5 Stocks With Explosive Potential

What a shift in attitude!

According to a recent survey, 68% of Americans surveyed said they're "not confident the stock market is a good place to invest their retirement savings." No wonder investors continue to pull money out of domestic equity mutual funds.

Jeremy Grantham thinks quality stocks can generate 4.5% to 5% real returns. That may be enough for Grantham's clients, but that's really low. To make matters worse, the forecast for the market is high volatility, just like the past 10 years.

Going against the grain
If the crowd is getting defensive, then it's time to consider going on the offensive. That's why I am looking for home run investments for my Trends and Trades (TNT) portfolio. I want to invest in companies that can be successful regardless of what the market does.

Have I lost my mind and become a risk-seeking gambler? Let me answer that question with a quote from venture capitalist Peter Thiel: "Swinging for the fences is probably less risky than people think."

It's not intuitive, but done well, swinging for the fences can really pay off. Just look at the math below, illustrating the returns on two separate $100,000 portfolios.

Portfolio 1       Portfolio 2    

Start

Return

End

 

Start

Return

End

$20,000 200% $60,000   $20,000 25% $25,000
$20,000 25% $25,000   $20,000 15% $23,000
$20,000 0% $20,000   $20,000 10% $22,000
$20,000 (50%) $10,000   $20,000 5% $21,000
$20,000 (100%) $0   $20,000 (5%) $19,000
$100,000   $115,000   $100,000   $110,000
  Total Return 15%     Total Return 10%

Source: Author's calculations.

Yes, this is a stylized example. But it clearly illustrates the power of finding big winners. Even with two failed investments, Portfolio 1 outperforms Portfolio 2. And regardless of what the overall market does, there are lots of exciting companies poised to generate explosive performance. We just need to find them.

The problem and the solution
The problem is between our ears. Our brains are holding us back. Studies show that the pain of a loss is twice as powerful as the joy of a gain. We want to have big winners in our portfolios, but we're too afraid to lose money in the process. Those two losses in Portfolio 1 hurt -- a lot!

To overcome our fears, we first need to recognize them. Next, we need a plan, a set of rules to help us find those TNT companies capable of generating explosive performance. I am looking for companies with:

  1. Transformational technologies, ones that can change an industry or even the world.
  2. Nascent performance.
  3. Talented management to guide the company on its journey.

One I own, four I like
I recently purchased Zipcar (Nasdaq: ZIP  ) for the portfolio and consider it to be a quintessential TNT company. Management made car-sharing possible on a global scale and profitable at the car level. Putting those together, Zipcar is poised for explosive performance -- and I think the four companies below offer the same home run potential.

Solazyme (Nasdaq: SZYM  )
Solazyme uses microalgae to produce oil -- and lots of it. Through February 2011, the company had produced more than 500,000 liters of oil. And that's just skimming the surface. In May 2011, management purchased a production facility that should generate more than 2 million liters per year. In addition, Solazyme has partnered with Roquette Freres (France) and Bunge (Brazil) for additional production capacity.

Bigger is better for Solazyme. Increasing the scale of production should push costs down closer to its goal of $1,000 per metric ton ($3.44 per gallon), an important threshold to compete within its $1.5 trillion total addressable market. Plus, United Continental Holdings (NYSE: UAL  ) would like to buy 20 million gallons of fuel per year from Solazyme starting in 2014. Management has a huge incentive to get the new plants up and running!

Solazyme has made a production breakthrough and is scaling up rapidly. Success isn't guaranteed, but the company looks well on its way to explosive performance.

MAKO Surgical (Nasdaq: MAKO  )
$21.7 billion. That's the amount of revenue GlobalData projects knee and hip replacement procedures will generate by 2016. And it's not just aging baby boomers driving the trend. The increase in obesity is putting more strain on joints and younger men and women are opting for surgeries to maintain their active lifestyles, especially as implant technologies improve.

MAKO's robotic surgical technology, named RIO, has been taking the market by storm. Since 2006, the company has sold 97 systems, which have performed more than 10,000 procedures. Scale is the key. As more doctors perform more surgeries with robots, profitability should increase over time. That's why the MAKO sales team has been getting the word out to as many doctors and hospitals as it can.

Knee and hip replacement surgery is a big, growing market. MAKO Surgical has differentiated itself with a robotic surgery system and its own set of implants. If management continues to put more machines in more hospitals, MAKO has a long run ahead of it.

Pandora (NYSE: P  )
A genome is the genetic material of an organism. Pandora, the online music experience, started as the Music Genome Project. Over the years, company researchers captured the fundamental building blocks of its music collection in more than 450 attributes, or genes. That is a very valuable database, and one that creates a fantastic listener experience.

On Pandora, users create stations from an artist or band. The music genome database then pushes out songs that have similar characteristics. These may be older songs from bands we love. Or they could be from new musicians we're about to discover. No matter which, people love Pandora. As of April 2011, there were 90 million registered users, with one signing up every second, on average.

Right now, advertisers pay the bills. The company also offers a subscription service -- ad free. The ad model can be very risky, but the company has the time and momentum to optimize its business model. Pandora is a growing force in the mobile domain, where 50% of new subscribers sign up. It recently turned operating cash flow positive, a big step forward on the path to improving performance. The question is, will Spotify pull the plug on Pandora's lead over time?

EnerNOC (Nasdaq: ENOC  )
Imagine a hot summer day. The mercury flies past 100 degrees and people rush to drop their thermostats to 68 -- all at the same time. That would be the perfect recipe for a power outage if EnerNOC weren't on the case.

EnerNOC is in the demand response business. When a grid operator senses a problem, EnerNOC gets a call to jump into action and reduce the power consumption of its clients. Think of it as automatically turning off lights and appliances, balancing supply and demand. The grid operator pays EnerNOC a service fee for the help and EnerNOC splits the proceeds with the clients. It's a win-win!

Management wants to maintain and grow its early lead. They continue to sign up new clients, build the inventory of megawatts available, bid for new demand response contracts, and make strategic acquisitions. The stock has been hit hard recently, following a spat with its largest customer, but EnerNOC's massive collection of data, new products and services, and cash flow generation give the company a very bright future.

Which one will I buy?
It's not easy to swing for the fences. We all want to find big winners, but we want to avoid losses even more. Still, I think portfolios should have at least a small percentage devoted to companies that can generate explosive performance.

I will be adding one of the companies above to the Trends and Trades portfolio next week. The easiest way to find out which home run idea will make the cut is to click here to follow along on Twitter.

And who knows -- maybe I will be purchasing more than one.

David Meier is an associate advisor for Million Dollar Portfolio. He owns shares of EnerNOC. The Motley Fool owns shares of EnerNOC, Solazyme, and Zipcar. Motley Fool newsletter services have recommended buying shares of EnerNOC, Zipcar, and MAKO Surgical, as well as writing puts on EnerNOC. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


Read/Post Comments (2) | Recommend This Article (21)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On November 22, 2011, at 1:41 PM, WatchfulEye1776 wrote:

    Motley Fool continues to see drop in ENOC price as a buying opportunity, never considering that this is a business model in decline. Demand Response as they are practicing it is commoditized, on its way to becoming obsolete as unique software systems enable large portfolios to become their own aggregator. Also, the motivation and morale at ENOC is bad among the very people expected to execute on the strategy. Check out www.glassdoor.com to see what I mean.

  • Report this Comment On November 29, 2011, at 10:09 PM, Fool wrote:

    This is a great article David, and I added my +1 rec.

    The only thing I might add to running your portfolio like a VC (as you have implied in your first few paragraphs) is how crucial it is to let your winners run. When you 'swing for the fences', you're going to lose quite a bit on a few of your investments. To counteract that, I think it's incredibly important to let the winners mature to their full potential if you want to realize returns for the diversified portfolio.

    That said, any guidance on what would ultimately convince you to sell ZIPCar, Solazyme, Mako, or EnerNoc?

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