Torpedo Watch: Our Philosophy

The Torpedo Watch™ philosophy is simple: Stock prices will eventually reflect the fundamental performance of the company. While analysts and company management may be talking a great story or reporting misleading financials, our rating system is designed to cut through the spin and find some measures of truth which will determine future prices. This information is available in published financial statements. None of these indicators we use involves a single data point provided by analysts, so it is strictly independent of analyst views.

Torpedo Watch™ is designed to help improve investment performance by identifying stocks whose fundamentals are deteriorating by selling them (or shorting them) before prices fall. The Torpedo Watch™ process is similar to an annual physical examination when a doctor measures your blood pressure, heart rate, blood chemistry, listens to your breathing, and takes x-rays and other pictures required.

We apply the same principles to companies. Torpedo Watch™ can determine whether the stock may be sick or coming down with a problem that may jeopardize its financial health. Torpedo Watch has identified fives causes that may result in a warning in our rating system:

Overvaluation becomes an issue when the stock price gets ahead of its fundamentals. This is often due to investors believing that the company fundamentals will keep growing at a faster rate than its competitors, markets and/or its industry. The downward spike in price after overvaluation has been achieved can be sudden and often violent, significantly damaging portfolios.

Aggressive accounting has become a serious problem in recent years and is often missed by investors because it requires sweat and toil to decipher the financial statements.

Deteriorating financial conditions can be present even if a company is showing strong revenues and earnings. Often it may seem everything is okay, but the cash is draining away and balance sheet is piling up with weaker assets. The failure to disclose off balance sheet items would fall into this cause.

A significant change in operating performance has caused many a stock price to fall. A company which sees its competitive advantage taken away will often be forced to lower both its gross and operating margins to continue to maintain its market beachhead. Likewise, the company may be forced to drop prices causing revenues to fall.

Bad acquisitions are a by-product of the 1990s when companies believed they could purchase another company and improve profits due to the "synergy" of one combined entity. Many times, these were bad decisions that brought down stock prices.

We have organized our torpedo warnings into five categories that combine all the 50 measures we look at in reviewing a company's health:

Investment Quality measures the operating efficiency and profitability of the company and includes indicators such as turnover, margins and returns.

Cash Flow Quality examines the amount of real cash flow the company generates from its business by adjusting for non -recurring events, such as acquisitions or meeting liquidity needs and other items.

Earnings Quality measures the durability of reported earnings and what portion of those earnings is "core" to ongoing operations and likely to be repeated. This quality measure excludes one-time items and adjustments not part of ongoing revenues and considers the amount of cash supporting it.

Balance Sheet Quality measures the changes in the amount of key short-term assets and liabilities. This is where we closely monitor a company to see if they have "cookie jar reserves" hidden for a rainy day that can be used to enhance earnings.

Valuation enables one to observe whether a company's stock price has gotten ahead of itself, by comparing it to the market and the industry in which it operates. This is not a useful measure by itself as companies can stay overvalued for a long period of time. However, when combined with the warnings from the other four quality measures listed above, it is better than sonar in avoiding torpedoes.

For buy ideas, our reports identify companies whose five measures are strong, not weakening as in the case of the potential torpedo companies. These are companies with strong fundamentals whose price is not out of line. Each month we will recommend one or two long ideas to compliment Torpedo Watch companies to avoid and to short.

Copyright Š2008 Torpedo Watch, LLC. All rights reserved.
Risk Disclosure
Torpedo Watch, Torpedo Watch Stock Tracker, and Torpedo Update are trademarks and service marks of Jefferson Investment Management Company and are used under license.

Torpedo Watch™ is for informational purposes only, and is not a recommendation to buy, sell, or hold any security, or that any investment strategy discussed is suitable for all investors. Torpedo Watch is published by Torpedo Watch, LLC. As a publisher of a financial newsletter of general and regular circulation, we cannot tender individual investment advice. Only a registered broker or investment advisor may advise you individually on the suitability and performance of your portfolio or specific investments.

In making any investment decision, you will rely solely on your own review and examination of the facts and the records relating to such investments. Past performance of our recommendations is not an indication of future performance. The publisher shall have no liability of whatever nature in respect of any claim, damages, loss or expense arising out of or in connection with the reliance by you on the contents of our Web site, any promotion, published material, alert or update.

The editor, publisher, and directors of Torpedo Watch, LLC flatly promise no front-running. We will not initiate a position in any option we have recommended for three business days before our original recommendation and three business days after any subsequent recommendation. We will not initiate a position in any stock we have recommended for 3 business days before our original recommendation and 3 business days after any subsequent recommendation.

All profit examples are hypothetical, assuming that subscribers bought and sold at the time the recommendations were issued. Actual results can and do vary based on day of execution and commission charges.

There is a very high degree of risk involved in trading. Past results are not indicative of future returns. Torpedo Watch, LLC and all individuals affiliated with Torpedo Watch, LLC assume no responsibilities for your trading and investment results.