Shapin up to be a good day

Quite a few thoughts today - many of them off topic. First off - I have no class tonight which is a great break and will allow me to catch up on the research paper I need to finish for next week. Second - I want to recount something strange that I saw this morning at 7-11. Every morning I hit 7-11 for my coffee and breakfast biscuit. The price is right as even after the breakfast biscuit I am usually savings $1-3 vs. Starbucks. Anyways - this morning I ran into two heavy set women positioned in front of the nacho cheese machine at 8 AM in the morning. Now I can understand a hot dog in the morning (guilty as charged) - but these two had two grande bags of flaming hot cheetos OPEN. They each had forks and they poured nacho cheese to the brim of their bags and proceeded to mix it in with the flaming hot cheetos and devour it for breakfast. Atkins diet? I dont think so......If anyone has tried this or can relate - please comment - because this totally shocked me. Third - a client brought us two boxes of See candies today. :)

On the stock front I am down slightly on both positions (JPM and WM) and have so far avoided the knife on the earnings reports with both stocks trading down slightly. The market is in super bull mode however and it is tough to fight the trend. Still I don't think we can hold 12K on the Dow. I don't know well see.

I had some reader input today regarding a couple of the larger Dow Jones Transport Companies - Fedex and UPS. Mainly a comparative between the two from a fundamental perspective - which one is the better value, etc. I will discuss this a little bit but I think the bigger question here is not which is the better value but instead what section of the business cycle are we in? I think that we are in the last quarter of the expansion leading up to a recession - probably lasting at least 4 quarters. (Expected start date Q1- 2007)

Typically the transports get hit during a recession because there is less demand for products and shipping those products. Of course there are some other big factors affecting these stocks in addition to demand - such as fuel costs. I would expect to see a negative correlation between both USO (oil etf) and UPS or Fedex. I think that the following chart makes this evident:

Chart shows relative performance of DJ Transports Index v. USO (oil etf.) from September (start of oil selloff - forward)-



Oil will also fall in price during a recession so the improvement in margins may partially offset the slowdown in business. I think we have to assume though that we are at the top of the cycle for these stocks and the economy as a whole and that we can expect these stocks to perform poorly during a recession. I would rather buy these stocks at 52-week lows instead of the 52-week highs that they are at right now.

As a good analogy - some other readers showed interest in energy stocks only a few short months ago. Some significant interest was shown in Cameco (CCJ) a Uranium company. I offered similar advice back then as Cameco was at 52-week highs in the 40s. Now trading around 37 - you can chart it and try to pick it up closer to a cycle bottom (probably in the 20s). At the time energy was at a cyclical peak and the valuations reflected the strong business. Now that oil has sold off (potentially as an early indicator of slowing demand and economic growth) - these stocks are trading down as much as 25% from the former highs.

Bottom line is that when you are taking a position even with as long a time horizon as 2-3 years - the price you buy the stock at does matter. A difference in purchase price of even 10% can have a huge impact on 2-3 year compound returns.

If this is a lifetime holding (barring accounting fraud or some other bs) - then that is the one caveat. If you do all the fundamental research and come up with Fedex or UPS as the best bet and then swear to dollar cost average with dividend reinvestment plan running the entire time and by buying in EQUAL monthly, quarterly, yearly increments - then who cares where you start because over 20 years the costs will average out between good and bad times to give you an average cost basis and you can just liquidate when it hits a super bull cycle sometime in the enxt 10 - 20 years.

Still, I think the long term secular trend has to be huge for these companies. They are both the leading world shippers and with UPS' market cap around $80 billion and Fedex at $30 billion - both are large cap - but there is a still a lot of room for growth. When we consider China opportunities, globalization, and online shopping I would expect that these companies could some day grow to be megacap stocks in the $100-200 billion range. A long-term investment here could reap great rewards. Just remember the cyclical aspect though if it is more of a trade (even 1- 2 years would fall in this category).

If I took the 1-2 year holding period into context and was trying to come up with the best plan- how would I do it? Options. I know, I know - always options too leveraged and dangerous - but here I would pick the holding period - say two years and buy the 2009 call options - but deep deep in the money. For example - I would buy a 2009 call as far in the money as I could go and simultaneously sell an at the money put. This allows me to basically take on the position for 1/2 the cost and assuming the stock rises I can buy back the put at 50% or less of what I paid for it.

What if the stock goes down? Well.......assuming that this is still a stock I want - I should be excited about the drop in price and I can have the stock put to me on the at the money strike price (say Fedex is at $110 and I sell a $110 put option out to 2009 - I collect a $16 premium on the put which reduces my cost in the stock to $94).

The point is though that you still want to execute this strategy at the bottom of the cycle - not the top. That is where you maximize your return potential.

On a fundamental basis I think it will be more interesting to compare the two after the down cycle in business as well - we can see who whethered the storm the best. My gut here tells me Fedex as they handle most of the business related shipping (overnight letters, etc.) whereas it appears that UPS does more shipping of goods. Could be too superficial of an analysis - time will tell.

Best regards,

BG