October 11, 2021

Next Few Days Should Be Telling

Current Market Outlook

In true 2021 fashion, just when the market looked ready to go over the falls last week the buyers stepped in, pushing the major indexes sharply higher (recouping nearly 50% of the month-long correction in just three days and seeing many individual stocks pop as well). It’s certainly encouraging, but we need to see a bit more—by our measures, we haven’t seen confirmation of a new intermediate-term uptrend (most indexes remain below their 50-day lines or stuck in the middle of multi-month ranges) and, while a few stocks have popped to new highs, most individual names are in the same no-man’s-land environment. Longer term, the strong, broad bounce is a good sign the overall bull market is alive and well, but near term, it’s still uncertain whether we’ll see another leg lower or more vicious rotation. You shouldn’t be in your bunker, but keeping new buys small and holding some cash makes sense as we see if the strength can persist.

This week’s list is heavier on turnaround and commodity-related names, with many beginning to emerge from long rest periods. Our Top Pick is LPL Financial (LPLA), which won’t be your fastest mover but has staged a good-looking breakout in recent weeks.

Acuity Brands (AYI)

acuitybrands.com

Why the Strength

This year’s return-to-work trend and increased construction overall has seen higher spending on office lighting and building management solutions. This has meant accelerating revenues for Acuity, North America’s leading provider of lighting and building management solutions for industrial, commercial and residential applications. Acuity’s just-released fiscal Q4 results featured a solid consensus-beating top line, thanks in part to productivity improvements, strong new product sales, improved service levels and a better economy. The company generated revenue of $993 million (up 11%) and per-share earnings of $3.27 that were 39% higher than a year ago. By segment, Lighting and Lighting Controls sales increased 11%, while Intelligent Spaces Group (ISG) sales increased 24%, reflecting continued demand for building and HVAC controls. During the quarter, Acuity introduced the ECLYPSE Connected Thermostat, an open-protocol device that reduces installation costs, helps manage energy costs and improves the comfort of spaces. It also released the HomeGuard LED Security flood light to expand its footprint in a market niche where it currently has “low share and strong growth opportunities.” Buybacks remain a priority for the company; in fiscal 2021 (which ended August 31), it repurchased nearly four million common shares (more than 10% of all shares outstanding!) and it has another four million shares remaining under its current share purchase authorization. Going forward, Acuity guided for Lighting net sales growth in the high single digits for fiscal 2022, while ISG is expected to deliver net sales growth in the mid-teens. Analysts see 10%-ish earnings growth going forward, though given last week’s beat, that should prove conservative.

Technical Analysis

AYI kicked off this year’s Q1 with a bang, with a breakout in March driving shares to new multi-year highs by early May. The stock then entered a lateral trading range between 165 and 195, with the second test of the lows coming late last month. But AYI held up there (and north of its 40-week line) and gapped on earnings last week, with the first six days of October all seeing big-volume buying. We’re OK taking a swing at it here with a stop in the low 180s.

AYI Weekly Chart

AYI Daily Chart

Applovin (APP)

www.applovin.com

Why the Strength

AppLovin’s business has a few different levers, but the big idea is simple: The company is the most direct way to play the gargantuan app industry, where there are about 150 billion downloads a year. The company offers software that helps app developers (mainly game developers; 39% of app downloads and 72% of app spend come from games) market and monetize their apps, which is vital considering that 80% of app downloads are generated by just 1% of developers! The company’s platform consists of a few key tools, including a powerful machine-learning engine (dubbed AXON, processing three petabytes of data a day), a marketing solution (matching advertiser demand with publisher supply) and an in-app bidding and analytic solutions, among other tools. AppLovin also has 200 free-to-play games via 12 studios, but instead of doing that for direct revenue, the company offers those to collect data, which in turn feeds back into its platform to help app developers and marketers. As important as any of this is last week’s news that the company is buying Twitter’s MoPub software business, which serves 45,000 mobile apps itself, essentially boosting AppLovin’s leadership position. All told, the market is gigantic (app spending plus direct game revenue of $189 billion!), and AppLovin is clearly the leader—revenues are already at a $3 billion run rate and grew at triple-digit rates each of the past two quarters. Moreover, the company turned profitable in Q2 and analysts see the bottom line expanding sharply from here. The valuation is big ($32 billion market cap), but there’s no doubt AppLovin is going to get much, much bigger over time.

Technical Analysis

APP came public in April and was down, up and down again during its first few months. But shares have changed character after bottoming in late August—the stock rallied on big volume for three straight weeks, then spent four weeks chopping sideways in a (sort of) tight range between 70 and 80. And when the pressure briefly came off the market, APP surged on its third-heaviest weekly volume since its IPO. If you’re game, we advise starting small on dips.

APP Weekly Chart

APP Daily Chart

Builders FirstSource (BLDR)

bldr.com

Why the Strength

Rising interest rates have been an on-again, off-again thorn in the market’s side for the past few months, and not surprisingly, many construction- and building-related stocks have slacked off partly as a result. But Builders FirstSource has been a glaring exception, which bodes well. As we wrote in late August, the company is one of the key cogs in the housing market: It’s the largest supplier of structural building products for new residential construction, repair and remodeling—the inflation in so many goods is helping results this year (hence why analysts see earnings exploding this year but falling back some next year), though longer term, the firm’s move into higher-margin value-added products has led to steadily advancing earnings for years. (About 40% of revenue is still commodity-based as of Q2.) The other angle to this story is M&A, with many good-sized buyouts expanding the firm’s offerings; it took over the largest building supplier in Arizona a few weeks back, while early September brought California’s biggest Truss manufacturer into the fold. All in, business has been exploding and crushing estimates this year (see table below), and impressively, analysts are racing to keep up—this year’s earnings outlook has improved from $4.52 to $6.39 during the past two months, while next year’s figure has moved from $3.66 to $4.52 over the same time, and the odds are that both will move nicely higher as the next quarterly report (likely out in early November) is released. It’s not changing the world, but if you believe the housing market will remain in good shape, Builders FirstSource should thrive.

Technical Analysis

As investors caught on to BLDR’s bottom line exploding both last year (up around 50%) and again this year (up another 100% on top of that), the stock made a huge, relatively persistent move to 54 in May. The correction that followed wasn’t too painful, and the rally off the 40-week like was just as you’d draw it up. Just as encouraging is the last few weeks of action, with calm action, little big-volume selling and support at the 10-week line—and last week, shares popped right back to their old highs. If you don’t own any, you could grab some here with a stop under 50.

BLDR Weekly Chart

BLDR Daily Chart

The Goodyear Tire & Rubber Company (GT)

goodyear.com

Why the Strength

Tire companies aren’t the sexiest growth titles out there, but tire giant Goodyear’s recently completed acquisition of long-time rival Cooper Tire has provided a significant boost to its growth profile. The Cooper acquisition will expand Goodyear’s product offerings, increase its distribution, broaden its retail channels and provide the company with greater exposure to light-vehicle production in China. The deal is also expected to provide Goodyear with $250 million in working-capital savings and an estimated $165 million in run-rate cost synergies within two years. Additionally, Goodyear has recently partnered with two self-driving trucking companies, Gatik and Plus, in a bid to gain access to the autonomous driving market. Gatik trucks will use Goodyear’s Sightline tires, which reduce stopping distance, fuel and maintenance costs and monitor tire wear and air pressure; Plus’ semi-trucks, meanwhile, will connect Goodyear tires with its online, machine-learning-based system to increase driving efficiency and reduce carbon impact. Goodyear also just announced an investment in electric vehicle (EV) software company and network provider AmpUp in a bid to “enable the future of mobility” within the EV industry. On the financial front, Goodyear’s revenue of nearly $4 billion grew 86% in Q2 on the back of a 78% increase in replacement tire volume (vs. easy comparisons). Per-share earnings of 32 cents beat the consensus by 15 cents, reflecting solid post-Covid industry recovery. Wall Street expects even higher sales going forward and see earnings well above $2 next year thanks to rising demand and synergies.

Technical Analysis

GT’s post-vaccine run effectively hit a wall at 19 in March (it nosed to 21 in June but quickly fell apart), and it was looking ugly in August, with a dip toward 14 bringing shares below the 40-week line. But the action has been excellent since that low, with six of seven weeks seeing higher prices, including some big-volume buying of late. Overall, GT is still within a multi-month base, but it certainly seems like the correction is over—we’re OK grabbing a few shares here.

GT Weekly Chart

GT Daily Chart

Hilton Worldwide Holdings (HLT)

www.hiltonworldwide.com

Why the Strength

Airline and lodging bookings have steadily improved since last year as vaccination rates increase and travel restrictions ease. Travel is expected to rebound even further in the coming months as the Delta variant fades and, given that costs (and some services) have been cut to the bone, it’s all setting up a much stronger environment for global hotel management, licensing and operating company Hilton. Pent-up travel demand was evident in Q2 and the company reported “significant” sequential improvement in every major region of its roughly 6,700 hotels. Most of Hilton’s business comes from the U.S., and domestic leisure room demand actually came in at 90% of pre-pandemic peaks, so there’s little reason to think demand will hit new highs as the world turns right side up. Total revenue was 136% higher than a year ago (due partly to softer comparisons), with per-share earnings of 56 cents beating the consensus by 17 cents. Systemwide comparable revenue per available room (RevPAR) grew 234% in Q2 and was down 36% compared to 2019 (but improving as the quarter went on), with occupancy rates increasing. Interestingly, management is prepping for good things: The company actually added nearly 20,000 rooms to its system for a 7% annualized net unit growth from the prior year. Going forward, management sees full-year net unit growth between 5% and 5.5% and expects continued strength in leisure demand and additional business travel increases in the months ahead. Moreover, Hilton is focused on having a greater presence in the Asia Pacific region in order to be less dependent on the U.S. market, with an estimated 36% of its EBITDA projected to come from over there. Analysts, meanwhile, see the bottom line racing to new highs in 2022, and even that estimate ($4.20 per share) is likely to prove conservative. The Q3 report is due October 27.

Technical Analysis

HLT rallied from 84 to 126 (new all-time highs!) between November and March as Covid fears faded, then entered an extended period of consolidation. For six months, shares made little progress and traded mostly sideways despite a brief breakout attempt in July. HLT’s time to shine has finally come, though, with the stock up six of the past seven weeks to new price highs. We think modest weakness will be buyable.

HLT Weekly Chart

HLT Daily Chart

LPL Financial Holdings (LPLA)

lpl.com

Why the Strength

LPL Financial is the largest independent brokerage in the U.S., with a specialty in providing services used by more than 11,000 independent financial advisors, 450 registered investment advisors and about 800 other institutions. These services include everything from original market research that advisors package for clients to having an LPL team able to provide business continuity if the advisor takes a short-term leave for health reasons. For more sophisticated operations, the firm can provide a dedicated team for operations and marketing. LPL also offers its own wealth and brokerage options with a series of smaller advisory firms it has cobbled together in recent years. The latest is Waddell & Reed, which it brought into the fold this spring. All told, LPL’s network of independent and in-house advisors oversees more than $1.1 trillion of assets. On the brokerage side, the industry has had its profits squeezed for years, meaning LPL’s size is needed to offer cost-competitive, a la carte services to clients. The past five years have seen LPL’s model take off, with advisory and brokerage assets more than doubling and EBITDA nearly doubling in the 12 months ending June, to $933 million. The business is focused on recruiting individual advisors to act like independent employees, with LPL providing everything but a salary, as well as luring advisor groups managing large amounts of money who want to break away from their parent firm. Advisory is a better business model than brokerage, meaning as the business mix shifts more to advisors and less to brokerage services (they’re roughly even now), LPL will make more money. LPL is a pure “Bull Market” stock that should thrive as more investors get interested in the market.

Technical Analysis

Like most financial stocks, LPLA kicked off a big advance last November, with a beautiful, persistent advance through April. The correction and consolidation from there was relatively classic, with a couple months of selling, support at the 40-week line, a jagged rebound and some tightness in September. And now we see the breakout on three weeks in a row of big volume. It won’t be your fastest mover but we think LPLA is buyable here or on any dips.

LPLA Weekly Chart

LPLA Daily Chart

The Mosaic Company (MOS)

mosaicco.com

Why the Strength

High prices and tight supplies for crops like wheat and corn have resulted in improving demand for key nutrients like potash and phosphate. That’s music to Mosaic’s ears, as it’s the nation’s largest phosphate and potash fertilizer producer and provides feed ingredients for the global agriculture industry. Phosphate prices are surging to their highest levels in over a decade due to rising crop prices, biofuel demand and geopolitical uncertainties (reasons for the stock’s strength), and a lot of that is falling right to the company’s bottom line. In Q2, Mosaic delivered a strong performance across several key metrics, setting up the second half of 2021 to be “one of its strongest periods in over a decade,” according to management. Revenue of $2.8 billion was 37% higher than a year ago and per-share earnings of $1.17 topped estimates by 16 cents. Potash sales were down 12% due to rail delivery issues, but that should be cleared up going forward. Mosaic’s phosphate segment was by far the best performer, with segment sales jumping 54% due to the strong pricing environment and contributing to its highest overall gross margin in more than eight years. (The company’s significant free cash flow generation also facilitated the early retirement of $450 million in long-term debt.) For Q3, Mosaic expects a sequential increase of around $95 per ton in realized phosphate prices and about $30 per ton in realized potash prices. Buyer appetite is so strong, in fact, that the Q4 order book was getting filled during the summer, and Mosaic sees the strength continuing well beyond this year as phosphate channel inventories remain well below normal levels. Analysts see earnings catapulting to nearly $5 per share this year and remaining elevated for many quarters to come. The next earnings report is due out November 2.

Technical Analysis

MOS took flight last November on solid economic recovery expectations, with shares more than doubling before hitting 38 and running out of steam in June. A pullback to 29 followed, and MOS spent most of this summer establishing a base just above its rising 40-week line. And now the buyers are back, with MOS surging higher on four straight weeks of above-average volume. It’s a bit straight up from the bottom, which raises the chance of a shakeout, so we’ll set our buy range down a bit from here.

MOS Weekly Chart

MOS Daily Chart

Pioneer Natural Resources (PXD)

pxd.com

Why the Strength

There are many strong energy stocks out there today, but Pioneer looks like one of the favorites of the institutional crowd (market cap of $47 billion, owned by a whopping 1,913 mutual funds at the end of September). And that makes a lot of sense: The company has a contiguous 920,000 net acre position in the Midland and another 100,000 contiguous net acres in the Delaware basins (both within the Permian; no Federal acreage in this area), is realizing a ton of synergies from its acquisition of Parsley Energy and has boosted efficiencies across the board, leading to a best-in-class breakeven oil price (around $28 oil!) and ridiculous cash flow even if energy prices head south: As of late July (when oil was ~$72 and the futures predicted fading prices over the next few years), the firm expected $3.2 billion of free cash flow this year and nearly $4 billion annually for the next five years—and, because its debt is under control, expects to pay out around 80% of that cash flow, so if all goes well yields here could be juicy for years to come. Indeed, the company (like Devon Energy) has already implemented its fixed-plus-variable dividend policy —in Q2, it paid a 56 cent per share base dividend and another $1.51 in variable payouts, and with energy prices elevated it’s a good bet that figure will be even larger in Q3 and beyond. Even if prices fall back to where they were in July, cash flow should rise (Q2’s realized prices were “only” $64.5 per barrel of oil and $2.69 natural gas, so there’s plenty of upside), and of course any further rally in energy prices would cause the firm to be a printing press. All in all, Pioneer has one of the best big-cap stories in the oil patch.

Technical Analysis

Despite its fundamentals, PXD’s rally late last year and early this year was solid but not among the best in the sector, with shares effectively topping out around 170 in March. The stock eventually corrected north of 20% to its 40-week line in July, and even after that bottom, there was plenty of choppiness, with PXD continuing to make contact with the 40-week through late September. But the last few weeks have shown real power—shares have powered ahead on big volume each of the past four weeks. We advise buying on dips, but we’re not expecting a huge pullback.

PXD Weekly Chart

PXD Daily Chart

Teck Resources Limited (TECK)

teck.com

Why the Strength

Copper prices have softened in recent months based on concerns that producers might suffer if China’s biggest property developer, Evergrande, defaults on its debt (which would in turn hurt demand). Those fears have since been allayed, however, and the metal is showing signs of bottoming. Through it all, copper giant Teck (covered in the September 13 report) managed to outperform most of its peers thanks largely to its exposure to steelmaking coal, where prices remain near record highs. Aside from being one of the largest copper producers, Teck is the world’s second-largest seaborne exporter of the feedstock, with four operations in Western Canada and significant high-quality steelmaking coal reserves. However, Teck is looking to sell or spin off its coal business (valued as much as $8 billion) as part of a decarbonization plan. The divestiture would allow Teck to focus its attention on copper and zinc, which the company sees as pillars of the burgeoning “green economy.” Indeed, Teck plans to double its copper production in the next two years, seeing demand for the metal dramatically increasing from the white-hot electric vehicle industry. A major Wall Street institution agrees, estimating that Teck’s copper production will more than double from its “transformational” QB2 project (one of the world’s largest underdeveloped copper resources) in Chile. Providing additional support for Teck’s copper strength is news that copper inventories in China hit their lowest levels since 2009, with London Metal Exchange inventories falling 27% last week. Analysts see the bottom line soaring to $3.63 per share this year and actually inching higher next. Earnings are due out October 27.

Technical Analysis

After peaking at 26 in May and dropping to 20 in August (briefly penetrating the 40-week line), TECK rebounded to a token new high in September. A quick-and-dirty pullback followed, with shares tagging the 50-day line but finding solid support and drifting back to its previous peak over the next two weeks. Today’s move to new highs is certainly encouraging, though we advise aiming to enter on minor weakness given the run of the past three sessions.

TECK Weekly Chart

TECK Daily Chart

(UPST)

Why the Strength

Consumer credit drives most U.S. car purchases – few buyers pay all cash. Even as the average new car loan has expanded to more than $35,000, the loan process remains unpleasant and many consumers get a deal they dislike. Upstart is a software provider that applies Artificial Intelligence to provide loans that it says are both better priced for consumers and less risky for lenders. Upstart’s AI is a computer model that uses dozens of nontraditional lending variables about a buyer, like college attended and banking transactions, plus the performance of other loans from people sharing similar characteristics. It constantly refines how likely someone is to default based on the results and gives loan decisions nearly instantaneously. It’s a sophisticated take on an old approach dominated by Fair Isaac (FICO) that still uses a formula largely unchained since the 1980s. Upstart purchased auto loan software provider Prodigy Finance this spring, giving it immediate presence in dealerships and the ability to deploy its AI in auto loans. The company intends to provide expertise for new cars and loan refinancing and will partner with banks to provide loan offers on site. There are $1.3 trillion in outstanding car loans in the U.S., a market six times as large as personal loans, where Upstart has been playing. Upstart’s revenue hit $193 million in its second quarter, up 60% from the prior quarter, and analysts see a 42% bump next year. Upstart is also profitable, with $1.39 per share expected this year after a tiny profit in 2020. If all goes well, Upstart could turn into the “next Fair Isaac” in a sense, with auto loans providing a big spark.

Technical Analysis

UPST is extraordinarily volatile, with dips of 30% to 40% not uncommon even as it worked its way higher in recent months. But it’s also extraordinarily strong, with its Q2 numbers bringing a massive breakout in August and leading to an amazing run into mid-September. The pullback since then has been modest (support at the 25-day line) and could go further—if you’re game, you can start small on further dips and use a loose stop.

UPST Weekly Chart

UPST 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 October 18, 2021.