December 27, 2021

As we enter the final week of the year, the leading indexes remain strong, while less popular indexes are weaker. Still, there are pockets of strength, including energy stocks, and that’s where we find this week’s recommendation.

As for our current holdings, most look good, but we have two sells today, of long-time holdings which have brought us healthy profits.

Details inside.

New Recommendation

The S&P 500 hit another new high today, so if you own that index, or the stocks in it, great. But behind the scenes, the majority of stocks are not doing so well. In fact, the trend has been down long enough that Cabot’s intermediate-term market timing indicator is in bearish territory. Still, there are pockets of strength, and one of them is the energy sector, where we find today’s recommendation. The stock was originally recommended by Mike Cintolo in Cabot Growth Investor and here are Mike’s latest thoughts.

Devon Energy (DVN)
I’ve been a growth stock guy ever since my dad subscribed to The Cabot Market Letter (now Cabot Growth Investor) back in 1995. I even remember having a couple of job interviews out of college with a value-based investment shop in western Massachusetts; they were really sharp guys and gals, and really nice, but after thinking it over, I told them it wasn’t for me. Growth was in my blood.

And yet here I am, recommending an oil stock and doing so enthusiastically. But the reason I like the group—and Devon Energy in particular—has little to do with any oil price forecast. Instead, it’s because the industry has transformed itself from a debt-heavy, growth-at-any-price mindset to a conservative, cash cow-based reality. And that is changing perception among big investors, more of whom are building positions as they see good results even at modest energy prices.

Devon is our pick of the litter for a few reasons. First, in terms of assets, it’s spread out nicely: The Delaware Basin makes up 70% of its output, but Devon also does business in the Williston, Powder River and Anadarko Basins, along with the Eagle Ford. And those areas provide a diversified output mix, with half oil, a quarter natural gas and a quarter gas liquids. The firm believes it has 10 years of drilling inventory within its current acreage.

Second, the firm was one of the first to get its house in order, cutting costs while retiring debt and freeing up resources. Earlier this year, Devon used its liquidity to buy up WPX Resources on the cheap, but it remains in great financial shape; at the end of September, all debt due through 2030 totaled $2.5 billion, which is less than 1.5 times Devon’s free cash flow from the prior two quarters alone.

With all the pieces in place, Devon is cranking out ridiculous amounts of free cash flow (after all CapEx). In Q1, the figure came in around 38 cents per share. In Q2, it lifted to 87 cents. And then in Q3, the firm produced $1.66 of free cash flow! And a lot of that is being returned to shareholders; Devon pays an 11-cent fixed dividend, but has been returning about half of the rest, too. In December, it paid 84 cents per share total to shareholders. Not bad.

Moreover, 2022 looks even brighter. If oil averages $70 next year and natural gas averages $4 (both around current levels), Devon believes it will earn about $6.30 in free cash flow per share (!), which in turn will lead to (a) something around $3.25 in dividends, (b) share buybacks that total 3% to 4% of all shares, (c) $500 million more of debt reduction and (d) the rest boosting the already-large cash balances.

Of course, it’s possible oil prices fall below $70 and stay there for a while, but even there, Devon should still put up some healthy numbers—by our guesstimates, $55 oil and $3.50-ish natural gas would still bring $4-plus in free cash flow per share next year, leading to north of $2 in dividends and plenty more in buybacks, debt reduction, etc.

While I enjoy getting a dividend credited to my brokerage account as much as anyone, I think the bigger idea here is the aforementioned change in investor perception—if big investors know Devon (and many peers) is going to be yielding 4%, 5% or 6% even in a soft environment (plus reducing debt and stockpiling cash), they’ll have more conviction in building positions—which will drive prices higher.

I think that process is in the middle innings of playing out now. From their closing peak in late October through last week, oil prices fell about 13% while natural gas prices are down 40% (from a spike high). But DVN was actually up 3% over that time, not including the 84-cent dividend that was paid out—a strong sign that big players are supporting DVN on dips.

Last week was another good example; shares sank with the market to as low as 36, but by week’s end, the stock was back in the low 40s. Near-term, further wiggles are possible, but the story, numbers and chart action tell us the next big move is up.

Current Recommendations and Changes

Current Recommendations

With year-end factors now in full swing (tax selling, window dressing, light volume), stock charts are temporarily less reliable than normal—but that will change as the new year gets going. For now, the course is clear; continue to hold the stocks that are doing what they were hired to do, while selling those that aren’t. Today, two stocks fall into that category. Details below.

Changes
Ambarella (AMBA) to Hold
Coinbase (COIN) to Hold
HubSpot (HUBS) to Sell
Sea, Ltd (SE) to Sell

Ambarella (AMBA), originally recommended by Mike Cintolo in Cabot Top Ten Trader, makes state-of-the-art computer vision chips that are in great demand by intelligent vision systems. Last week in Cabot Growth Investor, Mike wrote, “AMBA was walloped during the past couple of weeks, which prompted us to go to Hold, but it held above its prior low and has now bounced above its 50-day line—the action has been tedious, but chart-wise, the stock is still among the more resilient names in the market. The firm has a Capital Markets Day on January 4 that could move the stock; we’ll be looking for any mid-range forecast (next year or two) that could bring more big investors into the fold. Right here, the bounce is encouraging, but we’ll stay on Hold.” I too like the bounce but note that the volume on the bounce has been light (partially because of the holiday period). In any case, I’ll move to Hold, too. HOLD

Bristol-Myers Squibb Company (BMY), originally recommended by Bruce Kaser in Cabot Undervalued Stocks Advisor for his Growth/Income Portfolio, has been trading in a narrow range over the past week, consolidating its big gains of the past month. In his update last week, Bruce wrote, “The company announced it is purchasing global exclusive rights to an experimental cancer treatment owned by Immatics (IMTX), a German early-stage biotech company. Bristol will make an upfront payment of $150 million with follow-on payments totaling up to an additional $770 million based on reaching various milestones. If commercialized, Bristol will also pay royalties to Immatics. We like these types of transactions as they greatly reduce the risk of acquiring treatments compared to the large, upfront and speculative payments involved in whole-company acquisitions.

“We see the collapse of the Build Back Better bill as a positive for pharmaceutical stocks, as it at least temporarily removes the risk of onerous price regulations.

“BMY shares moved up another 4% in the past week and are up 14% since troughing in early December. The shares have about 27% upside to our 78 price target. Valuation remains remarkably low at 7.9x estimated 2022 earnings, compared to 11x or better for its major peer companies. The stock’s 7.3x EV/EBITDA multiple is similarly cheap, compared to 9-10x or better for peers.” BUY

Broadcom (AVGO), originally recommended by Tom Hutchinson in Cabot Dividend Investor for his Dividend Growth Tier, has been super-strong since announcing excellent third-quarter results three weeks ago. In his update last week, Tom wrote, “This technology stock has been sizzling hot despite a tough environment for technology stocks. It’s up 17% already this month and over 36% since early October. It recently got a huge boost from a stellar earnings report and a raising of the dividend. The stock is making up for lost time after a mostly lackluster year and may have further to run.” BUY

Brookfield Infrastructure Partners (BIP), also recommended by Tom Hutchinson in Cabot Dividend Investor for his Dividend Growth Tier, remains in a long, slow uptrend. In his latest update, Tom wrote, “This infrastructure partnership is in an unmistakable longer-term uptrend, albeit a bouncy one. It soars to new highs and then pulls back, rinse and repeat. Earnings should accelerate in the quarters ahead because of a recent acquisition.” HOLD

Cisco Systems (CSCO), originally recommended by Bruce Kaser in the Growth/Income Portfolio of Cabot Undervalued Stocks Advisor, is similar to Broadcom; it’s a big old technology company with a solid yield and it’s also hitting new highs! In his latest update, Bruce wrote, “Cisco and other major tech companies are urgently working to fix vulnerabilities to the Log4j malware. The software tracks users’ keystrokes, allowing hackers to gain access to critical tech gear. While we anticipate minimal direct risk to Cisco, Log4j is one of the out-of-the-blue risks that could plague all tech companies and we thought it useful to mention it here. CSCO shares have now crossed our 60 price target. The stock trades at a post-dot-com peak, having surpassed its prior post-bubble high of about 58 set in mid-2019. The all-time high was set in March 2000 at just over 80. As the fundamentals continue to improve while valuation remains reasonable, we are raising our price target to 66. The shares offer a 2.4% dividend yield.” HOLD

Coinbase (COIN), originally recommended by Tyler Laundon in Cabot Early Opportunities, operates an exchange where all the big cryptocurrencies are traded, so prospects for growth as the industry expands are enormous. At the same time, so is risk, as there are few barriers to entry in the industry and the stock, which has been public since April, is highly valued ($60 billion) and highly volatile. Tyler now has the stock rated Hold, mainly because the upside momentum has pretty much vanished, and given that it’s now our biggest loser, I’ll join him there, but it is encouraging to see the stock gapping up today. HOLD

Floor & Décor (FND), originally recommended in Cabot Growth Investor by Mike Cintolo, remains in its long uptrend, though it hasn’t hit a high since the first week of November. In his update last week, Mike wrote, “FND dipped as low as 117 on Monday morning, nearly tagging its 40-week line (at 116.5) before rebounding nicely—we’re hopeful that may prove to be at least a near-term shakeout that clears the decks for a ‘real’ rally; we still believe the next major move will be up. As always, we’ll see how it goes. We had been using a 120-ish mental stop, though with the 40-week line approaching, we may lower that by a point or two to better align with the chart. Either way, if you own some and have sat through the tediousness so far, we advise hanging on.” HOLD

HubSpot (HUBS), originally recommended by Tyler Laundon in Cabot Early Opportunities and then by Mike Cintolo in Cabot Top Ten Trader, has weakened further over the past two weeks, falling below the 700 level that I mentioned, and I’m now moving it to sell. Main reasons: Our gain has now been cut in half, and the stock looks like it could easily fall further. SELL

Marvell Technology (MRVL), originally recommended by Carl Delfeld in Cabot Explorer, peaked at 94 after releasing third-quarter earnings a month ago, pulled back to 82, and is now back to 90—pretty impressive! In his update last week, Carl wrote, “’MRVL has added 16 points in the last month and closed this week at 88. It is a great semiconductor play with seven out of the top 10 automotive original equipment manufacturers (OEMs) purchasing Marvell chips; the company is set for a solid growth trajectory in this market. Marvell’s semiconductor products are in high demand and the stock is up more than 80% this year.” BUY

Sea, Ltd. (SE), originally recommended by Mike Cintolo in Cabot Top Ten Trader, and then Carl Delfeld in Cabot Explorer, has been a big winner since we recommended it nearly two years ago, but now it’s time to part company; the stock has simply lost all momentum. Carl has been advising his readers to take partial profits for quite some time, but now it’s time to exit completely—and move on. SELL

Sensata Technologies (ST), originally recommended by Bruce Kaser for the Buy Low Opportunities Portfolio of Cabot Undervalued Stocks Advisor, remains in a trading range, setting up for a breakout (eventually) above its March high of 65. In his update last week, Bruce wrote, “Sensata shares have about 32% upside to our 75 price target. The shares appear range-bound between 55 and 60 for now, but continued steady earnings growth will expose the undervaluation, with the shares trading at only 12.1x estimated 2023 earnings despite healthy margins, a solid business franchise and an underleveraged balance sheet.” BUY

Tesla (TSLA), originally recommended by Mike Cintolo in Cabot Top Ten Trader, dipped as low as 886 last Tuesday, effectively closing the gap that had appeared after the company’s earnings report in late November, and over the past four days it’s rallied strongly higher. Fundamentally, I continue to have great expectations for the company, both in the automotive business and the energy industry, but as an investment, I think the stock is overexposed and overvalued, and that there are far better opportunities in lesser-known stocks. HOLD

U.S. Bancorp (USB), originally recommended by Tom Hutchinson in Cabot Dividend Investor for his Dividend Growth Tier, is a slow-moving stock with a good dividend, and while the stock has done nothing for us yet, Tom thinks it’s only a matter of time. In his latest update, he wrote, “The yield curve has been going the wrong way, and so has USB. Although most elements of the bank’s business are booming, the most important one, net interest income, has been weaker. But, as I mentioned above, the pressures of inflation and a strong economy combined with the Fed tapering is likely to put upward pressure on rates next year. That missing piece of the puzzle should drive the stock higher.” BUY

Veeco Instruments (VECO), originally recommended by Carl Delfeld in Cabot Early Opportunities, is an American high-quality provider of state-of-the-art semiconductor fabrication equipment. The company delivers the leading-edge technology to U.S.-based and international high-end chipmakers, some of which are 100% reliant on Veeco technology. In his update last week, Carl wrote, “Revenue growth for 2021 is expected to be up 30% and even better for earnings. Veeco is growing earnings at a 20% clip and represents a backdoor play on semiconductors. I recommend that you acquire shares if you have not already done so.” BUY

Verano Holdings (VRNOF), recommended by yours truly in Cabot Marijuana Investor, is the fifth-largest vertically integrated multistate operator in the U.S. marijuana industry, with 89 retail locations in 11 states (Illinois, Florida, Arizona, New Jersey, Pennsylvania, Ohio, Nevada, Maryland, Massachusetts, Michigan, Arkansas) as well as 12 cultivation and production facilities—so the future is bright. But marijuana stocks have been under pressure since peaking in February, in part because hopes for legalization in the U.S. have been unfulfilled. Still, the stocks will eventually turn up again, and VRNOF is clearly the strongest stock of the leading five companies at this point. BUY

Visa (V), originally recommended by Tom Hutchinson in Cabot Dividend Investor for his Dividend Growth Tier and featured here two weeks ago, is a well-known company whose stock is temporarily cheap. In his update last week, Tom wrote, “This company makes money every time its cards are swiped. And its cards comprise about a 50% share of all cards issued worldwide. It’s one of the best financial stocks to own. And the best days of the recovery are ahead. The international recovery has yet to catch up to the U.S. This stock has been moving up fast after being knocked back on minor issues.” BUY

WillScot Mobile (WSC), originally recommended by Mike Cintolo in Cabot Top Ten Trader, may have the least exciting story of any stock recommended here; the firm is the leading provider of mobile storage solutions in the U.S., providing developers and contractors with everything they need at job sites. The stock remains in a strong uptrend, well above all its moving averages, and thus is attractive for momentum investors. BUY

The next Cabot Stock of the Week issue will be published on January 3, 2022.