Cabot Explorer Issue: December 21, 2023

Portfolio Changes: None

From Steel to Artificial Intelligence

To begin, I’d like to wish you all best wishes and safe travels during the forthcoming holiday week. Because of a leaner staff next week, we will not be sending out an Explorer update but will send you a message if there is any breaking news on our stocks. It’s been a strong finish to the year, which should mean a good start to 2024. It will be a big election year both at home and overseas with the first one in January in Taiwan.

U.S. Steel (X), created by the business giants J.P. Morgan and Charles Schwab and an iconic American brand, is being acquired by Japan’s Nippon Steel (NPSCY) for $55 a share, which is $14.9 billion.

This is despite substantial efforts by Washington to support the steel industry with tariffs and quotas. American steel makers have struggled to compete against low-price, subsidized metals made by foreign competitors including China, which now accounts for about 55% of global steel production.

Founded in 1901, U.S. Steel had been the largest steelmaker in America as recently as 2014. Today, it’s the third largest steelmaker in the U.S., behind Nucor (NUE) and Cleveland-Cliffs (CLF). At its peak last century, it was the world’s largest steelmaker, employing more than 350,000 workers and producing more than 35 million tons a year. These days it’s ranked 27th, hiring 15,000 workers and producing 14 million tons. Another casualty of moving our industrial base to Asia.

Nippon Steel says it will honor all of U.S. Steel’s existing labor union agreements, but the deal will require regulatory approvals. The United Steelworkers’ 11,000-worker union, which represents most of the workers from U.S. Steel, has reacted angrily to the prospect of being purchased by a foreign firm. This transaction will likely play out in the courts.

Much of the stock market’s momentum in 2023 was far from steel. The excitement over artificial intelligence (AI), spurred by the arrival of ChatGPT, has led to a boom in AI-related stocks, sending some to the moon and many looking for new ideas, such as the Explorer’s new recommendation today.

New Recommendation

Super Micro Computer (SMCI)

Super Micro Computer (SMCI), commonly known as supermicro, manufactures enterprise computer server hardware for cloud computing, artificial intelligence, data storage and telecommunications.

Advanced Micro Devices (AMD) projects that the AI chip market will go from $30 billion in 2023 to a $45 billion market in 2023 and then growing to a stunning $400 billion market by 2027. About half of those chips will be in AI servers, which means Super Micro will have a lot of room to grow if it executes well. Super Micro has also developed proprietary liquid cooling systems that will be required of more servers going forward in the AI age.

Revenue has received a boost from service providers investing in systems for generative artificial intelligence. The San Jose, California-based company works closely with AI chip providers including Advanced Micro Devices (AMD) and Nvidia (NDVA).

Super Micro has raised its full-year guidance to a range of $10 billion to $11 billion from the prior range of $9.5 billion to $10.5 billion. At the midpoint, this indicates a year-over-year revenue jump of 48% from fiscal 2023’s top line of $7.12 billion.

That points toward an acceleration over the 37% revenue growth Super Micro delivered in the previous fiscal year. Super Micro also recently raised its global capacity to 5,000 server racks per month from the prior level of 4,000.

Barclays estimates that the company’s prior capacity of 4,000 racks a month could support annual revenue of $12 billion to $15 billion. So, a 25% increment in capacity means that Super Micro’s annual revenue potential should have ideally increased to a range of $15 billion to $19 billion. Moreover, the new facility that it is building in Malaysia could take its annual revenue capacity to more than $20 billion.

The company also has a highly motivated founder and CEO. According to a recent proxy report, Charles Liang owns 14.3% of the company and plenty of options with a strike price of $450 a share.

Super Micro stock looks relatively inexpensive right now for the growth that it has been delivering. The company trades at just two times sales and 24 times trailing earnings. Super Micro has two larger rivals, Dell (DELL) and Hewlett Packard (HPE), but it is forecast to grow five to 10 times faster. Furthermore, both Dell and HPE have relatively high debt whereas Super Micro has a net positive cash position.

This is an aggressive pick in a sector experiencing extraordinary growth.

BUY A HALF

Explorer Stock Update

Below is a brief update on each Explorer stock. Any changes in ratings will be highlighted. This section is all you need to read each week.

Explorer Trading Recommendations – need to watch more closely

Exscientia (EXAI) shares were up a bit this week after a couple of 5% gains. The company is developing a patient-first artificial intelligence (AI) model to generate medicines with both lower costs of development and improved probability of success. Exscientia has ongoing agreements to co-develop drugs with Bristol-Myers Squibb and Sanofi. This is an aggressive idea in a promising field. Buy a Half.

10x Genomics (TXG) shares were steady this week after being up about 10% in their first week as an Explorer recommendation. 10x is a leader in the emerging field of “spatial biology” which is a cutting-edge life science for making new discoveries about human health and disease. The company’s third-quarter revenue increased 17% and the stock is in an uptrend, so consider adding 10x to your portfolio for 2024 realizing that it is an aggressive idea. Buy a Half.

Lithium Americas (LAC) shares reflect lithium prices which seem to be flattening out and indications from China are that the pullback that began earlier this year in lithium prices may be over. The company is focused on developing a high potential lithium site in Nevada that could produce a significant amount of battery-grade lithium carbonate essential for lithium-ion electric vehicle batteries. Buy a Half.

Novo Nordisk (NVO) shares climbed back over 100 and are up 47% since being added as an Explorer recommendation. This leading Danish company is carving out a huge market for diabetes and obesity that Goldman Sachs estimates will reach $100 billion market by 2030. Novo has competitors and needs to ramp up production to meet burgeoning demand and is also working on a high-dose version of its weight-loss pill. Hold a Half.

Sociedad Química y Minera de Chile S.A. (SQM) shares were unchanged this week and have struggled a bit this year due to weak lithium prices but this is offset by SQM’s 10% dividend yield that helps total return. In terms of production, the company had record sales in the third quarter, surpassing 43,000 metric tons. Hold a Half.

Explorer Dominator Blue-Chip Recommendations – More Buy and Hold

ConocoPhillips (COP) shares jumped from 112 to 116 and this leading global upstream energy player will report its next earnings on February 8. Headquartered in Houston, Texas, ConocoPhillips had operations and activities in 13 countries with assets of $94 billion. Conoco is also among the lowest-cost oil producers. This is great core holding but last week, but last week I moved it to a hold pending a clearer trend line. Hold a Half.

International Business Machines (IBM) shares stayed steady this week and I expect this stock to do well as a low-risk AI and cloud play. Its consulting business has always been powerful and agnostic when it comes to developing solutions for clients. This is a solid base to build on and the stock delivers a solid 4% dividend yield. Buy a Half.

Visa (V) shares have had a good year, with shares up 24% year to date and reaching new all-time highs earlier this month. Visa is not a credit card company but rather a fintech company. Visa is expanding its Fintech Fast Track program beyond card issuance to connect members to its real-time money movement platform, Visa Direct. The company continues to ink deals that build its network and moat, signing commercial partnerships with 500 new fintech companies in the fourth quarter, a 25% increase over last year. Buy a Half

Watch List

BYD (BYDDY): Given recent weakness in the stock, we removed BYD from our portfolio last week and made it the charter member of our new Watch List. The company is worth keeping on our radar due to its new – and rapidly increasing – leadership position in the global electric vehicle industry, with its exponential growth and low-priced car options making even Elon Musk sweat these days. We will keep a close eye on BYDDY for when the stock strength inevitably catches up to the company’s.

Explorer ETF/Fund Positions

Global X Lithium & Battery Tech ETF (LIT) offers solid exposure to other beaten-down lithium names at a low cost. With an expense ratio of 0.75%, some of its top holdings include Albemarle (ALB), Tesla (TSLA), BYD (BYDDY), Panasonic Holdings (PCRFY), and Livent (LTHM), to name a few of the fund’s 46 holdings. Buy a Half.

JPMorgan Equity Premium Income ETF (JEPI) offers double-digit yield coming from both option premiums and dividends using a value-focused strategy. Current yield is about 9%. Buy a Full.

WisdomTree Emerging Markets High Dividend Fund (DEM) offers a high dividend yield and some of the highest quality emerging market stocks. Buy a Half.

WisdomTree China ex-State-Owned Enterprises Fund (CXSE) is a way to gain China exposure without any state-owned enterprises (SOEs). Buy a Half

Model Portfolio

Explorer Stocks Summary

Brief company summaries that will not change week to week.

Watch List: BYD (BYDDY) switched to producing only all-electric battery vehicles (BEVs) and plug-in hybrid electric vehicles (PHEVs). The company also manufactures and supplies EV batteries, including to Tesla, and makes its own chips. This is vertical integration that would make Henry Ford proud. BYD is in a strong position to be one of, if not the leader of the EV revolution in terms of size, scale, and growth.

ConocoPhillips (COP) is a global energy industry giant and one of the largest independent exploration and production (E&P) companies in the world, as measured by production levels and proved reserves. The company, founded in 1917 and based in Houston, has operations in 13 countries, although almost half the company’s production is derived from U.S. sources.

Exscientia (EXAI) was founded in 2012 and based in Oxford, England, and is using AI to develop new medicines and is attracting high quality partners. Exscientia (EXAI) stock is trading way off its high in an uptrend at 6.60. It went public at 22 a share so the company has about $500 million in cash on the books – a big number for a company with a market capitalization of just $763 million. Finally, keep in mind that this is an attractive speculative stock which may have a bumpy ride. It is a young company that is not and will not be profitable next year.

10x Genomics (TXG) is a leader in the emerging field of “spatial biology” a cutting-edge life science for making new discoveries about human health and disease. Founded in 2012 and based in Pleasanton, California, 10x builds tools for scientific research to advance human health. Its instruments, reagents and software allow researchers to examine cells and molecules at a resolution and scale never imagined or experienced before. 10x helps researchers look at the roots of biology.

International Business Machines (IBM) is a blue-chip artificial intelligence (AI) and India play with a nice dividend yield. Known as “Big Blue,” IBM now primarily helps businesses and governments manage their information technology in the cloud era. The stock sells at a discount to the S&P 500 multiple and the information technology sector’s forward earnings multiple. IBM has paid a dividend every quarter since 1916 and has had 28 consecutive years of dividend increases.

Lithium Americas (LAC) focuses on the Thacker Pass lithium site in Nevada that has tremendous potential, with 16.1 million tons of battery-grade lithium carbonate equivalent available for extraction. The Thacker project has received a $650 million investment from General Motors, highlighting the project’s future role in supplying battery materials to power electric vehicles. Though Lithium Americas is still pre-revenue and permitting is challenging, the company predicts the Thacker Pass project will generate $1.2 billion in annual cash flow when fully operational.

Novo Nordisk (NVO) specializes in treatments for diabetes, hemophilia, and obesity. The company supplies half of the world’s insulin, and its diabetes care products are used by over 34 million people today. Novo highlights that more than 750 million people are currently living with obesity and that this is up a multiple of 3X since 1975. In summary, based on sizable and growing demand for this weight-loss drug, this well managed, highly profitable company with an excellent growth profile and potential to develop new products has limited risk.

Sociedad Química y Minera de Chile S.A. (SQM) produces specialty plant nutrients, iodine, lithium, potassium chloride and potassium sulfate, industrial chemicals, and other commodity fertilizers which together account for about 30% of SQM’s annual revenue. SQM is generally considered the world’s second-largest lithium producer, behind U.S.-based Albemarle (ALB) and in recent years, demand for the “white gold” has been strong. Demand for lithium is strong due to electric vehicle growth and lithium contributes about 40% of the company’s gross profits. Fertilizer ingredients supply another 40%, and iodine contributes the rest.

Visa (V) doesn’t extend credit but provides the plumbing for financial payments and communications throughout the world. Visa has the largest card network in the U.S., processing $14.5 trillion of payment volume in the last twelve months. Visa’s financial infrastructure also underpins much of the world’s commerce. The duopoly between Visa and Mastercard is often referred to as one of the best businesses in the world, with insurmountable moats, low operating costs, and plenty of opportunities for unlocking additional value. Visa currently trades at a discount to its archrival MasterCard. This leaves it much better poised to outperform the latter going forward.

The next Cabot Explorer issue will be published on January 4, 2024.

PUBLISHED — New book from Chief Analyst Carl Delfeld