LSGI Advisors, Inc. – February 10, 2005 In this issue: (1) Our ...

LSGI Advisors, Inc. – February 10, 2005
1007 Beaver Creek Drive
Duncanville, Texas 75137
(972)-780-1805
In this issue: (1) Our comments on Arena Resources (ARD), Natural Gas Services (NGS),
Mesabi Trust (MSB), and Roanoke Electric Steel (RESC) that appeared in the Wall Street Journal;
(2) The iron ore market remains attractive as benchmark prices could skyrocket in 2005; and (3)
Supplemental research and articles.
The year started off on a rough note for the market with all the major market indexes posting declines
in January. The Russell 2000 index – our small cap benchmark - declined 4.2% in the month.
Fortunately the LSGI Fund portfolio managed to buck the trend by posting a gain.
While energy prices will remain volatile, we remain comfortable that the longer term trend for prices is
upward. Commodities prices should also remain firm as long as China’s economy continues to expand
at near double digit rates. We recommended both the basic materials and energy sectors when we
were interviewed by the Wall Street Journal last month on investment trends for 2005 (article
attached).
We are pleased that our long term investment strategy is generating substantial excess returns. Over
time, these compounded excess returns should yield an impressive ‘windfall’ for LSGI investors. We
expect our portfolio will continue to substantially outperform all the major market indexes and public
mutual funds in 2005 and beyond.

NEW YORK -- If it isn't broken, don't fix it.
Investors Stick With 2004 Winners
Small-Stock Focus, By Karen Talley Dow Jones Newswires
18 January 2005
That appears to be the approach for a number of small-stock money managers as 2005 unfolds. They
say they are sticking with the sectors that helped the Russell 2000 index of small-capitalization stocks
rise 17% in 2004.
Among sectors in the Russell 2000 that are projected to show the most profit growth in the fourth
quarter of 2004 compared with the same period a year before, basic materials, like steel companies,
lead the pack with a projected gain of 132%. The sector is followed by energy, including oil
companies, ahead 42%; and construction companies, like homebuilders, rising 37%, according to
Zacks Investment Research. Small stocks are defined for this column as those with market
capitalizations below $1.5 billion.
The slowest profit gainers in the fourth quarter of 2004 compared with the prior year are seen as
being transportation concerns, with earnings rising just 2%; conglomerates, advancing by 4%; and
consumer staple companies, like household-goods providers, gaining 5%. All told, the Russell 2000
index is expected to show 23% profit growth in the fourth quarter from a year-ago, Zacks says.
If money managers follow through with their stick-to-it approach, they may be climbing a slippery
slope since there is no guarantee the same sectors can lead the pack for two consecutive years.
But then again, "There is no reason to change what's working," said Joe Dancy, fund
manager of LSGI Technology Venture Fund. Mr. Dancy is maintaining his holdings in
materials stocks, saying the good times aren't over for areas like steel and iron ore. He feels
that, although China's economic growth will slow, it won't pull back enough to cause
commodity prices to slip substantially. In the steel and iron-ore sectors, Mr. Dancy likes
Mesabi Trust and Roanoke Electric Steel Corp.
Oil companies are also appealing because of increasing global demand that Mr. Dancy
expects will continue, while production capacity isn't increasing the way it has in the past.
As a result, the price of crude oil should stay above $40 a barrel this year and related stocks
should remain robust, he said. Energy stocks that Mr. Dancy holds include Natural Gas
Services Group Inc. and Arena Resources Inc.
Energy, including oil stocks, is also an area in which John Kvantas, portfolio manager of BB&T Small
Company Value Fund, is overweight. "We find the supply-demand dynamic is very appealing, with less
of the resource available," Mr. Kvantas said. Berry Petroleum Co. is among the stocks he holds.
Mr. Kvantas is also allowing himself to branch out. He likes health care, specifically service-oriented
areas like health maintenance organizations. Although the health group doesn't make the top three as
far as profit growth is projected, Mr. Kvantas says that there are often cases where it pays to choose
stocks on an individual basis, not a wholesale one. Sierra Health Services Inc. is one of his picks.
Conversely, a number of money managers are shying away from the areas that are expected to
experience the lowest profit growth. For instance, consumer staples "is not our favorite area and we're
underweight the sector," said David Jordan, managing director of Tributary Capital Management. "We
feel the economy will do better than most people expect and believe consumer staples are more of a
play on the defensive side when the economy is waning.
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Global Iron Ore Markets: Benchmark Prices Could Skyrocket in 2005
According to industry analysts China’s steel sector has added the equivalent of the entire United States
steel industry in the past three years. Since China became the largest steel consumer in the world in
1994, year after year it continues to break records in terms of steel consumption. Consumption
increased 22% in 2003, and increased 13% or more in 2004. Many analysts see China’s steel
consumption growing 6% to 10% in 2005.
Last week Chinese authorities announced that this incredible growth continued with their economy
expanding by 9.5% last year - much higher than many analysts expected. Most importantly, their
economy finished the year in a particularly strong manner, accelerating to a growth rate of almost
13% in the last three months of the year.
These figures were also supported by data released last week on China’s energy consumption. China,
as the world's second-largest crude oil consumer, imported 31% more of the fuel in December than in
the same month a year earlier. While economic growth might be slowing, the world's fastest growing
major economy continues to see increased demand for gasoline, diesel, coal, zinc, limestone – and
iron ore – creating opportunities for individual investors in the U.S.
China’s Iron Ore Consumption
While China’s domestic iron ore production capacity has expanded it has not kept pace with the
demand generated from these new steel
facilities. China purchases around one-third
of the world’s production of iron ore.
London shipbroker Simpson Spence &
Young recently released an estimate of
Chinese imports of iron ore in 2005,
forecasting imports will expand by around
15%.
AME Mineral Economics, a mining
economics consulting group, also released a
study predicting Chinese iron ore imports
this year would increase 20-25% to the 250
million metric tons range – up from 200-
210 million metric tons in 2004 - and 150
million metric tons in 2003.
Other analysts are even more bullish: London-based shipbroker Howe Robinson expects Chinese iron
ore imports to soar by 70 million metric tons in 2005 – a 35% increase - to support the country’s
expected raw steel production of 330 million metric tons.
Benchmark Iron Ore Prices Set to Rise
Once each year the major iron ore producers
negotiate with their major steelmaking clients to set
a price per ton to be paid for the ensuing year.
Under this arrangement world iron ore prices
increased 10% in 2003, then 18.6% more in 2004,
as prices for iron ore are pushing highs not seen in a
decade.
Brazil's Companhia Vale do Rio Doce, or CVRD, the
world's biggest iron ore miner, has set the
benchmark for global prices for the last two years in
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agreement with European steel manufacturing titan Arcelor.
Many expected CVRD to seek a 20% to 25% price increases on the 2005 supply contracts currently
being negotiated, a very healthy gains considering pricing in the immediate past.
Surprised might not be the term to describe the reaction when CVRD began negotiations last month.
They asked for a 90% price increase for the raw material in the year starting April 1 st amid booming
worldwide demand for steel used in the construction, homebuilding, and automotive industries. While
the actual agreed to increase most likely will be below this level, the gain very well could be the
largest increase in 25 years – and a much larger increase than expected.
“I don't think it's at the top of the cycle," said John Brinzo, the chairman and chief executive of
Cleveland Cliffs, which has been mining iron ore from Michigan and other parts of North America since
1891. "I think it has got a good way to run and I'm not so sure we're going to see a traditional cycle in
steel this time," he said. Brinzo’s comments were made when Cleveland Cliffs announced the
acquisition of an Austrialian mining company last month, an addition it hopes to utilize in meeting
growing Chinese ore demand.
In addition to tight iron ore markets, China’s growth has also created short supplies of alloys such as
zinc, along with metallurgical coal used in the steelmaking process.
Mesabi Trust (NYSE: MSB)
While China is the focal point of the increase
in demand in the steel sector, the iron ore
market is to a large degree a global one. As
the economics have improved, shipments of
iron ore on the Great Lakes in 2004 increased
substantially over year earlier levels. Higher
water levels in the Great Lakes also
encouraged strong gains in shipping levels.
In this environment we find firms such as
Mesabi Trust (MSB) a very attractive stock
and income idea. Mesabi collects royalties and
bonuses from the sale of iron ore that is
shipped from Northshore Mining's Silver Bay,
Minnesota facility.
Northshore is a wholly owned subsidiary of
Cleveland-Cliffs, a supplier of iron ore
products to the steel industry. In the latest earnings announcement Cleveland-Cliffs noted that
Northshore would expand production capacity from 5.0 million tons per year to 5.8 million tons per
year, and that the “North American steel business continues to be very strong, with steel producers
operating at or near capacity and steel pricing near record levels.”
Mesabi has posted some impressive financial results in the last year, revenue growing at a 69% rate
on a trailing twelve month basis. Earnings during the period increased 74.4%. Technically, the 12
month relative strength is 98 and the company sells above the 200 day moving average on increasing
volume. Distributions account for an annual yield of over 7%.
Pictures: Inland Steel’s iron ore carrier Wilfred Sykes approaches the pier from Lake Michigan in
Escanaba, Michigan [top], while Great Lake ore carriers Lee A. Tregurha [middle] and the Kaye E.
Barker [lower] wait to be loaded. Photos courtesy of Lee Rowe of Gwinn, Michigan -
http://pasty.com/pcam/LRowe
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**********************************
Once again we were asked to provide our best investment idea for 2005 to the Dick Davis Digest.
Mesabi Trust (MSB) is our Dick Davis Income Digest “Best idea for 2005”:
LSGI ADVISORS INC. VENTURE FUND REPORT
Our LSGI Fund investors and full LSGI Venture Fund Report subscribers can access the link to the
restricted area on our website to see what changes (if any) we have made to the portfolio during the
month, and what companies our databases and screens are telling us to buy or sell. As always, please
call should you have questions.
10 February 2005
Lone Star Growth Investor - LsgiFund.com
(972)-780-1805 (Dallas, Texas)
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We found the following discussion regarding the energy sector of interest:
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Randolph Buss of the Der Invest Informant wrote an interesting article last month entitled
“Swallow Iraq: The Little Bird Knew”. Three charts that accompanied his article are a great summary
of trends we see in the U.S. energy sector:
U.S. Petroleum Production:
U.S. Consumption:
U.S. Imports:
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Money in the Bank
Ore carrier Wilfred Sykes was built by American Shipbuilding Co., Lorain, Ohio in 1949 for Inland Steel Co. The
streamlined bulk freighter was the first new American-built Great Lakes vessel constructed after World War II. At the
time of her launch, she was the largest vessel on the Great Lakes.
The Sykes is powered by 2 steam turbine engines producing a combined 7,000 horsepower driving an 18 1/2 foot
diameter four-blade propeller giving her a speed of up to 16 mph. Being the first steamship built to burn "bunker C"
heavy oil for fuel instead of coal, her fuel tanks can hold 165,000 gallons giving her a cruising range of 4,500 miles
(source: George Wharton, Boatnerd.com).
With the recent global increases in the price of iron ore we title this picture – one of the most strikingly beautiful
pictures of a bulk iron ore freighter we have seen - “Money in the Bank”
Photo courtesy of Lee Rowe of Gwinn, Michigan – Additional works can be viewed at
http://pasty.com/pcam/LRowe
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