Chinese stocks have bounced higher this week, giving the Cabot Emerging Markets Timer a much stronger buy signal. Coming after a stretch of flat trading dating back to mid-May, this newly strengthened signal is great news, and we have a Chinese internet stock to recommend that should benefit greatly from the support.
Cabot Emerging Markets Investor 637
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Cabot Emerging Markets Timer
The Emerging Markets Timer is our disciplined method for staying on the right side of the emerging markets. The Timer is bullish when the index is above the lower of its two moving averages and that moving average is trending up.
Still bullish! Our Emerging Markets Timer has come to life in recent days, providing a good example why we don’t anticipate signals—EEM had been chopping sideways for many weeks and had tested its 50-day line multiple times, but it never broke down, and now the bulls are again flexing their muscle.
With EEM clearly above its lower (50-day) line, the intermediate-term trend remains up, and thus you should remain mostly bullish, holding your strong stocks (especially those that have already lifted to new highs) while looking for new, high-odds setups.
What Does Sideways Mean?
Markets that go up—real bull markets—are easy to live with and easy to interpret. The buyers (optimists) are in charge, the odds shift significantly in favor or heavier exposure and winners are thick on the ground. Bull markets make growth investors feel smart.
Markets that go down—unambiguous bear markets—are not easy to live with, but they also require little or no interpretation. The rules for growth investors when the bears are in charge are quite clear: Sell your losers and laggards, hold lots of cash and keep new buying to a minimum.
But since the middle of May, iShares MSCI Emerging Markets ETF (EEM), which is the basis for our Cabot Emerging Markets Timer, had been trending resolutely sideways. EEM hit 41.5 on May 15 and it traded below that level on July 10. Yes, it plunged below 40 on May 18 and has popped above 42 in the past couple of days, but a glance at the chart tells you that the short-term trend has been sideways. (The still-rising 50-day moving average says the medium-term trend is still up, by the way.)
Here’s a daily chart to illustrate.
The breakout on Wednesday is a hopeful sign, of course, as is EEM’s habit of finding support at its 50-day moving average (March 9, April 19, May 18 and last week). And Wednesday’s action lifted EEM above its 42 resistance level.
Periods of flat trading, whether you call them bases or consolidations, are pretty neutral phenomenons. The chart above also shows a couple of corrections (late February through early March and mid-March through mid-April) that looked more threatening. Real corrections, where sellers get the bit in their teeth and pull the market lower, are worrying, but also useful. A correction will squeeze some hot money out of the market, shaking out investors who lack conviction and resetting an advance.
The longer a flat patch goes on, the more nervous many investors get. Analysts start cranking out opinion pieces about why the next big move will be up (or down) and Cabot analysts (me included) will get an increasing number of questions about Moving Average Convergence/Divergence (MACD) and Relative Strength Indicator (RSI) charts that show a statistical trend below the median. My answer is generally to take such statistical divergence-from-the-mean indicators with a grain or two of salt. The relationship between EEM (or any other issue) and its moving averages and volume trends are the real primary indicators, with statistical analytics way back in second place.
So, what does a flat patch really mean? As long as trading volume stays active, it means that buyers and sellers are fighting it out, with sellers selling at the upper edge of the trading range and buyers clocking in at the lower edge.
It’s a good time to pay close attention to the stocks in our portfolio, watching price action at support and resistance, keeping our sell disciplines sharp and waiting for the market to answer the question of what it’s going to do by actually doing it. And if Wednesday’s action leads to a follow-through to the upside, we will have our answer.
Featured Stock
It’s Alive
YY Inc. (YY)
Social media are a familiar category to emerging market investors, with plenty of competitors to Facebook, Twitter, Snapchat and Instagram and their ilk.
But there aren’t many social media companies that can boast of a unique capability that truly distinguished them from their competitors. YY Inc. can. The company’s technology allows interactions and communications without downloading or installing any software, and there’s a mobile YY app.
YY’s technology enables a live streaming platform that lets users interact in group activities using voice, text and video. It’s the “live” in YY Live that makes a difference, as users can engage in karaoke, discuss movies, play games, listen to pop music, watch videos and find dates, all in streaming mode. The company also offers talk shows, educational content and user-generated groups who share a common interest. The YY ecosystem is extensive, with literally thousands of channels.
The company has many divisions that specialize in a particular activity. The Huya segment features live game broadcasting gaming, which, while not profitable yet, is expected to get a big boost from the company’s strong user base. Other segments include Duowan.com, which provides game news, announcements and discussion. Xunhuan focuses on online dating and Zhiniu Finance centers on money matters. The company’s monthly active users (MAU) top 117 million and MAU in mobile live streaming reached 63 million in the first quarter, an increase of 12% from the previous year. And the number of live streaming paying users was up 66% year-over-year.
Revenue growth has been strong, up 31% in 2016 and 29% in Q1 2017, and analysts expect earnings to grow by 29% in 2017 and 15% in 2018. Revenue comes mainly from internet value-added services and third-party advertising. YY users can send online rewards to favorite video performers (with YY taking a small cut) and game players can buy in-game items to increase their power.
YY’s CEO resigned in May, apparently for health reasons, but the transition to new leadership has been smooth. The resignation may have stirred up a little of the turmoil that dogged the stock back in mid-2015 when its then CEO teamed up with the chairman of the smartphone giant Xiaomi in a bid to take the company private. Nothing came of that attempt, but when the bid was formally withdrawn in May 2016, YY Inc.’s stock took a heavy hit, falling from its April 2016 high of 64 to 31 just two months later.
YY has been a volatile issue since that big correction, recovering to 57 in October 2016 but dipping back to 38 in January 2017. The stock caught a strong updraft in April, rallying from 43 on April 18 to 62 on June 8. Since that move, YY has been trading mostly sideways under resistance at 59, gaining support from its rising 25-day moving average. We like the stock’s Wednesday action, punching from 58 to 60 on slightly elevated volume.
YY is always going to be a slightly more speculative stock than some of the Chinese internet giants that we already have in the portfolio. It has a compelling technology, but its revenue stream doesn’t have the firehose gush of a Tencent Holdings or Alibaba. But we like the calm basing structure in June and early July, and the bargain-basement 12 P/E ratio. Institutional supporters have also been on the rise, with 296 whales owning around 11 million shares, both new highs. We will start YY off with a recommendation to Buy a Half. BUY A HALF.
YY Inc. (YY 58)
Building B-1
North Block of Wanda Plaza
Guangzhou 511442
China
www.yy.com
Model Portfolio
Invested 85% Cash 15%
Updates
In the last issue in this space, we wrote “when things get wild, it’s important not to be too smart. Instead, just follow the trend, which remains up for the emerging markets sector as a whole.” We never anticipate changes in trend, even when it seems likely, because we know that, historically, a trend is more likely to persist than not. And that’s just what’s occurred this week, as the iShares EM Fund (EEM) has shot ahead to new highs.
The eight-week consolidation in emerging market stocks (EEM made no progress from mid-May through last week) has separated the wheat from the chaff—we ditched our weakest couple of stocks but have held on tightly to the rest and are aiming to identify new leadership (and low-risk) setups as the uptrend resumes.
Alibaba (BABA) continues to look like a real leader of this market advance, with the stock holding its big early-June gap up during the recent market selloff, and pushing to new highs yesterday (albeit on light volume). Earnings are likely out in two or three weeks, which will be the next big event, and we’re not ruling out some sort of pullback or shakeout before or after the report. But, big picture, BABA looks like a liquid leader of the advance. You can buy some around here or on dips of a couple of points. BUY.
Autohome (ATHM) didn’t break its 25-day line during the May/June emerging market consolidation, though it’s been drifting slightly higher in recent days on super-light volume. We’d love to see a decisive push higher on good volume to confirm the stock’s uptrend, but in the meantime, we’re not going to argue with the stock’s recent price and relative performance (RP) peaks. BUY.
China Lodging Group (HTHT) has been all over the place since early May, swinging up and down, but holding its 50-day line on each dip. The next data point should come next week, when the company releases its hotel metrics (number of hotels opened in the second quarter, occupancy, etc.); it doesn’t usually prompt a huge reaction from the stock, but the news could be enough to kick the stock out of its recent range. As it stands now, HTHT’s overall uptrend and story are intact, so we’ll stay on Buy. BUY.
Few investors have heard of HDFC Bank (HDB), but it’s a good-sized company ($13 billion in revenue) and has lots of sponsorship (more than 600 mutual funds own shares). And why not? Earnings have advanced 14 of the past 15 years (2009 saw a small 3% dip) and analysts see the bottom line rising 20%-ish both this year and next, bolstered by hopes stemming from India’s recent major tax reform (where it implemented a national goods and services tax to replace a ton of different, regional taxes). Back to the stock, HDB advanced persistently through early June, pulled back to its 50-day line and has bounced back toward its highs. You can buy some around here if you’re not yet in. BUY.
JD.com (JD) doesn’t look bad, with the stock just a few percent off all-time highs after a volatile past two months, while the company’s story and growth numbers (analysts see earnings of 38 cents per share this year, rising to 81 cents in 2018) are great. (The next quarterly report is likely out in early August.) That said, JD’s recent bounce has come on light volume and it’s still chopping around in a range. We’ll stay on Hold with our remaining half position. HOLD A HALF.
LG Display (LPL) has continued to bounce between 16 and 17 or so on a closing basis since its big breakout action in late May and early June. It’s a good time to pick up a half position if you’ve yet to do so. BUY A HALF.
Melco Resorts (MLCO) got nailed after a sub-par June gaming report in Macau (though it was still up 26% from a year ago), but it’s steadied itself since then, even inching higher in recent days. Long-term, we’re still optimistic, but short-term, there’s no doubt it’s not the strongest name out there. We’ll go to Hold and see if the stock can regain strength in the days ahead. HOLD.
TAL Education (TAL) has shot to new highs, which is great to see after its mini-blowoff in mid-May and some distribution last month. We don’t consider this some major new buy signal (especially with earnings due out July 27), but it’s certainly a bullish sign. We’ll go back to a Buy rating, but keep new positions to just a half size. BUY A HALF.
Tencent Holdings (TCEHY) came down to its 50-day line and bounced nicely, which is just what you want to see. The company said it will release its hit game “Honour of Kings” in the U.S. and Europe; it’s estimated to have 55 million users in China and is so popular that the Chinese government has complained it’s too addictive! We went to a Hold rating last week after the stock dipped, but TCEHY’s snapback and the market’s rebound has us reversing that decision. BUY.
Yum China (YUMC) was sold in last week’s update after its big gap down on earnings. It’s bounced since then, but is still below intermediate-term support, and the odds favor the stock needing plenty of time to repair the damage. Long-term, YUMC probably has another run in it, but who knows when that will be. SOLD.
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All Cabot Emerging Markets Investor buy and sell recommendations are made in issues or updates and posted on the Cabot subscribers’ website. Sell recommendations may also be sent to subscribers as special alerts via email. To calculate the performance of the hypothetical portfolio, Cabot “buys” and “sells” at the midpoint of the high and low prices of the stock on the day following the recommendation. Cabot’s policy is to sell any stock that shows a loss of 20% in a bull market (15% in a bear market) from our original buy price, calculated using the current closing (not intra-day) price. Subscribers should apply loss limits based on their own personal purchase prices.
THE NEXT CABOT EMERGING MARKETS INVESTOR IS SCHEDULED FOR JULY 27, 2017
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