Cabot Top Ten Trader Issue: August 12, 2024

Positive Under-the-Surface Action—but Remaining Patient for Now

After a very sharp dip for most major indexes and especially the Nasdaq, a bounce is underway. When looking at individual stocks, we’re fairly encouraged with what we see, with many names either taking the market’s meltdown in stride or getting whacked but quickly bouncing back on earnings; along with some other factors (like falling interest rates), it’s a good sign that there will be leadership to sink our teeth into once this correction finishes up. But, at this point, we can’t conclude the correction is over, with most major indexes and key measures still buried under resistance (such as 50-day lines) and with formerly strong areas (chips, etc.) still looking suspect. We’re not opposed to a nibble here or there in resilient names, and we’re keeping an open mind should a “V-bottom” emerge, but given the evidence, we continue to think remaining patient will pay off, as the odds favor more ups and downs in the near-term. Given some of the under-the-surface action, we’ll move our Market Monitor up to a level 5 but still think keeping plenty of cash on the sideline makes sense until the market proves itself on the upside.

This week’s list is chock-full of names that are acting great, most of which have recently shown big-volume strength after earnings. Our Top Pick is Axon Enterprises (AXON), which staged a classic earnings-induced breakout last week.

Stock 1

Axon Enterprises (AXON) ★ Top Pick ★

Why the Strength
Axon Enterprises is the leading technology and electrical weapons provider to law enforcement, corrections facilities and even federal and state agencies in the U.S. and, increasingly, around the world (international bookings have doubled so far this year). The firm is best known for its Tasers, the latest iteration (version 10) has proven to be a hit thanks to its longer range and other enhanced features, selling twice as fast as the prior version. Then there are body and dashboard cameras, mainly for police offers though Axon has also launched them within retail given the increase in theft nationwide; combined with offerings like drones, with the video recorded all uploaded to a records and evidence suite that allows it to be easily shared, analyzed and managed (often boosting conviction rates). And now the firm is making a bigger push into things like dispatch and response (with a cloud-based software offering that improves communication and situational awareness) as well as AI-based Draft One, launched in April, which takes audio from body cameras and other data to quickly generate reports—the savings are huge as the average officer spends more than a third of his/her time typing reports! Revenue has been kiting higher, rising 35% in Q2, with recurring revenue up 44% and EBITDA (a better measure than earnings for this outfit) up 51%. Moreover, management significantly hiked estimates while saying they “think [they] are going to have a massive back half [of the year] in terms of bookings.” The story here remains excellent, and there’s no reason Axon can’t ride its recurring revenue model for years to come.

Technical Analysis
AXON broke out from a big base last December and, while there were some bumps along the way, shares had a solid advance into March, with yet another gap higher bringing the stock to around 325. However, that was a topping area, with shares sliding in May and gyrating around for the next couple of months. After one more shakeout with the market, though, AXON has broken out again after earnings, which is obviously a good sign. We’ll set our buy range down a bit given the tricky environment.

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Stock 2

Carvana (CVNA)

Why the Strength
Carvana revolutionized the used car market by completely eliminating the dealer, allowing buyers to transact most of the purchasing (and financing, if needed) process online and even having their car delivered directly to their home. The company’s model wasn’t without pitfalls, however, as Carvana racked up so much debt during the heydays that a combination of rising interest rates and falling car sales (and, eventually, falling used car prices) nearly forced it into bankruptcy in 2022. But bondholders (led by a major asset management firm) gave Carvana a break last year and allowed it to renegotiate its outstanding debt, giving the iconic auto firm a new lease on life. Since then, car sales have rebounded and the company is so far along the restructuring plan and general road to recovery that it actually cranked out EBITDA margins north of 10% in Q2, which it believes isn’t just the biggest in the industry today, but the largest ever for an automotive retailer! In addition, Carvana’s other key financial metrics were healthy in Q2, as strong retail unit growth led to a 15% year-on-year revenue increase, to $3.4 billion. Earnings of 14 cents a share were miles ahead of the year-ago 55-cent per-share loss as the firm surprisingly swung to a profit—prompting several Wall Street institutions to raise price targets (a reason for the stock’s latest strength). In what management called a “landmark quarter,” Carvana established itself as the nation’s “fastest-growing and most profitable public automotive retailer,” with retail units sold increasing 33%, exceeding revenue growth (mainly due to industry-wide declines in retail and wholesale vehicle average selling prices), while adjusted EBITDA was $355 million in Q2, an increase of $200 million and a new company record. (Carvana also said its EBITDA is “very high quality” compared to its competitors due to the firm’s relatively low noncash expense.) Looking ahead, the company remains focused on increasing production capacity, and its 1% market share in a $1 trillion industry provides plenty of growth runway. It’s not the hypergrowth firm it was a few years ago, but that’s probably a good thing—analysts see 15% to 20% top-line growth with rising EBITDA and earnings ahead.

Technical Analysis
CVNA was the dog’s dinner in 2022, finally hitting a low-water mark in December 2022 and then spending the next few months rounding out a bottom in preparation for the big turnaround that was to come. The big run since then means the stock isn’t in the first inning of its overall advance, but CVNA certainly had a chance to give up the ghost a few times in recent weeks with the market (and with weak cyclical stocks), but it’s held firm north of its 50-day line. We’ll place our buy range up from here, looking for a bit more strength to confirm the resilience.

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Stock 3

Cheniere Energy (LNG)

Why the Strength
Unparalleled demand growth for liquified natural gas (LNG) in developing countries—including several in Asia—coupled with project delays, is expected to extend global supply constraints for the product until at least 2027. This gives leading producers like Cheniere a significant tailwind in the race to meet the booming demand for the touted “clean energy fuel” as nations race to meet carbon reduction goals. The Houston-based company is the largest LNG producer in the U.S. and the second-largest operator in the world by storage capacity, marketing its product on five continents. Last week, Cheniere entered into a 20-year agreement to supply 500,000 metric tons of liquified natural gas to Galp Energia (a Portuguese national outfit), subject to a “positive financial investment decision” from the company to build a second liquefaction unit at its Sabine Pass project in Louisiana. (The Sabine Pass expansion project will accommodate up to 20 million tons per year (TPY) of LNG capacity upon completion.) Also last week, Cheniere said it anticipates receiving federal approvals by next year for an expansion project at its Corpus Christi facility, which will add 10 million tons of LNG per year, plus an additional plan for a 3.3 million TPY expansion at the same location (both announcements contributed to the stock’s latest show of strength). The expansion news also helped mitigate a mixed Q2 report last Thursday, which saw revenue of $3.3 billion decline 21% year-on-year, although earnings of $3.84 a share easily beat estimates by $2.18. Adjusted EBITDA of $1.3 billion fell by 29%, hurt by weaker margins due to “moderating” global gas prices, as well as from a greater share of gas being sold on long-term contracts (which are usually booked at lower prices in exchange for long-term commitments). That said, management sees Q2 as a low area and expressed a rosier outlook for the rest of this year, actually raising guidance for full-year adjusted EBITDA by 5%, to around $6 billion, as well as hiking its distributable cash flow outlook to around $3.2 billion. Wall Street sees the firm’s revenues troughing this year (down 25%), then rebounding by the same amount in 2025 and picking up from there as gas prices presumably recover and as more supply is sold into long-term contracts.

Technical Analysis
LNG established support above 135 at the start of 2023, confirming it with a second test of that level five months later. Shares then commenced an extended move back to 180 by December, where it peaked in 2022, and that level once again turned it back. The ensuing decline, though, bottomed at 155 with several months of tightening around that level. The rally beginning in June made token new highs, and while there has been some choppiness, LNG has shrugged off broad market pressures and is back near virgin turf. We’re OK nibbling here or on dips with a tight percentage stop near last week’s lows.

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Stock 4

CommVault Systems (CVLT)

Why the Strength
CommVault has been called the “gold standard in cyber resilience,” helping more than 100,000 organizations to uncover, take action and rapidly recover from cyberattacks. The New Jersey-based company offers automated data protection and information management cloud software services, including insights, storage and training services. The firm’s main asset is its enterprise-level CommVault Data Platform, which enables the integration of backup, cloud, virtualization, archive, file sync and share and endpoint protections, with most of its offerings focusing on allowing enterprises to work safely and efficiently across their hybrid IT environments (a mix of on-premises data centers, private clouds and public clouds). To further its footprint, CommVault has formed several partnerships with tech giants like Microsoft, Amazon Web Services (AWS) and Google Cloud to bring customers seamless access to its industry-leading data protection, and it recently acquired cloud cyber resilience provider Appranix to improve its ability to help organizations quickly recover from ransomware attacks. Accounting for the latest show of strength was a head-turning fiscal Q1 report (ended June) that featured revenue of $225 million that increased 13% from a year ago, along with earnings-per-share of 85 cents that beat estimates by 12 cents and free cash flow of $44 million (about $1 per share) that increased 16%. Additional strength was seen in key industry metrics like annualized recurring revenue (ARR), which grew 17%, while subscription revenue soared 28%. According to a recent CommVault survey, over 50% of organizations have suffered a cyberattack in the last year, which helped facilitate more conversations with chief information security officers (CISOs) and CIOs “than ever before” in the latest quarter—and which management said sets the stage for “continued momentum through the fiscal year.” Going forward, analysts foresee 10%-ish revenue growth this year and for 2025 and 2026 (likely conservative) while free cash flow expands at a faster clip. It’s a steady growth story that should play out for a long time.

Technical Analysis
CVLT broke out around 80 in January of this year and embarked a beautiful, relatively smooth run that’s only suffered one real test, seen in April when shares briefly dipped below the 50-day line before leaping above the century mark. Shares kept running to 127 in July and then came the recent volatility, with a massive move up on earnings, a give-back when the market was weak and then a strong rebound late last week. We’ll set our buy range down from here, and what we’re really looking for is some calmer, tighter trading to emerge, which would tell us CVLT is starting to come under control.

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Stock 5

Coupang (CPNG)

Why the Strength
Coupang is one of South Korea’s leading e-commerce platforms, billing itself as providing “exceedingly fast” shipping speeds on millions of items including apparel, fashion and beauty products, electronics and fresh groceries—all delivered within hours nationwide, 365 days a year. Outside of its native country, the company is wildly popular in Asian markets like China and Hong Kong, recently expanding into Japan and Taiwan. And while it doesn’t currently offer a consumer-facing e-commerce platform in the U.S., it supports commercial expansion and partnership between U.S. and South Korean businesses (its stock was publicly listed on the NYSE in 2021, accounting for 35% of all U.S. foreign direct investment into Korea over the last couple of years), and Coupang does offer limited sales of its products to U.S. customers from its platform. Highlighting the growth story, last week’s Q2 report featured a 25% year-on-year revenue jump, to $7.3 billion, plus earnings of 7 cents that beat estimates of breakeven. Meanwhile, product commerce segment adjusted EBITDA rose $122 million, to $530 million, and free cash flow improved by an eye-opening 40% to $1.5 billion (all reasons for the stock’s latest strength). Other metrics were equally impressive, including a 12% bump in product commerce active customers, reaching nearly 22 million. To that end, Coupang said its future growth opportunity is “massive and largely untapped,” and that that while new customers contribute to the growth, its recent expansion has been primarily powered by the increasing spend of its existing customers. Going forward, the company is focused on unlocking what it sees as the “exciting” potential for “steady and thoughtful growth” in its recent acquisition of global online luxury clothing and beauty product firm Farfetch. Wall Street predicts a 24% top-line jump for 2024, followed by several years of 15%-ish growth with earnings turning up next year.

Technical Analysis
CPNG had a nice off-the-bottom run from February into April, but despite some tight trading initially, the stock sagged below its 50-day line in June and continued to nose lower for the next few weeks. The stock experienced a fair share of market-induced volatility of late, including a crazy 11% intraday up-and-down move ahead of last week’s earnings, but we like the support at the 40-week line as well as the post-earnings action, with shares ripping back to within a point of their high. There’s obviously still overhead, but if you’re aggressive, we’re OK starting a small position here or on dips with a stop just over 20—and possibly adding more on a decisive breakout above 24 (assuming the market is healthy).

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Stock 6

Insmed (INSM)

Why the Strength
Insmed is a mid-cap biopharma firm that targets rare and serious diseases. It has one treatment on the market right now, Arikayce, which treats MAC lung disease, a very uncommon infection of the lungs from bacteria present in water and soil. Insmed sold $90.3 million worth of the drug last quarter, mostly in the U.S. and Japan, where Arikayce is seeing strong uptake by physicians thanks to its momentum as the first drug to treat MAC on the market starting nearly six years ago. Management predicts the drug will be a blockbuster ($1 billion or more in peak revenue), and probably will sell $355 million worth this year, a rise of 17% over 2023—that’s Insmed’s guidance for its full corporate revenue this year. That’s all positive, but even more promising is a new treatment Insmed expects to get full U.S. regulatory approval for by the end of the year, putting it on target for a mid-2025 launch. The drug, dubbed Brensocatib, treats bronchiectasis, an affliction where over time the lungs’ airways widen or form pouches leading to a build-up of excess mucus and, hence, a lot of resulting infections. Insmed says Brensocatib will be the first treatment for the disease and could generate nearly $5 billion in peak sales (!), assuming it gets approval in Japan, the E.U. and the U.S. Insmed is also seeing progress in trials using Brensocatib to treat chronic rhinosinusitits without nasal polyps, a nose affliction probably suffered by 400,000 people. The company is also talking up the potential of TPIP, in Phase II trials now to treat a type of pulmonary hypertension. All of this points to what should be a fast-growing, profitable business in a few years. Of course, right now, Insmed is still bleeding money and burning through cash (about $500 million this year), though with $1.25 billion cash on hand, Insmed should be fine until next year’s Brensocatib launch.

Technical Analysis
On May 28, INSM more than doubled to 48 after clinical trial data on Brensocatib prompted many investors to expect FDA approval for that drug later this year. Shares extended the rally to 79 last month before edging a bit lower, though what’s really caught our eye is the stock’s calm trading in the face of a slippery market. It’s obviously not for the rent money, but the 50-day line has offered support and the resilience is noteworthy—we’re OK nibbling here with a stop in the low to mid-60s, or to just keep it on your watch list for a healthier environment.

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Stock 7

Natera (NTRA)

Why the Strength
Natera’s business of screening cell-free DNA (cfDNA) fragments in the bloodstream for diseases is booming. Q2 revenue reported last week was up 58% compared to last year, leading to the company bumping up its guidance for the year. Most of the cfDNA business is in women’s health, with its test for pregnancy and fetus health, Panorama, and its test for colorectal and breast cancers, Signatera, both strong thanks to winning over large medical facilities to use the products. Q2 sales topped $413 million on 760,000 tests administered, the latter up 23% over last year (oncology tests were up 50%), a sign Natera is able to charge more money per test. There are a lot of tailwinds for the business —last year Medicare added coverage for Signatera, while earlier this year management bought up a competitor and replaced its products in the market. Prospera also was launched for use in detection of heart transplant rejections last quarter while, two weeks ago, the National Kidney Foundation recommended cfDNA testing for people with kidney disease. All that made management confident enough to say 2024 sales will come in just over $1.5 billion, up 40% from last year, a solid hike from the prior outlook for 33% growth. The one blemish on Natera’s business at the moment is that it still loses money, though the 30-cent loss in Q2 was much narrower than last year’s 97 cents, and management says the firm will turn free cash flow positive by the end of the year as its gross margin continues to widen—it was 59% last quarter, compared to 45% a year ago. The company has a pipeline of eight tests it sees making Phase III trials in the next few years, many of which target small niches of rare occurrences of bladder and colorectal cancers.

Technical Analysis
NTRA had a huge run off its oversold October 2023 low, but it finally began to run out of gas in mid-June in the 115 to 120 range. Shares traded tightly for a while, which was good, but the sellers finally took control, with a clear breakdown last month and a lower low during last week’s market maelstrom. However, NTRA found some buying support soon after last Monday’s plunge, and the action since earnings has been terrific, with the stock notching new price highs. To be fair, new highs aren’t usually great buys in a tricky market, so if you want in, you can grab a few shares on a little weakness with a stop in the low 100s.

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Stock 8

Palantir Technologies (PLTR)

Why the Strength
Stocks are driven by investor perception about the future, and that means timing is vital in the stock market, where the same stock with the same story can chop for months before finally kicking into gear. Palantir is a name we’ve been watching for a while and most recently recommended in July, but after one final market-induced shakeout, it looks like perception may have finally turned for the good in a decisive way. The firm, of course, has been around for a while, with advanced software systems (Palantir was doing AI before most even called it that) for U.S. and friendly militaries, but the big idea here is that it’s taken all it knows and applied it to an AI platform that commercial clients can use to train large language models in a secure way and drastically boost productivity—something many are trying to do, but Palantir’s expertise has put it in pole position. Right now, the biggest growth is occurring in its U.S. commercial business, which is just one-quarter or so of sales but is ramping quickly: In Q2, sales in that segment boomed 55%, while the customer count lifted 83% (though, at just 295, it’s still early days) and remaining deal value boomed 103%. Most see U.S. commercial sales momentum as likely to soar from here, and U.S. government could be next, as Palantir just inked a deal with Microsoft to integrate its AI platform with Microsoft’s large language models (on Azure OpenAI) for intelligence and defense customers; it’s obviously early but some see business here ramping during the next year. With a big story and improving numbers (accelerating sales growth, steady earnings expansion, free cash flow margins of 22%), there’s a lot to like, with the upside being Palantir becomes to AI platforms what Microsoft has been for operating systems.

Technical Analysis
We wrote about PLTR a few weeks ago, but the selloff with the market was too much to withstand—after moving up eight weeks in a row to new price highs, shares tanked as much as 29% during the next three weeks! But the rebound from last Monday’s shakeout low has been more than impressive, with a gap up on Tuesday starting the bounce, and with Thursday and Friday seeing more big-volume buying, as well as new price and relative performance (RP) highs before today’s retreat. Given the market, we’ll look to enter on a bit more weakness and use a loose stop.

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Stock 9

SharkNinja (SN)

Why the Strength
SharkNinja (covered in the July 1 issue) designs and sells household electronics, cutlery and kitchen appliances under the Shark and Ninja brands, consistently ranking as Amazon’s top-selling brand in the latter category thanks in part to the firm’s ability to quickly bring new offerings to market that have at least a bit of advantage versus everything else on the market. The stock is strong because the firm keeps releasing solid, estimate-beating results and the stock has a reasonable valuation (23x trailing earnings): Q2 financial results featured broad-based, double-digit growth across each of its key product categories, with revenue of $1.3 billion up 31% from a year ago (up 17% sequentially), per-share earnings of 71 cents beating estimates by 19% and adjusted EBITDA of $168 million improving by almost 50% from last year. By segment, Cleaning Appliance sales rose 13%, driven by the carpet extractor and cordless vacuums sub-categories, Cooking and Beverage Appliance sales increased 11%, led by outdoor grill and outdoor oven sales across both the U.S. and European markets, while Food Preparation Appliances jumped 85%, driven by strong sales of ice cream makers and portable blenders. The company’s long-term roadmap, which it calls the “three-pillar growth strategy,” involves a focus on entering new and adjacent categories, gaining share in existing markets and expanding in international markets, and the plan is bearing fruit as evidenced by a Q2 market share surge. Indeed, SharkNinja’s international sales posted a “very strong” quarter (up 46%), with newer markets like Germany and France delivering triple-digit growth and with the top brass being “very bullish” on the prospects for growth in Latin America. The company significantly increased full-year guidance across key metrics, including full-year revenue of around $5.2 billion (up 21% if realized, up from a prior forecast of just 11% sales growth), plus EPS of $4.22 (up 30%), with adjusted EBITDA expected to grow 25%. It’s not changing the world, but SharkNinja is playing in enormous consumer product categories and, if it continues to execute, should get much larger over time.

Technical Analysis
SN broke out in February and enjoyed a beautiful, smooth advance from the low 50s to the 80 area in June before the sellers finally put up a fight. The initial pullback was normal, but shares began to live under their 50-day line in early July and then retested lows near 70 early last week. But the earnings report has totally changed the landscape, with SN not only gapping up strongly but rallying a bit more since. You can keep it on your watch list for a better market, or if you want in, we’ll set our buy range down from here given the market.

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Stock 10

TransMedics (TMDX)

Why the Strength
TransMedics is revolutionizing the way transplants are done in the U.S., via both a new product that keeps organs alive for longer and, increasingly, thanks to a broad logistics operation that dramatically boosts efficiencies, patient outcomes and, of course, revenue. The core offering here attacks the simple problem that, for livers, hearts and lungs, the number of actual transplants hugely lags the number of organs available for transplants, often because the organs can’t survive long enough and/or might be too far away to be used. Enter TransMedics’ organ care system (OCS), which keeps organs viable for much longer by infusing them with blood and simulating real-life environments; it’s the only FDA-approved system besides the current standard of care (cold storage while organs are infused with a chemical cocktail and kept on ice, essentially). The product works well, and not surprisingly it’s been a hit, driving massive growth, especially in livers and hearts (lungs have been slower to uptake), and frankly, if that was the whole story, the growth potential would be big. However, the firm has instead moved into transportation, too, ending Q2 with 17 planes (up from 15 in March) and aiming for 20 by year-end, with its own staff and pilots too, bypassing the cost and complexity of dealing with third-party transportation outfits; right now TransMedics transports 59% of the organs it uses, up from 49% in Q1, with a target of 80% eventually. Obviously, the planes and related infrastructure are a big investment but it’s paying off, with $19.1 million of revenue in Q2 (17% of total revenue), up 32% from Q1 (!), and despite the spending, TransMedics has seen three straight quarters of profits, and the top brass has explicity said it’s very confident margins will improve in the next year to 18 months. It’s a big idea with big (triple-digit) growth numbers.

Technical Analysis
TMDX was in the midst of a very deep consolidation at the end of March, but it began to change character after that, with a nice volume cluster in early April, followed by a massive earnings-induced breakout on May 1. The action following that move was solid, though not spectacular, with shares moving up to the 155 area before hacking around with the market the next four weeks, even seeing some selling after an initial positive reaction to its Q2 report. Still, TMDX acts like a basketball underwater, notching closing highs last week; it looks like it wants to go higher if the market cooperates. Of course, right now, the market isn’t healthy, so you can either keep it near the top of your watch list or, if you want in, start a small position here or on dips and use a loose leash.

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Previously Recommended Stocks

The next Cabot Top Ten Trader issue will be published on August 19, 2024.

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