMUNE is also conducting Phase 3 trials for the same drug, although there is no guarantee that the results will also be positive since the dosage and length of treatment in the two studies are not the same. We see little remaining upside potential here because of the huge response in October to the ROCHE deal and the fact that profitability appears very far off at this point.

RED HAT INC [RHT] jumped 25% after announcing a very impressive third quarter result. Revenue for the quarter ended November 30^th, was up 45% over the same quarter last year. Net income for the quarter was $14.6 million or $0.07 per diluted share. Excluding stock compensation and special tax expenses, the profit was $0.14 per share, versus a consensus estimate of $0.12 per share. Also helping were upgrades by First Albany from “Neutral” to “Buy” and by Citigroup from “Sell” to “Hold.” It would appear that this move offsets the overreaction in October to the ORACLE announcements and indicates that ORCL and MSFT/Novell competitive moves are ultimately strengthening the Linux OS market. Despite the current P/E ratio (59.4 on trailing 12 months earnings) there is still some significant upside potential given the strong cash flow and growth possibilities through acquisition.

The markets turned south about mid-day on Thursday when the results of the Philadelphia Fed’s Manufacturing Survey were announced. The drop of 4.3% in manufacturing activity was the third negative reading in four months and the biggest drop in more than three years, and provided yet another sign that we are likely to see a correction as we enter 2007.

The average member of the SI Universe lost 0.20% on Thursday, with 36.8% of the members posting positive returns for the day. Unusual sector behavior was seen in Furniture & Fixtures (up 1.0%), Mining (down 1.4%), Pharmaceuticals (up .8%) and Travel (down 1.4%).

One of the leaders in the Furniture & Fixtures sector was HERMAN MILLER INC [MLHR] which was up 4.4% after posting strong results for the second fiscal quarter, ended December 2^nd. Sales for the quarter were $499.1 million, up 13.9% over the same period last year and orders were up an even more robust 22.1%. Net earnings were $36.6 million or $0.56 per share, which was an increase of 31.2% over last year, and in line with consensus estimates. The company provided guidance for third quarter (ending February 7^th) sales of $480 to $500 million, which was substantially above the consensus estimate of $459.47 million, and consistent with year over year growth in the range of 13% to 18%. With a forward P/E ratio of 15.9, strong current quarter corporate profits that are likely to result in significant capital expenditures for office furnishings and the very impressive increase in orders, we see considerable upside potential here, for at least one more quarter, although there are signs that double digit growth may not be sustainable through all of 2007.

PRAECIS PHARMACEUTICALS INC [PRCS] of Waltham, Mass., soared up 145% closing at $4.89 on the news that it was being bought out by GLAXOSMITHKLINE PLC for a cash purchase price of $5.00 per share or $54.8 million - the second acquisition by GLAXOSMITHKLINE PLC [GSK] this week. While we normally don’t track non-US companies, GSK is looking very attractive for some modest, but very stable upside potential.

The Mining sector appears to have a penchant for extreme behavior, being an outlier once again, but this time on the down side. While the SI Universe as a whole was up 0.31%, the Mining sector was down 2.7% on Wednesday. JAMES RIVER COAL CO [JRCC] was the biggest loser dropping 8.2% to close at $8.72. Obviously, one cannot attribute a drop of this magnitude in a single day to just one more mild temperature day, although the cumulative effect of many days of mild temperatures should continue to exert some modest downward pressure on the group. There was no significant news event, so the most likely explanation is another large sell-off by Pirate Capital LLC which last filed a 13D on December 7^th, indicating major sales of JRCC between December 5^th and 7^th, and the ownership of 679 thousand shares. The lack of profitability and long-term debt ($150 million) makes this hard to justify on valuation, but the cash flow from operating activities could make this an attractive buyout opportunity, if they improve on the third quarter result in the current quarter.

Note that the other two big losers in the Mining sector were PEABODY ENERGY CORP [BTU] and HECLA ENERGY CORP [HL] both tumbling 3.5%. We have some concerns regarding the Balance Sheet for PEABODY, but HECLA looks like a interesting buy opportunity.

We need to keep an eye on natural gas inventories tomorrow when the EIA reports its weekly numbers. Given the mild weather, it is likely we will continue to see a significant gap between last year’s storage at this time and the current storage level.

We are sad to see REDBACK [RBAK] being lost as one of our significant growth opportunities for 2007, as it agreed to be acquired by ERICSSON for $2.1 billion or $25 per share - an 18% premium over its closing price on Tuesday.