November 16, 2023

There have been a lot of interesting developments in the market over the past week, with the lower-than-expected inflation reading and resulting speculation over the Fed’s next move right near the top of the list.

As it stands now, the market is saying no more Fed rate hikes, and even that we’ll see two cuts by next July.

Frankly, that seems a bit aggressive.

Yes, the inflation readings are good, but one thing we’ve learned is that this Fed is more likely than not to err on the side of higher for longer (obvious statement of the week).

Things get a bit funky when we start to ponder what scenario we’d be in for the Fed to start cutting early in 2024. Is the economy turning south? Are consumers in trouble? Is it just because inflation is down, and staying down? Is bad news now bad news? Is everything more-or-less fine and it’s just time to start letting the system breathe again?

Those are just some of the questions. In other words, when we really start to think deeply about this, I think there are valid questions about whether or not what we REALLY want is what we think we’ve all been waiting for.

Just putting it out there.

Moving on, the move in small-cap stocks over the last week was very much appreciated. I mean, yes, they still stink relative to the S&P 500 and/or Nasdaq. The S&P 600 Index is still about 20% lower than it was two years ago.

But ... the small-cap index rallied 5.5% on Tuesday and is starting to show signs of life. There is so much white space on the chart above where the index is now that it’s hard not to think that over the next one to three years small caps just have a ton of upside potential.

There’s also the valuation argument.

Small-cap stocks are cheap, not just on an absolute basis but on a relative basis as well.

The forward P/E of the S&P 600 Index is just 12.8. That’s well below the average (both long- and short-term). And relative to large caps, which trade with a forward P/E of 18.6, small caps are especially attractive.

The bottom line is that over the long haul small caps tend to do better than large caps in roughly three out of every five years. They’ve lagged since 2020, so we’re going on three years here.

It’s time.

Recent Changes

Duolingo (DUOL) was SOLD on Wednesday, November 15

Updates

Alphatec (ATEC) had a tough fall season (as did most MedTech stocks) but has perked up over the last two weeks since falling as low as 8.7 on October 30. The stock closed at 11.2 yesterday. Management presented at the Stifel Healthcare Conference on Tuesday, after which Morgan Stanley cut its price target by 26%. Granted the new target of 17 is still 52% higher than yesterday’s close and only 11% below the July high. But still, all factors being equal, it’s better to see target increases than decreases. What was the main takeaway from the Stifel conference, and Morgan Stanley’s price target reduction? On the conference, it was interesting to hear management talk about already attracting 30 reps due to disruptions from M&A in the spine space, and that they see about $2 million in annual revenue per rep. The company now has about 330 reps which implies around $660 million in annual revenue once reps are fully up to speed (consensus revenue estimate for 2024 is just $566 million (+20%) and they see a path to having 500 reps, which implies $1 billion in revenue once all up to speed. That’s pretty compelling. As far as Morgan Stanley goes, the target adjustment was just a valuation adjustment (lower) factoring in the capital raise and lower comps in the MedTech space, even though forward revenue projections went up in their model. They are still big fans of ATEC, as am I. Looking for momentum to continue in order to move back to buy. HOLD

Braze (BRZE) just announced that it will report Q3 fiscal 2024 results after the close on Wednesday, December 6. We’re still looking for Q3 fiscal 2024 revenue to grow at least 26% to $117.3 million and EPS to come in around -$0.13, two cents better than last year. This should set up a year where the company grows revenue by about 28% and EPS lands near -$0.37, almost 42% better than last year and putting the company on pace for first profits in fiscal 2026. It would be great to get guidance for ‘24, though management may punt on that until the Q4 report (Q4 closes in January). Either way, the hurdle for fiscal 2025 is set at $556 million in revenue (+22.3%) and EPS of -$0.07. Yesterday the stock pushed up against its 2023 high from September (50.1), which is about the same as the 2022 high (60, struck in August). C’mon, BRZE! Let’s punch through this overhead resistance (probably needs a good earnings report to do so). BUY

Earnings: Wednesday, December 6

Build-A-Bear (BBW) was upgraded to buy last week and the stock has acted well since. As I’ve mentioned, the company just released its G-rated movie, Glisten and the Merry Mission, on November 3. The company’s Q3 fiscal 2024 just ended in October and a report date hasn’t been announced yet. Consensus is calling for revenue to grow 4.2% to $108.8 million and EPS to be flat at $0.51. BUY

Earnings Expected: Early December

Duolingo (DUOL) had a heck of a move after the Q3 earnings report and trades at a healthy premium to both its own and other high-growth peer valuations. Given how stretched the stock looks I decided to close out the position yesterday for a gain of 39% in just over five months. I still like the company a lot, but it just seems that a lot of things need to go right for DUOL to go materially higher in the short term, and only a few things need to go wrong for it to fall back to its previous high (about -15% from here). I’ll be looking for an attractive point to re-enter the stock. SOLD

Enovix (ENVX) filed an S-3 form with the SEC on Monday in which it announced that stockholder Rene Limited is looking to make periodic sales of up to around 5.9 million shares (3.5% of shares outstanding). Enovix will not receive any cash from these sales and it won’t affect shares outstanding (these shares already exist). Rene Limited acquired these shares as part of Enovix’s acquisition of Routejade, which closed on October 31 of this year. This should be a non-event in the grand scheme of things. The bigger picture is still the same as it was last week. The Gen2 Autoline is on track for factory acceptance testing (FAT) by January, site acceptance testing and sample production in April 2024, and high-volume production in mid-2024. The company will start with batteries slated for IoT applications followed by smartphones in 2025. Revenue ramp looks something like $20 - $30 million in revenue next year (2024) then $110 - $120 million in 2025 ramping up to roughly $350 million in 2026 and $700 million or so in 2027. Looking for the stock to build some momentum in order to move back to buy. HOLD

Intapp (INTA) continues to look good after last week’s earnings report. The only news is that selling shareholders Great Hill Equity Partners and Anderson Investments are looking to offload up to 5 million shares. This will not affect shares outstanding, and Intapp won’t get any cash. As with Enovix, there may be some impact on the share price when these shares hit but they should be absorbed without too much disruption. BUY

Liquidity Solutions (LQDT) is up 7% since I added the stock two weeks ago. At this price level (20.6) shares are bumping up against their 2023 high (20.8 from October 12). Now the heavy lifting begins as shares look to break through resistance. Earnings are due in three weeks, on December 7, and it may take that event to catalyze a significant move higher. Current consensus is that Q4 revenue should grow by 10% to $82.7 million and EPS should grow 26.3% to $0.24. Looking out to 2024, revenue is currently seen growing by 8.3% to $343.6 million while EPS is seen up 7.6% to $0.99. This week we learned that an AllSurplus Deals has opened in Indianapolis and that new customer (to GovDeals) the Bradford County Florida Board of County Commissioners is selling two commercial properties. One was a Pizza Hut, the other a repair shop. Also, the state of Alaska is selling a 2004, 74-foot Steel Patrol Enforcer Vessel. I’ve been looking for a slightly larger boat and I suspect my boys would love to have a retired patrol boat. My wife ... not so much. Pass! BUY (the stock, not the boat)
Earnings Date: December 7

Remitly Global (RELY) has made nice upside progress after the Q3 earnings report fiasco. The quarter was a mixed bag as revenue beat (up 42.8% to $241.6 million, beating by 1%) while EPS of $0.00 missed by $0.04. Margins were dented by higher advertising and customer acquisition costs. Though management says they’re going on the offense since they see opportunities to raise awareness of the brand and these investments will pay off in 2024. It’s been the right move to buy this dip so sticking with that strategy for now, but being mindful that we may need hard evidence of the benefit from advertising investments before shares have any chance of regaining serious momentum. BUY

Repligen (RGEN) has moved a little higher over the last week, pushing the stock back into its comfort zone of 150 – 180. Management presented at the Stifel Healthcare Conference earlier in the week and rounded out some discussion points from the Q3 earnings call but didn’t pull back the curtain on any major new developments. Longer term I think RGEN goes much higher. The tricky part is determining when that move could start to materialize and what the opportunity cost of holding a one-quarter-size position is, versus exiting sooner rather than later and putting the capital to work in another opportunity. I’d love to hear your thoughts if you’re holding RGEN. Shoot me an email at tyler@cabotwealth.com. HOLD A QUARTER

TransMedics Group (TMDX) continues to look compelling with the stock showing some follow-through momentum after the massive Q3 earnings-driven rally. There’s no new news to share from the past week, but management will present at the Piper Sandler Conference on November 28. HOLD A QUARTER

Please email me at tyler@cabotwealth.com with any questions or comments about any of our stocks, or anything else on your mind.

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