The Vista Delay

Note: I’m out of the office until April 3. The next article will be posted on the weekend of April 8.

It was another week of looking ahead to the Fed. Will we have two more interest rate increases, or three? Is a 5% rate right, or is 5.5% warranted by the strong economy? You’ve seen me and the rest of the investment community wrestling with these questions for the past three months.

Guess what? We’re still wrestling.

Fed Chairman Bernanke spoke Monday night at the Economic Club of New York. Some people expected him to mention his thinking about future rate hikes, others thought that there was no way he’d tell a club before telling an official policy meeting. The second group was right.

You may remember seeing calls for a death to the housing market over the past two years. It has so far refused to follow predictions, and this week brought mixed evidence. Housing is central to the economy. The strong real estate market held America together through the technology bubble burst of 2000-2002.

On Thursday, the February existing home sales report registered a rise to a 6.9 million annual rate, up from January and much higher than analysts expected. That got people talking about the Fed again. If the housing market is still strong, the Fed might continue raising rates after May. We could get that third, painful increase after all.

Then on Friday, new home sales for February clocked in at a 10% decline. The market liked that. Two more hikes might be enough.

This Tuesday, Mar. 28, is the Fed’s next policy meeting. It will raise rates then, guaranteed, but it will also issue a policy statement. Everybody will read the statement for some sign of future direction. We probably won’t find one. Such is the nature of the Fed. The forecast calls for continued cloudy interest rate skies.

Let’s take a look back at the week.

The market did almost nothing, but our portfolio advanced smartly. Our computer maker gained 2.3% and our Japan investment gained 3.5%.

Call it Tech Tuesday. We had interesting news from Microsoft (MSFT), Dell (DELL), and Google (GOOG). We’ll look at all three.

By now, you’ve surely heard that Microsoft will delay the consumer release of its new Vista operating system until January 2007. We’ve been steadily building a portfolio around the theme of a second half 2006 PC recovery, partly on the back of Vista’s November release. Delaying Vista until the new year means that holiday sales won’t happen.

Does this change our investment thesis? Yes. Does it destroy it and invalidate our portfolio? No.

The reason for the delay is that Microsoft decided it needs more security in Vista. Windows is an overwhelmingly popular target for hackers worldwide. Preliminary testing showed that the fresh release might not hold up well with its current set of security features.

Picture that. We, along with the vast majority of computer users, wait with bated breath for the November release. Expectations are high for dazzling Christmas sales that have computers flying out the door with Vista installed. Stock prices rise according to plan. Then, hackers tweak the automatic update feature to release a “Pearl Harbor Virus” that purges the hard drives of 20 million people on Dec. 7. The surging sales fall off a cliff, Microsoft and computer makers are named in a class-action lawsuit, chip inventories builds because computers aren’t moving anymore, and stock prices fall.

I’d like to avoid that scenario, and I’m happy to see that Microsoft would, too.

As for the delay itself, I’m not sure that it’s going to be so bad. Already, computer makers have said that they might provide holiday buyers with online coupons to get a free Windows upgrade in January. Microsoft is sympathetic to the situation and will undoubtedly set up a robust download center to serve the millions of holiday buyers who come looking for Vista in the new year. Functionally, then, the two-month delay seems nary a trifle.

From our perspective as technology shareholders, this could actually be a boost. The market operates on expectations. The holiday buying season itself creates high expectations every year. It doesn’t need the help of one company’s new product, even if that company is Microsoft and the product is as visible as Windows. Sans Vista, Christmas will still be Christmas in every mall, on every website, and under every tree.

Had Vista been released on schedule in November, it would have added to the excitement. But adding to excitement is not as exciting as creating excitement. Now, though, with Vista’s release happening in January, just after Christmas, we may have an unusual opportunity to extend the holiday happiness beyond its usual end date.

Too, expectation is always more interesting than reality. When computers sell briskly during the holiday season, investors will be happy. In the midst of that ebullient mood, somebody will remark that the good times are bound to keep rolling because, “after all, we haven’t even seen the new Windows yet!” Right, and if sales are this good now, just imagine what they’ll be like in January.

That mood is what we’re looking for in the market. It’s what drives prices higher. We may be in for a pleasant surprise from this Vista delay. Most see it as a downer, but we should see it as either a minor blip or a helpful gift.

Dell chairman Michael Dell said on Tuesday that he expects the company’s sales growth to outpace the broader industry this year, aided by rapid expansion in Asia.

He said he was confident of strong demand in Asia, including smaller markets outside of India and China, where Dell is the third-largest PC seller and recently doubled its production capacity.

“If you look at all those markets combined, outside of the big markets like India and China, those markets are very significant and are growing very fast.”

In the Asia-Pacific region including Japan, Dell’s revenue grew 21% last year as unit sales rose 30%. The region accounted for 12% of total sales.

Anecdotally, I’ve noticed that Dell is popular here in Japan. When I mentioned to a Japanese business friend that I like Sony’s Vaio notebooks, he suggested that I look at Dell instead. “Its products are cheaper, faster, and stronger. Sony’s notebooks break too often.”

The Asia-Pacific region is known for its high technology. For Dell to be popular in the homeland of Sony, Toshiba, and Fujitsu is pretty impressive.

Also on Tuesday, Google launched Google Finance at:

I spent some time on the site looking for something to distinguish it from the plethora of offerings already available. To me, there’s not much to write home about.

The main page itself is very sparse, nothing at all like the complete landscape presented at Yahoo Finance, MSN Money, or Morningstar. Google says that it offers a way to search for companies easily. Yet, that begs the question, what finance site doesn’t offer that?

From the many features listed in the launch, only two strike me as compelling: interactive charts that show where news items occurred, and blog postings tied to companies.

The charts are nice. It’s helpful to see news in context so you can tell what actually moved the stock and what was just noise. You can drag the charts to a different time frame and see along the price line exactly the price and volume on specific dates. If you click a news letter icon, the accompanying news summary on the right is highlighted. You can click that for the whole story.

The blog post listing is also nice. Blogs often provide much faster and cleaner information than the ad-laden content from major publishers. My own informati
on is published via Blogger on my website, so I’m partial to blogs. Google owns Blogger, making it a natural fit to tie blogs to finance symbols and make the aggregation. At last, there’s a tool that puts commentary in one place. Slick.

However, Yahoo Finance has already said that it has a slate of improvements on deck for later this year. Interactive charting will surely be among them. Blogs, too, don’t seem too hard to incorporate because so many of them use universal syndication formats RSS and Atom. Anybody can pick up the syndicated content that way, so Yahoo could easily work with an aggregator like Feedburner to pull in postings from hundreds of thousands of content feeds. As I wrote about the Yahoo vs. Google match up before, catching up with technology is not hard.

From an investment perspective, Google Finance does not change my belief in Investments are shown only to KELLY LETTER subscribers. Click to try the letter for one cent. as a solid investment. From an investment research perspective, Google has given us yet another tool to use when looking for good investment ideas.

After Microsoft’s Vista delay, it was a relief to see the stock drop just 2%.

For the tidbit file, I picked up these nuggets.

In the last four years, Investments are shown only to KELLY LETTER subscribers. Click to try the letter for one cent. revenue has grown 54%, its earnings per share have grown 104%, but its stock price has fallen 3.5%.

In the last four years, Investments are shown only to KELLY LETTER subscribers. Click to try the letter for one cent. revenue has grown 46%, its earnings per share have grown 636%, but its stock price has fallen 35%.

I’m happy to have these two in our portfolio.

RBC Capital lowered its estimates for Intel, citing slowing unit growth. The firm said that inventory is still too high and that Intel is still losing market share to AMD. While everybody expects the June quarter to be seasonally slow, RBC says it could be much worse than seasonality. The most ominous sign is that AMD appears to be taking share in notebooks now, Intel’s supposedly unassailable stronghold.

Investments are shown only to KELLY LETTER subscribers. Click to try the letter for one cent. had a jumpy week, falling 3.2% on Thursday alone. It’s a volatile stock. We were up some 26% last week. This week, we’re up just 18%.

It’s still cheap, though. The stock has a P/E of 15, compared with 25 for the Dow Jones U.S. Consumer Finance Index, of which this company is a component.

A lot of people hate the stock. About 23% of shares outstanding are sold short, a 12% increase from last month.

Investors who sell short borrow stock and sell it, betting that the stock’s price will fall and they will be able to buy the shares back later at a lower price for return to the lender. They then keep the difference as profit. Instead of buying low, selling high, short sellers hope to sell high, buy low. So, a great number of people believe that this company’s shares are headed lower and have shorted nearly a quarter of all shares outstanding.

Professional short sellers point out that just three of the company’s customers made up 65% of revenue in 2005. The customers are Bank of America, JPMorgan Chase, and Collegiate Funding Services. If any one of them quit doing business with the company, it would be a serious blow. Even if they don’t sever relations, though, they could use their importance to the business as leverage to get price concessions on new contracts.

However, as I’ve written before, the demographics are compelling. Increased college enrollment rates, rising tuition levels, and a struggling economy helped increase nonfederal student loans to $11.3 billion in the 2003-04 academic year, a rise of 39% in just a year and 147% over three years, according to the College Board. Plus, a full 94% of that came from banks and other private lenders, precisely the kinds of companies that this firm works with.

And, the firm does everything from processing the loan application to collecting payments. But it earns most of its fees from bundling the loans for resale to the capital markets, what’s known as securitization. It does not act as the lender or own the loan.

This is a great service to financial firms. They can offer student loans to their customers without having to handle the paperwork that accompany them. They can just offload the work to this firm and keep a small, hassle-free profit.

This convenience has won the company business with 15 of the 20 largest originators of federally guaranteed student loans.

One believer in the stock is Liberty Ridge Capital’s chief investment officer, Jerome Heppelmann. He’s directed the firm to build a 260,000-share holding, making it the second-largest mid-cap holding in its portfolio.

Mr. Heppelmann says simply, “[This company] has an in-house expertise that can’t be matched.” If that’s so, then there seems little risk of the company losing any of its critical customers.

The company itself recently reiterated its estimate for 2006 of net income growth of 25%-30% over 2005.

Not much happened, other than the announcement that Google will replace Burlington Resources (BR) on the S&P; 500 at the close of trading this Friday, March 31. It’s the largest company ever added to the index. Index fund managers will need to buy the stock and it will be much more visible to the investment community. On that news, Google rose 7% and gave a positive bias to much of the technology sector. We, however, saw a significant gain only in our semiconductor equipment maker, which rose 1.9%.

That was the week.

I’ll be out of the office next week and will not provide a weekly update. My next update will be posted on the weekend of April 8.

Take care until then.

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