The charts and the fundamentals of leading growth are likely pointing toward a new sustained advance. With 22% cash, we’re building our Watch List and looking to put more money to work, ideally on dips or shakeouts.
Cabot Growth Investor 1389
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Market Good, Leading Stocks Great
We’re big fans of keeping it simple when it comes to the market. We’ve experimented with more arcane timing indicators and stock chart tools than we care to admit, and found them all wanting to one degree or another. That’s why our market timing system basically revolves around two simple things: The trends of the major indexes and the action of leading growth stocks.
That’s not to say we don’t look at other factors, like the health of the broad market (our Two-Second Indicator), investor sentiment or unique blastoff indicators, which we write about from time to time. But it’s the market and leading stocks that determine 80% of what we do.
And what are they saying now? For the market, it’s in good shape, with both our trend-following indicators once again positive. Granted, it’s not a perfect situation—the indexes aren’t totally in gear (some, like the Nasdaq, look great, while others, like the NYSE Composite, look suspect) and we’ve seen a couple of whipsaw signals since late January. But net-net, the evidence suggests that the bulls are re-taking control.
However, the real action right now is below the surface, where more and more leading growth stocks are racing up the charts. We’re not talking about just a couple of good days from a handful of names—we’re talking about dozens of stocks that began surging right after the market’s early-February low and have shown persistent advances (rising most days) with giant upside volume. And the advance includes many sectors, from chips to cloud software to cybersecurity (which we write about later in this issue), with most of the stocks catapulting out of launching pads.
Possibly the only problem is that these leading stocks have been hard to buy, refusing to present low-risk entry points—which, in itself, is a sign of a strong situation! Happily, we already owned a few of the leaders in the Model Portfolio before the recent rally, and we’ve added two more during the past couple of weeks. With the path of least resistance up, we’re looking to do more buying, preferably as attractive buy points show up.
[highlight_box]WHAT TO DO NOW: Put some money to work. In the Model Portfolio, we added Proofpoint (PFPT) earlier this week, which brings our cash position down to 22%. Our Watch List is brimming with good ideas, and we’re hoping to land a couple of them on dips or pauses.[/highlight_box]
Model Portfolio Update
It’s been a crazy past few weeks in the market, but since the early-February low, we’ve been buying carefully despite some whippy action from our Cabot Tides. The reason? Individual growth stocks have been acting great—though because few great entry points are to be found, we’ve been picking our spots carefully.
The bottom line: We are very encouraged by what we see, and with so many growth stocks showing persistent, powerful action, the odds are that any hesitation or pullbacks will prove buyable. Thus, we’re looking to add to our exposure, preferably on dips.
Current Recommendations
HOLD—Alibaba (BABA 193) – BABA has shown a couple of signs that it might be close to resuming its longer-term uptrend—the stock has now spent more than four months going mostly sideways, with support in the mid- to upper-160s holding numerous times. Moreover, the minor selling wave two weeks ago showed a marked decline in selling volume, which is a plus. Throw in the bullish fundamentals and news flow (the firm’s financial lending arm, Ant Financial, has doubled its consumer lending business since the start of 2017), and we’re keeping our eyes open. Still, we’re trend followers, not trend predictors, so until we see a definitive sign that the buyers have retaken control, we’ll stay on Hold and stick with our plan—we’re holding as long as BABA is above support in the high 160s, while a decisive move toward 200 would be very bullish.
HOLD—Facebook (FB 184) – FB remains sloppy and choppy, which is acceptable, but it’s continuing to underperform most growth stocks and the Nasdaq, which isn’t ideal. Fundamentally, the company still has a ton of irons in the fire—it recently inked an exclusive deal to broadcast 25 major league baseball games, adding to its live broadcast offerings, and many think this move could be a camel’s nose under the tent of a larger, major sports broadcasting deal in the years ahead. A strong move over 190 would put some of our recent fears to rest, but we continue to watch major support in the 170 area (give or take)—a big-volume break below there would likely have us moving on.
HOLD—Five Below (FIVE 68) – FIVE’s moment of truth is coming next Wednesday, as the firm will report earnings on March 21 after the closing bell. Analysts are looking for earnings of $1.16 per share and revenues of $503 million, but as usual, the outlook for this year (including the benefits of corporate tax cuts and the impact of any investments in new distribution centers) will be key. As for the stock, it showed signs of perking up before getting pulled lower after a poor quarterly report from Dollar Tree last week, but net-net, it’s right in the middle of a 10-week consolidation. If you really want in, you could nibble here, given that the stock just broke out from a giant launching pad late last year. But we’ll stay on Hold and see how investors react to earnings.
HOLD—Grubhub (GRUB 111) – GRUB definitely remains one of the market’s leading glamour stocks, and we’re as enthusiastic as ever on the potential of the long-term story as more and more people order takeout online. A couple of analysts upgraded the stock this week, believing the company has plenty of growth ahead (one sees the firm’s restaurant network growing from 80,000 or so today to 100,000 in 2019 with the help of the Yum! Brands partnership). That said, we sold half our shares a couple of weeks ago because of the market’s wobbles and (more importantly) the stock had become a huge portion of the portfolio (about 15% or so). As we’ve done with other winners, we pocketed a big gain on the half we sold, and will look to play out the rest for a larger, longer-term upmove. Because we sold, we moved the stock to a Hold rating, but given the vibrant action, we’re looking to restore the Buy rating if GRUB presents a decent entry point.
BUY—HubSpot (HUBS 118) – HUBS has pulled back this week, first on a valuation-related downgrade, and then after Salesforce appeared to nudge its way into its industry, launching a product that loosely competes with HubSpot. Even so, we don’t see any change in the bullish fundamental story—it’s not like there hasn’t been competition previously, plus inbound marketing is HubSpot’s specialty and the main opportunity here is replacing older, legacy systems (or, in many cases, getting small- and mid-sized clients to use an inbound marketing platform for the first time). After four straight weeks of big-volume advances, we view the current dip as a good entry—if you don’t own any, you can take a position here or on further weakness.
BUY—PayPal (PYPL 83) – PayPal is another liquid growth leader from last year that’s been consolidating for a while—the stock made no net progress for about 15 weeks, though now it’s beginning to perk up. We think the growth story here is very much intact. For instance, the firm’s Venmo service (which saw volume of $10.4 billion in the fourth quarter alone, up 86% from a year ago) is a leading contender to dominate the small money transfer industry (average transaction is $60); we even noticed that the local car service we use to get to the airport and back just started accepting it. The real question is whether last year’s big-cap winners like PYPL have another major upleg left in them. Given that the stock broke out of a multi-year base last spring and ran up for “only” seven months, we believe the answer is yes. (Interestingly, there’s been a good amount of bullish options activity in the stock during the past couple of weeks, which is often a tip-off of future buying.) With today’s good-volume rally, shares are back to within a stone’s throw of new-high ground—we’ll go back to Buy. If you buy around here, you can use a loss limit in the low- to mid-70s.
BUY—Proofpoint (PFPT 121) – We added Proofpoint to the Model Portfolio on Monday evening’s Special Bulletin, as it looks like a leader in the newly strong cybersecurity sector. The company has been growing solidly for years thanks to its strong stance in email security (though it’s no one-trick pony), with the stock nosing to new all-time highs a couple of times in recent years despite the sector’s sluggishness. But, as we detail later in this issue, we think cybersecurity stocks have entered a new uptrend, and PFPT has shown excellent upside power since the market’s early-February low. You can buy some around here, using an initial loss limit in the low 100s.
BUY—ProShares Ultra S&P 500 Fund (SSO 115) – We’ve ping-ponged between Buy and Hold ratings on SSO along with the Cabot Tides; it’s not ideal, but we’d always rather err on the side of the intermediate-term trend. (Just remember that, for us, Hold really does mean Hold.) With the Tides back in a positive stance, we’re back on Buy here because the odds of higher prices have increased. Longer-term, we’re also encouraged by the lack of major divergences we’ve seen thus far—yes, the number of new highs has shrunk, but things like the Advance-Decline Line are still in gear, which bodes well for the overall bull market. We do expect some volatility—for the overall market, we’re viewing this Buy signal more as a resumption of the overall uptrend, rather than a brand new kick-off—but we’re OK buying some shares here if you’re not yet in.
BUY—Shopify (SHOP 146) – SHOP has done a fine job of absorbing its secondary offering from three weeks ago, as we thought likely (we bought an extra few shares during the stock’s dip)—the stock actually poked into all-time high ground last week before pulling back some in recent days. Impressively, shares have closed above their 25-day line every day this year (even during the early-February market plunge), a clear sign of leadership after its prior rest. If you own some, sit tight, and if you don’t, try to get in on dips of two or three points.
BUY—Splunk (SPLK 109) – SPLK remains in great shape, with a very solid post-earnings move from 95 to as high as 110 (on many days of big volume) before hitting a little resistance early this week. We’re definitely looking to play the stock out over time because (a) the stock just got going in November, so odds are that it’s somewhat early in its overall run, and (b) the need to gain intelligence from Big Data is only going to accelerate as e-commerce, digital payments and online tools proliferate, and Spunk is the leader in that field. We’re fine buying some around here or on dips of a couple of points.
Watch List
TD Ameritrade (AMTD 61) – We think AMTD is the best looking of the brokers, though they all continue to basically swim together. One added boost to Ameritrade is its acquisition of Scottrade late last year, which should goose growth in 2018 and beyond.
Ligand Pharmaceuticals (LGND 179) – After numerous stops and starts, LGND has decisively ripped to new highs, clearing a four-month base-on-base formation. We love the earnings estimates (up 40% this year and 34% next), the unique business model and the eight-day run to new highs, all on big volume.
Nutanix (NTNX 55) – After pausing for three months (part of a multi-year post-IPO base), NTNX has gone berserk since reporting earnings two weeks ago. And management just gave a super-bullish long-term forecast at its Analyst Day. Pullbacks should be buyable.
Pure Storage (PSTG 21) – PSTG took a hit on earnings but hasn’t broken down; the fact that it just emerged from a huge post-IPO structure means it could resume its advance, though we’d need to see more strength.
Zillow (Z 59) – Zillow has always had a good story, and after a huge consolidation, it’s taken off during the past month. Like most growth stocks, a pullback or shakeout should provide a good entry point. See more in Other Stocks of Interest.
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.
AbbVie (ABBV 119) – AbbVie is a big (market cap of $192 billion, 129,000 employees) pharmaceutical company with one blockbuster product and a strong roster of smaller sellers and pipeline drugs. The blockbuster is Humira, which treats rheumatoid arthritis and a few other conditions and brought in more than half of 2017 revenue, and while that product should grow slowly in the years ahead (to $21 billion in 2020 from $18 billion last year), the company has plenty of irons in the fire—AbbVie sees 20 or more launches and label expansions by 2020 and believes its non-Humira revenue can grow 67% by 2020 and far more beyond that. The stock has a ton of institutional owners who like the company’s steady-eddie growth history and its substantial 3.2% dividend yield. ABBV bumped its head against resistance at 70 from late 2014 through August 2017, but broke out in September when its patent protection for Humira was extended until 2023. With several product launches in the next year and the corporate tax cut, analysts see earnings surging 34% this year and then expanding at a mid-teens pace in the years that follow. The stock has set up a brief six-week consolidation during the market’s correction and it looks like the path of least resistance is up.
Axon Enterprise (AAXN 39) – Back in April 2017, Taser changed its name to Axon in a move that was supposed to emphasize the company’s shift to body cameras (dubbed Two Way Axons) and away from its eponymous stun guns. But AAXN, which had been trading in the 20s since May 2016, remained stuck in that range until late last month, when a February 28 earnings report that beat expectations blasted the stock to a 28% gain in one day! That earnings report featured a 15% increase in revenue, which was lower than usual given the company’s history. But investors were impressed by the 13 cents-per-share in earnings—the highest in 12 quarters, and management’s talk of an increasing stream of recurring revenue. While Taser sales still made up more than two-thirds of revenue, the company’s body camera systems and new camera products due out this year are gaining traction, as is its Evidence.com video management platform. If you want in, keep it small and try to buy on weakness.
Lumentum (LITE 73) – Lumentum used to be a simple story of using lasers for communication, manufacturing and inspecting goods and life-science applications. But with increasing demand for 3-D sensing products for smartphones (including Apple’s Face ID technology) and (by 2020) automobiles, the avenues from growth are increasing. Optical communications are still the company’s bread and butter, but management sees the potential for 3-D sensing demand to double this year. The company’s Q2 report on February 6 featured record quarterly revenue ($405 million, up 53%), gross margin (30.8%) and EPS ($1.67, up 193%!). LITE is a very volatile issue, but as its post-earnings jump from 42 to 72 suggests, the momentum is toward the upside today. Analysts like the company’s $1.8 billion takeover of optical components producer Oclaro, which was announced on Monday. After a couple of quarters of bad news, LITE is on the way up.
Zillow (Z 59) —Zillow runs an online real estate database where buyers, sellers, renters, browsers, agents and mortgage professionals can get together. Since 2015, when it took over Trulia—one of its major competitors—Zillow has been the online resource. And after a rough patch in late 2015 and the first half of 2016, the company has been solidly profitable and growing fast, despite some uncertainty about real estate in a rising rate environment. Z corrected hard in July and August 2017, falling from 51 to 38, but the recovery began quickly, and the stock has been gathering speed, hitting new highs in recent trading on the strength of a quarterly report that featured 36% earnings growth on a 24% jump in revenue. Investors also appreciated a few of the sub-metrics, including a 21% jump in revenue from Premier Agents and a 61% hike in revenue from “Other Real Estate Interests” (rentals and new construction). This remains a great story, and now the stock has finally kicked into gear.
Romance-Transition-Realty in the Cybersecurity Sector
We’ve written many times before about our Romance-Transition-Reality framework when examining big-picture trends in stocks and sectors. The Romance phase comes first, and is the one we normally focus on in the portfolio—a relatively new company with a potentially revolutionary concept whose stock is bid up as investors fall in love with the story. This is usually when you see little competition and big valuations.
The Transition phase comes next, which is marked by falling expectations, more skepticism and a shrinking valuation. Even if business is growing, you might see a decelerating growth rate that causes big investors to pare back.
Lastly, after many months (sometimes years) of Transition comes the Reality phase, when the stock is well followed (and usually more respected) by Wall Street, is more reasonably valued and moves more or less based on how the company is performing.
If you time it right, the Romance phase is where you’ll make the biggest money—it takes time for big investors to build positions in new leaders, and with so few people even knowing about a new leading stock when it lifts off, investor perception can grow rapidly.
That said, there’s certainly big money to be made in the Reality phase, too, assuming the company still has a top-notch product, excellent growth and the market it’s playing in is big.
All of the above can apply to sectors as well, when an entire group goes bananas for a year or two, goes out of favor for whatever reason and then, with the fundamentals still enticing, begins a new run. That’s exactly where we think the cybersecurity sector is today, beginning a new sustained rally that has great potential.
The general story of cybersecurity has only gotten stronger in recent years, with numerous high-profile hacking attacks at big companies (it seems that cryptocurrency exchanges and servers are popular targets recently). And with more and more business being done online and in the cloud, and with businesspeople using various devices to access key company information, there’s no doubt demand is heading higher.
So how can you play the new uptrend in this group? Based on the fundamentals and technicals, our two favorites are Palo Alto Networks (PANW) and Proofpoint (PFPT).
PANW is a stock we made great money on in the 2014-2015 timeframe (Romance), and it’s positioned as the blue chip stock of the sector’s uptrend. The firm’s broad, next-generation platform has attracted a whopping 48,000 corporate clients, including a ton that use three or four offerings. The latest quarter’s sales (up 28%) and earnings (up 38%) topped expectations, free cash flow is giant (estimated at $9.50 per share for the year ending in July) and the stock has shown exceptional power since the market’s early-February low.
PFPT is a smaller (“only” 5,900 clients), but the company has been on a roll, making a name for itself in email security and branching out from there. Management has a long history of cranking out excellent results, and it sees enormous longer-term potential—the top brass thinks the company can triple its recurring revenue just from its current client base, and sees revenues and free cash flow rising 27% and 35% per year through 2020. The stock was very resilient during the sector’s sloppy action of the past few years, and it surged to new all-time highs during the past two weeks.
Earlier this week, we placed our bet on Proofpoint (PFPT), buying a position in the Model Portfolio because it’s a bit faster growing and the stock is freewheeling in all-time-high ground. That said, we’re also very keen on PANW, as well as the group as a whole. Whether you want to buy one stock, two stocks or even consider the sector’s exchange traded fund (Prime Cyber Security Fund, symbol HACK), we think the cybersecurity group has upside ahead as it emerges from a two-year slumber.
Cabot Market Timing Indicators
It’s been a back and forth past three weeks, but as things stand now, both of our trend-following indicators are positive and, even more important, the action of individual growth stocks has been terrific. The choppy action could continue, but until proven otherwise, the odds favor weakness providing good buying opportunities in the top stocks.
Cabot Trend Lines: Bullish
Our Cabot Trend Lines remain firmly in the bullish camp, with the S&P 500 and Nasdaq closing 7.0% and 11.5% above their respective 35-week moving averages last Friday. As has been the case for nearly two full years, the longer-term trend is pointed up, which tells us it’s likely the bull market has farther to run in the months ahead.
Cabot Tides: Bullish
Our Cabot Tides have flipped back to positive, with growth-oriented indexes (like the S&P 400 MidCap, shown here) leading the way, which is encouraging. The buy signal will only be reversed if most of the indexes we track fall back below their lower (25-day) moving averages, so there’s some room for the market to bob and weave without breaking the intermediate-term uptrend. With the Tides and Trend Lines both positive, you should have your optimist’s hat on.
Two-Second Indicator: Unhealthy
Our Two-Second Indicator isn’t awful, as the broad market has improved during the past two weeks, but we still haven’t seen a consistent string of sub-40 readings to flash an all-clear signal. Some of that is due to the persistent fear of higher inflation and interest rates, but taking the indicator at face value tells us that not all the sellers have been worn out.
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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 MARCH 28, 2018
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