January 24, 2022

With the market falling like a stone today, it’s tempting to conclude that a bottom is near. But the fact is that identifying bottoms is very difficult to do in real time, so the prudent course is to reduce risk, which we do this week by selling three more stocks.

As for the new recommendation, energy stocks have been a pocket of strength, so energy it is!

New Recommendation

As the market’s downtrend accelerates and growth stocks, which have led the way lower so far, are joined by a wider array of stocks, it’s important to reduce risk. Yet there are still pockets of strength out there, particularly financial and energy stocks, and energy is what we’re focused on this week. The stock was originally recommended by Mike Cintolo in Cabot Top Ten Trader, and here are Mike’s latest thoughts.

Pioneer Natural Resources (PXD)
A few weeks ago, we recommended Devon Energy in this advisory, and while it’s been tossed around by the market, I think it remains in good shape, both chart-wise and fundamentally. And we think it’s good to have more exposure to the field for a few reasons: First, of course, the stocks still look intact despite the recent wobbles; second, energy prices have remained stubbornly high of late; and third, we still think the sea change in the sector—with big cash flows and a lot of predictability—will attract more big investors.

After looking around for another name, we settled on Pioneer Natural Resources, which looks like it has the moxie of a liquid leader that institutions will be building positions in for a long time to come. The attractions here are many, starting with the firm’s focus: After a big recent sale of its Delaware basin assets to Continental Resources for $3.25 billion (well above market expectations of mid $2 billion value), Pioneer is now the largest pure play in the high-margin Midland basin area.

Moreover, the firm has been busy reducing debt and shoring up its balance sheet for a while, and this deal effectively put the icing on the cake—after the deal was finalized in late December, Pioneer’s net debt position (cash less debt outstanding) was reduced to less than 0.5 times annual free cash flow, and by year-end, that figure will likely be zero.

“Hey, that’s nice and all, but don’t we care more about sales, earnings and cash flow than debt reduction?” We do—but in this sector, it’s the companies that have already slashed debt to comfortable levels that are able to pay out most (if not all) of their burgeoning cash flow to investors even as they keep production relatively flat (Pioneer sees sub-5% output growth annually). And that’s just what Pioneer is doing—the firm offers a modest base dividend (1.1% annual yield), but then aims to pay out 75% of its remaining cash flow as a variable dividend, too. (It technically cut a dividend check in eight separate months of the past year, which is kind of neat.)

As unprofitable hedges roll off and realized prices rise, those payouts have been growing—in Q2, it paid $2.07 per share in total dividends (base plus variable), while Q3 saw that figure surge to $3.58. While Q4 had a couple of one-time items related to the Delaware sale, there’s little doubt big payouts are coming. And that doesn’t even count share buybacks, which are likely to be implemented.

Indeed, management isn’t just talking about the next few months but the next few years: In its Q3 conference call, the top brass implied that if oil prices remained in the low- to mid-$80s for the next five years (around the current price), the firm would likely be paying out north of $20 per share in dividends annually! Of course, no one is going to predict where oil prices will be a month from now, never mind five years, but the point is that even if prices sag from here, there’s plenty of cash set to be distributed down the road.

But Pioneer doesn’t think prices are going to sag meaningfully—in fact, after it closed the sale to Continental Resources, it closed all its remaining 2022 oil hedges (and most of its gas and liquids hedges), and the top brass at a conference this month believes supply/demand dynamics should keep oil prices elevated for a long time to come, possibly even moving into triple digits. Again, predictions in the energy patch are notoriously iffy, but if that scenario occurs the cash flow story here is going to be bananas.

Wall Street seems to be sniffing out good things—the stock held up very well in the fourth quarter despite volatile energy prices due to Fed hawkishness and Omicron, and it’s been acting great since the calendar flipped, with 12 days up in a row, 11 of which came on big, above-average volume. We think the dip of the past few days is reasonable and likely to lead to higher prices.

Current Recommendations and Changes

Current Recommendations

With every stock in our portfolio down today, the optimist says the bottom must be near. Perhaps so. On the other hand, betting against the trend of the market is a good way to lose money fast—and thus we’ll be doing some selling today. It’s been a long time since we’ve had a real bear market, so this downtrend could easily go further.

Changes Since Last Week’s Update
Arista Networks (ANET) to HOLD
Marvell Technology (MRVL) to SELL
MP Materials Corp (MP) to SELL
WillScot Mobile (WSC) to SELL

Arista Networks (ANET), previously recommended by Mike Cintolo in Cabot Growth Investor, lost more ground last week and we have a substantial loss, so the stock is a definite candidate for sale. On the other hand, the stock is sitting just below 120, which marks both the top of its gap up after the third-quarter report at the start of November and right where it found support at the start of December. In his update last week, Mike wrote, “If this was a normal, uptrending market, ANET would look pretty iffy, as it sits below its 50-day line and has slid fairly sharply during the past couple of weeks. But in this growth stock environment, ANET still acts pretty well—it’s holding miles above its 200-day line (79% of Nasdaq stocks are below their 200-day lines!) and is “only” 17% off its high. We still think the combination of its rapid, reliable growth story and the fact that the stock just changed character in November (should be early stage) means ANET is in pole position to be a leader during the next uptrend. However, our leash isn’t limitless, either, and the stock is getting caught up in the maelstrom. Right here, we’re hanging on as there’s support in this area and selling volume has actually been tame. But much more weakness could force us to pull the plug. We’ll switch to Hold and see how it goes.” HOLD

Bristol-Myers Squibb Company (BMY), originally recommended by Bruce Kaser in Cabot Undervalued Stocks Advisor for his Growth/Income Portfolio, is down today with the broad market, but volume is light, reflecting the fact that the true power in the stock has been on the buy side since the end of November. In his update last week, Bruce wrote, “BMY shares sell at a low valuation due to worries over patent expirations for Revlimid (starting in 2022) and Opdivo and Eliquis (starting in 2026). However, the company is working to replace the eventual revenue losses by developing its robust product pipeline while also acquiring new treatments (notably with its acquisitions of Celgene and MyoKardia), and by signing agreements with generics competitors to forestall their competitive entry. The likely worst-case scenario is flat revenues over the next 3-5 years. Bristol should continue to generate vast free cash flow, has a solid, investment-grade balance sheet, and trades at a sizeable discount to its peers.

If Bristol can demonstrate at least the reasonable potential for merely stable revenues during its patent expiration period, which we believe will happen, the shares are remarkably undervalued. On a free cash flow yield basis, assuming an average of $15 billion/year, the shares trade at a 11% free cash flow yield.

BMY shares have about 21% upside to our 78 price target. Valuation remains low at 8.1x estimated 2022 earnings, compared to 11x or better for its major peer companies. The stock’s 7.9x EV/EBITDA multiple is similarly cheap, compared to 9-10x or better for peers.

Either we are completely wrong about the company’s fundamental strength, or the market must eventually recognize Bristol’s earnings stability and power. We believe the earning power, low valuation and 3.4% dividend yield that is well-covered by enormous free cash flow make a compelling story.” BUY

Broadcom (AVGO), originally recommended by Tom Hutchinson in Cabot Dividend Investor for his Dividend Growth Tier, had a great run from mid-October through the end of December, and now it’s given most of that gain back, coming right down to its 200-day moving average. In his update last week, Tom wrote, “Ouch! This legendary technology stock has really been stinking up the place lately. The technology sector selloff has not spared AVGO. After soaring over 40% higher from early October through December, AVGO has crashed 15% in the past two weeks. There is no bad news at the company. Business is strong and the stock is still relatively cheap. I suspect it’s a double whammy. AVGO was due for a consolidation after a huge run, and the tech selloff hit at the same time. But I consider this short-term volatility for a long-term winner.” HOLD

Brookfield Infrastructure Partners (BIP), originally recommended by Tom Hutchinson in Cabot Dividend Investor for his Dividend Growth Tier, provides a 3.5% yield with little drama. In his latest update, Tom wrote, “This infrastructure partnership is still not far from the recent high. It is hanging strong in an environment that has been tough for defensive dividend payers, and that’s good. BIP has been on an uptrend since the market bottom in March of 2020, albeit a slow and sometimes choppy one. It’s still looks solid, and earnings should be strong, reflecting the new acquisition. (This security generates a K1 form at tax time).” HOLD

Cisco Systems (CSCO), originally recommended by Bruce Kaser in the Growth/Income Portfolio of Cabot Undervalued Stocks Advisor, hit a new high four weeks ago and has now pulled back to its 200-day moving average. In his update last week, Bruce wrote, “CSCO shares slipped 4% in the past week, perhaps not surprising in the sloppy tech tape, and have 10% upside to our 66 price target. The shares offer a 2.5% dividend yield.” HOLD

Devon Energy (DVN), originally recommended by Mike Cintolo in Cabot Growth Investor, hit a new high just last Tuesday, and has now pulled back to its 50-day moving average. In his update last week, Mike, wrote, “DVN has hit some resistance near 50 in recent days, so if you’re looking for something to worry about, that would be it. But, while we can’t rule out some short-term weakness (in both oil stocks and oil prices), we remain quite optimistic going ahead—the thrust that the sector has shown since 2022 began has historically led to good things in the intermediate term, and even a 20%-ish decline in oil prices would still have a stock like DVN likely trading at just eight times free cash flow and a dividend yield close to 7% at worst. Again, near term, another wobble or two is possible, but until proven otherwise, pullbacks should be buyable.” BUY

Marvell Technology (MRVL), originally recommended by Carl Delfeld in Cabot Explorer, had a wonderful run from May through early December, and then it transitioned to a base-building phase, but now that base has failed. In his update last week, Carl wrote, “MRVL shares tumbled from 86 to 77 this week as technology stocks were under selling pressure. Marvell shares were up 84% in 2021. This is a growth stock that is demonstrating some relative strength and holding firmer than most in a tough market, so I continue to rate this semiconductor stock a buy.” For aggressive investors with a high tolerance for risk (like Carl), that may work. But Mike Cintolo, who had recommended the stock in Cabot Top Ten Trader, downgraded it to Sell last week, and given that one of my rules says you should strive to prevent profits from becoming losses, I’m going to call it a sell today too. SELL

MP Materials Corp (MP), originally recommended by Tyler Laundon in Cabot Early Opportunities and featured here just two weeks ago, is a thinly traded stock that has collapsed as the market’s weakness has spread. The good news is that the stock is sitting on its 200-day moving average, which might provide support. The bad news is that MP is now one of our two biggest losers, and because I hate to see losses grow, I’m going to sell now. SELL

Oracle (ORCL), originally recommended by Carl Delfeld in Cabot Explorer and featured here last week, is down 5% since then, and thus a better buy. In his latest update, Carl wrote, “ORCL shares were caught up in some selling this week, falling to 83 and demonstrating that even stable high-quality tech stocks are facing headwinds. Oracle offers us cloud-computing growth at a very reasonable price. The stock is trading at less than 22 times earnings with big profit margins and a high return of equity. This stock is well suited to the current tough tech stock environment.” BUY

Sensata Technologies (ST), originally recommended by Bruce Kaser for the Buy Low Opportunities Portfolio of Cabot Undervalued Stocks Advisor, was at a record high of 65 just three weeks ago, but today it’s heading back down to 55, where the stock has found much support over the past year. In his update last week, Bruce wrote, “ST shares fell 3% in the past week to about 4% below their all-time high. Until their earnings report, there is little reason for the shares to fully escape the downturn in nearly all technology shares. The shares have about 21% upside to our 75 price target.” BUY

Tesla (TSLA), originally recommended by Mike Cintolo in Cabot Top Ten Trader, has fallen through support at 1000 and is heading for its 200-day moving average down at 800. While I don’t believe the stock is a good buy here (it’s the worst-performing stock in the portfolio today), I still believe it’s a good long-term hold for investors with long-term gains. Fourth-quarter results will be reported on January 26 after the market close. HOLD

U.S. Bancorp (USB), originally recommended by Tom Hutchinson in Cabot Dividend Investor for his Dividend Growth Tier, is a slow-moving stock with a good dividend, but that doesn’t mean it can’t go down. In fact, the stock gapped down last week on a poor earnings report. In his update last week, Tom wrote, “This regional bank stock was having a great year, until today. Fourth quarter results fell short of expectations on both earnings and revenue and USB is down over 6% so far today. I believe it’s an overreaction. It only slightly missed estimates. Plus, the stock had been rallying along with the rise in interest rates, as higher net interest spreads are good for profits. But that interest rate increase isn’t reflected in the last quarter. It bodes well for earnings next quarter.” Technically, the decline has brought the stock down to support at 55, which looks like a good buying area. BUY

Veeco Instruments (VECO), originally recommended by Carl Delfeld in Cabot Explorer, was hitting new highs until the market collapsed last week, and now it’s simply back at lower end of its uptrending channel. In his update then, Carl wrote, “VECO shares fell from 31 to 28 this past week, holding up fairly well considering the environment. This company makes the equipment and technology essential for staying ahead in the chip fabrication game. Veeco is a steady performer with a strong balance sheet. Revenue growth for 2021 is expected to be up 30% and even better for earnings (due out in early February). I recommend that you acquire shares if you have not already done so.” BUY

Verano Holdings (VRNOF), recommended by yours truly in Cabot Marijuana Investor, bottomed with the entire cannabis sector late last year, and has had been one of the most promising stocks in the sector in recent months. But with the broad market seriously weak, no one is piling into marijuana stocks. Still, the stock is sitting right at 10, where it has found support four times since October. If you’re underinvested in marijuana stocks, you could buy here. BUY

Visa (V), originally recommended by Tom Hutchinson in Cabot Dividend Investor for his Dividend Growth Tier, gapped down with the market today, but it should find support soon. In his update last week, Tom wrote, “V should benefit from the international recovery this year, which has lagged the U.S. recovery. As travel returns, the very profitable cross-border transactions should get a big boost while U.S. business is already booming.” Fourth-quarter results will be reported on January 27 after the market close. BUY

WillScot Mobile (WSC), originally recommended by Mike Cintolo in Cabot Top Ten Trader, hit a new high just three weeks ago, but has fallen with the market since. Last week I mentioned that Mike’s suggested stop was 37, and with the stock clearly through that level, out it goes. The momentum is gone. SELL

The next Cabot Stock of the Week issue will be published on January 31, 2022.