Cabot Stock of the Month Issue: August 10, 2023

Market Review

Job openings are steady, as is manufacturing. However, employment continues to improve, rising to 324,000, considerably better than the 175,000 forecast, dropping the unemployment rate for July to 3.5%.

The housing market continues to be challenging, especially resales—due to a lack of inventory and higher interest rates. However, the builders are having a banner year, and with supply issues being resolved, the time to build a new home is declining, helping to further boost the industry.

Zillow just released its quarterly survey, reporting that “23% of homeowners are already selling or considering selling over the next three years, the highest percentage since at least the beginning of 2021.” Consequently, that lifts the hope of the resale market.

And the latest report from The Conference Board’s monthly Consumer Confidence Index showed that the index rose to 117 in July, up from 110.1 the month before, and is the highest on record since July 2021.

Lastly, more economists are throwing in the towel on their 2023 recession forecasts, now saying that a “mild” recession may come about in 2023.

All in all, pretty good news, I’d say.

Meanwhile, the markets had a good month, but are pulling back today, perhaps on “selling the good earnings news.” FactSet reports that of 84% of the companies in the S&P 500 that have reported second-quarter results, 79% have reported EPS above estimates.

Style-wise, growth stocks are still walloping value issues, and sector-wise, Communication Services, Technology, and Consumer Discretionary are still leading, up 39.8%, 37.54%, and 32.82%, respectively.

Here at Cabot, we have loved the bullish trend but are still somewhat suspect of the recent euphoria. Let’s not get ahead of ourselves, but enjoy the profit opportunities as they arise. That means judicious stock picking, not dart throwing.

In this month’s issue, we’re stocking our portfolio with a company with an aggressive edge (due to its industry), but in my mind, we’re adding a company with a long track record of survivability and prosperity, making the selection a bit more on the moderate side.

Feature Recommendation- Noble Corporation (NE): 2 Catalysts are Propelling These Shares

As I mentioned, most sectors are accelerating so far this year. And that made me wonder where some new bargains may be found. For the answer to that question, I asked Mike Cintolo, Chief Analyst for Cabot Growth Investor and Cabot Top Ten Trader, who always has a close eye on the markets and who gave me a surprising response.

Mike says: “Cyclical stocks will never be our favorite, but the long-term cycle for drillers has turned up, with the recent uptick in oil prices helping perception, too. We continue to think drillers have started a group move, and Noble Corporation (NE) looks like one of, if not the, leading players in the group—not just stock-wise but fundamentally, with a shareholder return program just being launched.

“In my recent webinar, I presented Noble as one of my best ideas for the rest of the year. Noble Corporation (NE) is one of the bigger offshore drillers. The sector has been out of favor for many, many years, industry capacity has been cut, and of course, NE and others have cut costs to the bone. Now day rates for its rigs are going nuts, debt has been paid down and the bottom line (earnings approaching $6 per share next year are likely) and shareholder returns (just initiated a 2.4% dividend—which should move up over time—plus share buybacks) are just picking up. The stock may be leading a group move in oil service stocks in general, and drillers in particular.

“It’s a very good bet that earnings, cash flow and shareholder returns will head nicely higher for many quarters to come, with last night’s earnings report (another leap in backlog, to $5 billion).

“Oil prices today are better than the lows in the mid-$60s seen earlier this year (during the March banking crisis selloff) but hardly indicative of boom times in the sector. And yet, there are tons of oil service stocks (not so much oil producers) that have started to break out on the upside, with the best lifting to new highs!

“Why? First, demand is picking up, with firms increasing offshore exposure due to solid cost dynamics (many offshore fields will be profitable even at $40 oil) and long well lives (fears of relatively rapid onshore deterioration are real).

“Second, this comes after a very long bust period, with many oil service names going through Chapter 11, leading to less supply and very tight cost structures (debt here is just 14% of assets). One amazing stat is that, when looking at offshore drillers, there are 12% fewer ultra-deepwater drillships today than there were in 2014!

“There are lots of strong names (not just drillers, but equipment providers), and Noble is one to watch. It’s one of the big players in the offshore drilling world with 31 total rigs on the water today, including 17 ultra-deepwater rigs, 11 of which are of the so-called Tier 1 (best of the best) variety. Noble has 18% of all ultra-deepwater rigs and 24% of all Tier 1s—and industry-wide utilization of both is north of 90%, and again, that’s after oil prices have fallen off and are modest.

“Noble has been profitable each of the past four quarters, the backlog is big and growing ($4.6 billion at the end of Q1 compared to $1.8 billion of revenues in the past 12 months) and day rates for its drillships are almost sure to head higher going forward, with a lot of that falling to the bottom line—analysts see the bottom line growing from $1.30 last year to $2.44 per share this year, but that’s a drop in the bucket compared to the $6 per share estimate for 2024.

“Plus, while these stories aren’t overly similar to what we saw with explorers a couple of years ago (big dividends and buybacks), there should be some of that with Noble, too—the company is aiming to return half of free cash flow to shareholders, and with all key refinancing complete, larger buybacks and possibly dividends could begin right quick.

“As for the stock, NE actually made upside progress in the latter part of 2022 but got hit in March and worked on a new launching pad for four months—and now shares have moved out on the upside, which we think could be the start of a group move.”

Noble is no “new kid on the block,” having been founded in 1921, and is an old hand at surviving and prospering through many oil cycles. The company operates as an offshore drilling contractor for the oil and gas industry worldwide and owns a fleet of mobile offshore drilling units consisting of floaters—mobile rigs that don’t touch the ocean bottom and jack-ups, mobile platforms that can be raised and lowered.

As Mike mentioned, Noble just declared its first dividend, $0.30 per share, and announced that it has repurchased $60 million in shares in its second quarter.

Also, in the quarter, Noble reported that its total backlog grew by 9% to $5.0 billion, including new contracts totaling $0.8 billion secured during the period. You can see in the following graph that the company is expecting those orders to keep improving.

During the second quarter, Noble saw its earnings per share grow to $0.45. Revenues came in at $606 million, up from $575 in the first quarter and nearly tripling from the same quarter last year.

Currently, the shares are followed by four analysts, who rate the stock “Strong Buy.”

Going forward, management of Noble sees 2023 revenues in the range of $2,350 – 2,550 million, adjusted EBITDA of $725-825 million, and capital expenditures of $325 – 365 million.

The shares are trading at a P/E of 22, considerably lower than the industry’s 34. They look like a bargain to me, too. Moderate.

[text_ad src='/ad/cttt-30']

About the Analyst: Mike Cintolo, Cabot Growth Investor and Cabot Top Ten Trader

A growth stock and market timing expert, Michael Cintolo is Chief Analyst of Cabot Growth Investor and Cabot Top Ten Trader. Since joining Cabot in 1999, Mike has uncovered exceptional growth stocks and helped to create new tools and rules for buying and selling stocks. Perhaps most notable was his development of the proprietary trend-following market timing system, Cabot Tides, which has helped Cabot place among the top handful of market-timing newsletters numerous times.

Nancy: Would you please update your thoughts on the market, and explain what “Market Monitor level 7" means?

Mike: Our Market Monitor in Cabot Top Ten Trader is sort of a quick and dirty way of sharing our market positioning. In a loose sense, a level 7 would be bullish but not fully so, maybe holding a little cash. To be honest, after the growth stock (and, to a lesser extent, market) drubbing this week, I’ll likely drop that another notch or two in the next Top Ten issue.

Beyond the monitor, my general take is (a) I’m big-picture bullish and think the odds favor higher prices down the road, but (b) I’m seeing more and more evidence that the near term could be rough, at least for individual stocks, as many are breaking intermediate-term support. Thus, I’ve been paring back and could continue to do so, though again, I think any “correction” (say 5% to 8% in the indexes) will lead to another leg up.

Nancy: Tech stocks have certainly seen a resurgence so far this year. You have a nice mix of tech stocks in both your Cabot Growth Investor and Cabot Top Ten Trader newsletters. I know that you pick stocks based on a series of indicators, not industry, but do you see tech stocks continuing to outperform for the rest of 2023?

Mike: It’s a fair question, but I don’t really go there. I guess what I don’t think is that the market will just suddenly be led by cyclicals and old stuff – anything is possible, but no bull market ever has started out with two months of growth outperformance and then it’s all oils, transports, and metals. Thus, while I do think many of these tech names could rest, possibly for a month or two or three, I don’t anticipate a scenario where growth stocks simply sell off while Caterpillar and the like go up for the next few months.

Nancy: What do you think of the rush to find the next great AI stocks? Is there a particular AI sector that is attractive to you right now?

Mike: Well, sort of like the market—near term, the AI thing looks tired, and my guess is a lot of the fluff and speculative situations will get hit. That’s just how the market works, with the late buyers of these things feeling pain.

Long term, though, I do think the AI area smells a lot like the internet, in that it’s something that should eventually help every company (not just one sector or the tech industry) become more efficient. Nvidia (NVDA) obviously remains the big dog there as a picks and shovels player, and I’m sure there will be other chip stocks that will thrive because of the AI boomlet. In terms of platforms, it’s tough, as most of the main players are huge firms, though there are a couple of names I’m watching. Overall, I like the space and don’t think it’s going away, but buy points will be crucial.

Nancy: Growth companies are still leading the bullish surge so far this year. Are there particular sectors where growth stocks have gotten too pricey?

Mike: I’m not a valuation guy, so I hesitate to say, “too pricey,” but I do think in general many growth stocks are looking tired right now. Frankly, I’m disappointed as many newer (and smaller) names that looked like potential leaders have fallen flat for now. I don’t really predict things, but it’s fair to say the near-term evidence has worsened with growth names, with a lot of stocks (including some bigger ones) acting funky after what’s effectively been one or two down days in the Nasdaq.

Nancy: The Federal Reserve just raised rates again, by 0.25%, and hinted at another rate hike, maybe soon. The markets seemed to really like the rate hike pause and showed their disappointment right after this latest rise. If the Fed continues to raise rates, which particular sectors might look attractive for spotting new recommendations?

Mike: Directly, of course, some banks could benefit, as they’re leveraged to higher rates. But my bigger thought would be, the Fed is likely to raise rates if the economy continues to be resilient and if inflation isn’t quite coming down like they’d hoped—which plays into cyclical and commodity-type names. It’s not a result of the rate hikes, but would sort of coincide with the environment that would likely lead to more hikes.

Nancy: Are there any sectors or sub-sectors that you currently see as oversold?

Mike: I mean, not really. As of earlier this week 80% of NYSE stocks were north of their 50-day lines, and we haven’t had much selling in the market since late April. Not much oversold out there, at least to me.

Nancy: What are the 3 - 5 most critical challenges to growth of the stocks in your portfolio right now?

Mike: You’re probably looking for a fundamental reason here, but I don’t own a bunch of names in one group. So instead, I’ll give you a market-based challenge: Earnings season. So far, it’s been a bad earnings season for growth stocks, with a lot of selling on strength, which could cap things for a bit. Again, I’m longer-term optimistic, but right now, there are lots of landmines going off, even among some of the bigger, more liquid growth titles.

Portfolio Updates

Tom Hutchinson, Chief Analyst of Cabot Dividend Investor and Cabot Income Advisor, updated his view on Qualcomm Inc. (QCOM), saying, “Qualcomm Inc. is up 6.5% in the last couple of days and 28% since late May. It’s not an immediate AI beneficiary, but it keeps marching slowly higher ahead of the period where it might surge higher quickly. Qualcomm describes itself as the “on-device AI leader,” and the company should benefit mightily from the increasing shift towards AI and profits are now likely to soar sooner than previously expected. Qualcomm reports earnings on Wednesday and forecasts are mixed. But it might get a boost. I’m changing my recommendation back to BUY.”

QCOM’s third-quarter earnings report was good and bad. EPS came in at $1.87 per share compared with $2.96 per share in the year-ago quarter but still beat analysts’ estimates by $0.06. Revenues were $8,451 million compared with $10,936 million in the prior-year quarter, and missed the analyst estimate of $8,513 million, due to “a challenging macroeconomic environment, inflationary pressures and soft recovery in China, resulting in lower-than-expected demand and elevated inventory levels.”

A bright spot is the increasing sales from the company’s automotive efforts, IoT across consumer, edge networking and industrial sectors, and strength in its Snapdragon portfolio.

The decline in smartphone shipments has continued to weigh on the industry, with about half of last year’s shipments for all companies in the sector. However, Micron is forecasting that in the second half of this year, shipments should rise by 10%-17%, which should help chipmakers like QCOM.

Shares of QCOM fell on the report, making them buyable at a discount level. Buy.

After adjustments to estimates, Devon Energy Corporation (DVN) actually beat EPS projections for its last quarter by a penny, earning $1.18 per share. Revenues were $3,454 million, which did miss estimates of $3,805 million, due to softness in the industry. Net production rose 7.5% year over year.

The company just announced a partnership with WaterBridge NDB and its WPX Energy Permian subsidiary, forming NDB Midstream LLC, for what is considered the “largest private water infrastructure system in the prolific Stateline region of the Delaware Basin in Loving County, Texas and Lea and Eddy counties in New Mexico.”

However, Devon also announced that it is reducing its dividend payment to $0.49, from last year’s $0.72 payment. That sounds like bad news, but in reality, since earnings have continued to improve, the dividend yield although reduced, is still a healthy 6.8%.

With prospects for the oil industry improving, I’m continuing to Hold.

Bruce Kaser, Chief Analyst of Cabot Turnaround Letter and Cabot Value Investor, recently updated his subscribers on Citigroup (C), reporting, “Citi reported adjusted earnings of $1.37/share, down 37% from a year ago and missing the $1.44 estimate by about 5%. Profits were weighed down by lower revenues (down 1%), higher operating expenses (+9%) and higher credit costs (+43%). Citi has a long way to go to becoming a higher-value bank. However, the bank appears to be on the right track, is retaining its deposit base, has reasonably healthy credit and capital, generally backs its full-year guidance, and its shares remain heavily discounted. We are retaining our Buy rating.”

Citi just announced that it will be increasing its dividend by 3.9% on the 25th of August to $0.53, up from last year’s comparable payment of $0.51. Buy.

Michael Brush, Chief Analyst of Cabot Cannabis Investor, says that “Curaleaf may seek to list its shares on the Toronto Stock Exchange, according to a recent company filing. The change could increase flexibility for financing and broaden out the potential shareholder base. Buy.”

Curaleaf Holdings will report its financial and operating results for the second quarter after market close on August 9, 2023. Currently, estimates call for -$.05 EPS on revenues of $339.48 million. Speculative Buy.

Mike Cintolo also updated his view on Shift4 Payments (FOUR), saying, “It has been a frustrating situation, as basically everything has played out as we’d hoped for fundamentally and with the market (a general upturn since May), and yet other factors (possibly including horrid peer performance) have hurt the stock.

“The Q2 report this morning was another good one: Revenue less network fees rose 25%, gross profit was up 61% and EBITDA lifted 68%, all topping estimates, while free cash flow more than doubled and came in north of 75 cents per share. Meanwhile, Shift4 is signing up more and more big names in hotels and restaurants (Virgin Hotels, InTown Suites, Yellowstone National Park and more); sports and entertainment (renewed a deal with Disney and inked deals with Carolina Panthers, Texas Ranges, Charlotte Hornets, Toronto Blue Jays, etc.) and is now integrated in the top three ticketing providers as well.

“Management upped guidance for the full year, now looking for 33% revenue (less network fees) growth, 55% EBITDA expansion and north of $2.75 per share of free cash flow. That’s all to the good—but another poor earnings reaction from PayPal (down 10% today) and awful action from other peers (Square and Toast; Square has earnings tonight) capped the stock today. All in all, we’re holding on right now—a few good days really could make all the difference—but FOUR has just a couple of points of wiggle room at this point. HOLD”

Shift4 Payments reported $228.1 million in revenue for the quarter ended June 2023, a year-over-year increase of 24.9%. EPS of $0.74 for the same period compares to $0.33 a year ago. Hold.

Tyler Laundon, Chief Analyst of Cabot Early Opportunities and Cabot Small-Cap Confidential, reported that TransMedics Group (TMDX) “is set to acquire Summit Aviation, a U.S. charter flight operator, with the deal expected to close by the end of September. This isn’t a surprise as management has talked about how logistics in the organ transplant market is a bottleneck that it needs to fix. This acquisition is intended to fix that, and while it carries significant uncertainty (capital spending, integration, operations, etc.) it also removes a growth ceiling that previously existed.

“Summit owns two jets and manages eight more. TransMedics will move to a jet ownership model and has already purchased two. With a target fleet size of 10 to 15, that means it needs 8 to 13 more, with each costing $10 to $12 million and costing about $800,000 in annual maintenance. You can see where the cost concerns creep in, though the company netted $387 million from the convertible note offering and the core business is almost profitable. Bottom line – yes there is risk, but also a TON of upside, and it looks like TransMedics can build out the aviation business without raising more capital.

“Next, it acquired LifeCradle and EVOSS from Bridge to Life. EVOSS is a warm perfusion technology used for lung and heart transplantation while LifeCradle is a cold perfusion technology for heart. At first blush, it seems the LifeCradle acquisition is the more immediate positive as it fills a treatment gap that TransMedics can’t currently fulfill with current indications. The EVOSS one is a little different as it’s a negative pressure device (vs. positive pressure for TransMedics’ current solution) and has a smaller form factor. Sounds like the plan is to do a small trial to test positive vs. negative and integrate both into a new, smaller form factor unit, which will all take time.

“Turning to the quarter, revenue grew 156% to $52.5 million, beating by $10 million. EPS of -$0.03 beat by $0.11. Heart sales of $16.6 million were a little light, which analysts on the call didn’t love, but management attributed this to ‘ebbs and flows’ in the market and logistics challenges (i.e., proof that it needs to build an aviation business!). Liver sales of $32.7 million were stronger than expected while lung of $3.2 million was also a positive, though obviously still a small slice of the pie.

“Management raised full-year guidance by $20 million to a range of $180 to $190 million (+93% to 103%) which sounds terrific, though looking deeper it implies the second half of the year will be slower than the past two quarters. Management explained this as conservatism due to summer travel, fall/winter holiday season and potential for some focus to shift to integrating the recent acquisitions. All makes sense, but still, the market always likes an unqualified beat and raise more than a somewhat complicated outlook.

“Add it all up and we’re now in the transition period we’ve been waiting for. It’s go time for the TransMedics team and I think investors will give them a little rope in the next two quarters, but we’ll need evidence of positive progress on these major strategic initiatives for the stock to perform. And ultimately deliver the massive upside we’re looking for. HOLD”

I agree with Tyler’s caution, so let’s continue to Hold.

Tom Hutchinson also chimed in on the latest Brookfield Infrastructure Partners (BIP) news, saying, “The infrastructure company stock has continued to go sideways since the spring. It’s still a tough market for more defensive, dividend-paying stocks. Brookfield reports second-quarter earnings on Thursday. The stock got new life after the last report as funds from operations (FFOs) per share grew 12.5% over last year’s quarter. Hopefully, BIP can get a bump from earnings and the second half will be kinder to defensive stocks. (This security generates a K1 form at tax time). BUY”

BIP is still in the growing stage and its shares look undervalued. Buy.

Reporting on NOV, Inc (NOV), Bruce Kaser says, “the consensus view on NOV is overly pessimistic, given the company’s strong position in an industry with improving conditions, backed by capable company leadership and a conservative balance sheet.

“NOV reported earnings of $0.39/share, more than double the year-ago results and about 34% above the consensus estimate of $0.29/share. Revenues rose 21% and were in line with estimates. Adjusted EBITDA rose 63% and was about 5% ahead of estimates. Overall, the company’s outlook is improving, albeit slowly.

“The company is seeing increased demand in the offshore and international land markets which is more than offsetting weaker demand in North America. New orders remain healthy. The global supply chain issues are being resolved, but NOV is seeing its inventories surge as delivery times contract. NOV is implementing another cost-cutting program targeting about $75 million in reductions.

“The price of West Texas Intermediate (WTI) crude oil rose 3% in the past week to $81.21/barrel, as resilient demand seems to be meeting stable-at-best supplies. The price of Henry Hub natural gas slipped 3% to $2.61/mmBtu (million BTU). Natural gas prices are driven by domestic demand, as import/export volumes are minuscule.

“NOV shares rose 7% in the past week as investors seem to be increasingly confident that a floor is being set under oil prices. NOV shares have 24% upside to our 25 price target. The dividend produces a reasonable 1.0% dividend yield. BUY”

Clay Williams, Chairman, President, and CEO of NOV commented after the company’s earnings report, noting that “Rising demand in offshore and international land markets led to a two percent sequential increase in capital equipment orders for the company, despite economic uncertainty and continued declines in North American rig activity. We believe the substantial backlog of oil and gas development projects across offshore and international land markets will continue to push oilfield service asset utilization higher, prompting continued demand for NOV’s critical equipment and technologies.”

I agree. Continue to Buy.

Updating our latest recommendation, International Business Machines (IBM), Carl Delfeld, Chief Analyst of Cabot Explorer, noted, “IBM shares rose to 144 this week. While IBM’s legacy businesses such as software and mainframe systems are still important, three-quarters of revenue now comes from software and consulting, and half of all revenue is now recurring in nature. IBM is a play on data, software, cloud computing and artificial intelligence (AI) while shares trade at just 15 times forward earnings and pay a whopping 4.6% yielding dividend. Buy a Half.”

I concur. Buy.

Portfolio

*Aggressive (A), Moderate (M), Conservative (C)

ETF Strategies

Currently, Adaptive Alpha Opportunities ETF (AGOX), iShares U.S. Healthcare ETF (IYH), First Trust Water ETF (FIW), iShares US Energy (IYE), ALPS Medical Breakthroughs ETF (SBIO), Vanguard Dividend Appreciation Index Fund (VIG), Vanguard U.S. Momentum Factor ETF (VFMO), and Communication Services Select Sector SPDR Fund (XLC) are showing positive returns.

I am making no changes to the portfolio this month.

Our Watch List has three names remaining:

O’s Russell Smallcap Qlty Divd ETF (OUSM)
GX U.S. Infrastructure Development ETF (PAVE)
Russell Top 200 Ishares ETF (IWL)

If you are thinking of starting a portfolio that includes individual stocks and ETFs (or just making some changes to your current holdings), here are a few portfolio ideas, utilizing our current Stock of the Month positions, recommended based on your age and risk profile:

Age 0-40

Aggressive

Moderate

Conservative

Age 41-60

Aggressive

Moderate

Conservative

Age 60+

Aggressive

Moderate

Conservative

A= Aggressive

M= Moderate

C= Conservative

The Oil Industry Is Staging a Turnaround

As you can see from the following graph, oil prices are in the recovery stage.

For the second half, industry experts are expecting a “potential rebound in oil prices, reduced dealmaking in the oil and gas industry (due to higher interest rates) increased consumption of renewable energy, and rising U.S. crude output.”

The Organization of the Petroleum Exporting Countries (OPEC) and its allies have cut output by 3.66 million barrels since November, in an attempt to boost oil prices. China has also been lifting COVID restrictions, which should push its economic growth, and The Energy Information Administration (EIA) is forecasting that Brent crude prices will rise to $84 per barrel next year.

Meanwhile, U.S. oil production is expected to be record-producing in 2023 and 2024, as S&P Global forecasts that shale output will grow by 1.4 million barrels per day (bpd) this year. In March, the U.S. saw its crude production expand to almost 12.7 million bpd, the highest since the pandemic.

Amazingly, S&P Global reports that some “90% of the 180 billion barrels of recoverable oil reserves in the U.S. remain untapped.” And with oil prices hovering in the low $80s, they provide a nice profit margin for the $50 per barrel drilling price breakeven.

And that bodes well for our newest recommendation, Noble Corporation (NE).

Portfolio

*Aggressive (A), Moderate (M), Conservative (C)

The next Cabot Money Club Stock of the Month issue will be published on September 14, 2023.