Finisar's Weather Report

If you want to know what the weather is like, you'll check whether it's raining right now. For a climate report, you'd check out average temperatures and the hundred-year probability of a thunderstorm in early March.

The difference between weather and climate is similar to the difference between trading and investing. You can make a fortune by taking the long-term climate view when short-term traders panic over a temporary change in the weather. I base my CAPScalls on the climate and not the weather, as you'll see when I remind you of a few calls in the next few paragraphs.

Optical networking specialist Finisar (Nasdaq: FNSR) just gave us a weather report for its fiscal third quarter. I wouldn't blame you for selling Finisar on this report if you're wearing short-term blinders. Sales fell 8% year-over-year to $243 million amid shrinking gross margins. Non-GAAP earnings of $0.23 per share look terrible compared to $0.47 per share in the year-ago period.

Finisar's shares have taken a 20% haircut over the last year. The numbers make it all seem totally fair.

But then you're forgetting that Finisar works in a very cyclical industry. It's raining right now, mainly because major telecom customers aren't particularly busy investing in their optical backhaul networks at the moment. With the 4G LTE rollouts in full swing, AT&T (NYSE: T) and Verizon (NYSE: VZ) are spending more on the wireless front end than on the behind-the-scenes networks that bind everything together.

This reality has punished optical networkers across the spectrum. While Finisar's year-long swoon may seem harsh, rivals JDS Uniphase (Nasdaq: JDSU) and Oclaro (Nasdaq: OCLR) have taken even more severe whippings. Oclaro took a big hit from the recent flooding disaster in Thailand, putting another damper on the stock. JDSU dodged that bullet but doesn't really know how to squeeze cash flows out of its sales at the moment. The optical subsector is deep in the doldrums, and it's all too easy to conclude that the whole industry is doomed.

But like a sudden springtime thunderstorm, this too shall pass. Optical networking is the key to high-speed data transfers. Finisar Chairman Jerry Rawls expects the backhaul investments to catch fresh tailwinds soon enough: "By the time we have [our new line of ROADM connection cards] finished and designed, carrier spending has to be coming back. The networks are becoming too loaded. They're going to have service-level problems if they don't start upgrading capacity."

That's the climate report: The rainmakers must eventually change their tactics and let the sun shine on this sector once again.

If Rawls is right -- and there's plenty of evidence to support his view -- then this long market slump will be remembered as a fantastic buy-in window on the top optical network stocks. I have placed bullish CAPScalls on all three of the industry players mentioned here, but Finisar is best of breed and the only one to get my "top pick" flag.

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