Spin-off CareFusion has announced that not only will it’s common stock, ticker symbol CFN, start trading on September 1, 2009, but that will also be the day that it joins the S&P 500 Index.  And, the company has given us an almost two week headstart to go over their pro forma financials and projections.  While this may be viewed as a testament to the size and financial strength of the new entity, it is not a pure positive in terms of evaluating the stock spin-off as a potential buy.

One of the commonly mentioned reasons that spin-off stocks create value situations is that the method for distributing the stock is inherently inefficient.  It is given to everyone who owned the parent company on a certain date and it is not uncommon for many of those shareholders to not want to own a piece of the new company irrespective of its inherent value or future prospects.

A spin-off’s stock may not be attractive to the recipients for a number of reasons including that

• they did not choose to invest in this company and likely view it as a hassle to get up to speed on whether they want to hold it or not
• the number of shares distributed is often small relative to the original holding in the parent company, again leading to a “sell it to keep things simple” kind of decision
• the size of the new entity is likely to be small and/or in a different sector from that of the parent, forcing institutions to sell it if it does not fit their criteria for inclusion
• if it is not to be included in a particular index, then funds that consist of or invest soley in components of that index have to sell

In the case of CareFusion several of these reasons for the stock price to decline shortly after it starts trading appear to be missing.  CareFusion is

• in the medical field as is the parent, Cardinal Health
• to be included in the S&P 500
• a big, followed company with generally agreed upon solid prospects.

Other “reasons” for spin-off success are still there:  focus, executive motivation, investor favor for a “pure play”.  So which way will it go?  Another stock spinoff success story, or something else?

Fortunately we have our two old reliable friends, price and volume, to tell us exactly how it is going.

Tags: CareFusion, CFN, spin-off stock, stock spin-off, value

CareFusion’s spin-off from Cardinal Health has gotten a lot of attention and, it does sound like a good story judging from what the San Diego Business Journal  has to say about it.  What does it mean to us?  The fortune tellers are out in force predicting what is going to happen next and it makes excellent theater, but is it good for trading? 

I’d say that the best answer is “Maybe.  Maybe not.  We’ll see.” 

In theory, if you knew enough about a situation and could wait long enough, you could indeed predict what was going to happen and have it work out for you.  For me at least, things work out better when I start from the assumptioin that I don’t know enough and I don’t have the resources to wait long enough.

That’s why a solid trading plan that limits losses, adds on to winning positions, and has criteria for when profits will be taken is vital.  For the umpteenth time:  the “story” provides a reason,  but the sanest entry also requires that the price makes a significant move in the direction that validates the story.

So, while all the conjecture and analysis of available data is entertaining ( and perhaps will even prove to have been exactly right ),  my money is going to be waiting to see the price and volume patterns that my trading plan calls for before I enter.

Knowing when you are going buy a spin-off stock is at the heart of a successful spin-off based trading/investing plan.

The whole idea here is that the nature of the spin-off is that the stock price of the new entity tends to go down immediately after the spin-off for reasons largely unrelated to the inherent value of the company and then, at some point, starts moving up, often outpacing the market and the sector.  If you time your entry so as to get into the trade after the stock starts its upward trend, you stand to make a nice gain.

Too early or too late?  If you are lucky you just end up leaving money on the table.  Get it really wrong and go in without a plan as to how you will decide this one is not working as planned and getting out, and you can suffer a significant loss.

The challenge here is that we come into a spin-off situation with a bias.  We know what we expect stock’s price to do (what we want it to do which is make money for us)  but we too easily forget that even if it follows our expected pattern, it will do it in its own time and manner.  When we think we know what is going to happen next when in fact we don’t, we not only put ourselves in danger, but we miss opportunities.

Take a look at this weekly chart of HSNI, the Home Shopping Network.   “All” you had to do was wait until the second week in December of 2008 and then enter long and hang on,  or more conservatively enter in the first week of May 2009.   In either case, you’d have had to hold through the consolidation that began in January 2009 and went for eight or sixteen weeks depending on how you count.  Not an easy thing to do except perhaps in hindsight.

If you’d like to follow one that is going on right now,  look at a weekly chart of Myriad Pharmaceuticals  MYRX as of mid August2009  and the same  chart at year’s end.  Note carefully how totally unhelpful the right side of  the chart beyond the last bar was on the first chart .  (I prefer chart settings that actually leave the chart area blank to the right in cases like this just to underscore how much it cannot tell us about the time frame we care the most about.)  In any case, it is into this void that we have to leap!   By the time the MYRX chart showed us what the chart of HSNI did it was too late.

It is dealing with this kind of uncertainty, even knowing that in the long run the odds are in your favor, that I think separates the successful from the rest of us in this venture.

Tags: HSNI, MYRX, spin-off stock, stock spin-off