May 17, 2021

Still Choppy and Challenging at Best

Current Market Outlook

Last week, the selling that had been concentrated in growth names spread to the rest of the market through Wednesday, though a late-week bounce helped a bit. Still, not much has changed with the overall environment—growth stocks remain in the dumps, and while bounces are possible (many fell 20% to 30% in just the past three weeks), there’s a lot of damage to repair. The broad market is obviously in better shape, where we still see some good opportunities (mostly after bullish earnings pops), but even there the action is turning choppy and challenging, with news-driven moves, rotation and whipsaws. Overall, we’re fine taking a swing or two at stocks and sectors that are still in favor, but we also think it’s best to stay relatively cautious until we see broad buying power emerge.

This week’s list is almost all turnaround and cyclical-type stories, and our Top Pick is International Game Technology (IGT), which is benefiting from both the reopening of casinos and also the growth wave in sports betting.

AutoNation (AN)

autonation.com

Why the Strength

AutoNation is the largest auto dealership in the U.S. with about 325 locations nationwide with a heavier concentration in faster-growing sunbelt states. The company has a diverse revenue base from both new and used vehicle sales, financing and insurance products and parts & service operations. In recent years, AutoNation has focused on new growth initiatives including opening standalone used vehicle dealers, plus expanding its collision centers and parts and services business. Its expansion into used cars has been such a success that management is accelerating its expansion timeline—plans originally called for 55 used car stores by 2025 and 100 by 2030, but AutoNation is now committed to over 130 used car stores by the end of 2026. The company’s massive size gives it a competitive advantage in the huge-but-fragmented retail auto business. (At about 40 million vehicles a year, the used car market is much larger than new auto sales and much more profitable.) AutoNation’s growing used car locations will allow it to build inventory from customer trade-ins rather than buying and selling at auction where profit margins are razor thin. Expanding its auto parts, service and repair business should also boost profitability—new car sales make up about 51% of AutoNation’s total, but only 16% of gross profits, while parts and service was only 16% of 2020 sales but accounted for 41% of gross profits. These strategic moves are paying off: In Q1, sales rose 27% to $5.9 billion ($870 million above Wall Street forecasts) as used vehicle sales volume surged 28% and new vehicle volume jumped 22%. The company posted adjusted EPS of $2.79, up 207% compared to $0.91 a year ago and well above the $1.84 street forecasts. And the good results should keep on rolling in, with analysts seeing a 41% earnings gain in 2021 as a whole. A low (12 times trailing earnings) valuation puts a nice bow on the package.

Technical Analysis

AN has been in a steady uptrend for months, riding its 10-week line higher since a sharp two-week dip around Halloween of last year. While the advance is a bit mature, we’re impressed with the volume patterns—AN saw three weeks of huge-volume buying in March, with another string of three good-sized volume weeks in late April and early May. We think dips back toward the century mark will set up a nice risk-reward situation.

AN Weekly Chart

AN Daily Chart

Callaway Golf (ELY)

callawaygolf.com

Why the Strength

Last year’s pandemic was particularly devastating to the athletic industry, as social distancing guidelines and other restrictions brought many major sports to a standstill. But golf proved fairly immune to the slump, and according to the National Golf Foundation, the number of rounds played in the U.S. last year increased 14% from 2019, with that figure up 24% year to date. Callaway is a global sports equipment maker specializing in golf clubs and balls, as well as accessories such as bags, gloves and caps. Underscoring golf’s resilience was Callaway’s recent eye-popping Q1 earnings beat (a reason for the strength), which blasted past expectations and sent analysts scurrying to upgrade their outlook. Total sales of $652 million increased 47% in the quarter (15% above consensus), while per-share earnings of 62 cents nearly doubled from a year ago. Golf equipment segment revenue rose 44%, while apparel and gear revenue rose 21%. The company indicated that its legacy golf equipment business is seeing “unprecedented demand” while its apparel segment and Topgolf entertainment unit (acquired earlier this year) have recovered from the pandemic faster than expected. Moreover, analysts believe Topgolf could become a top revenue producer for Callaway down the line. (We believe it—if you haven’t been to one it’s good fun.) The company provided loose guidance for 2021 revenue to exceed 2019’s (healthy) levels, while analysts are forecasting eye-watering top-line growth of 76% for the full year. Looking ahead, management said it expects to leave the pandemic period with a much bigger addressable market and anticipates last year’s strong momentum will persist this year and next. We like it.

Technical Analysis

The recovery from ELY’s slump following the halcyon years of the late Nineties was long and slow; topping at 38 back in 1997, shares ground lower for years until finally bottoming at 5 in 2009—a level that has been hit, but not broken, three times since then (most recently at last year’s pandemic bottom). ELY gradually rebounded from last year’s low, suffered a setback October, then broke sharply higher in November when economic reopening hopes picked up. Better yet, shares took three months to rest starting in February, but last week’s big-volume, earnings-induced pop bodes well. We’re OK buying here.

ELY Weekly Chart

ELY Daily Chart

Camping World Holdings (CWH)

campingworld.com

Why the Strength

Millions of Americans suffering from cabin fever are eager to hit the road for a long-awaited summer vacation. And while hotels are seeing increased demand as capacity restrictions are lifted, many individuals still prefer to practice social distancing, which is why RV and camping equipment suppliers are hot right now. Camping World, America’s largest retailer of RVs and camping-related products and services, has been especially strong as the company reported continued momentum from last year’s outdoor recreation boom. Corroborating this was a forecast from the RV Industry Association, which said solid wholesale RV shipments are setting up the industry for a record year. Camping World’s sales pace so far this year has been torrid, resulting in repeated positive headlines since March: First came announcements that the company bought RV dealerships in West Virginia and Minnesota as part of ongoing expansion plans. Then came the news that Camping World would begin accepting cryptocurrencies as payment for RV purchases through a new partnership with payment service provider BitPay. Finally, Camping World increased its dividend by almost 9%. On the financial front, the firm’s sales soared 52% in Q1, to $1.56 billion, beating estimates by 19%. Per-share earnings of $1.40 were 69 cents (!) above consensus, easily besting the year-ago 3-cent loss. Consequently, management raised EBITDA guidance by a whopping 19% from its forecast just a few months back. Analysts, meanwhile, see the top line expanding by a healthy 24% and the bottom line booming 56% this year. It’s a solid reopening story with earnings power that seems much larger than anyone anticipated.

Technical Analysis

CWH was quick to turn around after last year’s Covid crash, soaring to over 40 by August as the RV boom got started. The run-up was followed by a tedious down period between August and December, before shares established support near the 40-week line. It’s been choppily up since then, but the buyers seem to have gained a foothold, with CWH rallying six weeks in a row to new price highs, and last week’s early wobble found good support by Friday. If you’re game, you can enter here with a stop under the 50-day line.

CWH Weekly Chart

CWH Daily Chart

CF Industries (CF)

cfindustries.com

Why the Strength

Crop prices are marching higher, which means chemical fertilizers are in high demand among farmers looking to maximize crop yields. CF Industries produces crop nutrients that are essential to modern agriculture, primarily nitrogen-based anhydrous ammonia, ammonium nitrate and urea, as well as compound fertilizer products and fuels. A robust spring application season, combined with tight supplies, contributed to higher nitrogen prices in the first quarter, led by an unusually strong urea market (but partly offset by lower production and sales volumes). In Q1, revenue rose 8% from a year ago while per-share earnings of 70 cents were 133% higher (topping estimates by 10%). Higher nitrogen prices have boosted margins for CF, allowing it to use the increased cash to reduce debt and invest in new projects. Wall Street expects those conditions to persist, predicting a top- and bottom-line increase of 30% and 52%, respectively, for Q2, while 2021 as a whole should bring CF’s highest earnings figure since 2015. The company also believes strength will persist in the global nitrogen market, due in part to lower global food stocks and rising corn import demand from China. Looking ahead, CF has branched out into the clean energy market and is pursuing a plan to produce more environmentally friendly fertilizers and fuels. Last month’s partnership with engineering firm ThyseenKrupp involving CF’s green ammonia, as well as its hydrogen project (for energy use) in Louisiana, were hailed as a step in that direction. Best of all, management believes bullish global agricultural fundamentals are setting up an “extended period of strong margins across the entire value chain.” It’s a strong ag play.

Technical Analysis

CF hasn’t been a super-hot name, but we think that could be a good thing, as it looks earlier-stage than many of its cyclical peers. The stock saw three great volume weeks during its November blastoff, but while it’s made good progress since then overall, there have been three meaningful pullbacks along the way. The latest of those saw great tightness in April and just recently resolved to the upside after earnings. The modest pullback since then looks buyable to us.

CF Weekly Chart

CF Daily Chart

Cimarex Energy (XEC)

cimarex.com

Why the Strength

News items both here (Colonial Pipeline) and overseas (rockets over Israel) have caused some short-term wiggles in energy stocks, but the best remain perched near their highs. Cimarex Energy, which does most of its drilling in its 234,000 acres within the Permian basin, looks like one of the leaders. And that’s for good reason: In an industry that’s transformed its m.o. (less spending, more cash flow for debt reduction and dividends), Cimarex might have the best combination of numbers out there: Thanks to a dramatic reduction in well costs (more than 40% during the past few years on a per-foot-drilled basis), the company believes it will produce about $3.50 per share in after-CapEx free cash flow this year even at $35 oil! And at $55 oil, that number grows to around $8.50 per share! Part of that goes to the regular dividend (1.5% annual yield) while the rest is going to debt reduction (the firm will call the 2024 notes by year-end; net debt is down 15% from a year ago), but it’s highly likely some big dividend hikes or special payouts will be coming. (It’s also possible it adopts a variable payout like some other energy players.) Moreover, while production growth won’t likely soar, it’s set for a big rebound after 2020’s cutbacks (oil production in Q4 is expected to be up 30% from the end of last year). All of this came to fruition in Q1, where, despite a tough winter in Texas, Cimarex cranked out north of $2 per share of free cash flow, and the longer energy prices stay up here, the more likely that Cimarex spins off mountains of cash in the quarters ahead.

Technical Analysis

XEC got going with the rest of its sector in November and had a huge run through early March, then built a mostly-sideways base for the next few weeks. The action since then has been solid (the stock is actually up five weeks in a row), though with all the volatility in the market, it’s not surprising to see XEC chop around in recent days. Some further wiggles wouldn’t surprise us, but we still think the next big move is up—if you want in, you can take a position here or on dips.

XEC Weekly Chart

XEC Daily Chart

International Game Technology (IGT)

igt.com

Why the Strength

A provider of casino games and lottery technology, International Game Technology’s story is of opening doors: Physical casino reopenings are drawing people back inside while the opening of markets in sports betting and iGaming (online casinos) have set IGT on the path to strong growth following a difficult 2020. The company thrilled investors last week by reporting Q1 sales and net income that trounced expectations, generating more than $1 billion in revenue and 38 cents of earnings when most anticipated a breakeven result. It’s no surprise business was hurt in 2020 by the shutdowns of casinos, where IGT supplies game management software and hardware, like slot machine cabinets. The surprise was that physical casino reopenings have not hurt digital products at all, with high-margin lottery same-store sales surging 32% even as more than three-fourths of its casino client base was back in operation. After losing $1.63 a share last year, analysts see the company earning 77 cents this year and $1.31 in 2022, though after the Q1 beat, it’s hard not to think these figures will prove extremely conservative. It also cut its debt levels, which has sparked speculation that the company will begin share buybacks or dividends in the not-so-distant future. Rounding out its strong hand is that mobile lottery (legal in six states) and sports betting (digital is legal in 14) are expected to expand greatly as governments look for sources of new tax revenue. At least one-third of people in the U.S. and Canada have no access to sports betting at all, physical or digital, but legalization is advancing for the vast majority of that group, which should be a boon for International Game—it’s the casino leader in sports betting tech.

Technical Analysis

IGT looked like most turnaround stocks, with lackluster performance into last fall and a blastoff in November that took the stock to multi-year highs. However, shares stalled out soon after the calendar flipped, beginning what morphed into a four-month launching pad that featured some encouraging tightness in April. Last week appears decisive, with IGT not just breaking out on earnings, but doing so on its heaviest weekly volume since last June. Expect volatility, but if you want in, you can start a position here or (preferably) on a pullback of a point or so.

IGT Weekly Chart

IGT Daily Chart

Leggett & Platt, Incorporated (LEG)

leggett.com

Why the Strength

Old-line manufacturing companies are experiencing a renaissance in the pandemic’s wake as loose monetary policies and tight supply chains have sent key industries scrambling to meet higher demand. Leggett & Platt designs and manufactures products and components for use in bedding, furniture, seating, homes, offices, airplanes and automobiles. Among its myriad products, Leggett is perhaps best known for its adjustable beds, but it also supplies steel wire to trade customers that operate in a broad range of markets. After a tough first half of 2020, revenues roared back in the second half, and strength has continued into this year. Leggett’s Q1 sales jumped 10% from a year ago, to $1.15 billion, led by robust demand in residential end markets (including bedding) and auto market growth, but offset somewhat by aerospace segment weakness. Earnings per share of 64 cents were a first-quarter record, up 60% (due partly to easy comparisons). The consensus expects the firm’s sales and per-share earnings to improve 15% and 28%, respectively, for the full year, helped by a favorable ITC ruling against foreign mattress dumping in the U.S. Experts further believe the work-from-home trend will persist beyond the pandemic, which should boost Leggett’s sales as consumers buy more of its home office furnishings. Additionally, the red-hot global automotive market is expected to contribute to continued growth. It’s worth mentioning that the company just raised its dividend 5% to 42 cents for its 50th consecutive yearly increase (annual yield is up to 3.0%). This allows Leggett to enter the illustrious ranks of the so-called “Dividend Kings,” tying a bow on an otherwise attractive dividend growth story.

Technical Analysis

LEG’s recovery was just OK after last year’s crash, and the stock ended up going sideways in a tight range (38 to 45) from mid-September through February. The breakout attempt after that led to a quick shakeout in March, but the buyers have been in control since then—LEG popped to new highs two weeks ago after earnings, and last week’s dip was very reasonable. We’ll set our buy range down a bit, aiming to grab shares on a dip toward the rising 25-day line (now at 52.2).

LEG Weekly Chart

LEG Daily Chart

Summit Materials (SUM)

summit-materials.com

Why the Strength

Construction has been a booming business post-pandemic, and Summit Materials is right in the center of America’s building boom. The company is a leading supplier of aggregates-based construction materials including cement, ready-mix concrete and asphalt, and provides paving and other services; all told Summit cranked out $2.4 billion in sales last year. Its aggregates are sold across the U.S. and Western Canada, while its cement operations span states along the Mississippi River from Minneapolis to New Orleans. Helping to boost investor perception recently was President Biden’s proposed $2 trillion infrastructure plan, which has $621 billion earmarked for transportation construction. This would amount to a 33% increase in annual spending in the U.S. over and above current levels. Summit Materials stands to benefit no matter what finally emerges from Congress, since road, bridge and related transportation construction is a key market for the company. In the meantime, business is already good: Net revenue rose 17% to $399 million in Q1, beating forecasts by nearly 10%, while EBITDA (a more meaningful profit metric for a company like Summit) came in at nearly $42 million, up a whopping 167% from a year ago. Moreover, the sub-metrics also looked good, with strong volume growth across all product lines: +20.7% in aggregates, +13.7% in cement and +15.9% in asphalt. At this point, the firm is sticking to its modest growth outlook (EBITDA up 5% or so) for this year, but management said it intends to update that outlook as the year goes on (likely much higher). It’s a solid, easy-to-understand story.

Technical Analysis

As opposed to many cyclical names, SUM’s breakout didn’t come until early January, and even that was met with a harsh retracement near the end of that month. But the action since then has been much better—SUM rallied six weeks in a row to new highs, then tightened up nicely for seven weeks before another couple of solid-volume buying weeks that took shares to new highs after earnings. We don’t expect a runaway move, so aim for dips of a point or two.

SUM Weekly Chart

SUM Daily Chart

WestRock Company (WRK)

westrock.com

Why the Strength

It’s not the most glamorous industry, but there’s no denying cardboard companies are making bank in the pandemic’s wake thanks to a direct-to-consumer (e-commerce) sales explosion. Corrugated packaging maker WestRock is one of the world’s largest paper and packaging companies, supplying cartons, containers, cardboard displays and kraft paper to thousands of businesses across 12 major markets. Demand for WestRock’s sustainable fiber-based packaging is increasing, and the company boasts an attractive set of end markets. Its overall packaging volumes rose 3% in the first three months of the year, including e-commerce box volume growth of 18% from a year ago. WestRock also boasted record Q1 North American corrugated box shipments, up 6% on a per-day basis. Revenue of $4.4 billion was flat from a year ago, and per-share earnings of 54 cents actually missed the consensus mark by 16%, but this was impacted by a ransomware incident earlier in the quarter along with significant weather disruptions. But what counts is the future and on that front it’s mostly good news: Corrugated fiber and solid fiber box prices recently hit record highs, and WestRock is currently implementing price increases that should help boost the bottom line going forward. Even better, backlogs have increased across all substrate categories and are currently at six-to-eight weeks. Management is also focused on deleveraging, recently reducing its adjusted net debt by $1.6 billion, and it’s returning capital to shareholders, hiking the dividend 20% (1.6% yield) based on expectations of strong coming quarters. Analysts concur, forecasting an 11% top-line increase in Q3, and see earnings picking up by 30% this year and accelerating in 2022.

Technical Analysis

WRK made it back to its pre-pandemic highs around Thanksgiving last year, but that began a relatively dead period—there were a couple of ups, a couple of downs, but net-net, shares went nowhere through February. The breakout after that was powerful, though it again led to a briefer (five-week) sideways period before last week’s earnings brought in more buyers after a test of the 25-day line. Pullbacks of a couple of points should mark a nice entry.

WRK Weekly Chart

WRK Daily Chart

Yeti Holdings (YETI)

yeti.com

Why the Strength

Big investors have historically shown a willingness to build positions in emerging blue-chip-type brands, and that’s the main reason Yeti remains in favor, as the firm’s coolers, equipment, thermoses and drinkware prove increasingly popular—people are willing to pony up some extra money for high-end (and high-priced) equipment that makes their outdoor adventures (camping, trips to the beach or just a neighborhood BBQ) more enjoyable. There are many reasons the company is thriving: First, like most successful retailers, it’s transitioned to more of an e-commerce model during the pandemic, with Q1 direct-to-consumer revenue lifting 59% and making up just over half of revenue. (It has a new, e-commerce-centric website set to launch in the months ahead.) Second, Yeti continues to bring more diverse products to market, with different size, color and types of coolers and tumblers (their new Hooper M30 bag cooler could be making an appearance at my beach this summer) as well as ancillary products (camp chairs, etc.) that are attracting new buyers and have current customers coming back. And third, this is still a mostly untapped market, especially overseas—international revenue soared 146% in Q1 yet makes up just 9% of revenue, a figure that’s likely to double or triple (or more) in the years ahead. (It has e-commerce offerings up and running in the U.K., Canada and Australia and a wholesale business in Japan.) The first quarter was strong across all fronts (coolers up 57%, drinkware up 32%), easily topping expectations, which caused analysts to hike their expectations (now see earnings up 25% this year and another 17% next). The valuation is a bit up there (41 times earnings), but as mentioned above, we think big investors see Yeti becoming a top-end retail brand in the years ahead.

Technical Analysis

YETI had a nice run through the end of the year before building what amounted to a three-month launching pad. The breakout in early April was one of the few in the market that stuck, though it didn’t go that far (to 90 from a breakout near 80) before shaking out with the market (and, on Thursday morning, on earnings) last week. But the dip to the 50-day line found great support, with YETI powering ahead two days in a row on bullish volume. We’re OK taking a swing at it here with a stop near last week’s low.

YETI Weekly Chart

YETI Daily Chart

Previously Recommended Stocks

Below you’ll find Cabot Top Ten Trader recommended stocks. Those rated HOLD are stocks that traded within our suggested buy range within two weeks of appearing in the Top Ten and still look good; hold if you own them. Stocks rated WAIT have yet to dip into our suggested buy range … but can be bought if they do so within the next week.

Those stocks rated SELL should be sold if you own them; they will no longer be listed here. Finally, Stocks in the DROPPED category are those that failed to trade within our buy range within two weeks of our recommendation; that’s not a bad thing, we just never got the price we wanted. Please use this list to keep up with our latest thinking, and don’t hesitate to call or email us with any questions you may have. New recommendations each week are in green.

The next Cabot Top Ten Trader issue will be published on May 24, 2021.