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Getting Ready for Earnings Opportunities

July 17, 2018, 10:13 am

Every three months, earnings season consumes our lives for five weeks, leaving a few months of “normalcy” in between to digest the quarterly news and pivot around developments beyond Wall Street.

We’re now back in the season, and I’m extremely excited.

In several of my services, we’ve cashed out of some nice wins and rotated out of other stocks so we can redeploy that cash to the dynamic opportunities that earnings season will open up.

I generally avoid buying stocks ahead of the actual releases, but every company is a potential buy once the numbers are out. And I must say, those numbers are starting to look spectacular. While reaction to Friday’s kickoff reports from banks was mixed, we saw more strength yesterday led by Bank of America (BAC) after it beat expectations and reported growth in loans and deposits.

Overall, the trend remains more supportive than it has been since 2010 when the economy was still climbing out of the recession and year-over-year comparisons were all over the map.

That timeframe is crucial enough to restate: With 20% earnings growth on Wall Street’s radar, the environment for stocks is now better than it has been for the entire nine-year recovery cycle so far. If you’ve been bullish over the past decade, you haven’t seen anything yet, at least according to these numbers. For people who are hanging back on the sidelines, the time to get that money working is NOW.

In the current conditions, I’m generally eager to stay overweight technology, which has been the only reliable game in town lately. We’ve made good money on three of the four FANG stocks in recent months in some of my services, and depending on what earnings tell us, we could repeat one of those. Netflix (NFLX) just reported earnings and is down sharply this morning, so I’ll be watching for a buying opportunity there. I’m also willing to consider the right financial stock or open a position in energy, other commodities or manufacturing.

The entire market is going to be our playground in the next month. Some companies will reveal that they aren’t worth our money and time, and those will stay off our Buy Lists for another quarter. Others will flash the green light that means we’ll grab them the minute the chart offers the right combination of momentum and reasonable upside – we want to see headroom as well as the force to get there.

Best of all, Wall Street’s focus should turn back to, well, Wall Street. Earnings season isn’t about politics or international gossip. It’s about the fundamentals that drive stocks behind the ebb and flow of rumors. Once the fundamentals are clear, we’ll know which trends are worthy of our available cash.

Green Lights Through the Noise

July 10, 2018, 11:36 am

Last week, all it took was an extra day to think. The Independence Day holiday created space for Wall Street to focus on the essentials and shake off the chatter that’s dominated trading in recent weeks, liberating the market as a whole.

Where it had been all about rotation out of areas perceived as more volatile or risky, last week saw the tide roll back into those very spaces. Investors know that this is where the growth and dynamism in the economy are concentrated. It’s where the potential upside is strong enough to rise above developments outside the market. As a result, the technology-rich NASDAQ was once again within 3% of record levels while the more conventional Dow industrials spent the week in sight of correction territory.

Trade policy has been the drag on the Dow, home to so many of the world’s great exporters. World-class stocks like Caterpillar (CAT), 3M (MMM) and even Johnson & Johnson (JNJ) are down 15%-25% on fears that rising commercial barriers will make it harder for them to operate, and last Thursday night’s steps toward a trade war with China leave those stocks back on the defensive.

As for the central bank, last week reminded us just how far the U.S. economic situation has diverged from other major players around the globe. Minutes from the Fed’s June meeting revealed that while trade is a concern, it’s only the uncertainty around policy that gnaws on the business leaders who talk to Fed Chairman Jay Powell. The policies themselves haven’t been a drag at all. If anything, our central bank now sees the odds of rising inflation as a more persistent threat than any economic slowdown on the horizon.

I’m there with them. Some reports indicate that gross domestic product (GDP) surged at an annualized rate of 4.8% last quarter, which is more robust than we’ve seen in ages. Friday morning we found out that the U.S. economy hired another 213,000 people, beckoning the unemployed back to work for the first time in years. That’s a clear sign of U.S. dynamism and a justification for the first cycle of rising interest rates since the 2008 credit crunch.

If this is the new normal, I love it, and we’ll find out more as the next earnings cycle is about to get underway. The reporting season starts this Friday with the banks, and I can’t wait to hear what they have to say.

A Zero-Sum Game

July 3, 2018, 10:00 am

The first half of 2018 ended roughly where it started, with the broader market indices within 2% of breakeven after some wild action as Wall Street bickered about interest rates and asset prices. Back in January, we were mulling the impact of the biggest corporate tax cut in a generation, and here at the end of June some investors are wondering if a looming trade war will take away all the stimulus that lower taxes created, leaving the economy right back where it began.

For a lot of index fund investors, 2018 has been a zero-sum game.  The correction in February kept a lot of stocks sidelined for months. Some sectors remain defensive at best, with talk of tariffs in March effectively pushing export-oriented corporate giants into a secondary decline that persists to this day. Great companies like Walmart (WMT), Johnson & Johnson (JNJ), Boeing (BA) and Caterpillar (CAT) are now in bear market territory.

Tech was an obvious profit center for everyone in the market. The technology-rich NASDAQ has certainly suffered in the last few weeks, but that’s because there’s actual profit in Big Tech for traders to take with the index up 8% year to date.

With other sectors struggling to overcome the shadow of restrictive trade policy, a lot of money has crowded into tech. That crowded trade can generate unusually high levels of volatility when the crowd shifts. Last week, we saw a shift to the downside, taking the NASDAQ down about 3% from its recent record and spreading clouds across other “risk” themes like biotech. This week, the move is as likely to go in the other direction.

Looking forward, I think the next cycle will be extraordinary. Despite the zero-sum game for the S&P 500, the Federal Reserve has raised overnight lending rates twice so far this year and we can now expect another two hikes between September and December. That’s a windfall for banks, even if stocks have yet to reflect it. It’s also a clear sign of the strongest economy in a decade – gross domestic product (GDP) is tracking 4.8% growth in the current quarter, which is a bona fide boom that should lift most, if not all, corporate boats no matter what happens overseas. We’re looking for 20% earnings growth when the season starts in two weeks, which is fantastic.

The next few weeks could remain bumpy, with slightly elevated volatility across the market and pockets of extreme volatility around certain stocks. When earnings season kicks off, it may come as a relief and confirmation that corporate America is doing extremely well, which will be a good thing for shareholders.

My Latest Market Thoughts

June 25, 2018, 8:31 pm

With the Federal Reserve off the table as a credible threat until September and another month to go before earnings season heats back up, last week was relatively quiet in terms of market-driven developments.

The biggest headlines came from overseas, where the Bank of England shocked global traders with hints of an interest rate hike on the horizon, and from Washington, where the latest salvos in the simmering trade war prompted plenty of chatter but little concrete drag on the economy or the market.

We did hear from Red Hat (RHT) with its earnings results out last Thursday. Guidance didn’t meet consensus, which unnerved a few investors and put a wide swathe of the tech sector under pressure in the absence of more substantive news. Most of the damage was concentrated in software and smaller, more speculative computing stocks that have reaped the bulk of the NASDAQ’s ongoing slow-motion rally lately.

Despite the selling in tech, the sector remained a clear leader for the month to date as well as the quarter and the year. Volume is neither elevated nor suspiciously absent even with the onset of summer, with overall turnover on the S&P 500 trending almost exactly where it was last month and this time last year as well. This isn’t a sell-off or even a trader strike; investors didn’t actually “sell in May and go away,” much less wait until June to retreat to the sidelines. What I think we really saw was a little healthy profit-taking in some of the more speculative areas of the market that have done well.

Monday’s big selling was mostly due to trade war escalations. The European Union (EU) and China teamed up to defend the multilateral trading system and the Wall Street Journal reported that President Trump is planning a twin set of initiatives to restrict Chinese investment in the United States. The Treasury department is looking at rules that bar firms with at least 25% Chinese ownership from purchasing companies involved in “industrially significant technology.”

We could be in for some additional choppy trading, as I expect trade war talks to be the main focus this week. However, any cooling of the headlines (which I believe is inevitable given political considerations heading into the election) will help buoy stocks higher. We also have the end of the month and quarter on Friday, which could add some crosscurrents.

The good news is that the market’s reversal opens up new opportunities to make money on great stocks. Plus, we should see a solid summer earnings season. There could be a few clouds in the forecast, but that’s okay. If it gets a little stormy a good way to make money on the swings is by shorting selective areas of the market or trading on the volatility. The key is to stay strategic right now to limit your downside and increase the upside potential of your investments.

My Biotech Watch List

June 19, 2018, 11:16 am

It’s been a good year for growth stocks, with the Russell 3000 Growth index up over 8%. In addition, the best-performing names have been the most aggressive. This is a bit surprising given the rise in interest rates, which theoretically should not be in favor of growth stocks. However, the mantra of this bull market has been that as long as earnings are rising, stocks will be okay. Given this, investors are comfortable paying significant premiums for highly visible growth.

Biotech, on the other hand, has underperformed meaningfully so far this year, with the iShares Nasdaq Biotechnology ETF (IBB) up less than 1%. This makes sense since the top 10 components of the IBB, which make up 52% of the ETF, are mostly large companies that have maturing products or are facing competition or patent expirations. Due to patents, the life cycle of a new drug is only about 12 years, forcing the companies to replace and surpass these products if they want to grow. This becomes increasingly hard as they get bigger, which is why many of the giants of IBB have such low PEs as there is the risk of a meaningful decline in earnings down the road. For example, Biogen (BIIB, 8% of the index) has a PE of 11.5X 2019 EPS estimates, Amgen (AMGN, 8%) has a PE of 13, Gilead Pharmaceuticals (GILD, 7%) has a PE of 11 and Celgene (CELG, 7%) has a PE of 8.

So while IBB has underperformed most growth stocks, it’s a little unfair to call it a growth index as its performance is in line with many value benchmarks. To be clear, though, I am not saying that biotech is dead or that there are no game-changing opportunities here. Instead, you need to look at the smaller companies that are in developmental stages with little to no sales or earnings. There is certainly no shortage of these types of companies. In fact, of the 147 biotech companies with capitalizations of at least $500 million, only 29 earn money. There is tremendous potential in these smaller biotechs, but there’s also considerable risk as a high percentage of these companies will not be strong long-term performers. However, the ones that can successfully develop the right products will have a bright future.

With that in mind, I want to share three of the developmental stage names that are on my watch list right now.

LOXO Oncology (LOXO) wowed investors for the second straight year earlier this month at the important American Society of Clinical Oncology (ASCO) meeting. The company is potentially revolutionizing treatments for certain cancers by focusing on their genetic mutations instead of where they exist in the bodies. In 2017, it presented data on its lead drug, larotrectinib, which had a 76% response rate in patients whose tumors had specific genetic markets. This year, LOXO-292, a drug earlier in the pipeline, showed a 77% response rate in treating solid tumors with RET (the gene that produces a protein for signaling between cells) and a 45% response rate in mutated thyroid cancers. Both of these drugs are still in Phase I and II trials, so it will be a few years before they are approved and the company realizes revenues. The stock has been a strong performer but has corrected a little off its recent high of $208.95, and any period of potential broader market weakness could be a good opening.

Xencor (XNCR) is a developmental stage company that makes monoclonal antibodies for the treatment of autoimmune diseases. Its lead drug candidate is XmAB5871. It’s currently in Phase II testing for IgG4-related diseases, which is a chronic inflammatory condition characterized by tissue infiltration with lymphocytes. In November 2017, all 12 patients in the Phase II study achieved their primary endpoints of a two-point reduction in the IgG4 responder index, with eight achieving remission. The company’s pipeline goes well beyond IgG4, as it has an oncology program that focuses on activating T-cells to kill malignant cells. XNCR partners with larger companies, including Alexion Pharmaceuticals (ALXN), whose ALXN 1210 drug candidate makes use of its technology. The broad pipeline of Xencor makes it more attractive, and I would consider adding it on a pullback.

Atara Biotherapeutics (ATRA) is developing T-cell immunotherapy treatments for patients with cancer and autoimmune and viral diseases. The company is in its pivotal Phase III trials of tab-cell in patients with Epstein-Barr virus, which causes mononucleosis (also known as the “kissing disease”). Management is optimistic about approval and hopes to file a New Drug Application (NDA) with the European Union (EU) in the first half of next year. ATRA is also working with the Sloan Kettering Cancer Center to develop the next era of genetically modified T-cells. The stock has dipped after running up sharply in May in anticipation of the ASCO meeting, so a buying opportunity may not be far away.

To drive superior returns, investors need to turn more to developmental stage companies with greater risks. Some of these companies have already had nice runs in the “risk-on” environment for growth, but by practicing patience and waiting for the best entry points in strong stocks, there is good money to be made in this sector.

Looking for Opportunity

June 12, 2018, 10:09 am

Last Monday, the NASDAQ matched its all-time closing high and signaled that the negativity around Big Tech over the last few months has pretty much evaporated. It’s clear that the sector has been a favorite throughout Wall Street.

However, the broader market remains 2% from record territory, and when you factor out tech, the S&P 500 is actually still down year to date, with most sectors from industrials to financials also lower. From utilities to the consumer, wide swathes of Wall Street are still a long way from recovering from the February correction.

The good news is that leadership is tentatively broadening out to other corners of the market like the banks and even real estate, opening up new opportunities. I expect to start buying more once we get a little more confirmation that money is indeed flowing beyond Big Tech.

We’re in the early stages of that now, but many charts still look rich even though the best earnings season since 2010 opened up a lot of upside for stocks to chase – even stocks already at record prices. A full 38% of stocks are back within 10% of their 52-week highs, and I would be reluctant to trade those names until we see proof that they can push through those known limits and make us real money.

I’m keeping an eye on a few things this week. In terms of the market, the S&P 500 is not far from 2,800 again, which is where it topped out in mid-March and hasn’t been back to since. A break above could be significant.

In addition, there are a few events on the calendar that are big enough to move stocks, so we’ll have to stay on our toes. The first is President Trump’s meeting with North Korean President Kim Jong Un, which took place overnight in Singapore. The market opened higher after the two signed an agreement that highlighted the denuclearization of the Korean peninsula, and I’ll be watching the action throughout the day to see if anything else major is announced.

In addition, the Federal Reserve Open Market Committee holds its fourth meeting of the year and the third under new Chair Jerome Powell. We’ll get the Fed’s latest decision on interest rates, and the market is pricing in a 95% chance of another increase. There has also been more talk in recent days that the unwinding of the Fed’s balance sheet could be coming to an end, and Powell will hold a press conference to hopefully discuss that afterward. Stocks could move on any or all of those factors.

I will be watching all of it closely, and while we haven’t gotten as many favorable set-ups as we would like in the last week or so, I’m watching several stocks that are trading constructively and could soon give us attractive entries.

In the end, I continue to expect this to be an exciting summer for us. You certainly won’t find the summer doldrums here!

What’s Driving the Market Now?

June 5, 2018, 10:58 am

Each earnings season gives us a chance to take a close look at the assumptions that guided the market previously. With first-quarter earnings finally receding in the rear view, it’s clear to all that the U.S. economy remains as robust as we’ve seen it this decade.

Profits are tracking 24.5% above last year’s levels, thanks in large part to widespread tax relief and relaxed regulation on industries that were straining to cut through government red tape. Guidance was good enough to suggest that growth will continue at a rate of 19% or higher in the current quarter and throughout the year to come.

These numbers are nothing short of spectacular. Even long-term investors only get to see earnings growth like this a few times a decade. Only the initial rush of recovery from a full-fledged recession feels better, and if we can anticipate performance even close to what we captured in 2003 and again in 2010, that growth story is going to be enough to make tactical traders a lot of money.

In the broader economy, 2.2% growth may be slower than some economists would like, but it’s better than what we’ve seen for much of the decade. As we learned last Friday, unemployment is at its lowest level in a half century, and while the Federal Reserve is raising interest rates, the drag hasn’t been more than consumers or corporations can bear. We’ve already seen that 3% bond yields are not going to trigger an instant meltdown, and they actually are a sign that the world is returning to normalcy after a dramatic recession and difficult recovery.

All these factors give the market what it needs to keep healing after the correction earlier in the year. Last week ended with the S&P 500 in the green, and its technicals are looking good. The index broke through its key 2,740 level on Friday – a level it hasn’t seen since mid-March – and then traded around it yesterday. This is very healthy action, but we remain in a headline-driven environment so I am not ruling out a few broader market swings.

The U.S.-China deal is still in the works, and I expect Wall Street to pay very close attention to any news (or tweets) on the matter. Things seem to be back on track for the North Korea and U.S. summit next Tuesday, but as we’ve seen before a lot can happen in a week that impacts any plans.

In addition, the G7 summit begins on Friday, and headlines about trade wars and tariff threats leading up to it could be especially market-moving as the United States’ allies are against the tariffs on steel and aluminum the Trump administration levied on Canada, Mexico and the European Union (EU).

The good news is that any rocky trading will open up attractive opportunities on dips, and pullbacks on strong stocks with solid underlying uptrends are a great place to put your money to work.

Can You Make Money in the Current Environment?

May 30, 2018, 10:26 am

The old adage “sell in May and go away” didn’t really apply until the very end of the month as the strong first-quarter earnings season was more than able to offset the rise in the 10-year Treasury yield above 3%. This is a big deal because the similar rise back in February cracked the market, so it was very good to see stocks brush off the move this time.

However, Italy’s 10-year bond is starting to get more attention, with its yield flying from 1.79% at the start of the month to 3.16% yesterday. The new Italian government’s ambitious tax cut and spending plans, along with the potential end of quantitative easing (QE) in the European Union (EU), have helped drive the higher yields. The absolute levels remain very low, lower than the U.S. 10-year Treasury yield and not even close to the 8% yields Italian bonds touched in 2011; however, it is the rapid rate of change that has some investors on alert since the rout in stocks that occurred back in the summer in 2011 is far from forgotten.

The good news is that there are a few balls in the market’s court that could limit the selling over the near term. First, there is no sign of contagion within the eurozone right now. While Spanish yields have also risen, they remain very low at 1.62%. Second, U.S. 10-year Treasury yields have fallen comfortably below 3% in a flight to safety. Given the turmoil, there is also a chance that both the Federal Reserve and European Central Bank (ECB) will take more dovish stances, opening the door for the ECB to extend its quantitative easing program.

Third, the NASDAQ is providing good leadership, and we saw that again yesterday as it hung in better than the S&P 500 and Dow. And finally, we are just a little over a month away from the next earnings cycle, and the issues surrounding Italy should not have a negative impact on the current quarter’s results, so it is hard to get too bearish in front of what should be another strong earnings season.

While we could be in for a bit more selling, I don’t expect the S&P to drop below 2,600 in front of the coming cycle unless there’s more bad news on the macro front, like a rise in the Spanish bond yields above 2%. (Yes, Italy’s situation has us back to monitoring Spain’s bond yields as well.)

In the meantime, one way to keep making money in the current market is through names that are not highly cyclical, have stable operations and pay healthy dividends or are buying back stock. These are the companies that do better in difficult environments, which we could see again before year-end given the many crosscurrents Wall Street has to contend with right now.

Is the Market Action Improving?

May 22, 2018, 10:25 am

Stocks held up very well considering the crosscurrents they faced last week. The first was the 10-year Treasury yield hitting 3.11%. There is nothing particularly significant about 3% in and of itself, but there has been a big increase in outstanding debt from both governments and companies – Home Depot (HD) has used a lot of leverage to buy back shares – since the financial crisis. Any incremental increase in interest rates tends to make Wall Street nervous, as government deficits will soar and companies will need to pay higher interest expenses on that debt.

Another crosscurrent was the recent strength of the dollar. Dollar weakness compared to the euro contributed to the strong earnings season that just wrapped up because it makes American goods cheaper in other countries. The opposite is true with a strong dollar, which could now be an earnings headwind in the second half of 2018.

And lastly, while higher oil prices have been a major positive for energy stocks this year, at some point they will have a negative impact on consumer spending as folks spend more of their money at the gas pump.

Despite last week’s crosscurrents, volatility throughout the market has receded by 50% since late March. While the market as a whole didn’t move much, it’s clear that investors are indeed moving money around instead of crowding to the sidelines. That rotation may not move the benchmarks, but it definitely creates winners and losers among individual stocks.

Drill beneath the S&P 500 headline numbers and a lot of names are moving in the right direction to one day push the market as a whole over the wall of worry the correction left behind. The math is instructive. About 3,400 stocks are up as of last Friday and 1,900 are down, which speaks to the general upward bias that still prevails on Wall Street.

That makes sense, as it would be hard to justify a real negative mood in the wake of the biggest tax breaks in a generation, not to mention the best earnings growth quarter since 2010. But the real story is the way relatively few of the winners are reversing course while close to half of the depressed charts have turned around.

That’s a sign of improving market breadth and a healthy indication that the market as a whole is getting ready to resume its bull run in pursuit of records. Remember, I’m still open to Dow 30k by December 31. That target is only 0.4% farther away than it was back when the year started, so the only thing we’ve really lost in the last few wild months is time.

The bulls will need a little more speed through the rest of 2018, but earnings growth alone is taking enough pressure off the multiples to make it happen.

5 Cool Britannia Stocks to Take Home a Piece of the Royal Wedding

May 18, 2018, 10:22 am

The world is buzzing with excitement over the Royal Wedding between Meghan Markle and Prince Harry this Saturday. I’ll admit it, I’m excited, too, but all this talk about the wedding has gotten me more interested in the UK outperformers that we can trade in the United States while the rest of the world sits to watch the lovebirds say “I do.” Let me share five on my radar with you now.

1. Manchester United (MANU): This is every casual soccer fan’s chance to own a piece of one of the most successful teams in history. Manchester United takes in about $765 million a year from sponsorships, merchandising and broadcast rights. With another traditionally profitable club season behind it, now is the time to build a position while the fundamentals rebuild. Sponsorships roughly pay player salaries, leaving ticket sales to cover other operating costs, while broadcast is arguably the crown jewel. In a good quarter, the rights to show Man U games is worth 15%-20% more than it was a year ago. And if the team does well, the season gets longer and fans buy more gear, covering player bonuses with a healthy margin left over for shareholders. That margin isn’t huge, but it’s ramping up fast – if the coming season is anything like the last one, analysts will be shocked at the amount of profit on the field.

2. BP (BP): Those who remember the company from its Gulf of Mexico meltdown back in 2010 may be surprised to see it now. While BP is still a big player off the Louisiana coast, it also remains the heavyweight in the UK energy landscape. This is one of the few countries on the planet where oil production is rising by roughly 80,000 barrels per day. That’s better than just about anyone else outside the Americas. With new fields opening up in BP’s North Sea turf, that trend can continue. Compare BP’s chart to Exxon Mobil (XOM) and the difference speaks for itself. With oil prices mopping up the last weakness left over from the 2014 crash, the North Sea is a good place to be.

3. IHS Markit (INFO): This is the best proxy U.S. investors have on the resilient British aerospace industry. After all, this is the company that publishes the legendary “Jane’s” guides to weaponry, ships and other defense hardware. However, that’s just one piece of the INFO empire of market data, academic publishing and business-to-business resources. Last year was huge for the company as subscribers in the energy sector made more extensive use of its geological and drilling data. This year I’m looking for slightly less robust revenue expansion but a whole lot more profit. With data providers becoming a trophy for private equity firms with too much investor cash to spend and not enough viable targets, the fundamentals mean a strategic partnership offer isn’t out of the question.

4. Myovant Sciences (MYOV): This is Britain’s best play on endocrine disorders and female infertility, but it will take years to deliver on its scientific promise. Still, with five separate Phase 3 trials currently underway, the finish line could be closer than the investment community on either side of the Atlantic currently suspects. The ultimate goal is curing infertility associated with uterine fibroids, which puts MYOV squarely in the extremely lucrative assisted reproduction space. With the science now just one step away from a final regulatory decision, $130 million in cash should take the company where it needs to be while giving shareholders plenty of upside. In the meantime, the fact that development partners are happy to buy in above $20 provides confidence that if the cash runs out someone will emerge to pick up the pieces. And if the science starts looking too good to ignore, any Big Pharma player may grab the whole company, making MYOV a potential takeover target.

5. Aptiv (APTV): This is the global giant when it comes to car parts, although it t may be more familiar under its old name, Delphi. While the company moved its headquarters to Britain after its 2009 restructuring, it only abandoned the Delphi name back in December when it spun out its powertrain business to concentrate on the components. It’s the business model that made Aptiv a Wall Street powerhouse and now it’s once again ramping profit at a steady 10%-15% per year. Car parts have been one of the strongest areas of the global market, and this is the way to play that theme in pounds. If you’re interested in more, Fiat Chrysler (FCAU) is another good option to consider. It’s a British company now, too, despite its origins in Turin and Detroit.