Insider Selling

One red flag going forward is the lack of insider buying in 2010. It is said that insiders sell for a variety of reasons, but they buy for only one. These three stocks exhibit some of the weakest yearly insider trading action in the market. This type of trading action has to be of some concern for longs. Insiders seems to be unloading as shares increase in price, leaving investors wondering if they should do the same.

Margin Erosion

Each of these stocks currently enjoy dominance in their particular business niche. Unfortunately, each of these stocks may suffer major margin contraction in 2011. Netflix (NASDAQ: NFLX ) offers an easy way for subscribers to enjoy movies cost effectively. This could change when contracts get renegotiated for media rights. The company will also face competition from Amazon and Google going forward. Netflix could face some serious margin erosion next year.

OpenTable (NASDAQ: OPEN ) is a company focused on growing its reservation software model. It offers diners a way to make restaurant reservations online or by cell phone. The company currently charges an average one-time initial installation fee of  $1228.00 and an average monthly fee of $785.00.  It then charges a small average fee of $0.68 per reservation made. These fees could prove unsustainable given the lack barrier to entry in the industry. The company is currently valued at a lofty $1.5-billion, trading at two times its market size.

Chipotle Mexican Grill (NYSE: CMG ) is an operator of fast-casual Mexican restaurants in the United States. The company already operates over 1,000 restaurants and trades at a steep multiple of 36-times 2011 earnings.  Chipotle currently enjoys a profit margin of over 10 percent. With food and energy prices increasing rapidly, you really have to wonder if margins could take a hit going forward.

Many investors are trying to be heroes in attempting to pick the top in these stocks. While this strategy will benefit a select few with great timing, it could make more sense to wait for a short catalyst before taking a position. A poor earnings announcement could send any of these stocks down 20% or more, but  taking a position after this type of event could ultimately provide a higher probability of success.

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Highly Effective Qnexa Blocked by Safety Concerns

Vivus Inc (NASDAQ: VVUS) was the first pioneer in the experimental obesity drug area. Its drug Qnexa was denied with an FDA panel voting 6-10 against approval. Qnexa is a mixture of two existing drugs and demonstrated higher efficiency than Locaserin. However, that increased efficiency was matched by an increased concern over safety. A few negative side effects of the drug are birth defects, depression, and a high heart rate.

After the vote against approval of Qnexa shares tanked from a high of $13.68 to a low of $4.69. Consequently, shares of Arena rallied 10 percent after hours , while Orexigen shares slid 10 percent. Orexigen’s drug Contrave has some resemblance to Qnexa in that each drug is a compound of two different drugs. For Vivus that combination was Phentermine and Topiramate.

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Risks Outweigh Benefits of Arena’s Lorcaserin

Arena Pharmaceuticals (NASDAQ: ARNA ) is the leader in experimental weight loss drug development. Its clinical development program is famous for its obesity drug Lorcaserin. After much optimism among analysts the drug failed to gain approval from the FDA. The 5-9 vote against approval not only failed the drug, but also set the bar high for future drugs.

After trial data came in showing 5.80% body weight loss investors were excited. However, after comparing that to a 3.70% placebo effect results didn’t look that appealing. Add to that concerns of valvulopathy (heart valve damage) and cancer when taken for long periods of time. The lack of efficiency coupled with reasonable health concerns added up to a case of poor risk versus reward. The disapointing news sent shares to $1.51 from a previous high of $8.00.

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Will the FDA Go 3 for 3 by Blocking Contrave?

Orexigen Therapeutics Inc (NASDAQ: OREX ) also has an obesity drug set for FDA review later this year. Its drug Contrave is a cocktail of two different drugs – Wellbutrin and Naltrexone. Contrave is arguably the most effective drug with average body weight loss of 9.30%. However, side effects accompany this drug as well. Many patients reported nausea, headaches and constipation.

Will The FDA give Contrave the nod of approval? Many investor don’t think so based on high standards set by the failures of two previous drugs. Some investors think miracle diet drugs are pointless since they will never be as safe as exercise combined with diet change. This sure seems to be the case with Abbot Laboratories drug, Meridia recently being pulled off the shelf. While weight loss results are there, harmful side effects heavily offset the positives of taking these experimental obesity drugs. The companies mentioned make great long term speculative investments, but could continue punishing investors in the short to mid-term.

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McDonald’s Corp (NYSE: MCD) is the worlds largest restaurant chain employing more than 1.5 million people in 119 countries. Of their total 31,000 restaurants worldwide, just 1,200 are located in China, with only 175 open in India. With such a small presence in these two key markets, McDonald’s will look to aggressively expand operations in the next few years.

The company has increased shareholder dividends for 25 consecutive years, making it one of the S&P 500 Dividend Aristocrats. McDonald’s provides investors with a steady dividend (3.20% Yield), while still providing quality growth overseas. If you conservatively project expansion in these two countries based on US population and size the story is exciting. The United States has 300 million people and 14,000 restaurants. Together, China and Japan have 2.5 billion people with just 2,300 stores collectively. This disparity highlights the potential for expansion  in these key markets.

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Betting on Huge Growth from China to Reward Shareholders

Yum! Brands (NYSE: YUM ) operates well known fast food restaurant chains like Pizza Hut, KFC and Taco Bell. Collectively, the company has 36,000 restaurants in 110 countries. Despite having more overall units, Yum! Brands (22.5 Billion) has just 25% of the market cap McDonald’s (81-billion) has. Yum! is looking to even the score with its strong foothold in China and India.

The company has 3,500 restaurants already open in China, with just 100 units in India. Yum! Brands also forecasts an ultimate saturated restaurant goal of 20,000 stores in China alone – 600% growth on top of a 2.10% dividend!  It is important to note these emerging markets might not currently have the culture or disposable income to match the United States. However, with growth of the middle class and native currency appreciation it is our belief that fast food will be widely adopted into foreign cultures.

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Globalization and the expansion of the middle class in emerging markets will provide profit growth for each company. Other players in the market like Burger King (NYSE: BKC ) and Wendy’s Group (NYSE: WEN ) are largely irrelevant. Burger King was recently taken private again, while Wendy’s has negligible operations in these key markets. However, Wendy’s could soon follow in the footsteps of Burger King fielding private offers. Over the past 6-months takeover and buyout talks have been looming. In any case, consolidation and international growth should dominate headlines for the fast food restaurant business. McDonald’s and Yum! Brands will emerge as winners, while other companies struggle to find relevancy.

Disclosure: Author is long McDonald’s (MCD) and Yum! Brands (YUM) at the time of publication.


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Canadian Based Company with  Huge Gold Reserves

NovaGold Resources Inc (AMEX:NG, Free Analysis!), a Canadian based minerals and exploration company may not have notable production, but it holds one of the world’s largest unhedged gold reserves. While the company came under fire in late 2008 for delaying mining infrastructure plans, its assets have made a dramatic increase in value. NovaGold owns 50% interest in two of the worlds largest underdeveloped copper-gold properties. With proven reserves of over 17 million ounces of gold and another 12.5 million ounces of measured and inferred reserves, the company is extremely levered to the price of gold.

With precious metals reserves increasing so quickly, the company could once again attract several suitors. Barrick Gold made an offer in 2007 and was quickly rejected, undervaluing NovaGold’s massive unhedged reserves. This time around things could be different. Gold mining companies could finally step up to the plate with reasonable offers in effort to replenish depleting reserves. In any case, Novagold is said to have plans in the works to begin infrastructure build out at Galore Creek. The transition from a exploration and development company to a gold producing company could be extremely profitable for investors. Paulson & Co. and Soros Fund Management have taken large stakes in the company, collectively amounting to greater than 15% of the total shares outstanding. In a recent announcement, Paulson & Co has filed a 13D with the SEC declaring a  9.10% stake.

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Small Silver Producer with Projects in China

Silvercorp Metals Inc, (NYSE:SVM, Free Analysis!) explores and developes mining properties in Canada and China. The company has several projects focused on silver, lead, and zinc mines in the Ying Project, the HPG Project, the TLP Project  and the LM Project in China. It also has interests in the Silvertip project in northern British Columbia, Canada. A well financed company with over 75$ million in cash equivalents, Silvercorp should be able to expand and grows reserves going forward.

The company is particularly attractive based on its foreign asset reserves, particularly in China where it produced better than 4.5 million ounces of silver. Inflation coupled with a rise in industrial demand for precious metals should send this stock higher. Silvercorp Metals also pays a small but significant dividend of 1% for long term investors. With silver making huge moves higher it would not be unreasonable to see dividend hikes in the future. Asian countries have seen tremendous growth GDP figures. These gains could not have been possible without large quantities of industrial metals for infrastructure build out, automobile manufacturing and electronics production.

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Small  Producer with Silver Assets in Mexico

Endeavor Silver Corp, (NYSE:EXK, Free Analysis!) is a Canadian based mining company with large silver mining assets in Mexico. Known as the world’s top producer of silver, Mexico has political stability and a favorable tax structure. Because of its history as a world leading silver producer, the country has developed a skilled work force and strong commitment to natural resource development.

The company is well on its way to becoming a premier mid-tier silver producer. After a 10% increase in year-over-year production in 2009, Endeavor forecasts a 20% gain in 2010. Enjoying multi-year high gold and silver prices, the company has increased margins while reducing cash costs. Looking to acquire and buyout smaller mining companies in effort to grow reserves, Endeavor recently made an all cash offer for Canadian based Cream Minerals.

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Disclosure: Author is long all of the stocks mentioned in this article at the time of publication.


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NovaGold owns 50% interest in two of the worlds largest underdeveloped copper-gold properties. With proven reserves of over 17 million ounces of gold and another 12.5 million ounces of measured and inferred reserves, NovaGold is extremely levered to the price of gold. In fact, every 10 shares of NovaGold common stock represents 1.2 ounces of gold to investors. This number continues to grow each year with exploration and acquisition activities adding an average of 2.4 million ounces of gold to its resource base over the past 13 years.

In late 2007 NovaGold (NG) and Teck (TCK) announced they would delay plans to begin building mining infrastructure at Galore Creek. Feasibility concerns based on surging construction costs (5 billion) forced all Galore Creek projects to be put on hold. Investors were blindsided by the news, sending shares down over 50% the next day.  However, the bad news didn’t end there. Following the precipitous drop in stock price a class action lawsuit was brought against the company for ‘misleading statements’. Shares tanked even further on the news, bottoming in late 2008 near 40-cents from an all time high of $22.00 per share.

Long term investors who held strong during the turmoil might now be wondering when new plans for Galore Creek will emerge. You really have to wonder if the property is still deemed uneconomical with gold near $1250.00 per ounce and energy prices slightly down from where they were in 2007. At the time of the discouraging news release gold traded at $825.00 per ounce, with crude oil near $85.00 per barrel.

Plans for a new feasibility study are currently underway. Several sources close to the company have hinted that plans to start construction at Galore Creek will begin in late 2011. Teck  has leveraged down it’s balance sheet since buying Fording Canadian Coal Trust late in 2008 – putting it in a better position to take on a massive project like Galore Creek.

“NovaGold and Teck are hoping that the re-engineering and design work over the last two years, coupled with easing input costs, will help lower the capital investment required for the project. When the companies announced the project was being put on ice late in 2007, they revealed that capital cost forecasts for the mine had more than doubled, to as much as $5-billion. Construction costs went up in ’07 and ’08 but have actually come back down quite a bit since their peaks in mid-2008.”

-Investor Relations Manager Rhylin Bailie

Hedge funds have taken notice of these developments. The huge potential increase in margins has put NovaGold in the driver seat. Paulson & Co. and Soros Fund Management have taken large stakes in the company, collectively amounting to greater than 15% of the total shares outstanding. In a recent announcement, Paulson & Co has filed a 13D with the SEC indicating activist intent – declaring a  9.1% stake.

Paulson and Soros funds are well known for their gold investments at present time. What makes companies like NovaGold so special?

In order for junior miners like NovaGold to do well a few key things need to happen. First, gold must make a large sustained increase in price. This increase in price needs to occur proportionately faster than extraction costs like energy, labor and infrastructure. Lastly, companies must have huge proven reserves of gold to benefit from “economies of scale” where the average extraction cost per ounce decreases, since fixed costs are spread over a larger number of goods. The described scenario might be best supported in an economical environment where the United States has stagnant growth coupled with inflation, known as stagflation. After all, if gold prices and the costs associated with getting gold out of the ground move higher at the same rate margins won’t improve.

Are investors George Soros and John Paulson really betting on stagflation in the United States?  This theory certainly seems possible given our uncertain future. With unemployment holding steady near recent highs the consumer might be on the ropes. The United States economy is based 70% on consumer spending. You can’t help but wonder how consumption can stay elevated with such a high level of unemployment and tight credit. If economic prospects and unemployment numbers don’t start improving we could see additional stimulus paid for with money printing by the federal reserve. Debasing our currency always results in higher gold prices.

According to recent presentations from Paulson & Co, their thesis for gold is threefold. Firstly, they believe that the printing presses of money that have been working overtime in America and other countries will cause depreciation in paper currency. Secondly, they believe that demand for gold will increase, particularly as a reserve currency. In fact, they think gold could become the primary reserve currency again as they have been looking at gold as currency, not a commodity. Thirdly, their belief is that demand for gold in general will be far greater than supply, causing prices to head higher. Overall, they see a very high probability of inflation in America’s future and have selected gold related investments to hedge against this.
- MarketFolly.com

It would appear George Soros and John Paulson have caught on to the idea that in an inflationary environment you want to control as much gold and silver as possible. Taking large stakes in NovaGold allows them to accomplish just that. No other miner provides an equal amount of “bang for your buck”.  In 2006, Barrick offered $14.50 per share for Novagold and was quickly declined. Novagold’s board of directors stated the bid undervalued its massive unhedged reserves and future growth potential. With the price of precious metals making a dramatic rise since 2006, it would be reasonable to assume any takeover bids could reach $20.00 or more.

Novagold has an extremely favorable operating environment. Gold is nearing all time highs at the time of this publication, while input costs have eased proportionately. A reduction in the cost of mining infrastructure should allow Novagold to bring some of their mines online by 2015. With the end goals of the company in sight, Novagold presents a compelling speculative investment going forward.

Disclosure: At the time of publication the author was long shares of NovaGold (NG) and Barrick Gold (ABX).

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Lower fuel costs at the pump have also eased concerns over discretionary income among McDonald’s patrons. Although the overall global economy has been weak, the company has been fairly resilient. This is in part due to a “trade down” in dining choices by consumers. When people can no longer afford expensive food they trade down to McDonald’s low priced menu offerings. This point was exemplified in 2008 when McDonald’s took away large market share from rival Starbucks. Consequently, Starbucks stock price got hammered while McDonald’s was one of the few stocks ending the year with gains.

“McDonald’s continues to deliver a relevant restaurant experience that provides consumers with a broad range of quality menu choices, affordable prices and unmatched convenience. Our underlying business performance remains strong. “  Chief Executive Officer, Jim Skinner

In its most recent earnings report McDonald’s (MCD) grew worldwide same store sales by 4.30% . This was while revenues dipped to $5.08 billion in 2009 from $5.61 billion the prior year. Now you might be wondering how same store sales can increase while total revenue decreases. Currency exchange rates play a major role in this phenomenon. Since McDonald’s is a United States based company, they must report financial figures in US Dollars. When the dollar increases, revenue earned in foreign countries is worth less when exchanged into dollars.

“In constant currencies, first quarter results reflect higher revenues, operating income and earnings per share over the prior year.” Chief Executive Officer, Jim Skinner

With more than half of McDonald’s total revenue coming from outside the United States it is easy to see how a weaker dollar helps earnings. Revenue generated in foreign countries gets repatriated at a better rate of exchange. With the United States Federal Reserve lowering interest rates to add liquidity to the credit markets and banking system, the dollar is sure to depreciate in value. This is a great thing for companies like McDonald’s trying to grow globally. Now when McDonald’s repatriates money out of currencies like the Euro and Yuan they will get more dollars in return.

Everything isn’t completely golden at McDonald’s though. One major challenge the company faces is integrating menu options over culturally diverse nations. Menu offerings from the United States don’t necessarily work in other parts of the world. McDonald’s will have to cater overseas restaurants to local tastes, integrating menu options to suit unique cultures.

McDonald’s stock offers a compelling, yet risk averse way to play the global growth story. While the United States has over 300 million people countries like China, Brazil and Japan have several billion. If McDonald’s can execute its growth strategy overseas like it did in the United States early on, you could see a major rise in stock price. Although this growth strategy may take five or more years to execute, the reliable 3.50% dividend allows you to get paid for waiting.

The stock price (MCD) has made a run off a lower support trend-line (see chart) and the 100-day moving average. Starting a position in the $53.00-$56.00 price range seems to be a good entry. A depreciating dollar, global expansion and lowered fuel costs are all reasons to be excited about McDonald’s. Furthermore, they have proven they can successfully operate in the worst economic environment in recent history. Although McDonald’s (MCD) isn’t the sexiest of stocks, we believe it will reward patient shareholders handsomely.

Disclosure: Author holds a long position in McDonald’s (MCD) common stock.