While the market officially remains in a downtrend, various indicators in recent weeks, combined with terrible news and sentiment, tell us the market bottom may have passed. But until we see real strength, continued caution is advised.
Today’s recommendation may be too aggressive for some readers (it’s a semiconductor company, and we all know they can be volatile) but it has a good story and chart and I think it’s worth the risk.

As for the portfolio, there are no sales, just one downgrade to Hold.

Details in the issue.

Cabot Stock of the Week Issue: June 6, 2022

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While major market trends remain down, recent weeks have seen increasingly constructive behavior, tempting me to think that the correction that has pulled the market down since the start of the year might have run its course. I still recommend a cautious attitude, because we don’t have a new uptrend yet, but the combination of improving market action and absolutely horrible news does make the recent bottom look a lot like previous bottoms. Today’s stock was originally recommended by Mike Cintolo in Cabot Growth Investor (though not added to his portfolio), and here are Mike’s latest thoughts.

ON Semiconductor (ON)
In the recent market correction, the VanEck Semiconductor ETF (SMH) has fallen as much as 32.5%—and it would have been worse without the fund’s big positions in some big, sturdier companies like Intel, Broadcom and Taiwan Semiconductor. The damage among some popular former leaders (Nvidia down 55%, Advanced Micro down 49%) and some glamour names (Ambarella down 71%, Wolfspeed down 55%) was far worse.

Yet through it all, Onsemi has been a relative port in the storm, down 29% at its worst. That’s not because it’s any sort of defensive play, but because it has the right products feeding into high-growth markets today, and those markets are almost sure to grow steadily in the years ahead. It’s a stark change from years past when the company was a more typical boom-bust chip stock thanks to its mostly commodity-type products; in fact, Onsemi has actually sold a couple of fabrication plants in recent months to get out of the lower-margin business.

Which leaves the main attraction: Onsemi’s intelligent power modules, power management chips and sensing semiconductors, which are perfectly suited for a couple of big markets. The first is vehicles in general, and electric and hybrid vehicles in particular: the company’s offerings are gaining traction in automated driver assist systems (ADAS) with its sensing offerings, while everything from LED lighting to EV power conversion and charging and traction inverters (which effectively control an electric motor) is using the firm’s chips. (NIO, one of China’s largest EV makers, recently signed up for some of Onsemi’s power modules.)

But it’s not all autos, with industrial applications also being big, including energy infrastructure applications (fast charging for EVs, energy storage and solar power—On has long-term supply agreements with three of the top five makers of solar inverters), connected lighting systems in smart buildings, and factory automation (including chips for robotics and machine vision).

Onsemi also plays in the 5G, server power and Internet of Things markets, but autos and industrials are the big draw: All told, these two combined currently bring in nearly two-thirds of revenue, and that piece of the pie should rise to 75% within a few years.

That said, everything is doing well right now; in Q1, total revenues were up 31%, with all three reporting segments (power, intelligent sensing and advanced solutions) up 30% or more. And there are no supply chain issues here, with the company’s margins up nicely (operating margin a whopping 33%, up from 26% from Q4!) and with free cash flow in the stratosphere, coming in at nearly 21% of revenues during the past 12 months, while earnings more than tripled.

If you’re looking for a negative, it’s in 2023’s estimates. Whether it’s because of macro factors or fears that prices could come in as the chip shortage eases, analysts see sales and earnings up in the low single digits next year. It’s something we do consider, but (a) those estimates could easily prove conservative, as Onsemi has been trashing estimates for a few quarters, and (b) the stock is trading with a P/E of just 12, so it’s hard to say expectations are too high and could be let down.

Big investors certainly don’t seem too worried; ON was a great leader from late 2020 through all of 2021, reaching a peak just above 70 in the very first part of January. It quickly fell to 51 in the market’s first leg down—but that has essentially been the low! The stock rallied after that and did retest that level many times in April and May, but never broke down, and now ON is perking up again as some of the pressure has come off the market. All in all, shares are just 12% or so off their high, which is rarified air for anything chip- (or growth-) related.

Tim’s note: As mentioned above, Mike has not added ON to his portfolio; he remains heavily in cash because market timing is a very important part of Cabot Growth Investor. But I like the story and the chart and am willing to give it a shot as part of our diversified and still somewhat cautious portfolio.

Current Recommendations

The addition of ON to the portfolio brings it up to 15 stocks (with a maximum of 20), and I’m comfortable with that in this iffy market, particularly because so many of these stocks are lower risk. Going forward, I have no idea what the market will do—though I’m feeling more optimistic that it’s ripe for a new upleg—but by continued careful stock selection, combined with diligent cultivation and pruning of each stock as it deserves, we will continue to grow this healthy portfolio. Details below.

Changes Since Last Week’s Update
Allbirds (BIRD) to Hold

Allbirds (BIRD), originally recommended by Tyler Laundon in Cabot Early Opportunities and featured here two weeks ago (and mistakenly omitted last week), makes footwear from sustainable natural materials and is growing at a good pace. But as with any low-priced stock, its percentage moves can be big, in either direction, and we’ve been fortunate to get a good, quick profit as the market has rebounded. The stock is now trading above all its moving averages, but I can’t say it’s in an uptrend yet, so I’m going to downgrade it to Hold. HOLD

Bristol Myers Squibb (BMY), originally recommended by Bruce Kaser in Cabot Undervalued Stocks Advisor for his Growth/Income Portfolio, hasn’t moved much in the past week, and Bruce says it’s now time to sell and take profits—but I’m going to stick with it because Mike Cintolo recently recommended it in Cabot Top Ten Trader. In his update last week, Bruce wrote, “Since our recent move to a Hold rating, the shares have slipped a tad – our expectation that its upward momentum would allow us to squeeze just a bit more out of this name hasn’t come to pass. So, we are staying with our price target discipline and exiting the BMY position by moving the shares to a Sell. The position produced an approximate 36% total return since the current analyst began coverage in July 2020 and an approximate 47% total return since the initial recommendation in April 2020.” Mike, on the other hand, is holding the stock with a suggested stop at 73.5, so I’ll hold a little longer. HOLD

Broadcom (AVGO), originally recommended by Tom Hutchinson in Cabot Dividend Investor for his Dividend Growth Tier, was unusually volatile as news of the VMWare (VMW) acquisition developed, but it’s calmed down since then and is now sitting right at it 200-day moving average, which I think presents a nice entry point if you don’t own it yet. In his latest update, Tom wrote, “It’s official. Broadcom is acquiring cloud software company VMware (VMW) for $61 billion. The stock fell initially after the deal leaked but has moved nicely higher since as the market has warmed to the idea. The sheer size of the deal is startling. But Broadcom can pull it off. The tech giant has a long history of being a serial acquirer and it has served shareholders well. The stock returned almost 2,000% over the last ten years. It’s a big move away from the chip business which is notoriously volatile. It bolsters Broadcom’s superior positioning for the future of more cloud-based solutions. The company is also a buy on fundamentals outside of this acquisition. It’s solid for both the long and short terms.” HOLD

Brookfield Infrastructure Partners (BIP), originally recommended by Tom Hutchinson in Cabot Dividend Investor for his Dividend Growth Tier, bounced off its 200-day moving average last week and has been up over the past four trading days. In his update last week, Tom wrote, “This infrastructure asset owner seems to trend higher at a snail’s pace no matter what the market does. It had spiked higher in April but then realized it’s BIP and pulled back to resume its torturously slow ascent. Business is solid. And BIP is ideally suited for this market. It’s a safe dividend payer with built-in inflation protections. Just hold on and collect the dividend. It should serve you well over time. (This security generates a K1 form at tax time).” In this market, the low-risk BIP has been a welcome component of this portfolio, and for conservative investors who enjoy the dividend, it could be a very long-term hold, but I can see a day in the future where this portfolio will want to get more aggressive overall. For now, Hold. HOLD

Chevron (CVX), originally recommended by Tom Hutchinson in Cabot Dividend Investor for his Dividend Growth Tier and featured here last week, hit a new high as we recommended it and has pulled back minimally since. In his update last week, Tom wrote, “Don’t you love it. It’s a beautiful thing when an old-fashioned, blue-chip stock doubles your money in a little over a year. But timing is everything, and time is still on our side with this one. There is nothing outside of a recession in the foreseeable future to drive energy prices lower. In fact, the risk is heavily to the upside. Chevron is the most levered to oil prices of all the energy majors and will benefit from this inflation. Despite returning over 50% YTD, CVX still sells at a price/earnings ratio well below the overall market as well as its five-year average. The company expects to grow earnings by 100% this year and is well on track to do so.” BUY

Cisco Systems (CSCO), originally recommended by Bruce Kaser in the Growth/Income Portfolio of Cabot Undervalued Stocks Advisor, gapped down big three weeks ago after the company reported first-quarter results, but it’s been climbing steadily back since. In his update last week, Bruce wrote, “The fundamentals remain reasonably stable and likely to tick back upward, and profits seem likely to improve as well. If we have a recession in global tech spending, Cisco would likely feel the downturn but not as severely as other technology companies due to the mission-critical nature of its products and services. The valuation is attractive at 9.2x EV/EBITDA and 13.4x earnings, the shares pay a sustainable 3.4% dividend yield, the balance sheet is very strong and Cisco holds a key role in the basic plumbing of technology systems even if its growth rate is only modest. We are keeping our Buy rating. CSCO shares have 46% upside to our 66 price target.” HOLD

CVS Health (CVS), originally recommended by Carl Delfeld in Cabot Explorer, fell through its 200-day moving average three weeks ago, then rallied back above it, but has disappointingly dipped below it once again. In his update last week, Carl wrote, “CVS shares were a bit flat this week after adding five points the previous week. CVS Executive Vice President and Chief Financial Officer Shawn Guertin will present at the Goldman Sachs Global Healthcare Conference on June 15. CVS Health is one of the nation’s leading healthcare companies with 300,000 employees including more than 40,000 physicians, pharmacists, nurses, and nurse practitioners, and almost 10,000 stores; it’s viewed in a different category than retail companies such as Target. Nearly 70% of Americans live within three miles of a CVS and it has more than 102 million pharmacy plan members. CVS stock remains a conservative buy as it is still undervalued.” BUY

Fanuc (FANUY), originally recommended by Carl Delfeld in Cabot Explorer and featured here last week, is the world’s leading manufacturer of computerized numerical control (CNC) devices that are used in machine tools and serve as the “brains” of industrial robots. In his update last week, Carl wrote, “Fanuc shares were steady this week but up double digits since being added as an Explorer recommendation a month ago. Fanuc’s stock offers investors a great balance sheet with no debt and $7 billion in cash. In short, Fanuc is a high-quality, profitable play on a clear growth trend. Our six-month target for this quality conservative stock remains 25.” BUY

Intel (INTC), originally recommended by Tom Hutchinson in Cabot Dividend Investor for his Dividend Growth Tier, has been in a downtrend for over a year, but it’s currently above its 25-day moving average and Tom says it’s a great value, so I’m comfortable rating it a buy here. In his update last week, Tom wrote, “It’s been an awful year for technology, but INTC is down less than the sector. That’s because the stock crashed before the sector selloff and didn’t have any excess to burn off. INTC is oversold and undervalued ahead of what is likely to be a strong several years for earnings growth. Things could get a little worse in the near term, but I like the stock very much as a longer-term play.” BUY

Organon (OGN), originally recommended by Bruce Kaser in Cabot Undervalued Stocks Advisor for his Buy Low Opportunities Portfolio, nearly touched its old high two weeks ago and has pulled back normally since. In his update last week, Bruce wrote, “Organon was recently spun off from Merck. It specializes in patented women’s healthcare products and biosimilars, and also has a portfolio of mostly off-patent treatments. Organon will produce better internal growth with some boost through smart yet modest-sized acquisitions. It may eventually divest its Established Brands segment. The management and board appear capable, the company produces robust free cash flow, has modestly elevated debt and will pay a reasonable dividend. Investors have ignored the company, but we believe that Organon will produce at least stable and large free cash flows with a reasonable potential for growth. At our initial recommendation, the stock traded at a highly attractive 4x earnings. OGN shares have about 21% upside to our 46 price target. The shares continue to trade at a remarkably low valuation while offering an attractive 3.0% dividend yield.” BUY

Pfizer (PFE), originally recommended by Tyler Laundon in Cabot Early Opportunities, is coming out of a growth trough (due to the 2019 patent expiration of Lyrica) and re-igniting its growth engines courtesy of COVID-related products and transformative M&A. The stock is now trading above all its moving averages, and it yields 3.0%. BUY

Tesla (TSLA), originally recommended by Mike Cintolo in Cabot Top Ten Trader, lost half its value as it fell from last November’s high to its low of two weeks ago and I think that’s enough. In fact, if you don’t own TSLA, I think you could buy it here; the long-term prospects for the company are great. However, I’m going to keep it rated hold, thinking there are better opportunities in lower-profile stocks. HOLD

Ulta Beauty (ULTA), originally recommended by Mike Cintolo in Cabot Top Ten Trader, gapped up on big volume two weeks ago after reporting a great first quarter (unlike so many retail stocks) and has pulled back normally since. So Mike put it in Cabot Top Ten Trader again, writing, “Retail stocks went through the wringer a couple of weeks ago (Walmart and Target’s earnings crushed the group), and that knocked us out of our Ulta Beauty position—but, for some, that move now looks like a shakeout, as Ulta’s quarterly report brought the buyers back in. The major story here hasn’t changed: Ulta is the largest U.S., specialty beauty retailer, offering the widest array of products (25,000 SKUs and 6,000 brands) at its 1,318 stores, yet it still has tons of growth potential as most beauty products are sold in places like grocery stores (24% of industry sales!), drug stores (13%) and even department stores. That’s all to the good, but the reason for the stock’s strength is that business today is great and getting better: In fiscal Q1, not only did total sales leap 21% but comparable store sales (including e-commerce) were up 18%, and probably most importantly, Ulta’s margins actually headed higher (operating income was 18.7% of sales, up from 15.8% a year ago), a clear sign that the inflation bogeyman isn’t making an impact here, unlike so many retail peers. That led to earnings of $6.28 per share, which was not only up 54% but crushed estimates by $1.82 (!) and led management to boost guidance for the rest of the year. Now, none of that means Ulta is the young growth stock it was a few years back; the top brass thinks sales can grow in the mid/upper single digits in the years ahead, with somewhat faster earnings growth. But (a) growth should be reliable, and (b) the magnitude of the Q1 beat has many thinking those figures will prove too low, at least for the next few quarters. It’s a solid, dependable story where growth is likely being underestimated.” If you haven’t bought yet, try to get it under 400. HOLD

Visa (V), originally recommended by Tom Hutchinson in Cabot Dividend Investor for his Dividend Growth Tier, has been building a base at 190 for nearly six months now, but looks like it may be starting a new uptrend, as the stock has been up for four consecutive weeks. In his update last week, Tom wrote, “V has been knocked around because of economic growth concerns. But the company itself is killing it. The tremendous earnings boost it gets globally from the removal of Covid restrictions easily outweighs slower global growth or geopolitical uncertainty. Visa’s earnings blew away expectations with YOY revenue growth of 25% and 30% earnings growth. This stock is poised to move higher if the market selling pressure continues to abate.” HOLD

The next Cabot Stock of the Week issue will be published on June 13, 2022.

Analyst Bio

Timothy Lutts

Timothy Lutts is Chairman and Chief Investment Strategist of Cabot Wealth Network, leading a dedicated team of professionals who serve individual investors with high-quality investment advice based on time-tested Cabot systems.

Timothy is also the chief analyst for Cabot Stock of the Week and chief analyst of Cabot Marijuana Investor.

Under his leadership, Cabot advisories have been honored numerous times by Hulbert Financial Digest, Dow Jones MarketWatch and Timer Digest as the top investment newsletters in the industry.

After working in this business for more than 33 years, Timothy says, “There are 8 things I know.

1. The business of investing can provide great rewards to those who work at it and are willing to learn. Those who refuse to learn will lose money.
2. To succeed as an investor in growth stocks, it’s best to buy when upside potential dwarfs downside potential, to cut losses short, and to let winners run.
3. To succeed as an investor in value stocks, it’s best to buy low and hold patiently, until the stock is fully valued.
4. Your greatest enemies are your own emotions and the daily news (generally bad) which distracts you from a long-term focus. Try to ignore them both.
5. On the other hand, use your imagination to consider how great companies might evolve, remembering the power of the unforeseeable and the incalculable. When it began renting DVDs by mail, did anyone imagine Netflix could become a leading producer of content? When it began selling books, did anyone imagine Amazon would eventually sell almost everything?
6. For over two centuries, the long trend of the markets has been up, reflecting the growth of asset values, and I recommend that you invest in synch with that trend. Your greatest ally is time.
7. However, there will always be bull markets and bear markets, and you can use these to your advantage, particularly if you pay close attention to both chart patterns and investor sentiment.
8. Lastly, have faith in the ability of intelligent, innovative men and women to adapt, as they always have, and to solve the problems of the future in ways that are unimaginable to people of today. Invest in these people when you can.

Timothy has appeared on numerous podiums as an investing expert, including Bloomberg TV and the World Money Show, led Investor’s Business Daily discussion groups and been interviewed by Dow Jones MarketWatch,TopStockAnalysts.com, VoiceAmerica.com, AOL Finance and numerous other business news organizations.