From a top-down perspective, there are some rays of light out there--some of this week’s up volume has been very rare, and it comes on the heels of an onslaught of pessimism. That said, none of our indicators have flashed green, and the biggest thing we’re still seeing is selling on strength--this week, Enphase cracked and forced us to sell. We are adding two half-sized positions tonight in stocks from our watch list, but we’re remaining defensive with 78% in cash.
Elsewhere in this issue, we write about our Aggression Index and how it usually leads market bottoms--and how it’s showing interesting action in recent months. We also highlight many stocks that we’d love to own if the market gets going--we have our shopping list ready, but as always, have to see it first before any major buying.
Cabot Growth Investor Issue: October 6, 2022
In our last issue we spent a good amount of space wondering if we were reaching a crystallization of bearish opinion—whether looking at a spate of sentiment indicators or simply using anecdotal evidence of what’s in the headlines and what experts are predicting, it was clear most everyone was leaning bearish after nine punishing months. And last week saw that taken to another degree, with a mini-crack appearing in the U.K. bond market and worries surfacing that something was coming loose in the system.
That’s led to some interesting action this week—the indexes have rallied after most held at or near their May/June lows (growth indexes held up a bit better than others), and they’ve shown some rare upside breadth: Depending on what numbers you look at, Tuesday’s NYSE up volume outpaced down volume by 20- to 25-to-1, the largest since when the market was coming out of the 2018 bear phase and one of the largest for many years before that. Thus, as we’ve written, our antennae are up—despite it feeling like there’s no hope, we think the environment is ripe for some sort of turn higher if a couple of things go right in the world.
That said, a couple of up days obviously aren’t changing the big picture any—all three of our key timing indicators are still solidly bearish, with even our Two-Second Indicator (while improved a bit) still saying the broad market is unhealthy despite the aforementioned buying power.
But, really, the most telling thing that remains with us—and one of the main factors that’s kept us defensive most of the year—is that strength continues to be sold into. Whether something is rejected right away as it kisses resistance or is dumped after a few weeks, the bottom line is the market isn’t letting anything really run away on the upside.
Said another way: While there are still many names holding well above their May/June lows (showing relative strength), any foray higher is quickly battered back. Heck, this week, we’ve actually seen some strong names sell off, such as Enphase Energy (ENPH), which cracked yesterday.
That is the biggest thing we’re looking for—yes, obviously, a rally in the indexes that turns one or more of our indicators green, but also some real leadership to emerge that can, well, lead the market higher. We think it can happen, but we need to see a spark.
What to Do Now
In the meantime, we continue to stay very close to shore. This week, Enphase (ENPH) was thrown overboard as it (and many solar names) were the latest to come under the knife. We will, however, put that money back to work—we’re adding half-sized stakes in Wingstop (WING) and Wolfspeed (WOLF), which have corrected and held. Even with that, our cash position will still remain at 78%.
Model Portfolio Update
The market’s dreadful performance continued through last week, with many names imploding and just about everything taking at least some sort of hit—but then, as the calendar flipped into October, we’ve seen some impressive strength, not just in the indexes, but in various measures of breadth as we wrote about above.
That said, a couple of up days after a rough decline the past few weeks isn’t changing anything—and that goes double in this bear market, where we’ve seen many strong rallies go up in smoke. To this point, in fact, the pop has once again been in beaten-down names; most stocks that were showing relative strength have barely bounced, with some (like Enphase) actually breaking down.
That, really, is what’s holding us back from doing much of anything and has been the overriding technical story this year: Nothing is able to get moving on the upside, so unless you’re aiming to hop in and out of names every few days (a very tough game, and not much reward for plenty of risk), there’s not much to do.
That said, the sale of Enphase yesterday left us with enormous cash position (would be 88%), and there are some rays of light out there, so we’re going to put the money back to work tonight by adding a half-sized stake in Wingstop (WING) and Wolfspeed (WOLF), both of which have gyrated of late—but did so normally—and are beginning to perk up. Our cash position will still be more than three-quarters of the account after the buys.
|Stock||No. of Shares||Portfolio Weightings||Price Bought||Date Bought||Price on 10/06/22||Profit||Rating|
|Devon Energy (DVN)||-||-||-||-||-||-||Sold|
|Enphase Energy (ENPH)||-||-||-||-||-||-||Sold|
|Shockwave Medical (SWAV)||808||12%||245||7/22/20||280||14%||Hold|
|Wingstop (WING)||New||-||-||-||-||-||Buy a Half|
|Wolfspeed (WOLF)||New||-||-||-||-||-||Buy a Half|
Devon Energy (DVN)—We leapt out of the remainder of our position in Devon Energy last week, and we don’t regret the thinking—the market was, of course, in freefall, and DVN (and most peers) sliced its 200-day line for the first time in many months, something that’s usually a reliable sell indicator (especially this year). However, at least for now, that move looks like a shakeout, with oil stocks rebounding nicely while oil prices do the same. Because we’ve gotten some questions, yes, if you still own some, you can hold onto your remaining DVN, but we’d also still have a stop in place—it and most other oil names are still so-so on the weekly chart (potential multi-month tops after huge runs). Still, we’re intrigued by the bounce in the group, so we’re keeping an eye on a couple of them (including natural gas play Chesapeake (CHK); see more in Other Stocks of Interest)—if the group re-emerges as the market does, we’ll likely jump into whatever we think is the new leader. Right here, though, we’re OK sitting tight and seeing if this bounce in the market and oil stocks can gain steam, or, like so many others, fails. SOLD
Enphase Energy (ENPH)—As we mentioned earlier, the biggest character trait of the market all year—and even during this week’s rally—is that basically every strong area has eventually been taken out and shot sooner or later. And this week, it’s looking like solar’s time to come under the knife; some secondary names (including ones we wrote about a couple of issues ago) got hit hard during the market’s September decline, and this week, Enphase (possibly the best-looking growth stock in the entire market) cracked, easily slicing through support on monstrous volume on no news, causing us to sell our position. Similar to Celsius (which we wrote about a bit later in this issue), we can’t conclude ENPH is about to disintegrate—it’s possible this crack results in the formation of an intermediate-term launching pad that eventually kicks the stock higher, so it’s worth keeping an eye on to see if it can stabilize. But as we wrote in our bulletin, we’re not willing to stick around with a name that’s cracked in this environment. SOLD
Shockwave Medical (SWAV)—SWAV had a sharp 23% correction from the market’s August top to its low late last month, which was acceptable given the prior run, and it rallied off that low seven days in a row, bringing the stock north of its 50-day line, which is very solid. Of course, as we’ve seen elsewhere, there’s always the chance sellers come around for the stock again, though we’d note that Shockwave’s group (medical products) did take a hit (unlike most solars, for instance), so some of the steam has already come out. Either way, SWAV has a growth story that’s powerful, has a long runway ahead of it and business shouldn’t be tied very closely to the global economy one way or the other. If you own some, continue to sit tight. HOLD
Wingstop (WING)—Wingstop isn’t a new story, per se—in fact, the underlying cookie-cutter story has been known for years and, after the pandemic messed it up a bit, looks back on track. which is the main draw. The firm looks set for years of double-digit store growth, which along with rising margins, could have cash flow surprising on the upside. However, we also think the economics here are underrated: A few years ago, Wingstop’s average store brought in $1.1 million, but now that figure is $1.6 million and the top brass sees it rising to $2 million over time. And that, in turn, led to very solid returns (payback of a new location in just two years) last year despite huge inflation in wing prices (up 72%!)—and now that wing prices are back to pre-pandemic levels, paybacks should quicken further (less than 18 months), with the firm’s move into other menu items (chicken breast sandwiches) likely to help ease dependency on volatile wing prices. As for the stock, it completely wiped the slate clean with its early-year decline; it fell to levels first seen in October 2018 (!), which surely knocked out every weak hand. And now it’s been showing great relative strength for a few months (the relative performance line, not shown on this chart, bottomed in late May), with a higher high and higher low in September, and yesterday, it surged on big volume off its 50-day line. We’ll start with a half-sized stake here; as usual, if it gets going and the market turns up, we’ll add the other half; on the downside, a plunge into the 110 to 115 area would be a red flag. BUY A HALF
Wolfspeed (WOLF)—We admit that WOLF is a volatile name (it’s moving around 5% per day of late) in a sector that’s still weak (the chip index just hit new bear lows last Friday). But this company’s story has rapid and reliable growth written all over it, with Wolfspeed’s silicon carbide chips gobbling up billions of dollars of orders every quarter as firms look to secure supply for the years ahead—and Wolfspeed looks like one of (if not the) leader here. Importantly to us, not only are sales strong (accelerating growth—36%, 36%, 37% and 57% the past four quarters), but earnings should flip into the black this or next quarter and boom from there. As for the stock, it’s showing obvious signs of institutional accumulation: After a huge downturn with growth stocks, WOLF rallied both persistently (eight weeks up in a row) and powerfully (the weekly, earnings-induced buying volume in August was the largest since late 2017), and after a quick retreat with the market in September, it’s snapped right back this week. (Its closest peer, Onsemi (ON), isn’t as strong but is also looking normal.) The 120 area has been a tough nut to crack, but we think the risk is worth the upside reward—we’re adding a half-sized position tonight (5% of the portfolio), with a mental stop just under 100. BUY A HALF
- Academy Sports & Outdoors (ASO 46): ASO has been tossed around by a couple of quarterly reports from peers (DKS on the upside, and then NKE on the downside), but net-net, it remains in a reasonable eight-week range near the top of a larger 10-month structure. we think earnings can surprise on the upside
- Albemarle (ALB 281): ALB remains choppy but resilient, holding north of its 50-day line, unlike 80%-plus of stocks out there. We would point out that peer Livent (LTHM) is teetering after a downgrade last week, which isn’t ideal. But overall, ALB is still in a normal-looking rest phase.
- Celsius (CELH 90): Is CELH building a fresh, more well-controlled base? That’s the question--if so we could take another swing at it down the road. See more later in this issue.
- Duolingo (DUOL 104): DUOL isn’t changing the world and is a bit thinly traded, but there’s a lot about the story (leading provider of English and other language services online) and chart (multi-month bottom and some resilient action in recent weeks) that is attractive. A decisive push above 110 or so would be intriguing, assuming the market can get going.
- Shift4 (FOUR 48): FOUR is still battling with resistance in the 50 area (and its 200-day line), so like most names, it’s being held back by the market. But we continue to love the payment processing story and growth here, and the stock certainly appears to be etching a major bottom.
- Xometry (XMTR 61): XMTR is a newer name that needs to grow up (gain more sponsorship), but the story is gigantic and the growth is unrelenting despite the environment. See more below.
Other Stocks of Interest
Chesapeake Energy (CHK 102)—So, we recently sold our final stake in Devon Energy, raking in the rest of a solid profit (and collecting the end-of-September dividend, too). But that doesn’t mean we’re out on all things oil and gas going forward—after many, many years in the doghouse, and with the new playbook of harnessing cash flow for huge payouts and buybacks, we think it’s possible the group can run for a few years in general. Indeed, this week’s snapback has been encouraging in that the group may still be intact … though it depends where you look. Many names (including some of the oil liquid leaders of the past year) still look iffy on their weekly charts, with possible major tops in place. But a couple of gas stocks are still hanging near their old highs, and Chesapeake Energy is one that we’re high on. The company has all of the common characteristics of recent winners in the energy patch, with modest CapEx and production growth, low debt (less than 1x cash flow even if gas prices fall to $2.50!) and a massive, high-return inventory of wells (more than 15 years’ worth!) in its two largest locations, the Haynesville and Marcellus shales; in fact, the firm has 17 of the 20 highest producing gas wells in North America this year. And, of course, that’s all led to excellent returns this year; in Q2 alone, Chesapeake cranked out nearly $500 million of free cash flow (more than 4% of the market cap), paid a $2.32 per share dividend and, in the first half of the year, bought back something like 4% to 5% of shares outstanding. But here’s the thing: Yes, high natural gas prices have helped, but at a conference in June, management made it clear that Chesapeake is almost surely going to be spinning off massive cash flow for a long time: Even at $2.50 gas and $50 oil (very low), Chesapeake will likely still yield north of 4.5%, and when you look at reasonable scenarios, cash flow could easily total 15% to 20% of its market cap every year through at least 2026. (Chesapeake’s money-losing hedges will mostly roll off by March of next year, too; because of that, the top brass says cash flow should be up next year even if prices are down.) CHK clearly moves around with gas prices, but after a correction with the group in June, the stock ran all the way to new highs (rare in the energy space), and it’s still within a few percent of its highs after the latest dip. Throw in the fundamental backdrop (Europe is starving for as much non-Russian gas as it can get) and we think CHK could be setting up a launching pad for its next run.
Xometry (XMTR 61)—Here’s a name that has “new leader” written all over it—if the stock can continue to grow up (and gain more sponsorship). Xometry is following in the footsteps of many former winners by digitizing a gigantic industry—in this case, it’s looking to be the leading global digital manufacturing marketplace, allowing thousands of buyers and sellers to more efficiently transact on all kinds of goods. The market is obviously gigantic (in the trillions of dollars), and Xometry’s AI-driven platform allows real-time matching of buyers and sellers, instant quotes and more (bolstered by weekly updates to the AI engine, which results in reliable pricing and margins), a digital request-for-quote process, secure payments and, for suppliers, it effectively allows them to bring all their orders online in one place, and there are financial services as well. All in all, it gives clients a broader, more transparent supply chain, and it’s been a hit, with huge growth every quarter: In Q2, marketplace revenue (which makes up nearly 80% of the total) was up 17% from the prior quarter, driven by a 9% gain in total buyers and a 13% gain in bigger buyers (those doing at least $50k of business on the platform each year), and a whopping 95% of revenue came from existing customers, so it’s obvious Xometry is both a hit with those using the platform and attracting plenty more fish. We also love that this is truly a mass market—on the conference call, the top brass called out strength in automotive, electronics, chips, robotics and general manufacturing clients, and they also chatted about the rapidly expanding international business (up 136% year-on-year in Q2), with investments made in the U.K., Germany and France, along with an official launch in China near the end of Q1. Earnings are still in the red, but management also sees that changing, with 2023 set to bring positive cash flow (EBITDA). The stock is certainly acting like something is up—it went over the falls with its recent IPO peers through April, bottomed at 23 in May, and instead of just holding up since then, it’s actually been pushing higher, nosing to 12-month highs two weeks ago (!) and is still close to that despite the market’s shenanigans. The one rub is liquidity—XMTR trades just $35 million per day, on average—though we’d note it has some top-notch support (T. Rowe New Horizons Fund owns about 7% of all shares). We’re very intrigued, with continued 50% to 80% growth likely for a long time to come.
Lennar (LEN 80)—In the past couple of years we’ve seen a few areas (mostly commodities) go through the following pattern—business and earnings went bananas during and just after the pandemic, but the stocks stalled out for months as investors assumed earnings would come back to Earth. But they didn’t! And as business remained solid (down a bit, but not much), valuations expanded as investors realized the step-function leap in earnings in 2020 and 2021 would mostly hold. We think homebuilders might be next in line to see such a change in perception, with Lennar (a good-sized homebuilder, delivering nearly 60,000 homes last year in two dozen states) a good example. Yes, business here should be horrible, what with soaring mortgage rates (from less than 3% to nearly 7% in just a year) and falling real wages (due to inflation) leading to a multi-decade low in housing affordability—and that says nothing of the terrible leading economic indicators that could hit jobs and wages further. Despite that, Lennar’s business remains very solid, and future indicators, while soft, are hardly a mess—in the just-reported quarter, Lennar saw sales leap 29% and earnings gain 58% (easily topping estimates) as deliveries rose 13% and prices, of course, went nuts. The value of new orders was down 11% in dollar terms, but the overall backlog was actually up 8%, and Lennar guided for deliveries to rise 15% in Q4 from the prior year. Back to the point we started with, Lennar saw earnings rise from $5.74 per share in 2019 to an estimated $16.22 this year, and analysts see the bottom line holding in the $12 to $13 range next year despite all the headwinds. And the stock says maybe even that will be conservative—LEN’s relative performance (RP) line actually bottomed in April, and the stock has etched a much higher low in recent weeks compared to the June nadir despite the ominous backdrop. It’s obviously not our classic pick, but if rates can cool off and the economy doesn’t tank, we think a stock like Lennar could have solid upside when the market gets going.
Our Aggression Index Often Bottoms Before the Market
We’ve never been big fans of inter-market analysis, where value stocks are set to do X because the U.S. dollar or junk bonds are doing Y. Our methodology is more based around bottoms-up analysis, which means homing in on the handful of leading stocks and sectors that can really outperform when the bulls reappear.
However, we’ve grown fonder of one simple relative performance analysis—that of growth-y stocks (many ways to measure it, but the Nasdaq is as good as any) to defensive titles (again, a couple different areas qualify, but we prefer good old consumer staples), which gives you a big-picture view of whether institutions are gravitating toward aggressive growth stocks, or whether they’re hiding out in makers of toilet paper, toothpaste and the like. We call it Cabot’s Aggression Index.
While most investors believe that growth will naturally underperform in a bear and then outperform once the bulls start, history actually shows our Aggression Index begins improving before the kickoff point.
In the 2000-2003 bear market, the Aggression Index dropped below its 40-week line (red line in the charts below) in the summer of 2000 and basically stayed under that long-term average for all but a handful of weeks through October 2002. But then, not only did it move above the 40-week, it held above it for a couple of months even as Iraq War 2.0 was about to get going and the S&P 500 retested its low, and then rose further once the bull market kicked into gear.
It wasn’t as dramatic, but it was a similar gist in the 2008 wipeout—the Aggression Index cracked the 40-week line in November 2007 and nosedived for a full year. But that was the low, with the Index gaining ground during the next few months and pushing above the 40-week line in late March, less than a month after the ultimate market bottom.
The pandemic crash was a different (shorter, sharper) animal, of course, but even then, the Aggression Index only was under the 40-week for a brief time and got back above it in mid-April--and growth stocks went bananas.
This leads us to today, where the Aggression Index cracked its 40-week line last December and has stayed clearly below it ever since. However, while there’s been nothing decisive on the upside, the Index has been trying to bottom out since early May—what’s interesting is that many growth funds have been doing the same, even as many major indexes moved to new lows last week.
Like everything else, we have to see it actually happen, but a couple of strong up weeks from the Aggression Index (possible if the market can bounce further) could be telling and set up a similar pattern to what was seen at prior major lows. Put it in your box of things to watch.
When Is it OK To Re-Buy a Stock?
We’re position traders, which is a shorthand way of saying our system is built around finding stocks that can make good moves in the intermediate- to longer-term. Thus, when we get knocked out of a name (as opposed to taking partial profits), it’s usually because the stock has cracked some meaningful support—and usually means we’re not interested in it going forward.
But, of course, there are exceptions, and you can sometimes see that near market turning points. We wrote a bit about Devon, Chesapeake and the energy group as a whole earlier this issue; the snapback in many names could mean the group still has legs.
But we’re also keeping an eye on Celsius (CELH), the energy drink maker we got knocked out of during the market’s latest maelstrom. We don’t regret the sell at all; CELH clearly snapped support and really hasn’t bounced much since. But we’re keeping it on our watch list because, in this case, the big picture still looks intriguing: CELH has effectively been consolidating since the Pepsi deal was announced in early August, is still miles above its summer lows and a good couple of weeks from fresh highs—and, of course, the growth story is hard to beat.
To answer the question of this section—when do you re-buy a stock you recently sold—the key is to treat it like any other stock you don’t own. Translation: You don’t want to make excuses for the stock just because you “know” it well, but if it has the best (or one of the best) combinations of story, numbers and a strong chart (and the market is getting healthier), it’s fine to take another swing at it.
In CELH’s case, it looks OK but still needs work at this point—but if, say, the market chugs higher and the stock can revisit its high, you’d likely have a very enticing opportunity. We’re keeping an eye on it in case it re-emerges in the weeks ahead. WATCH
Cabot Market Timing Indicators
From a top-down perspective, we’re intrigued by the recent evidence, from the crystallization of bearishness of late to this week’s upside breadth. That said, our indicators are still bearish and resilient stocks are hit-and-miss. We’re not anxious to be totally out of the market, but we’re still waiting for more clarity before doing any major buying.
Cabot Trend Lines: Bearish
There’s nothing new from our long-term Cabot Trend Lines, as the S&P 500 (by 8%) and Nasdaq (by 10%) are still well below their respective 35-week moving averages, even after this week’s pop. To be fair, the Trend Lines will almost surely be the last indicator to flash green whenever a new bull is born, so you want to stay flexible—but with the major trend still down, it’s best to keep a healthy level of skepticism.
Cabot Tides: Bearish
Our Cabot Tides are also still bearish, as this week’s strong upmove in the major indexes we track (including the Nasdaq, whose daily chart is shown here) still leaves them below both of their moving averages. Indeed, so far, the bounce has “only” recouped the declines of the prior week and a half. Don’t get us wrong, it’s a nice start and our antennae are up—but there’s nothing conclusive yet.
Cabot Two-Second Indicator: Negative
One of the best ways to judge the current rally attempt is likely going to come from our Two-Second Indicator. As we’ve written a few times, bear market lows tend to see a vacuum of selling pressure, with new lows quickly drying up to next to nothing, so let’s see if something like that can occur. At this point, we haven’t seen a single sub-40 reading—that’s not predictive, but for now, the broad market remains unhealthy.
The next Cabot Growth Investor issue will be published on October 20, 2022.
About the Analyst
A growth stock and market timing expert, Michael Cintolo is Chief Analyst of Cabot Growth Investor and Cabot Top Ten Trader. Since joining Cabot in 1999, Mike has uncovered exceptional growth stocks and helped to create new tools and rules for buying and selling stocks. Perhaps most notable is his development of the proprietary trend-following market timing system, Cabot Tides, which has helped Cabot place among the top handful of market-timing newsletters numerous times.