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Quantum Growth Weekly Update: 05/05/2008

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NEW BUYS: Adobe Systems (ADBE), Compass Minerals International (CMP), Corning (GLW), Sohu.com (SOHU) and Terex (TEX)

NEW SELLS: Chart Industries (GTLS), GeoEye (GEOY), Rick's Cabaret International (RICK) and Sierra Wireless (SWIR)

Things on Wall Street are definitely turning our way. Not only is it very likely that the Fed is finished with its interest rate cuts, which is a very bullish sign for us, but also, last week's GDP report was much better than what many analysts feared.

Several of our stocks have been jumping higher. Marvel (MVL), for example, soared over 9% today on very strong earnings. Also, our three Brazilian banking stocks all jumped by double-digits last week. S&P upgraded the country's debt, which is an important acknowledgment of Brazil's economic progress.

This is a great environment for fundamentally superior stocks. This week, I have five new buys for you; Adobe Systems (ADBE), Compass Minerals International (CMP), Corning (GLW), Sohu.com (SOHU) and Terex (TEX). Last week, Sohu reported that its earnings soared 358.3%, and Corning reported an increase of 220%.

This will be another busy week for earnings. Tomorrow, Banco Itau (ITU) reports its earning. On Wednesday, Transocean (RIG) reports earnings. Then on Thursday, we're going to have four of our stocks reporting; Activision (ATVI), OM Group (OMG), Priceline.com (PCLN) and Unibanco (UBB).

Recession? What Recession?

Last week was simply a stunning week for us. We had the last rate cut from the Fed, the first estimate of first-quarter GDP growth and the April payroll report. I have to explain that Wall Street lives on perception, and until last week, the perception was that everything in the economy was horrible. But now we know that the economy isn't nearly as sick as previously believed. Wall Street likes to read the headlines and miss the details, so let's dig into the details.

The GDP report showed that the economy grew by 0.6% for the first three months of the year. The key factors were inventory building, rising exports and, believe it or not, persistent consumer spending. The inventory and export growth was expected, but the strength in consumer spending took everyone by surprise.

Inventory building added 0.8% to GDP growth, yet final domestic sales dropped 0.4%, which was the first decline in 17 years. Economists now estimate that inventories will contract in the second quarter. In fact, most economists believe that the second-quarter GDP will decline by at least 2%.

There were some troubling signs in the GDP report. Business spending, for example, dropped by 2.5%. Residential investment plunged by 26.7%, which was the worst performance for housing since 1981. Housing alone chopped 1.2% off first-quarter GDP growth.

The good news in the report was that exports rose by 5.5% and imports rose by 2.5%, so the trade deficit continues to improve. The 1% rise in consumer spending caught many economists by surprise. Although this sounds good, it was down from a 2.3% rise in consumer consumption in the fourth quarter. Higher food and energy costs are obviously a major reason, but spending on non-durable goods, which include food and energy, declined by 1.3%, which was the largest decline in 17 years. Consumer spending on durable goods fell by 6.1%, which is just horrible. Apparently, the rise in consumer spending was due to a 3.4% rise in services, which added 0.7% to GDP growth.

Weak consumer spending is hurting many state budgets, which are reeling from declining sales tax revenue. Of the 36 states that have released sales tax data for the first quarter, 21 have had outright sales tax revenue declines. For all 36, tax revenue is down by 0.1%. If we exclude Texas because the state is enjoying the boom in the oil business, sales tax revenue is down 1% from last year.

The Fed's Final Cut

So I guess the Federal Reserve doesn't listen to me. I wanted the central bank to cut rates by 0.5%. Instead, the Fed cut by 0.25% to bring the Fed Funds rates down to 2%. This is widely believed to be the final rate cut. Once again, there were two dissenting votes against the rate cut.

The Fed's statement after the meeting didn't imply that they're done easing rates, but the Fed did tweak the statement to add slightly more emphasis that it was worried about inflation. I think the Fed now wants to see what the impact will be from the federal government's economic stimulus checks.

Some Fed officials have argued that rate cuts alone cannot repair key sectors of the economy. Additionally, many Fed members are alarmed about inflation. As the dollar has eroded in recent months, there's little doubt that the weak currency has put upward pressure on commodity prices.

The Fed's statement reaffirmed that it "will act as needed to promote sustainable economic growth and price stability" and deleted its reference to "downside risks to growth" that it had in its March 18 statement. What's also interesting is that the Fed's reference to the "weakened" outlook on March 18 has been replaced with "economic activity remains weak." It appears that Ben Bernanke has gotten tired of trying to be transparent and has instead reverted to being more opaque like his predecessor, Alan Greenspan. I would have much preferred that the Fed have said, "We've done all that we can do, so cheer up, refinance your home at these new lower rates and start spending some money!"

The other big news was the April payroll report. The Labor Department announced that nonfarm payrolls fell by 20,000 in April, which was much better than Wall Street's consensus estimates of a decline of 78,000. In a statistical fluke, the unemployment rate fell to 5%, down from 5.1% in March. The jobless rate fell because unemployed workers got jobs in April, where employment rose by 362,000. The number of folks unemployed fell by 189,000 to 7.6 million, which is why the unemployment rate fell to 5%. There's essentially no wage inflation; average hourly earnings increased by only one penny, which brought the annual gain in wages down to 3.4%.

Despite the better-than-expected payroll report, the only strength was in service sector jobs, which added 90,000 jobs. Construction jobs fell by 61,000, factory payrolls fell by 46,000 and private sector employment fell by 29,000. The average workweek declined slightly to 33.7 hours and overtime in factories also declined slightly. The bottom line is due to weak labor costs, there's almost no wage inflation. On Thursday, the Labor Department announced that new claims for unemployment surged 35,000 to 380,000, which is the highest level since March. This means that further payroll losses are possible, so the unemployment rate could rise in the upcoming months.

There's growing hope on Wall Street that the economy might be able to avoid an official recession of two negative GDP quarters in a row, especially in the wake of the surprisingly strong first-quarter GDP report. Due to weak April vehicle sales and fears of an inventory contraction, second-quarter GDP will probably be negative. However, after all of the Fed's stimulus, we have to wait to see if it sparks higher business and consumer spending.

This Week's Quantum Trading List

Here are the trading parameters for this week's Quantum Growth stocks, listed in order of attractiveness:

This Week's Sells

There are four sells this week. Chart Industries (GTLS) was stopped out. Also, GeoEye (GEOY), Rick's Cabaret International (RICK) and Sierra Wireless (SWIR) fell out of the top 20% of my fundamental criteria and no longer qualify to be Quantum stocks.

This Week's New Buys

Adobe Systems (ADBE) is a leading desktop publishing software provider. The company offers the very popular Acrobat Reader (distributed free of charge), a tool that displays portable document format (PDF) files on the Internet. The company's Web and print publishing products include Photoshop, Illustrator and PageMaker. Adobe's offerings also include print technology geared toward manufacturers, as well as Web design (GoLive) and electronic book publishing software. The company's InDesign publishing package provides professional layout and design applications. Adobe's Professional Services group offers implementation, training and support.

On Thursday, Adobe said it expects that its second-quarter sales and earnings will be at the high end of its forecast ranges, and it reaffirmed its outlook for fiscal 2008. In mid-March, Adobe said that it expected second-quarter sales of $855 million to $885 million, earnings per share of 35 cents to 37 cents and operating earnings of 45 cents to 47 cents per share. For fiscal 2008, the company continues to expect revenue growth of 13% and operating earnings of $1.86 to $1.92 per share. Adobe is a very good buy.

Compass Minerals International (CMP) is one of the largest salt producers in North America. The company's salt products include rock, evaporated and solar salt and are used for applications such as water softening, road de-icing and food preparation. Compass Minerals operates through subsidiaries North American Salt, Great Salt Lake Minerals (a top producer potash fertilizer), Sifto Canada and Salt Union (based in Britain). Compass has approximately 10 manufacturing facilities in Britain, Canada and the U.S. Its specialty fertilizer business makes crop nutrients that are used for vegetables, fruits, tea, potatoes, nuts, tobacco and turf grass.

On Thursday, Compass said that it intends to redeem $70 million in face value of its outstanding 12% Senior Subordinated Discount Notes due 2013 for approximately $74.3 million, plus accrued and unpaid cash interest on June 2, 2008, which is the first available call date under the indenture. This redemption will be funded with the company's internal cash flow, which is quite strong, especially after its strong quarterly earnings and sales. CMP is a great buy.

Corning (GLW) is the world's top producer of fiber-optic cable, which it invented nearly four decades ago. Once known mainly for its kitchenware and lab products, the company is now a leading provider of optical fiber and cable products, and communications network equipment. Corning's display technologies unit produces glass substrates for flat-panel displays. Its other major business segments include environmental technologies (ceramics for catalytic converters), and life sciences (laboratory equipment). Corning gets more than half of its sales from Asia, primarily from Taiwan and Japan.

On Tuesday, the company announced that its first-quarter earnings more than tripled to more than $1 billion, exceeding analysts' expectations on soaring demand for glass used in flat-screen televisions and laptop computers. Corning's first-quarter earnings rose 220% to 64 cents per share compared with 20 cents per share in the same quarter a year ago. Sales surged 22.4% to $1.62 billion. Wall Street expected net operating earnings of 42 cents per share on sales of $1.594 billion.

Despite a slowdown in economic growth, Corning said it benefited especially from robust consumer sales of liquid crystal display (LCD) televisions. CFO Jim Flaws said in a conference call, "We see no evidence of the U.S. economy impacting LCD-TV sales." Flaws added, "We'd like to remind investors that, historically, TV sales are not usually impacted by recessions." The stock is a great buy.

Sohu.com (SOHU) operates China's leading Web portal and offers communication tools such as e-mail and instant messaging, as well as more than 30 content channels covering news, sports, business and other topics. The company also operates Web sites devoted to alumni communities, gaming and real estate. Additionally, the company provides Internet access through its Sohu Entertainment ISP and search services through Sogou, which means "search dog." Sohu's Chairman and CEO Charles Zhang founded the company in 1996 as Internet Technologies China. Zhang launched Sohu.com in 1998 and changed its name the next year. CEO Zhang owns 25% of the company's stock.

On Tuesday, Sohu announced that its first-quarter earnings rose 358.3% to 55 cents per share from 12 cents per share last year. Sales surged 156% to $84.8 million. Sohu said its sales were strong despite a quarter that included the Chinese New Year, which is usually a slow time for Chinese business and might have been aided by the country's worst snowstorms in decade.

China's Xinhua News Agency recently announced that China's population of Internet users rose to 221 million in February and is now vying with the U.S. as the world's largest Internet market. I think the company will also benefit from Olympic-related advertising. Sohu is a good buy.

Terex Corporation (TEX) is a heavy-equipment company that specializes in cranes, construction equipment, road-building equipment, aerial platforms and mining equipment. The company's construction equipment includes off-highway trucks, excavators, backhoes, and large wheel loaders. Terex's road building unit produces pavers and mixers, as well as landfill compactors, utility equipment and related items. Its mining equipment includes crushing and screening equipment, surface mining trucks as well as excavators. The company's financial services division offers financing and related services for equipment purchases.

Terex recently reported Q1 earnings of $1.59 per share which beat Wall Street's consensus by 17 cents. CEO Ron DeFeo said that Terex experienced strength overseas and in the U.S. demand for aerial work platforms and cranes. He noted that construction, road-building and utility lines were "somewhat disappointing" and added that construction profit margins should widen at midyear. Terex raised its earnings forecast to $6.85 to $7.15 per share in 2008 on sales of $10.5 billion to $10.9 billion. Terex is a great buy.

This Week's Top 5

1. Unibanco (UBB) operates more than 900 branches and is one of Brazil's largest banks. Last week, UBB surged higher on the news of Standard & Poor's upgrade of the Brazil's long-term sovereign credit rating to investment grade. Earnings are due on Thursday. The Street's consensus is for $2.97 a share. Despite the stock's surge last week, UBB is an outstanding buy.

2. Deckers Outdoor (DECK) soared recently on its strong earnings report and positive guidance. The company said that its first-quarter earnings rose 17.8% to 86 cents per share, 13 cents better than estimates. Deckers also raised its full-year outlook to $6.43 per share, which was 31 cents higher than Wall Street's estimates. Deckers was relativly steady last week and remains a great buy.

3. OM Group (OMG) rallied last week in anticipation of its earnings announcement on Thursday, May 8. Wall Street's consensus is for $2.03 a share. The stock is a great buy.

4. Banco Bradesco (BBD) rallied last week along with UBB and Banco Itau. Economists expect that Brazil's central bank will raise interest rates another 1%, which is great news for our Brazilian stocks. BBD is an outstanding buy.

5. Fluor (FLR) announced on Thursday that it was awarded a contract for the detailed engineering, procurement services and construction management (EPCM) by Enagas for the new El Musel LNG Terminal along Spain's north coast. Enagas is Spain's top natural gas transportation, regasification and storage company and is the technical manager of the country's gas system. Fluor will be responsible for contracts and materials on the project that are worth approximately $320 million. Fluor booked the entire amount of the Enagas contract in the first quarter of 2008, so its earnings announcement next Monday, should be spectacular. The shares rallied last week on the Enagas news. FLR is a great buy.

Other Stock Commentary

Flowserve (FLS) announced on Tuesday that its first-quarter earnings rose 159.3% to $1.53 per share. Wall Street was expecting the company to earn 94 cents per share, so the stock posted a 62.8% earnings surprise. Sales rose 24% to $993.3 million, which were also above expectations. Flowserve's sales growth was mainly due to strong sales in the oil and gas market, increased throughput and improved capacity utilization in its pump division and higher sales into the power market by the flow control division. The company's quarterly bookings rose 31%, driven in part by growth in its original equipment and aftermarket businesses. For 2008, the company foresees earnings of $5.90 to $6.20 per share, which was raised from its previous estimate of $5.10 to $5.40 per share. Flowserve is a great buy.

Marvel Entertainment (MVL) had a great day today. The shares rocketed to a new 52-week high. The company reported earnings of 58 cents a share, which creamed the estimate of 43 cents a share. Meanwhile, Iron Man was Cash Man at the box office. The movie generated over $100 million in the opening weekend. In fact, Iron Man, which is a Marvel character, just fell shy of the weekend opening of another Marvel character, Spiderman in May 2002. Spiderman III still holds the record for the biggest opening weekend of all time with $151 million in the first weekend of May 2007. Marvel is a good buy.

SPSS Inc. (SPSS) announced on Tuesday that its Q1 sales rose 11.4% to $78.2 million. Earnings rose 30.8% to 51 cents per share.  The company expects Q2 revenue between $74 million and $78 million, and EPS in the range of 40 cents to 48 cents. For the full year, SPSS now expects EPS of $1.90 to $2, and sales of $310 million to $320 million. SPSS continues to be a great buy.

In addition to more earnings announcements, all eyes will be on technology stocks now that Microsoft has backed away from buying Yahoo. Tech stocks have surged in recent days as commodity stocks have stumbled. This market rotation is normal and I wouldn't be surprised if commodity prices firm up and many commodity stocks reasserted their leadership. I'll have the next Quantum Growth report on Monday, May 12.

Sincerely,

P.S. I'll be speaking in Birmingham, Alabama, at the Birmingham Marriott on Tuesday, May 6. You're invited to attend at no cost, but please call 800-454-1395 ext. 800 to register. I'll review how to use PortfolioGrader Pro and all my investment letters, including Quantum Growth.