The overall market is just OK here, as most indexes are still stuck in 10-plus week trading ranges. Our market timing indicators are positive, but it\'s hard to say the bull market is overly powerful here. However, the action among leading growth stocks has been fantastic since mid-April, with most of the stocks we own or are watching racing up the charts.
Cabot Growth Investor 1367
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Overall Market: B-
Growth Stocks: A+
Every day, after I roll out of bed and the Keurig brews my coffee, I like to take a top-down look at the market. That means looking at charts of the five major indexes we track closest, as well as checking out things like the number of new lows (and highs) and the advance-decline line—all traditional technical analysis and market timing stuff.
This morning’s ritual reinforced my thoughts of the past few days—that the overall market is just OK here. On the positive side, all three of our market timing indicators are flashing green lights, led by our Cabot Trend Lines, which have been bullish for more than a year. The intermediate-term Cabot Tides, though, bear watching.
That’s because the Nasdaq is the only major index we track that’s freewheeling, having lifted to new highs late last month. But the S&P 500 and NYSE Composite haven’t made any progress in 10 weeks, the S&P 400 MidCap has been stagnant for 12 weeks, and the S&P 600 SmallCap is below where it stood in early December, five months ago!
None of that is bearish, per se, but if you’re a mutual fund investor, you’re probably noticing that your funds haven’t done much over the past two or three months. If we were giving out a grade, we’d say the overall market is a B-, better than average, but not exactly in a strong bull trend.
But we don’t buy the market (except for the occasional leveraged long fund), we buy leading growth stocks. And they’ve been acting great! Most of the stocks we own and a ton that we’re watching have come alive since mid-April, including a slew of names that have reacted well to earnings. Some of these look extended, but most are emerging from multi-month consolidations. Grading it out, growth stocks have definitely been A+ material.
So what’s the best way to handle a situation when most of the market is meandering but growth stocks are racing higher? First and foremost, you should take advantage of the strength—hold onto your top performers, and look to do some buying on shakeouts and pauses as they occur (and they will).
But also keep your feet on the ground, realizing that the market’s lack of progress is a risk. We’re putting some more money to work tonight, but we’ll keep one slot open in the portfolio until the rest of the market kicks into gear.
[highlight_box]WHAT TO DO NOW: Remain heavily invested and give your winners some breathing room. In the Model Portfolio, we’re buying the second half of our position in Universal Display (OLED) tonight and placing XPO Logistics (XPO) back on Buy. That will leave us with around 13% in cash.[/highlight_box]
Model Portfolio Update
The Model Portfolio has had a great run recently thanks to a generally favorable earnings season (so far) and the general strength in growth stocks. As usual, we won’t predict how long the strength will last, but there’s no question the buyers are in control of most growth-oriented issues today.
The game plan from here is to take advantage of the action by holding onto your strong performers, especially those that have recently gotten going after multi-month rest periods. Following our plan, we’re buying the second half of our position in Universal Display in this issue.
However, we’re also holding a little cash on the sidelines as most market indexes are still range bound, and as some stocks rise out of trend on the upside. On that note, we’re keeping one slot in the portfolio unfilled for now, leaving us with 13% cash.
Current Recommendations
BUY—Alibaba (BABA 120)—Alibaba will release its quarterly report next Thursday (May 18), and investors are expecting good things, thanks in part to excellent earnings reports from U.S. e-commerce firms (like Amazon) and Chinese e-commerce giant JD.com. On the news front, Alipay (which is owned by Ant Financial, which has a profit sharing deal with Alibaba) is making a move into the U.S.; First Data will integrate that payment service into its point-of-sale systems, catering to the more than four million Chinese that visit the U.S. each year. As for the stock, it’s had a good run in recent weeks and is now testing its all-time highs near 120 from back in 2014. We think it’s likely to get through that level, but you should keep any new buying relatively small this close to earnings.
BUY—Facebook (FB 150)—Facebook reported another stellar quarter last week, with revenues up 49%, earnings up 73%, profit margins of 38% and continued excellent user growth (1.28 billion users per day in the first quarter). Moreover, while the company is investing at a rapid pace, it didn’t increase its CapEx guidance, prompting analysts to hike their outlooks. While Facebook doesn’t break out Instagram’s revenues yet, most believe that platform should bring in around $3 billion or more this year, with some thinking it could reach a mind-boggling $20 billion in revenue within a few years. Details aside, the big picture remains that Facebook, while well known, still has a huge runway of growth due to its various platforms, each of which has at least 700 million monthly active users. FB had a big run into its report last week and has paused since; it looks like a reasonable buy here or on dips of a few points.
BUY—Netflix (NFLX 160)—NFLX remains in good shape following its post-earnings shakeout and immediate snapback thanks to a licensing deal that should allow it to expand into China in the quarters ahead. That said, we think there’s more to the stock’s strength than just the prospects of Chinese expansion—the firm’s series 13 Reasons Why looks to be another huge hit, actually setting the record for most social media impressions by a series in its first week after launch. The more hit series Netflix comes out with, the greater the demand (and retention rate) for its services both in the U.S. and overseas. We think NFLX is a good buy around here, with a mental stop in the mid-140s.
BUY—ProShares Ultra S&P 500 Fund (SSO 88)—SSO did kiss new highs Tuesday morning, but it basically remains in its trading range, having made no real progress since March 1. That doesn’t mean it looks bad—SSO and the S&P 500 are both above their 50-day lines and, longer-term, the trend remains up and we continue to think this bull market has further to run. A decisive break of the 50-day line (say, into the 83 to 84 zone, which would likely coincide with a new Tides sell signal) would probably have us taking partial profits, but right here, we’re staying on Buy, as the evidence tells us the next big move is likely up.
HOLD—Shopify (SHOP 93)—Shopify reported another excellent quarter last week—while revenue growth decelerated (to “only” 75%), it came in well above expectations, as did the loss per share, gross merchandise volume and various other metrics. One line of business that could be huge is Shopify Capital, which provides cash advances for qualified merchants; it’s still small but growing rapidly, with $19 million in advances in the first quarter and another $11 million in April alone. The stock has gone vertical as more investors are thinking that Shopify has a huge, multi-year growth opportunity as small- and mid-size firms modernize their e-commerce operations. We’re going to stick with our Hold rating because the stock is very extended to the upside, but we’ll be watching for a sharp shakeout as a possible entry for new buyers. Hold for now.
BUY A HALF—Tesla (TSLA 325)—TSLA had a sharp three-day pullback right before and after earnings last week, but it’s quickly snapped back on solid volume. As for the first quarter, we were very encouraged by the results—revenues rose a whopping 135% as production increased 64% with a gross margin of nearly 28%, up from 20% a year ago. Management also reaffirmed its production outlook for the first half (deliveries should rise 65% or so), and said it’s on pace to begin production of the Model 3 in July (Model 3 output should rise to 5,000 per week by year-end). Outside of autos, Tesla said today that it’s accepting orders for its solar glass roof tiles, with deliveries in the U.S. starting later this year. We like the overall action, but we’re going to wait a bit longer to fill out our position given that the stock has been all over the place in recent days. If you don’t own any, though, you can buy a half-sized stake around here.
BUY—Universal Display (OLED 115)—Universal Display’s first-quarter report went a long way toward convincing investors that the future of organic light emitting diodes has arrived—the company crushed sales and (especially) earnings projections, meaningfully raised its outlook and caused analysts to bump up their estimates; Wall Street now expects Universal’s bottom line to rise 65% this year and 49% next, and some analysts think growth will remain rapid for a couple of years after that. Eventually, we can envision competition picking up and prices coming down. But right now, there’s little doubt demand is accelerating (from four million square meters last year to an estimated 21 million in 2021) as smartphones, TVs, tablets, lighting and more transition to OLEDs. The stock exploded higher following the report, but that came after a two-month rest period, which itself wasn’t far from a larger six-month base. Translation: This looks like a buyable gap up, so we’ll buy the remaining half of our position tonight.
BUY—Veeva Systems (VEEV 56)—VEEV isn’t as hot as many other growth stocks, but that’s fine by us, as it’s been making steady progress in recent weeks, notching new highs in the process. The company hosted an industry powwow this week and announced a new product (MyInsights), a data point (its OpenData offering, which provides access to 20 million healthcare professionals, has reached 100 customers) and a big customer contract (Bristol-Myers Squibb is expanding its use of Veeva’s platform in many markets outside the U.S.). That said, the more meaningful update will come on May 25 when Veeva releases quarterly results. With the stock acting well, we’ll stay on Buy, preferably on a dip toward the 25-day line (now nearing 53).
BUY—XPO Logistics (XPO 55)—XPO doesn’t get much press, which we understand—it’s a trucking and logistics company, after all. But the firm’s first-quarter report reinforced our view that the stock could be a good-sized winner over time. The quarter saw free cash flow of negative $87 million, but that was well ahead of expectations, and management reiterated its view of at least $350 million of free cash flow this year (around $2.70 per share) and a total of $900 million between this year and next. Plus, management is seeing opportunities for organic growth—it booked $716 million in brand new business in the quarter (up 67% from a year ago) and, separately, garnered its largest contract ever. XPO could grow revenues in the mid- to high single digit range, and while that doesn’t sound like much, it would supercharge the firm’s cash flow and drive earnings significantly higher. The stock seems to be sniffing that out, as its nosed out to new price and RP peaks since the report, breaking free of a five-month pause. We think you can enter here and are restoring our Buy rating.
Watch List
Exact Sciences (EXAS 34): EXAS has a revolutionary new test for colorectal cancer that should produce explosive growth for many years. See below.
Five Below (FIVE 52): FIVE has been strong, climbing persistently back toward its all-time highs. We think this cookie-cutter story has many years of growth.
Zillow (Z 43): We’ve been watching Z off and on for months, and after a nine-month rest, it’s finally come back to life thanks to a great first-quarter earnings report. The story (leading online real estate firm) is as big as ever.
Other Stocks of Interest
The stocks below may not be followed in Cabot Growth Investor on a regular basis. They’re intended to present you with ideas for additional investment beyond the Model Portfolio. For our current ratings on these stocks, see Updates on Other Stocks of Interest on the subscriber website or email mike@cabotwealth.com.
Exact Sciences (EXAS 34) — Exact Sciences is a leader in the diagnosis of colorectal cancer, the second most-deadly cancer in the U.S. Exact’s Cologuard is the only stool DNA noninvasive colorectal cancer screen that’s approved by the FDA. While the company isn’t yet profitable, sales of Cologuard have produced six quarters of triple-digit revenue growth. And the potential market for a colorectal cancer screener is enormous, around 80 million per year in the U.S. alone. Cologuard actually sold around 100,000 tests in Q1—up 150% from a year ago—and issued guidance for a total of 470,000 tests in 2017 at a cost of $425 per test. Cologuard now has a 2% market share, but Exact Sciences is shooting for at least 30%! And the company’s blood-based lung cancer screener that’s in the pipeline will be another blockbuster if it proves effective. In short, there’s a multi-billion-dollar opportunity for Exact Sciences.
Square (SQ 20) — Square started its business with the little square dongle that turns smartphones, iPads and tablets into full-service cash registers. From that foothold, it has expanded into a suite of applications like invoices, inventory, cash advances and lending—its Square Capital made 40,000 business loans in Q1 (totaling $251 million). The company’s Caviar app lets businesses offer take-out orders just like GrubHub. The company’s move into the U.K. (its fourth international market) is going well and its Q1 report featured a 200% jump in earnings on a 22% boost in revenue. SQ features a nose-bleed-inducing 154 P/E, but its appeal to small- and medium-sized businesses is undeniable, and SQ is well into new high territory.
TransUnion (TRU 41) — TransUnion is (along with Experian and Equifax) one of the three biggest credit score companies in the world. The actual service is risk management, which it provides by empowering businesses to accept new customers with confidence. The company’s more than one billion consumer files make its advice to merchants about credit-worthiness a valuable commodity. And its data analysis gives both businesses and government information about credit trends. TransUnion is likely to be a steady grower, although its follow-through after a big February gap up has been excellent. Q1 results once again showed revenue growth in the low double-digits and earnings growth of 31%. This is a good story with consistent growth.
Weibo (WB 63) — Weibo is a Chinese language social networking platform whose offering is midway between Twitter and Facebook. The company, which was spun off from Sina.com in 2014, has a huge following, with 313 million monthly active users (MAU) and 139 million daily active users (DAU) at the end of 2016. Those big MAU and DAU numbers have allowed the company to charge premium rates to advertisers, yielding a 37% increase in revenue in 2016. Q4 numbers showed a 43% revenue jump and a 127% increase in earnings with an excellent 36.2% after-tax profit margin. Chinese stocks are hot right now, and WB is just lifting from a six-month base after a big 2016 run. Earnings are due next Tuesday (May 16, before the market opens), so keep any new investments small.
Let the Stock Make the Decisions for You
One of the most common requests we get, whether it’s from new subscribers evaluating their portfolios or experts attending our Wealth Summit, is for guidance when it comes to selling. Once there’s some adversity, most don’t know whether to hold or sell.
We won’t get into all our sell rules here, which involve a mix of loss cutting, taking partial profits, stock action, market timing and portfolio management. (We could write a book about it all!) But we do think one simple way to make better sell decisions is to simply let the stock make the decisions for you.
How? Simply by setting reasonable mental stops (usually a bit below intermediate-term support) on the stocks you own that are acting questionably. Most often, the strong/resilient stocks will hold up and the laggards will trip their stops. Not only does this method work, it also takes a load off your mind—there’s no need to constantly obsess over every hour’s worth of action.
We’ve already seen this play out a few times this year. Late last year and early this year, things looked bullish for Freeport McMoRan (FCX). But after some wobbles, we put in a mental stop at our buy point, and FCX quickly pushed below it. Today, FCX is 17% below our sell point despite the higher market. The story was similar for Callon Petroleum (CPE) and Texas Capital (TCBI), both of which cracked support and don’t look too hot today.
Conversely, we’ve had mental stops in place in recent months that haven’t been tripped. Facebook (FB), for example, came close to its stop in the low 110s, and has had a huge year so far. And just two weeks ago, Netflix (NFLX) and XPO Logistics (XPO) came within sight of their mental stops, but both held and have shot ahead since.
Of course, it doesn’t always work this way; sometimes you get knocked out and the stock thumbs its nose at you and immediately rockets higher. But that’s life! The market is an odds game, and letting the stock make the decision for you will usually result in your portfolio being full of top performers.
A (Very) Long-Term Market Perspective
We came across some interesting charts this weekend from Advisor Perspectives (www.dshort.com) that looked at the S&P’s rolling, inflation-adjusted return (dividends included) going back many decades. The rolling 10-year return chart (shown here) provides some interesting perspective.
You can see that the 10-year rolling return soared to nearly 20%(!) at the 1920s market top, was around 15% at the mid-1960s major top, and reached 16% at the apex of the Internet bubble. Conversely, near multi-decade lows, the returns dropped to the -2% to -6% range. (Amazingly, at the 2009 bottom, the 10-year return was its lowest ever!) Today, though, even after a great recovery since 2008, the rolling return is around 5%, right in the middle of the long-term range.
This doesn’t tell us anything about the market’s intermediate-term future, but it does lend credence to the fact that stocks aren’t as “late stage” as commonly feared. Remember, the S&P just emerged from a 13-year stretch of no progress in 2013, while the Nasdaq only recently left behind its bubble peak from 16 years ago!
Combined with some other big-picture measures like money flows (which continue to show that most investors prefer to put money to work in bonds instead of stocks), these figures point to the fact that we’re somewhere in the middle of a secular (very long-term) bull market—not near the bubble-like peak that many investors fear.
Cabot Market Timing Indicators
The market environment isn’t perfect—we’d like to see most indexes hit new highs, and the Two-Second Indicator bears watching—but most of the evidence is bullish and growth stocks are acting great. You should be heavily invested.
Cabot Trend Lines: Bullish
The Cabot Trend Lines remain clearly bullish, telling everyone one simple fact: It’s a bull market! At the end of last week, the S&P 500 finished a strong 6.1% above its 35-week line, while the Nasdaq closed 9.8% above its own trend line. In the short term, some areas (like the Nasdaq) look a little stretched to the upside, but there’s no question that the longer-term trend remains up.
Cabot Tides: Bullish
The Cabot Tides are more of a mixed bag—all five of the indexes we track are above their 50-day lines (including the S&P 500, the daily chart of which is shown here), though four of them are still within their post-March 1 trading ranges. Overall, the indicator is positive, so we consider the intermediate-term trend to be up—but we’d really like to see other indexes join the Nasdaq in new high ground soon.
Two-Second Indicator: Healthy
The plunge in energy prices and stocks threw our Two-Second Indicator for a bit of a loop—the number of new lows was greater than 40 on three of five days last week. It’s something we’re keeping an eye on, but for us to conclude the broad market is under duress, we’d need to see many days in a row of plus-40 readings; until then, the evidence tells us the selling pressures are reasonable.
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Send questions or comments to mike@cabotwealth.com.
Cabot Growth Investor • 176 North Street, Post Office Box 2049, Salem, MA 01970 • www.cabotwealth.com
All Cabot Growth Investor’s 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 bulletins via email and the recorded telephone hotline. To calculate the performance of the 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.
Charts show both the stock’s recent trading history and its relative performance (RP) line, which shows you how the stock is performing relative to the S&P 500, a broad-based index. In the ideal case, the stock and its RP line advance in unison. Both tools are key in determining whether to hold or sell.
THE NEXT CABOT GROWTH INVESTOR WILL BE PUBLISHED MAY 24, 2017
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