Cabot Top Ten Trader Issue: December 23, 2024

Merry and Happy

First and foremost, this is our last issue of 2024—next Monday is one of our two weeks off all year—so we want to wish you and yours a very Merry Christmas, Happy Holidays and a healthy and prosperous New Year. We’ll shoot out a quick Movers & Shakers on Friday and will be back at it with a fresh Top Ten issue on January 6.

As for the market, things finished up with a nice rally last Friday, but while certainly good to see, that doesn’t undo the action of the prior couple of weeks as a whole, which saw many leaders take hits and, last week in particular, when many major indexes (and growth measures) cracked their intermediate-term uptrends. To be clear, that doesn’t necessarily portend doom—we remain flexible, and if the buyers pounce on the recent weakness for a few days, we think there will be lots of “resumption” patterns among individual stocks (which are usually good buys). Still, given the near- and intermediate-term selling we’ve seen, we want to see buyers show up in a meaningful way first before putting a bunch of money back to work. For now, we remain cautious, aiming for small new positions and a decent chunk of cash on the sideline while we ride into year-end with big gains for the year. We’ll leave our Market Monitor at a level 5.

This week’s list is once again very growth-y, which we do find encouraging—a sign that big investors aren’t completely bailing out. Our Top Pick is Kyndryl Holdings (KD), which showed exceptional power in November and has now rested for three weeks, offering up a solid entry point, though we advise starting small given the environment.

Stock 1

Astera Labs (ALAB)

Why the Strength
Broadcom’s latest achievement of a $1 trillion valuation on the back of upbeat sales guidance for its custom artificial intelligence chips set off a buying wave for semiconductor companies with exposure to AI infrastructure. Among the beneficiaries was fabless semi firm Astera (covered in the November 18 issue), which offers system-aware chip integrated circuits, boards and services to enable high-speed data transfer for AI and cloud data centers. Not that Astera needed a boost from Broadcom; after all, its Q3 earnings in November attracted heavy interest from Wall Street after the company reported a 206% year-on-year revenue jump along with solid, consensus-beating earnings. Moreover, the firm is well positioned to address the highly lucrative market for custom AI accelerators (or XPUs), which Broadcom’s management estimated will be “in the range of $60 billion to $90 billion in fiscal 2027 alone.” And while Broadcom is the current leader in the data center switch market, Astera is looking to compete with its sixth-generation PCIe switches, where it dominates a rapidly growing niche: Astera’s Scorpio fabric switch is the industry’s first PCIe 6 switch and was specifically designed to optimize connectivity between AI accelerators for high-performance workloads in cloud-scale environments. (Further, the broad Scorpio portfolio provides Astera with another mouth-watering addressable market that’s expected to increase to $12 billion by 2028.) Along with the ramp of its Gen 6 products, the company is also seeing increasing demand for its active electrical cable modules and its Aries and Taurus smart connectivity modules, which provide connectivity and scalability for both AI and compute platforms. All told, Astera is poised to be one of the big leaders in the AI-induced networking and switching boom—analysts see both the top and bottom lines booming 60% next year on accelerating AI demand, and even those figures are likely conservative.

Technical Analysis
ALAB had a big post-IPO droop into August before tightening up and turning around, with powerful gaps in October (conference presentation) and again in November (on earnings), making it clear big investors were buying. Shares failed to fall into our buy range in mid-November, and to be fair, the stock is extended here—but it’s hard to ignore its relative strength, either. We’ll set our buy range down a bit, looking to start a small position on a bit of weakness and use a loose percentage stop.

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Stock 2

Birkenstock (BIRK)

Why the Strength
In its first full year as a publicly traded company, this German maker of comfortable, durable sandals has proven its strategy of a “luxury scarcity model” to build a sense of demand and maintain pricing power is working great. Revenue for the year ended Sept. 30, reported last week, showed sales up a better-than-expected 22% to €1.57 billion ($1.64 billion), with a consensus-beating €1.15 net income per share ($1.28). In a good sign for business, a variety of its shoe offerings showed exceptional strength in the quarter, including closed-toed silhouettes and orthopedics. For fiscal 2025, management sees the year producing sales growth around 16%, which it believes it can sustain for many years, with the current Q1 coming in slightly better, around €354 million ($369) up 18%, while analysts see the bottom line growing closer to 30%. The company sells some 700 versions of sandals and other footwear, collaborating with other luxury brands and designers for even more scarce limited editions that build excitement among regular customers. Birkenstock racks up good margins for a shoemaker by basing most offerings on a single type of sandal silhouette – reducing costs – to produce lines starting at $60 a pair with a half a dozen or more increasingly scarce varieties priced all the way up to $700. The 251-year old business shifted from producing enough to meet demand to focusing on deliberate scarcity last decade, cutting reliance on specific retailers during that time and beefing up direct-to-consumer sales. The move worked, and it has a strong record of customer loyalty in part because it remains intent on maintaining quality: Birkenstock’s vertical manufacturing process sees all of its goods crafted in company-owned factories in Europe with suppliers held to strict quality and ethical standards. The U.S. market promises to be fertile territory, given sales are almost all digital. Birkenstock just opened first American store, in Boston, with plans for more in other major cities.

Technical Analysis
BIRK held its IPO in October 2023, and after a few wobbles, the overall trend had been up until Q3 results missed consensus, gapping shares much lower and leading to a couple of months in the wilderness, with shares sitting no higher than they were 10 months before. However, BIRK began to change character in mid-November, with accelerating buying showing up before and after earnings. If you want in, aim for dips of a point or two.

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Stock 3

Celestica (CLS)

Why the Strength
When most investors discuss the AI boom, the names most often mentioned include major chip companies or data center operators. But while third-party manufacturers seldom enter the conversation, contract manufacturer Celestica is positioning itself to be a central player in the ongoing AI buildout. The Toronto-based outfit partners with leading companies across numerous high-growth industries—like aerospace/defense, communications, healthcare and energy—and offers products and services such as data center switches and optical transceivers. Its scale is a big reason why the company is positioned to become a dominant enabler for AI-focused firms, as it employs nearly 1,000 design engineers across 44 sites in 16 countries who work closely with customers to build tailor-made technologies. In recent quarters, a substantial chunk of the firm’s business has been related to AI data centers—particularly high-speed ethernet switch sales used for AI and machine learning (ML) workloads. The company also provides silicon photonics and co-packaged optics (where optical components are integrated directly onto the same package as the electronic circuitry), which enable the high-speed data transfer and power efficiency required by ML applications. Celstica’s Connectivity & Cloud Solutions segment (CCS) has been the main revenue driver of late, with sales jumping 42% year over year in Q3 (compared to a 22% gain in total revenues), driven by hyperscaler customer demand for its 400G networking switches as well as ramping programs in 800G switches. (Hyperscalers now account for nearly three-quarters of the CCS portfolio, putting Celstica on track for around $5 billion in 2024 revenue.) Going forward, Celestica plans to expand its AI footprint by pursuing new partnerships for servers; its latest deal involves a fast-rising AI player, Groq, for which Celestica will develop new AI/ML servers and full rack solutions in 2025. Wall Street sees several years of low-to-mid-teens revenue growth ahead—likely too conservative given the strength of the AI wave.

Technical Analysis
After a big run into the spring, CLS had a long (five and a half months long), deep (37% down, including two tests of the 200-day line) correction that bottomed in August and September. Shares picked up from there and the Q3 earnings gap saw enormous volume that kicked off a run that brought repeated new highs in the weeks that followed. CLS’ recent action has been very resilient, too, with the stock holding north of its 25-day line even as many growth titles got hit hard. We’re OK with a small buy on modest weakness, though we suggest a loose stop in the low 80s.

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Stock 4

Dutch Bros. (BROS)

Why the Strength
We’ve been keeping an eye on Dutch Bros. since it came public in 2021, as it has one of the most rapid cookie-cutter stories out there, though higher costs (food, labor and sales) and tepid same-store sales growth kept the lid on the stock for a long time—but now things are falling into place, and big investors are beginning to discount what should be years of solid top- and bottom-line growth ahead. The firm offers all sorts of beverages (mostly cold and including a lot of its own offerings, such as special energy drinks and seasonal products) and great customer service (including runners that come out to take and deliver orders even before you get to the drive-through window) via 950 locations, a figure that’s up 20% from a year ago (11 straight quarters of at least 30 new openings), and the store economics here are relatively solid, with company-operated stores (two-thirds of the total) showing very solid profitability (24% restaurant-level margins within a year, and that includes non-cash depreciation expenses). That said, traffic has been an issue (it fell all four quarters last year), but that’s begun to turn around (2.4% transaction growth in company stores in Q3, the fastest in a couple of years; total same-store sales gowth of 4% at these locations last quarter), thanks in part to the continued rollout of mobile ordering (now in 90% of all locations) and even a small move into bakery and other food items; while marketing and labor spend picked up, all of it led to a good-looking Q3, with sales up 28% and EBITDA lifting 20%. Looking ahead, the solid top- and bottom-line trends should continued, helped along by positive same-store sales growth (1% to 2% in Q4) and the long-term store expansion plan—the top brass says its development pipeline is deeper now than a year ago and expects 2025 to see 160 new openings, with an even greater number coming in 2026. If management makes the right moves, Dutch Bros. should get much bigger over time.

Technical Analysis
BROS spent a couple of years bottoming out before trying to get going in March and then again in May/June of this year—but both attempts fell flat. However, the November earnings gap was a clear difference maker, boosting shares to two-year highs and leading to some solid follow-on buying to around 56 two weeks ago. But just as impressive as that is the stock’s action of late, with a very modest dip to the 25-day line before some support appeared on Friday. We’re OK with small positions here or (preferably) on further weakness, with a stop near the 50-day line.

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Stock 5

Klaviyo (KVYO)

Why the Strength

Klaviyo is a software business that focuses on boosting retailers’ marketing successes. The core of its pitch is that it can connect databases that are usually siloed off from each other to lead to better and quicker decision making. For instance, it can combine product sales data with inventory systems, staffing logs and a clients’ real estate locations to know if weather improved sales one day and if low staffing may have held back sales on another day. Mostly, Klaviyo helps web and brick-and-mortar retailers combine customer data like email, phone numbers, web forms and mobile push notifications to design better marketing campaigns, tweak sales and lower back-end tech costs. There’s not a lot of magic to its tech stack compared to any other database firm, it’s just that businesses collect reams of data and Klaviyo spends a lot of time thinking about how its clients can access their data in quick, practical ways; ease of use and managing lots of customer data under one roof is often why its 154,000 clients have chosen Klaviyo. In the third quarter, revenue jumped 34% to $235 million with earnings of $0.15 per share, both of which beat estimates. Usually, the current Q4 is a period of tighter margins for Klaviyo because customers are cranking out campaigns –hiking costs for the vendor – though management says revenue should move up to around $257 million, putting sales up about 28% for the quarter. Sales growth next year should remain strong (mid-20% range expected), and two trends promise to help business long term: One, of course, is using AI to better sift data for connections, and the other is the rise of streaming TV, an area where lax privacy rules mean there is huge potential for collecting data and crafting bespoke ads. It’s an intriguing story.

Technical Analysis
KVYO got going with many growth stocks in August, after a big earnings gap kicked off a sustained run, though after tagging the post-IPO peak near 40, the stock suffered a big hiccup following the November report. Still, that gap down turned out to be a shakeout, with KVYO immediately marching higher and actually pushing to new highs last week. As with most names, we’ll aim for dips to enter.

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Stock 6

Kyndryl Holdings (KD) ★ Top Pick ★

Why the Strength
Kyndryl (covered in the November 25 issue) is a leading global IT infrastructure and consulting provider (spun-off from IBM three years ago) focused on designing, building and managing mission-critical technology systems that countless companies (including most Fortune 100 members) depend on. While the firm has exposure to multiple markets, the big story here is the ongoing trends in GenAI and cloud migration, along with the accompanying demand for better cybersecurity as enterprises modernize hybrid IT systems. Because of the durability of these trends, which have allowed Kyndryl to shift towards high-single-digit-margin contracts (a huge improvement from the anemic margins of just a few years ago), management recently guided for earnings to more than double to at least $1.2 billion within the next three years. A key reason for the bullish expectations is the firm’s Consult segment, which has seen its revenue consistently growing in the double digits. In fiscal Q2, Kyndryl’s Consult signings and revenue were up 81% and 23%, respectively, with the result that Consult is now a $2.5 billion-plus high-margin revenue stream for the company with a “significant runway for continued growth.” Another key driver of the firm’s growth is its relations with several major hyperscalers and top-tier tech sector leaders, with Kyndryl more than doubling revenue from services related to hyperscalers; it expects that it will reach $1 billion in hyperscaler-related revenue this fiscal year (ending next March). In recognition of the firm’s recent contract wins and long-term booking improvements (as highlighted by a fourth consecutive quarter of signage growth, up a big 33% during the past year), a major Wall Street bank just initiated coverage of the stock with a “Buy” rating (a reason for the strength). To be fair, the top line isn’t going to boom, but margins are heading up, which means free cash flow and earnings should surge going ahead.

Technical Analysis
We missed getting into KD last month as the stock never pulled back into our suggested buy range. Earnings were the catalyst for the change in character in early November, with another round of huge buying coming later that month. The rally encountered resistance a couple of weeks ago at 36, but since then KD has edged back to the 25-day line in normal fashion. We’re OK taking a swing at it around here or on further weakness with a stop closer to 30.

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Stock 7

Ollie’s Bargain Outlet (OLLI)

Why the Strength
Ollie’s is one of the country’s largest close-out retailers, doing good business for decades by using its seasoned purchasing team to buy goods at big retailers and sell goods from real brands (not knock-offs) at prices 20% to 70% below normal. Indeed, the firm’s big advantage is its size—other closeout retailers are shrinking or going out of business, while big branded suppliers are ordering more and larger sizes, leading to plenty of excess product they can sell to Ollie’s, which has the scale and balance sheet ($304 million in cash and nothing withdrawn on its credit line) to make large purchases from its big-box clients. This has never been a rapid growth outfit, with underlying same-store sales growth modest—usually up low single digits, though in Q3, same-store sales fell 0.5% due mostly to some one-off events, including two hurricanes affecting many stores—but there is a great cookie-cutter story here: Ollie’s ended November with 546 stores, up 8% from the year-ago figure, which included 24 new openings in the quarter that included some from acquisitions of competitor locations (99 Cents Only Stores, Big Lots) that have gone belly up. Another 13 stores should open in Q4, and the company is targeting a minimum of 10% store growth for 2025 as a whole, with the potential for many years of that type of expansion beyond that; earlier this year, the firm upped its long-term store goal to 1,300, up from 1,050 previously. Q3’s results were solid, with total sales up 8% and EBITDA up 17%, while the holiday quarter should show solid growth despite having one less week than a year ago—and more importantly, analysts see growth picking up steam next year as demand increases and the after-effects of less competition filter through the industry.

Technical Analysis
OLLI isn’t a go-go stock, but it’s shown the ability to trend once breaking out from big launching pads, which it appears to be doing now after earnings. The previous run-up topped at 105 in July and led to a reasonably controlled (18% range) consolidation that lasted into early December—before the latest quarterly report helped the stock break out on the upside. We’ll set our buy range down a bit from here, aiming to enter on a normal exhale.

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Stock 8

Taiwan Semi (TSM)

Why the Strength
As the world’s largest contract chip manufacturer (a 68% market share of all global chip production) with a dominant position in the semiconductor foundry market (nearly 60%), Taiwan Semiconductor needs no introduction. It’s also the producer of at least 90 percent of the world’s most advanced computer chips, which means the company plays a critical role in the high-performance computing and AI sectors, which are driving a fresh growth trend that should persist. Despite its already dominant position, Taiwan Semi continues to expand its footprint, most recently with the start of its first fab plant in Japan, which is set to begin mass producing 6- and 12-nanometer chips, with further plans to build an advanced chip packaging operation in Japan as part of that nation’s $10 billion subsidy initiative for semiconductor and AI-related manufacturing. Additionally, Taiwan Semi is in talks with chip giant Nvidia to produce the latter’s Blackwell AI chips (which are in high demand among GenAI and high-performance computing customers) at Taiwan’s new plant in Arizona. Meanwhile in August, Taiwan Semi announced a specialty tech fab in Germany that will focus on automotive and industrial applications utilizing 12-, 16- and 28-nanometer process technologies (with volume production scheduled to begin by the end of 2027). The company’s finances are also humming, with Q3 revenue jumping 41% year-on-year to $24 billion, with earnings of $1.97 a share increasing 57% as margins (approaching 50% pre-tax!) remained huge. Looking ahead, Taiwan expects continued “strong” sales of its leading-edge 3-nanometer and 5-nanometer process technologies supported by “extremely robust” AI-related demand in Q4 and into next year. The firm also sees revenue from its server AI processors more than tripling this year with a lot more growth beyond that—analysts see the bottom line lifting 30% in 2025.

Technical Analysis
We were stopped out of our position in TSM in November when the stock’s mid-October earnings bump failed, but after steadying itself, we see a nice base-on-base setup here: The deep summer correction (31% drop to the 200-day line) has given way to a tighter (16% deep), more proper consolidation; all told, there’s been little net progress since the July peak. We’re OK buying some around here or down a bit, with a stop in the low 180s.

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Stock 9

Trip.com (TCOM)

Why the Strength
A long post-pandemic slowdown in Chinese travel finally abated in the third quarter, as government stimulus helped prod Chinese consumers to book enough domestic and international travel to finally allow Trip.com to exceed its pre-COVID peak bookings. Revenue for the third quarter rose 16% year over year in local currency to CNY 15.87 billion (about $2.2 billion) with CNY 88.75 net income per share, or $1.20. Trip.com is essentially that country’s version of Expedia, but with even better market share, meaning the rebound in travel is going to have an outsized effect on the business. Trips by Chinese citizens—to the mainland as well as Taiwan and Hong Kong—are 90% of the Trip.com’s sales, with the company making money from commissions on what’s booked through its site. In addition to airfare, many travelers book hotel rooms, transportation and packaged tours—those three services contribute 87% of revenue. Another positive trend is that travelers 50 and older from China’s major cities are the strongest age group to return to travel, with bookings by that cohort jumping 26% this year. They have more money than younger travelers, so the profit Trip.com makes off of them is even stronger. Trip.com’s scale is its competitive edge, which allows it to negotiate better pricing that keeps customers using its platform as well as offering a wider selection of hotels and packages than other travel sites. Analysts expect the traditionally weaker Q4 to bring revenue of CNY 12.3 billion ($1.7 billion) and EPS of CNY 3.95 ($0.54), but the focus is on what could be a stronger-than-expected Chinese economy (and, likely, estimate-beating results from Trip.com) given the stimulus measures.

Technical Analysis
In October TCOM finally broke through the 60 level (a resistance area that dated back many years), though there wasn’t much followthrough, with shares then hacking between 60 and 70 for the next couple of months, leading to a 50-day line test in November. But TCOM started to lift from there and broke out again two weeks ago, with the latest exhale looking calm and collected. We’re OK starting a position here with a stop in the mid-60s.

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Stock 10

United Airlines (UAL)

Why the Strength
The ongoing holiday season is expected to be record-breaking for both auto passenger and airline travel, with a major industry group predicting U.S. airliners will carry 54 million passengers during a 19-day period that started last Thursday and ends January 6. Legacy carrier United Airlines is positioned to benefit from this after shedding “unproductive capacity” (flights or services that were not generating sufficient revenue) earlier this fall. Indeed, the reduction of the underperforming routes has allowed United to streamline operations while expanding capacity for the most profitable routes, paving the way for better profitability going forward. To that end, United’s management has drawn attention to what it sees as a “clear inflection point” in revenue trends, which it said positions the airline at the top of the industry for the foreseeable future. Total revenue in Q3 was just under $15 billion, a 2% increase from a year ago, with earnings of $3.33 per share beating estimates by 16 cents (a big reason for the stock’s recent strength). It was also the busiest third quarter in company history, setting records for the most ever passengers for the July 4th and Labor Day holidays, and for the highest number of customers carried in a day (at 552,000) in July, which United attributes to recent investments and improvements in its operations—including the delivery of 17 Boeing MAX aircraft in Q3 (total capacity was up 4.1% from a year ago in Q3), with the delivery of 19 additional narrowbody and three widebody aircraft scheduled for Q4. Additionally, the top brass is seeing a notable increase in return to office policies that are driving corporate travel and revenue growth at an “accelerated level” and creating a “great setup” for 2025. For years, United and its peers have posted great earnings, but the fear was that the next big move for the bottom line would be down—but now it looks like the opposite is true, with analysts seeing sales and earnings upside in 2025 even from the current elevated levels. A recently approved $1.5 billion share buyback program is an added plus.

Technical Analysis
UAL spent the last couple of years stuck in a 30-point trading range, but as we noted in our last writeup in late September, that chop phase is over, replaced by stunning strength. In fact, shares advanced a whopping 18 weeks in a row, a show of persistent buying that isn’t likely to up and die in the near term; indeed, the stock’s recent dip has been very well controlled and found support where it “should” so far. We took a great gain a few weeks back, but we like the setup here as the stock has calmed down—we’re OK buying some UAL on a little weakness with a stop just under the 50-day line.

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Previously Recommended Stocks

The next Cabot Top Ten Trader issue will be published on January 6, 2025.

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