Interest rates are still rising, as the Federal Reserve boosted short-term rates by 75 basis points last month, to try to stem the growth of inflation. There are some signs that it may be working. The 30-year mortgage rate actually saw a couple of decreases early last week, but nudged a bit higher on Friday, to a 5.94% average national rate. And gas prices have declined nationwide to $4.66 per gallon, from $4.68 this time last week. I know that’s not much, but, hey, we’ll take what we can get!

Cabot Stock of the Month Issue: July 14, 2022

Market Overview
Interest rates are still rising, as the Federal Reserve boosted short-term rates by 75 basis points last month, to try to stem the growth of inflation. There are some signs that it may be working. The 30-year mortgage rate actually saw a couple of decreases early last week, but nudged a bit higher on Friday, to a 5.94% average national rate. And gas prices have declined nationwide to $4.66 per gallon, from $4.68 this time last week. I know that’s not much, but, hey, we’ll take what we can get!

Meanwhile, the economy continues showing strength. Factory orders and ISM Services both edged higher, and job openings are positive. Updated housing statistics are due next week. Anecdotally, on a local level, I can tell you that home prices are dipping, and inventory is rising. However, sales—although not as robust as the previous three months—continue on a healthy level.

I thought the consumer credit statistics were interesting. Consumers have reduced their outstanding debt to $22 billion, down from $37 billion, and considerably less than the $30 billion that was forecasted. It seems that folks are worried about the possibility of a recession. Of course, one number in time doesn’t mean a lot. We’ll see what next month’s statistics show.

Here at Cabot, we see the market fundamentals improving, but we are still “watching and waiting for the trends to turn up,” as Mike Cintolo reports.

Featured Recommendation

QUALCOMM Incorporated (QCOM): For 5G, You Need QCOM’s Chips!
This month, due to the continued volatility of the markets, I am still leaning conservative and am focusing on a dividend stock—although one with excellent growth prospects. Our Feature Recommendation this month pays a nice dividend, and is a company helping to lead the way in the explosion of the 5G telecom industry.

This recommendation is courtesy of Tom Hutchinson, Chief Analyst of Cabot Dividend Investor, Cabot Income Advisor, and Cabot Retirement Club.

Here’s Tom’s latest take on Qualcomm:

“Qualcomm is part of my Dividend Growth Tier stocks. I like the stock for total return. The company should continue to get double-digit earnings growth for the continued rollout of 5G and smartphone sales. It is also expanding in high-growth areas like self-driving cars and the Internet of Things (booming environment of connectivity of devices). Despite the high relative earnings growth over the next several years, QCOM sells at low valuations.

“Qualcomm is the world’s largest supplier of chips for mobile devices. It also holds the patents for the key technology systems that are the backbone of all 3G and 4G networks. In 2018, chips accounted for 76% of revenues while licensing from patents accounted for 23%, although the smaller area is more profitable and better insulated from competition.

“A chip is part of the processor that is essentially the brains of a computer, smartphone or device that controls other devices in the system. These chips are the cutting edge of computer technology and determine the power, speed and function. Competition in semiconductor companies is fierce. But Qualcomm has an enormous advantage going for it right now. It is the undisputed king of the chips that will enable 5G technology.

“Qualcomm’s 5G Snapdragon 855 chipset uniquely offers modularity, the ability to mitigate the existing spectrum to accommodate 5G. It offers a bridge between older 3G and 4G and the 5G upgrade that virtually every company will need. In order to effectively compete in the fierce race between countries and companies to develop the new technology, equipment makers must have Qualcomm’s chips.

“Sure, other companies, including Apple (AAPL) as well as certain companies in China, are working on competing chips. That’s alarming because they account for a sizable portion of Qualcomm’s smartphone chip business. But those competing chips won’t be here in the foreseeable future, and Qualcomm should have huge growth from other sources down the road.

“The stock was originally purchased in the portfolio in November of 2019, primarily on anticipated 5G smartphone royalties. That business did boom, and the stock has returned 80% since then, despite being down YTD and from its high. Earnings this past quarter were up a whopping 68% over the same quarter last year, and the company upgraded guidance for this year and next.

“In addition to booming smartphone sales, in which the company has done a stellar job of diversifying by selling a lot more Samsung chips, future business looks very promising. The company increased automobile chip sales by 41% and Internet of Things (IOT) by 61% versus the year-ago quarter. These are areas with the most growth potential in future years.

“The stock has been hammered in the tech selloff this year. But it was a beloved superstar before then. And little has changed except the market’s treatment of the sector. The stock doesn’t deserve to be down as much as it is. When things change, and they always do, the market will come back to Qualcomm and its booming earnings growth.

“The company is in a strong earnings growth cycle that should last a while. It is also well- positioned for the future. Analysts were slobbering all over this company a few months ago when it was blowing away earnings expectations and raising guidance. Sure, smartphone sales will decrease in a recession. But that is already more than priced in. The stock sells well below what the fundamentals justify. And such things win the day eventually.”

Tom isn’t the only analyst who likes QCOM stock. Average price targets are around $199, 50% above today’s trading level for the company. Although smartphone chip companies have recently seen their targets lowered due to declining demand for the phones, I believe that is a short-term phenomenon. With the wholesale rollout of 5G on the way, we will all be transitioning to new phones sometime in the near future.

As Tom mentioned, Qualcomm is a company with more than one trick up its sleeve. In some exciting news this week, it was reported that Swedish telecom Ericsson, French aerospace company Thales, and Qualcomm are developing a “satellite network that could enable smartphone users to wirelessly access superfast speeds and low latency wherever they are in the world.” This will bring cell wireless internet to the 16.28% of the world’s population who now live in extremely remote or geographic-challenged areas around the globe.

In its latest quarter, Qualcomm’s revenues rose by 40.7%, to $11.16 billion. And its earnings per share of $3.21 handily beat analysts’ estimates of $2.91, and were up $0.69 from a year ago.

Going forward, the company is expected to earn $2.87 per share for this quarter, on revenues of $10.88 billion.

With all this growth, you would expect Qualcomm’s shares to be flying high. But rising inflation and recession worries have taken the entire market down, along with tech companies like Qualcomm.

According to Bloomberg, Qualcomm holds the No. 1 rank among its peers in the Electronics-Semiconductor Fabless industry group.

So, right now, you can buy these shares at a forward P/E of just 10.22. And don’t forget the added allure of the dividend. I call that a bargain!

About the Analyst: Tom Hutchinson, Cabot Dividend Investor, Cabot Income Advisor, and Cabot Retirement Club
Tom Hutchison is a Wall Street veteran with extensive experience in multiple investing and finance disciplines. Tom’s expertise includes specialized areas of mortgage banking, commodity trading, and in a financial advisory capacity for several of the nation’s largest investment banks.

For more than a decade, Tom created and actively managed investment portfolios for private investors, corporate clients, pension plans and 401ks. He has a long track record of successfully building wealth and providing a high income while maintaining and growing principal. As a financial writer, Tom’s byline has appeared in The Motley Fool, StreetAuthority, Newsmax and more.

He has written newsletters and articles for several of the nation’s largest online publications, conducted seminars and appeared on several national financial TV programs. For the past 10 years, Tom has authored a highly successful dividend and income portfolio with a stellar track record of success, including the past three plus years at Cabot.

Tom has been in the trenches of income investing for a long time. So, I knew just who to turn to in order to find a great dividend stock with the added attraction of growth during these volatile market days. Here’s a closer look at Tom’s methods and strategies:

Nancy: I note that you have divided your portfolio into three categories: High Yield, Dividend Growth, and Safe Income Tier. Would you please expand on those definitions for my subscribers, and tell us what criteria, specifically, you are looking for in choosing stocks in each of these categories? High-yield companies often scare investors—especially in periods when earnings may become uncertain, and dividends cut or even eliminated.

Tom: In the High Yield portfolio, I look for higher yielding stocks (usually yielding 5% or more) suitable for investors who are seeking more income. All the choices are stocks with a safe dividend with a reasonable payout ratio and a track record of maintaining the payout.

In Dividend Growth, my goal is primarily total return. These are companies with a successful track record of raising the payout that also tend to have consistently growing earnings and can provide superior total returns over time.

And lastly, in my Safe Income portfolio, I search for companies with dividends considered the most rock solid. They tend to have low payout ratios and a long track record of maintaining and raising the payout. They also tend to be defensive companies that continue to generate consistent earnings in any economy.

Nancy: In addition to high yields, what other criteria do you analyze to try and make sure the high-yield companies in your portfolio have solid, lasting dividends?

Tom: The dividend needs to be safe. The company has to have a track record of strong predictable earnings that it can back up, as well as a history of maintaining the payout in different environments.

Nancy: How likely do you see a recession for the U.S. in 2022? And how do you think that might affect your portfolio choices?

Tom: At this point, I would assign a 50/50 chance of recession in 2022 and higher over the course of the next 12 months. It definitely affects the stock choices. I recently sold several positions for that very reason.

Nancy: I see that you also like REITs, and have a couple in your portfolio. Do you anticipate holding them if we do enter a recession? Also, which REIT categories would you currently stay away from; why?

Tom: As a possible recession approaches, I avoid the more cyclical REITs and hold those that can maintain earnings even in a recession.

Nancy: Do you ever buy special dividend companies, just for the dividends?

Tom: I do occasionally in Cabot Income Advisor when the situation is sufficiently compelling.

Nancy: I note that in a recent missive to your subscribers, you wrote that you believe the tech industry is oversold. Are you searching that arena for some new tech dividend ideas?

Tom: I do believe several tech companies are oversold. The market has gone too far in discounting growth with inflation and possible recession. And some of these companies sell at a very cheap price when considering the likely growth rate over the next several years. But the universe of dividend paying tech stocks is small, and even smaller for ones that pay a significant dividend.

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

Tom: Yes; the financial and materials sectors.

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

Tom: Inflation, rising interest rates, a slowing economy, and geopolitical uncertainty. Most companies get squeezed when costs rise and demand weakens.

Portfolio and Industry Update
Our GitLab Inc. (GTLB) pick is getting some love from Needham, who just initiated coverage of the company’s stock with a “Buy” and a price target of $70 (19% upside), saying that “GitLab is increasingly becoming the center of gravity for organizations’ software innovation, where GitLab’s DevOps Platform benefits from its dual-flywheel development strategy.”
Goldman Sachs is also favorable on the stock, reporting that the company will “potentially reach FCF (free cash flow) breakeven faster than initially expected (4Q24 vs consensus estimates of 2Q25).” Goldman recently upgraded GTLB’s shares to “Buy,” which brings the company’s “Buy” ratings to nine Wall Street analysts.

The management of GTLB has been adding its stock to their portfolios, to the tune of 18 million shares over the past three months. The team is forecasting revenue growth of 58% this year.

The shares of GTLB are up 17% since our recommendation. Let’s change the rating to Hold for now.

Invesco Dow Jones Industrial Average Dividend ETF (DJD) is still trading in a buyable range. Continue to Buy.

Our newest recommendation, M/I Homes, Inc. (MHO), has been steady during this market volatility. The shares remain very undervalued, with a P/E ratio of just 3.23. And analysts are forecasting a stock price of $85.50, up 94% from current trading levels. Continue to Buy.

Smartphones—Down Now, but Just Wait for 5G!
As I mentioned earlier, forecasts for the smartphone industry have been declining. Research firm IDC decreased its estimates for smartphone shipments, forecasting a drop of 3.5% this year from last year, due to increasing inflation, supply constraints, and geopolitical challenges.

Inflation now is 9.1%, and rising. Covid-19 disrupted supply logistics, which are still going to take a while to straighten out. But simultaneously, as more folks stayed away from the labor market during the pandemic, the use of (and subsequently demand for) consumer electronics soared. That demand is naturally falling as people go back to work. And lastly, frosty relations and trade disputes with China over its semiconductor industry are ongoing and can put a damper on chip manufacturing. Only 12% of semiconductors are made in the U.S. right now, although some steps are being taken to add more manufacturing back to this country.

However, I think those issues are short term. Just recently, Both mega-chipmakers Samsung and Taiwan Semiconductor reported quarters of surprising revenue growth, 21% and 44%, respectively.

And, as you can see from the chart below, smartphone growth around the world still looks pretty exciting.
Number of Smartphone & Mobile Phone User Worldwide (in billions)

Source: Forecast figures by Ericsson & The Radicati Group

And most of that growth is going to come from all of us smartphone users upgrading to 5G. According to Grand View Research, by 2028, the smartphone chipset market will expand to $66.5 billion. And that compares to $7.2 billion last year! That’s right; that comes to a compound annual growth rate of 69%!

Further, for this year, research firm Gartner estimates that semiconductor revenue for smartphones is forecast to increase 15.2%, due to a 45.3% increase in 5G smartphone unit production, reaching 808 million units—some 55% of all smartphones produced.

Industry experts claim that the advent of 5G wireless will not only exponentially increase Internet and communication speeds, but it will also create phenomenal leaps in cutting edge technologies like artificial intelligence, cloud computing, and self-driving vehicles.

Consequently, that puts Qualcomm—the leading smartphone chip maker—in a very enviable position.

Also, the rising demand for chips in the automobile industry is very favorable. Covid shortages still remain. But demand is robust, and the increasing adoption of electric vehicles, which use four times as many chips as combustion engines, makes this part of the market very attractive. A recent report by Deloitte concluded that the voracious demand in autos and the shortage of chips led to lost auto sales of more than $210 billion in 2021 alone.

And as Tom mentioned, Qualcomm is now a player in the auto chip market. Its Snapdragon chip allows easy transition from 3G and 4G to 5G. And its recent partnership with SSW Partners to acquire Veoneer to secure its Arriver group will position Qualcomm to “become a major supplier of auto technology for the future vehicle platforms, especially for electric vehicles (EVs) and Autonomous Vehicles (AVs).”

The following graphic gives you an idea of how the combination of Snapdragon and Arriver will further push Qualcomm into the cutting edge of automobile technology.

The company recently announced relationships with several major automotive OEMs, including BMW, GM/Cruise and Ferrari, for ADAS/AD platforms.

Overall, Deloitte forecasts that the global semiconductor chip industry will reach $600 billion this year. And that growth will certainly boost the future prospects for Qualcomm.

The next Cabot Money Club Stock of the Month issue will be published on August 11, 2021.

About the Analyst

Nancy Zambell

Nancy Zambell has spent 30 years educating and helping individual investors navigate the minefields of the financial industry. She has created and/or written numerous investment publications, including UnDiscovered Stocks, UnTapped Opportunities, and Nancy Zambell’s Buried Treasures under $10. Nancy has worked with MoneyShow.com for many years as an editor and interviewer for their on-site video studios.

As a lecturer and educator, Nancy has led seminars for individual investors at the National Association of Investors, Investment Expo and the Money Show. She has also taught finance, economics and banking at the college level, and has been quoted extensively in The Wall Street Journal, Investor’s Business Daily, USA Today, and BusinessWeek.

Nancy’s book, Make Money Buying & Selling Stocks is an introduction for new investors and a reminder for experienced investors on how to profit in the stock market.