Weekly Update October 21, 2016
This week was almost like a time-out for small caps as they are virtually unchanged from where they closed last Thursday. The S&P 600 Small Cap index remains a few points below its 50-day moving average, but above the August and September support level of 730. That’s the level we want to see the index hold above, since a break lower would put us in no man’s land and raise the odds of a move back near the 200-day moving average (which is 5.3% below yesterday’s close).
It’s fair to assume this earnings season will largely dictate the index’s direction through the end of the year. The Presidential election is another big factor. While anything can happen, it appears that we should be preparing for a Hillary Clinton Presidency, if you put much stock in the polls. I’ll get into details on any change in our strategy in the coming weeks (I’m not contemplating anything major at this point given likely continuance of a Democrat in the Oval Office).
As for earnings, the action in our portfolio kicks off next week with three stocks reporting. Get ready!
As I stated last week, third-quarter earnings will provide a good status update on how companies are doing, regardless of all the noise in the market. This year’s growth should be back-loaded, meaning third- and fourth-quarter performance (i.e., meet or exceed expectations) is essential if small cap stocks are to attain the 57% EPS growth analysts are expecting in 2016. Much of that growth should come from the financial, health care, materials and real estate sectors as they move back into the black after contracting in 2015.
While we don’t have much exposure to these sectors, the important thing to understand here is that attaining expected earnings growth is critical to help validate a stock market that’s trading above its 10-year forward price-to-earnings ratio (analysts expect small cap EPS growth of 36.5% in 2017). If EPS were to come in light in Q3 (in small, mid and large caps), the market would appear even more overvalued since faster growth in Q4 would be required to hit year-end estimates. Suffice to say, that’s not the scenario we want to play out.
As of last week’s tally (which only accounted for the very small fraction of companies that had already reported through Friday), earnings have been coming in ahead of target. I’ll know more this weekend after I get aggregated earnings data through today’s close. I’m encouraged by terrific numbers from Microsoft last night, as its transition to the cloud continues to pay off. This is one of several important large-cap tech stocks with cloud exposure. Its growth helps to validate the long-term potential of the broader cloud software space, where we have significant exposure.
I have no ratings changes today. We have four stocks rated Buy, which illustrates the nice capital gains we’ve attained throughout much of the portfolio already, as well as my view that we should exercise some caution with the market looking for validation of both growth and lower economic/political uncertainty before it can make a larger move higher.
Updates
Aerohive (HIVE) I moved the stock to Sell last week after management pre-announced and guided below expectations. I felt we had a small window in which to step aside before the stock moved much lower. That appears to have been the right decision so far. SOLD.
Confirmed Earnings Release: November 2
Aspen Aerogels (ASPN) It was back to business this week. Shares jumped 7%, and were particularly strong on Wednesday and Thursday. Likely helping the move was a short and sweet article from Heartland Advisors on Seeking Alpha. Heartland manages five small-, mid- and micro-cap mutual funds, and the most recent data I have shows the group holding 100,000 shares of Aspen in a value fund, which it has held for just one quarter. In other words, they have been buying recently and are now talking their book. I like the strategy—it should help boost interest in Aspen, which remains a deeply undervalued stock, in my opinion. This was my September recommendation, and we’re up 27%. Buy on any dip (try using limit orders). BUY.
Confirmed Earnings Release: November 3
eMagin (EMAN) Volume was very low this week as the market waits for an update. All the major virtual reality products are coming to market, and with the holiday season approaching, it’s going to be very interesting to see who wins Round 1. We still don’t know how exactly eMagin intends to get involved in the market, but management said it will release two consumer-oriented products by year-end. This is a statement the company needs to follow-through on or the stock will go back to 2. Keep holding. HOLD.
LeMaitre Vascular (LMAT) Same as last week—the stock looks solid in its current consolidation pattern. We’ll get earnings next Wednesday. Keep holding. I expect this earnings announcement will move the stock significantly one way or the other. Recall that last quarter LeMaitre capitalized on a competitor’s product recall. Next week, we’ll find out how long that benefit should last. HOLD
Confirmed Earnings Release: October 26
LogMeIn (LOGM) Shares were up 1% and remain in a tight trading range. Earnings are due out next Wednesday and the focus will undoubtedly be on what this company will look like at this time next year, once the merger with Citrix’s GoTo business is complete. Keep holding half. HOLD HALF.
Confirmed Earnings Release: October 27
BUY.
Confirmed Earnings Release: October 26
Mitek Systems (MITK) The stock was flat this week with no new news. I’m looking at the 7 level which provided support at the beginning of August. We don’t want the stock to close below that level. Earnings should be out in the first week of November and I expect that approaching event should liven up the buying action. HOLD HALF.
NanoString Technologies (NSTG) Shares were up this week amid news that it will release two new solid tumor assays in its Vantage 3D product line. The nCounter Vantage 3D Solid Tumor portfolio enables multiplexed, digital analysis of combinations of DNA, RNA, fusion genes, proteins and phospho-proteins simultaneously in a single experiment. In layman terms, this means less tissue is necessary to obtain more detailed information, more rapidly. And that information can inform treatments. The stock looks stable after a broad pullback in biotech last week. HOLD.
Confirmed Earnings Release: November 2
Ooma (OOMA) It was another quiet week for the stock, though yesterday’s decline of 2.6% was a little out of character given the stock’s narrowing trading range over the past two months. Let’s keep an eye on it. I won’t really raise an eyebrow unless it falls below 8. BUY.
Primo Water (PRMW) After a 15% rally last week, shares of Primo took a breather this week, and trading volume has begun to return to more normal levels. I moved the stock to Hold after the acquisition-driven rally (Primo Water will buy Glacial Water Services for $263 million). Keeping at Hold. HOLD.
Q2 Holdings (QTWO) It was another quiet week for Q2. It feels like the market is waiting for the next earnings call, which will come the week after next. Keeping at Buy. BUY.
Confirmed Earnings Release: November 3
USA Technologies (USAT)
The stock was down 3% this week despite a report from Reuters that 9.9% shareholder Legion Partners has asked USA Technologies’ management team to evaluate its strategic alternatives, in part because it hasn’t become profitable. For perspective, over the last four quarters, USA Tech has grown revenue by an average of 34% and delivered an average EPS of -$0.01. The earnings trend is to be right around breakeven, so given the revenue growth, it’s not hard to see why investors are looking for profits. I like where the stock has gone—we’re up 43%—but I’m not going to get in the way of any urging for management to deliver on the bottom line! We’ll see where this goes, which, at the very least, I expect will mean some discussion of the company’s plans on the next earnings call in early November. In other news, the company announced that a Canteen franchisee, Burch Food Service, with operations in Missouri, Arkansas, Tennessee, Kentucky and Illinois, is upgrading over 1,000 machines to USA Tech’s platform. After the first month, transaction dollars are reportedly up 17%. Let’s keep holding. HOLD.