2005 Starts With A Loss

The stock market did roughly what I expected during my holiday vacation in Colorado. Maxtor rose to close the year at $5.30, a gain of 63% from our buy price. UTStarcom ended 2004 at $22.15, a 33.5% gain. Profunds Ultra Semiconductor ended at $18.71, a 3.4% gain.

Then the first week of 2005 hit and everything went downhill. Maxtor dropped below $5, UTStarcom was blindsided on Friday with a 20% drop after key analyst downgrades (3.7% below our buy price), and Ultra Semi sits at $17.19, some 8% below its 2004 close and 5% below our buy price.

While that’s a sour way to start a new year, it was not unexpected. After such a great run-up last quarter and a super final week of the year, a little breather before moving higher is natural. The changing of the calendar is somewhat incidental on that score. Most run-ups are followed by consolidations. This one hinged on the new year in the sense that a lot of institutional investors changed holdings to print winning names in their end-of-year reports. That buying ran prices higher. Once the year changed, portfolio managers were free to sell at fast profits and reconfigure their portfolios with whatever they really want to hold. Such is the nature of institutional investing.

Now that the final week of last year and the first week of this year are behind us, we should get back to the regular pace of the winter rally, which is still intact. Note that I do expect to be selling at tidy profits sometime before spring, just not yet. Last year the big sales happened in February. This year they could be in March. It’s too soon to say.

The biggest concern among my current holdings is UTStarcom, the 20% dropper last Friday. That’s a heck of a gut-punch in one day. Banc of America downgraded the company to “Neutral” from “Buy.” Smith Barney Citigroup lowered its rating to “Hold” from “Buy” and lowered its target price to $22 from $26. That may sound dire, but the comments accompanying the downgrades are a tad more sanguine.

For instance, Daryl Armstrong at Smith Barney wrote, “We still believe that the valuation is compelling, but given the near-term risks, we are now wary of adding to positions or establishing new ones until we see solid execution in the first quarter of 2005.”

Analyst Joel Noel at Pacific Growth Equities says it’s time to buy. “We expected (the push-out) to happen,” Noel said. “Now that the stock is down we see it as a tremendous buying opportunity.”

It’s not hard to see why analysts are turning their noses up at the once-hot company. Last year, China accounted for nearly 80% of UTStarcom’s business. The China market is slowing. Put those two together and it looks at first blush that the wireless company is toppling from its highwire stock price act. At second blush, though, one notices that the company is aware of its overexposure to China and is aggressively broadening its reach and expanding profit margins in the process. The goal for 2005 is to derive only 38% of revenue from China. Those China sales will produce 17% margins. Japan sales, by contrast, will produce margins of about 50%.

Here’s my advice. If you followed my suggestion and bought shares at $16.59, stay put. If you were waiting to beat me at my own game by getting in at a lower price, then pop the champagne and buy. As I wrote to a worried email list subscriber, any investment in this company below $16 should prove profitable in the near future.

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