After a strong finish to 2010, the small cap arena has rebounded from a weak start in 2011. With the high US unemployment rate, we continue to view the employment picture as a good gauge for US economic health. Although widely perceived as a lagging indicator, we expect the equity market to respond favorably to positive employment reports due to the slow recovery in this metric. As mentioned previously, we believe the biggest positive surprise for the equity markets this year is likely to be the magnitude of improvement in employment. The February employment report was a case in point, which also brought positive revisions for previous months. We expeact the employment news in 2011 to be the most positive in years.
The latest factory orders, reported for January, were much stronger than consensus economic expectations and included a positive revision for December. Although aircraft was a major contributor in January, non-durable goods ordered increased 3.1%. Our take-away – strong factory orders will lead to improving employment and consumer spending in 2011.
Turmoil in the Middle East has driven oil prices higher, but the lack of significant corrective pressures in equity markets through early March tells us this bull market has strong footings. Regime change in the Middle East can be destabilizing and the short term progression and eventual impact of political change in the Mid-East is difficult to predict. If the political strife in the Middle East calms down, and does not escalate in the primary oil supplying countries, we could see oil prices fall back from the recent spike.
The S&P 500 was up 3.2% in February, the Russell 2000 was up 5.3% and the aggregate Singular List was up 4.7%. The Long-Only Singular List was up 4.8% in January. On a YTD basis, the S&P500 was up 5.5%, the Russell 2000 was up 5% and the aggregate Singular List was up 3.6%. The Long Only Singular List was also up 3.6% on a YTD basis.
Updates to the Singular List in February include dropping six names (China-Biotics – CHBT, Famous Dave’s – DAVE, SmartHeat – HEAT, ShengdaTech – SDTH, Fushi Copperweld – FSIN, Protalix BioTherapeutics – PLX).
We dropped coverage of China-Biotics (CHBT) due a second consecutive quarterly earnings miss. Famous Dave’s (DAVE) met our updated price target and had performed well, with an approximate double during our coverage. We dropped coverage on three Chinese stocks (HEAT, SDTH, FSIN) due to our perception of the negative impact of slower Chinese economic growth, and a rising Yuan. A lack of visibility into future fundamentals lowered our confidence in these companies. Protalix BioTherapeutics (PLX) was dropped due to questions raised by the FDA about a promising drug for Gaucher disease. The delay in FDA approval casts doubt on the future performance of PLX.
Our top performers in February were an interesting mix of cyclical and consistent growth companies along with a precious metal play. Our top performer in February was Synovus, up 31.7%. The company reported its Q1:11 revenues and earnings above our analysts’ expectations, driven by strength in several product lines. Our analyst raised the price target and EPS estimate. Key Technology was up 22.0% in February. The company reported Q1:11 results that were better than expected. Our analyst expects relatively flat Q2 results and a much stronger 2H:11. Hurco was up 18.5% in February. The company reported its Q1:11 in early March that was far better than expected. The cyclical turnaround has taken hold with strong revenues and expanding margins. Seabridge Gold was up 18.4% in February. Our analyst indicates the stock was exceptionally undervalued with more reserves per share than comparable companies, and a new PFS in April 2011 is likely to increase gold reserves. Ebix was up 16.8% in February. The company has yet to report its Q4 results, but it has a history of consistent growth.
Our worst performers in February included two pharmaceutical companies. Nymox Pharmaceutical was down 10.9%. The company’s stock performed well in the last two months since the December announcement of a pharmaceutical distribution agreement for NX-1207, an innovative treatment for enlarged prostate. Vanda Pharmaceutical was down 8.1%. The company has performed well in recent months. DDI Corp. declined 7.9%. Earnings estimates were reduced for 2011, but using normalized earnings which are lower than GAAP earnings, our analyst still perceives significant upside. The company will benefit from manufacturing consolidation, and increased the dividend 67%. ChinaBiotics was down 4.3%. We dropped coverage due to the second consecutive quarter of earnings misses. Standard Motor Products declined 3.9%. The company reported significantly better than expected revenues and earnings in early March.
We continue to find attractive investment opportunities in the small cap space. As evidenced by our ongoing EV/EBITDA studies, approximately 75% of all companies with low EV/EBITDA ratios have a market capitalization under $1 billion. Our analysts are completing work on several new names for coverage and plan to launch in March. We remain confident in our ability to find value added investment ideas and are grateful for the continuing support of our subscribers.
Greg Garner, CFA
Senior Equity Analyst