Cabot Growth Investor Issue: July 13, 2023

Textbook Action

The main benefit of studying market action and market history is that human nature never changes—and because of that, the market and individual stocks usually act a certain way when things are headed higher, and they act a different way when they’re not. Yes, some of that “action” is simply up vs. down—that’s why we follow trends. But there’s a lot more to it than that.

In unhealthy environments, not only are more stocks headed down than up, but you’ll see institutional-quality stocks fail at key resistance areas over and over—a sign big investors are lightening up. Common support areas will largely be useless, while news-driven trading (huge moves based on, say, macroeconomic reports) will drive things. At day’s end, charts often look like a toddler scribbling on a piece of paper at best, and like falling stones at worst.

But in healthy markets, all of that is reversed—stocks will regularly take out key resistance levels on big volume, a sign that institutions aren’t afraid to plow in. Pullbacks, especially initial pullbacks after big rallies, will respect well-known support areas, and the news of the day (especially negative, backward-looking economic reports) will mostly be taken in stride. On the flip side, you’ll often see defensive sectors ramping as funds that have to stay heavily invested look for safety.

All of that is exactly what we’ve seen during the past many weeks, and importantly, during the past month as the market has (mostly) gyrated up and down: Leaders have shown little abnormal action, with little volume on the pullbacks and with some names already hitting higher highs. Plus, the leading indexes had had trouble pulling back much, which is a tell-tale sign that many are underinvested and at least nibbling on every dip.

Of course, that’s not to say the pristine action will last forever. Though they backed off this week, interest rates are something to watch, especially if the Fed keeps at it (see more on that later in this issue). And, of course, we’re about to start Q2 earnings season, so some potholes wouldn’t be surprising given expectations have certainly been rising with stock prices.

What to Do Now

That’s a good reason to keep your feet on the ground and stay flexible—but with the preponderance of evidence positive, you should continue to lean bullish. In the Model Portfolio, most of our stocks are acting well, and tonight we’ll do some more buying: We’ll add a full-sized stake in MasTec (MTZ), which we view as a potential leader in the infrastructure theme, and we’ll buy a bit more of our ProShares Ultra S&P 500 (SSO) position, adding a 3% stake. After these moves, our cash position will be around 16%.

Model Portfolio Update

The action of leading stocks remains mostly pristine, with very little in the way of abnormal selling (PANW, a leader in the cybersecurity space, was the first iffy thing we’ve seen in a while when it got hit yesterday), even as the market has basically chopped around for the past month. Plus, of course, the top-down evidence remains bullish and more and more big-picture indicators (like our New High Buy signal—see more later in this issue) continue to flash green.

Thus, we want to be buyers … though we also want to be selective, as there remains a good chance of further near-term shenanigans given that earnings season is about to get underway and with many stocks we watch and own still gyrating within short-term ranges.

Tonight, then, we’re going to continue our step-by-step buying—we’ll going to buy a bit more of our leveraged long index fund, adding a 3% stake in SSO, and buy a full-sized (10% of the portfolio) position in MasTec (MTZ), which we think can be a solid performer as it helps lead the infrastructure (and green energy infrastructure) theme. That will take our cash position down to 16% or so.

CURRENT RECOMMENDATIONS

Celsius (CELH)—CELH has stalled out near term near round-number resistance in the 150 area and had a shakeout down to its 10-week line earlier this week, but overall the name continues to act just fine. Fundamentally, we’re at the point where Wall Street is trying to figure out just how big the company’s opportunity could be—last week, one analyst raised his international sales forecast (no big push there until 2024) from $69 million in 2025 up to $135 million (about 10% of revenues) and says that’s all based on conservative assumptions. While that’s all guesswork, the fact is Celsius should enjoy hypergrowth for the near term as distribution continues to increase; our favorite stat on that front came from late May when an analyst said locations carried an average of 12 Celsius products per store, compared to 30 for Monster Beverage, with an even more dramatic skew (eight vs. 35) in the key convenience store category—so there should be plenty of upside ahead thanks to Pepsi. We’ll stay on Buy, though another wobble or two is possible near term. BUY

DoubleVerify (DV)—DV has continued its persistent advance, with eight weeks up in a row, followed by a tight rest, and then an analyst upgrade yesterday (who said that firms are wanting to optimize their digital ad spend, which is pushing them toward DoubleVerify) helped shares notch another new high. The next big event should be the Q2 report, which is due in two weeks (July 27), and where analysts see revenues up just over 20% and earnings of six cents per share. Bigger picture, we think the still-strong economy could goose ad placements (ad budgets are very economically sensitive), which should help the cause, though the firm’s story is bigger than that. We’ll stay on Buy. BUY

DraftKings (DKNG)—DKNG has gone vertical in recent days, partly thanks to a couple of upgrades from analysts that see improving market share and a turning point in profitability. The action is clearly bullish overall, with the stock leaving behind its up-down-up-down pattern … though we’re also not eager to average up right this second, as the near term could easily see some retrenchment, especially as earnings start to appear over the horizon (due August 4). Long story short, we’re holding our half-sized stake for now, but any minor exhale will probably have us filling out our position, with the latest strength resembling more of a breakout than a blowoff in the intermediate term. We’ll stay on Buy a Half for now. BUY A HALF

Inspire Medical (INSP)—Inspire has a great story, rapid sales growth, improving margins and all the potential in the world as it moves to capture a chunk of the gigantic sleep apnea market. But for the stock, it’s relative performance (RP) line peaked back in mid May as the 50-day line (now just above 300) approaches: A strong move up from here could kick off a fresh intermediate-term advance after what’s effectively been a two-month rest, while a cave-in would obviously be a red flag. At heart, we remain optimistic given all of the positives here, and despite some sloppy near-term action, big investors agree; the number of funds owning shares leapt to 761 at the end of June, up from 716, 625 and 561 the prior three quarter-ends. Right here, we advise following the plan: We switched to Hold given the near-term sluggishness, but with no abnormal action, we advise sticking with your half position. Earnings are due August 1. HOLD

MasTec (MTZ)—There’s no question tech, AI, software and the like are the leading growth groups right now, but one “theme” we’re bullish on is that of “corporate” infrastructure in general (not roads and bridges but facilities, buildings, communication hubs, etc.) and green energy infrastructure in particular—both of which have a long runway of growth ahead as firms, states and the Feds (via grants and credits) pour money into them. MasTec has some ties to oil and gas (which used to be its largest segment a few years back), which is healthy and profitable, but the bigger opportunities lie in communications (there’s still a ton of work to be done in 5G (only a third of North American wirless connections are likely to be 5G this year), fiber to the home, and small cell deployments) and a variety of green energy-related projects, including everything from wind and solar power farm construction to biomass facilities to carbon capture to road/transport infrastructure to updating the power grid (for renewables and EV charging, but also simply because the U.S.’s power grid is ancient). EBITDA was up just a few percent in Q1 even though sales boomed 32% (partly due to acquisitions—MasTec frequently snaps up some peers to broaden its offerings), but the 18-month backlog leapt 31% and management said it “expects significant backlog build over the coming quarters” in the clean energy segment in particular going ahead. To be fair, numbers in this sector can be lumpy depending on project start timing and the like, but the writing is clearly on the wall here, and MTZ is responding—shares began to rally in early May, broke out later that month and continued higher into the end of June, rallying 10 weeks in a row, including seven straight on above-average weekly volume. The latest rest period could go on a bit longer, but we think the next big move is up—we’ll buy a full position here (10% of the Model Portfolio) with a stop in the low 100s. Earnings are due in three weeks (August 3). (As a note, if you want to start with a smaller position and build, you can, but MTZ isn’t as volatile as most other names we’re trafficking in, so we should be able to use a reasonable, 12% to 14% loss limit on the full-sized stake.) BUY

Monday.com (MNDY)—Maybe our pick of Monday.com proves to be a dud; should the stock decisively break its rising 50-day line (now near 160 and rising), we’ll likely cut our half position loose. That said, the only thing that appears “wrong” with MNDY to this point was our entry point, which came right at the market’s mid-June peak—the retreat has been a low-volume affair and didn’t give up too much of the prior moonshot rally, and now we’re starting to see a possible resumption of the rally. (The stock’s wild volatility has also likely been a factor.) Fundamentally, the firm just launched its platform on Amazon Web Services in Sydney (Australia), which is Monday’s first data center presence in the Asia Pacific region. Rapid and reliable growth (including earnings growth) seems likely for a long time going forward as the low-code offering proves to be a hit. We moved to Hold last week because of the stock’s tedious decline—we’ll stay there for now, but big-volume buying will probably not only have us restoring a Buy rating but possibly buying more shares, too. If you own some, sit tight right here. HOLD

ProShares Ultra S&P 500 Fund (SSO)—Usually the first pullback in a bull move is very tame, correcting more via time (chopping sideways) than price (falling sharply) because the market’s supply/demand situation is off kilter—there are lots of big investors underinvested (or invested in defensive names) that are using weakness and shakeouts to build positions. Things can always change, but that’s exactly what we’ve seen from the leading big-cap indexes so far, including the S&P 500, which has pulled back a maximum of 2.7% since the mid-June summit. SSO has been about twice as wild (given that it moves 2x the S&P 500 on a daily basis), but it hasn’t even touched its 25-day line during this rest period, which is a sign of strength. Yes, interest rates are something to watch (see more on that later in this issue), but all of our market timing indicators are bullish and we’re seeing continued studies/measures that are pointing to higher prices down the road (such as the New High Buy signal; again, read more about that later). It’s a bit of a risk, but we’re going to lean into the position here, adding a small amount (3% of the portfolio)—as always, if something starts to come loose in the market (such as if interest rates really ramp, etc.), we’ll pare back, but if there was ever a time to push things a bit, it’s now, when the evidence is building that a sustained uptrend is underway after 18 months in the wilderness. BUY ANOTHER 3% POSITION

Shift4 (FOUR)—Shift4 is looking tempting, as the stock may be changing character after a tough 13-week correction and a (hopefully) final test of support near 60—though, to be fair, there’s been very little volume on the pop and FOUR is back in an area of resistance. Even so, we’re definitely encouraged—our view of the story and growth prospects here haven’t changed, and if investor perception comes around to the view that the Fed might get off the economy’s back, that should help here, letting the underlying growth story (especially the firm’s move into new industries) grab more attention, rather than consumer spending fears. Back to the stock, the move hasn’t been enough to change the sideways trend (above 71-72 might do the trick), so we’ll stay on Hold for now, but much more positive action and we’ll restore our buy rating—and possibly add shares depending on the power behind the move. Earnings are due August 3. If you’ve held a chunk of shares through this tediousness, continue to hang on. HOLD

Uber (UBER)—Uber continues to expand into some interesting new ventures—yesterday, the firm inked a deal with Domino’s that will allow customers to book Domino’s delivery through the Uber Eats app, but have the food delivered by drivers from Domino’s locations. If that goes well, more deals could be coming where Uber (we assume) gets a small cut of any order without any cost regarding delivery. Elsewhere, Uber’s CFO is leaving the firm, which usually causes a short-term wobble in a stock, but instead, shares found big-volume support two days ago after a dip to the 25-day line. As with everything, some ups and downs are to be expected, and the Q2 report (due August 10) will be important to see if the buoyant EBITDA and free cash flow trends are still intact—but all signs point to business being even better than even the bullish forecasts. We’ll stay on Buy. BUY

Wingstop (WING)—WING continues to try to carve out a bottom here, so we’re still giving it a chance here. Is it exciting to practice patience? No, and it doesn’t always pay off—but our m.o. is often to take partial profits in a winner on the way up, but then give our remaining stake a chance to correct and consolidate—action that is completely normal within longer-term advances. Fundamentally, all signs are that business is in fine shape, so we’ll continue to follow the plan: As long as WING can hold support, we’ll give it a chance, but if not, we’ll take the rest of our profit and look for greener pastures. On the flip side, a move above 205 or so would be very encouraging. HOLD

Watch List

• Axcelis (ACLS 182): After more than doubling from the start of the year to mid-June, it’s possible ACLS will need more of a rest period, especially with earnings coming in three weeks (August 2). But to this point, shares show few signs of any persistent selling, as the firm appears to be one of the cleanest plays on the growth in EVs (via SiC chip production).
• Confluent (CFLT 37): CFLT is now five weeks into a shallow, healthy-looking rest following its May ramp. There are a couple pieces to the picture that are missing here (like profits), but we think the big idea here—the company’s platform being a central nervous system that connects data to a clients’ technology in real-time—is a very, very big idea.
• Delta Airlines (DAL 48): We’re still watching DAL and other airlines, thinking they could be changing character as the industry’s profit profile takes a permanent step function higher. Shares are extended here so we’re currently aiming for growth stocks that have been resting for a few weeks.
• HubSpot (HUBS 551): HUBS kissed its 10-week line last week and earlier this week—and now is challenging new high ground. We don’t see it as a bellwether, per se, but the firm quacks like an emerging blue chip, with an all-in-one (sales, marketing, CRM, operations, analytics) platform for small- and mid-sized businesses.
• Las Vegas Sands (LVS 60): LVS got going before most names (early November), rallied through January, and has basically gone straight sideways since. But after last week’s kiss of the 40-week line, it’s been rallying back nicely. Earnings are due next Wednesday (July 19)—a strong reaction could have us getting into what we think is a sustainable turnaround story.
• Noble Corp. (NE 49): We’re not going to load up on cyclical stocks, but Noble (or possibly some other driller or service stock, many of which have turned strong) has come alive in a possible group move. See more below.
• On Holding (ONON 34): ONON’s story never deteriorated despite its May earnings whack, and now the stock has recouped most of the ground it lost. See more below.
• Nvidia (NVDA 460): NVDA seems “too high,” but as the flagbearer for the tech bull move (and for AI in particular), we doubt the move is over—in fact, shares have traded tightly over the past few weeks, a sign big investors are hesitant to sell any shares.
  

Other Stocks of Interest

Cava Group (CAVA 48)—Cava is a recently public cookie-cutter story that’s easy to enthuse about, with a lot of similarities to recent long-term winners (Chipotle, Wingstop, etc.) in the fast-casual restaurant field. The firm’s specialty is tasty Mediterranean fare, with bowls and wraps that can be filled with a variety of seasoned chicken, feta, hummus, tzatziki, falafel, pickled onions, garlic and the like, and it’s highly customizable, too, with a bunch of protein, grains, dips, spreads and toppings to choose from. The firm has been growing for years, partially though an acquisition of fellow Mediterranean player Zoe’s a few years ago (it’s been converting the stores to Cava’s); it now has 237 locations, more than double its closest competitor, and they’re spread all around the country with consistently good sales, so you know the concept is attractive. Numbers-wise, it sports healthy store economics (35% year-two cash payback in general, higher in recent quarters) and outstanding same-store sales growth (up 24% from 2022 vs. pre-pandemic 2019, behind only Chipotle and Wingstop in the sector)—and the store count is headed way up, of course, likely rising by 15% or so annually (one analyst sees north of 300 locations this year, rising to 410 by 2025 and much more down the road). And, very important, restaurant-level margins are already healthy, and EBITDA is already positive and set to ramp nicely starting this year with free cash flow following suit. All in all, the pieces are in place for many years of rapid, reliable growth—which is one reason why Cava just came public with a healthy valuation ($4.5 billion market cap vs. $710 million revenue likely this year); along with the typical post-IPO droop and potential lock-up expiration (when closely-held shares can be sold), CAVA isn’t at the top of our watch list today. Even so, really solid cookie-cutter stories are relatively rare, with other recent IPOs we’ve watched (Sweetgreen and Dutch Bros.) falling flat as profits, margins and same-store sales have disappointed, so if CAVA’s top brass can pull the right levers, there’s no reason hundreds of funds won’t at least start nibbling in the weeks ahead. We’ll be keeping an eye on it—at some point, we think the stock can begin a big run.

Noble (NE 49)—Oil prices today are in the mid-$70s, which is 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 is 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 dayrates 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.

On Holding (ONON 34)—Some growth stocks were getting going in early and mid-May, but the environment remained treacherous for many, especially as earnings season was basically a firing squad for young growth titles like On Holding—we owned a half position and were kicked out of it after a horrid post-earnings collapse, even though the numbers were not just good, they were terrific: Local currency revenues were up 78% while gross margins soared (the supply chain issues from a year ago have mostly dissipated) while EBITDA nearly quadrupled and earnings soared above expectations. Moreover, the story here is only getting stronger, with a product design advantage (its Cloud brand provides more spring when running and moving), small-but-growing brand awareness (huge upside here) thanks in part to expanding sponsorship (the #1 ladies tennis player and Boston Marathon winner both wore On’s gear, while Roger Federer has his own On line), and over time this should go much farther than just running and hiking footwear, with new products for kids, apparel and other footwear for other sports. Of course, a good stock can go bad and stay bad in a poor market … but now the market environment is looking very healthy, and ONON has been clawing its way back in recent weeks, even approaching its recent highs before backing off. And, remember, this came after the massive-volume blastoff seen in mid-March, which was a clear clue that something big was happening. Near-term, we think the stock probably needs a bit more work—partly due to the market, and partly to round out a better-looking launching pad. But ONON is back on our watch list, and if big investors pile in, we will too. Earnings are due August 15.

New High Buy Signal in Effect

We’ve already relayed a ton of market-related studies of late that point to nicely higher prices down the road. Except for a few choice indicators of this ilk, like certain blastoff indicators that have stood the test of time for many decades, we usually don’t specifically take action on these, but they give us a good feel for where the market likely is in its overall upcycle.

The good news, though, is that an older indicator that we came up with many years ago has recently flashed; we haven’t had it in mind because it hadn’t turned green for seven years (!), so we actually “missed” the signal (about a month ago). But as you’ll see below, it has positive longer-term implications, which is another reason why we continue to put money to work in the Model Portfolio.

We call it the New High Buy signal, and like most of our favorite measures, it’s simple to understand: We’re looking for times when the number of stocks hitting new highs on the Nasdaq (a) reached their highest level in at least 18 months and (b) it’s the first signal in at least 18 months. We also only include instances when the Nasdaq traded below its 200-day line within the past six months prior to the signal.

Thus, we’re looking for times when the Nasdaq had gone through some rough sledding (south of its 200-day line) but then got going in such a broad way that tons of stocks took off and hit new highs. Since 1980, it’s only occurred 12 other times by our count, and the results have been fantastic—within the next nine months, the Nasdaq’s average maximum return has been north of 17%, while the average maximum loss from the signal has been just over 2%. The S&P 500’s performance (15% gain vs. 2% loss) is similar, too. We would say that some of the drawdowns following more recent signals (since 2000) have been a touch harsher (3% to 4% on average), but the overall point remains the same.

The return figures are always important, of course, but we take more stock in when the signals flashed and whether, using our experience, they were good times to get in. On that front, there was one late-ish signal (July 1997) and one that was early (August 2016) by a couple of months, but nearly all the others occurred a few months into what ended up being big-picture, long-lasting upmoves (October 1982, March 1991, May 1995, June 2003, October 2009, February 2013, etc.).

We’ll see how it goes, but we view this as a strong confirmatory signal that the path of least resistance is up—and that the market may be early in an uptrend that will surprise many investors.

Interest Rates, the Power Index and the Fed

You don’t have to be a market guru to know that monetary tightening, including higher interest rates, were the primary driver of the 2022 bear phase. Interestingly, there have been three times since the rate hike campaign began that the market thought the Fed was (nearly) at an end—the first being last summer (the Fed crushed those hopes in August and actually got even more hawkish), followed by January of this year (when, again, the Fed made it clear it was still on the rampage). Both times the market rally fell apart.

Now we’re seeing a bit of a repeat. As the Fed continues to say it’s not done, Treasury rates recently spiked. Shown here is the five-year Treasury note yield, which perked back up toward its cycle highs, though happily, it’s backed off nicely this week. Even so, the six-month rate of change—our Power Index of sorts, shown in the bottom panel—is back in positive (bad) territory, telling us the trend in rates has turned up for the time being.

Now, to be fair, there is one thing to consider: During the past couple of decades, it’s been the norm for Treasury rates to rise a couple of months after a bull move gets underway (probably because people leap out of fixed-income and chase stocks higher). One example is shown below: Look at the five-year note yield in 2016 (which correlates to one of the New High Buy signals shown above)—it was creeping higher into November and then spiked in a big way (from low levels) into December and even higher into March … but that didn’t stop the market (or growth stocks) from having an awesome 2017.

“But Mike, during those times the Fed wasn’t hiking rates and inflation wasn’t a problem!” That’s true, and something we can’t argue with—at day’s end, if the Fed keeps hiking, it’ll be a thorn in the market’s side.

All in all, we put the action of interest rates in general (and the Power Index in particular) in a similar category as sentiment: It doesn’t outweigh the very bullish primary evidence out there, but it is something of an “alert,” something to keep an eye on should the market begin to factor it in down the road.

Cabot Market Timing Indicators

There are always things to worry about—we’re still keeping an eye on interest rates, for instance, even after yesterday’s dip—but the fact is the vast majority of evidence right now remains bullish, from long-term to intermediate-term, from indexes to leading stocks. We remain bullish.

Cabot Trend Lines: Bullish
It’s been steady as she goes for our Cabot Trend Lines, with both of the key big-cap indexes remaining well above their longer-term moving averages—as of this morning, the S&P 500 was above its 35-week line by 9%, while the Nasdaq was still north if its own trend line by 16%. Further near-term wiggles are possible, even likely, but the odds still favor higher prices in the months to come.

Cabot Tide: Bullish
Our Cabot Tides also remain bullish, with all five indexes we track (including the NYSE Composite, shown here) holding above their lower (50-day), rising moving averages. Even better, the broader indexes are joining their bigger-cap brethren on the upside, leaping to multi-month highs this week. With both the intermediate-term and longer-term trends pointed up, you should continue to keep your optimist’s hat on.

Two-Second Indicator: Bullish
There’s no question that the broad market has been choppy, and we won’t rule out another near-term wiggle or two. But our favorite measure of the broad market’s health—our own Two-Second Indicator—has remained in good shape for many weeks: To this point, we’ve seen just one plus-40 reading on the NYSE since early June, which is clear sign that any selling pressures that pop up are relatively well contained.

The next Cabot Growth Investor issue will be published on July 27, 2023.