September 29, 2022

The market tried to stage a small rally yesterday. But the combination of a consistently hawkish Fed, rising concerns of a global recession and increased risk of something going sideways in the financial markets (witness the Bank of England launching an emergency government bond buying program) is making it tough for the market to get off its knees. Stocks are selling off again today.

If there is one rally call rising above all others it is that the Fed has gone off the rails. It’s hard to find somebody with a platform that isn’t criticizing them for doing too much too fast.

In many respects it feels like the Fed is acting like a parent asserting power to get their misbehaving kids back in line. On the one hand that makes sense. But if I give my kids a bag of Halloween candy then get on them for acting like jerks while they’re all hopped up on sugar, is it really their fault?

Maybe a little more of a guiding hand and less of a steel-fisted approach to reestablishing balance is called for.

The bottom line right now is the Fed is looking to push unemployment higher, induce a housing recession (anybody want a 6.7% mortgage rate?), reduce growth across the board and get the market to go down (or at least not up).

Suffice to say that creates an extremely challenging environment for stocks. Understandably, investor sentiment is in the toilet. The Bull/Bear ratio dropped to 0.74 this week, getting close to challenging the June 21 week low of 0.60.

I suspect that ratio will drift lower. Back on June 16 the S&P 500 index hit its previous 2022 low of 3,666. It hit a new low of 3,623 this Tuesday. That level is being challenged today but has held so far.

Turning to small caps, the S&P 600 fell below its June 16 closing low of 1,082 last Friday, closing at 1,081. It closed even lower on Monday and Tuesday and this morning it is trading just above this week’s intraday low of 1,058.

Not surprisingly, forward estimates for small caps (and large caps too) have been coming down as analysts react to Fed policy. This chart from Yardeni Research shows the forward EPS estimates for the S&P 600. Note the decline in Q3 (green line) and Q4 (purple line).

The decline in the index has overpowered the reduction in forward earnings estimates such that small caps now trade with a forward P/E just below 11. This is on par with the worst valuation print during the depth of the pandemic-induced market crash.

So what’s there to look forward to?

Well, at a high level when everything stinks there’s a lot more room for things to get better!

This will all pass. And it seems like odds of a Fed pivot are rising, but timing of that is beyond murky.

In the meantime preservation of capital is of utmost importance so you have the presence of mind to pursue opportunities as they show themselves.

Regarding our portfolio, many of our stocks are acting relatively well, despite the challenging environment.

On a business level – putting aside all the Fed interest rate policy stuff – many of these companies are doing extremely well. Now, and when we come out of this funk, allocation to the right individual stocks will drive incredible outperformance over market indices. That’s what we’re trying to position for.

Still, we’re lightening up today by selling one half position that’s not doing much. This is partly in preparation for a new addition next week.

Elsewhere, there is very little new company-specific news. That will change in a few weeks when earnings season ramps up.

Details on what’s (not) new below.

Recent Changes
DigitalOcean (DOCN) moves to SELL

Updates

DigitalOcean Holdings (DOCN) has given us nothing new since the Cloudways acquisition closed a few weeks ago. Shares are trading at the low end of their 37ish to 50 range (actually a little below the low end today) that has persisted since this spring. We’ve held a half-sized position in DOCN and with a new addition to our portfolio coming next week I’m going to trim our stake today. We may be back in the future. SELL

Evolent Health (EVH) sold off last week and fell below its 50-day moving average line. It bounced back above it yesterday and is so far doing OK today. There’s no new fundamental news. Evolent’s mission is to help transition the healthcare industry to a value-based model from a fee-for-service (FFS) reimbursement model through use of clinical and administrative software solutions. Revenue was up 44% in Q2 and growth could approach 50% this year and close to 30% next year. Management speaks today at the BofA Healthcare Innovation Forum. BUY

Flywire’s (FLYW) firmed up over the last couple of days with the broad market. Like other positions there is no new fundamental news here. The fintech company offers industry-specific digital payment solutions for the education, healthcare, travel and business-to-business (B2B) markets that make it easier for clients to get paid and for their customers to make secure, efficient electronic payments. I continue to think it’s worth being patient on buying our second half position as the stock rolls with the broad market’s punches. BUY HALF

Ingles Market (IMKTA) was sold. SOLD

Inspire Medical Systems (INSP) has logged four consecutive up days (prior to today) following the stock’s retreat from 212 (September 12) to 171 (September 22). This could be an opportunity to step in and try to snag a short-term gain even if the market remains in a bit of a funk, however I’m not officially changing from hold rating today. HOLD

Procept BioRobotics (PRCT) was back near its 50-day line at 41.5 at the close yesterday after falling as low as 36.7 last Friday. The only somewhat recent news is the contract (reported on last week) with a Western U.S.-focused health system (Providence) to supply AquaBeam Robotic Systems. Keeping at hold. HOLD

Rani Therapeutics (RANI) is a very early-stage biotech company and as such most of the bigger moves come around trial data releases. The next potential stock-moving events will be data of the repeat-dose portion of the phase 1 RT-102 study (due in Q4), initiation of the third phase 1 study to further develop the high capacity RaniPill, and/or the pre-IND meeting with FDA for the phase 2 RT-102 study (also in Q4). HOLD

Repligen (RGEN) had a very tough go of it last week as the stock fell below its 200-day moving average line to about 177, which was roughly 30% below the August high. That’s despite comments from management at the company’s Analyst Day that they were bumping up their long-term financial guidance to $2 billion in revenue by 2027-28. That suggests average growth of 20% a year, which is slightly above expectations. Repligen has recently entered into an exclusive license with DRS Daylight Solutions to expand the use of that company’s mid-infrared technology in the bioprocessing market. The stock is bucking the broad market’s move so far today and is up fractionally. HOLD

Sprout Social (SPT) held up better than most higher growth names through last week’s selling and the stock remains in its relatively tight trading range. Granted, there’s a lot of work to be done before we can say SPT looks “good” but the pattern of higher lows is a good start. HOLD HALF

TransMedics Group (TMDX) suffered a swift decline over the last two weeks but firmed up near 40. In the short-term defending that price level would be a win. We took partial profits (of 47%) prior to the bulk of the decline and will stick with a three-quarter position now. HOLD 3/4

Xometry (XMTR) succumbed to the broad market’s selling last week and sold off from the recent high of around 62 to about 54. Like TMDX we’re looking for some stability after this retreat. HOLD

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