Cabot Stock of the Week Issue: May 22, 2023

Stocks had a bit of a breakthrough last week, with both the S&P 500 and the Nasdaq hitting their highest points since last August. But it’s possible those peaks will be short-lived, since right now the indexes are at the mercy of the debt ceiling. If a deal is reached in the next couple weeks before the deadline, then perhaps the rally will have legs.

But the closer we get to the doomsday scenario without a deal, the more likely stocks are to pull back, as they did in July 2011 when Congress came within 72 hours of defaulting on its debt. That year, the S&P declined 11% in the final 10 days before a deal was struck. Expect similar selling to commence if Congress continues to drag its feet this time.

To prepare for such a scenario, or worse, today we’re adding some insurance in the form of an MLP-adjacent stock in the infrastructure sector. It’s a name that will look familiar to long- or intermediate-term Stock of the Week readers … only a little different. I’ll let Tom Hutchinson, who recommends the stock in his Cabot Income Advisor newsletter, explain …

Brookfield Infrastructure Corporation (BIPC)

BIPC is stock representing shares in the same entity as the original Brookfield Infrastructure Partners (BIP), except that instead of a Master Limited Partnership (MLP) BIPC is in the form of a regular corporation.

Unlike an MLP, BIPC doesn’t generate a K-1 form at tax time or have special tax implications in a retirement account. Dividends generate a regular 1099 and are taxed at the maximum 15% (or in some cases 20%) rate. Shares are also more actively traded because funds and institutions that are prohibited from buying MLPs can now buy them.

Since the BIPC shares were established in early 2020, they have significantly outperformed BIP shares. Since BIPC started trading, shares have returned 138% compared to 74% for BIP over the same period. That’s because demand for shares is higher because more investors can buy them and others find owning a regular corporation more desirable.

Bermuda-based Brookfield Infrastructure Corporation (BIPC) owns and operates infrastructure assets all over the world. The company focuses on high-quality, long-life properties that generate stable cash flows, have low maintenance expenses and are virtual monopolies with high barriers to entry.

Infrastructure is defined as the basic physical structures and facilities needed for the operation of a society or enterprise. It includes things like roads, power supplies and water facilities. Not only are these some of the most defensive and reliable income-generating assets on the planet, but infrastructure is rapidly becoming a more timely and popular subsector.

The world is in desperate need of updated infrastructure. The private sector is filling the need as governments don’t have all those trillions lying around. Limited partnerships, giant sovereign-wealth funds, and multilateral and development-finance institutions are raising billions of dollars a year for infrastructure investments. It’s almost becoming a new asset class.

As one of the very few tested and tried hands, Brookfield is right there. It’s been successfully acquiring and managing these properties for more than a decade in a way that delivers for shareholders. Since its IPO in 2008, the original BIP has provided a total return of 842% (with dividends reinvested) compared to a return of 303% for the S&P 500 over the same period. And those returns came with considerably less risk and volatility than the overall market.

Brookfield operates a current portfolio of over 1,000 properties in more than 30 countries on five continents. The company operates four segments: Utilities (30%), Transport (30%), Midstream (30%) and Data (10%).

Assets include:

• Toll roads in South America
• Telecom towers in India and France
• Railroads in Australia and North America
• Utilities in Brazil
• Natural gas pipelines in North America
• Ports in Europe, Australia and North America
• Data centers on five continents.

The dividend is rock solid with a low 70% payout ratio and a history of steady growth. The payout has grown by a CAGR (compound annual growth rate) of 10% per year since 2009 and the company is targeting 5% to 9% annual growth going forward.

BIPC is a good long-term investment anytime, as the above numbers illustrate, but it is particularly attractive now because it’s relatively cheap and can well navigate both inflation and recession. The stock price has spiked about 13% since the beginning of this month on strong earnings but it’s still well below the 52-week high.

The infrastructure company reported solid earnings in the first quarter with funds from operations (FFOs) per share growth of 12.5% over last year’s quarter. The company benefited from recent expansions and acquisitions but also showed solid organic growth. Meanwhile, the average S&P 500 stock had negative year-over-year growth for the first quarter.

Roughly 85% of revenues are hedged to inflation with automatic adjustments built into its long-term contracts and its crucial service assets are very recession resistant, and earnings should remain strong even if there is a recession later this year. It also helps that the stock pays a solid and growing dividend.

Current Recommendations

Changes Since Last Week:
Gates Industrial Corp. (GTES) Moves from BUY to SELL
On Holding (ONON) was SOLD
Realty Income (O) Moves from HOLD to SELL
Xponential Fitness (XPOF) Moves from BUY to HOLD

Our portfolio is getting a bit of a shake-up this week. First, we sold On Holding (ONON) in a special bulletin last Friday after the stock fell like a rock on earnings. And today we have two more sells – Gates Industrial (GTES) and Realty Income (O) – plus another rating downgrade (XPOF). That leaves us with 18 stocks, meaning we’re no longer bumping up against our 20-stock cap. Hopefully that means we’ll be able to do nothing but add for the next two weeks, though as I mentioned at the top, that may depend on a debt deal getting done.

One programming note before we get into this week’s updates: Because next Monday is Memorial Day, our next issue comes out Tuesday, May 30.

Now, on to this week’s latest …

Updates

BYD (BYDDY), originally recommended by Carl Delfeld in his Cabot Explorer advisory, broke out this week, rising to 64 for the first time since early February. There was no major news, although the company did recently hire between 4,000 and 5,000 software engineers. The company is already China’s largest electric vehicle maker and saw its sales triple in 2022, with 1.85 million EVs sold. The potential here is immense. BUY

Comcast Corporation (CMCSA), originally recommended by Bruce Kaser in the Growth & Income Portfolio of his Cabot Value Investor advisory, has held most of its gains since a big post-earnings gap up from 36 to 41 a few weeks ago. In his latest update, “NBCUniversal’s head of advertising is leaving to become the CEO of Twitter. The Comcast unit has a deep bench, and becoming the head of any major company, particularly a high-profile company like Twitter, is a perfectly valid reason to leave. However, there is another executive departure at NBCUniversal following the recent termination of division chief Jeff Shell related to admitted inappropriate behavior. The two departures don’t appear to be related, although they do raise some questions.

“Comcast shares … remain just below our 42 price target, so we are reviewing these shares for either raising our price target or for selling. In the interim, the shares are rated as HOLD.” Since we don’t set price targets in Stock of the Week, we’ll keep the stock at Buy. BUY

Eli Lilly and Company (LLY), originally recommended by Tom Hutchinson in the Dividend Growth Tier of his Cabot Dividend Investor advisory, broke out of its monthslong 427-435 trading range to hit new all-time highs! In his latest update, Tom wrote, “LLY continues to blow away the market. It’s up over 38% since being upgraded to a Buy in early March and just made another new all-time high. The stock got a huge bump after the earnings report when it reported very promising results from its obesity drug tirzepatide. Obesity is a massive problem, and this seemingly superior drug has mega-blockbuster potential. The following week, Lilly reported promising trial results for its Alzheimer’s drug, another potential blockbuster that could be approved within the year.” BUY

Gates Industrial Corp. (GTES), originally recommended by Bruce Kaser in the Buy Low Opportunities Portfolio of his Cabot Value Investor advisory, is being sold off mercilessly after the company’s earnings per share came up a penny short of estimates earlier this month. It’s down 18% since then, with no bottom in sight. Let’s sell now before it falls any further. MOVE FROM BUY TO SELL

Green Thumb Industries (GTBIF), originally recommended by Michael Brush in Cabot Cannabis Investor, mostly held serve this week after a sharp pullback in its first week in the portfolio thanks mostly to apparent stagnation of momentum in the push for the SAFE Banking Act, which would make banking services available to cannabis companies. Despite stalled talks, there’s still hope for a push from Congress, and any positive news seems to trigger an immediate (if short-lived) run-up in cannabis share prices. Let’s see where it goes from here. BUY

Kimberly-Clark de México (KCDMY), originally recommended by Carl Delfeld in his Cabot Explorer advisory, was down about 5% this week, dipping below 11 for the first time since April. There was no news. The company is the Mexican subsidiary of Kimberly-Clark (KMB) and produces and sells in Mexico and overseas a wide range of consumer paper products. It’s a play on Mexico’s manufacturing discount, which is drawing interest thanks to wages that are 25% lower than in China and the U.S. BUY

Las Vegas Sands (LVS), originally recommended by Mike Cintolo in Cabot Top Ten Trader, held firm at 60 this week but is down from the high 64s at the start of the month. In his latest update, Mike wrote, “LVS has fallen back into its base—par for the course these days—but we still see a decent setup if the stock can find its footing. Fundamentally, all signs point toward more big EBITDA gains ahead as Macau travel picks up.” BUY

Microsoft (MSFT), originally recommended by Tyler Laundon in Cabot Early Opportunities, keeps tacking on points to hit new 52-week highs! Actually, at 321 the stock is at its highest point since December 2021. MSFT and its mega-cap brethren (NVDA, AAPL, META) have been propping up the market, especially the Nasdaq, of late. But at the forefront of the explosion in artificial intelligence thanks to its Bing and ChatGPT features, and possibly nearing a $69 billion purchase of video game giant Activision Blizzard, Microsoft has loads going for it right now. So even with the stock up 34% year to date and hitting new highs, I’m keeping it at Buy. BUY

Novo Nordisk (NVO), originally recommended by Carl Delfeld in his Cabot Explorer advisory, has been in a range between 167 and 171 since an earnings breakout earlier this month. As Carl noted in his latest update, “The drugmaker, in the first quarter this year, saw sales of its obesity medications Wegovy and Ozempic rise more than three-fold and 59%, respectively. The company expects $40 billion of revenue across its four major franchises in 2024 consisting of diabetes, obesity, rare diseases, and cardiovascular disease but we must be alert as new competitors are emerging.” BUY

On Holding (ONON), originally recommended by Mike Cintolo in Cabot Growth Investor, was sold in a special bulletin on Friday. Mike sold a couple days before us, last Wednesday, once the stock started to truly go south. Here’s what he wrote, “As with most of our names, nothing has changed with our view of On Holding fundamentally—it definitely still quacks like a future leader, with the Q1 report (sales up 80%, earnings tripled, both topped estimates) showing demand is huge. There were reportedly worries that the top brass didn’t hike estimates enough, and that inventories built a bit, but both are easily explained away (conservative guidance; management forecast the Q1 rise in inventories last quarter and said they’d fall by year-end). Despite all of that, the meat grinder environment saw the stock fall sharply after the report—the first day was unpleasant but acceptable, but Wednesday’s plunge through the 50-day line and poor close was too much for us. We’ll still keep a distant eye on ONON going forward—like we wrote above, the fundamentals are definitely still there for big investors to get heavily involved over time; plus we’ve seen some intriguing snapbacks of late—but at this point the trend has cracked and we cut bait in yesterday’s special bulletin.” We waited a couple days to see if ONON might bounce back. It didn’t, so we sold too. SOLD

Realty Income (O), originally recommended by Tom Hutchinson in Cabot Dividend Investor, fell below support at 61 and is now staring up at its 200-day moving average. While our loss is still fairly modest, O just hasn’t done much for us in the six months since we added it to the portfolio, so let’s cut ties here and open up another spot for a stock with more potential upside in the weeks ahead. MOVE FROM HOLD TO SELL

Spotify (SPOT), originally recommended by Mike Cintolo in his Cabot Top Ten Trader advisory, had a good first week in the portfolio, rising 3.5% to hit a new 52-week high above 149! There was no news – the stock’s ascent was likely in sympathy with last week’s Nasdaq rally. But we’ll take it. As Mike wrote in this space last week, “Spotify still has great potential—it’s the leading music streaming platform out there, with around one-third of the market, and it’s made huge gains in podcasts as well (they’re paying Joe Rogan a boatload to be on their platform, though there are dozens others to listen to as well). Thus, while costs were high (including acquisitions—it made four small ones last year), the firm has grown nicely, with subscribers nearly tripling during the past few years even as the stock has struggled. And the big idea here is that, with the business a bit more mature, management is focused on cash flow, and that has the stock in a turnaround phase.” BUY

Tesla (TSLA), originally recommended by Mike Cintolo in Cabot Top Ten Trader, had its best week since March, advancing nearly 10%, mostly in sympathy with the market. News that the company is offering up to $2,800 “discounts” – not yet another price cut, the company insisted – on its signature Model 3 cars to help work through its inventory glut. With deliveries slipping in the latest quarter, Tesla has more unsold cars on its hands than expected and has been cutting prices to try and unload them. This time, the market seems to approve, as shares are up from 176 to 185 in the two trading days since the Model 3 discounts were announced. We’ll see if that momentum can carry over into this week. HOLD

Uber (UBER), originally recommended by Mike Cintolo in Cabot Growth Investor, extended to new 52-week highs above 39 this week. In his latest update, Mike wrote, “UBER has held up very well since its multi-day liftoff two weeks ago, with just a little weakness of late as the broad market has run into more difficulties. Fundamentally, huge cash flow growth from here looks like nearly a sure bet.” BUY

Ulta Beauty (ULTA), originally recommended by Mike Cintolo in Cabot Top Ten Trader, is in a tailspin. Since topping out at 551 a share in both early and late April, it’s down nearly 12%. The latest headwind was a price target cut from Oppenheimer, which reduced its target to 575 from 600 (still well ahead of the current price). A potential saving grace is that earnings are due out this Thursday (May 25), and the last few earnings reports have served as major launching pads for a run-up in the share price. Analysts anticipate an 8.1% improvement in earnings per share on a revenue increase of 11.5%. Those estimates may be conservative: Ulta Beauty’s last four earnings reports have surprised to the upside by double-digits on EPS. Still trading north of its 200-day moving average, we’ll keep ULTA at Buy for now. But a rare earnings miss, or any further weakness in the share price, could have us rethinking that stance on what until the last month was one of our best stocks. BUY

UnitedHealth Group (UNH), originally recommended by Tom Hutchinson in Cabot Dividend Investor, is testing support just below 480, but so far is holding up OK. In his latest update, Tom wrote, “This recent portfolio addition has strong predictable revenues in a very defensive business ahead of a likely recession later this year. UNH has been a terrific stock to own in any market, as its three-, five- and 10-year returns attest. But it is also the epitome of a stock to own during an economic downturn. It pulled back since being added to the portfolio, but I expect the stock to be solidly higher in the months ahead.” BUY

Visa Inc. (V), originally recommended by Tom Hutchinson in Cabot Dividend Investor, has been mostly holding in a tight range between 231 and 234. In his latest update, Tom wrote, “V has been hanging very tough near the high point of the recent range. The payments processing company once again exceeded expectations on earnings. Visa grew earnings per share by 17% and revenues grew double digits versus last year’s quarter. And this is what the company does in a bear market with the economy slowing. It can really take off when the market recovers for good. V should be higher by the end of the year but there is a chance it pulls back somewhat after moving to recent highs.” BUY

Wingstop (WING), originally recommended by Mike Cintolo in Cabot Growth Investor, keeps holding steady after a big earnings gap in early May. In his latest update, Mike wrote, “After a great earnings report, WING saw (what else) selling on strength, but that’s OK—while tedious, the stock saw just one above-average volume decline (the day after its earnings pop) and is trying to find some support near the 200 level and its 25-day moving average. Earlier this month the firm opened its 2,000^th location, and one thing we’ve liked about the company for years is that they’re thinking big, aiming to have 7,000 restaurants around the globe eventually. And with same-store sales soaring (19 straight years of gains in this metric, which was up a whopping 20% in Q1), the store economics continue to improve—the average domestic restaurant pulled in $1.7 million of revenue (annualized) in Q1, up from $1.6 million a couple of years ago and the top brass believes it’s headed to $2.0 million down the road.” BUY

WisdomTree Emerging Markets High Dividend Fund (DEM), originally recommended by Carl Delfeld in his Cabot Explorer advisory, is a rock. It keeps holding in the 37 to 39 range, unaffected by all the volatility and turbulence virtually everywhere else in the market. Our lone ETF offers a high dividend yield and some of the highest-quality emerging market stocks. The fund gives broad exposure with an emphasis on income and value. BUY

Xponential Fitness (XPOF), originally recommended by Tyler Laundon in his Cabot Early Opportunities advisory, has broken down, falling from 33 to 27 this month, with most of the selling coming after earnings in early May. The earnings weren’t bad at all, with revenues up 40% and EPS losses narrowing to almost nothing (-$0.02). Management said they see full-year 2023 revenue higher than previously expected, in a range of $295 - $300 million (+20%), which straddles consensus of $295 million. They also see net new studio openings in the range of 540 to 560 (+8% over 2022). Adjusted EBITDA, a measure of profitability, is seen up 40% to a range of $102- $106 million. So, the growth story with this leader in the boutique fitness studio and fitness brand space remains very much intact. But the stock has come back to Earth after soaring since last summer. I advised selling a few shares at the top in April given that our return was north of 80% at that point. Now, let’s simply hang tight, and downgrade shares from a Buy to a Hold with the expectation that a bottom is in sight. MOVE FROM BUY TO HOLD

The next Cabot Stock of the Week issue will be published on May 30, 2023.