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Rally’s leaders are worth watching

Some of the stocks that led the market’s rally the past two weeks will probably be among the market’s leaders in the future. At least, that’s what a little study I did over the weekend suggests. The current rally featured eight straight up days, ending Friday.

The last time the US stock market saw a streak like that was in 2004, when the market rose nine days in a row in the fall. I studied the fate of the 10 stocks in the Standard & Poor’s 500 index that led that 2004 rally. Most have gone on to continued gains — often huge gains.

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Intuitive Surgical Inc., the third-hottest stock in the 2004 rally (up 29 percent in nine days) gained an additional 1,774 percent from Nov. 4, 2004 through Jan. 25, 2013.

F5 Networks Inc., also up 29 percent in the 2004 rally, has added 396 percent since.

The leader in the 2004 streak was Nvidia Corp., up 32 percent in nine days. Since then, it has tacked on an additional 112 percent.

As a group, the 10 stocks that led the rally eight years ago have advanced another 269 percent since then, compared with 53 percent for the S&P 500, which is a decent proxy for the US stock market as a whole.

Of course, not every leader in the fall of 2004 went on to greater heights. Two are down since then. Zimmer Holdings Inc. has declined 7 percent, and Harman International Industries Inc. has fallen 59 percent.

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Cardinal Health Inc. has advanced 48 percent but failed to beat the S&P 500. Express Scripts Holding Co. managed only a 1.5 percent return.

Eight-year returns for the other three were 242 percent for Humana Inc., which I own personally and for clients, 102 percent for Aetna Inc., and 85 percent for PerkinElmer Inc.

These are mixed results, but suggest it’s worth taking a look at the leadership in the market’s latest streak. In the latest rally, the 10 best gainers in the S&P 500 were:

1. Netflix Inc., 64 percent

2. Genworth Financial Inc.,18 percent

3. Life Technologies Corp., 18 percent

4. KLA-Tencor Corp., 15 percent

5. H&R Block Inc., 15 percent

6. Nabors Industries Ltd., 15 percent

7. Chesapeake Energy Corp.,14 percent

8. PulteGroup Inc.,13 percent

9. Morgan Stanley, 13 percent

10. Intuitive Surgical, 13 percent

(Price changes are from the Jan. 14 close through Jan. 25.)

Look who’s in the number 10 spot. It’s none other than Intuitive Surgical, a leader in the 2004 rally and a leader in the 2013 one, as well. It makes surgical instruments.

Because I’m a value investor who seeks undervalued situations, Intuitive Surgical is not for me. The stock sells for 36 times earnings, six times book value (corporate net worth per share), and 10 times revenue. I look for stocks at less than 15 times earnings, less than two times book value, and/or less than two times sales.

The biggest winner lately has been Netflix, which posted a gain of 13 cents a share for the fourth quarter when analysts had expected a loss of 13 cents. Selling at more than 500 times earnings, Netflix isn’t my cup of tea, either. But there are stocks among the rally leaders I like.

I see potential gains in Genworth Financial Inc., which offers life, mortgage, and long-term care insurance. Its stock sells for less than book value.

Nabors Industries Ltd., an oil and gas drilling company, is also selling below book.

I think KLA-Tencor is a good purchase for long-term investors, though I wouldn’t expect much action in the next six to 12 months. It makes process-monitoring equipment for semiconductor manufacturers. It has been consistently profitable except in fiscal 2009.

More timely but more speculative is PulteGroup Inc., a home builder. Its valuations fail my normal tests, but I think home builders are in the early stages of a long, strong comeback.

John Dorfman is the chairman of Thunderstorm Capital in Boston. His firm or clients may own or trade securities discussed in this column.

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