Cabot Growth Investor Issue: June 29, 2023

Follow the Leader(s)

One of the big steps forward in our investing education came many years ago when we began to focus more intently on the market’s leadership. There are countless things to follow, but there’s nothing quite as valuable as keeping in touch with the true leading stocks, sectors and even indexes—staying in gear with their message is vital when it comes to making good money.

Of course, we obviously follow more than just a handful of leading stocks; our core market timing indicators are priceless to us, as are some secondary measures like our Aggression Index (shown below, and still in great shape). But we’ve found that the action of the leaders is up there with anything.

That’s why, for most of last year and early this year, we regularly wrote about the failure of potential leaders to overcome resistance even when there were other rays of light—that was telling you big investors weren’t willing to commit, and it led to tedious action at best with a lot of false starts.

Today, though, it’s the other way around: While there are some iffy factors out there, including a broad market that seems to hit a speedbump every few days, the leading index (Nasdaq) and leading growth stocks continue to act in a nearly textbook manner, with strong, persistent, high-volume advances, followed by tidy, low-volume retreats that hold support. It’s classic bull market-type behavior.

Happily, it’s not just the leaders doing well right now—our long-term Cabot Trend Lines are firmly bullish and have been since late January; our Cabot Tides, while not lighting up the sky, are also bullish; and despite the broad market’s ups and downs, our Two-Second Indicator has recorded just one “bad” reading in the past month, a sign that the selling pressures aren’t picking up in a meaningful way.

Could this change? Could the much-anticipated recession whack the market? Could the Fed go too far until the economy keels over (and attract more money into super-safe money market funds)? You bet—there’s always a chance the bears re-emerge. But at the end of the day, the overwhelming amount of evidence is bullish right now, from the market’s trends to the numbers of new lows to the action of growth vs. defensive stocks to the leaders themselves.

What to Do Now

Thus, we’re continuing with our game plan to put money to work in a step-by-step fashion. Since the last issue, we started a half-sized stake in DraftKings (DKNG); tonight, we’ll make one small move—filling out our position in DoubleVerify (DV) by adding another half (5% of the portfolio) position—and then aim put more money to work as current holdings move higher (averaging up) or as potential new buys settle down a bit more. Our cash position will now be around 30%.

Model Portfolio Update

There’s really not much new to say: If you focus on the leading indexes and areas of the market, as well as the leading stocks, the action has basically been textbook in recent weeks. Obviously, there are a few questionable things out there, especially the broad market, which is acting just OK—and that always increases the risk of some pothole or rotation (we saw some of that today, in fact).

Even so, there are almost always things to worry about—and given our major market timing indicators are positive, and the action of leading merchandise is positive, we’d rather continue to push things on the bullish side rather than hold off because of some worry that may or may affect the market.

Thus, we’ll continue our step-by-step buying spree: Tonight, we’ll fill out our position in DoubleVerify (DV) by adding another half-sized stake; we’d like to put more money to work, but we’re waiting on a couple of current holdings to get over some resistance (DKNG, INSP) and for some names on our watch list to settle back a bit more. Our cash position will be around 30% after tonight’s move in DV.

CURRENT RECOMMENDATIONS

Celsius (CELH)—CELH remains peppy (and also very volatile) as more analysts and big investors come around to the view that the Pepsi deal is set to pay gigantic dividends in the quarters ahead. Of course, there are risks, especially with execution, as the firm’s rapid increase in distribution (both in current locations and in new avenues) could always lead to a hiccup or two, but there’s little doubt that sales and (if management makes the right moves) earnings are likely to kite significantly higher going ahead. We’ll stay on Buy, though dips of a few points would be normal. BUY

DoubleVerify (DV)—DV isn’t necessarily racing higher, but we’re impressed with its continuing persistent rally, with just a handful of down days since its breakout out in late May. Of course, some selling will eventually arrive, but we’re optimistic that more and more institutional investors are eager to get a position in the ad verification industry in general, and (because it’s the leader) in DoubleVerify in particular. Given the bullish story, numbers and chart, we’re going to be a bit aggressive and average up on DV, buying another half-sized stake here—on the combined position, we’ll start with a mental stop a bit below the 50-day line (now near 32.5 and rising steadily), which should be much less than 15% off our average cost. BUY ANOTHER HALF

DraftKings (DKNG)—We added a half-sized stake (5% of the portfolio) in DKNG last week, and it’s off to a decent start. Frankly, we’re not far from averaging up here, as the stock is testing some resistance, and if does leap above that we’ll probably fill out our stake—but for the moment we’ll hold tight. The story may get a boost from a non-action: The firm announced yesterday, after some back and forth, it’s decided not to bid on the U.S. interests of Pointsbets, another online gaming firm; while it was small ball (a $195 million offer was made earlier this month), having any buyout uncertainty lifted probably isn’t a bad thing. Far more important will be the company’s progress in reaching breakeven EBITDA in the near future while maintaining solid top-line growth—which it shouldn’t have too much trouble doing given the still-large opportunities out there to enter the many new states that are still working on legalizing sports betting. We’re fine starting a position here if you don’t own any. BUY A HALF

Inspire Medical (INSP)—INSP is in the same position it’s been in for a couple of weeks: The stock looks fine (still holding above its 25-day line, in fact), though we are getting a few 2022 vibes, as it’s continually being held back near resistance (315-320) even as the market has been healthy. Fundamentally, we do think Inspire is rare merchandise, with potentially a new standard of care in the gigantic sleep apnea industry and, given the fact shares have done nothing “wrong,” we’re definitely giving them a chance ... and in fact think buying a small position if you don’t own any is a good risk/reward around here or on dips. That said, we want to see INSP get going, with a mental stop in the low- to mid-280s at this point. BUY A HALF

Monday.com (MNDY)—Our initial buy of MNDY was near the recent market peak and, given the stock’s super-volatile nature, shares have generally gotten off to a soft start. We’re not losing faith at this point—as opposed to the huge-volume ramp during May, the latest dip has come on very tame volume, and the stock gave up very little of the rally. Moreover, it would be unusual for the company to report such a great Q1 and release such a powerful forecast in May only to have business hit a wall. Long story short, we continue to think the next big move is up—if you bought a half-sized stake with us, hang on, and if you haven’t, we’re OK grabbing some shares here. BUY A HALF

ProShares Ultra S&P 500 Fund (SSO)—When you strip away all the Fed chatter, economic reports, overseas worries and the like, you see that the S&P 500 is basically acting according to script, with a breakout at the start of the month, a solid run higher, and now an under-control pullback that hasn’t even brought the index down to its 25-day line. To be fair, we half-expect this pullback to have more wobbles in store, but at this point, our major market timing indicators are still in good shape, and with so many big-picture studies pointing to good things down the road, the odds certainly favor higher prices. As always, if something changes, then we’ll change our tune, but we continue to think owning some of a leveraged long fund (SSO moves about twice the S&P 500, percentage-wise, each day) is a good way to have a foothold in the emerging uptrend. BUY

Shift4 (FOUR)—Shift4 once again tested support, but it’s been perking up nicely over the past three sessions, even lifting above its 50-day line today—not decisive yet, but definitely a good sign. Fundamentally, Light & Wonder (formerly known as Scientific Games, the leading player in online and offline gambling games) recently partnered with Shift4 to use its payment processing solution with its table-top debit system. Moreover, analysts continue to see business kiting higher (earnings up 60% this year and 33% next) as many of its new deals in new industries kick into gear. All in all, the stock has been correcting and consolidating for 13 weeks (one quarter) and is bouncing off support—if we see some power from here, it would be very encouraging, but let’s see how it goes. We’ll continue to hold our small position with a tight-ish mental stop. HOLD

Uber (UBER)—There’s no question Uber’s core ride-sharing and delivery businesses are the key to the company, but we’ve also been impressed with how it’s moving into other areas—in delivery itself, it’s gone beyond just takeout and into things like groceries and even prescriptions; the firm’s good-sized freight business ($1.8 billion of bookings in Q1 alone) could be spun off or sold, which should bring in a chunk of cash; and, last week, the top brass said they’re aiming to roll out advertisements on its apps (both for Rides and Eats) and in-car tablets, which we think could be huge given Uber’s massive user base and their attentiveness (presenting ads when people are looking at what to order for takeout, for instance). Wall Street is beginning to say what we’ve been thinking, which is that even next year’s bullish EBITDA forecast ($5 billion, which translates into $1.25 per quarter—up 64% from Q1’s $761 million EBITDA figure) could prove conservative, which has helped the stock stretch its legs to the upside before today’s pothole. After a solid run, more consolidation is possible, but the main trend is up. BUY

Wingstop (WING)—It’s not out of the woods yet, but WING has shown some encouraging action of late, including some tightness on its weekly chart near its lows and, this week, an attempted push back up through its 10-week line. The firm has been all quiet on the news front since early May, but we remain optimistic that all systems remain go—while same-store sales growth will surely slow, that’s coming off a whopping 20.1% growth rate seen in Q1, and though analysts see sales up “only” 24% in the current quarter, they’ve been drastically undershooting results for a while now. (The fact that the restaurant group as a whole remains strong is also a plus.) Our game plan hasn’t changed here—if the stock’s current bounce runs into a wall of selling, we’ll consider selling and moving on, but having held through the correction, let’s see if the longer-term uptrend can reassert itself going ahead. HOLD

Watch List

• Axcelis (ACLS 179): ACLS has finally taken a rest for the past three weeks, though it remains extended and did face some big-volume selling off the top. We think it’s fine but probably needs some more digestion in the near term.
• Confluent (CFLT 34): Confluent has been holding well after a massive six-week run that brought it to 14-month highs earlier this month. Fundamentally, the rapidly growing cloud operation (sales up 89% in Q1) is leading the way, though overall gross revenue retention (above 90%) same-customer revenue growth (over 30%) have been lights out for eight quarters in a row.
• Delta Airlines (DAL 46): We continue to see similarities between the airlines today and oil stocks from two years ago. See more later in this issue.
• MasTec (MTZ 117): MTZ continues to march higher, and we’re happy to see the relative performance (RP) line push out to new highs, too. We like it as a non-tech name to balance out the portfolio.
• On Holding (ONON 32): We got whacked out of ONON when growth stocks were still acting like death, but the story here hasn’t changed—On is developing into an athletic lifestyle brand of sorts, with the firm expanding into new offerings—and the stock has started to round out some. We think it will eventually be ready to run.
• Nvidia (NVDA 408): NVDA remains the picks-and-shovels leader in the AI field, with growth likely to hit an inflection point this quarter. See more below.
• Samsara (IOT 28): Frankly, we’re a bit put off by IOT’s latest dip, which took back about two-thirds of its big earnings push in early June. Still, the double skyscraper action after earnings was very bullish, and the overall chart is fine.

Other Stocks of Interest

TransMedics Group (TMDX 85)—So here’s a big, easy-to-understand story that should go very far. That story revolves around organ transplants, which obviously save many lives, but unfortunately, huge amounts of organs from deceased donors are never utilized due to the limitations of keeping the organs healthy before they’re implanted. The standard of care (static cold storage) keeps organs in good shape for just a few hours, which limits transportation options, raises risks for those getting the transplant and leads to most donated organs being discarded. But TransMedics has a new standard for this operation—dubbed its organ care systems (OCS), the firm has machines that effectively simulate “real life” for the organs (as if they were still in a body), lengthening the time these organs can be transported before implants. (It also allows for advanced monitoring so doctors can see if any issues with the organ pop up.) The firm has systems for lungs, hearts and livers, and clinical studies show dramatic improvements, with 80%-plus of organs utilized compared to 20% to 40% for hearts and lungs, with improvements among livers, too; moreover, organs using TransMedics’ OCS system lead to far less post-operative complications. Simply put, the system works far better than the old methods, is obviously a win for people trying to get a transplant and, of course, helps hospitals boost volumes as well. And now the company is putting together a national OCS program to boost usage and handle all logistics. It’s a big undertaking, but the writing is on the wall (both in the U.S. and overseas) that TransMedics is going to be the new standard in the transplant “industry,” so if management makes the right moves the upside is huge. So far, they are, with revenues small ($41.6 million in Q1) but growing at triple-digit rates (up 162%). The one rub here is that the stock, after crashing into early 2022, has had a huge move during the past year-plus, easily surpassing its prior bull highs, so it’s possible a longer rest may be needed. But TMDX has basically consolidated since early March, has seen some bullish weekly volume clues and, lately, appears to be firming up. (We’d also note that funds continue to buy in—up to 402 in March from 265 nine months before.) It may need some more seasoning, but it’s a great story, and a decisive show of strength would be tempting.

Nvidia (NVDA 408)—Nvidia needs no introduction, as it’s been a mega-market winner over the years with chips that have fed into various high-growth end markets. Today, of course, the new shine on the story is the AI boom, and once again it looks like Nvidia’s various chips and offerings position it as the picks-and-shovels provider to all the firms that are looking to build generative AI, machine learning and large language models to power more advanced computing efforts in nearly all fields. Indeed, the firm’s Q1 report was solid, but the Q2 outlook was ridiculous, with management expecting revenues to leap from $7.2 billion in the March quarter to $11 billion (!) in the current quarter; overall, analysts see the bottom line more than doubling this fiscal year (ending next January) and soaring 40% next, and both of those will probably prove conservative. Nvidia is clearly the flag bearer of this nascent bull move, at least in technology stocks; thus, even if you never buy a share, watching it will provide clues to institutional sentiment. But we’re mentioning it today because we think it could provide an opportunity down the road—NVDA has had a huge run, not just recently, but since the start of the year when it took off from its lows and began marching higher. Those two things combined probably mean more digestion and some shakeouts could be in order in the weeks ahead—and Wednesday’s reports of a ban of selling AI chips to China added another factor in favor of further near-term weakness. However, bigger picture, we doubt the move is over—the AI theme just burst onto the market’s scene a few weeks ago, and frankly, the power seen in the stock so far this year (one down week on average-average volume compared to 12 on the upside!) isn’t likely to just vanish. Really, NVDA’s future probably is all about the market—if stocks really have left behind the bearish and tedious environment from 2022 and early 2023, this stock is a great bet to continue higher over time. Given the prior run, NVDA isn’t something we’re eager to jump into in the near term, but we’re keeping a distant eye on it—if the stock were to shake and bake for another few weeks while moving averages catch up (the 50-day line is above 340 and rising), it would provide for an interesting setup. We’ll be watching.

Shake Shack (SHAK 78)—If you’ve read us for a while you know we love cookie-cutter retail stories, where a firm takes a successful concept and grows mostly by simply opening up tons of new locations all over the map; if done right, it all leads to rapid and reliable growth, which entices big investors to build big positions (and support their position on dips). Shake Shack has always had the makings of being a winner in this field, with a roadside burger operation that has a loyal following thanks to its tasty fare (burgers, chicken sandwiches, fries, shakes, you name it)—but it never really was a real leader, mostly because, while the firm’s store expansion plan was excellent, everything else wasn’t. Same-store sales (maybe the most important metric for growth-y retailers) have regularly struggled and costs have always been elevated, which kept the bottom line in the red each of the past three years even as many peers roared back from the pandemic. But all of that may be changing now: Management is focused on cost controls, and so is an activist investor (Engaged Capital), which recently got some representation on the Board and is using a consulting firm to shape up the entire operation. Already in Q1, the signs were there that a corner had been turned, with same-store sales up 10.3% and a restaurant-level operating margin that came in at 18.3% (up 3.1 percentage points from a year ago), and that should be on its way north of 20% as it has been in years past. Plus, the underlying cookie-cutter story remains intact, with 456 locations (both owned and licensed) at the end of March, up 17% from a year ago, with another 20 (half owned, half licensed) expected to open this quarter. (All in, it sees 70 to 75 new total openings this year.) We would say that the store economics here are just OK at this point, though that should improve, possibly in a big way, depending on what happens with margins. As for the stock, SHAK was manhandled during the bear, falling nearly 75% into last summer, but after a retest in January it showed some life to start 2023. And then came a tight launching pad that led to a nice earnings gap in May and some upside since. It looks like an interesting turnaround situation; the growth story has always been there, so if the cost side of things is under control, the bottom line should improve rapidly.

Sentiment: Short-Term vs. Long-Term

The early 2003 turn up in the market was the first real bull market liftoff I had experienced (this came after a three-year-long bear phase after the Internet bubble), and I specifically remember in May and June of that year, the Investors Intelligence sentiment survey—one of the granddaddy measures out there for market sentiment—saw a big spike in bulls to elevated levels … a potential yellow flag for the rally.

I remember bringing this up at our weekly meeting with Carlton Lutts, our founder. He looked around the table, then to me, and simply said “I doubt everyone is already bullish!” And he was right, of course, with the market enjoying an outstanding time over the next nine months; we rode a ton of big winners (XM Satellite, Taser, eResearch and more) higher during that time.

What Carlton knew from experience was that there’s a difference between short-term and long-term sentiment. Short-term sentiment involves many of the measures that are reported every week and can change in a hurry—and these can have value at times. But more important is so-called long-term sentiment, which is harder to define but involves how investors are positioned and simply doesn’t change overnight.

We’re writing about this because some of this seems to be popping up now—the VIX volatility measure, for instance, recently fell off to three-plus-year lows; the aforementioned Investors Intelligence survey now has 30% more bulls than bears; and the weekly AAII survey recently saw optimism grow to two-year highs.

However, following 18 months of poor market performance (two years for most growth stocks), there’s no chance everyone is super bullish already; human nature just doesn’t work that way. One great group of stats comes from the Bank of America monthly survey of institutional investors. Below are two charts concerning where they stood in mid-June: The first shows that, compared to the past 20 years, they’re about as risk-averse as they’ve been (interestingly, the figure is about the same as at the 2003 bottom). And the second chart shows that, on average, these investors are hugely overweight defensive areas (bonds, healthcare and utilities) and underweight equities. Not the stuff of exuberance.

Even if you are huge believers in the shorter-term sentiment stuff, it turns out you need bulls for a bull market—according to Dean Christians of Sundial Capital Research, when the Investors Intelligence does what it has in recent weeks (go from more bears than bulls … all the way to 30% more bulls than bears), it turns out the market was higher a year later 95% of the time, by an average of 13%! A lot of that is because of the positioning that built up during the prior downtimes.

Now, none of this is to say that things like a low VIX Index can’t lead to a deeper market retreat in the days ahead, or possibly a bout of rotation that shakes things up a bit and raises the discomfort level. But when it comes to investor sentiment as a whole, we don’t view it as an impediment at all—if anything, big-picture stuff tells us most investors remain on the sideline, which could provide upside power if perception improves.

Airlines Remind Us a Lot of Oil Stocks Two Years Ago

Neither oil stocks nor airline stocks will ever be confused with true growth titles—their fortunes are usually tied to big-picture forces that are outside their control, with oil names obviously hitched to the price of energy, while airlines have historically been mundane, highly regulated businesses with tons of competition that see profits vanish anytime the economy hits a modest bump.

However, a couple of years ago, most energy explorers had enough of the boom-bust period of the prior few years and got their acts in order, resulting in big cash flow and dividends even at modest energy prices. And that changed investor perception, with more institutional investors willing to build positions, thinking the group’s bottom line wouldn’t go up in smoke every time oil prices dipped a few bucks. We rode Devon Energy (DVN) to big gains, with shares about tripling to their highs before finally stalling out. Even today, after a big slide, that stock is about double where it was when we entered in 2021, and that doesn’t include the beefy dividends since that time.

While the dividend story isn’t the same, we think the stodgy airline group could be in line for a similar, positive change in investor perception. Partly due to some industry moves and partly because of some changes the pandemic brought (especially when it comes to staffing and pilots), supply hasn’t been able to expand fast enough, coming in consistently below most projections. And when you throw in resilient leisure demand (even with business travel still iffy), earnings are entering the stratosphere—and, importantly, it’s looking like they’re going to stay elevated and even grow going ahead.

The group is very homogenous (most of them swim together), but Delta Airlines (DAL) looks like the potential leader here—shares are working on their seventh straight up week, with the stock hitting 14-month price and relative performance (RP) highs. Interestingly, Delta and many peers have been forecasting huge earnings this year and next for a while, but investors didn’t buy it, with shares stagnating earlier this year and getting whacked with the banking (and economic) worries in March.

But the firm hiked Q2 guidance earlier this month, and on Tuesday, released more projections at its Investor Day, forecasting earnings per share of $6 this year and over $7 in 2024, while free cash flow should total north of 10% of the market cap this year and 15% next! Plus, should the economy pick up and/or inflation remain sticky, even those may prove conservative. Our first targets are and always will be growth titles, but occasionally special situations pop up, and airlines remind us a lot of where the oil sector was a couple of years ago.

Cabot Market Timing Indicators

There are definitely nits to pick when it comes to the overall market, including the iffiness of the broad market. But at day’s end, our three key market timing indicators (as well as our Aggression Index, shown on page 1) are positive, and leading growth stocks act well—and that’s enough for us to continue putting money to work.

Cabot Trend Lines: Bullish
At their peak a couple of weeks ago, our Cabot Trend Lines were bullish but also extremely stretched over their 35-week moving averages—so it’s not a huge surprise that we’ve seen some resting action since then. All told, though, there’s no doubt the longer-term trend is clearly up: As of this morning, the S&P 500 (by nearly 8%) and Nasdaq (by a huge 14%) were still well above their respective 35-week lines. Near term, more of a pullback or consolidation is possible, but the odds continue to favor higher prices in the months ahead.

Cabot Tides: Bullish
There have been another couple of hiccups in the broad market, with some indexes (like the NYSE Composite, shown here) pulling in last week. But that hasn’t changed our Cabot Tides—they’ve all bounced back and remain bullish, with even the “weaker” indexes holding above their key 50-day lines (which themselves are now mostly advancing). Until proven otherwise, the intermediate-term trend remains pointed up.

Two-Second Indicator: Bullish
Our Two-Second Indicator is also still positive and is giving off even better vibes than some of the broader small- and mid-cap indexes—to this point we’ve seen just one plus-40 reading (last Friday), surrounded by more than three weeks of bullish readings. Obviously, all of this can change, but the continued tame number of NYSE new lows is encouraging.

The next Cabot Growth Investor issue will be published on July 13, 2023.