The Iconoclast Investor

As Editor of the Cabot Green Investor, I know people encounter many of the same issues I’ve been writing about lately in Green investing. For instance, there are a lot of mutual funds that say they are Green and socially responsible, but when you drill down into their holdings, there is little to differentiate them from plain vanilla large-cap funds. Many ostensibly Green funds have Microsoft, JP Morgan Chase and Pepsico as their top holdings. Talk to managers of these funds and there is always a roundabout argument to be made for companies like these being Green, not that I know what they are. Microsoft uses very little packaging, perhaps? The low prices of Pepsi’s Taco Bell keep the U.S. Mint from having to print more bills? JPMorgan Chase is recycling taxpayer money? Very often, the label of “Green” and “socially responsible” on mutual funds is just a guise to justify greater fund fees and expenses.

Many people instead turn to Green ETFs. Yet with ETFs you not only buy the good names in Green, they buy plenty of the bad ones as well–the companies with poor strategies, obsolete technology and sometimes even “greenwashing” executives, those who claim they are green because it is trendy. For every winner you get with an ETF, you grab half a dozen also-rans, too. That may pass in a raging bull market, which lifts every stock, but not in a mild bull market, let alone a sideways or bearish one.

That’s why at Cabot Green Investor, we focus on the most promising of Green stocks, weeding out the winners from losers through a combination of Cabot’s time-tested technical analysis and investment parameters with good solid research and a gut developed over years of investing. We aim to build a portfolio of 10 Green stocks, quickly cutting losing stocks to preserve capital for our winners. That’s why the Cabot Green Investor has far outperformed every mutual fund and ETF in the Green space this year. No doubt, it’s been a difficult year for everyone in the market–there isn’t one stock mutual fund in positive territory for the year, Green or not, and every Green ETF is down at least 20% and most closer to 40% for 2008.

For the year so far, Cabot Green Investor subscribers have enjoyed some big winning picks, like American Superconductor (AMSC), a wind company that gave us a 40% profit on in just six weeks this summer, and a domestic environmental remediation firm we’re still riding a double-digit profit on. There is no denying that with the market crash of October we’re down, but just in the single-digits as of early November. I know that’s a lot like a pitcher bragging about an eight-inning complete game, but we’re proud of how our adherence to a proven formula has put us far ahead of the competition. The simple fact is, the more you conserve now, the more you have for later. That’s true both in your winter energy bill, and your investment portfolio.

Even after being told by an energy auditor that our house was already too Green to trim the heating bill down, I thought, there has to be some more savings to eek out. So I went to Home Depot (HD) and bought some window weatherizing film to cover our cellar windows and some extra insulation to wrap around the few exposed spots of our pipes. I wasn’t the only one poking around for a heating bill edge. I presumed the October market scare would have kept people home, but there were plenty of cars in the parking lot and more than a few folks who seemed to be scrutinizing energy-saving light bulbs for the first time.

No doubt, stores like Home Depot are hurting from the housing market crash, but they are seeing a strong uptick in people looking to minimize their energy bills and maximize their efficiency. In a recent story, the Atlanta Journal-Constitution noted that Home Depot saw a $2 billion surge in people buying environmentally friendly products, including CFL bulbs, low-VOC (volatile organic compound) paints and programmable thermostats since it started its Eco Options program in the spring of 2007. The big box chain is now looking to capitalize on everyone’s newfound frugality by pushing Eco Options more, offering a do-it-yourself home energy audit questionnaire in its stores and rolling out new ad slogans, including the cringe-worthy “Caulk, Baby, Caulk.”

Beyond anecdotal evidence, survey after survey finds Americans are focusing in ever-greater numbers on being Green, be it for money savings or for the long-term near-certainty global warming will wreak havoc if left unabated. A poll released in November by Better Homes & Gardens taken at 15 different home shows across the country found some interesting results. More than half of the 2,300 people surveyed said they had spent more money on a product in the last 12 months because it was Green. One third said they were willing to spend $5,000 or more on eco-improving their house if it meant it would increase the sale value of their home. Other insights from the poll: 73% of people practice recycling, 69% had replaced incandescent lights with CFLs in the past 6 months, 57% report conserving water in the past half year, 51% adjusted the thermostat regularly, while 30% purchased energy efficient appliances. Most of those things are just up Home Depot’s–and Lowe’s (LOW)–alley.

Yet other surveys show that while Americans are rushing to embrace Green, they are also a little confused about what, exactly, they are being told. An April survey by the Boston College Center for Corporate Citizenship and marketing firm Cone LLC, found a “Green gap,” in that Americans want to buy Green products and believe environmental claims but suspect maybe they are not being told the truth. For instance, 47% of people trust the companies to tell the truth in their environmental claims and 45% believe companies are accurately relating their impact on the environment. Yet at the same time, 80% of Americans want third-party certifications on products and 76% want government regulation. All that means there’s a pretty large segment of people in there that trust corporate America, but only so far as they can throw them.

The study’s authors say the indication that Americans are both willing to trust companies and also want third party verification indicates how complex Green issues can be and how many people suspect they don’t fully understand the myriad issues involved. They may have a point. I’ll admit that when my tub drain was clogged recently I bought the “organic” orange cleaner from Zep at Home Depot. That’s even though I know the term “organic” means nothing with regards to chemical products and by every other measure on the label the cleaner seemed just about identical to the same nonorganic, non-scented product by the same company one shelf over. I hope the “organic” cleaner was better for the environment, but I fear the only true difference was that I paid $3 more.

Just over a year ago my wife and I moved into our new house in the tiny town of Nahant, the smallest town by area in Massachusetts–slightly more than a square mile stuck out to sea a bit north of Boston. Like with any new house, it takes some time to figure everything out. For us, the immediate issues when we moved in were what color to paint the walls, what we should keep our cats from climbing on and what room to give to our then-expected, since-arrived baby, Lila. Like anyone who has moved into a new house or apartment, you know other things that take longer to determine–which neighbors are nice (just about all of them), what restaurants deliver (reliably, only Chinese), and how much utilities end up costing (a lot!).

There is no escaping the fact that heating a home in winter isn’t going to be cheap. And last year the average homeowner paid a lot more to heat their house at least 10% more no matter what fuel you used–natural gas, propane, oil and even, as my brother-in-law in Maine reported–firewood.  This year, the expectations are for prices to hit us all harder. The Energy Information Agency says electricity and propane heat will rise about 11% each, natural gas 18%, and heating oil a stunning 23% to around $2,300 for the average household.

Since Lila arrived, my wife Jeanne won’t go for me playing Snow Miser and unfurling my chilled finger to turn the thermostat down. Since we’re committed to heat the house to a Florida-like 68 degrees (OK, OK, Jeanne, 70), we arranged for our energy provider, National Grid, to come by and give us a home energy audit.

Apparently, a lot of people have had the same idea, since we had to wait four months for our appointment, but he arrived on time last Tuesday. He measured our square footage, checked out our insulated attic, examined our Energy Star appliances and high-efficiency gas furnace, praised our on-demand water heater and even peeked at what apparently is fantastic wall insulation.

The good news: we’re the best house he’s ever checked out. And that’s the bad news, too. My hopes for trimming the heating bill this winter went out the window–or would have, had I not been so good about caulking them when we moved in.

“Oh well. Everybody wishes they could pay less. Be glad you’re not using oil,” the examiner told me, slipping a couple of CFL (compact fluorescent light) bulbs into my hand as he departed, like some energy high roller.

If you’re looking for more information on stocks and investing, it can be found here and here. Some of our posts are included there along with other great pieces on the economy, finances and investments. Enjoy!

Warning: The following post contains a rant.

After years of buying gadgets, cars and whole wardrobes on credit, the gravy train has stopped. Not only has it stopped, it’s derailed and is hurtling off of a cliff. Many people have locked up their purses and wallets, cut up their credit cards and stopped spending money. American consumers are spent.

Every day it seems we are bombarded with a slew of figures detailing the low level of consumer confidence and how this holiday season is going to be one of deep discounts and little buying. Already, the list of stores that are closing reads like a who’s who of chain retailers, like Circuit City and Linens-n-Things.

Many people are eating out less, forcing them to cook dinner and actually talk to their families. Some aren’t getting 900 channels on their televisions, so they’re playing games, going for walks or reading. Others are putting money into savings accounts, meaning that when they want to buy a gadget, car or clothes, they will be spending money they have actually earned.

How dare they!

The media would have you believe that this is a terrible thing. Maybe I’m old-fashioned, but I was taught to save, invest and live within my means. This means buying a house with a substantial down payment and not overextending credit. Apparently, I’m in the minority on this one.

Now, I certainly don’t want our economy to go up in flames or grind to a painful halt, but I can’t help but think that this reduction in spending is a good thing, at least in part. For years, many American consumers have made shopping into a hobby, some going to the mall weekly, or even daily, to purchase (mostly unneeded) stuff. I was beginning to worry that bargain hunting would become an Olympic sport.

So it’s only natural that eventually the tide would turn, that American consumers would put the brakes on and stop overspending. It makes sense that after years of living on credit and not saving a dime, many American consumers would stop, take stock of things and realize that such a lifestyle can’t be sustained indefinitely.

But things can go too far in the other direction just as easily. Not spending is not healthy for our economy, it will put people out of work and eventually the wheels of commerce will stop turning. While I might think that a return to a more conservative way of spending is a good thing, I wouldn’t advocate a total end to the modern age of consumerism.

What we need is to find a balance between overspending and not spending. Maybe a whole new wardrobe isn’t necessary every season, but having a few new pieces of clothing probably won’t break the bank. It’s striking that balance that’s going to help lead the U.S. economy out of the rut we’ve gotten it into, and, more important, keep us on a sustainable growth path going forward.

OK, rant over.

If you’re looking for more information about the stock market, investing and the economy, the Finance Fiesta contains something from us and a lot of other great pieces on these topics.

Yesterday I wrote about my first approach to value investing and today I’m going to write about my second one. My second value approach is called the Wise Owl Model, so named because I wanted everybody to think that the approach is wise.  (Clever, eh?)  The methodology is based upon a meeting between Benjamin Graham and my former college professor, Dr. Wilson Payne.

In the meeting, Benjamin Graham and Dr. Payne developed a method for estimating the intrinsic value of a company. From that came methodologies for calculating the Maximum Buy Price and a Minimum Sell Price.  Dr. Payne then taught me and many other students these methodologies.  The estimated prices are not perfect, but when intelligent analysis is added, results are outstanding.

My goal in the Wise Owl Model is to find sound, high-quality companies with positive outlooks.  Buying industry leaders with annual 20% to 30% price appreciation potential makes sense to me, especially if losses are few and far between.

The system is not infallible (none is), but as Benjamin Graham once said, “Investors do not make mistakes, or bad mistakes, in buying good stocks at fair prices.”

Ward’s Words of Wisdom: Buy an industry leader at a low price and sell at a higher price.  Buy low and sell high–it’s that simple!

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I download a large amount of data into my computer each month and then turn my computer loose to determine preferred buy and sell targets for my stocks.  My database includes 10-year histories of sales, cash flow, earnings, dividends, book value and price per share for about 1,000 companies.

The initial objective is to organize the numeric history of each company, so that future stock prices can be predicted.  Calculations can be a little tricky, because anomalies such as deficits, exceptionally good or bad years, or a multitude of other variables could throw the predictions out of whack.  But I’ve programmed my computer to deal with anomalies, and the resulting stock price forecasts are quite accurate.

Each month, I publish my price predictions for 250 companies in the Cabot Benjamin Graham Value Letter.  I recommend that investors buy at or below my Maximum Buy Price and sell when the stock reaches my Minimum Sell Price.  It’s that simple.

Everybody wants to buy when a stock is undervalued and sell when the stock price is fully valued.  But the trick is having a proven, time-tested system that helps you spot bargains, and rip-offs.  It’s taken years to hone, but that’s what my system is able to do!

Many years ago, I was taught to believe that value investing, using fundamental analysis, is the best long-term approach when making investment decisions. I was taught to buy stocks at bargain prices and wait patiently until they become overpriced.

In the years since, I learned some growth and momentum techniques as well. I never argue whether one approach is better than another. But I do believe in using more than one methodology when choosing stocks to diversify my portfolio; broad diversification reduces risk significantly. Thus my portfolio contains a mixture of growth stocks and value stocks.

In previous Cabot Wealth Advisories, some of the other Cabot editors have described how to find the best growth stock opportunities. Today I will describe my methodology for discovering sound value stock opportunities.

I have two favorite approaches to find stocks that are selling at bargain prices.

The first is to find stocks that are cheap, and I use Benjamin Graham’s criteria to guide me. Benjamin Graham is known as the father of value investing and Warren Buffett is his most famous protégé. Why try to re-invent the wheel when a proven, excellent system is there for the taking?

In his book, “The Intelligent Investor,” Mr. Graham details seven criteria to identify a bargain stock. Included in his criteria are: low price-to-book value ratio, low price-to-earnings ratio, strong balance sheet, some earnings growth and no earnings deficits during the last five years. In addition, the company must be currently paying a dividend and the future outlook for the company must be positive.

I know what you are thinking–this is old-fashioned stuff and won’t work in today’s fast-paced stock market. But that’s not true; Warren Buffett has become the richest man in the world using the old-fashioned knowledge he gained from Benjamin Graham.

If a stock meets all the criteria, and is trading well below its fair value, I use my checklist as described above and wait … and wait … and if necessary I wait some more for the stock to reach my Minimum Sell Price.

Warren Buffett has said, “Only buy something that you’d be perfectly happy to hold if the market shut down for 10 years.”

What about us ordinary investors who can’t wait 10 years? I have an easy solution–I buy when a stock is undervalued and sell when it becomes overvalued. Historically, it takes about two years for this to happen, on average.

The basic principle is simple: The stock market and the individual stocks that make up the stock market have always bounced back and forth from overvalued to undervalued to overvalued, over and over again. As a value investor, I am simply taking advantage of the fluctuations of the stock market.

Moving on to investments, and sticking with the health care theme, I want to remind you of Cubist Pharmaceuticals (CBST). Cubist has earned a spot in Cabot Top Ten Report four times since September.  In last week’s issue, here’s what editor Michael Cintolo wrote.

“Despite the numerous advances made in medicine in recent decades, the basic science of infection control remains a challenge. We all know that one of the risks of entering a hospital is acquiring an infection. And one of the most common challenges is fighting infections of the skin and bloodstream. Addressing this challenge, and making money while doing it, is the focus of Cubist, which until recently received all its revenues from CUBICIN, a once-daily IV bacterial antibiotic approved for treatment of skin, skin structure and bloodstream infections, including infective endocarditis. Its second product is MERREM, used for difficult skin infections, which began contributing to revenues in July. Cubist is also working on products that target infection in the liver, in the gastrointestinal tract and during on-pump cardiothoracic surgery. Third quarter earnings, released three weeks ago, were terrific, and led to increases in analysts’ estimates. We like the growth, we like the healthy margins and we like the still-reasonable valuation.”

Cubist is one of the very few stocks today that is truly acting well.  In short, institutions that are getting to know the stocks are steadily climbing on board, reasoning that future earnings growth in this mass-market industry will be very rewarding.

The broad market is still not in a bullish phase; buying anything still brings plenty of risk.  But if you’ve got an itchy trigger finger, CBST is worth considering.

Whether or not you agree with the outcome of last Tuesday’s presidential election, there’s one pledge that President-elect Barack Obama made that will benefit all of us, as citizens and investors–his energy plan. For too long, we’ve had administration after administration that failed to recognize the energy problems we are facing now and will face in the future. Finally, we have a leader who is promising to reduce greenhouse gases, get the U.S. off its dependence on foreign oil and create Green jobs.

This isn’t about being a Republican or a Democrat or an Independent, it’s about the realization that our oil supply isn’t going to last forever (or, if it is, it’s going to be more and more expensive to get) and we need to do something about it. We remind you often that not taking action in your stock portfolio is a sure way to lose money, becoming paralyzed by a lack of a plan doesn’t work in investing; the same goes with a national energy policy.

Before being elected, Obama laid out a comprehensive energy plan, and according to his campaign Web site, he plans to:

• Help create five million new jobs by strategically investing $150 billion throughout the next 10 years to catalyze private efforts to build a clean energy future.

• Within 10 years, save more oil than we currently import from the Middle East and Venezuela combined.

• Put one million plug-in hybrid cars–cars that can get up to 150 miles per gallon–on the road by 2015, cars that we will work to make sure are built here in America.

• Ensure 10% of our electricity comes from renewable sources by 2012, and 25% by 2025.

• Implement an economy-wide cap-and-trade program to reduce greenhouse gas emissions 80% by 2050.

Obama’s plan is ambitious but necessary, and if passed by Congress (admittedly a big if) it will help propel the Green sector forward. Strides have already been made in the alternative energy field and many young companies are poised to make more, especially as more funding becomes available.

Obama’s pledge to create new Green jobs will not only stimulate our hurting economy, but will fuel the fire in the Green sector. Obama wants to create more Green jobs by injecting money into the private sector to allow companies to use all available resources to improve existing Green technologies and invent new ones.

As more Green jobs are created, more advances in alternative energy technologies will become available. This will allow greater numbers of people (directly or indirectly) to use wind power and solar power to heat their homes and get their electricity and more people will start driving hybrid cars.

Cabot subscribers have already enjoyed great investment success with some of the Green sector’s leading stocks. Cabot Market Letter subscribers rode First Solar (FSLR), the market-leading thin-film solar technology company, from 70 when first recommended to a high of 300 in the course of a year. Thanks to Cabot’s time-tested method of technical and fundamental analysis, we took some profits along the way before finally recommending selling the position when shares still traded above 220–before the stock’s plunge to 95 last month.

And as editor Brendan Coffey reminded us last month, “Cabot Green Investor readers also profited from Green stock recommendations even in this difficult year. We called for buying wind turbine and high-efficiency wire maker American Superconductor in May when shares traded at 26. The stock quickly rallied to above 40. Seeing that shares were technically overbought, we recommended selling half of our position at 41, just six weeks later. After more market fluctuations, we took the remainder of profits at 32 in early August. Shares are now at 13. American Superconductor is a business we believe has long term potential in its developing relationship with major Chinese firms, and we continue to watch it. It’s one of the 10 Green companies we are keeping readers abreast of right now for when the market has finally formed its bottom and the time to buy is right.”

But we feel that’s just the tip of the iceberg.  Many young Green companies are poised to break out once the market turns positive and more are sure to follow should Obama’s energy plan be put into action.