S&P Upgrades GM, Annaly Mortgage, Hot Topic

Plus: analysts downgrade Taro Pharmaceuticals, Payless Shoesource, and Affiliated Managers Group

General Motors (GM ) : Ups to 3 STARS (hold) from 1 STAR (strong sell)

Analyst: Efraim Levy, CFA

Our upgrade is valuation-based, as shares are trading near our $22 target price. GM faces challenges including pricing pressure, high gas prices, intense competition and excess production capacity. We do not expect a bankruptcy during at least the next 12 months, as we think GM has sufficient near-term liquidity. We see low probability of a costly and ultimately counterproductive strike by workers against Delphi (DPHIQ ). Though we expect high gas prices to hinder large vehicle sales, we project rebounding sales volume of these vehicles and return to profitability in 2006.

Hot Topic (HOTT ): Ups to 3 STARS (hold) from 2 STARS (sell)

Analyst: Jason Asaeda

October quarter operating earnings per share of 15 cents vs. 17 cents beats our 14 cents estimate. While year-to-date sales have been disappointing, we think the current shift in fashion trends to darker colors and goth styles could drive improving sales at Hot Topic. We also see potential for positive mix changes starting next spring under the direction of Maria Comfort, Hot Topic's new chief merchandiser. We are lifting our fiscal year 2006 (ending January) operating earnings per share estimate by 3 cents to 58 cents, and fiscal year 2007's by 2 cents to 82 cents. Our 12-month target price rises by $2 to $15.

Annaly Mortgage (NLY ) : Ups to 3 STARS (hold) from 2 STARS (sell)

Analyst: Robert McMillan

We think that interest rates on 30-year fixed mortgages are poised to rise over the next 12 months as the Federal Reserve continues raising rates. We believe higher interest rates will eventually have a positive impact on Annaly's largely variable-rate portfolio, causing interest income to rise and prepayments to slow. We are maintaining our 2005 and 2006 earnings per share estimates of $1.08 and 84 cents, while increasing our target price to $11 from $10 based on our updated p-e and peer analyses. We estimate that Annaly will provide a dividend yield of about 7% over the next 12 months.

Taro Pharmaceuticals (TARO ): Cuts to 2 STARS (sell) from 3 STARS (hold)

Analyst: Herman Saftlas

We think Taro's very weak third quarter earnings per share of 7 cents, compared with our 30 cents forecast, reflected tougher competition in key generic topical dermatological markets, as well as difficulties in managing wholesaler trade inventories. Gross margin shrank to 52.0% from 58.1%. In our opinion, sales and margins are likely to remain weak over the foreseeable future. We are reducing our 2005 earnings per share estimate to 60 cents from $1.05, and our 2006 estimate to 70 cents from $1.80. We are lowering our target price by $16 to $12, which values TARO at about 1.1 times estimated 2005 sales, at a discount to peers.

Payless Shoesource (PSS ): Cuts to 3 STARS (hold) from 4 STARS (buy)

Analyst: Mark Basham

October quarter earnings per share of 32 cents vs. 10 cents beats our 28 cents estimate, with most of the upside from a tax rate of 29.1% that we projected at 34%. Operationally, gains were in line with what we expected. We are raising our fiscal year 2006 (ending January) estimate to $1.20 from $1.16 on the October quarter results, and we are increasing our discounted cash flow-based 12-month target price by $2, to $24 as we lower our risk assessment. However, we think the 79% rise in the shares year-to-date fully reflects actions by Payless Shoesource to correct past operating weaknesses, and to a large extent, anticipated improvements under new CEO Matt Rubel.

Affiliated Managers Group (AMG ): Cuts to 3 STARS (hold) from 4 STARS (buy)

Analyst: Robert Hansen, CFA

With shares having gained about 18% thus far in 2005, we see less upside potential relative to our 12-month target price of $87. We are encouraged by positive net client inflows in the last two quarters and we like the company's accretive acquisition strategy. However, net inflows as a percentage of total assets still lag many of the company's larger peers and we think the economies of scale have proven elusive among its diverse portfolio of affiliates. We are maintaining our cash earnings per share estimates of $4.65 for 2005 and $5.50 for 2006; hurt by an expected rise in compensation costs.

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