February 14, 2022

Note: Due to the Presidents’ Day holiday, when the stock market is closed, your next issue of Cabot Stock of the Week will be published on Tuesday, February 22.
This week’s stock comes from a recent issue of Cabot Top Ten Trader, which is always on top of the market’s strongest stocks—recently has included a lot of energy and financial stocks. This is one of them.

As for the current portfolio, we come into this week holding 16 out of a possible 20 stocks, and …

Details inside.

New Recommendation

With the market still in correction mode, despite some signs of resilience last week, I’m continuing to favor three kinds of stocks. The first are lower-risk stocks that pay dividends and/or are just plain cheap and thus lower risk. The second are undiscovered stocks that are likely to move higher as their stories become better known. And the third are stocks in today’s strongest sectors, namely energy and financial. That last group includes today’s recommendation, which was recently recommended by Mike Cintolo in Cabot Top Ten Trader. Here are Mike’s latest thoughts.

Stifel Financial (SF)
Stocks are firmly in a correction, with the most resilient major index (S&P 500) down 8% from its high, while the growth-oriented Nasdaq sits 15% down from its peak and growth-oriented funds are splattered all over the floor. Thus, you’d expect Bull Market stocks to be circling the drain. Instead, more than a few of them have snapped back during the past three weeks toward new highs!

The reason, we think, is that many of these firms are set to benefit from most of the likely scenarios for 2022 and beyond, as the Fed is very likely to hike rates, which will boost interest income and fall right to these companies’ bottom lines. Plus, the economy still looks relatively healthy. It’s likely to slow, but few experts are expecting the bottom to fall out (that’s one reason so many expect a half dozen rate hikes this year), which means solid business ahead.

Of course, there are many big players in the group, but one smaller outfit (market cap of $8.1 billion) is Stifel Financial, which has a track record as good as any in the industry (2021 was Stifel’s 26^th straight year of record revenue!). The company operates in two main segments that bring in about equal amounts of revenue. The first is its global wealth management outfit, which has north of 2,300 financial advisors that have $436 billion of assets under management (up 22% from a year ago). Then there’s Stifel’s institutional business, with the customary capital raising and advisory offerings you’d expect.

A big part of the story here, and a big reason for the consistent growth, is the firm’s gradual shift away from transaction-related revenues. A decade ago, transaction revenue made up half of the wealth management business’s top line and nearly two-third of the institutional business. But today, while still healthy (2021 was the firm’s second largest total ever), transaction-related revenue is down to around one-third of revenues while more dependable components like interest income (driven by loan growth, which came in at 45% in Q4) and asset management fees have grown faster. That dependability was a big reason the firm just doubled its dividend (now 1.5% yield).

Of course, if the market stays down, you’d expect some areas of the company’s business to soften—last year was a boon for investment banking (both capital raising and advisory services), which made up north of 30% of revenue—but that should be offset by the liftoff in interest rates. According to the top brass, pre-tax income should rise north of $200 million (something around $1.75 per share) for every 1% rise in the Fed funds rate. Indeed, that’s likely what Wall Street is modeling, as analysts see Stifel’s earnings up just 5% this year after 2021’s step-function increase (from $4.56 to $7.08 per share).

Even so, we think there’s a chance for a Goldilocks scenario here, where the Fed raises rates a few times, but the economy remains healthy and the stock market (though it probably needs some time) gets going again—presenting the best of all worlds for Stifel.

As for the stock, it had a post-vaccine rally with the entire market through April and then had two modest corrections in the months that followed; net-net, SF did nothing for nearly nine months. But after shaking out with the market in January, shares have surged back to their highs (actually out to new highs before a pullback late last week), so it certainly appears that SF wants to head higher if the market can stabilize.

Current Recommendations and Changes

Current Recommendations

The addition of SF brings the portfolio to 17 stocks, still well below our full complement of 20, and while I do want to keep risk low until we have a truly healthy market again, none of the Cabot analysts are selling any of these stocks, and I see no strong reason to either—though I will remind you that it’s often smart to sell your biggest loser. Given that we did no selling last week either, odds are we’ll do some selling next week—after the Presidents’ Day holiday. Details below.

Changes Since Last Week’s Update
None

Arista Networks (ANET), previously recommended by Mike Cintolo in Cabot Growth Investor continues to sit at support in the 120 area, which is good, all things considered. In his update last week, Mike wrote, “Arista is reporting earnings next Monday (February 14) after the market closes, with sales expected to hit $789 million (up 22%) and earnings to reach 74 cents (up 19%). But as we’ve written, this is really about an expected acceleration in 2022 and beyond as the hyperscale players ramp spending—indeed, analysts see sales and earnings growth picking up steam this year (upper 20% range) despite some supply constraints. Despite its earnings hiccup, Facebook/Meta Platforms (one of Arista’s big customers) is basically confirming that an upgrade-related spending spree is coming; on its conference call, management reiterated its plans for a huge bump in CapEx this year, most for technology-related infrastructure, which is exactly what Arista’s networking offerings (including its operating system, which is the secret sauce) play into. As for the stock, it’s in decent shape: The bounce hasn’t been dramatic, but it has recouped around 40% of its decline, and at just 13% off all-time highs, it’s practically Herculean compared to most growth stocks. We’re optimistic that ANET, which only really changed character last October, can resume its leadership position during the market’s next uptrend, but let’s see what earnings bring—a very poor reaction could have us cutting bait, but we’re willing to allow the stock a good amount of leeway given its reasonable correction thus far.” HOLD

Bristol-Myers Squibb Company (BMY), originally recommended by Bruce Kaser in Cabot Undervalued Stocks Advisor for his Growth/Income Portfolio, keeps going up, and now part of the reason is the company’s fourth-quarter report, which was released last week. In his update last week, Bruce wrote, “Bristol-Myers reported healthy 4^th quarter results and reiterated its reasonably encouraging full-year 2022 guidance for flat revenues and a 4% earnings per share growth. The core business appears likely to perform well even as sales of Revlimid (27% of Bristol’s total revenues) could slide by a quarter as the treatment loses patent protection.

In the quarter, sales of $12.0 billion rose 8% (ex-currency) from a year ago and were in line with estimates. Adjusted earnings of $1.83/share rose 25% from a year ago and were 2% above the $1.80 consensus estimate. Revlimid sales grew 1%, Eliquis sales rose 18% and Opdivo sales rose 11%.

The adjusted operating margin of 39.0% rose from 34.5% a year ago due to higher gross profits and lower overhead spending.

For the full year, results for the base business were encouraging. Sales grew 9% while operating profits grew 14%, driven by subdued expense growth. The operating margin of 42.8% improved from 41.0% and was in line with Bristol’s target of “low to mid 40s.”

The company maintained its long-term 2-5% revenue growth and low to mid-40s operating margin targets, as well as its goal to generate $45-$50 billion in free cash flow from 2022-2024. If met, these results would be plenty strong enough to boost Merck’s shares significantly.

From here, the Bristol story hinges on its ability to continue to boost sales of its patented products while adding new products either from internal development or acquisition. The company has the balance sheet and cash flow to make acquisitions but appears to be disciplined in its potential purchases. Whether this discipline continues remains to be seen, however.

Bristol’s balance sheet remains sturdy with its $45 billion of debt (down 11% from a year ago) partly offset by $17 billion in cash. The company reminded investors of its new $15 billion share buyback program, of which $5 billion will be completed in the first quarter. The board remains committed to growing the dividend even as it pays down more debt.

BMY shares have about 19% upside to our 78 price target. Valuation remains low at 8.4x estimated 2022 earnings, compared to 11x or better for its major peer companies. The stock’s 8.1x 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, bounced off its 200-day moving average three weeks ago and is now roughly in the middle of its uptrending channel, looking healthy. In his update last week, Tom wrote, “This legendary technology company stock has been very bouncy. It had a big surge in December and then gave it all back and then some during the tech selloff in January. But it spiked higher again over the past few weeks as tech sector selling abated. But it’s mostly all short-term noise and external pressure because the company itself is still doing great. It’s getting a strong earnings and revenue bump in the near term from 5G, and prospects beyond are rock solid as well. We’ll see where it settles in the near term.” HOLD

Brookfield Infrastructure Partners (BIP), originally recommended by Tom Hutchinson in Cabot Dividend Investor for his Dividend Growth Tier, provides a 3.5% yield with little drama, and the chart looks great, with the stock trading very near its high. In his latest update, Tom wrote, “This infrastructure partnership reported strong earnings last week. Funds from operations (FFOs), the key earnings metric for MLPs, grew 19% from last year’s quarter. The company is benefiting from the new Inter Pipeline acquisition, which helped boost midstream segment earnings growth 70%. It’s also benefitting from indexation, as most of its contracted revenue is automatically adjusted for inflation. I expect good performance going forward. It’s a defensive stock in a volatile market and it benefits from the current inflation. (This security generates a K1 form at tax time).” HOLD

Cisco Systems (CSCO), originally recommended by Bruce Kaser in the Growth/Income Portfolio of Cabot Undervalued Stocks Advisor, fell through its 200-day moving average three weeks ago and is looking even weaker today, but Bruce is patient. In his update last week, he wrote, “Cisco is facing revenue pressure as customers migrate to the cloud and thus need less of Cisco’s equipment and one-stop-shop services. Cisco’s prospects are starting to improve under a relatively new CEO, who is shifting Cisco toward a software and subscription model and is rolling out new products, helped by its strong reputation and entrenched position within its customers’ infrastructure. The company is highly profitable, generates vast cash flow (which it returns to shareholders through dividends and buybacks) and has a very strong balance sheet. CSCO shares have 20% upside to our 66 price target. The dividend yield is an attractive 2.7%.” HOLD

Devon Energy (DVN), originally recommended by Mike Cintolo in Cabot Growth Investor, closed at another record high last Friday and is down minimally today. In his update last week, Mike wrote, “Oil stocks have been a bit up and down in recent days. The fact that this comes even as oil prices are hanging around the $90 area, along with the group having become somewhat obvious to the crowd, makes us wonder if the sector could pull in a bit more—stocks often (not always) lead the commodity. Still, that’s pretty short-term stuff, as DVN and the leaders in the group are in fine shape, mostly trending higher above their 25-day lines. While the group’s uptrend won’t last forever, it certainly still appears that investors aren’t discounting ever higher oil prices—if anything, stocks like DVN seem to be pricing in a $10 to $15 drop in oil. At $75 oil and $3.75 natural gas, this company’s free cash flow (after all CapEx) should total something like $6.30 per share this year, with a ballpark estimate of $3.50 paid out in dividends, plus 3% of shares bought back with the rest going to debt reduction. Of course, you can analyze all the numbers all you want—DVN, the sector and market are going to do what they’re going to do, so if we see a major bout of abnormal action, we will likely trim our position given our good-sized stake and big profit. But at this point, we’re comfortable just holding on and seeing what comes with next week’s quarterly report, due February 15. Given that energy prices were higher in Q4 than Q3, expectations are likely for a dividend at least as big as last quarter (which, adding the fixed portion and variable portion, came in at 84 cents per share), while all other details or updates to the shareholder return plan will likely move the stock. As always, we’ll just take it as it comes—right here, DVN is probably one of the top stocks in the market, so we’ll stay on Buy, though pullbacks are best when picking up shares.” BUY

Oracle (ORCL), originally recommended by Carl Delfeld in Cabot Explorer and featured here a month ago, is again testing support at 80. In his latest update, Carl wrote, “Oracle offers us cloud-computing high growth and margins coupled with a reasonable price. Oracle cloud services provide organizations with a single point of contact, faster computing speeds, plus lower overall costs. This allows clients to move critical workloads in weeks, or even days, instead of months. This stock is well suited to the current volatile tech markets so I encourage you to buy if you have not already done so.” BUY

Organon (OGN), originally recommended by Bruce Kaser in Cabot Undervalued Stocks Advisor, and featured here two weeks ago, was spun off from Merck in June 2021 and is a member of the S&P 500—but undervalued by the market according to Bruce. In last week’s update, he wrote, “Organon 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 36% upside to our 46 price target. The shares continue to trade at a remarkably low valuation while offering an attractive 3.3% dividend yield.” BUY

Pioneer Natural Resources (PXD), originally recommended by Mike Cintolo in Cabot Top Ten Trader, and featured here three weeks ago, closed at a record high last Friday and has pulled back minimally today. Energy stocks are obviously strong now, but no one knows how long it will last, so we’ll just ride the trend until it ends. If you haven’t bought, try to get in on a pullback. BUY

Sensata Technologies (ST), originally recommended by Bruce Kaser for the Buy Low Opportunities Portfolio of Cabot Undervalued Stocks Advisor, was at a record high of 65 just a month ago, but today it’s back down at 55, where the stock has found much support over the past year. In his update last week, Bruce wrote, “Sensata is a $3.8 billion (revenues) producer of nearly 47,000 highly engineered sensors used by automotive (60% of revenues), heavy vehicle, industrial and aerospace customers. Electric vehicles are an opportunity as they expand Sensata’s reachable market. Sensata continues to generate sizeable free cash flow, has a strong balance sheet and announced a new $500 million share repurchase program – a good move in our view as the shares are undervalued. ST shares have about 33% upside to our 75 price target.” BUY

TaskUs (TASK), originally recommended by Tyler Laundon in Cabot Early Opportunities, and featured here last week, provides customer support and customer experience (CX) services to “new economy” companies. Its client base includes Zoom (ZM), Uber (UBER), Netflix (NFLX), Coinbase (COIN), DoorDash (DASH) and Meta Platform’s (FB) Instagram, among others. The stock came public in June at 30, ran up to 85 by September, but fell back down to the 30 area in January as growth stocks retreated and the company was hit by a short attack. I think this basing area presents a good entry point. BUY

Tesla (TSLA), originally recommended by Mike Cintolo in Cabot Top Ten Trader, bounced off its 200-day moving average at 800 three weeks ago after the company reported excellent fourth-quarter results, and the stock has been basing in the 900 area since. Short term, I have no idea where the stock might go next (a lot depends on the broad market), but long term, I still recommend holding for investors with long-term gains. Interestingly, I did note that yesterday’s Super Bowl included ads for electric cars by no fewer than six companies (BMW, Chevy, GM, Hyundai, Kia and Volvo—some of which are not even in production) as well as an ad for a home charging station, Wallbox. So enthusiasm for the sector is certainly high. But TSLA, which has never purchased an ad in any media, is the farthest thing from an undiscovered bargain. HOLD

U.S. Bancorp (USB), originally recommended by Tom Hutchinson in Cabot Dividend Investor for his Dividend Growth Tier, sold off three weeks ago after a disappointing quarterly report, but the stock has bounced right back up again, so technically, is still in the trading range between 55 and 60 that’s constrained it since May. In his update last week, Tom wrote, “This regional bank stock caught fire in the first half of January as a steepening yield curve promised to juice profits. But USB gave it all back in the second half of the month as the market turned treacherous. However, rates are continuing to rise, and USB is up sharply over the past couple of weeks. Despite the near-term volatility, USB should be poised for a strong year as business is strong and should get stronger and interest rates rise.” BUY

Veeco Instruments (VECO), originally recommended by Carl Delfeld in Cabot Explorer, was hitting new highs a few weeks ago and now it’s back in the middle of its uptrending channel. In his update last week, Carl wrote, “VECO will report financials on February 16. This quality company makes the equipment and technology essential for the chip fabrication game, a business with technological and high capital barriers to entry which leads to high margins and return on equity. Veeco has a high-quality balance sheet and I recommend that you acquire shares up to a price of 30, if you have not already done so.” BUY

Verano Holdings (VRNOF), recommended by yours truly in Cabot SX Cannabis Advisor, bottomed with the entire cannabis sector late last year, and has been building an increasingly long and strong base at 10, where it has found support since October. And now the trend may be turning up, as the past few weeks have seen more buying of the best stocks in the sector. VRNOF, which is a young stock still being discovered, is my favorite buy in the sector today. BUY

Visa (V), originally recommended by Tom Hutchinson in Cabot Dividend Investor for his Dividend Growth Tier, is once again trading above all its moving averages, thanks to an excellent quarterly report. In his update last week, Tom wrote, “The card company got a huge boost from earnings a couple of weeks ago. But it has since leveled off. It reported blowout earnings last week and the stock jumped over 10% on the day of the report and spiked over 16% in a little over a week. As anticipated, international business is picking up, as are the very profitable cross-border transactions as travel returns. The stock should continue to have a good year as the company benefits from a fuller recovery in 2022.” BUY

The next Cabot Stock of the Week issue will be published on February 22, 2022.