The Search for Uncorrelated Assets

 | Sep 23, 2011 | 12:00 PM EDT
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In a bear market like this one, the only hope to make money on the long side is to find truly uncorrelated assets. Unfortunately, in moments of crisis we usually learn that all correlations "go to 1," as asset classes that previously behaved independently suddenly move in unison.

For instance, as the markets plunged Thursday, gold plunged too. That supposed safe haven quite suddenly became as dangerous as stocks. What is an investor to do?

I regularly write about the diversification value of small and microcap stocks. These stocks are definitely risky, but the risk is non-systemic; in other words, the beta is usually zero and a microcap can move in reaction to its own dynamic, completely oblivious to the markets. Of course, on an up day, your microcap stock could plunge, but during market carnage your microcap could soar -- if the fundamentals are working. Microcaps are very much publicly traded venture capital, as the companies are always small and often growing rapidly. They offer the potential for vast returns -- but also the risk of going to zero.

Yesterday, I attended one of the premier microcap investing events, the LD Micro Invitational. I have written previously about the LD Micro Conference, which I call the Woodstock of microcap investing, where microcap impresario Chris Lahiji brings together 90 of the best microcap names. In yesterday's invitational, he zeroed in on the 15 best names, sort of a best-of-the-best forum to highlight exciting microcap names.

Three names stood out as great opportunities. Please note that this is a starting point; if the ideas intrigue you, be sure to do the homework! Research them, get to know their stories and if you like them, take the plunge. I found them worthy of further research.

Location Based Technologies (LBAS) is a maker of locator devices for pets, people and vehicles. It has a market cap $114 million. Its PocketFinder GPS devices can be placed in a car, in luggage or on a pet collar to track the items' location. The development-stage company has no revenue yet, but that should ramp quickly when products roll out.

Vertro (VTRO) is an Internet company with a $12 million market cap. It offers customizable homepage tools and web browser tool bars for advanced search. The company booked $35 million in revenue last year and earned $1 million. Much of its expense is G&A, so the leverage on incremental revenue could be substantial in the years ahead.

Digirad (DRAD) is a $44 million company that leases diagnostic imaging products to cardiologists and internists and sells gamma ray cameras. The company takes in about $60 million a year in revenue and cash flow is break even. Digirad is poised for profitability in the years ahead as revenue ramps.

Whether you dig up these three ideas or keep the microcap asset class on your radar for now, this is one way to navigate the currently treacherous investment environment.

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