The Good News May Be Bad News For HP

03/12/2007 12:00 am EST

Focus:

Bernie Schaeffer

Chairman and CEO, Schaeffer's Investment Research

Bernie Schaffer, chairman and CEO of Schaeffer's Investment Research, uses his contrarian approach to show how a favorable magazine story on Hewlett-Packard may mean all the good news is already in the price of the stock.

The cover story in the latest edition of Forbes focuses on how chief executive officer Mark Hurd has worked to turn around Hewlett-Packard (NYSE: HPQ ) through cost cutting and a new accountability among its division managers.

"As 2006 ended, HP emerged as the largest tech company in the world, bringing in $92 billion in sales and eclipsing IBM, which had held the number one spot for four decades," the article [said. It] is quick to point out that the firm has lifted its profit margin (before interest and taxes) by 1.6 percentage points in fiscal 2006, to eight percent, while Hurd has imposed layoffs of 15,300 people with no loss of revenues.

Furthermore, Hurd strives to maintain a team atmosphere among its managers, shedding much of the mentality that his predecessor Carly Fiorina created.

Our contrarian takeaway: At Schaeffer's, we have found that cover stories often work as strong contrarian indicators as the chances are that by the time a cover story appears, this trend is already widely known, universally accepted, and in place for a decent length of time or very significant in magnitude.

The shares of HPQ had rallied more than 170 percent from their August 2004 low to their January 2007 [high near $44]. Yet, by the time the Forbes cover story reached the newsstands, the stock had already begun to break down. The shares closed last week [just above $40,] below the support of their 20-week moving average for the first time since early August 2006.

Furthermore, the stock is currently struggling with a 50-percent retracement level of the stock's decline from its July 2000 high to its October 2002 low, leaving the shares vulnerable to rejection.

This growing technical weakness has been met with optimistic sentiment [from] investors. The stock's Schaeffer's put/call open interest ratio rests at 0.76, which is lower than more than two-thirds of the readings taken during the past year. The number of HPQ shares sold short also plunged by 35 percent in February to 22.6 million, resulting in a paltry short-interest ratio of 1.6 days to cover. This combination of growing optimism and lackluster technical performance has bearish implications from a contrarian perspective.

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