Re: "is "avoid" the same as "sell"?"
Kind of. Needham had been using a Strong Buy/Buy/Hold system. When I rolled out coverage of the semiconductor group last June, I used a Sell rating on Micron Technology, with the thought that it would be viewed as a symmetric system (with Strong Sell lurking out there, unused).
Unfortunately, some of the tracking services have interpreted our Sell as a 5 on a 1-high to 5-low scale, making it into a de facto Strong Sell. To overcome this, we're now using Strong Buy/Buy/Hold/Avoid/Sell. Since I'm the only analyst to use something other than the top three ratings, it's a fairly arcane situation.
The derivation of my ratings is my take on the stock's long-term (5 year) EPS growth rate. This is an attempt to differentiate my research from the rest of the Street, which, I believe, places a universally high emphasis on near-term shifts to the exclusion of a company's franchise value. By going to the other end of the investment horizon, it's possible to end up favoring stocks when most don't (i.e., when they're cheap) and being less enthusiastic when everyone else is swept up in the euphoria of accelerating results. When the potential gain to our 12-month target is 35% or more, I institute a Strong Buy. Should that potential gain drop to 20% or less, the stock becomes a Buy and stays there until it gets to 30-35% above the target (non-symmetric with the 35% and 20% breakpoints due to the effect of taxes). It's then a Hold until it's 50% above the target, at which point it becomes an Avoid. If the price comes back in to the point where it's 20% above the target, the rating goes back up to Hold (as I did with Micron this morning). These Hold and Avoid breakpoints are higher than what I had been using, as my initial settings had failed to allow for taxes and I wanted to correct that mistake.
Fundamentals are obviously factored into this approach, but they are somewhat subordinated to price. Where this system runs into difficulty (after all, there is no perfect system) is, in general, when the market goes to extraordinary valuations (either high or low) or, on a company-specific basis, when a company is in the midst of a period when its intermediate-term growth rate is far greater than its long-term growth rate. TI is an example of the latter condition, which we've had on an Avoid for months now as the stock powers to repetitive new highs.
But by and large (and this is, after all, an exercise in percentages), this approach does force me to be positive when everyone else is not (we had 11 Strong Buys out of 15 stocks last Labor Day) and tends to minimize exposure when things get expensive. I believe that's how it should be. After doing this for over 20 years, I have come to believe that discipline is more significant than either blinding insight or undue reliance on what I refer to as "snippet du jour."
I hope this helps you understand the thinking behind the rating shift. - Tad LaFountain |
