To print article, click Print on your browser's File menu. Go back Posted 9/29/2000 Niederhoffer & Kenner What's next for Wall Street	sponsored by: Extra! Spotting the next generation of 'Wow!' stocks Want to find tomorrow's Intels and Ciscos? Look no further than publications reporting on the latest winners in research and development. Here are eight that emerge as the possible giants. By Victor Niederhoffer and Laurel Kenner By what means are we to decide whether the money paid to the researcher is being spent upon research? --Pall Mall Gazette (1883) The tech-stock leadership structure is in upheaval this month -- Intel (INTC, news, msgs) down 40%, Cisco Systems (CSCO, news, msgs) down 17% and Microsoft (MSFT, news, msgs) down 12%. Money Plus. Easy online tools and free Bill Pay, too. Fortunately, investors looking for future leaders have a good chance of finding one or two among the winners of the 37th annual R&D Magazine awards, announced Wednesday night in Chicago. R&D Magazine each year spends countless hours with dozens of industry and corporate sources assessing the most significant technological innovations of the year. They choose 100 winning products from an undisclosed number of entries, among thousands of possibilities. Past awards have gone to the automated teller machine (1973), the liquid crystal display (1980), the halogen lamp (1974), the fax machine (1975) and the Taxol anticancer drug (1993). The magazine's editors say they look for "Wow!" products that are so interesting, unusual or clearly superior to existing technology that they make you say, "How did they do that?" The idea is to recognize advances that can change people's lives for the better, improve the standard of living for large numbers of people, save lives, promote good health and clean up the environment. Public trading in R&D The bulk of the awards go to government laboratories and closely held companies. But about 20 go to companies with publicly traded stocks. Our research shows that investing in them has paid off over the past five years, particularly in the smaller companies. While we're not making a call on the Wintel duopoly or Cisco (CSCO, news, msgs), we think investors are wise to keep informed. As reader and Virginia Tech finance professor Mark McNabb told us in e-mail, "We could be witnessing in the technology sector the ugly process of revolution, as the newer upstart technologies unseat those leaders of our recent past that have brought many investors so much comfort." Aging Wall Street statesmen have proposed in the nation's financial newsweeklies and broadcasts that the way to deal with this revolution is to ignore it. There's no such thing as a New Economy, they say. Tech stocks deserve a lower multiple than value stocks, and investors had best get used to Intel-like declines because there are a lot more to come. Niederhoffer & Kenner Victor Niederhoffer has traded stocks, currencies and futures worldwide for the past 40 years; he is the author of "The Education of a Speculator." Laurel Kenner is a trader and former Bloomberg markets editor. In a special series of weekend columns for MoneyCentral, they'll assess the past week's Wall Street performance and next week's prospects. Let us know what you think in the Start Investing Community. Yeah, sure. Our approach is to profit from the bears' systematically erroneous thinking. One way is to figure out which companies are going to be the Intels of the future. After all, Intel, even after its sinking spell, has returned 7,000% in the last 10 years. Follow the patents Several readers have suggested their own specialized methods of zeroing in on the winners. One of the most direct methods comes from Bill Haynes, who suggests going directly to the U.S. Patent Office. Searches may be done by company, inventor, device or application. He suggests that reading abstracts can give much valuable knowledge. For example, Geron (GRN, news, msgs) has a portfolio of recent patents in the biomed field that has caused me to tout them to everyone I know.
Related Web Sites U.S. Patent Office R&D Magazine Strategic News Service	Other readers like the publications Wired, Red Herring, Nature and Science Digest, mainly because their wide readership includes "connectors" who spread ideas. Our editor recommends the Strategic News Service newsletter for insight on global technology trends, and Lightreading.com for developments specifically in fiber-optic communications. He also recommends the "The Gorilla Game: Picking Winners in High Technology", the third book in a series by business professor/venture capitalist Geoffrey A. Moore, which gives clues for spotting industry giants as they develop. Our own approach, however, has always been quantitative. We have infinite respect for the marketplace's ability to weigh the insights of all members in order to come up with an appropriate and fair price for most issues. And no matter how much we study every day, we are never overly confident that our own insights are systematically better than the market's.
Recent Articles • Trading rules that hold true, sink or swim , 9/21/00 • 18 stocks for adventurous investors, 9/15/00 • Value lovers tilt at the windmills of growth, 9/8/00 more...	One quantitative approach we have high hopes for is to rank companies by total annual research spending relative to their market capitalization. The higher the ratio, the better. We published the leaders in this ranking in a past column, along with some intriguing performance data, and will follow up in subsequent reports. Academic studies show that applied research by private companies returns 30% or more a year in shareholder value per dollar spent, while the yield on basic research exceeds 100%. With these sorts of returns, a company that spends 15% or 25% of its market value on research each year could be supposed to be on the right track. However, the missing link to such tabulations is the efficacy of research for a given company. While a company presumably would not be spending research dollars unless it anticipated receiving a salutary return, it's apparent that some companies are much more effective at spending than others. Without endorsing the assessments, we note that one company cited as a laggard in this regard is Xerox (XRX, news, msgs), while Intel has often been hailed as a paragon of putting research to good use. When Vic was an assistant professor at the University of California, Berkeley, one of his favorite classes entailed assembling his students on the library steps and showing them the current issue of R&D Magazine as an example of systematic assessment of innovation, Studies that he and his students made in the 1970s showed that publicly held companies that won awards from the magazine tended to show superior performance. Our research on research We've updated that work by determining the names of the publicly held companies that won research awards in the last five years and comparing their performances to the S&P 500 ($INX) and the Nasdaq 100 (). Common sense indicates that an award of research excellence for a single product, while undoubtedly highly deserved, would not make as significant an impact on a Hitachi (HIT, news, msgs) or a General Electric (GE, news, msgs) as it might on a company with a market value of say, $3 billion or less. But this is just a hypothesis. For example, the behemoth Corning (GLW, news, msgs) won the award in 1999 and one year later had registered an advance of 370%. Nevertheless, we divided our list into two groups: one, companies with market values below $3 billion and two, the bigger ones. We calculated the percentage change one year after the award, and to date. The results are shown in the table below. R&D Magazine Winners % change, 1 yr. % change to date 1995 Winners 6 27 Small Winners 0.5 15 S&P 500 17 148 Nasdaq-100 27 533 1996 Winners 24 166 Small Winners 36 325 S&P 500 28 111 Nasdaq-100 49 397 1997 Winners 19 74 Small Winners -36 255 S&P 500 7 53 Nasdaq-100 53 234 1998 Winners 62 284 Small Winners 94 560 S&P 500 62 41 Nasdaq-100 26 121 1999 Winners 76 Small Winners 243 S&P 500 12 Nasdaq-100 36 Three conclusions emerge. First, the R&D winners performed very well as a group, returning an average of, say, 125% from the time they won the award to date vs. 73% for the S&P. With the 102 winners we considered, taking into account the intrinsic uncertainty of the data, we may conclude that these differences are not random, with a confidence of about 95%. The second conclusion is that the superiority of the research winners seems to be increasing in recent years. For example, the 1998 and 1999 winners have returned 560% and 243% to date, respectively. And the third conclusion, perhaps the most useful of all, is that the small companies perform significantly better than the big companies. The 280% average cumulative return of the small companies is highly alluring. We caution that a few extraordinary returns created most of the superior performance. In the class of 1996, Keithley Instruments (KEI, news, msgs), a maker of fiber-optic equipment, has gained 1,382% to date (and won awards in each subsequent year). Zygo (ZIGO, news, msgs) has risen 444% since winning in 1996. A 1998 winner, E-sim (ESIM, news, msgs) is up 179%. Thus, the system should be considered as a means of selecting a portfolio rather than as a template for selecting individual stocks with good odds for superior performance. The newest winners The eight publicly held award winners for 2000 with market caps below $3 billion and stock prices over $3 are: Mitel (MLT, news, msgs) Active Power (ACPW, news, msgs) Isis Pharmaceuticals (ISIP, news, msgs) Symyx Technologies (SMMX, news, msgs) Keithley Instruments (KEI, news, msgs) Orbital Sciences (ORB, news, msgs) Veeco (VECO, news, msgs) This is by no means the be-all and end-all of stock-picking. But we feel that the road we suggest is a fruitful one, and we would be happy to hear comments from any readers. We have a reasonable degree of confidence that investors may achieve superior returns by buying a series of portfolios of these award winners over the next five years. We are even more confident that we live in a knowledge economy, and that research and development is the key to the creation of knowledge. Thus, the investor who attempts to tap into companies with successful research and development has the wind at his back. At the time of publication, the authors owned no stocks mentioned in this column. MSN Money's editorial goal is to provide a forum for personal finance and investment ideas. Our articles, columns, message board posts and other features should not be construed as investment advice, nor does their appearance imply an endorsement by Microsoft of any specific security or trading strategy. An investor's best course of action must be based on individual circumstances.