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Updated March 5, 2010

Week Ending March 5, 2010
Come Together
L
ast week saw its share of mergers and the number will only grow in the coming weeks. It's the perfect time for them. (more)
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Difficult Beginning -- Stocks got off to a rough start in 2010, taking our six model portfolios along for the ride. It's a mixed message all around.

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Preliminary Performance -- Forty-three trading days is a short time to evaluate the effectiveness of our new quantitative algorithms, but that doesn't stop us from looking at P3 anyway. Here's what we found.

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Focus on Washington -- Wall Street is taking its cue from Washington. Like it or not, coming decisions by the President, Congress, and the Fed will determine the course of the economic and equity recovery.

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When 2x ≠ 2x -- Leveraged ETFs and mutual funds are growing in popularity, but there are several aspects of these funds many investors don't realize until it's too late. Just consider these two.

 

 

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Don't be scared by the name. Sure it sounds like something you tried to avoid in high school, but there really is something to it. Here -- in plain English -- is how you can make math work for you in portfolio construction.

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Why rely on value, or growth, or any particular style for that matter? There are good reasons to consider each of these approaches -- and they're not as different as you might think.

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Any monkey -- or even mutual fund manager -- can pick a bunch of stocks, but can they really build a portfolio? Here's how you can.

 

 

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The old page museum where you'll find previous commentary ("Stating the Obvious"), economic forecasts ("True Facts"), and evolution of our quant models ("Work in Progress"). Nothing's changed although dead links have been removed.

 

Weekly Commentary & Statistics:



For the Week Ending
March 5, 2010

One of the problems with the current market rollercoaster is that the various jumps and dips aren't really investable. Many are just the result of short-term momentum or reactions to current political, economic, or industry events. By the time you notice it, it's ending.

If last week was any indication, that may be starting to change. Merger Mondays may be back -- and that's a good thing.

Three major mergers were already being reported by the time traders arrived at their desks Monday morning: Germany's Merck KGaA (not the U.S. pharmaceutical Merck) was purchasing Millipore, MSCI was buying RiskMetrics Group, and Britain's Prudential PLC agreed to buy AIG's Asian division. On the day, Millipore jumped 11 percent, RiskMetrics was up 13 percent, and AIG rose a more modest 4 percent. In anticipation of more mergers to come, the Russell 2000 climbed 2.2 percent.

With the economy nearing the turning point, business valuations are poised to rise. Companies seeking to increase their market share (horizontal merger), cut supply costs or increase distribution (vertical merger), or simply branch out into other profitable lines of business (conglomerate merger) need to act now before acquisition costs rise.

If the economy does turnaround, the transaction may quickly pay off. Target companies may put up less of a defense when earnings have been down and shareholders are hungry for value. In short, this is the perfect environment for merger and acquisition activity.

Unlike other trends, this one is investable. There are at least two ways to play it. First, if you're a good analyst, you may be able tospot potential targets before offers are actually made public. If so, you can reap rewards like those one-day gains enjoyed by lat week's targets.

If you're not that good of a detective, you can still turn a short-term profit by taking advantage of the risk arbitrage typically priced into the target's price until the deal actually closes. In the case of Millipore, you could have purchased the stock at the close on Monday for $104.90 after the deal was announced. The purchase price is $107, roughly a two percent difference. The deal is scheduled to close in six months or so, turning that into 4.1 percent annualized. Not bad for simply holding a stock.

GREAT DAY FOR A SALE
Millipore (MIL)
Week Ending March 5, 2010
Graph -- Millipore, Week Ending March 5, 2010 Source: S&P ComStock
Investors in Millipore enjoyed an 11% gain when the sale to Germany's Merck KGaA was announced. Those who were a little late for the party may still benefit, but not nearly as much.

Of course there are risks involved, too. That's why there's still a premium to be had -- there's the possibility the deals may not close as anticipated. However, in the case of Merck/Millipore, the ownership structure of the acquirer is such that there's little chance shareholders will object. Millipore's shareholders will get a nice premium, and there really aren't any anti-trust issues. Indeed, had any of these issues been a concern, the risk arbitrage would have actually been greater.

There's obvious risk in attempting to find the next acquisition targets, too. If you're wrong in you choices, at the very least you'll be out your transactions costs, at the worst, your potential targets could decline leaving you with a capital loss.

The connection between risk and return hasn't been severed, but it does allow investors to profit. It's good to see something investable coming back into the market. Perhaps others will soon follow.


MODEL PERFORMANCE
Through 3/5/2010

Year-to-Date
Portfolio 1 (Large Cap) 0.74%
Portfolio 2 (Small Cap) 5.38%
Portfolio 3 (Large Cap) 2.62%
Portfolio 4 (Large Cap) 1.92%
Portfolio 5 (Style Blend) 5.54%
Portfolio 6 (Balanced) 1.92
DJIA (Large Cap) 1.32%
S&P 500 (Large Cap) 2.12%
S&P 400 (Mid Cap) 6.03%
NASDAQ (Cap Blend) 2.52%
Russell 2000 (Small Cap) 6.50%

Cumulative
Model Return
Graphs

TECHNICAL INDICATORS
Week Ending 3/5/2010
Direction BUY
Weekly Value +8
Last Change 10/9/09
Last Buy Signal 3/5/10
Last Sell Signal 3/6/09

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