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25 top stocks to buy on a January dip
One year's hot stocks often slip as the new year begins, giving investors a chance to find bargains.
By Michael Brush
Over the next few weeks, many investors will scout for ways to play the "January effect," the rebound of this year's losers that'll get beaten down even more in the coming days by tax-loss selling.
Another approach is to wait a week or two more and play what I'll call the "reverse January effect." This is the heavy selling as January starts of 2004's biggest winners by people who were holding off selling to delay paying taxes on gains.
Selling like this may hit the shares of this year's strongest performers and provide a great opportunity to buy solid stocks on the cheap. I've noticed this scenario play out in my portfolio year after year. But is it really something that happens in the market as a whole?
For help with that question, we turned to Victor Niederhoffer, a former MSN Money columnist and advisor to the Matador Fund, and Tom Downing, his research assistant. Their work shows that the reverse January effect is a pattern you can use. For full results of his research, visit Niederhoffer's site, http://dailyspeculations.com/.
In 1999, for example, the top 100 stocks in the S&P 500 ($INX) from the prior year fell 3.8% in January's first week, but they were up 11% three months later. And on average, in the past seven years, the 100 best stocks declined by 1% in the year's first week. Then they were up 5% six months later, and 7.5% by the end of the year.
Looking beyond the average
Now, that 1% dip may not sound like a big deal. But remember two things. First, Matador Fund didn't run the tests on a small-cap index like the Russell 2000. If it had, you'd likely see an even bigger effect in these less-liquid names. Second, inside a group of stocks that falls a small percentage on average in January's first week, some really good stocks decline by 10% or more, offering significant discounts.
Take Deckers Outdoor (DECK, news, msgs), a company I suggested readers buy in July 2003 when it traded around $7.50 a share. By the end of 2003 it was going for $21. Deckers slipped to $16.60 in early 2004, then climbed to above $47 last week. Or what about LCA-Vision (LCAV, news, msgs), another 2003 top performer, up 828% that year? It blipped down to $18 from $21 right as 2004 began, before trading through $35 recently.
Which stocks will pull this stunt this year? The obvious place to begin the hunt is the top 200 performers so far this year, 20 of which I've featured in Company Focus in the past 18 months.
I circulated the list among several of the consistently solid-performing money managers for predictions about which of these 2004 stars should continue to shine in 2005. Remember that not all of these stocks will actually fall in January. There are years when the "reverse January effect" doesn't happen at all, according to Manchester Trading. But even if these stocks don't decline, the list is a useful guide to 2004's top performers that should continue to do well in 2005.
Energy stocks, again
Oil above $55 per barrel, driven there in part by a "terror premium" ahead of the presidential election, seems like such an anomaly that it's hard to imagine chart-topping energy stocks will do well again in 2005.
But energy analysts at NWQ Investment Management think that Range Resources (RRC, news, msgs) and Southwestern Energy (SWN, news, msgs), two names from 2004's top 200, may be exceptions. The reason: Both are sitting on "long lived" reserves. This means their development costs will be relatively low next year because they won't have to pay up for reserves in this pricier energy environment, unlike many competitors. NWQ has positions in both stocks.
I also like Delta Petroleum (DPTR, news, msgs) and Goodrich Petroleum (GDP, news, msgs), both of which I wrote about in September, and Harvest Natural Resources (HNR, news, msgs) and Cheniere Energy (LNG, news, msgs), both of which I wrote about in January. The trends identified in those columns are still in place.
Do as the Greeks do?
The shares of high-flying shipping stocks like OMI (OMM, news, msgs) are doomed in 2005, goes one line of reasoning, because of the simple rules of supply and demand. Shipping rates have been driven up by capacity shortages and tighter regulations that will prohibit single hull ships. This is spurring new ship construction, so excess supply will soon make shipping rates plummet. Besides, say some observers, Greek shipping magnates are selling ships, and historically they have a knack for selling at the top.
None of this fazes John Buckingham, a value manager at the Al Frank Fund (VALUX, news, msgs), which holds several shipping stocks despite the fact that they have tripled this year.
"It is not as if you can go out and build ships tomorrow and put them into service," Buckingham says. "It takes a long time to build them, and the shipyards are all full."
Besides, new ships coming on line will be offset by those being put out of service because of tighter regulations. "That is why the cyclical nature of this business is going to be diminished," he says. Buckingham is telling subscribers to his Prudent Speculator newsletter to buy OMI below $18.50 and Frontline (FRO, news, msgs), another holding of his, below $65.
China keeps buying
Steel is a commodity, which means pricing can change direction quickly. This is why steel stocks look scary after the run they've had. But Joe Dancy, a small-cap value investor who runs LSGI Advisors in Dallas, isn't worried about steel prices tumbling. Demand from China will keep that from happening.
"China's demand for steel increased substantially in the last two or three years and most analysts expect it to increase 8% to 10% next year," Dancy says.
Steel shortages are so dramatic that car companies like Nissan Motor (NSANY, news, msgs) and Suzuki Motor recently cut back on planned production for lack of steel. "Whenever you have major demand like that not being met, the pricing environment is pretty positive," he says.
Some of the top-performing steel companies still look cheap, says Dancy, whose micro-cap fund is up 16.1% on an annualized basis over five years. For example, a holding of his called Friedman Industries (FRD, news, msgs) has trailing 12-month revenue growth of 54%, a price-to-earnings ratio of 10 and a price-to-sales ratio of 0.4. "The valuation is incredibly appealing for a company that is growing revenues and earnings in an attractive sector," says Dancy, whose fund holds the stock.
Steel stocks on the top 200 list with the best earnings estimate revisions include: AK Steel Holding (AKS, news, msgs), NS Group (NSS, news, msgs) and Titan International (TWI, news, msgs). Upward earnings estimate revisions are often a sign of solid long-term trends. Similar "numbers bumps" served as a great "buy" signal for the steel group in May.
Still betting on the consumer
Many analysts worry that the rise in interest rates and slowdown in home refinancing will squeeze consumer-oriented businesses next year. Indeed, I'd be careful with top-performing retail names where insiders have been unloading shares aggressively, like Parlux Fragrances (PARL, news, msgs). But others may continue to do well.
Dave Hutchison, an analyst at newsletter OTC Insight, likes woman's clothing retailer Coldwater Creek (CWTR, news, msgs) even after its hefty gains this year. Besides solid growth at stores open at least a year, a key measure of a retailer's health, the company plans to increase its store base by 50% next year, says Hutchison. Hulbert Financial Digest regularly ranks OTC Insight among the top 10 newsletters for long-term results. Insight Capital Research & Management, which run OTC Insight, holds Coldwater shares.
Carl Wiese, a money manager at Wall Street Associates in La Jolla, Calif., thinks online flower-and-food vendor Provide Commerce (PRVD, news, msgs) will post above average gains next year. Revenue growth has been north of 50% in the past two quarters. The company continues to take market share, in part by selling flowers direct from producers so they're fresher. And Provide, a Wall Street Associates holding, is expanding into the sale of fruit and high-quality meats.
Tim Ghriskey, chief investment officer at Solaris Asset Management, thinks there's more upside for Apple (AAPL, news, msgs), a holding of his fund. He cites iPod sales, but also a "halo effect" that he thinks will influence iPod fans to buy Apple computers when they upgrade.
More room to grow
I believe the dynamics I've described for several consumer stocks on the 2004 best performers list remain in place and could lead to higher gains next year. They include Overstock.com (OSTK, news, msgs), which I wrote about in October, Kmart Holding (KMRT, news, msgs), which I wrote about in September, Lions Gate Entertainment (LGF, news, msgs), which I wrote about in June, Martha Stewart Living Omnimedia (MSO, news, msgs), which I wrote about in January, and the restaurant chains Famous Dave's of America (DAVE, news, msgs), Rubio's Restaurants (RUBO, news, msgs) and Mexican Restaurants (CASA, news, msgs), which I wrote about in June.
Perhaps the 2004 top performers most vulnerable to a downdraft in early 2005 are the micro-cap names, because there's so little liquidity. For help with these, I turned to Kevin Kennedy of the Coolcat Explosive Small Cap Growth Stock Report, another newsletter highly ranked by Hulbert Financial Digest.
Kennedy likes stocks with high relative, meaning they're up significantly more than the average stock. He also looks for stocks with floats, or shares available for trading in the open market, of less than 15 million shares. Kennedy has "buys" on these 2004 top performers: LMI Aerospace (LMIA, news, msgs) and Zones (ZONS, news, msgs). Kennedy doesn't have personal positions in stocks he recommends.
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