Cabot Top Ten Trader Issue: October 14, 2024

Growth Stretching its Legs

It hasn’t been any dramatic one- or two-day event, but the evidence has moved steadily toward the bullish case during the past couple of weeks—we’re seeing some growth measures finally stretching their legs on the upside, while many strong stocks have kept chugging higher and a few more have lifted off. We will say that there are more than a few secondary factors that aren’t ideal, including the fact that interest rates are going up nearly every day, near-term sentiment is getting elevated/complacent (often happens within a couple of weeks of some tricky trading, be it a selloff or a rotation) and, of course, earnings season is beginning to ramp up, which always brings some big moves up and down. Thus, we don’t think now’s the time to cannonball into the pool, per se, but we’re mostly holding our winners (booking the occasional partial profit on the way up) and gradually extending our line as new opportunities emerge. We’re lifting our Market Monitor to a level 8.

This week’s list is definitely growth-ier than the past couple of weeks, which is no surprise given the strength seen in that area. Our Top Pick is Robinhood (HOOD), which has re-emerged after a brutal summer correction and has big leverage to a strong equity and crypto market. It’s not for the faint of heart, so use a loose stop if you go in.

Stock 1

Boot Barn (BOOT)

Why the Strength
We’ve written about Boot Barn a couple of times this year, and we’re doing so again as it looks like the long after-effects of the pandemic are finally wearing off, with big investors re-focusing on the firm’s fantastic underlying story, numbers and growth potential in the years ahead. There are many things to like about the company, but one of the best is that it’s the leader in a big, growing niche that doesn’t have tons of competition: Boot Barn’s western style clothing and blue collar work wear aren’t what you normally find at the mall, and yet the popularity of it is growing as western lifestyle becomes more popular; the relative lack of competition minimizes the need to discount, as does the firm’s move into exclusive brands (nearly 40% of sales this fiscal year), which is helping margins. Business went bananas during the pandemic, with same-store sales rising a silly 54% in 2022 and early 2023, and the normalization since then (comparable sales down 0.1% in fiscal 2023 and 6.2% last year) has kept the firm’s sales/earnings figures in check. But as we wrote above, that sluggishness is fading, with earnings stabilizing of late and with things expected to pick up from here. Indeed, at an early September conference, the top brass hiked its earnings outlook for the fiscal year (to $5.20 from $4.70 per share), and that wasn’t the first guidance hike this year. Also important is the cookie cutter story, with 411 stores today but expecting to grow that to 900 in 2030 (15% annual growth), backed up by fantastic store economics (18 month payback), so there should be a lot of embedded growth just from that. The next big event comes October 23, when the quarterly results are released.

Technical Analysis
BOOT’s initial kickoff came on February 1 on earnings, so it has had a multi-month run, raising risk of a deeper retreat. That said, the stock continues to act very well: The August market-induced shakeout was quickly reversed, and then the bullish outlook in September kicked the stock to higher highs. Now we see BOOT easing a bit on lighter volume to the 25-day line—we think it’s a good risk/reward around here or on a bit more weakness.

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Stock 2

Clear Secure (YOU)

Why the Strength
Biometric security is commanding lots of headlines these days, particularly with the biometric REAL-ID compliant driver’s licenses being one of the ID options to fly domestic U.S. flights starting next year. This puts the burgeoning biometric identification industry in a powerful position for further expansion, with analysts forecasting 250% global market growth by 2033. Clear Secure is a leader in this field, billing itself as the premier “universal identity platform powering trusted experiences” through its biometric travel document verification systems at major airports and stadiums. The New York-based company serves over 25 million members in total, though that includes many who sign up for free (dubbed Clear Verified); of those, about seven million now pay a reasonable fee (dubbed Clear Plus—something like $200 per year plus $120 for extra family members) for what amount to an easier ID process that involves using a driver’s license or passport, a facial scan and a fingerprint that will allow the user to be verified across the entire Clear ecosystem. The firm’s Clear Plus offering allows users to skip the initial ID portion of security checks at airports by using dedicated lanes reserved for members, a service available at nearly 60 airports across the U.S. It’s also a TSA PreCheck enrollment partner, and the combination of those two obviously cuts down on the check-in process. Additionally, the company also has priority lanes (known as Clear Lanes) for expedited entry at over 50 sporting and entertainment venues across the country. And even in the healthcare arena, Clear Secure is making strides after a recent partnership with Wellstar Health System, one of Georgia’s largest healthcare providers, to streamline the patient check-in process and bypass the usual paperwork. On the financial front, Q2 revenue of $187 million increased 25% from a year ago and earnings of 34 cents a share topped estimates by 31%. Adjusted EBITDA of $48 million soared 200%, while free cash flow (FCF) jumped 65%. The latter metric is a big part of the company’s story, with Clear Secure’s cash balance now standing at $700 million and management guiding for full-year FCF growth guidance to at least 40%, to $280 million. It’s a good story.

Technical Analysis
YOU came public in June 2021 at 38 and ran up as high as 66 over the next two months before losing its stride and falling out of favor. Shares plunged soon afterward, hitting the 20 mark by early 2022 and grinding even lower over the next several months before establishing support above 16 this past spring. The turnaround was quick in coming, however, and the last few months have witnessed a major character change as YOU kicked off on earnings in August and, after a huge run, has survived its first dip toward its 10-week line. If you’re game, you can start small on modest weakness.

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Stock 3

Coherent (COHR)

Why the Strength
Data center capex is expected to increase 40% year-on-year for some of the world’s biggest cloud companies, a trend expected to provide a sizable tailwind for data center interconnect (DCI) providers like Coherent. The Pennsylvania-based company (covered in the September 16 issue) is a leading provider of advanced illumination solutions for 3D sensing applications, including lasers and other precision instruments used in multiple industries, as well as optical transceiver technology that underpins and drives the high-speed connectivity required by new AI data centers (and which Coherent sees as its one of its “most exciting growth opportunities”). In fiscal Q4 (ended June), total revenue of $1.3 billion increased by approximately 9%, both sequentially and year-over-year, driven primarily by strong growth in the firm’s datacom transceivers for AI data-centric deployments and reversing a multi-quarter business slowdown. In Coherent’s datacom segment, Q4 revenue grew 58% from a year ago, thanks to AI and data center demand, while the communications end market saw sales increase 19%. Elsewhere, the display capital equipment business saw growing demand for Coherent’s excimer laser annealing system (for marking surfaces) and related services driven by expanded OLED adoption in the smartphone, laptop and tablet computer markets, while its other industrial verticals saw “relatively stable” revenue in the aggregate thanks to new product introductions like its fiber laser platform for cutting and the firm’s new line of annealing systems (to heat and cool materials) for GenAI display fabs. The upsurge in AI-related demand for Coherent’s transceivers prompted a major Wall Street firm to upgrade the shares recently (a reason for the stock’s latest show of strength), which it sees increasing the firm’s operating margins by 8% over time. Analysts think the business upturn has arrived, with much faster sales and huge earnings growth expected from here.

Technical Analysis
COHR ran up from 50 in late-April all the way to 80 in late July before the market’s summer shenanigans yanked the stock down very sharply. However, the stock found support near the 200-day line and, impressively, roared right back to the 80 level in August, a sign of strength. The early-September pullback gave way to a big-volume breakout, and COHR has remained strong today. We think it goes higher, but near-term, would advise targeting new entries down a few points from here.

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Stock 4

DoorDash (DASH)

Why the Strength
Despite plenty of competition from Gruhub, Uber Eats and many smaller players, DoorDash is the King of Delivery, dominating the industry in the core restaurant area and also expanding quickly into other delivery areas like from convienence stores, groceries and other locations—indeed, not only is its market share much larger than its peers, but among restaurants, the top brass it’s still getting more than half of new entrants to the delivery market to join its network, while for the newer grocery/convenience store sector, it’s about one in two. A big advantage here is a best-in-class logistics network, which reportedly results in the lowest costs and best “matching” capabilities in most of the U.S., enticing firms to sign up—and, of course, the network effect then entices more to come onboard, since DoorDash has the most users. There’s also an international angle here thanks to the firm’s buyout of Wolt, a Finnish firm that’s and up and running in Europe and a few other places. All told, the days of 50% or 100% growth is probably behind it, but DoorDash quacks like a liquid leader (more than 1,600 funds own shares) that should crank out 20%-ish top line growth for many years while EBITDA booms. In Q2, those kinds of figures were seen across the board, with order volume up 20%, revenues up 23% (equal to 13.3% of order volume, a figure that’s been rising over time) and a big $430 million of EBITDA, up 54% from a year ago. From here, it’s simply a matter of staying on top of its game and riding the long-term mega-trend of increased delivery services—while keeping costs in check. We think the firm is nearly a sure bet to get much bigger over time.

Technical Analysis
DASH hasn’t gotten a lot of press but it was a leader off its big bear market downturn, with a blastoff in November 2023 resulting in a very solid through the end of March. After that, though, things got hairy, with a 31% dip from high to low before a couple of big-volume support weeks near the lows in July/August. Since then, DASH has acted pristinely, with only a modest August/early September dip standing in the way of a big rally to new two-and-a-half-year highs in recent days on Friday. We’ll set our buy range down a bit from here.

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Stock 5

JD.com (JD)

Why the Strength
JD.com is China’s second-largest online retailer, as well as the country’s biggest Internet company by revenue, with offerings ranging from fresh food and apparel to electronics and cosmetics. JD.com was a huge winner during China’s zero-Covid policy years, which massively benefited the company’s online sales platform due to storefront shopping limitations. But since the relaxation of those policies, JD.com saw its sales flatten out while the stock fell out of favor, dragged down as well by the horrid performance of the overall China market. That dynamic is changing, however, as Chinese companies in general—and retailers in particular—are back in favor after a series of stimulus efforts by China’s government designed to boost the economy. The liquidity lifeline is further expected to stimulate consumer spending, so it’s no surprise that shares of JD.com are among the high-fliers right now. In Q2, the company achieved the biggest single-quarter net profit in its history, thanks in part to a sizable increase in customer growth and engagement that saw “robust user momentum” on both JD’s higher-tier and lower-tier markets. Collectively, the number of its total quarterly active customers grew at double-digit pace year-on-year for the third consecutive quarter, reaching nearly 600 million. And those users recorded higher shopping frequency, leading to an overall 20% increase in the company’s third-party order volume in Q2—the fastest pace of the last two years. Meanwhile, JD’s Retail segment advertising revenues generated by third-party merchants recorded double-digit growth. And while revenue of $40 billion increased by just 1%, per-share earnings of $1.29 beat estimates by a mile while free cash flow rose by 11% and operating margins expanded nicely. Looking ahead, the top brass said the key business drivers, including user base and engagement and price competitiveness, are all “trending in the right direction,” though this is mostly about the potential stimulus effects to shock China’s economy back into good health—if it works, the upside here is big given the solid business and cheap valuation.

Technical Analysis
After three straight years of decline following its all-time peak in early 2021 at 108, JD found support near 20 in January. Shares did have a nice rally from there, rallying north of the 40-week line for the first time in forever in April and May before settling into another correction that saw the stock fall back into the 24 area for a while. But now it’s a very good bet that perception has changed, with two massive, massive volume up weeks bringing JD to 19 month highs before last week’s wobble. We’re OK with a small buy here or (preferably) on dips with a loose stop given the recent move.

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Stock 6

Netflix (NFLX)

Why the Strength
Netflix’s customer re-acquisition strategy in the wake of a disastrous 2022 (when it lost over a million subscribers, due in part to greater streaming market competition) continues to pay off. Its growth initiatives since then have focused on the increased use of an ad-supported tier at a lower price point while also cracking down on password sharing, plus strategically acquiring popular third-party content to attract former subscribers back to the platform. Netflix’s impressive resurgence from its previous reliance on debt-driven growth to the more recent trend of surging free cash flows is a big reason why the stock is strong. But an equally important, if overlooked, part of the company’s turnaround is the use of its advanced artificial intelligence-driven content strategy that prioritizes high-quality, personalized content in order to increase user engagement and willingness to pay. That strategy involves the integration of AI, machine learning and data science to collect data on user watch patterns to determine which programs its subscribers prefer watching and, more importantly, the specific types of content within those programs. (For instance, if a user prefers a certain actor, advertisements for upcoming Netflix shows will feature that actor specifically for that individual user, as the company makes multiple trailers for each of its shows.) The overall strategy is clearly working, as shown by the 17% year-on-year increase in paid memberships (to 278 million) in Q2, while revenue of $9.6 billion also increased 17% and earnings surged 48% while topping estimates. Meanwhile, the company’s ad-supported tier, which offers a lower-priced option for viewers who don’t mind sitting through some ads, saw a 34% sequential jump in membership. When Netflix releases Q3 earnings on Thursday (post-market), analysts expect revenue of nearly $10 billion (up 14% if realized) and earnings of $5.07 per share (up 37%), with more big bottom-line gains after that.

Technical Analysis
NFLX has had a stellar upside run since bottoming out in mid-2022 so it’s obviously not in the early stages of its advance—but the stock continues to act well as it’s shrugged off the August dip and continues to hover near all-time highs. The RP line (not shown here) has yet to confirm the upmove, so we’ll see the buy range a bit up from here, thinking further strength (likely after earnings) will lead to a good run.

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Stock 7

Robinhood (HOOD) ★ Top Pick ★

Why the Strength
While some Bull Market stocks that have heavier real estate operations are still a bit wobbly, many others are thriving, and Robinhood remains our favorite of the group fundamentally because it has the most potential upside if big-picture sentiment (which remains mid-range at best) cranks ahead. The firm is becoming a hub for more active traders of all sorts of instruments, and while it’s still somewhat limited on certain offerings (no preferred stocks, OTC securities, etc.), it’s attracting a hoard of new users that are trading stocks, crypto and options at a higher rate. To be fair, the firm itself is doing many things to attract these users—its made a bigger move into retirement accounts, and totals there are lifting off (820,000 accounts in Q2, up about 170% from a year ago), and its Gold offering ($50 or so a year) gives subscribers higher money market rates, trading tools and deposit matches (if they stick around for a few years), among other pluses, making those two million-ish members much stickier. That’s helping, but it’s the environment that is the big driver: In the first half of 2024, Robinhood attracted $24.4 billion of deposits, up from $8.5 billion a year before, while assets under custody reached $140 billion (up 57%). That’s led to the great sales and earnings growth seen in the table below; impressively, Q2’s figures came despite a big dip in crypto trading revenue ($81 million vs $126 million in Q1; the numbers for that can swing wildly). Interest-related income will fade some if the Fed keeps cutting but, of course, those rate cuts should juice other areas of the business. It’s probably not a long-term buy and hold, as when the market hits the skids, the stock can get hit very hard—but right now the wind is at the company’s back.

Technical Analysis
HOOD’s initial blastoff came in February of this year, with shares moving out to 20-plus-month highs after earnings and, following an April/May dip, moving to higher highs into the 25 range. The market’s summer correction, though, caused a wicked correction—shares plunged to 25 to 14 intraday (and 16.5 on a closing basis) in three weeks or so, but rebounded well immediately, and after some tightness in late September, HOOD has broken out on the upside, moving to new price and (importantly) relative performance highs. We’re OK buying some here or on minor dips with a looser stop under 23.

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Stock 8

Toast (TOST)

Why the Strength
Toast provides point-of-sale software and devices to restaurants, with a client base of more than 110,000 locations in the U.S. alone, while also having sizable market opportunity in Canada and the U.K. Restaurants are a notoriously thin-margin business, so Toast’s value proposition is that its integrated offering helps eateries offer loyalty programs, marketing programs (like text blasts) and integration with food delivery and other back-end helpers, on top of the core payments processing. Restaurants don’t spend a ton on of their revenue on IT – it’s probably as high as 2.5% at sophisticated chains, but it still leaves lots of room for Toast to grow; right now, the company’s software subscription plans command about a fifth of an outlet’s tech spend. Big chains are Toast’s strength – Square has a better toehold with independents, but Toast has a lending business focused on lending capital to small owners that offers an edge. That arm, Toast Capital, offers short term (30 days to 360 days) loans for any number of eatery and working capital needs. Toast claims it has a data advantage to evaluating restaurants that is appealing to its banking partners and allows it to offer relatively low-friction loan applications for restauranteurs. That said, the core growth will simply come from grabbing market share, especially among restaurants looking to upgrade to newer, more comprehensive systems—there are 860,000 restaurant locations just in the U.S., with millions more globally. Growth has been slowing a bit but is still solid, with Q2 annualized recurring revenue rising 29% to $1.5 billion and gross payment volume up 26%, while free cash flow, EBITDA and reported earnings were all in the black. Profits are expected to accelerate from here (14 cents in the just-ended Q3) as sales crank ahead in the mid-20% range for a long time to come.

Technical Analysis
TOST essentially retested its bear market low late last year before finally getting up and moving, rallying back to prior resistance in the mid-20s. And since then the stock has … been unable to break out, seemingly setting up for months on end. But after a kiss of the 40-week line in August and September, TOST is back near resistance and has been acting better. We’ll set our buy range up from here, looking to enter on decisive strength.

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Stock 9

Vaxcyte (PCVX)

Why the Strength
As its name implies, Vaxcyte (covered in the September 9 issue) is an up-and-coming player in the $80 billion global vaccine market. The company creates vaccines for various infectious diseases with a focus on conjugate vaccines (a type of bacterial vaccine) and protein-based vaccines developed through an exclusive license with Sutro Biopharma’s Xpress CF Platform, a cell-free protein synthesis technology. The stock’s recent strength is thanks to excellent results from the company’s Phase II study of its lead drug, Vax-31. The treatment, which is advancing to a Phase III adult clinical program, is designed to prevent IPD, a serious infection that can cause meningitis, bacteremia and pneumonia and which is especially serious in infants, young children, older adults and those with immune deficiencies or certain chronic health conditions. The latest study results found that Vax-31 can increase coverage from the current standard of care for treating IPD, which treats around 50% of the circulating U.S. disease population, to around 95%. The trial further showed improved immune responses relative to the standard drug treatment, Wyeth Pharmaceutica’s Prevnar-20. At a recent healthcare conference, Vaxcyte said it sees an opportunity to commercialize Vax-31 and “create a leading franchise” in what amounts to an $8 billion drug category. Moreover, management believes its platform—which allows it to focus immunogens to drive superior immune responses and create stronger vaccines—has the opportunity to develop not only broader spectrum vaccines, but also additional novel bacterial vaccines going forward. Elsewhere in the pipeline, Vaxcyte’s early-stage candidate, VAX-A1, has shown promising results in preventing Group A Strep infections (the program is advancing with support from CARB-X, an organization focused on combating antibiotic-resistant bacteria). As for Vax-31, the company plans to begin the Phase III adult studies in mid-2025, with results expected in the latter half, and plans a Phase II study for treating infants early next year with results expected in late Q1 2025. There are no revenues yet, but a nearly $2 billion cash position (and that was before a $1.3 billion share offering in September) is expected to provide a significant runway until it reaches commercialization.

Technical Analysis
PCVX never entered our recommended buy range last month, but the stock has held up well since then, offering a decent risk/reward situation. Shares have spent the last several weeks tightening up in a narrow, lateral range between 110 and 120, and after last week’s minor dip below the trading range floor, it’s perking up. It’s speculative to be sure, but if you want in, we’re OK buying a small amount here ... and possibly averaging up on PCVX should it strengthen further.

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Stock 10

Vistra (VST)

Why the Strength
Vistra is the largest generator of energy sold in competitive markets in the U.S. It’s a utility that supplies electricity to five million customers in 20 states and Washington, D.C. The company has enjoyed some good tailwinds this year, as its long-anticipated $3.4 billion acquisition of Energy Harbor closed in the spring, adding a big chunk of business to its residential base and, more importantly, a portfolio of clean energy generation that includes four nuclear power plants and a sizable renewable energy storage operations. As an unregulated utility, Vistra can market and price itself aggressively as the zero-carbon emissions provider to commercial operations. That’s important given many companies want to show reduced carbon footprints even as demand for electricity is surging due to power-intensive developments like AI. The expansion of the business from the acquisition also helped get Vistra promoted into the S&P 500, an important supportive step since there are more than $1 trillion in assets trading in S&P 500 indexed funds. Clean energy utilities have been having a great 2024, too, thanks to tax credits for green production included in the Inflation Reduction Act. The exact benefit of the IRA credits is still being sussed out, but Vistra management believes it could add as much as $400 million in EBITDA this year. The company also says it’s seeing strong demand from businesses that are reshoring operations domestically from the CHIPs Act and believes efforts by Texas to attract new energy generation assets for its fragile grid may be another good opportunity. Revenue should push over $5 billion for Q3, up nearly $2 billon from a year ago as a result of the Energy Harbor buy; the top brass sees about $4.8 billion of EBITDA this year, with something like $5.5 billion possible in 2025, with more down the road as the demand for electricity ramps.

Technical Analysis
VST started a monster run starting just over a year ago, soaring just over the century mark in May before finally giving up some ground. The correction from there was sharp—38% deep—but not unreasonable given the prior move, with shares holding north of their 40-week line in August and September before exploding to new highs in the weeks after that. The latest shakeout, again, has been sharp but normal, though we’re thinking it could kick off a brief, volatile rest. We’ll set our entry range down a few points from here.

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Previously Recommended Stocks

The next Cabot Top Ten Trader issue will be published on October 21, 2024.

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