Since hitting an all time high of 14279.96 on October 11^th of last year, the Dow Jones Industrial Average (DJIA) will close the second quarter of 2008 officially having entered bear market territory–enduring a 20% decline. The broader market index–the Standard & Poors 500–is off 18.4% from its high on that date, while the Nasdaq Composite–which peaked later in October–has declined 19.4% from its most recent high and the Russell 2000 (small cap) index is off 19% from its high of last summer. I don’t think that anyone would argue at this point that we are not in a bear market. Furthermore, if you look at the peak-to-trough numbers of some of the formerly high-flying equity markets around the world, the recent performance of U.S. equities looks downright docile in comparison. For virtually every major global equity market, the first half of 2008 has been a painful ride.

Most investors would prefer not to experience the pain of a bear market. If investors had the benefit of hindsight, we would all sell our shares at the market peak and get back in once the selling was over. However, investing does not work that way and most research over the years suggests that timing the market is a futile task.

So, with that in mind, what are investors to do when the bear appears? The most important thing to remember is to not panic. While every bear market is painful, it is important to put major market declines into perspective. No market’s chart is a straight line up and to the right. There are peaks and valleys which make the ride more dramatic and stress-inducing than many would prefer. It is part of the game. Historically, the major indices have moved up and to the right in a consistent fashion. However, the ride has not been smooth and there have been significant periods of dramatic under-performance.

The U.S. stock market has been in a funk for over eight years now. Before this difficult period began, domestic equities had enjoyed over 17 years of well-above average performance. Today, we are in effect paying for the sins of this prior “Super Bull” market. By 2000, most major stock averages had valuation metrics (such as price-to-earnings) virtually unheard of based on historic norms. Something had to give—and indeed it has!

While certainly not cheap by historic standards, domestic stocks are much more reasonably valued today than they have been for well over a decade. While the U.S. economy faces unique challenges today that we have not had to confront in the past (a sizeable glut of residential and commercial real estate, historically high energy and commodities prices and a very weak dollar), in many ways, our economy is better positioned to weather this economic storm than it was in the recession of the early 1970s. Back then, manufacturing was a much bigger component of our economy. Today’s economy by comparison is more nimble and able to adapt to the needs of the changing global marketplace.

This is not a time to be overly aggressive in chasing stocks nor is it a time to be using debt to either augment one’s lifestyle or purchase financial assets. However, as the bear market begins to uncover real value in stocks, it is a good time to patiently wait and look for once-in-a-generation opportunities. At Ockham, our methodology uncovers significantly oversold stocks and recommends purchase during significantly oversold general market conditions. While this approach does not guarantee that you will not lose money in a bear market, it does give you the tools to weather the downturn with an eye toward the market’s rebound—which, like the bearish phase, is inevitable.

In a sluggish economy and rocky stock market, one would think that when a company reports doubling both its first quarter revenue and net income, the stock might do reasonably well, especially when so many other companies are bleeding red ink. Not so for Canadian wireless device maker Research in Motion (RIMM), whose shares are down over 12% to the mid $120s in this morning’s trading. RIMM’s fiscal first quarter 2009 revenue was $2.24 billion dollars (U.S.), a 19% increase over the prior quarter’s $1.88 billion and 107% better than the $1.08 billion earned in the first fiscal quarter of last year. The company added a whopping 2.3 million new Blackberry subscriber accounts in the quarter, bringing the number of such subscribers to over 16 million. Net income for the quarter was $482.5 million ($0.84 per share, diluted) compared with $412.5 million ($0.72 per share, diluted) in the prior quarter and net income of $223.2 million ($0.39 per share, diluted) in this quarter last year.

While these results appear quite solid in a difficult economic environment, Wall Street had expected RIMM to have first quarter revenue of $2.27 billion and net income of $0.85 per share. This modest miss and cautious guidance issued by the company for the current quarter was all the market needed to punish the stock in heavy trading. For the current quarter, the company projects revenue of $2.55 - $2.65 billion (analysts had projected $2.44 billion) and per share earnings to come in between $0.84 - $0.89 (analysts had expected $0.90). The more cautious earnings guidance reflects the added costs of doing business in an increasingly competitive marketplace. Apple’s new 3G iPhone will go on sale in July and will be priced at $199 (with a two year plan commitment). The new iPhone has enterprise software which will include “push” e-mail (which is compatible with Microsoft Exchange) which will enable it to more directly compete with RIMM’s Blackberry for business users.

In our Razor’s Edge from February 21, 2008, Ockham expressed concern over the lofty valuation of RIMM, despite the obvious appeal of its underlying business. As a value-oriented shop, we look very closely at valuation—especially the price-to-sales and price-to-cash flow metrics. A stock becomes compelling to us when it sells significantly below the low end of its historic range in both of those metrics. Based on RIMM’s historic price-to-sales range of 3.87 – 12.3, its current price-to-sales of 7.8 is firmly in the midpoint. So too is the current price-to-cash flow of 34.5 (historic range of 19.4 – 53.98).   Given the relatively high levels of both these metrics, Ockham maintains its Hold rating on RIMM. Although today’s sell-off has certainly reduced some of the froth in the stock’s valuation, it is up ten percent year-to-date in an otherwise bearish environment and its valuation makes it vulnerable to further multiple-compression in the weeks ahead.

Today the Fed’s Open Market Committee (FOMC) met to discuss monetary policy and did what was widely expected—nothing. By holding the fed funds target rate at 2%, the FOMC is breaking its streak of seven straight meetings with rate cuts. Since late last summer, when the credit crisis first started to impact the financial markets, the Fed lowered rates aggressively from 5.25% down to 2% over the course of nine months. Those rate cuts appear to have helped the economy avoid the worst of the possible credit crisis scenarios and now the greater concern for the economy is inflation during a period of slow economic growth. There are bound to be critics of the FOMC’s decision—because there always are—but it was likely the correct path at this time.

There are some who would have liked to see the Fed take a firmer stand in the face of rising inflation, among them Dallas Federal Reserve Bank President Richard Fisher who was the single dissenting vote–his fourth straight dissent. Raising rates at this point in time would be very problematic for the overall economy and would most likely be disastrous for ailing banks and the seriously troubled housing market. Banks desperately need to rebuild their capital base and higher interest rates would severely complicate an already ponderous task. With each week bringing grimmer statistics regarding housing, that market has not yet stabilized enough to absorb higher interest rates.

The FOMC is trying to balance these concerns with diametrically opposed views of many on Wall Street who believe that continued easing is required in order to propel the economy out of its slump. While the economy has slowed over the last few quarters and growth will likely be weak for the next few quarters as well, in our opinion, there is far less justification for further rate cuts at this time. While everyone would like to see the economy grow, such growth would be fruitless if it comes paired with rising inflation. The declining dollar and record-setting commodity price inflation are already putting stress on the economy; a further decline in the value of the dollar could present far greater problems than slightly lower rates might solve. The price index for personal consumption expenditures—the Fed’s preferred inflation measure—has already risen above 3%–setting off inflation warning bells.

We think that the Fed is in the midst of an interesting balancing act between weak growth and inflation concerns. Although, the statement released by the Fed does not inspire a whole lot of confidence for the near term, it was the correct action (or lack thereof) at this time.

Eastman Kodak (EK) the formerly iconic America company and Dow component has hit a serious rough patch. The camera and film maker missed the boat on the digital imaging revolution, and the company has been playing catch-up ever since. The stock has reflected this lack of foresight in the evolving imaging marketplace by steadily declining over the better part of a decade. Products that had made Kodak successful in the past such as film became nearly obsolete very rapidly and Kodak management was slow to recognize the peril. The recent weakness in the stock—it has lost nearly half its value in 2008—has depressed the price to such a degree that we now see opportunity. Particularly since Kodak announced today that it will use a $1 billion IRS tax refund from the 1993-1998 tax years to buy back nearly a quarter of its outstanding shares at a market price that is just above book value.

Unfortunately for Kodak, it is not the major player in the digital photography market that it had been for “traditional” film. A touch late to the party, the company announced in 2003 that it was switching its focus to digital, but EK still trails industry leaders Canon (CAJ) and Sony (SNE). The company does make digital cameras, camera accessories, printers and ink and according to technology blog is rumored to have partnered with Motorola (MOT) in designing a 5 MP camera phone. Kodak CEO Antonio Perez was quoted on what differentiates the MOT and EK combined product from camera phones currently available, “What you have [now] is a cell phone that was designed to be a cell phone, and then they drill a hole in the side and put a sensor in and they say, now you have a cell cam [cell phone?]. What you’re going to see, starting next year, is a co-designed Motorola/Kodak multifunctional device that has been designed from the beginning to be a phenomenal phone and from the beginning to be a phenomenal camera.”

Perhaps Kodak has finally found its edge in the digital era, if it can truly make a cell phone camera that is comparable to stand alone digital cameras. That could be a decent revenue boost but the cell phone/gadget space is extremely competitive. The products and patents that Kodak has may not bring it to the prominence it once enjoyed but at least it is an improvement over the innovative stagnancy of the past few years. Kodak will need to continue to innovate, as its old business model is all but obsolete.

However, the company still has some strengths—such as in digital printing. From a value- investing perspective it is hard not to be intrigued by the underlying value in Eastman Kodak. Compared to historical norms a price-to-sales of.35 is half of what we would expect. Furthermore, price-to-cash flow is only 3.73 currently whereas EK’s historically normal range is 10.9 to 18.4. Even after today’s 15% gain after the buyback announcement the price-earnings ratio is under 6. Clearly, these valuation ratios are well below where they have normally been for Kodak and management thinks the company is undervalued as evidenced by the buyback. Quoting Perez, “Our board’s decision to authorize this repurchase initiative underscores the rising confidence we have in Kodak’s product portfolio, in our current financial position and in the execution of our strategy.”

The revolutionary internet marketplace EBay (EBAY) has made significant strides in tightening up the sales process in order to inspire trust between buyers and sellers. There is a vocal contingent of EBay users who have at one time been burned by a fraudulent transaction on the site, and while the site has in the past attempted to ensure the integrity of sales on the site, the company has taken it to the next level recently.

Buyers are now eligible for a full refund for fraudulent sales; EBay lifted the cap of $200 on transactions or $2,000 for highly rated users. Sellers who accept PayPal (EBay’s wholly-owned ecommerce processing subsidiary) get unlimited protection against reversed charges. Currently, 75% of EBay transactions are processed through PayPal, and conversely 60% of all transactions processed on PayPal are via EBay. EBay is also adding more incentives for fixed-price sales as opposed to auctions.  They have improved their searching technology making it easier than ever to match up buyers and sellers with the products they desire. Furthermore, EBay will reduce fees by 20% to its highest rated sellers as well. These are just some of the new measures that EBay is hoping will restore trust between buyers and sellers and in the process bring more successful transactions.

EBay has become a major player in internet retail, and these improvements—which will be implemented by the holiday shopping season—will put added pressure on web rivals Amazon and Craigslist. However, EBay is competing with more than just online retailers; EBay is second to only Wal-Mart in the amount of retail business that it conducts. That is an amazing volume of business to conduct with much lower overhead than Wal-Mart or other “bricks and mortar” retailers which necessitate real estate, employees, et al. Clearly, EBay will not be able to bring in the kind of revenue of a Wal-Mart or Target, but they still take a cut of every sale with much less overhead cost. There are 1.3 million people who make a living either buying or selling items on EBay, and the site has 84 million active users. These users are effectively unpaid employees who generate revenue while costing EBay nothing.

As these recent measures demonstrate, EBay is not taking its users for granted and they are trying to address their concerns that have cause growth to slow. Ockham Research is reaffirming our Strong Buy for EBAY, as the company is demonstrably undervalued compared to historical norms. For example, EBay’s price-to-sales ratio is currently 4.4 times, but the stock has traditionally traded in the range of 8.7-17.5 times revenue. Likewise EBay’s price-to-cash flow has fluctuated between 32.3 and 62, and right now it is trading at a multiple of 14.7 times. For EBay to be selling at the low end of these historically normal valuation ranges would require the stock to be priced around $66 per share given current levels of sales and cash flow.

Furthermore, value investors should not be frightened by the P/E multiple in the low 90’s, this measure reflects an impairment charge from 3Q07 of nearly $1 billion. The P/E will give a much more accurate reflection of the stock’s valuation when that charge is replaced by 3Q08 results, and it will likely be in the low 20’s range. We think that EBay is on the correct path to restoring trust in its efficient marketplace, and we think this stock’s valuation is quite compelling.  Bargain hunters will rejoice the new security measures to protect them in the ever evolving online marketplace, but perhaps the biggest bargain available is EBay itself.