Two Steps Back
Current Market Outlook
Last week saw all the major indexes close clearly below their 50-day moving averages, a development which, combined with another batch of breakdowns among leading stocks and cracks in key sectors (like chip stocks), has us taking another couple of steps back—we’re moving our Market Monitor down to a level 5 (out of 10) in today’s issue. To be clear, the market isn’t a disaster here, as most major indexes are just 3% or 4% from all-time highs, many stocks (especially growth stocks) are still relatively resilient and the longer-term uptrend isn’t in doubt. But the onus is on the bulls to take a stand. After six weeks of correcting and consolidating, we need to see buyers step up before putting a bunch of new money to work. In the meantime, we’re holding some cash and keeping new buys small.
Encouragingly, our screens are still picking up on plenty of attractive charts and stories. Our Top Pick is Innoviva (INVA), which has a couple of asthma treatments that are raking in the dough (much of it from royalties). It’s thinly traded, so consider buying a small position on dips.
| Stock Name | Price | ||
|---|---|---|---|
| Align Technology (ALGN) | 316.20 | ||
| Arista Networks (ANET) | 0.00 | ||
| Bioverativ (BIVV) | 0.00 | ||
| HP (HPQ) | 0.00 | ||
| Innoviva (INVA) | 0.00 | ||
| JD.com (JD) | 39.58 | ||
| MACOM Technology Solutions (MTSI) | 0.00 | ||
| PulteGroup (PHM) | 45.93 | ||
| Seagate Technology (STX) | 0.00 | ||
| Yum China (YUMC) | 0.00 |
Align Technology (ALGN)
Why the Strength
Institutional investors are always looking for big growth ideas, but they’re also looking for reliability—it’s the combination of both that provides the juice for a stock to enjoy a sustained run higher. Align Technolgy is a perfect example. The company’s Invisalign clear aligners have numerous advantages over traditional braces, including better comfort, safety and appearance, plus a generally shorter timeframe of treatment. Because of that, Align is taking share in the huge braces market, and after a few quarters of heavy investment, the company has likely begun a multi-year run of growth both in the U.S. and overseas. Revenues rose 28% last year while Invisalign cases shipped rose 22% (to more than 700,000) and its dental scanner sales rose even faster. And the next few years should see similar growth—analysts expect earnings to rise 28% this year and 20% in 2018, and the company’s three-to-five year model has 15% to 25% annual revenue growth, a 20%-ish expansion in operating margins and a 20% to 25% rise in free cash flow every year. Of course, the stock’s valuation (38 times this year’s earnings estimate) is rich, but that’s not unusual for dependable, long-term growth stories. First-quarter earnings are due out April 27.
Technical Analysis
ALGN appears to be early in a new advance. The stock made no progress for more than two years before running from 68 to 97 during a five-month stretch last year. That advance led to another pause (this one about six months), which resulted in a persistent upmove, which took the stock as high as 117 before a mild pullback. You can pick up a few shares around here, but keep it small with the market iffy and with earnings due out next week.
ALGN Weekly Chart
ALGN Daily Chart
Arista Networks (ANET)
Why the Strength
Arista Networks is strong today because more and more investors are thinking it’s the next big company in the networking field. The company was built from the ground up for the cloud environment, with a flexible switching hardware and software platform that offers a better/faster/cheaper solution for data centers and other environments. (Interestingly, the CEO was a former Senior VP of Cisco’s Data Center division, while its Chief Development Officer was a founder and Chief System Architect at Sun Microsystems.) And that’s resulted in a big gain in market share (14.5% at year-end in the high-speed data center switch market, vs. 12% a year ago and 9.3% two years ago) and rapid sales and earnings growth. About the only hitch in the story has been a never-ending patent battle with Cisco, but Arista recently received good news on that front—the U.S. International Trade Commission (ITC) told the judge it doesn’t believe Arista’s new switches infringe on Cisco’s patents. There are still rulings to come in June and September, and there’s another ITC case with Cisco, but it’s a positive indication. All told, the core growth story remains excellent, and that’s what big investors are focused on today. Earnings are due out May 4.
Technical Analysis
The defining point on ANET’s chart came back in February, when the stock exploded to new price and RP peaks on seven times average volume following earnings. Since then, the stock has acted very well, pushing into the mid-130s in late March before finally beginning to consolidate in a tight range. (It’s closed the past four weeks around the same level.) Given the market environment, you could consider buying a small amount here or on dips.
ANET Weekly Chart
ANET Daily Chart
Bioverativ (BIVV)
Why the Strength
Bioverative was spun off from Biogen early this year with two commercial hemophilia treatments, Eloctate and Alprolix. The duo have been growing consistently, with 2016 revenue up 58% over 2015. There is more room for market expansion with these two drugs and analysts have penciled in 18% revenue growth in 2017 and another 12% in 2018. Given that Bioverativ is currently profitable and that EPS growth should hover around 20% annually over the next couple of years, this looks like a relatively low risk biotech stock. However, its long-term potential isn’t defined by just Eloctate and Alprolix; it needs success in its pipeline to add more significant revenue to the mix. And it’s not likely that new products will hit the market until 2021 given that the two most advanced treatments are still in preclinical trials. On the other hand, this is a company that could easily be a takeover target within a few years and the potential for an overnight jump is likely to keep investor interest high. Another significant stock catalyst could be corporate tax reform given the degree of profitability here. Risks include competitor products, potentially from Novo Nordisk and Bayer.
Technical Analysis
BIIV hit the market in mid-January as a thinly traded version of the “real” stock that hit the market on February 2. Once trading began in earnest, the stock bounced around for a few days, then jumped off 42 on February 11 and rallied to 54 by March 2. A modest pullback to 48 occurred in the first three weeks of March. Then the company filed its 10-K Annual Report on March 24 and investors were pleased by revenue growth and a lower-than-expected tax rate. Shares walked up to 56 by April 10, and have since plateaued at that level. Keep position sizes small and average in.
BIVV Weekly Chart
BIVV Daily Chart
HP (HPQ)
Why the Strength
The last few years have been unkind to the company formerly known as Hewlett-Packard, with earnings tumbling by as much as 70% and the stock going through the wringer (losing 65% over a six-year stretch). But a restructuring has unlocked value and reduced costs; the company’s spin-off of HP Enterprise (HPE) in October 2015 was a good move, leaving HP Inc. with the legacy computer and printing businesses. (PCs make up 58% of revenues, printing 36% and workstations 6%.) While those businesses don’t posses great long-term potential, the stock is strong today for a few reasons. First, HP is taking share in the computer market, and that market as a whole is showing signs of stabilization. Second, HP is focusing more on higher-margin products (gaming and commercial PCs), which is bolstering earnings. And with the printing business relatively stable, the recent restructuring has kept costs in check, resulting in solid free cash flow and a healthy balance sheet (cash nearly equals debt). In the most recent quarter, currency-neutral revenues grew 5% (consumer PC revenue rose 15%), earnings advanced 6% and free cash flow totaled $735 million, most of which was put toward the dividend (2.9% annual yield) and share buybacks (share count was down 3.5% from a year ago). Analysts see earnings relatively flat going forward, but that could prove conservative as the PC market perks up. Consider it an intriguing value situation.
Technical Analysis
HPQ bottomed with the market below 9 in early 2016 and surged back to nearly 16 by early October. Shares spent the next four months chopping around, before moving to new highs following its earnings report in February. HPQ tightened up for the next six weeks, waiting for its 10-week line to catch up, and last week, despite the down the market, the stock pushed to new highs on excellent volume. If you’re game, you could nibble on minor weakness and use a stop near 17.
HPQ Weekly Chart
HPQ Daily Chart
Innoviva (INVA)
Why the Strength
Asthma sufferers are probably already aware of Innoviva, but it’s a new name to Top Ten subscribers. The company develops drugs for respiratory diseases through a partnership with Glasko. The team’s two commercial products are Breo/Relvar for asthma, and Anoro for chronic obstructive pulmonary disease. Both are inhalers and are sold in over 40 countries (around 44% of revenue comes from the U.S.). Breo is the workhorse of the two, accounting for 75% of total sales. That makes sense given that the market for asthma is both huge and growing. Innoviva has said that both products are gaining market share rapidly with Breo accounting for 40% of new inhaled corticosteroid/long-acting beta agonists prescriptions in the U.S., and Anoro accounting for 23% of new maintenance bronchodilator prescriptions. Those headline numbers are supported by 117% and 132% royalty revenue growth in 2016 from Breo and Anoro, respectively. The company’s market cap of just $1.6 billion means it’s still flying somewhat under the radar. But with over 10% of its market cap in cash, a plan to reduce debt, projected 2017 EPS growth of 130%, and projected revenue growth of 60%, there’s a lot to like here. We’d be remiss not to mention that activist investors got involved about a month ago and are pushing for board seats and more shareholder-friendly management decisions.
Technical Analysis
INVA spent most of the last few months trading in the 10 to 11.5 range, with a couple of upside fakeouts (one in January and one in February). But the stock firmed up into March and lifted off on the back of activist investor Sarissa Capital pushing for three board seats. The market appears to like Sarissa’s vision, as the stock has climbed steadily to 14 over the past month. Consider nibbling on dips.
INVA Weekly Chart
INVA Daily Chart
JD.com (JD)
Why the Strength
Alibaba may be the biggest online merchant in China by market cap, but JD.com actually sells a heck of a lot more merchandise. JD.com is the Chinese equivalent of Amazon.com, an ambitious online merchant that actually holds, sells and delivers its own inventory through a growing network of warehouses and delivery modes. Like Amazon, the company has spent a ton of money on its storage and delivery infrastructure, sacrificing profits for market share … until recently. JD.com’s earnings turned positive for good in the last three quarters of 2016. Estimates call for earnings to grow 118% in 2017 and 167% in 2018. The company is quite serious about delivering authentic branded merchandise (avoiding the counterfeit problem that has bedeviled Alibaba) and deliver it quickly. A string of 150 drone delivery centers is expected to bring the company’s one-day delivery statistics even higher than its current 80%. JD.com’s drones will fly fixed routes in four provinces, with the last mile accomplished by conventional couriers. But drone delivery outside big cities is expected to bring costs way down as drones can conquer traffic and tricky terrain. In short, JD.com is an aggressively ambitious company that’s riding the wave of shopping via mobile devices in the world’s biggest online marketplace.
Technical Analysis
JD has been on a roller coaster since its IPO in the U.S. in 2014. But you almost see the moment the stock caught investors’ eyes in January 2017. After trading flat for months and closing 2016 at 25, JD caught a serious updraft and has been heading higher with only minor corrections along the way. The stock took less than two weeks to undo the damage caused by the March 21 downdraft, and traded above 32 last week, ignoring the weakness of both the Chinese and U.S. markets. You can buy a little on any pullback of a half a point, then average up when the market turns supportive again.
JD Weekly Chart
JD Daily Chart
MACOM Technology Solutions (MTSI)
Why the Strength
The Philadelphia Semiconductor Index broke through intermediate-term support last week, but that’s not going to stop us from highlighting one of the few semi-stocks that bucked the trend. MACOM Technology Solutions is a Massachusetts-based manufacturer of semiconductor solutions for optical, wireless and satellite networks. Most of its growth is being driven by the proliferation of cloud-connected apps (think data center networking equipment) and networked battlefield equipment (think of antennas and high data networks streaming info to Rockwell Collins, Northrop Grumman, Lockheed Martin, etc.). Revenue growth of 24% in 2015 and 29% in 2016 was the result of both organic growth and acquisitions. We’d flag profit margin growth as a noteworthy trend here; net profit margins have moved up from 11% at the end of 2014 to almost 20% at the end of 2016. That trend helped earnings expand by 55% in 2016. This year should be good as well, with analysts projecting that 33% revenue growth will push EPS 38% higher. The sector’s recent action is definitely a headwind, but MACOM’s rapid sales and earnings growth and resilient stock action make it one to watch.
Technical Analysis
MTSI benefited from the post-election rally as shares moved from 36 to 53 by early December. That began a choppy pullback that ended with a quick shakeout to 43 on March 21. Since then, the chart has been more constructive with the stock rising for 13 of the following 14 sessions on heavy volume, and it held those gains last week. You could pick up a few shares around here, or just put it on your Watch List.
MTSI Weekly Chart
MTSI Daily Chart
PulteGroup (PHM)
Why the Strength
While the geopolitical uncertainties have served to rattle the stock market, they’ve also brought interest (and mortgage) rates down to their lowest levels since last November. Combined with still-resilient leading economic indicators and some encouraging current housing reports (both for the industry and from peers), and there are many reasons to think homebuilders like PulteGroup should enjoy good times ahead. Pulte is one of the top firms in the group, with operations nearly evenly spread across much of the country and by different types of home buyers (30% of closings last year were first-time buyers, 43% move-up buyers and 27% active adults). Not only is Pulte making hay in the recovering housing market (last quarter’s home sale revenue, new orders and backlog all rose about 20%), but its aggressive stance on capital returns to shareholders has resulted in a solid dividend (1.5% annually) and a huge share buyback program; last quarter’s share count was down nearly 7% from a year ago, and Pulte is aiming to buy back $250 million of stock every quarter through the end of 2017 (about 3% per quarter). Partially because of that, analysts see earnings surging more than 30% this year and another 20% in 2018. Earnings are due out April 27, with expectations calling for a 23% revenue gain and earnings rising 21%.
Technical Analysis
PHM’s action has been very encouraging lately, especially given the wobbly market. Shares have acted well since the start of the year, surging on earnings in January, tightening up for a few weeks, and then quickly rallying to resistance at 24. Now, for the past four weeks, PHM has again tightened up, while its RP line reached a new recovery high. You could nibble here.
PHM Weekly Chart
PHM Daily Chart
Seagate Technology (STX)
Why the Strength
Seagate Technology is one of the top dogs when it comes to the hard disk drive industry, and while it’s a very cyclical industry, the demand for greater amounts of storage (especially with the boom in cloud and mobile) is booming, which is keeping prices afloat. Combined with the company’s own cost initiatives, Seagate’s bottom line is poised to storm back in 2017 after a couple of down years—the fourth-quarter report in January blew away estimates and management significantly boosted guidance for the fiscal year ending in June. (Analysts see earnings for the year at $4.50 per share, up from an estimate of $3.78 before the report.) And higher earnings generally means more cash returned to shareholders; Seagate resumed its share buyback program last quarter, buying back more than 1% of outstanding shares, and it continues to pay a very generous dividend (5.2% annual yield) that, at the very least, looks safe for the next few quarters. It’s not a long-term growth story, but Seagate’s fundamentals have clearly turned up after a down spell. The next earnings report is due out April 26.
Technical Analysis
STX fell from 69 in early 2015 to a low of 18 last spring before snapping back to 39 in September. Shares then chopped sideways for a few months before surging on earnings in January and eventually kissing the 50 level. Now STX has etched a shallow cup-shaped base for the past six weeks, holding its 50-day line in the process. If you’re game, you could nibble around here and see how earnings are received next week.
STX Weekly Chart
STX Daily Chart
Yum China (YUMC)
Why the Strength
While Yum China, a restaurant chain that operates KFC, Pizza Hut and Taco Bell in China, looks like a new company, it’s actually just the Chinese operations of Yum! Brands that was spun off and began trading as a separate entity last October. In addition to its U.S. brands, Yum China operates two homegrown chains called Little Sheep (hot-pot cooking) and East Dawning (quick-service Chinese food). Most of Yum China’s 7,663 restaurants are KFCs, a brand that used to provide much of the growth in the company’s restaurant mix. Yum China has hit the ground running, opening 133 new stores in the most recent quarter; all told, the company’s location count is up from 7,205 a year ago. The company’s latest quarterly report on April 6 was full of good news for investors, featuring a 19% jump in earnings and a 13.6% after-tax profit margin despite virtually flat revenue. Investors were impressed with the company’s guidance for the full fiscal year 2017, which called for between 550 and 600 new stores. Yum China has already attracted the attention of two major Chinese venture capital companies, including Ant Financial, which is the company operating Alibaba’s Alipay online payment division. Yum! Brands Chinese operations were sometimes subject to scandals about food quality, but Yum China appears to be free of those concerns. It’s an interesting story given the strength in many Chinese stocks.
Technical Analysis
YUMC came public in late October at around 25, and traded as high as 30 in November. But the stock fell into a post-IPO base-building pattern at that point, trading mostly flat with support at 26. YUMC then gapped up to 31 after the report, with enough momentum to push to 33 at the end of last week. The stock has completely ignored the flaccid state of the market recently, which is a sign of strength. If you’re game, you can take a small position on any weakness, with a stop around 30.
YUMC Weekly Chart
YUMC 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.
