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Kuby’s Commentary

Bubble Trouble

Feb 1, 2021

Last Week:

Trading was extremely volatile with the VIX surging over 50% to 33.09 and the S&P 500 shedding 3.31%. It seems worth noting that these spikes in volatility and sell-offs in equities occur regularly and should not be alarming.

What is alarming is the continuation of the trend for stock prices to become decoupled from traditional, time-tested valuation methodologies that relate to cash flows. For the last several years high-profile growth companies have dominated trading activity. Whereas we have found that “bubbles” in some stocks of those companies troubling, the most recent development of social media-coordinated “pumping” of shares of troubled companies is really concerning. We caution that after pumping comes dumping. We understand the original concept of squeezing the short sellers.  But we generally see short-term, non-fundamental investment strategies (whether long strategies or short strategies) such as social media-inspired buying at acceleratingly-higher prices as non-repeatable and frequently irresponsible.  And so, with regard to much of the massive appreciation in shares of some troubled businesses this past week, kudos to those who saw the opportunity to predict and harness those coming bubbles, but doing so is very likely not a repeatable, responsible investment strategy.  At North Star, we prefer to focus on what happens a lot, which was the frequent advice of Hall of Fame Basketball Coach Pete Carrill during his multi-decade career at Princeton when a player dunked or made some unnecessarily complicated dribble move or pass: “Do the [stuff] that happens a lot!” In this case, successful coordinated efforts to drive stocks from less than $20 per share to $400 per share in a few days does NOT happen a lot. (By way of disclosure, I did not play basketball at Princeton, although many of my friends had that honor, and as such Coach Carrill did come watch us play in adult leagues. Coach characterized a few successful dazzling passes I threw as “impossible”, which I suppose could be analogous to the dazzling trades some profited from last week.)

Reuters contacted me during the week to discuss the situation. You can read the article they published here.

The bad news for the “little guy” in this “David versus Goliath” drama, is that the big winners are the large institutional investors who are being given the gift of inflated exit prices for their troubled holdings. Those tens of billions of dollars of extra profits are going to be absorbed as losses by thousands of retail investors whose financial windfalls will likely turn into painful losses when the clock strikes midnight.

In summary, whereas this frenzy is entertaining, we strongly advise investors to stay on the sidelines and remain true to their long-term strategies. In other words, don’t jump aboard the skyrocketing shares of any of these troubled companies. It should also be evident that it is too dangerous to short sell any of these stocks. Finally, the modest price declines in the high-profile growth companies last week does not represent a buying opportunity. Buy value and sleep well at night.

The rest of the main markets narrative remained in place, with earnings exceeding the low bar set, COVID-19 cases and deaths trending down while remaining elevated, the vaccine rollout behind schedule but improving, the Fed offering extraordinarily accommodating monetary policy, and initial new claims for unemployment still triple the level from a year ago.

It was quiet in the currency and interest rate markets, as the yield on the Ten-Year Treasury was unchanged, the dollar inched up, and gold declined fractionally.

This Week:

Attention will likely shift back to earnings, COVID-19, the vaccine rollout, and stimulus talks. On the earnings front, 110 S&P 500 companies will be posting results for the fourth quarter. Going into the week, the S&P 500 is reporting a year-over-year decline in earnings of -2.3%, compared to a year-over-year decline in earnings of -4.8% last week and a year-over-year decline in earnings of -9.3% at the end of the fourth quarter. If the trend continues, it seems possible that earnings could be positive year-over-year, which seems pretty remarkable considering the circumstances. Perhaps most importantly, hopefully the downward trend of COVID-19 cases and deaths combined with the improvements in the vaccine rollout will continue. We are less optimistic about any significant swift agreement on additional stimulus as bi-partisan squabbling is back in fashion.

On the economic calendar, Friday’s release of the jobs report for January will be in focus. The consensus estimate calls for an increase of around 100,000 in non-farm payrolls with the unemployment rate holding steady at 6.7%.

Stocks on the Move:

We had a lot of volatile price movement in the shares of our holdings as small caps in general experienced a wild ride.

+12.6% A. H. Belo Corporation (AHC) prints and publishes newspapers. The Company offers marketing solutions, niche publications, commercial printing, and direct mail services. Last week, the Company experienced trading volatility due to retail investors on Reddit. AHC is a 1.3% position in the North Star Dividend Fund.

+26.7% B&G Foods Inc (BGS) manufacturers, sells, and distributed shelf-stable foods across North America. The Company sells and distributes its products through supermarket warehouses, distributors, mass merchants, catalogs, and other sales channels. B&G sells foods such as salsa, maple syrup, pickles, baked beans, liquid smoke, meat spreads, and vinegars under its own brands. Last week, the Company’s options trading rose to four times the 20-day average; the surge continued this morning as trading volume jumped 10 times the average. BGS is a 3.3% position in the North Star Dividend Fund.

-13.0% Graham Corporation (GHM) designs and builds vacuum and heat transfer equipment for process industries. The Company markets to chemical, petrochemical, petroleum refining, and electric power generating industries. Last week, Graham Corp announced third quarter sales of $27 million which yielded $0.11 earnings per share, in-line with estimates. A significant takeaway in the quarter was the Company’s record level of orders and backlog. GHM is a 0.8% holding in the North Star Dividend Fund.

-10.7% LSI Industries Inc (LYTS) designs, manufactures and markets a variety of lighting fixtures, menu board systems, and graphic products. The Company sells its products to the petroleum and convenience store market, the multi-site retail market (restaurants and automobile dealerships) and the commercial and industrial lighting market. There was no significant company news last week. LYTS is a 3.0% holding in the North Star Dividend Fund.

 +42.2% PetMed Express, Inc (PETS) operates as a pet pharmaceutical company. 1-800-PetMeds provides prescription and non-prescription pet medications, as well as health and nutritional supplements. Last week, PETS was targeted by retail investors and consequently, insiders sold more than $800,000 of shares and options trading volume rose 20 times the 20-day average. PETS is a 1.9% holding in the North Star Dividend Fund.

+43.9% Pitney Bowes Inc (PBI) sells, finances, rents, and services integrated mail and document management systems. The Company offers a full suite of equipment, supplies, software, and services for end-to-end mail stream solutions. Last week, PBI experienced a trading surge in relation after being mentioned on the popular Reddit page, r/WallStBets.

+12.5% Rocky Brands Inc (RCKY) designs, develops, manufactures, and markets men’s and women’s footwear. Its footwear brands include Rocky, Georgia Boot, Creative Recreation, Durango, Lehigh, and licenses brand Michelin. The Company targets outdoor, duty, work, military, lifestyle, and western markets. Rocky Brands announced last week it would acquire the performance and lifestyle footwear business of Honeywell (HON) for a purchase price of $230M. Separate from the acquisition, Rocky Brands also announced it had signed a $3.5M contract to produce new safety boots for the U.S. Navy. RCKY is a 3.2% holding in the North Star Micro Cap Fund and a 4.2% holding in the North Star Dividend Fund.

+37.2% Build-A-Bear Workshop (BBW) is an interactive and mall-based retailer that invites guests to create their own customized stuffed animals complete with clothing, shoes, and accessories through a bear-making process. Last week, the Company was up amid the frenzy to buy shorted stocks; however, Build-A-Bear was also one of the stocks halted due to volatility. BBW is a 1.0% holding in the North Star Micro Cap Fund.

-10.1% First Busey Corporation (BUSE) provides banking services in the State of Illinois. The Bank offers commercial, retail, and correspondent banking, as well as trust, insurance, wealth management, e-banking, securities, real estate, and travel services. Last week, First Busey announced Q4FY2020 earnings per share of $0.62, which beat by $0.07, and revenue of $103.44M, which beat by $3.41M. Share prices have been declining as the Banks subsector has been falling since November. BUSE is a 0.9% holding in the North Star Micro Cap Fund.

-12.4% Green Brick Partners Inc (GRBK) operates a homebuilding and land development company. The Company develops residential homes, complexes, and communities. Green Brick Partners invests in a range of real estate investments, as well as provides land and construction financing to its controlled builders. Last week, Green Brick partners priced a secondary offering of 6 million shares; the company said it expects to see proceeds of $125.7 million. GRBK is a 1.0% holding in the North Star Micro Cap Fund.

-10.2% Napco Security Technologies Inc (NSSC) manufactures electronic security devices, fire detection products, access control systems, and digital lock equipment used in residential, commercial, institutional, and industrial installations. There was no significant company news last week. NSSC is a 1.4% holding in the North Star Micro Cap Fund.

-11.1% Orion Energy Systems Inc (OESX) designs, manufactures, and implements energy management systems. The Company’s management system is comprised of high intensity fluorescent lighting systems, InteLite intelligent lighting controls, and Apollo Light Pipes. Orion offers energy savings and efficiency gains to commercial and industrial customers. There was no significant company news last week. OESX is a 4.9% holding in the North Star Micro Cap Fund and a 5.6% holding in the North Star Opportunity Fund.

-10.1% Tennant Company (TNC) designs, manufactures, and sells non-residential floor maintenance equipment, floor coatings, and related products. The Company’s products include scrubbers, sweepers, extractors, burnishers, buffers, floor coatings, and full-service equipment support. There was no significant company news last week. TNC is a 0.7% holding in the North Star Micro Cap Fund.

+18.5% Turtle Beach Corporation (HEAR) operates as a sound technology company. The Company designs and markets audio peripherals for video game consoles, personal computers, and mobile devices. Last week, the Company announced a new partnership with Oakley, a leader in sport performance and optical innovation. The collaboration will involve a collection of eyewear using Turtle Beach’s expertise in glasses-friendly headsets developed for gamers who share a passion for performance. HEAR is a 6.5% holding in the North Star Micro Cap Fund and a 2.7% holding in the North Star Opportunity Fund.

The information provided in this commentary is not an offer to sell or the solicitation of an offer to purchase any security, product, or brokerage service. The information is not intended to be used as the basis for investment decisions, nor should the information be construed as advice designed to meet the particular needs of any investor. This commentary is presented to illustrate examples of the securities that North Star Investment Management Corporation and/or its affiliates (“North Star”) may have bought for client accounts and the diversity of markets in which North Star Investments may invest, and may not be representative of current or future investments. You should not assume that the future performance of any specific investment, investment strategy, or product made reference to directly or indirectly in this commentary will be profitable or will be equal to any corresponding performance levels that might be indicated. Past performance is no guarantee of future results. Investments in securities involve risks including the possible loss of the principal invested. North Star and others associated with it, including employees, may have positions in and effect transactions in securities of companies mentioned or indirectly referenced in this commentary. North Star may buy, sell or hold these securities in proprietary or client accounts. North Star will not be providing regular updates or advising you of any changes in the views expressed herein. Investors should consider their investment objectives, risk tolerance, and financial situation and needs before investing in any security. Tax considerations, commissions, fees and other costs should be carefully evaluated with one’s investment and/or tax advisors. Information provided is obtained from sources deemed to be reliable, but North Star cannot guarantee the accuracy or completeness of the information. This material may not be reproduced, distributed or transmitted to any other person in whole or in part without the prior written consent of North Star. A copy of North Star Investment Management Corporation’s Form ADV Brochure, Privacy Notice and Business Continuity Plan summary can be obtained by calling 312-580-0900.

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