Smallcap Discoveries: Weekly Update: October 30

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Subject: Smallcap Discoveries: Weekly Update: October 30 - November 3

October 30 - November 3

Market Commentary

Markets

It will be a shortened version this week as there is a beach chair in Mexico calling me right now…

North American equity markets rebounded strongly this past mostly on the back of a significant drop in bond yields. Softening economic data and especially weaker than expected US employment data on Friday resulted in big rallies in equities.

The DOW closed the week higher by 5.1%, Nasdaq surged 6.6% and the TSX finished the week higher by 5.8%. Last week was one of the strongest weekly increases of the year.

Financials

With both the US Fed and Bank of Canada deciding to hold steady on rates and more economic data showing weakening, bond yields on both side of the border took a dive. With the US job market starting to show signs of weakening and slower growth in Canada the yields on the US 10 year and Canada 5 year bond saw some of the sharpest weekly drops since rates started rising.

The US 10 year Treasury note has now dropped roughly 50 basis points in just over 2 weeks.

Softer economic news and a drop in rates also had an impact on the US dollar with the DXY dropping almost one full point to 105.

The Canadian dollar was being bought up and on Thursday and Friday saw a rise of over one full cent.

The much watched Canada 5 year bond, which is the driver of Canadian mortgage rates has seen the yield drop by over 60 basis points over the past month. We are now very likely going to see major Canadian banks dropping their fixed rate mortgages this coming week bringing some relief to mortgage renewals and those seeking new mortgages.

Commodities

Oil prices saw further easing this past week despite continuing tensions in the Middle East. WTI oil seems to be struggling to try and hold the $80 level as weakening economic news is outweighing potential Middle East supply concerns.

Natural gas has been the big mover in the energy sector. It’s had a very explosive move over the past month and was up roughly 18% this week alone reaching its highest levels in 9 months.

Drilling activity according to Baker Hughes continues to be soft as we saw a drop of 7 active rigs in the US and no change in rig activity this week in Canada.

Gold was mostly flat this past week holding tight to the $2000 level. Lower interest rates and a weakening US dollar should bring the bulls back into gold.

Stocks

That was one heck of a rally we saw this week mostly driven by an unexpected sharp drop in interest rates almost across the board. Trying to call market turns is a bit of a mug’s game and I always try to stress that it’s all about the individual companies we find and really trying to determine if they are cheap enough to own regardless of overall market sentiment. What’s the old saying “More money has been lost trying to avoid market drops than the drops themselves”. You know what I mean.

Anyway, we saw some interesting things this week.

Friday, aftermarket, is usually a time reserved for announcing bad news. People leave early for the weekend and few people tend to pay attention at that time. Good news is usually reserved for active times of the week. It was therefore surprising to see RIWI Corp (RIWI.V) announce a very material new contract late on Friday. “Riwi Corp. has signed a new contract to provide survey technology services and automated data analytics for an international research organization. The contract value to Riwi is $1.37-million for the first 12 months, and the client has two option renewal years, for a total potential contract size of $4.11-million.”

In any event this contract is likely enough to bring the company back to profitability and with an enterprise value of only $3.1 million as of Friday this one may be in for a very rapid re-rating.

In the US we saw stronger than expected results from some of the US home builder related companies. The sector as a whole, which has been on a downtrend of late, saw a strong reversal.

If rates have indeed topped out and housing demand is as strong as expected this could be a sector that sees plenty more upside.

I’m taking another shot at a trade on Immunoprecise (IPA) partly to satisfy my need for a little adventure. It’s been a horrible ride down for the stock and the recent volatility and uptrend has been very welcomed. The nice pullback from the recent high has, what I think, opened another strong trading opportunity. I bought a handful at $1.73 on Friday. I’ll be sacrificing a margarita or two to the trading gods for help.

Ok, we finally had an opportunity to talk to management at Reko International (REKO.V). Here’s a company that has been constantly on our watch list but never really made any of our Cheapies or take over lists. That may have to change soon.

Reko International Group Inc. is a “diversified, technology-driven manufacturing company located in Southwestern Ontario, just minutes from the U.S. border. With expertise in robotic automation equipment and precision machining services, Reko is a "go-to" supplier for companies in the automotive, aerospace, rail, power generation and capital equipment industries. Reko strives to be a pillar and protector of sustainable North American manufacturing and production.”

Short notes here are that this is a tiny and illiquid-ly trading company with a very high insider ownership of about 75%. Company is profitable and buying back shares. Earnings are lumpy and have been soft this past quarter but what really intrigued us was the book value. At Friday’s close of $4.88 the company has a market cap of roughly $28 million but a book value of roughly $8.00 per share. Apparently, there is some hidden deep value in the company owned real estate as well which likely makes the book value significantly higher. We’ll be digging deeper to see what our next move should be.

Ok, that’s all for now. Hola friends….

Other Stuff

I’ll talk about how I try to value rapidly growing microcaps next week.

This Week I’m Reading: Quality Shareholders – How the Best Managers Attract and Keep Them – Lawrence Cunningham - Anyone can buy stock in a public company, but not all shareholders are equally committed to a company's long-term success. In an increasingly fragmented financial world, shareholders' attitudes toward the companies in which they invest vary widely, from time horizon to conviction. Faced with indexers, short-term traders, and activists, it is more important than ever for businesses to ensure that their shareholders are dedicated to their missions. Today's companies need "quality shareholders," as Warren Buffett called those who "load up and stick around," or buy large stakes and hold for long periods.

To your wealth,

Paul and Trevor

Buys and Sells This Week