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Bumper trading gains

Bumper trading gains
January 23, 2013
Bumper trading gains

The problem with this theory is that it is based on the fact that markets work efficiently at all times, and market participants will arbitrage away the valuation anomalies as soon as they appear. It is also based on the assumption that investors act rationally at all times, too, which clearly is not the case; otherwise we would not witness the dramatic swings in investor sentiment from periods of over exuberance to utter despair which characterise the peaks and troughs in the market. Moreover, different investors will have different estimates of what is fair value for the equity of a company. But even if the majority do concur, share prices very rarely stop rising at their fair value since it only takes a small minority of investor buying to take them beyond this point.

So when they overshoot, this not only offers scope to take profits at a level far higher than you first envisaged, but there is also the potential to reverse a trade and try to gain from a reversion to a company's long-term mean share price rating. Equally, if the majority of market participants are too pessimistic at any one point in time, it offers scope for value investors to seek out these apparent anomalies on the basis that any improvement in sentiment could have a disproportionate impact on valuations.

In essence, this is one of the reasons why my annual Bargain share portfolios have done so well over the years and why my Dogs of the S&P 500 portfolios have produced bumper gains, too. And their records of delivering long-term growth have held up in the past year: my 2012 Bargain shares portfolio is currently up 31.1 per cent on an offer-to-bid basis since Friday 10 February 2012, which marginally lags the total return of 31.7 per cent on Fidelity UK Smaller Caps Fund in the same 50-week period, albeit that return is on a bid-to-bid basis. That fund is the best-performing small-cap fund out of the 56 funds in this segment in the past year, according to Trustnet.

How Simon Thompson's 2012 Bargain Shares Portfolio has performed

CompanyTIDMOffer price, 10 February 2012  Closing bid price, 22 January 2013 Dividends paid (p)Total return (%)
Telford Homes (see note 5) TEF91.72053.5127.4%
MJ Gleeson  GLE110185068.2%
Molins (see note 2)MLIN1071585.2552.6%
Stanley Gibbons (see note 1)SGI1782406.2538.3%
Indigovision (see note 3)IND3253288025.5%
Trading Emissions (see note 8)TRE25.2524618.8%
Bloomsbury Publishing (see note 6)BMY1151245.2512.4%
MallettMAE73660-9.6%
Rugby Estates (see note 4)RES4333300-9.6%
Eurovestech (see note 7)EVT9.36.751.32-13.2%
Average   31.1%
FTSE All-Share 30443243 6.5%
FTSE Small-cap index 30513607 18.1%
FTSE Aim index794738-7.2%
Notes    

1. Stanley Gibbons paid a dividend of 3.5p a share on 21 May and 2.75p on 1 October.

2. Molins paid a dividend of 2.75p a share on 11 May and 2.5p on 11 October.

3. Indigovision paid a dividend of 5p a share on 19 April and 75p a share on 30 November.

4. Rugby Estates purchase price adjusted for 7:3 share consolidation and capital return of 250p a share (through 'B' and 'C' shares) in June 2012.

5. Telford Homes paid a dividend of 1.5p a share on 20 July and 2p a share on 11 January 2013 (ex-dividend: 12 December).

6. Bloomsbury paid a dividend of 4.31p a share on 25 September and 0.94p a share on 30 November.

7. Eurovestech paid an 'E' share dividend of 1.32p a share on 21 September. Shares delisted from Aim on 24 September and trading is now on the Matched London Facility.

8. Trading Emissions paid a dividend of 6p a share on 11 February 2013 (ex-dividend: 16 January 2013).

The performance of my Dogs of the S&P 500 portfolio is equally impressive, rising by 19.4 per cent (excluding dividends) since the close of trading on Friday 28 September to the close of trading in New York last night. This compares rather favourably with the 3.6 per cent rise in the benchmark index in the same 16-week period. Clearly, there are other factors behind this impressive outperformance, but what can not be in doubt is that picking these US Dog shares out from the crowd based on sound research has played a part, too - something that shouldn't happen if you follow the efficient market hypothesis to the letter.

How Simon Thompson's US Dog Share Portfolio has fared

Company Closing price, 28 Sep 2012 ($)*Latest price, 22 Jan 2013 ($)*Percentage change (%)
Genworth (GNW; NYQ)5.239.4280.1
Alpha Natural Resources (ANR: NYQ)6.579.9451.3
First Solar (FSLR: NSQ)22.1531.5842.6
United States Steel (X: NYQ)19.0725.1832.0
E*Trade (ETFC: NSQ)8.8010.3818.0
Devry (DV: NYQ)22.7624.005.4
Avon Products (AVP: NYQ)15.9516.563.8
Hewlett-Packard (HPQ: NYQ)17.0617.251.1
Best Buy (BBY: NYQ)17.2015.39-10.5
Apollo Group (APOL: NSQ)29.0520.30-30.1
Average19.4
S&P 5001,4401,4923.6
Source: New York Stock Exchange closing prices on 28 September 2012 and on 22 January 2013

Call busting numbers from Netcall

A further example of taking advantage of market anomalies occurred last week when I advised readers to buy shares in two companies - marketing services provider Communisis (CMS: 49p) and Netcall (NET: 36p), a small-cap business offering software to make telephone call-handling more efficient - before both released pre-close trading statements. That's because we were virtually guaranteed good news from both companies which, in my opinion, would lead other investors to buy when the companies made their announcements.

This is exactly what happened as shares in Netcall have since moved up from a bid-offer spread of 29.5p to 31p ('Jumping the gun: take two', 15 Jan 2013) to a spread of 35p to 37p post the bullish trading update yesterday, which confirmed the company is continuing to deliver strong operating cash flows and sales growth, while at the same time integrating a smart and earnings-enhancing acquisition. What's more, Netcall expects further cross-selling and up-selling opportunities from that deal, which means that broker earnings estimates are well underpinned for the full-year to the end of June 2013.

It would be no surprise to see further acquisitions being made, but even without them the shares still look attractively priced even though they hit my target price of 36p intraday yesterday. That's because conservative looking forecasts imply adjusted EPS will rise 15 per cent to 2.3p in the year to June 2013, so, net of a burgeoning cash pile now worth £8.2m or 6.8p a share, the shares are trading on a reasonable 13 times earnings estimates. But since £300,000 of the £500,000 profit uplift in the pre-tax profit forecast of £3.8m comes from the Serengeti acquisition mentioned above, the risk to estimates remains on the upside, especially since Netcall is now generating cross-selling opportunities.

So, if you followed my advice to buy the shares at 13p two years ago ('Queuebusters', 17 Jan 2011), or when I reiterated that advice last year at 19.5p ('Three undervalued small caps', 30 Jan 2012) and at 31p ('Small cap wonders', 1 Oct 2012), I would continue to run your profits. The company is due to report results on Wednesday, 20 February.

Communisis dials the right numbers

The same is true for Communisis, which continues to make the operational progress needed to justify the re-rating of the shares since I commenced my coverage of the company last year. To recap, I first advised buying at 28.5p ('Small cap trading buy', 13 Feb 2012); I reiterated that advice when they were at 40p ('Communisis shares to fly', 19 Oct 2012); and at 36p ('Happy Capital returns', 17 Dec 2012). In fact, I was so convinced that the company would not disappoint in a forthcoming trading statement ahead of full-year results on Thursday 7 March 2013, that I recommended buying again at 44.5p last week ('Jumping the gun', 14 Jan 2013).

We were not disappointed as the trading update confirmed that the pipeline of business remains strong and the significant contracts that are already secured, including the recently announced agreements with BT and Nationwide Building Society, will contribute from early in 2013.

I now feel that the risk to earnings estimates for 2013 is decidedly skewed to the upside. Currently, N+1 Singer expects revenues to rise to £235m and pre-tax profits to increase from around £10.5m in 2012 to £11.2m in 2013, which would produce EPS of 6.1p, up from the broker's 5.7p estimate for 2012. On that basis, a further rise in the company's dividend to 1.8p a share this year, as the broker predicts, is hardly unrealistic, especially as earnings per share would cover that payout more than three times over.

It's worth pointing out, too, that Communisis - which is now reaping the benefits of a lower and more efficient cost base following a major restructuring effort in 2011-12 - is well into bargain basement territory as its shareholders' equity of £128m is only being valued at £69m. This means that the shares, currently priced by the market on a bid-offer spread of 48p to 50p, are being rated on a sizeable 47 per cent discount to book value of 93p. That looks anomalous and it's not as if the company has any pressing financial worries to concern us with. In fact, it has been slashing borrowings sharply and revealed this week that net debt had been cut a further 15 per cent to £21m, so gearing is comfortable at only 16.5 per cent. This is well within the company's revolving credit facility of £45m, which runs until August 2014. Communisis also has a £5m overdraft facility that is renewable annually.

Priced on a tight bid-offer spread of 47.5p to 49.5p, I rate Communisis's shares a buy on eight times earnings estimates for 2013 and offering a prospective yield of 3.7 per cent based on a dividend of 1.8p a share. I maintain my target price of 55p, which, if hit, would give the company a more realistic forward earnings multiple of nine and a prospective yield of 3.3 per cent. Ahead of full-year results, which will make very pleasant reading on Thursday 7 March, I remain a firm buyer.

■ Finally, I will be taking a four-week break during April to complete a book on 'Profitable stockpicking', my follow-up to Trading Secrets: 20 Hard and Fast Rules to Help You Beat the Stock Market. The book will be published in early summer. Please note that my next online column will appear on Thursday 24 January 2012 on my homepage.

MORE FROM SIMON THOMPSON ONLINE...

In the past few weeks I have written a number of online exclusive articles, all of which are available on my homepage. These include articles on the following companies or investment strategies:

Crystal Amber, API, Sutton Harbour ('More upside to come', 22 Jan 2012)

PV Crystalox Solar ('Seeing the light', 21 Jan 2013)

Bloomsbury Publishing ('A publisher for the digital age', 18 Jan 2013)

Housebuilders first-quarter effect; and performance table on all Simon's recommendations from the final quarter of 2012 ('Stockpicking Marvels', 16 Jan 2013)

Eros ('A share firmly in the picture', 15 Jan 2013)

Netcall ('Jumping the gun: take two', 15 Jan 2013)

Moss Bros, Communisis ('Jumping the gun', 14 Jan 2013)

Stanley Gibbons, MJ Gleeson, Spark Ventures ('Small cap wonders', 11 Jan 2013)

IQE, Trading Emissions ('A tech share worth buying now', 10 Jan 2013)

S&P 500 portfolio of dog shares ('Dog shares barking back', 8 Jan 2013)

Air Partner ('A share ready to take off', 7 Jan 2012)

FTSE 100 traded options strategy ('Highly profitable options', 3 Jan 2012)

Telford Homes, MJ Gleeson, Molins, Noble Investments ('Rampant bargain shares', 31 Dec 2012)