*** “You have to be an idiot to specialize in just one thing – whether it’s the small-cap market, or even the U.S. market.”

That’s what Strategic Investment editor Dan Denning said to me last week in Orlando at the World Money Show.

Dan and I, along with Chris Mayer and Addison Wiggin, participated in a panel discussion at 8:00 a.m. to debate the best investment strategies for 2005.

Mr. Macro himself, Dan Denning, argued that you can’t be good at JUST one thing in this market and expect to make money.

Globalization has made it a lot harder for individual investors to find bargains in the U.S. markets, Denning argued. In other words, the big money isn’t just flowing into the United States anymore. Countries like India, China, Brazil and many others are competing for the greenbacks as well.

After making that point (which your Penny Sleuth editor never disagreed with!), Dan made his move in the debate. I vaguely remember him calling me an insect of some sort…claiming that only an idiot would choose to specialize in any one part of the U.S. market.

Boy, did your Penny Sleuth editor go to town on that point…

I reminded Mr. Denning that specializing in JUST the small-cap market is hardly limiting yourself to one or two investment opportunities.

Right now, two-thirds of the market is made up of small-cap companies with a market capitalization of $1 billion or less. That means that as small-cap investors we have about 4,000 investment opportunities to choose from. Furthermore…

– 53% of the true growth companies on the market (those that are growing sales and net income by 10% and 25% Q over Q and Y over Y) are in the small-cap universe
- 26% of the real value companies (those that are trading at or below historic norms in terms of price to earnings, price to sales and price to book value) are small-cap companies
- 73.3% of all the companies on the U.S. market that have more free cash flow than total debt are small cappers
- 60% of all the companies that have doubled their earnings (or more) in the last year are in the small-cap universe.

As I told the audience in Orlando…

These are telling numbers. And specializing in the small-cap market is hardly like being a magician with ONE trick. We have thousands of opportunities to make money – always have and always will.

Then I turned to the audience for a question.

How many people think that small-cap stocks are legitimate investment opportunities right now in this market?

I expected a handful of people to raise their hands. After all, I speak all the time – all over the world. And I’ve NEVER seen a case where more than a third of the people believe in small-cap stocks the way I do. Most people still associate small caps with gambling and out and out speculation. But the answer I received in Orlando was unbelievable.

Every single person in the audience raised their hand. Some even raised two hands. I was shocked.

So what does this mean?

As a contrarian, when the crowd all thinks the same way, you want to do the opposite. So let me remind you (as I have ALL year long)…

Now is NOT the time to chase small-cap companies with little in the way of earnings and sales. Those companies WILL fall. And believe me, you do not want to be holding them over the next five years.

But…

As Chris Mayer and I argued in sunny Florida last week, even if thousands of small-cap stocks fall, there will be HUNDREDS that rise – doubling and tripling investors’ money. So to think that now is the time to pull out of the small-cap market completely is as ridiculous as saying you can’t find any bargains in this market.

You simply have to stick to your guns, invest in the smaller companies that are growing and trading for a value. Folks, those will be the companies that not only survive this year or next…but into the next decade and beyond. In fact, I am so sure of it, I made the audience a promise…

Ten years from now, I’ll come back to Orlando. And I’ll show you how many small-cap companies from 2005 are mid cap and even blue chip stocks today.

It would be a shame to miss out on those opportunities. So don’t.

*** And speaking of globalization, Irwin takes us from Cannes, France, to Baltimore, and on to Seguin, Texas, Rochester Hills, Mich., and Fairview, Ore., to show how American small-cap manufacturers are profiting from the strongest euro ever…

Dr. Kurt Richebacher has a burning conviction that Alan Greenspan is Satan incarnate. Richebacher’s anti-Greenspan inferno fuels a currency trading strategy whose recommendations have made investors up to 425% profits. As a straight-talking dollar bear with an Austrian accent, Richebacher never pulls punches, has an iron will and watches financial TV in three languages. In fact, Richebacher is so tough that some people think he eats nails for breakfast.

That’s why I jumped at the chance to have lunch the other day with my colleague Rick Barnard, who has been associate editor of The Richebacher Letter for the past five years. Rick had just returned from Cannes, where he stayed with Richebacher in his apartment overlooking the Mediterranean. Happy to finally sink his teeth into a thick cheeseburger at the local pub, Rick was saying that he and Richebacher talked nonstop about the economy – once in a restaurant over frog legs and oysters, where I’m sure Rick’s gag reflex was working overtime.

“Dr. Richebacher told me that he expects the euro to go up to $1.70 by the end of the year,” Rick said (a hint of Austrian in his voice). That means it will soon take $1.70 to buy one euro, versus $1.30 today. It also means that Richebacher is predicting a 31% decline in the dollar from current exchange rates – making the dollar downright anemic.

Now, before you pack up everything and head for Nicaragua, you need to know one important tidbit of information – one that I’m sure will come as a big relief. While Richebacher’s bearish forecast is great for his newsletter subscribers, it’s also a very hot opportunity for stateside small-cap investors.

Here’s the twist…

As the dollar weakens against the euro, American products become more affordable in Europe, while at the same time European products become more expensive in the U.S..This extraordinary currency weirdness gives American companies a big boost by making their products more competitive on both continents. The bad news, though, is that if you’re an American tourist in Paris, a cafe au lait will cost you about 25% more than it did a year ago – heaping on one more indignity to your trip.

It’s anybody’s guess how long these nutty economics will last. A lot of it depends on the U.S. budget and trade deficits, European tariffs that were imposed last year and an American border tax whose protectionist barriers have the European Union and the U.S. once again clashing before the World Trade Organization.

But in towns like Seguin, Texas, which is home to Alamo Group, Inc.; Rochester Hills, Mich., where DURA Automotive Systems, Inc. is headquartered; and Fairview, Ore., where Cascade Corp. has its roots, small-cap manufacturing companies are enjoying a windfall, thanks to the weakened dollar.

As bellwethers, these three companies make a convincing case for investing in American small-cap manufacturers that have a strong European presence. Because for them, it seems that business has never been better – at least while the dollars remains enfeebled against the euro.

In mid-April 2004, the National Association of Manufacturers projected that exported manufactured goods would show rapid growth into 2005 pegged to the dollar’s slide. The association followed up with a statement on Jan. 14, 2005, that concluded, “2004 was the most productive year for manufacturing in America since 1999.” The improvement in
output was partly attributed to “a realigning dollar [that] helped boost U.S. exports to record levels.”

For small-cap investors, the hitch is that top-line revenues may rise from currency conversions, but net income or earnings per share could remain unaffected. So that, for example, a $10,000 piece of heavy equipment could cost 31% more by year-end (based on Richebacher’s forecast), but generally accepted accounting principles will bake that into the final earnings for more accurate results. The bottom line is that higher international sales won’t necessarily translate into higher stock prices – near term.

Instead, the thinking goes like this…

Since a piece of heavy equipment from an American company is now cheaper in Europe, a new European customer will buy now based on price…but come back later for the quality.

To profit as a small-cap investor from the euro’s current dominance requires a buy-and-hold strategy – rather than a speculative flip. In other words, you’re not investing in a small-cap manufacturer with a growing European customer base simply because the euro is strong. You’re doing it because you believe that the American company’s products are good enough to withstand the test of time…

Because EVENTUALLY, the dollar will stabilize against the euro, and if an American company’s products are not competitive in Euroland…they will get deep-sixed – EVENTUALLY.

Small-cap manufacturers such as Alamo, DURA Automotive and Cascade are exploiting this exceptional opportunity in Europe. Let’s take a look…

Alamo is a leading manufacturer of tractor-mounted mowing and vegetation maintenance equipment, street sweepers, agricultural implements and related after-market parts. In its 2004 third-quarter results, the company reported that its European division saw sales skyrocket 50%, to $25.4 million, over sales of $17 million in the same period of 2003.
“Our brightest area continues to be our European division,” said the company’s CEO, Ron Robinson.

DURA Automotive, meanwhile, weighed in with third-quarter 2004 results that hit $616.4 million, up 11.2% from $554.4 in the same period the prior year. But get this…In the press release, the manufacturer of driving-control and seating-control systems said factors that favorably impacted revenue included the strengthening of European
currencies in relation to the U.S. dollar, which added revenue of $22.9 million. And as a small-cap investor, this is exactly the kind of breakout figure you need to find. Because it means that the European operation remains healthy, but $22.9 million extra revenue was posted just based on currency exchange rates.

Things are looking good for Cascade as well on the European front. In its quarterly press release announcing results for the period ending Oct. 31, 2004, Cascade noted that revenue growth in Europe for the company’s forklifts was up 20% over the same period in 2003, “excluding the effect of currency changes.” While the company did not break
out European numbers, Cascade’s quarterly net sales were $96.3 million, an increase of 27.5% over the $75.5 million posted in the third quarter of 2003. The company said it remained “cautiously optimistic” about the European market.

And you should, too…

That is, providing you’re bearish on the dollar against the euro. If so, small-cap manufacturers could face a record-breaking year in Euroland. And Rick would not have eaten frog legs in vain.

Happy investing,

Irwin Greenstein

February 08, 2005

P.S. If you want to ignore Dr. Richebacher, you do so at your own peril. As a master classical economist, his straight-shooting analysis delivers incredible returns. Richebacher is leading the charge against the lies coming out of Wall Street and Washington.

Frog Legs, Oysters and Small-Cap Manufacturing was originally featured in the Penny Sleuth.