From thestreet.com -SAN FRANCISCO -- These days everyone's feeling good about semiconductor
equipment makers like Applied Materials (AMAT:Nasdaq) and KLA-Tencor (
KLAC:Nasdaq). After all, Applied Materials is now trading at a generous
71 times earnings and KLA is at 38 times earnings.
But back on July 21, it was another story. The industry had been in a
slump for a year. Applied Materials' P/E was 19 and the stock was
trading at 30, 40% below its August 1997 high of 50. KLA sported a P/E
of 18 and was trading at 27 -- a whopping 63% below its August '97 high
of 74. No one saw any sign that the industry would recovery any time
soon. No one, that is, except NationsBanc Montgomery Securities (nee
BancAmerica Montgomery Securities) analyst Brett Hodess.
He had the gumption to hold a conference call with some 170 fund
managers and tell them the bottom was nearing and it was time to buy
equipment leaders like Applied Materials, KLA and Novellus (NVLS
:Nasdaq). His firm is not an underwriter for any of the stocks.
DateRatingActual pricePrice change since last moveNov. 21, 1996Upgrade16
--Nov. 17, 1997Downgrade35119%July 21Upgrade31 15/16-9%Oct. 8Reiterate
buy22 3/8-30%Dec. 18Current45 7/1642% since July 21 upgradeDec. 18
Current45 7/16103% since Oct. 8 buy ratingSource: NationsBanc Montgomery
Securities.
Other analysts sneered. "The outlook for the next six months is very bad
for capital equipment sales," Merrill Lynch analyst Mark Fitzgerald
said. He predicted new lows for the group and maintained a neutral
rating on Applied Materials.
Hodess says he too was nervous about new lows. But there were three
things he noticed. First, the equipment sector was showing price-to-book
and price-to-sales valuations near historical lows, but the companies
were better capitalized and therefore fundamentally stronger than in the
slump of 1996. Secondly, semiconductor giants Intel (INTC:Nasdaq),
Micron (MU:NYSE) and Texas Instruments (TXN:NYSE) were announcing 0.21-
and 0.18-micron products. "But none of these guys had 0.21- or
0.18-micron equipment," Hodess says. For the companies to come out with
the products on schedule, they would need to order new equipment soon.
Finally, he knew that once equipment stocks start moving, they move up
fast, leaving behind investors who wait too long.
Yang Lee, a manager for the $2 billion Third Avenue Funds, was buying
low-priced equipment stocks before Hodess made his July call but didn't
expect the stocks to pick up as soon as they did. "Everybody was saying
not yet," Lee says. "Hodess was the first pounding the table."
But for the most part, the Street didn't listen. Although Applied
Materials rose 9% in the two weeks after his call, it then sunk 36% to
close at 22 3/8 on Oct. 8. Yow!
"I was getting a lot of flack through August and September," Hodess
recalls. "A lot of people were questioning how I could be so certain
that orders would bottom by year-end." At the Montgomery Securities
investment conference in mid-September, Hodess was clearly nervous and
said a new low could be reached in December -- which happened. Applied
Materials, for example, dropped by 13% from Dec. 8 to Dec. 14.
("Typically late in the fourth quarter everyone starts questioning
whether PC sales are really good or not," Hodess says.)
In a Sept. 25 report he tried to cover his tail. "With the potential for
orders to continue to show small declines through the end of the year,"
he wrote, "the stocks are unlikely to sustain a recovery in the next
several months." But he didn't change his ratings, and he continued to
tell investors to buy the equipment leaders.
On Oct. 8 the Philadelphia Semiconductor Index hit a two-year low and
Hodess got back on the phone and rustled up those 170 odd fund managers.
This time he said his previous call was early but now the bottom had
been reached and the stocks would go no lower. Buy, buy, buy, he said.
And the stocks took off. In the three months after he reiterated his buy
call, Applied Materials rose 103%. Not everyone saw this even in
October. In an Oct. 9 report, BancBoston Robertson Stephens analyst Sue
Billat had issued a buy rating on only one of her equipment stocks --
Teradyne (TER:NYSE). The rest, including Applied Materials, she rated
long-term attractive. Robbie Stephens is a managing underwriter for
Applied Materials. Needham & Co. analyst Theodore O'Neill downgraded
Applied Materials from buy to hold on Oct. 8 and reiterated it on Nov.
3.
Brett Hodess
Source: Nationsbanc Montgomery Securities.
To say that Hodess has semiconductors in his blood makes him sound like
a Star Trek character -- but he did spend three years working for his
father's company, Hodess Building, which builds semiconductor clean
rooms. Before that, he spent five years as an Intel research engineer
after getting a B.A. in physics from Bowdoin College in Maine and a B.S.
in engineering from Columbia University. Hodess later went on to get an
MBA at the University of California at Berkeley. He has spent the past
seven years at Montgomery. Since then he has been named to the
Institutional Investor's All-American Research Team three times.
What next? Hodess is already looking for the next downturn. The time to
sell, he says, will be when lead times in orders from semiconductor
makers start to shorten and plant utilization rates start to drop. Most
analysts, he predicts, will rationalize the first declines as a healthy
cooling of an overheated market. "That's usually crap," he says. "It's
usually the beginning of overcapacity."
That's calling 'em like he sees 'em, Hodess style.
See Also
SILICON VALLEY ARCHIVE
Applied Materials
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