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2 IPOs to Watch, and How to Trade Them

There are two IPOs to watch right now. But first, you need to know how to identify, trade and handle initial public offerings.

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IPO letter on each block over gold coins stacks with newspaper and glasses

Photographer:Rudyanto Wijaya

Before I dive into my main topic - how to identify, trade and handle recent initial public offerings (IPOs), plus two recent IPOs to watch - I want to make a couple of quick points.

October 19 was the 30th anniversary of the 1987 stock market crash. I wasn’t involved in the market back then, but as a student of history, I find it fascinating. I know Tim Lutts told me that everyone in the office was calling their brokers every 45 minutes for quotes (this was before the internet, of course) to learn that their stocks were down a few more percent each time.

I’m not drawing any comparisons between then and now, but I do think the crash’s anniversary is a good time to remember that, in investing, it’s the “outlier” moves (up or down) that count.

Even in this strong bull market, we’ve seen some “great” stocks top out and fall suddenly and persistently, even though their results have been solid.

Ulta Beauty (ULTA) is one example; its shares plunged from an all-time high of 315 in early June to a low of around 188 last week following a downgrade.

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The bottom line is that despite a low-volatility, bullish year in the market, you should make sure you have your sell plans in place.

The second point I want to make involves sentiment. Interestingly, we’re starting to get some anecdotal signs that investors are complacent, even giddy—sentiment that often precedes a market pothole. However, recent numbers on broad measures like money flows are stunningly cautious!

For instance, since the beginning of September (when the market’s latest run began), we’ve actually seen a net of $8.5 billion get yanked OUT of equity funds, compared to $18.5 billion invested in taxable bond funds! (Data comes from Lipper.)

To be clear, money flows are not a short-term market timing indicator, but the continued lack of enthusiasm for equities (especially compared to bonds) is probably a good sign that the bull market has further to run.

How to Identify, Trade and Handle Recent IPOs

I’m always watching the IPO market because in a bull market, new issues can morph into new leaders. And while the total number of IPOs each year is still relatively small, many over the past couple of years have been growth companies, as opposed to the income firms (REITs, pipelines, etc.) that went public in 2013-2015.

That said, handling new issues is far trickier than handling normal stocks, and it’s not hard to understand why—with little institutional support, new IPOs are usually thinly traded and can flop all over the place based on the market, industry moves and what-not.

Thus, if you’re interested in playing these young stocks, there are three simple guidelines to follow.

  1. Keep positions small and stops loose to compensate for the added risk.
  2. Buy only after the IPO has traded for a few weeks and shown some constructive signs. What kind of signs? Usually a tight consolidation, though that can occasionally happen after a big drop or wild trading range.
  3. Buy only if the stock starts to show strength. That’s hard for most investors, but it’s usually necessary for IPOs because so many of them crash and burn for months. If you wait for some strength, you’ll be able to avoid most of the duds.

With that in mind, here are two IPOs to watch.

IPOs to Watch:ROKU and FND

The first IPO to watch is Roku (ROKU), which is a direct play on the millions of people who are cutting the cable cord and instead going with “over-the-top” services like Netflix, Hulu and others—basically, more people are jettisoning the huge monthly cable bills in exchange for more pick-and-play viewing options. And Roku is enabling this via its smart TVs and its cheap (starts at $30) players that allow any TV to access these online services.

Not surprisingly, business is booming—player sales grew 35% in the third quarter, active accounts leapt 48% (to 16.7 million), total streaming hours on its platform grew 58% (to 3.8 billion) and revenue per active user gained 37%. All of that led to a 47% gain in revenue, and while earnings are negative today, management expects to be cash flow breakeven within a couple of quarters.

There’s obviously lots of competition out there from other smart TV makers and what-not, but Roku has a great name in the industry and its current and future users should stick with it over time. Given the size of the market (all the frustrated cable subscribers out there), Roku likely has years of growth ahead of it.

The stock just came public in late September and boomed as high as 30 before the air was let out of the balloon, with shares sinking to 18 or so in late October and early November. But the Q3 report lit a fire under the stock, sending it soaring back to its highs on huge volume. It’s sure to be volatile, but nibbling (preferably on dips) on some shares should work over time—just be prepared for some big swings, so keep any position small.

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The second IPO I’m keeping an eye on is Floor & Décor (FND), which has an outstanding cookie-cutter story. The firm is a leading retailer of hard surface flooring (tile, wood, laminate, natural stone and more) and related accessories, which has been taking share from carpets for years. The company has successfully targeted all parts of the market, from pros to do-it-yourself-ers. Floor and Décor has 80 warehouse format stores (up 19% from a year ago) in 17 states and a fantastic record of growth

One analyst believes that in the long run, the firm can expand its store count fivefold and boost revenues eightfold. Again, that’s going to take many years, and given the industry, there will be some cyclical ups and downs. But the potential is there, and the reality today is enticing—in the third quarter, sales rose 27% and earnings lifted 21%, and analysts see 2018 earnings up 31%.

FND came public on April 27 and soared as high as 47 in June before succumbing to the normal post-IPO droop to 33 in August. It crawled back to 40 in September, and after pausing for a few weeks, has begun to push higher following earnings. It’s not free and clear, but I’m certainly watching it—eventually, it should get going as more big investors (174 funds already own shares) get onboard.

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As the bull market gains steam and as money flows into stocks pick up, there are sure to be more vibrant IPOs to watch in the months ahead. The best of them will show up in Cabot Top Ten Trader, which is the #1 source of new, buyable stock ideas for individuals and professionals alike. (Among all of Cabot’s advisories, Top Ten has by far the highest proportion of professionals and money managers as subscribers.)

If you want to be on top of the strongest stocks in this bull market—with specific buy ranges and sell points, and guidance along the way—sign up for Top Ten today!

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*This post has been updated from an original version that was published in October, 2017.

A growth stock and market timing expert, Michael Cintolo is Chief Investment Strategist of Cabot Wealth Network and Chief Analyst of Cabot Growth Investor and Cabot Top Ten Trader. Since joining Cabot in 1999, Mike has uncovered exceptional growth stocks and helped to create new tools and rules for buying and selling stocks. Perhaps most notable was his development of the proprietary trend-following market timing system, Cabot Tides, which has helped Cabot place among the top handful of market-timing newsletters numerous times.