Welcome back! Miss us? This is our first column since before the holidays, because Christmas and New Year's fell on the Tuesdays when Rule Breaker columns now appear. Wednesday holidays this year will earn the Rule Maker port the next two-week blackout. So there.
This week's column takes stock of the portfolio for 2001, and next week's will look ahead to this year. First, some words about the Rule Breaker strategy and its august history.
A word to the Foolish
Whether new to the strategy or a seasoned veteran, please, please, please take note: Rule Breaker investing is risky. In their book Rule Breakers, Rule Makers, David and Tom Gardner strongly advise that stock investors not invest more than 20% of their portfolio in risky companies of the Rule Breaker ilk, maintaining 80% or more in established, dominant, profitable, familiar companies, dubbed Rule Makers. That reflects the substantial risk of shares of top dogs and first movers in important, emerging industries.
Also, keep in mind that it's an investing strategy in development. It's a real-money (yup, it's David Gardner's actual cash) portfolio with all its good and bad choices in full public view, so we can all learn, debate, and throw tomatoes or roses. David and others crystallized ideas used in the original Fool Port, which purchased several of the stocks you see in the Rule Breaker port today-- AOL Time Warner (NYSE: AOL) in 1994, Amazon (Nasdaq: AMZN) in 1997, and Starbucks (Nasdaq: SBUX) in 1998 -- and christened them the Rule Breaker criteria. Then, lots of community feedback led to the Rule Breaker principles, and the Fool Port was officially renamed the Rule Breaker Portfolio in December of 1998.
The strategy keeps evolving, dividing the criteria into business (the most important) and stock criteria. A major change was adding the 10x/5y valuation-potential return component. The strategy will undoubtedly evolve more, slowly, as we learn and share.
You can learn the strategy at your own pace in our Rule Breaker Investing online seminar, which you can start anytime!
Don't mimic us
While this portfolio has beaten various market averages, there is no guarantee that it will continue to do so, or for how long. Remember that all you have to do to match the broad market returns is to invest in a low-expense stock index fund, such as one that mirrors the S&P 500 or Wilshire 500 indexes. Here's what Tom Gardner wrote in 1998, and we still believe it today:
Fool, if you're looking to mimic or model investments off this portfolio, you still need to take personal responsibility for your decisions. We aren't money managers; we don't charge 1% of your total assets to allow you to access The Motley Fool Online. And, most importantly, we don't think you benefit by closing your eyes and outsourcing the management of your money, of your opportunity, to others.
If you prefer to have others do it for you, then just purchase shares of an S&P index fund, enjoy the long-term returns from America's five hundred largest companies, and methodically add savings to that fund. It's worth stating that this forum has never acted as a money-management vehicle. Every inch of our editorial material has stated and restated this principle: Take responsibility for your financial decisions, Fool, and treat the stock market as a long-term savings vehicle while you learn more about American business. Do not blindly rely on the ideas of anyone in this forum without doing your own research -- whether his name is Tom Gardner or her name is TMF Madonna.
Without taking that responsibility, you'll never enjoy the intellectual or monetary rewards of your efforts. You'll be weakened by speculative ignorance on a subject that you can so easily control (if through nothing else, through an index fund).
Here's our 2001 review. All share prices are split-adjusted.
Shorting and covering
We shorted Affymetrix (Nasdaq: AFFX), the maker of the GeneChipTM genetic testing and analysis system on June 21, 2001, and covered on Sept. 22 for a 31% gain in three months (a nice profit, especially sweet considering that we took some guff from one of our competitors). This short presented many risks, not the least of which is that stocks of unprofitable development-stage companies whose focus is some aspect of biotechnology are extraordinarily volatile. Need proof? Affymetrix has hovered around $40 a share the last few days -- about 167% up from our cover price. Whew!
No wonder shorting makes some people nervous, not least because it's done on margin and requires watching stock prices more closely than most of us would prefer. You can be a happy and successful investor without ever shorting a stock. If you want to learn more about it, consult our special Foolum opus, "Is Shorting Stocks Foolish?"
Selling some, buying more, buying back
We trimmed our Amazon (Nasdaq: AMZN) holdings in March, leaving us with 1320 shares with a cost basis of $3.18, or an original investment of $4,204. Amazon shares ended 2000 at $15.56 and finished 2001 at $10.82, for a 31% decline. Jeff Fischer examined the key business measures and challenges for Amazon at the end of the year. It's a small part of the portfolio, but a fascinating one.
Online auctioneer eBay (Nasdaq: EBAY) continued to be a cash flow generating machine. For the first time for any stock in this portfolio, we added shares in March. The stock was our biggest 2001 gainer, up 103% from $33.00 to $66.90. One big question concerns eBay's acquisition plans. In September, Brian Lund reported that the company filed with the SEC for a possible future $1 billion stock offering. We'll hope that any business expansion would more than compensate for the share dilution.
We decided to use losses in one of our holdings, Human Genome Sciences (Nasdaq: HGSI), for tax advantages. We sold and bought back in after 30 days, complying with the tax-loss selling rules. Not counting the tax aspects of the sale, the sold HGSI shares were off 54% for the year, and those we repurchased finished the year off 22%. Ouch!
Human Genome Sciences is clearly one of our riskiest investments, even more so now that Phase 2 human trial results for wound-healing drug Repifermin have been disappointing The company has no drugs on the market and none in pivotal Phase 3 human trials. We're enthralled with CEO William Haseltine's vision, but we're waiting for the company to produce therapeutic protein and monoclonal antibody drugs and cut out the company spin on negative drug trial results. High risk here.
Buying a newbie!
We bought a new stock this past year, drug maker Millennium Pharmaceuticals (Nasdaq: MLNM), one that we considered strongly at the time we first purchased Human Genome Sciences. Millennium's revenues are about 10 times higher than Human Genome Sciences', while the company is only valued about 25% higher. Millennium's proposed acquisition (also spun) of COR Therapeutics (Nasdaq: CORR) and its successful Integrilin drug add revenues -- and dilution. Millennium shares finished the year 53% above our purchase price. Jeff Fischer analyzed the company in a recent issue of The Motley Fool Select.
We left alone our positions in Amgen (Nasdaq: AMGN) (down 12% in 2001), AOL Time Warner (NYSE: AOL) (down 8%), Celera Genomics (NYSE: CRA) (down 26%), and Starbucks (Nasdaq: SBUX) (down 14%) unchanged.
We wrote about the challenges for Celera's business and its Ego in Chief. Celera acquired Axys Pharmaceuticals this year and further developed its Celera Diagnostics joint venture with sibling Applera Corp. business, Applied Biosystems (NYSE: ABI). Revenues increase, but so does the cash burn. The company has $968 million in cash and short-term investments. We'll wait to see how it pursues its drug development strategy.
By now, readers of this column know I find Amgen significantly overvalued, such that the chances of it providing further significant returns are low. Its proposed purchase of Immunex (Nasdaq: IMNX) may make business sense, but our analysis says it's not good enough for Amgen shareholders at the company's current valuation. I could be wrong, but I'm on the lookout for better places to put our Amgen money.
AOL Time Warner finally succumbed to the weak advertising market last year and lowered expectations. It will be interesting to see how Monday's news affects the business: AOL announced how it would pay to purchase Bertelsmann's 49.5% stake in AOL Europe. AOL Time Warner will pay $5.25 billion in cash this month, and another $1.5 billion in July 2002. AOL Time Warner already has about $18 billion in long-term debt, so seeing all this cash go out the window right now seems unfortunate.
That's a wrap-up of 2001. Next week's column will look at what's up for our holdings and the strategy in 2002.
Have a most Foolish week!
Tom Jacobs (TMF Tom9) eats way too many sweets. At press time, he owned shares in Celera Genomics and Millennium Pharmaceuticals and is short Affymetrix. To see his stock holdings, view his profile, and check out The Motley Fool's disclosure policy. Tom reserves the right to be wrong, stupid, or foolish (small "f"). As if.