One thing is for sure, it will catch up with us. And when it does, do you really think interest rates will be where they are today?? In fact, when I ask my colleagues about their views on interest rates, virtually everyone believes that interest rates will be higher one year from now. So do I.

The question is how can we make money on this assumption? The obvious and most simplistic answer is to short US Treasuries. This is not easy for the average investor.  However, ETF’s do provide an easy (albeit uncertain) option. Take for example the TBT’s, which are the ProShare ETF which is a 2x inverse on the 20Yr Lehman Bond price. I have been following this stock for over a year and have been trading it with some success.

The inherent risk on the TBT is that like most ETF’s its value slowly shrinks over time. I’m not really sure what the annual percentage actually is…some experts have told me 10-15% a year, some have said 2-3% a year. After looking at the correlation of the 20 yr prices to the TBT prices going back to the launch of the TBT in early 2008, its very difficult to draw a parallel. For instance, in December 2008, the 20 year was at 3.35% and the TBT was at $35. Today the 20 year is about 2.85% and the TBT is approximately $19. This suggests an inherent loss at the higher end of the scale near 15% per annum. Check out the Department of Treasury link to look up all historical data points at : http://www.treasury.gov/resource-center/data-chart-center/interest-rates/Pages/TextView.aspx?data=yieldYear&year=2012

With that said, lets assume that the TBT will be worth 15% less in one year. So the stock you are buying now at $19 is actually worth $16.15. However, the 20 yr is at 2.85%, so to break even, it would have to go above 3.27% to reach break even if you bought the TBT today at $19 and held it for a year. To give some perspective, a year ago today, the 20yr was at 4.35% or a staggering 52% higher!!

Do I believe the 20 yr will be at a 4.35% next April? I am fairly confident that it will be close to 4% if not higher. With that said, along the way, we may get dips that beg for a buy signal, which is what happened in December 2011, when the 20 yr hit 2.48% and the TBT’s hit $17.48. I “backed-up the truck” as we say, and flipped out of my position when it rebounded a few weeks later.

My advice would be as follows (based on a hypothetical investment of 1,000 shares):

1) If the TBT’s go below $18.50, take a position of 200 shares.

2) If they dip below $18.00, add another 300 shares.

3) At $17.50, I would add the final 500 shares.

This averages you out to $17.85 and puts you in at a real strong position to benefit when interest rates spike up (particularly long term rates after June, when the Fed’s “Operation Twist” is set to expire).

For those of you that like to buy Options, look at the TBT Jan 13 $20 calls, which are priced today at around $1.85.

Finally, for full disclosure, at the time of this writing, I have no position in the TBT’s, but I’m watching and waiting.

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Here are my top 7 predictions for 2012:

1) Housing has bottomed and will stage a mild recovery, setting the stage for a gradual improvement for 2013-2015. Expect housing starts to tick above the 800,000 mark by year-end.
2) Interest rates will be higher by the end of 2012. The 30 year at under 3.00% is artificial and will be 20%+ higher.
3) Mitt Romney will win the Presidential election. The Democrats will retain the Senate and the Republicans will retain the House.
4) The US stock market will have another very volatile year, but the S&P will end up at above 1,300.
5) Facebook IPO will be the stock story of the year. It will preform very well.
6) The Green Bay Packers will win the Super Bowl and LSU will win the BCS.
7) There will be a major scientific discovery in medicine that will capture headlines.

Happy New Year to All My Friends and Readers.

Best,

Marty

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In April 2009, when Obama took over, I asked the question “will (Obama) be able to rise above politics” and become a real statesman and solve the massive government problem we have.  I said, “I really wish he would, because that is what America needs today.”  To read more, click here.

In other words I didn’t blame him for anything in the past and was open minded to see if he could bring the country together. The best way to explain what has happened is by using a football analogy. Bush was the QB, and he had thrown 3 interceptions and we were down 21-0 early in the second quarter. In comes Obama, the new kid, highly touted and recruited…he was going to shine. Its now the 4^th quarter, Obama has thrown 4 more picks, two for TD’s, fumbled twice and we are now down 54-0.

Game Over.

Series of Events That May Happen:

I don’t want to be the world-is-coming-to-an-end fanatic. But, stop and think for a moment about what may actually happen over the course of the next few years.

1. Unemployment will continue to increase partly due to state and local governments being forced to lay off workers, as the federal government is unable to continue to fund them.
2. This will cause tax receipts for governments at all levels to remain flat or even drop.
3. QE2 (the Fed’s massive ponzi scheme aimed to keep rates artificially low) will end June 30th and interests rate will start to increase.
4. With less revenue coming in from taxpayers, governments will be forced to borrow more.
5. But Governments, particularly the Federal government, has borrowed trillions on a short-term basis over the past 2 years.  They will not only have to borrow more, but also have to roll over this massive amount of short-term debt.  However, this time, the money they will have to pay (interest rates) will be much higher. Today, interest on our debt is $214 Billion (on $2.5 Trillion in receipts). By the end of this decade it will be $931 Billion.
6. With higher costs of borrowing, the interest payments on debt paid by governments will increase to the point that other spending will be crowded out.  As an example, think of a family who makes $5,000 a month and their home mortgage is $1,500.  Upon refinancing, their bank now charges them $3,000 so, they have to cut $1,500 in spending somewhere else.)
7. As the unemployment and interest rates increase, consumers will be forced to curtail their spending. This will drive down the economy further, causing us to go back into negative GDP growth and most probably a recession (two quarters of negative GDP growth).
8. Government has no more “bullets” to fend off recession. The inevitable forces of the market will take over.
9. Employers will fend for themselves and take any and all actions to protect their businesses. Look for additional layoffs, reductions in benefits, etc.
10. Governments (state and municipal) meanwhile, will either start defaulting on debt or stop delivering services to people. The initial impact will be felt by those demographics least capable of defending themselves, such as the elderly and the poor.
11. Housing will remain depressed as more and more homeowners turn in their keys to the banks. Expect further widening in foreclosures and bank collapses.
12. To make matters worse for the housing sector, home mortgages, which are already very hard to get, particularly on jumbo loans, will tighten much further.
13. The stock market will remain sluggish, which will lead to further flattening on governmental receipts.
14. Unable to hold back the floodgates, the US Government will be forced into austerity measures. This will mean dramatic cuts in all areas: social security, medicare, defense, etc.  As a side note, the International Monetary Fund (IMF) has already signaled that we cannot sustain our current course of action.
15. Cuts will not be able to take effect fast enough so taxes will have to be raised on all income levels, leading to a bitter divide amongst Americans who have jobs and pay taxes and those who don’t. Expect the real possibility of civil unrest in certain cases.
16. Public pensions will be cut and the country will become even more divided, as public sector workforce is pitted against the private sector.
17. The US Dollar will continue to deteriorate. Foreigners will move to replace the US Dollar as the world’s currency, further crippling our economy.
18. In a final insult to America’s greatness, China will take over as the world’s largest economy.
19. The US Government will not be able to sustain its crushing debt and the unthinkable becomes thinkable.  Our great country is forced to restructure (a fancy term for default) on the debt.

The Silver Lining…The Era of Self Reliance Will Return…The Nanny State Will End

Get ready Americans. We will be forced to make real change, and not only in government, but in ourselves. We will be forced to stop passing the buck and stop blaming others for our troubles. We will be forced to take responsibility for our own actions and go back to the days of self-reliance. The nanny state will end. Government’s role in our lives will be reduced, as we will not be able to afford their intervention anymore. The days of society paying for personal bad decisions will be over as market forces take over. [Imagine telling smokers, sorry, we can’t pay for your hospital bills. Drunk drivers, sorry, we can’t pay for your accidents.

What doesn’t kill you makes you stronger. America won’t die. We will come out stronger and leaner and in the end probably a little smarter.

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Simply stated: this is the most outrageous and stupid decision I have seen yet from my local school board.

My kids go to private school so why should I care?? Simple. Middle school is when kids start to make bad decisions. Not having something to do after school is opening the door for kids to get into trouble. And the kids most at risk are those that can least afford it.

CMS says it costs $1.2 million to keep middle school sports. With a budget of over $1 billion, are they seriously telling the community they can’t find this money??

What’s worse is that they will be selling off all equipment and dismantling the sports infrastructure. This is so short-sighted. When things get better, they will have to spend much more to restart the programs without what they already have in place.

My solution is simple. Cut 20 or so administrators and presto, middle school sports is back on.

Please read the article on this topic below from The Charlotte Observer. I would welcome any and all comments.

SCRA Hopes To Fill The Gap For CMS Athletes

The South Charlotte Recreation Association football league had 180 kids in it last year, and the league is preparing for a much higher enrollment this fall.

In May, the Charlotte-Mecklenburg Board of Education will vote on a proposal to eliminate middle school sports from the athletic budget, leaving hundreds of south Charlotte athletes without a team.

The South Charlotte Recreation Association, founded in 1970 and offering six sports, hopes it can accommodate the middle school athletes in the area.

“Every organization would love growth,” said Abby Lynch, marketing director at SCRA who also works with Charlotte Soccer Academy. “All those kids will need a place to go, so we’re trying to make the public aware of their options.”

The SCRA offers football, baseball, basketball, cheerleading, softball and soccer in a partnership with the Charlotte Soccer Academy to athletes across south Charlotte, Matthews, Pineville and even some from South Carolina.

Lynch estimated the program had 1,500 families involved, not including 1,000 soccer players, last year.

“That’s 1,000 kids in south Charlotte that have something to do,” she said. “They’re out there being healthy and with their families.”

Lynch has a daughter, Alexis, 7, and son, Brandon, 8, who play soccer. She knows the impact sports has on them and said she would hate to see them lose their teams.

“I just know as a parent that when you suddenly have that team you’re used to playing on and it’s taken away from you, you really feel lost,” she said. “I feel like these kids will feel much better and they can form that same bond … with our organization.”

SCRA’s first focus is football, which is run under Pop Warner Youth Football.

Barry Hall, who has been coaching football with SCRA for five years and has two sons – Parker, 12, and Bennett, 10 – said football is especially important because there aren’t as many recreation leagues that offer it.

“All the other sports are pretty well represented,” he said. “Football was kind of the one that had me the most worried because there weren’t really as many options out there.”

The biggest issue for the football program is equipment and practice space. The teams practice at Olde Providence Elementary or South Charlotte Middle, but Hall recently reached an agreement with Ardrey Kell High to use its field next season.

The coaches, led by Marty Sumichrast, who has coached baseball for six years with SCRA and football for three, have raised money and sponsorships to buy equipment.

Sumichrast, who has two sons – Martin, 10, and Andrew, 9 – said the coaches started raising money several years ago just to improve the program, but when they heard of the possibility of the middle school cuts, they started working harder to prepare.

“We’re doing it for the overall community because there’s going to be a tremendous need,” said Sumichrast.

Hall and Sumichrast said they have been in regular contact with CMS, and if the middle school programs are cut, Hall said, they expect the football equipment from the schools will be auctioned off. SCRA wants to be in a position to buy that equipment.

Cost is also an issue for the football program. This season at CMS middle schools, athletes paid $50 per sport to compete. It would cost a player about $250 to play football for SCRA, which includes equipment and uniforms.

Hall and Sumichrast said they would like to raise enough to offer financial aid to players in need.

“I’d love to raise enough money and do it all for free,” said Sumichrast, but they plan on working with families who can’t afford the full cost, he said.

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One of the options that may be considered is the elimination of Fannie and Freddie altogether. I am no fan of government, but the elimination of these two firms will further damage housing in America. Fannie and Freddie did work and can work again properly.

When my father was Chief Economist of the National Association of Home Builders (NAHB), he was very close with the management of these two firms. He used to complain how inefficient they were and how impossible it was that they didn’t make money. Then in 1981, David Maxwell became the CEO of Fannie Mae, and took a money loosing operation and turned it into a cash cow.

Named by Fortune one of the Top Ten Greatest CEO’s ever, Fannie Mae was losing $1 million a day when he arrived–”an opportunity to make [it] into a great company.” Fortune reported that in that same year, Fannie Mae’s stock hit an all-time low of under $5.00, yet by the time he retired in the early 1991, Maxwell’s Fannie Mae’s stock was over $40. “More inspired than inspiring, more diligent than dazzling, Maxwell took a burning house and not only saved it, but built it into a cathedral. Some steps, such as selling off $10 billion in unprofitable mortgages, were classic fireman stuff. But his deepest genius was to frame the rebuilding around a mission: strengthening America’s social fabric by democratizing home ownership. If Fannie Mae did its job well, people traditionally excluded from owning homes –minorities, immigrants, single-parent families–could more easily claim their part of the American dream. If turnaround is an art, Maxwell was its Michelangelo,” reported Fortune.

Years later, the craziness began. The out of control lending, fueled by greed and political corruption, sent Maxwell’s well-oiled, money-making machine into complete chaos. What Fannie Mae (and Freddie Mac) needs now is another David Maxwell. Someone who is bright and tough, and can turn things around again. Like I said, don’t through the baby out with the bathwater.

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As you know, earlier this year I published my StreetTV interview where I discussed my thoughts on Shengkai Innovations (NASDAQ:VALV). I recently read a series of articles published on seekingalpha.com by Zach Mansell, where I thought Zach did an excellent job updating us on Shengkai Innovations.  If you didn’t catch them, here are the links for you to read:

Shengkai Innovations: Undervalued with Great Performance

Shengkai Innovations: Stock Offerings and a Bad Case of Confirmation Bias

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No matter your political affiliation, everyone should listen to this 20-minute speech. Here are some key excerpts that ring ever louder today:

On foreign policy:

• “trust but verify”
• “play, but cut the cards”

On the role of government:

• “We the people are the driver, government is the car, we tell government where to go and, what route and how fast”
• “man is not free, unless government is limited”
• “as government expands, liberty contracts”

On regrets while in office:

• “The Deficit”

On teaching of history to our children:

• “teach history by not what is in fashion, but what is important”

At the end of his address, Reagan also said that although during his eight years in office, America regained its sense of patriotism, he warned of the potential of the “erosion of the American spirit.” He urged Americans to remember the sacrifices that past generations had made by continuing civic rituals.

I coach Pop Warner Junior Pee Wee football. Before every game, we stop and listen to “The Star Spangled Banner.” I watch these 9 and 10 year-old boys take their helmets off, face the flag and put their hand over their heart.  It is important…it is America. I really hope that someday, some activist judge does not take that away.

My parents came to this country in 1955, as penniless refugees fleeing communist Eastern Europe. They never took for granted their right to vote. They never failed to vote. They always said, “If you don’t vote, then don’t complain.” Exercise your civic duty and go vote… it’s important!

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Pulte Homes (PHM) — This major homebuilder was $10.20 in February. I told you to sell it down to $10. I predicted you could buy it back cheaper in the near future. It did spike up in the summer to $13.45, but has since retreated. It is for sale today at around $8.00. I am tempted to jump back in, but for now, hold it if you still own it. If you do not own it, put in a buy limit order around $7.50. Either way, put in a GTC sell ticket at $13.

Huaneng Power (HNP) — This Chinese energy company was making my China picks look bad. I first recommend it at $29.34, then it promptly sank to $22.14. I told you not to panic and to stick with it. The China market is staging a comeback and so is HNP. It is now at $25.21. Hold on and you will make money. Put in a GTC sell order at $36.70. If you don’t own it, buy some under $25.

General Electric (GE) — This was one of my very first picks two years ago when it was at $11.62. In February, it hit $16.40. I told you to hold it. I ran up to $19.70, before pulling all the way back to $14.26. It is now at $16.28. I predict we will see $20 by next spring. Do not put a GTC on this one as it will be a long time hold.

Bank of America (BAC) — I picked it at $16.50 and it plunged to $12.63 by February. It has had a wild ride ever since. It ran up to $19.36 over the summer, but now, with the mortgage mess, it is back under its February price level at $11.98. I hate to drop back and punt, so for now, I say hold on for another 6 months and let’s see what happens. Put in a GTC sell at $20, in case we get a run.

JP Morgan (JPM) — I picked this stock at $38.50 in February. I was right and it ran straight up to $48.20. Now it is back down to $37.80. Hold on to it, though, because it will be back over $45 by next spring, or maybe sooner. If it gets any lower, it may be time to buy some more. Like GE, no GTC orders. I love Jamie Dimon and if anyone can maneuver a bank through these muddy waters, it is him.

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Today’s “journalism” seems to have taken a page straight from the old college mantra. How many times have we seen articles that paste semi-facts with generalizations and guilty-by-associations that tarnish reputations with the singular goal to profit from the damage these kinds of stories can generate. None do this better than the short newsletters and blog posts.

As my readers know, I have been an investor in the Chinese economy, via reverse mergers of Chinese companies in the US capital markets. I see the potential coming from China and it is unstoppable. If you don’t have some allocation in this market, you should. As with any new and explosive space, there is always a period of overcrowding, followed by a period of failures that come from Darwin’s Law that only the strong survive. Some failures are natural (ie. bad business plan, executions, etc) and some outright fraud. It’s unfortunate, but not unique to the China stocks. But what it does do is provide an excellent bully pulpit for those betting against the China space.  And those that are well versed at this game are in high gear exploiting this part of the story.

You can always tell the negative news is coming by following the short interest. If it’s on the rise, get in the bunker, you are about to be shelled by short seller reports. I read with interest on Monday, August 30, the Barron’s article , “Beware This Chinese Export,” critical of the overall performance of China based reverse mergers. Versed as I am in this space, I couldn’t believe that the numbers where as bad as the writers had suggested. Like many, I was too busy to fact-check the data from the Barron’s report. Last week, Rames El Desouki, a writer for the blog site, Seeking Alpha, countered the Barron’s report with data he researched. I don’t normally re-post someone else’s article, but in this case I think it warrants the attention. Please read it below, I think you will find it informative.

I have also included a table of open short interest at the end of every quarter this year (September is not out, so I used the most current data which is August 30^th) as reported by NASDAQ on the 10 stocks covered in the Barron’s article. Judge the results for yourself.

“The Myth of Underperforming Chinese Reverse Mergers”
by Rames El-Desouki

Two weeks ago, Barron’s printed a feature article titled “Beware This Chinese Export“, written by Bill Alpert and Leslie P. Norton. It was labeled as a “study” and subtitled “Chinese Reverse-Merger Stocks Lag Key Indexes.” The tone of the article was very negative about anything related to U.S.-listed Chinese stocks that went public via reverse mergers. It basically warned investors not to touch any of those, closing with this caveat:

The reverse-merger industry gathers in Hawaii this week at a Roth conference—a venue equally favored by China stock touts and by the sector’s short sellers. The rest of us should probably stay home.

Barron’s explicitly mentioned nine Chinese stocks in their article and I have added a tenth name here (China Agritech – CAGC – which was downgraded last week on concerns over an auditor that the company dropped 2 1/2 years ago), just to get to an even number. As you can see, this group of Chinese reverse merger stocks has clearly underperformed the key indexes since the Barron’s article was published. In the last two weeks both the Shanghai Composite Index (SSE, +2.0%) and the S&P 500 (SPX, +4.2%) posted gains, while this group retreated on average by a significant 8.56%. It can’t be denied that Barron’s had some influence in this.

Now back to the key argument of Alpert and Norton, that Chinese reverse merger stocks lag “key indexes.” I will use the Shanghai Composite as the most watched index in mainland China, and the S&P 500 Index for the U.S. as “key indexes” for this article. But let’s also add the Halter USX China Index (HXC), as Barron’s refers to this index as their “key index.”

A quick look at the Halter FAQ shows that “for a company to be included in The Halter USX China Index, it must be listed on the NYSE or Nasdaq and have an average market capitalization of at least $50 million for the preceding 40 trading days,” and if we look at the list of current components, we find out that China Agritech (CAGC), China Integrated Energy (CBEH), China Green Agriculture (CGA), China Natural Gas (CHNG), Deer Consumer Products (DEER), AgFeed Industries (FEED), Gulf Resources (GFRE), Orient Paper (ONP), RINO International (RINO) and also SkyPeople Fruit Juice (SPU) are in fact current components of this index.

Those 10 stocks haven’t always been eligible for the Halter Index, though. They usually started out on the OTC/BB a short while after their reverse merger deal, stayed there for a for a few months or even years, did a reverse split and uplisted to Nasdaq or a NYSE exchange shortly after. All 10 names have matured from their rather obscure post-RM stage on the bulletin board. They have successfully listed their stock on a senior U.S. exchange now, which is the final goal of basically all reverse merger deals.

Now Barron’s claims that reverse-merger stocks have drastically underperformed the key indexes:

Most reverse-merger stocks have proven to be a poor way to ride China’s boom. Today, the market cap of these stocks has shrunk to $20 billion, a 60% drop.

The authors have also determined that:

The median return among the 30 CCG reverse-merger clients with at least three years of trading history underperformed the Halter index by a whopping 70%, since their mergers.

So Alpert and Norton use stocks with “at least three years of trading history” and measure their performance “since their mergers.” I believe that using both those terms is deliberately misleading; it doesn’t prove anything and doesn’t show the actual performance of those stocks.

First of all, there aren’t that many reverse-merger stocks with a trading history of three years or more. If we go back those three years we get to the peak of the stock market bubble in mainland China. The Shanghai Composite climbed 124% from January to October 2007, reached 6124 points on October 16, and dropped 56.5% to reach the current level of 2663 points. Yes, the average return of a domestically listed Chinese blue chip is a negative 50% for this 3-years period.

However, it is not just pure coincidence that the number of reverse mergers exploded at the peak of China’s stock market bubble. Five of the ten stocks in our group exercised their reverse merger between October 2007 and February 2008:

Now what we can’t do is evaluate the overall performance of a stock using the date of the reverse merger or the first quoted price as the starting point. The first quote price is meaningless if there is no active trade in the stock. It can take many months until a reverse-merger stock is actively traded; until then there is virtually no one outside of the deal participants or shell share owners involved. The quoted price on the OTC/BB does in no way reflect what the market is willing to pay for the stock; it very often is nothing else than a painted quote on a single trade of 100 shares with many days of no volume at all in between.

A good example is North China Horticulture (IDCX), which completed their reverse merger on July 16 of this year. The first quoted price since the merger was $4.50 and the stock is quoted between $5.00 and $7.00 since. However, there have been only four days with actual volume since July 16, and none of those days saw more than 1000 shares changing owners.

The current quote of $5.00 for IDCX is completely meaningless as it would imply a P/E-ratio of 43 based on the last two reported quarters. We don’t know when the stock will actively start trading, but I would expect the price per share to settle at a level of around $0.50 – or about one tenth of the current quote – which would imply a reasonable P/E-ratio of 4-5.

If Alpert and Norton use the term “since their mergers” for measuring performance, it is misleading investors, and they know it. A responsible approach to evaluate total performance would be to use the opening price of the first day when a reverse-merger stock traded more than 10,000 shares – or even better, the average price of the first five sessions a stock was actively traded.

Investors who purchased our group of 10 stocks during the first week of active trading, would have been sitting on an average return of 145.00% on August 27 this year, the day before the Barron’s article was published.

Investors who purchased our group of 10 stocks two years ago – at the close of September 10, 2008 – would have a gain of 176.69% today. That compares to a 23.83% gain for the Shanghai Composite (SSE), a 9.94% loss for the S&P 500 (SPX) and a 13.68% gain for the Halter Index (HXC).

Investors who purchased our group of 10 stocks 18 months ago – at the close of March 10, 2009 – would have a gain of 378.54% today. That compares to a 23.38% gain for the Shanghai Composite (SSE), a 54.19% gain for the S&P 500 (SPX) and a 84.21% gain for the Halter Index (HXC).

Investors who purchased our group of 10 stocks one year ago – at the close of September 10, 2009 – would have a gain of 3.46% today. That compares to a 8.95% loss for the Shanghai Composite (SSE), a 6.26% gain for the S&P 500 (SPX) and a 4.28% gain for the Halter Index (HXC).

As we can see, our group of 10 reverse-merger stocks has not underperformed the “key indexes” in any of the scenarios, quite the opposite actually. However, many of the Chinese RTO stocks have retreated this year, probably in large parts as a result of negative articles like Alpert and Norton’s piece and generally due to concerns over corporate governance, internal controls, earnings quality and management credibility.

This development suggests that many long-term investors who started a position in those reverse-merger stocks have realized profits in the last 12 months and didn’t hold on to their shares no matter what, watching their portfolio drop in value every day. Most responsible long-term investors will have protected their holdings with stop-loss marks or will have reacted on market developments. Just for fun, let’s have a look at what those investors could have earned if they had sold at the 52-week high.

Now what is the bottom line of all this? You should not generalize all Chinese reverse-mergers and throw them all into the same pit. Alpert and Norton followed-up on their article in this weekend’s Barron’s edition with another misleading claim:

[We measured] the investment performance of every identifiable reverse merger company, then showing how investors would have done if they had picked the typical (i.e., median) performer in the group.”

Here is your answer to that: many, if not most reverse mergers fail! Those stocks never make it past their post-merger stage, they never come even close to maturing, to becoming eligible for a senior exchange. And most importantly they never came even close (and probably never will) to catch the attention of a value-oriented investor in Chinese stocks. Those stocks are trading on very low volume on the OTC/BB or Pink Sheets, they are often delinquent in their filings, the price per share is below $1 or even below 1 cent and nothing and absolutely nothing makes them part of the group of serious, profitable Chinese businesses that became public companies via reverse mergers.

No serious investor puts their money in any of the many questionable China-based penny stocks on the OTC/BB or pinks, and most of them went public via reverse mergers. Just like you wouldn’t choose any of the OTC-quoted U.S. penny stocks if you seriously intended to invest in technology or mining and metals. That’s why the Halter Index has eligibility rules, and that’s why investors and research firms do their due diligence, visit the company, talk to customers and competitors and so on…

Look for maturing reverse mergers! They have to be actively traded, should be consistently profitable, and should have a clear path ahead, off the OTC/BB or Pink Sheets onto a senior U.S. exchange. You have to do your own due diligence, there is no way to avoid that for a serious investor in Chinese stocks. If you buy into a newly listed reverse merger stock, you take on many additional risks, including a large number of shares that might flood the market from early investors (hedge funds) who got in at a very low price, or from those parties that managed the reverse merger deal and got a good share of the company in return. Again, as an investor, watch for those RTO stocks that are maturing and have a clear path to Nasdaq or a NYSE exchange.

Alpert and Norton wrote this weekend that “unless one cherry-picks examples, the expected performance of these stocks is lousy.” I have cherry-picked those very stocks Alpert and Norton explicitly mentioned as negative examples in their original article, and those have outperformed the key indexes including the Halter Index in every single reasonable scenario. I have picked those ten stocks despite the fact that they are now far off their highs, having dropped in no small part due to Barron’s and other publications presuming that “China plus Reverse Merger automatically leads to losses.” As any reader or prospective investor can now see, this presumption by the critics is simply not valid.

Disclosure: No positions

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General Electric (GE). One of my first picks from last year (at $11.62), it was $16.40 when I told you to stay put in February and it saw $19.80 recently, before retreating back to $16.95. I’m not overly concerned, so hold it for now, but of you see $19.80 again, sell at take your 70% return.

Hunang Power (HNP). This Chinese energy company bounced of its $22 bottom and has edged up again to $24.50, before pulling back on the recent wave of selling in all China stocks. It’s now $23.45 down from my original price in March 2009 of $29.34. I would put in a limit buy at $22 and if it sells off further, you can average down. China + Energy = Profits.

China Integrated Energy (CBEH). A perfect example of beating the street and the stock goes down. The street had revenue of $88mm and a net of $.26, and they did $109mm and netted $.27. In the case of CBEH, the concern here is margin compression. While on the surface, this did occur, I spoke to the Company and it’s my opinion that this is a temporary affect due to expansion in both the retail gas station business and they heavy oil distribution business. They are at full capacity on the high margin bio diesel business and will be opening another plant by year end and may further expand through an acquisition. I first recommended CBEH at $4.00 in March 2009; it hit $12.05 recently but has backed down to under $8.00, then bounced up to around $9.25. Normally I would take a double and go home, but I can’t find a better place for my cash. If they hit their concensus earnings of $1.08 a share this year, at 12PE puts them back over $12. Hold it if you own it and buy some if it dips under $8.50. (I own this stock).

Bank of America (BAC).  Well at least it’s not Goldman Sachs (GS). Picked last October at $16.50, it moved up, then retreated and is $15.90. Despite the fact that I am getting nervous about the global picture, in the end, the US seems to be better than Europe and BAC is well positioned to ride out the storm.  Hold it for now.

QKL Stores (QKLS).  QKLS reported a huge 1st quarter. They increased their top and bottom lines by over 25%. The stock was over $6 when I said buy it if it dips below $6. Guess what, it went below $5 a few weeks ago and is currently sitting at $5.20. QKL will add another 20 stores this year (a 50% increase) and they have just opened their massive Distribution Center (DC), which is critical to support their rapid expansion program. The concern here was margin compression, but I think that’s bogus…show me a consumer retail expansion where margins aren’t hampered with start-up costs. Same store sales last quarter were up over 9% and the DC will lift margins up from the mid 17% range to over 19%. If you own it higher, consider averaging down. If you don’t, it may be a great time to add it to your portfolio. (I own this stock).

Shengkai Innovations (under new symbol “VALV”, formerly SHE). VALV has had two explosive quarters and I believe we are just at the beginning. Wait until the open the new plant and triple their capacity. With a net income of 35% of sales, you would think they would selling software and not ceramic valves.  I first recommended VALV at $6.00 and it ran up to $10.50, before pulling back to around $8.25 today. Rodman and Renshaw issued at BUY giving a 12 month target of $21. According to Lewis Fan, the report’s author, next year’s revenue will top $125mm (from $45mm) and income will explode to over $45mm (from $19mm). VALV is on a June 30th fiscal year, which means we won’t have to wait long for these numbers to be kicking in. If he is right, this stock may be the cheapest on my list. If you don’t own this stock, I strongly urge you to take a close look. I don’t want to have to say I told you so. Even my son Martin who turns 10 today, likes this pick. (I own this stock).

JP Morgan (JPM) – I said buy it at $38.50 and it went as high as $48, before the massive sell off in the past 30 days. It’s up a little still at $39.70, and like BAC, I’m nervous, but my gut says hang in there.

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