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Cabot Growth Investor 1431

The overall market continues to chop sideways, with some cyclical areas finding buyers. But growth stocks have just suffered another sharp leg lower, led by the former leaders of this year (cloud software, etc.) but spreading to other areas, too. We’ve been holding cash for a while and have sold stuff that’s broken down, including Snap, Coupa and RingCentral, and are now sitting on a massive 66% cash position.

Cabot Growth Investor 1431

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Less Remains More

Way back in the day the late, great Joe Granville once said that “the market is the train, and I’m the caboose,” which is a good summation of our general philosophy over the years. At heart, we’re trend followers, getting heavily invested when the market is trending up and playing defense when the sellers are in control. It’s a simple concept (most successful market strategies are simple) and it works the vast majority of the time.

But this is not a normal time! While the major indexes are still in long-term uptrends (Cabot Trend Lines are positive) and are near the top of their multi-month ranges, growth stocks have been coming unglued on a daily basis.

FFTY

The center of the selling remains focused on the cloud winners from earlier this year—even emerging blue chips like Twilio (down as much as 34% from its high) and ServiceNow (29%) had been gutted before today’s bounce—and the selling has gradually spread to other growth sectors (chips and retail have been hit or miss, etc.). The Innovator IBD 50 Fund (shown here) is a good example of where many growth stocks are at—the fund is below its 200-day (red) line and can barely get off its knees.
Simply put, the past couple of months haven’t been fun to say the least, and we certainly haven’t been mistake-free, either, getting whipped out of a couple of names and our latest nibble (RNG) may win the award for worst timing. That said, our recent purchases have been on the small side (more on that at the top of page 2) and we’ve been cautious since early August, with our cash hoard ballooning to 66% this week.

Despite the body blows, we don’t think it’s time to swear off the market or even growth stocks. The rotation into cyclical-oriented names isn’t ideal for us, but even there we’re starting to spot a couple of sustained uptrends. (Some homebuilders are intriguing; see page 7.) And for growth stocks, we continue to see a decent number of setups out there—we’re not having trouble filling up our watch list, and if earnings season goes well (admittedly a big if), there should be some new leadership to jump on going forward.

[highlight_box]WHAT TO DO NOW:
[/highlight_box]But, as we’ve been writing for weeks, the onus remains on the buyers to take control. Until then, less remains more—since the last issue, we’ve sold Snap (SNAP), Coupa (COUP) and RingCentral (RNG) and are content to hold plenty of cash until the buyers create some decisive upside breakouts in the market and potential leading stocks.

Model Portfolio Update

With growth stocks circling the drain, we’ve remained cautious for weeks (at least 33% in cash since early August) and, recently, have boosted that further, coming into today with a huge 66% cash position. Despite the recent pain, we’re willing to move in either direction going forward—earnings season could easily produce some new leadership—but we’re looking to get pulled into the market via breakouts and other positive action.

We also want to devote a few lines to risk management, specifically the use of half-sized positions (which, for us, is 5% of the portfolio) when the environment is iffy. Losing money is never fun, but even a few poor trades don’t do too much damage if you cut losses and buy small.

For instance, take three recent duds for us—CVNA, TDOC and RNG, all of which we dumped for good-sized losses. But combined, those three trades cost the Model Portfolio just 2.2% of equity. We’re not celebrating that, of course; a loss is a loss. But those losses are the equivalent of one “full-sized” position going up 22%, something that happens regularly in a supportive environment. In other words, you survive to thrive another day.

Just to be clear, we’re not trying minimize these (and other) losses or say we’ve been mistake-free in recent weeks. Far from it! The past few weeks have been rough, and as always, we’ll review our buys and sells (good and bad) down the road to see what we can do better the next time around. But it’s best to avoid big new purchases (or overtrading) in this environment--instead laying low until the growth stock sellers finish their work.

Current Recommendations

CGI Portfolio

cmg

Chipotle Mexican Grill (CMG 798)—Fundamentally, Chipotle’s Q3 report was terrific, showing that the company continues to fire on all cylinders. In the quarter, revenues lifted nearly 15%, driven by an 11% gain in same-store sales growth (including a big 7.5% increase in transactions) and an 88% boom in digital sales. And earnings ($3.82 per share, up 77%) crushed estimates by a few dimes, too. On the downside (supposedly), the firm is going to miss its goal for store openings this year, but that’s not for lack of execution; management is opening more restaurants with “Chipotlanes” (basically drive-throughs where customers who ordered online can pick up their fare without leaving the car) and those take a bit longer to construct. (Next year’s store openings will be back on track, with the total store count expected to rise north of 6%.) However, in this environment, investors are looking for things to worry about, so the fact about new store openings and fears that 2020 and beyond will bring good-not-great growth brought out the sellers following the report. Where do we stand? Our antennae are definitely up given the environment and the fact that CMG has seen two big-volume selloffs since early September. But the main trend is up, we’ve taken partial profits already and the stock isn’t that weak (not even 10% off its all-time high) and bounced back decently today. All in all, we’re hanging on—though we will tighten our mental stop from 720 to the 740 to 750 range. HOLD.

coup

Coupa Software (COUP 132)—COUP looked like it might be out of the woods a couple of weeks ago, but the sector’s weakness was too much for the stock to bear—cloud stocks have suffered a brutal leg down during the past few days, taking most below their longer-term 200-day lines and dragging COUP decisively lower, causing us to dump the rest of our shares (we had taken partial profits weeks before). Looking ahead, it’s always possible this and some other peers could round out new launching pads in the weeks and months ahead; today’s bounce was a nice start. But after gigantic runs since February and March 2018, most have decisively broken longer-term uptrends, which doesn’t exactly bode well. At the very least, COUP and other cloud names are likely to need plenty of time to repair the damage. We took the rest of our profit on a bulletin last Friday and are holding the cash. SOLD.

docu

DocuSign (DOCU 65)—The latest selloff in growth stocks has come around for even for the most resilient names, such as DOCU, which has slipped a few points from its recent highs. Even so, we still think the stock looks fine overall (above its early-October low and its 50-day line; volume during its down days is far lower than recent up days) and poised to lead any advance that materializes—there aren’t many firms out there with the rapid and reliable growth profile of DocuSign, so if management can make the right moves, there’s no reason big investors won’t build positions (likely big ones) over time. Of course, we’re always watching our downside, too; we filled out our position last week, and we have a mental stop in the 56 area (give or take), where there should be solid support if the growth stock selloff gets uglier. Right here, though, we’re fine picking up some shares if you’re not yet in, but it’s probably best to start with a smaller-than-normal position. BUY.

iphi

Inphi (IPHI 60)—Of the few growth stocks that have tested new highs during the past couple of weeks, all have quickly found sellers, and IPHI is no exception, tapping its high of 66 a week ago but losing ground steadily afterwards. Overall, the stock actually looks a lot like the market (range bound) since early August, and as with most titles, a lot will come down to earnings, which are due out next Tuesday (October 29)—analysts are looking for sales to rise 15% (despite the near-total loss of business to Huawei) and earnings of $0.37 (up 23%), but most of the focus will be on demand trends heading into 2020 in the data center, 5G and long haul markets. So far, chip stock earnings have been hit (Teradyne, Lam Research) and miss (Texas Instruments), though the group is still in good shape. If you have a “big” position (whatever that means to you), feel free to trim some ahead of the report, but we own a half-sized position so we’ll take what comes. A drop below the recent lows (mid 50s) would probably have us exiting, but any decisive breakout north of 66 would be highly bullish. HOLD.

sso

ProShares Ultra S&P 500 Fund (SSO 131)—We were messaging with a growth-oriented money manager friend of ours this week and one thing he said stood out: “My best looking position is my index ETF.” Indeed, our position in SSO, which moves twice the S&P 500 each day on a percentage basis, continues to perform well, making some upside progress in recent weeks as the S&P approaches its all-time highs. Ironically, the rotation into the broad market since mid August likely bodes well for the general market down the road; the evidence (both primary and secondary indicators) still suggests the next major move is up, and stronger market-wide breadth is a good sign on that front. If you already own a good-sized position like us, we advise sitting tight and allowing SSO to wiggle around if need be. If you don’t own any, we’re fine buying some here, with the idea of averaging up on a decisive move above 134 or so, which would go along with new highs in the S&P 500. BUY.

rng

RingCentral (RNG 155)—Well, there’s bad timing and then there’s bad timing, and our half position buy of RNG early last week fits in the latter category—a day and a half later, cloud stocks began a vicious leg down that’s seen many like Twilio (down 15% in six days), Okta (down 20%) and ServiceNow (down 22%) fall off a cliff before bounicng. Fundamentally, there’s been no negative news or reports out there; if anything, there’s been some positives, as it appears Ring will launch its own video product and take share in that huge market. And, of course, the Avaya deal promises to keep growth humming (or accelerating) for a long time to come. That said, it’s not about the fundamentals right now, it’s about the environment for growth stocks and the sector’s action, which are terrible. When we added the half position, we set a looser mental stop around 15% from our entry point (correlates to a 7.5% loss on a “full” position), and RNG tripped that earlier this week. And beyond that, the sector’s meltdown and RNG’s cave-in makes the prior big-volume surge look more like a blowoff after a big run instead of a kickoff to a new advance. Today’s bounce was solid, and if you still own some and want to give it a chance to rebound, that’s fine. But we sold into today’s upmove and are looking for greener pastures. SELL.

snap

Snap (SNAP 14)—SNAP is another good-looking growth stock that has fallen off a cliff during October—we cut our loss early last week, and the stock has remained weak since then following a good-but-not-good-enough quarterly report. We still believe the company’s turnaround is probably in the earlier stages if management pulls the right levers, but at this point the stock is actually testing its longer-term 200-day line. Translation: Bounces are definitely possible, but we think there will be better stocks to own during the market’s next sustained uptrend. SOLD.

Watch List

Five Below (FIVE 129): After a year in the wilderness, FIVE has set up a big launching pad and the story and numbers are as good as ever. A move over 138 would be bullish.

Insulet (PODD 149): PODD has taken on a little water along with most names, but it’s still holding relatively well and the growth story is enticing.

Lululemon (LULU 207): LULU has grown into an institutional favorite thanks to its steady growth and expansion into new lines (men’s, women’s commuting wear, personal hygiene products). The stock is perched near all-time highs.

KB Home (KBH 37): Homebuilders went through the wringer for more than a year but are now very strong, and KBH looks like one of the best of the bunch.

Pinduoduo (PDD 40): PDD has one of the best combinations of story (pioneering the new “social commerce” field), numbers (triple-digit revenue growth, profits hitting the black next year) and chart (initial breakout in August, new highs today) out there.

Teladoc (TDOC 68): We got shaken out of TDOC, but the reasons for the selling have dissipated and the stock has etched an overall nice base.

Other Stocks of Interest

acad

Acadia Pharmaceuticals (ACAD 41)—We’re cautiously optimistic that medical stocks could take the leadership baton in the weeks ahead, and while money-losing biotech stocks usually aren’t our cup of tea, Acadia is one we’re keeping our eye on because it has real revenue growth today with a huge shot in the arm coming next year. The company currently has one treatment on the market (approved back in 2016) for Parkinson’s disease-related psychosis; sales have been strong (revenues up 37%, 29% and 46% over the past three quarters) and should remain that way for many quarters to come (revenues are expected to rise 39% more in 2020). But the stock is buoyant today because the drug behind that treatment (dubbed pimavanserin) recently had outstanding clinical trial results for dementia-related psychosis, a market that’s 10 times as large (~1.2 million patients) as the Parkinson’s indication! While there are no guarantees with the FDA, analysts see approval as nearly a sure thing and likely to come in mid- to late-2020, with some forecasting this new indication alone could eventually bring in $1.5 to $2 billion of annual revenue. As for the stock, it’s done nothing for years, but came back from the dead in early 2019, gapped up on the trial results in early September and, impressively, has held those gains since despite the air pockets in growth stocks. The next quarterly report is out October 30. As far as biotech stories go, we like it.

Insulet (PODD 149)—Another medical name we’ve been

podd

following for a while is Insulet, which looks like the top play in the huge diabetes treatment field right now. The big idea here is simple: The vast majority of diabetics still inject themselves with insulin multiple times per day, but more and more are switching to state-of-the-art insulin pumps that, during the past couple of years, have really leapt forward in their capabilities. Insulet’s solution is dubbed Omnipod, which treats both Type 1 and insulin-dependent Type 2 diabetes, and is tubeless, waterproof, discreet (comfortably worn under a shirt) and, with its Dash system, can be controlled wirelessly by a personal diabetes manager with results monitoring from their smartphone. Even better, most patients can pay for Dash via insurance, so it costs them nothing upfront and has no lock-in period, either. There is competition, but at this point it’s more about a land grab as diabetics switch to pump therapy in droves; Insulet itself thinks it has less than 6% of the U.S. Type 1 market, less than 2% of the international Type 1 market and less than 1% of the Type 2 market. Throw in some operational moves (taking over distribution in Europe, new manufacturing facility to boost margins) and everything is coming up roses for Insulet—sales growth is accelerating (26%, 29% and 43% during the past three quarters), earnings are in the black and analysts see the bottom line leaping to $0.82 per share next year (up three-fold). PODD broke out from a first-stage launching pad in May, zoomed to 150 in August and has basically chopped around since. Earnings are due November 5. Currently, this is one of our top watch list ideas.

svmk

SurveyMonkey (SVMK 18)—Most IPOs of late 2018 and 2019 are currently in the garbage bin, but SurveyMonkey has (so far) held up well and has a solid story. The company is one of the leaders in online surveys, but this isn’t about goofy Twitter polls—it’s becoming a key partner for enterprises that are looking for actionable intelligence into why customers, employees and suppliers do what they do. In effect, the various purpose-built surveys allow a company to have conversations with thousands of people in an efficient way. A big piece here is SurveyMonkey’s brand awareness (17 million active users, nearly 700,000 are paying, and 4,800 enterprise sales customers) and collection of information (more than 50 billion questions answered and 2.5 million survey respondents daily!), which the company can leverage to help its clients get actionable information faster. It’s not changing the world, but the firm’s business model is great (90% of revenue is subscription-based), growth has been steady (revenues up 17% to 20% each of the past five quarters) and free cash flow is solidly positive even as earnings are (barely) in the red. And the stock is hanging in there, too—SVMK had a big post-IPO drop late last year, rallied back toward its highs by March and has meandered since in a tight-ish (16 to 20) range. It’s too thinly traded for us right now ($20 million of volume per day), but it’s possible the stock will “grow up” liquidity-wise down the road. Earnings are due out November 7.

When is it Good to Buy a Stock Back?

If you’ve been investing for more than a few months, you’ve undoubtedly been faced with the following situation: You own a stock that you’re high on, but the market environment turns sour, causing the stock to dive. Whether it’s to cut a loss or simply selling as the name tripped your mental stop, you get out. And then the stock bounces within a day or two of you exiting!

While it’s not fun, if you’re going to cut losses and trail stops (which over the long run is definitely the right thing to do), the above scenario is going to happen. The real question is: When is it good to re-buy a stock? It’s a tough topic as getting back in a name you recently sold is chock-full of emotions.

However, if you invest mostly based on your emotions, it probably won’t work out well in the long run. For instance, take what I believe was my biggest snafu since taking over Cabot Growth Investor—in early 2010, we got knocked out of Netflix (NFLX), but we never got back in after it gapped up on earnings two weeks later for fear of getting whipped out again. We ended up having a great year anyway, but that trade alone would have been worth another 10%-plus to the Model Portfolio!

In our view, the best thing after you sell is to treat the stock like any other you don’t own. And that means only re-buying it if the stock has one of the best combinations of story/numbers/chart out there. If it doesn’t, ask yourself if you’re just trying to “make up” for the prior trade or whether the name is truly the best merchandise out there.

tdoc

Looking at our recent sells, one that appeals to us is Teladoc (TDOC), which got nailed along with the market in early October, mostly due to a sell-first, ask-questions-later attitude from big investors surrounding Amazon’s entry into the telehealth field with an in-house offering, as well as the fact that Teladoc wasn’t included in Unitedhealth’s latest Medicare Advantage offering.

But now those news items don’t seem so worrisome. First off, it’s been revealed by one analyst that Amazon is actually using Teladoc’s platform for its service, so any fear of competition down the road from the retail behemoth is unlikely. And the Unitedhealth news didn’t affect the prior (much larger) deal that should bring on millions of new members (both subscription and pay-per-visit) to Teladoc, and doesn’t preclude United from using the company for Medicare Advantage going forward.

Just as important, the stock has not only bounced back but etched a good-looking base—TDOC is back near its highs and the weekly chart shows plenty of accumulation since late August. A breakout above 74 or so (possibly on earnings, due out October 30) would probably have us buying some shares back. WATCH.
Know What You Own

There aren’t a ton of stocks enjoying sustained advances in this environment, and of the few that are, many are cyclical and/or slower growing. Some have asked why not go ahead and buy them. Our answer: You can! But just be sure to know what you own and handle them properly.

kbh

Whereas a leading growth stock can easily motor 25% to 50% when the environment is supportive, most of these cyclical and larger-cap (safer) stocks in choppy environments might only rally 10% or 15% before pulling back and consolidating. Personally, we’re more interested in cyclical names that can make big moves if the stars align. Homebuilding stocks are a good example, and among them, KB Home (KBH) is one of our favorites today.

The stock has shown exceptional strength in recent months (up 11 weeks in a row out of its spring consolidation) thanks to better-than-expected numbers from the company (last quarter’s new orders rose 25% from a year ago while cancellation rates fell markedly; the firm operates in many resilient housing areas in the country) and the industry as a whole. Given the big prior decline, we think KBH and its peers could have a prolonged run. The stock’s next reasonable dip and rest period (possibly as the 50-day blue line catches up) could offer a tempting entry point. We have KBH on our watch list.

But the trick with homebuilders is that their uptrends can quickly hit a wall based on factors outside their control—in KBH’s case, things like interest/mortgage rates and various economic reports (consumer- and housing-related) can change perception of the group. Thus, should we enter KBH, we’d be more likely to take partial profits quickly on the way up and would be willing to pull the ripcord in a few days if huge-volume selling emerges—a strategy that makes sense when dealing with most cyclical stocks.

Cabot Market Timing Indicators

The market’s next major move is most likely up, but (a) the current trend is mostly sideways and (b) the crosscurrents under the surface remain vicious, with growth stocks remaining under pressure. We’re open to putting money to work but will be watching if earnings season launches some fresh breakouts.

Cabot Trend Lines: Bullish

Cabot Trend Lines 10.24.19

It’s easy to lose sight of given the seemingly endless chop and growth stock weakness, but the bull market is alive and well. Despite no net progress for five-plus months, our Cabot Trend Lines remain positive, with both the S&P 500 (by 2.7%) and Nasdaq (by 2.2%) finishing last week north of their respective 35-week moving averages. This is one of the big reasons that the market’s next big move is likely up.

Cabot Tides: Positive

CabotTides10.24.19

Our Cabot Tides are technically positive given that most indexes are above their lower moving averages at this point. But we’re still thinking of them as relatively neutral at this time since all five indexes we track (including the S&P 400 MidCap, shown here) are still stuck within their five- to eight-month trading ranges. It’s certainly not negative, and the recent upmove in the indexes is a good thing, but we need to see more strength before concluding the buyers are truly in control.

Cabot Real Money Index: Positive

Real Money Index 10.24.19

The Real Money Index has nosed back into positive territory, with $18.3 billion being yanked out of equity funds and ETFs during the past five weeks, which is generally a good shorter-term sign for the major indexes (especially the Nasdaq). And we’re just as intrigued by the torrent of selling seen this year (more than $150 billion), a sign that there’s plenty of buying power on the sideline should the buyers return. Sentiment-wise, then, conditions are still supportive of higher prices.


The next Cabot Growth Investor issue will be published on November 7, 2019.

Cabot Wealth Network
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Copyright © 2019. All rights reserved. Copying or electronic transmission of this information is a violation of copyright law. For the protection of our subscribers, copyright violations will result in immediate termination of all subscriptions without refund. No Conflicts: Cabot Wealth Network exists to serve you, our readers. We derive 100% of our revenue, or close to it, from selling subscriptions to its publications. Neither Cabot Wealth Network nor our employees are compensated in any way by the companies whose stocks we recommend or providers of associated financial services. Disclaimer: Sources of information are believed to be reliable but they are not guaranteed to be complete or error-free. Recommendations, opinions or suggestions are given with the understanding that subscribers acting on information assume all risks involved. Buy/Sell Recommendations: All recommendations are made in regular issues or email alerts or updates and posted on the private subscriber web page. Performance: The performance of this portfolio is determined using the midpoint of the high and low on the day following the recommendation. Cabot’s policy is to sell any stock that shows a loss of 20% in a bull market or 15% in a bear market from the original purchase price, calculated using the current closing price. Subscribers should apply loss limits based on their own personal purchase prices.

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