In this kind of so-so atmosphere, we are taking exactly what the market hands us and making decisions based on what the charts show us. That means a little selling today, but we also have an exciting and very new stock for our watch list. Read on for all the details.
Cabot Emerging Markets Investor 657
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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.
Our Emerging Markets Timer remains tilted to the downside, telling us the buyers aren’t yet in control of most stocks. You can see that the iShares EM Fund (EEM) held above its February low during the March downdraft and has bounced modestly during the past two weeks. Still, it’s yet to eclipse either of its moving averages in a meaningful way, which keeps our negative signal intact.
Of course, just because the buyers aren’t in control doesn’t mean the sellers are doing much damage—the trend is as much sideways as anything recently. Thus, you should continue to take things on a stock-by-stock basis, with tight stops on losers, while giving strengthening names some rope.
Market Musings
Bull markets make terrible classrooms, because almost everything you do during a bull market has a greatly improved chance of working. So you can make all kinds of mistakes when the bull is in charge of the class—buying too high, selling too soon or too late, picking stocks from the B list (or even the C list)—and the market will either give you a pass or make it up to you by sending your other stocks higher.
The real learning only starts when markets get touchy and switches to red ink. And that’s because markets only teach by testing. You may have learned a lot by studying your chart books or your class on how to read a quarterly report, but the market will test your character to see if you have your patience and opportunism, conviction and skepticism, ambition and prudence in the correct balance.
As far as I can tell, nobody comes through the market’s teaching process unscathed. If the market hasn’t taken a few shingles off your house at some point, you may have been entirely too careful to take advantage of the major market upmoves when they come. As motorcycle racers like to say, “If you never fall down, you’re not going fast enough.”
As a group, emerging market ADRs had a great 2017, ran into some heavy weather in October and November, then sprinted ahead in December, rocketing higher to a short-term peak on January 26. At that point, a sharp nine-day correction pulled the group back to its October levels. And the rally that followed started a series of tightening up-and-down moves that have left EEM (the ETF of emerging market stocks) trading net sideways for the past four weeks.
The ruling market maxim at this point is that you don’t floor the accelerator when the track is wet. We have 15% of the portfolio in cash at this point, with several of our holdings grinding sideways waiting for either a decisive broad market move or a quarterly earnings report to blast them out of their doldrums.
It’s similar to the overall market, whose sideways movement in a tightening range sends a general message that buyers and sellers are fighting it out, with neither one able to gain the upper hand.
Looking at it another way, the market has counted up the lions in the room—North Korean nukes, trade war with China, Russia probe—and made its bets on how likely any one of them is to bite. And the results of that calculation are what we see in the chart of EEM.
There are plenty of market commentators who are willing to bet that the broad market is just pausing to catch its breath and are looking for a continuation of the secular bull market that’s been operating for years. Included in that prediction is the pitiful state of bond yields that might offer risk-averse investors a safe alternative. The people who do the numbers on this kind of calculus say that bonds won’t start to look really attractive until interest rates approach 3.5%.
There’s also an equally vocal group of talking heads who are predicting the next market apocalypse, but they’re not getting much traction. The perma-bears are always around, and will always get enough attention (clicks) to stay in the doom-prophesying business. And every few years one of them will predict a market downturn that actually materializes, which will allow them to market themselves as market gurus for decades.
The markets are always susceptible to headline shocks, of course, and leadership in Washington, D.C. seems to specialize in generating shocking headlines. So we can probably expect more volatility in the short term. But the real longer-term move from the market will only be recognizable in the rear-view mirror. Some things never change.
Featured Stock
It’s All About the Videos
iQIYI (IQ)
China has the biggest internet population in the world, with about 772 million of the country’s 1.4 billion people online as of the end of 2017. That amounts to about 55% internet penetration, which has created epic opportunities for the companies—Baidu, Alibaba, Tencent Holdings, JD.com and others—that have figured out how to make online search, sales, messaging and social media work.
And into this red-hot internet hive drops iQIYI, a company that combines an ambitious program of entertainment generation and partnerships with a solid technology base for delivery. It’s not easy to pigeonhole iQIYI, but it looks like it wants to be the Netflix of China, a company that uses its online video platform to stream its own premium content and has a wide web of content distribution partnerships.
iQIYI (the name translates literally into something like “Love fantastic art”) is a leader in the Chinese entertainment industry, owning the top spot for most active users and most time spent by those users on its platform—at the end of 2017, the company was averaging more than 126 million mobile daily users (DAU). Last year the company’s original content contributed five of the top 10 original internet variety shows and six of the top 10 original internet drama series. Offerings also include live broadcasting, animations, e-commerce, games and a social platform.
This success has created a network effect for iQIYI (pronounced “ee-chee-yee”) that increases its attractiveness to both advertisers and prospective viewers. The company offers advertisers a wealth of data about users to assist in ad targeting.
iQIYI makes money from online advertising (47% of 2017 revenue), membership services like premium content subscriptions (38%), content distribution (7%) and the rest from various sources. The company is a subsidiary of Baidu, which has been footing the bill for its development and rollout. Baidu’s massive user base is also the reason behind iQIYI’s rapid growth.
The company’s revenue history is strong, but begins only in Q1 2016. Revenue grew 104% in 2016 and 56% in 2017. Earnings haven’t turned positive yet, although the meaningful decline in the company’s Q4 loss was a positive sign.
IQ is as new as new can be, having come public as an independent entity late last month at around 18, pocketing more than $2 billion in the spin-off IPO from Baidu. The stock fell the next day to 15.5, but got moving this month and traded briefly above 20 on April 17. It’s since pulled back on reasonable volume.
At this point, IQ is so new it doesn’t even have a 25-day moving average; that will take another nine trading days or so. And, while it’s not our usual practice to jump on recent IPOs, there are a couple of reasons we’re making an exception for IQ.
First, most of the better-known names among emerging markets ADRs are either becalmed or trapped in trading ranges. And while we expect that many of these stocks will resume their advances at some point, the situation is ideal for testing a brand new stock that has no history, minimal institutional support and a great story.
Second, we haven’t made much use of our watch list, but building such a list is a traditional activity for periods of stock market consolidation, volatility or decline. Putting IQ on the watch list will put a high-potential stock under the spotlight. And when the market regains its momentum, it will be a good test to see if IQ responds positively. WATCH.
iQIYI (IQ)
iQIYI Innovation Building
9th Floor No. 2, Haidian
North First Street, Haidian District
Beijing 100080 China
86 10 6267 7171
ir.iqiyi.com
Model Portfolio
Invested 75% Cash 25%
Updates
Emerging market stocks (and those from the U.S.) have had an encouraging rally during the past couple of weeks, with many leading (and potential leading) stocks perking up. Given that this correction has been going on for about two and a half months, there’s a nice foundation for a new leg higher.
That said, we still have yet to see confirmation that the intermediate-term trend has turned up—our Emerging Markets Timer remains technically negative, and few individual stocks have really ripped higher. Thus, we continue to take things on a stock-by-stock basis, and on the buy side, are being cautious and picking our spots.
Tonight, we’re actually trimming a couple of positions, selling the rest of our Tencent Holdings (TCEHY) shares and selling half of Weibo (WB). That said, many of our stocks are acting great, and we’re OK picking up a small position or two on dips.
51Job (JOBS) remains in a firm uptrend and is looking to notch its 10th straight up week. Accelerating sales and earnings growth, solid estimates (up 24% this year, 25% next) and the stock’s exceptional strength all bode well. We’re OK buying a half-sized position here or (ideally) on dips toward its 25-day line (near 88 but rising fast). There’s no set date for earnings yet, but it’s likely they’ll be released in early- to mid-May. BUY A HALF.
Alibaba (BABA) has bounced nicely with the market during the past couple of weeks, pushing back above its long-term 200-day. Big picture, the stock is still in the middle of its months-long range, so we can’t say the buyers are in control, but we’re still optimistic because of the stellar fundamentals and the stock’s long rest period—BABA has basically been resting since Thanksgiving, plenty of time to wear out the weak hands. Our take: An eventual move above 200 would be highly bullish and likely indicate the next leg up of the stock’s advance has begun. Conversely, a drop back below its recent lows (upper 160s) would say perception has faltered. The big key will be earnings, which are due out May 4 before the market’s open. Right now, just hang on.HOLD.
Autohome (ATHM) certainly looks like it wants to lead any new market up-leg that develops—the stock etched three higher lows (and a couple of higher highs) during the correction and has shot to new highs in recent days. We think this is a big, durable story, and with China reportedly considering lessening tariffs on automobiles, consumer selection and sales could get a boost going forward. We’ll stay on Buy. BUY.
Azul S.A. (AZUL) has pulled back to its 50-day line, likely due to the rise in oil prices (which will eventually boost fuel costs). But the fundamentals remain pristine—the company just leased two freighter aircraft to support its burgeoning cargo business, and March results showed a booming international travel business. A drop through 31 would be a yellow flag, but right here, we’re OK picking up a half-sized position on this dip. BUY A HALF.
Given that BeiGene (BGNE) is speculative, we’re very impressed with its action in recent weeks—not only has it held up well (above its 25-day line!), but it’s tightened up nicely, a sign that selling pressures remain light. The company has initiated a couple of Phase II clinical trials for one of its pipeline drugs, continuing the positive news flow. We’re OK buying a small position here. BUY A HALF.
GDS Holdings (GDS) has been consolidating with the market since late January, which is normal action, and we like the higher lows it’s etched during that time. The company just acquired its third data center in Guangzhou, which will eventually have 13,000 square feet of storage area, half of which is operational right now. HOLD.
PagSeguro (PAGS) fell to its 50-day line for the first time ever a week ago, and, as strong stocks do, has bounced nicely since. The growth story here is outstanding, as the company aims to be the payment system of choice for small- and mid-sized businesses in Brazil and South America as a whole. BUY A HALF.
Petrobras (PBR) is approaching its highs after a few weeks of gyrations in the 13 to 15 range. The stock isn’t as strong as some of its oil peers, but PBR is as much a getting-its-act-together story as it is about oil prices. The company is looking at partnerships with British Petroleum in various areas, and it’s reportedly near a deal to supply a Chinese national firm with oil given a big investment in one of its refineries. Go ahead and buy a half-sized position here if you’re not yet in. BUY A HALF.
TAL Education (TAL) has been up, down and all around in recent months, though overall, it’s in pretty good shape. That said, we’re staying on Hold and will see what investors think of the upcoming quarterly report (due out April 26, before the open). HOLD A HALF.
Our patience has run out with Tencent Holdings (TCEHY)—it’s definitely one of the blue chips of the Chinese Internet space, but after a huge run last year, the stock etched a double top in January and March and then suffered some giant selling volume after earnings. That was OK, but now the stock has been unable to get off its knees despite the market bounce. Eventually, we might revisit TCEHY, but the stock doesn’t look like it will be a leader of any market advance from here. SELL.
Vipshop (VIPS) is also on a very tight leash, as we have a loss and the stock is sitting around three-month lows. Still, VIPS is early stage (it just got going in December after a couple years in the doghouse) and this consolidation doesn’t look abnormal given the prior run. A drop toward 15 would probably have us pulling the plug. For now, we advise giving the stock a chance. HOLD.
Weibo (WB) is also acting suspiciously, and because of that we’re going to sell half our shares tonight and keep a close eye on the rest. Yes, the story is as good as it gets, but after a monstrous run during the past two years, WB has been doing a lot more consolidating than advancing during the past six months. If the stock can hold support in here and eventually get going (possibly on earnings, which are likely out in mid-May), we’ll be happy to buy our shares back, but given the evidence today, paring back is the right move. SELL HALF, HOLD THE REST.
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Send questions or comments to paul@cabotwealth.com.
Cabot Emerging Markets Investor • 176 North Street, Salem, MA 01970 • www.cabotwealth.com
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 ISSUE IS SCHEDULED FOR May 3, 2018
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Cabot Emerging Markets Investor is published by Cabot Wealth Network, an independent publisher of investment advice since 1970. Neither Cabot Wealth Network, nor our employees, are compensated in any way by the companies whose stocks we recommend. Sources of information are believed to be reliable, but they are in no way guaranteed to be complete or without error. Recommendations, opinions or suggestions are given with the understanding that subscribers acting on information assume all risks involved. © Cabot Wealth Network 2017. Copying and/or electronic transmission of this report is a violation of the copyright law. For the protection of our subscribers, if copyright laws are violated, the subscription will be terminated. To subscribe or for information on our privacy policy, visit www.cabotwealth.com, write to support@cabotwealth.com or call 978-745-5532.
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