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Doubling Down on Digital Infrastructure Thematic Leader

Doubling Down on Digital Infrastructure Thematic Leader

Key point inside this issue

  • We are doubling down on Dycom (DY) shares on the Thematic Leader board and adjusting our price target to $80 from $100, which still offers significant upside from our new cost basis as the 5G and gigabit fiber buildout continues over the coming quarters.

We are coming at you earlier than usual this week in part to share my thoughts on all of the economic data we received late last week.

 

Last week’s data confirms the US economy is slowing

With two-thirds of the current quarter behind now in the books, the continued move higher in the markets has all the major indices up double-digits year to date, ranging from around 11.5-12.0%% for the Dow Jones Industrial Average and the S&P 500 to nearly 18% for the small-cap heavy Russell 2000. In recent weeks we have discussed my growing concerns that the market’s melt-up hinges primarily on U.S.-China trade deal prospects as earnings expectations for this year have been moving lower, dividend cuts have been growing and the global economy continues to slow. The U.S. continues to look like the best economic house on the block even though it, too, is slowing.

On Friday, a round of IHS Markit February PMI reports showed that three of the four global economic horsemen — Japan, China, and the eurozone — were in contraction territory for the month. New orders in Japan and China improved but fell in the eurozone, which likely means those economies will continue to slug it out in the near-term especially since export orders across all three regions fell month over month. December-quarter GDP was revealed to be 2.6% sequentially, which equates to a 3.1% improvement year over year but is down compared to the 3.5% GDP reading of the September quarter and 4.2% in the June one.  Slower growth to be sure, but still growing in the December quarter.

Before we break out the bubbly, though, the IHS Markit February U.S. Manufacturing PMI fell to its lowest reading in 18 months as rates of output and new order growth softened as did inflationary pressures. This data suggest the U.S. manufacturing sector is growing at its slowest rate in several quarters, as did the February ISM Manufacturing Index reading, which slipped month over month and missed expectations. Declines were seen almost across the board for that ISM index save for new export orders, which grew modestly month over month. The new order component of the February ISM Manufacturing Index dropped to 55.5 from 58.2 in January, but candidly this line item has been all over the place the last few months. The January figure rebounded nicely from 51.3 in December, which was down sharply from 61.8 in November. This zig-zag pattern likely reflects growing uncertainty in the manufacturing economy given the pace of the global economy and uncertainty on the trade front. Generally speaking though, falling orders translate into a slower production and this means carefully watching both the ISM and IHS Markit data over the coming months.

In sum, the manufacturing economy across the four key economies continued to slow in February. On a wider, more global scale, J.P. Morgan’s Global Manufacturing PMI fell to 50.6 in February, its lowest level since June 2016. Per J.P. Morgan’s findings, “the rate of expansion in new orders stayed close to the stagnation mark,” which suggests we are not likely to see a pronounced rebound in the near-term. We see this as allowing the Fed to keep its dovish view, and as we discuss below odds are it will be joined by the European Central Bank this week.

Other data out Friday included the December readings for Personal Income & Spending and the January take on Personal Income. The key takeaway was personal income fell for the first time in more than three years during January, easily coming in below the gains expected by economists. Those pieces of data not only help explain the recent December Retail Sales miss but alongside reports of consumer credit card debt topping $1 trillion and record delinquencies for auto and student loans, point to more tepid consumer spending ahead. As I’ve shared before, that is a headwind for the overall US economy but also a tailwind for those companies, like Middle-class Squeeze Thematic Leader Costco Wholesale (COST), that help consumers stretch the disposable income they do have.

We have talked quite a bit in recent Tematica Investing issues about revisions to S&P 500 2019 EPS estimates, which at last count stood at +4.7% year over year, down significantly from over +11% at the start of the December quarter. Given the rash of reports last week – more than 750 in total –  we will likely see that expected rate of growth tweaked a bit lower.

Putting it all together, we have a slowing U.S. and global economy, EPS cuts that are making the stock market incrementally more expensive as it has moved higher in recent weeks, and a growing number of dividend cuts. Clearly, the stock market has been melting up over the last several weeks on increasing hopes over a favorable trade deal with China, but last week we saw President Trump abruptly end the summit with North Korea’s Kim Jong Un with no joint agreement after Kim insisted all U.S. sanctions be lifted on his country. This action spooked the market, leading some to revisit the potential for a favorable trade deal between the U.S. and China.

Measuring the success of any trade agreement will hinge on the details. Should it fail to live up to expectations, which is a distinct possibility, we could very well see a “buy the rumor, sell the news” situation arise in the stock market. As I watch for these developments to unfold, given the mismatch in the stock market between earnings and dividends vs. the market’s move thus far in 2019 I will also be watching insider selling in general but also for those companies on the Thematic Leader Board as well as the Tematica Select List. While insiders can be sellers for a variety of reasons, should we see a pronounced and somewhat across the board pick up in such activity, it could be another warning sign.

 

What to Watch This Week

This week we will see a noticeable drop in the velocity of earnings reports, but we will still get a number of data points that investors and economists will use to triangulate the speed of the current quarter’s GDP relative to the 2.6% print for the December quarter. The consensus GDP forecast for the current quarter is for a slower economy at +2.0%, but we have started to see some economists trim their forecasts as more economic data rolls in. Because that data has fallen shy of expectations, it has led the Citibank Economic Surprise Index (CESI) to once again move into negative territory and the Atlanta Fed’s GDPNow current quarter forecast now sat at 0.3% as of Friday.

On the economic docket this week, we have December Construction Spending, ISM’s February Non-Manufacturing Index reading, the latest consumer credit figures and the February reports on job creation and unemployment from ADP (ADP) and the Bureau of Labor Statistics. With Home Depot (HD) reporting relatively mild December weather, any pronounced shortfall in December Construction Spending will likely serve to confirm the economy is on a slowing vector. Much like we did above with ISM’s February Manufacturing Index we’ll be looking into the Non-Manufacturing data to determine demand and inflation dynamics as well as the tone of the services economy.

On the jobs front, while we will be watching the numbers created, including any aberration owing to the recent federal government shutdown, it will be the wage and hours worked data that we’ll be focusing on. Wage data will show signs of any inflationary pressures, while hours worked will indicate how much labor slack there is in the economy. The consumer is in a tighter spot financially speaking, which was reflected in recent retail sales and personal spending data. Recognizing the role consumer spending plays in the overall speed of the U.S. economy, we will be scrutinizing the upcoming consumer credit data rather closely.

In addition to the hard data, we’ll also get the Fed’s latest Beige Book, which should provide a feel for how the regional economies are faring thus far in 2019. Speaking of central bankers, next Wednesday will bring the results of the next European Central Bank meeting. Given the data depicted in the February IHS Markit reports we discussed above, the probability is high the ECB will join the Fed in a more dovish tone.

While the velocity of earnings reports does indeed drop dramatically next week, there will still be several reports worth digging into, including Ross Stores (ROST), Kohl’s (KSS), Target (TGT), BJ’s Wholesale (BJ), and Middle-class Squeeze Thematic Leader Costco Wholesale (COST) will also issue their latest quarterly results. Those reports combined with the ones this week, including solid results from TJX Companies (TJX) last week should offer a more complete look at consumer spending, and where that spending is occurring. Given the discussion several paragraphs above, TJX’s results last week, and the monthly sales reports from Costco, odds are quite good that Costco should serve up yet another report showcasing consumer wallet share gains.

Outside of apparel and home, reports from United Natural Foods (UNFI) and National Beverage (FIZZ) should corroborate the accelerating shift toward food and beverages that are part of our Cleaner Living investing theme. In that vein, I’ll be intrigued to see what Tematica Select List resident International Flavors & Fragrances (IFF) has to say about the demand for its line of organic and natural solutions.

The same can be said with Kroger (KR) as well as its efforts to fend off Thematic King Amazon (AMZN) and Walmart (WMT). Tucked inside of Kroger’s comments, we will be curious to see what the company says about digital grocery shopping and delivery. On Kroger’s last earnings conference call, Chairman and CEO Rodney McMullen shared the following, “We are aggressively investing to build digital platforms because they give our customers the ability to have anything, anytime, anywhere from Kroger, and because they’re a catalyst to grow our business and improve margins in the future.” Now to see what progress has been achieved over the last 90 or so days and what Kroger has to say about the late-Friday report that Amazon will launch its own chain of supermarkets.

 

Tematica Investing

As you can see in the chart above, for the most part, our Thematic Leaders have been delivering solid performance. Shares of Costco Wholesale (COST) and Nokia (NOK) are notable laggards, but with Costco’s earnings report later this week which will also include its February same-store sales, I see the company’s business and the shares once again coming back into investor favor as it continues to win consumer wallet share. That was clearly evident in its December and January same-store sales reports. With Nokia, coming out of Mobile World Congress 2019 last week, we have confirmation that 5G is progressing, with more network launches coming and more devices coming as well in the coming quarters. We’ll continue to be patient with NOK shares.

 

Adding significantly to our position in Thematic Leader Dycom Industries

There are two positions on the leader board – Aging of the Population AMN Healthcare (AMN) and Digital Infrastructure Dycom Industries (DY) – that are in the red. The recent and sharp drop in Dycom shares follows the company’s disappointing quarterly report in which costs grew faster than 14.3% year over year increase in revenue, pressuring margins and the company’s bottom line. As we’ve come to expect this alongside the near-term continuation of those margin pressures, as you can see below, simply whacked DY shares last week, dropping them into oversold territory.

 

When we first discussed Dycom’s business, I pointed out the seasonal tendencies of its business, and that likely means some of the February winter weather brought some added disruptions as will the winter weather that is hitting parts of the country as you read this. Yet, we know that Dycom’s top customers – AT&T (T), Verizon (VZ), Comcast (CMCSA) and CenturyLink (CTL) are busy expanding the footprint of their connective networks. That’s especially true with the 5G buildout efforts at AT&T and Verizon, which on a combined basis accounted for 42% of Dycom’s January quarter revenue.

Above I shared that coming out of Mobile World Congress 2019, commercial 5G deployments are likely to be a 2020 event but as we know the networks, base stations, and backhaul capabilities will need to be installed ahead of those launches. To me, this strongly suggests that Dycom’s business will improve in the coming quarters, and as that happens, it’s bound to move down the cost curve as efficiencies and other aspects of higher utilization are had. For that reason, we are using last week’s 26% drop in DY shares to double our position size in DY shares on the Thematic Leader board. This will reduce our blended cost basis to roughly $64 from the prior $82. As we buy up the shares, I’m also resetting our price target on DY shares to $80, down from the prior $100, which offers significant upside from the current share price and our blended cost basis.

If you’re having second thoughts on this decision, think of it this way – doesn’t it seem rather strange that DY shares would fall by such a degree given the coming buildout that we know is going to occur over the coming quarters? If Dycom’s customers were some small, regional operators I would have some concerns, but that isn’t the case. These customers will build out those networks, and it means Dycom will be put to work in the coming quarters, generating revenue, profits, and cash flow along the way.

In last week’s Tematica Investing I dished on Warren Buffett’s latest letter to Berkshire Hathaway (BRK.A) shareholders. In thinking about Dycom, another Buffett-ism comes to mind – “Opportunities come infrequently. When it rains gold, put out the bucket, not the thimble.” Since this is a multi-quarter buildout for Dycom, we will need to be patient, but as we know for the famous encounter between the tortoise and the hare, slow and steady wins the race.

  • We are doubling down on Dycom (DY) shares on the Thematic Leader board and adjusting our price target to $80 from $100, which still offers significant upside from our new cost basis as the 5G and gigabit fiber buildout continues over the coming quarters.

 

As the pace of earnings slows, over the next few weeks I’ll not only be revisiting the recent 25% drop in Aging of the Population Thematic Leader AMN Healthcare to determine if we should make a similar move like the one we are doing with Dycom, but I’ll also be taking closer looks at wireless charging company Energous Corp. (WATT) and The Alkaline Water Company (WTER). Those two respectively fall under our Disruptive Innovators and Cleaner Living investing themes. Are they worthy of making it onto the Select List or bumping one of our Thematic Leaders? We’ll see…. And as I examine these two, I’m also pouring over some candidates to fill the Guilty Pleasure vacancy on the leader board.

 

 

Tematica Investing: Thematic Tailwinds for 2019 and Scaling into AXON

Tematica Investing: Thematic Tailwinds for 2019 and Scaling into AXON

 

Key Points Inside this Issue:

Last Friday’s favorable December Employment Report showed the domestic economy is not falling off a cliff and comments by Fed Chair Jay Powell reflected that the central bank will be patient with monetary policy as it watches how the economy performs. Those two things kicked the market off on its most recent three-day winning streak as of last night’s close. In many ways, Powell gave the market what it was looking for when he shared the Fed will remain data dependent when it looks at the economy and its next step with monetary policy.

Taking a few steps back, we’ve all experienced the market volatility over the last several weeks as it contends with a host of issues that we here at Tematica have laid out through much of the December quarter. These include:

  • U.S.-China trade issues
  • The slowing economy
  • A Fed that could boost rates twice in 2019 and continues to unwind its balance sheet
  • Brexit and political uncertainty in the Eurozone
  • And more recently the government shutdown.

These factors have led investors to question growth prospects for the global as well as the domestic economy and earnings in 2019.

Powell’s comments potentially take one of those issues off the table at least in the short-term. If the economy continues to deliver job creation as we saw in December, with some of the best year-over-year wage gains we’ve seen in years, before too long the Fed-related conversation could very well turn from two rate hikes to three.

Currently, that isn’t what the market is expecting.

The reason it isn’t is that outside of the December jobs report, data from ISM and IHS Markit continued to show a decelerating global and U.S. economy. With new orders and backlog levels falling, as well as pricing-related data, it likely means we won’t see a pronounced pickup in the January data. The JPMorgan Global Composite Output Index for December delivered its lowest reading since September 2016 due principally to the slowdown in the eurozone. Rates of expansion slowed in Germany (66-month low) and Spain (three-month low), while Italy stagnated. China, the UK, and Brazil all saw modest growth accelerations.

 

Despite the month over month declines in the December data for the US, it was the best performer on a relative basis even though the IHS Markit Composite PMI reading for the month hit a 15-month low. A more sobering view was shared by Chris Williamson, Chief Business Economist at IHS Markit who said:

“Manufacturers reported a weakened pace of expansion at the end of 2018, and grew less upbeat about prospects for 2019. Output and order books grew at the slowest rates for over a year and optimism about the outlook slumped to its gloomiest for over two years.”

That should give the Fed some room to hold off boosting rates, but it also confirms the economy is decelerating, which will likely have revenue and earnings guidance repercussions in the upcoming December-quarter earnings season.

There are several catalysts that could drive both the economy and the stock market higher in the coming months. These include a “good deal” resolution to the U.S.-China trade situation and forward movement in Washington on infrastructure spending. This week, the US and China have met on trade and it appears those conversations have paved the way for further discussions in the coming weeks. A modest positive that has helped drive the stock market higher this week, but thus far concrete details remain scant.

Such details are not likely to emerge for at least several weeks, which means the next major catalyst for the stock market will be the upcoming December quarter earnings season that begins in nine trading days.

 

Earnings expectations are being revised lower

Facing a number of risks and uncertainties over the last several weeks, investors have once again questioned growth prospects for both the economy and earnings growth for 2019. The following two charts – one of the Citibank Economic Surprise Index and one showing the aggregate profit margin for the S&P 500 companies – depict what investors are grappling with weaker than expected economic data at a time when corporate operating margins have hit the highest levels in over 20 years.

While expectations for growth in both the domestic economy and earnings for the S&P 500 have come in compared to forecasts from just a few months ago, the current view per The Wall Street Journal’s Economic Forecasting Survey calls for 2019 GDP near 2.3% (down from 3.0% in 2018) with the S&P 500 group of companies growing their collective EPS by 7.4% year over year in 2019.

 

Here’s the thing, in recent weeks, analysts lowered their earnings estimates for companies in the S&P 500 for the December quarter by roughly 4% to $40.93. The Q4 bottom-up EPS estimate (which is an aggregation of the median EPS estimates of all the companies in the index) dropped by 4.5% to $40.63. In the chart below, you can see this means quarter over quarter, December quarter earnings are expected to drop breaking the typical pattern of earnings growth into the last quarter of the year. What you can’t see is that marks the largest cut to quarterly S&P 500 EPS estimates in over a year.

 

 

Getting back to that 7.4% rate of earnings growth that is currently forecasted for 2019, I’d call out that it too has been revised down from 9% earlier in the December quarter. That new earnings forecast is a far cry from 21.7% in 2018, which was in part fueled by a stronger economy as well as the benefits of tax reform that was passed in late 2017. As we all know, there that was a one-time bump to corporate bottom lines that will not be repeated this year or in subsequent ones. The conundrum that investors are facing is with the market barometer that is the S&P 500 currently trading at 15.9x consensus 2018 EPS of $161.54, the factors listed above have investors asking what the right market multiple based on 2019’s consensus EPS of $173.45 should be?

And while most investors don’t “buy the market,” its valuation and earnings growth are a yardstick by which investors judge individual stocks.

 

Thematic tailwinds will continue to drive profits and stock prices

One of the key principles to valuing stocks is that companies delivering stronger EPS growth warrant a premium valuation. Of course, in today’s stock buyback rampant world, that means ferreting out those companies that are growing their net income. My preference has been to zero in on what is going on with a company’s operating profit and operating margins given that their vector and velocity are the prime drivers of earnings. That was especially needed last year given the widespread bottom-line benefits of tax reform.

At the heart of it, the question is what is driving the business?

As I’ve shared before, sector classifications don’t speak to that as they are a grouping of companies by certain characteristics rather than the catalysts that are driving their businesses. As we’ve seen before, some companies, such as Amazon (AMZN) or Apple (AAPL) capitalize on those catalysts, while others fail to do so in a timely manner if at all. Sears (SHLD), JC Penney (JCP) are easy call outs, but so are Toys R Us, Bon-Ton Stores, Sports Authority, Blue Apron (APRN), and Snap (SNAP) to name just over a handful.

Very different, and we can see the difference in comparing revenue and profit growth as well as stock prices. The ones that are performing are responding to the changing landscapes across the economic, demographic, psychographic, technological, regulatory and other playing fields they face. In short, they are riding the thematic tailwinds that we here at Tematica have identified. As a reminder those themes are:

 

As we move into 2019, I continue to see the tailwinds associated with those themes continuing to blow hard. Despite all the vain attempts to fight it temporarily, there is no slowing down the aging process. Consumers continue to flock to better for you alternatives, and as you’ll see below that has led Thematic Leader Chipotle Mexican Grill (CMG) to bring a new offering to market.

As we saw this past holiday shopping season, consumers are flocking more and more to digital shopping while hours spent streaming content continue to thwart broadcast TV and the box office. This year 5G networks and devices will become a reality as AT&T (T), Verizon (VZ) and others launch those commercial networks. The legalization of cannabis continues, and consumers continue to consume chocolate, alcohol and other Guilty Pleasures.

Whether you are Marriott International (MAR), Facebook (FB), British Airways or the Bridgeport School System, cyber threats continue to grow and as we saw last night during the presidential address and Democratic response, border security be it through a wall, technology or other means is a pain point that needs to be addressed. While the last two monthly Employment Reports have shown some of the best wage gains in years, Middle-class Squeeze consumers continue to face a combination of higher debt and interest rates as well as rising healthcare costs and the need to save for their golden years that will weigh on the ability to spend.

Like any set of winds, there will be times when some blow harder than others. For example, as we peer into the coming year the launch of 5G networks and gigabit ethernet will likely see the Digital Infrastructure tailwind accelerate in the first half of the year as network and data center operators utilize the services of companies like Thematic Leader Dycom Industries (DY) to build the physical networks. Some tailwinds, such as those associated with Aging of the Population, Clean Living and Middle-class Squeeze are likely to be more persistent over the coming year. Other tailwinds will gust hard at times almost seemingly out of nowhere reminding that they have been there all along. Given the nature of high profile cyber attacks and other threats, that’s likely to once again be the case with Safety & Security.

The bottom line is this – the impact to be had of the tailwinds associated with our 10 investment themes will continue to be felt in 2019. They will continue to influence consumer and business behavior, altering the playing field and forcing companies to either respond or not. The ones that are capitalizing on that changing playing field and are delivering pronounced profit growth are the ones investors should be focusing on.

 

TEMATICA INVESTING 

Scaling into AAXN, and updates on NFLX, CMG, and DFRG

As I discussed above, the December quarter was one of the most challenging periods for the stock market in some time. Even though we are just over a handful of days into 2019, we’re seeing the thematic tailwinds blow again on the Thematic Leaders with 9 of the 11 positions ahead of the S&P 500. Yes, we’re looking pretty good so far but it’s too early in the year to start patting our backs, especially with the upcoming earnings season. Odds are Apple’s (AAPL) negative preannouncement last week won’t be the only sign of misery to be had, and that’s why I’m keeping the ProShares Short S&P 500 ETF (SH) active for the time being. As I shared with you last week, while Apple and others are contending with a maturing smartphone market, I continue to like the long-term Digital Lifestyle aspects as it moves into streaming content and subscription-related businesses.

Of those 9 companies that are ahead of the S&P 500, as you can see in the table above, there are several that are significantly outperforming the market in the brief time that is 2019. These include Netflix (NFLX) shares, Axon Enterprises (AAXN), and Chipotle Mexican Grill (CMG)  as well as Del Frisco’s (DFRG).

After falling just over 28% in the December quarter as investors gave up on the FANG stocks, as of last night’s market close Netflix shares are up 20% so far for the new year. Spurring them along have been favorable comments and a few upgrades from the likes of Piper Jaffray, Barclays, Sun Trust, and several other investment banks. From my perspective, even though Netflix will face a more competitive landscape as AT&T (T), Disney (DIS), Hulu, Amazon (AMZN), Google (GOOGL), Facebook (FB), and Apple (AAPL), it has a substantial lead in the original content race over the likes of Facebook, Apple, Google and Amazon.

Candidly, only AT&T given its acquisition of Time Warner, and Disney, especially once it formally acquires with the movie, TV and other content from 21stCentury Fox (FOXA), will be streaming content contenders in the near term. And Disney is starting from scratch while AT&T lags meaningfully behind Netflix in terms of not only overall subscribers but domestic ones as well. For now, the digital streaming horse to play remains Netflix, especially as it brings more content to its service for both the US and international markets, which should drive its global subscriber base higher.

 

New bowls at Chipotle signal the Big Fix continues

Since its beginnings, Chipotle has been at the forefront of our Clean Living investing theme, but last week it took another step to attract those who are aiming to eat healthier when it introduced a line of Lifestyle Bowls. These included Keto, Paleo, Whole30, and Double Protein versions are only available through the company’s mobile app and the Chipotle website. Clearly, the new management team that arrived last year understands the powerful tailwind associated with our Digital Lifestyle investing theme. More on those new bowls can be found here, and we expect to hear more on the management team’s Big Fix initiatives when the company presents at the ICR Conference on Jan. 15.

 

Adding to Axon Enterprises as EPS expectations move higher

When we added shares of Axon Enterprises to the Thematic Leaders for the Safety & Security slot, we noted the company’s long reach into US police departments and other venues that should drive adoption of its newer Taser units but more importantly its body cameras and digital storage businesses. In the company’s November earnings report we saw that positive impact as its Axon Cloud revenue rose 47% year over year to $24 million, roughly $24 million or 23% of revenue vs. 18% in the year-ago quarter. Even better, the gross margin associated with that business has been running in the mid 70% range over the last few quarters, well above the corporate gross margin average of 36%-37%. Over the last 90 days, we’ve seen Wall Street boost its EPS forecasts for the company to $0.77 for 2018, up from $0.52, and to $0.92 for 2019 up from $0.73.

Even though we AAXN shares are on a roll thus far in 2019, the position is still in the red since joining the Thematic Leaders. Against the favorable tailwind of our Safety & Security investing theme and rising EPS expectations, we will scale into AAXN shares at current levels, which will drop our cost basis to around $61 from just under $73. Our $90 price target remains intact.

  • We are scaling into shares of Safety & Security Thematic Leader Axon Enterprises (AXON) at current levels, which will dramatically improve our cost basis. Our $90 price target remains intact.

 

Del Frisco’s shares jump on takeout speculation

Over the last few weeks, there has a sizable rebound in the shares of high-end restaurant name Del Frisco’s Restaurant Group. Ahead of the year-end 2018 holidays, the company’s board of directors was the recipient of activist investor action from Engaged Capital. During the holiday weeks, the company shared it has hired investment firm Piper Jaffray to “review and consider a full range of options focused on maximizing shareholder value, including a possible sale of the Company or any of its dining concepts.”

In other words, Del Frisco’s is putting itself in play. Often this can result in a company being taken out either by strategic investors, private equity or a combination of the two. There is also the chance a company going through this process is not acquired due primarily to a mismatch between the potential buyer(s) and the board on price as well as underlying financing.

From my perspective, 2018 was a challenging year for Del Frisco’s as it repositioned its branded portfolio. This included the sale of Sullivan’s Steakhouse and the acquisition of Barteca Restaurant Group, the parent of both Bartaco and Barcelona restaurants.

Transitions such as these can be challenging, and in some cases, the benefits of the transformation may take longer to emerge than planned. That said, given the data we’ve discussed previously on the recession-resistant nature of high-end dining, such as at Del Frisco’s core Double Eagle Steakhouse and Grille, we do think the company would be a feather in the cap for another restaurant group. As we noted when we added DFRG shares to the Thematic Leaders, there are very few standalone public steakhouse companies left — the vast majority of them have been scooped up by names such as Landry’s or Darden Restaurants (DRI).

From a fundamental perspective, the reasons why we are bullish on Del Frisco’s are the same ones that make it a takeout candidate. While we wait and see what emerges on the bid front, I’ll be looking over other positions to fill DFRG’s slot on the Thematic Leaders should a viable bid emerge.  Given the company’s restaurant portfolio, the continued spending on high-end dining and its recession-resistant nature, odds are rather high of that happening.

  • Our price target on Del Frisco’s Restaurant Group (DFRG) remains $14.

 

 

Adding downside protection and naming a new Thematic Leader

Adding downside protection and naming a new Thematic Leader

Key points inside this issue

  • As more investors reassess coming growth expectations, we are adding ProShares Short S&P500 (SH) to hedge both the Thematic Leaders and the Select List. While not a thematic position but one that will limit near-term downside, we will evaluate this position on as needed basis in the coming weeks.
  • Calling Nokia up to the Thematic Leaders
  • Adding Skyworks Solutions to the Contender’s List
  • Cannabis rumors swirl around Altria

 

Adding some downside protection with SH shares

It’s not often we get a mid-week break for the stock market, and the reason behind yesterday’s stock market closure was a solemn one. It did offer a respite from the wild swing we saw in the market between Monday and Tuesday, which resulted in a demonstrable move lower for all the major market indices. As I shared on Monday, despite the seeming forward motion on US-China trade, there remains much work to be done and a number of headwinds that, as expected, are leading investors to question 2019 EPS growth prospects.

Yesterday, China’s Commerce Ministry released a statement calling trade talks between Presidents Xi and Trump at the G20 Summit in Argentina “very successful.” The statement said the Chinese and U.S. trade and economic delegations will “actively advance the work of consultation” in 90 days in accord with “a clear timetable” and “road map” but offered little concrete details. Odds are this will add to the uncertainty that led Monday’s rally to finish the day off its highs and helped drive the market lower on Tuesday.

In my view, this will keep the market on pins and needles as we digest the coming economic data points to be had that I shared on Monday as well as those for next week that include November reports for inflation, Retail Sales and Industrial Production. As more investors question earnings growth prospects vs. the current stock market multiple, the risk is we could see more downside, especially if those same investors suspect tariffs will indeed be eventually raised to 25% from 10% along with further interest rate hikes. A recent survey of 500 institutional investors by Natixis showed that 65% see a change coming, with the biggest threats being geopolitical tensions and rising interest rates. Between the wage data to be had in Friday’s Employment Report and next week’s PPI and CPI reports, we also run the risk of seeing potentially hawkish comments following today’s latest Fed Beige Book. That report showed tariff driven price increases have spread more broadly through the U.S. economy.

As we get these and other data points ahead of the Fed’s essentially baked in the cake rate hike on December 19, I’ll continue to heed the Thematic Signals we collect each week. Given the market mood, however, I’m adding some downside protection to help insulate subscriber assets in the near-term in the form of ProShares Short S&P500 (SH), an inverse ETF for the S&P 500.

  • As more investors reassess coming growth expectations, we are adding ProShares Short S&P500 (SH) to hedge both the Thematic Leaders and the Select List. While not a thematic position but one that will limit near-term downside, we will evaluate this position on as needed basis in the coming weeks.

 

Samsung set to bring 5G into the prime time

Amid the trade news between the United States and China out of the G-20 summit, there was other news that we’ve been waiting on patiently. Subscribers know that one of our core investment thesis for our positions in Dycom Industries (DY),  AXT Inc. (AXTI), Nokia (NOK) and to a lesser extent Applied Materials (AMAT) shares is the deployment of 5G networks and devices. In the last few months, we’ve heard of beta rollouts from both AT&T Inc. (T) and Verizon Communications Inc. (VZ) as well as fixed wireless testing that could be a replacement for broadband to the home. The thing that has been missing is the to-date elusive announcement on a 5G smartphone that will ride 5G networks and their data speeds, something that will make the speed of the current 4G LTE network look something out of the dial-up days. If you remember those days, you know what I’m talking about — all that’s missing is the wonky connect garble noise.

Let me rephrase: That announcement was elusive until this past Monday when Verizon shared that smartphone users in the United States will be able to use Verizon’s 5G wireless network in the first half of 2019 starting with devices from Samsung. While details of the devices were scant — no models or price points — it is expected that Samsung will be revealing a proof concept this week at the annual Qualcomm Inc. (QCOM) Snapdragon Summit in Maui, Hawaii. Given the location of the unveiling, it seems like a sure bet Qualcomm and its chipsets will be powering the device. No surprise, considering that Samsung long has been a core customer of Qualcomm.

The key point here is the largest smartphone company by volume will be debuting its first 5G market in the coming months.

 

Calling Nokia up to the Thematic Leaders

From our perspective, I see this development as confirming our view on a few levels. Operators are not ones to launch a network unless devices are available for them to monetize that network and all the investments that led to it. That’s a positive for Nokia as it confirms the pending multi-year upswing in 5G infrastructure demand is firmly in front of it, as is the opportunity for its IP licensing business. Second, given Verizon’s timetable of “the first half of 2019,” it means the supply chain soon will be firing up to deliver the components necessary for these devices, including the incremental number of RF (radio frequency) semiconductors needed for 5G. That means incremental wafer demand for AXT during what is a seasonally slow period for smartphones.

As a result, I am calling shares of Nokia up from the Select List to the Thematic Leaders to fill the Disruptive Innovatorsvoid. With Samsung, AT&T, and Verizon having now laid out a timetable for 5G deployments for both networks and devices, we now have a far firmer timetable for a pick up in demand for mobile infrastructure business as well as high margin licensing business. My price target on NOK shares remains $8.50.

  • We are adding Nokia (NOK) shares to the Thematic Leaders for our Disruptive Innovators investing theme. Our price target remains $8.50

 

Adding Skyworks Solutions to the Contender’s List

That incremental RF semiconductor demand for 5G I mentioned a few paragraphs above also means more power amplifiers, switches, filters and other components that will once again increase the dollar content per device for Skyworks Solutions (SWKS) and its competitors. We’ve owned SWKS shares before, and more recently they’ve been battered around as more signs of stalling smartphone demand have emerged leading suppliers to cut their forecasts.

I’ve no intention in jumping into that fray ahead of the seasonally slowest time of the year for smartphone demand – the first half of the calendar year. Rather, we’ll put a pin in SWKS shares, add them to the Contender List and look to revisit them as a Disruptive Innovator play as we either put the March quarter behind us or a new US-China trade deal is inked.

 

Cannabis rumors swirl around Altria

After we published Monday’s Tematica Investing issue, there was much chatter suggesting that Guilty Pleasure Thematic Leader Altria Group (MO) could be interested in acquiring Cronos Group (CRON), a Canadian cannabis company. That speculation sent CRON shares 11% higher on the day and also lifted MO.

As you know, I have held the view that Altria would look to diversify its business away from tobacco and ride the wave of cannabis legalization in the U.S. The key here is legalization across the entire U.S., which would ease manufacturing, distribution, sales and marketing efforts by Altria rather than being an ad-hoc effort. Until the federal ban is lifted, there are also issues with how a company such as Altria would deposit its revenue and profits.

For those looking at Cronos as a positive for Altria’s U.S. business, I think that is a bit presumptuous as the timing of U.S. cannabis legalization remains tenuous. A potential acquisition such as this, however, would give Altria a toehold in the cannabis space, which is legal in Canada, and allow it to learn the business and test market product for an eventual launch in the U.S. when the time is right.

For now, a potential acquisition of Cronos is just speculation, but in principle, it fits with our long-term view of where Altria is likely headed. Now we have to see what Altria does next.

 

 

WEEKLY ISSUE: Confirming Thematic Data Points Continue to Pour In

WEEKLY ISSUE: Confirming Thematic Data Points Continue to Pour In

Key points inside this issue:

  • Oh how the stock market has diverged over the last week
  • Ahead of Apple’s (AAPL) upcoming annual product refresh, we are boosting our price target to $225 from $210 for the shares.
  • Our price target on Amazon (AMZN) shares remains $2,250.00
  • Our price target on Costco Wholesale (COST) remains $230.00
  • Our price target on Nokia (NOK) shares remains $8.50
  • Our price target on AXT Inc. (AXTI) shares remains $11.50
  • Our price target on Dycom (DY) shares remains $125.00
  • Here come earnings from Habit Restaurant (HABT)

 

Oh how the stock market has diverged over the last week

Last week the divergence we saw in the major domestic stock market indices continued as both the Dow Jones Industrial Average and the S&P 500 powered higher while the Nasdaq Composite Index and the small-cap heavy Russell 2000 retreated. The technology-heavy Nasdaq moved lower following drops in Facebook (FB) and Twitter (TWTR) late last week, while the Russell’s move lower likely reflecting potential progress on trade following a positive meeting between the US and EU.

In recent weeks, we’ve shared our view that 2Q 2018 earnings season would likely lead to the resetting of earnings expectations, and it appears that is indeed happening. The stock market, however, didn’t expect that resetting to happen with Facebook, Twitter, Netflix (NFLX) and other high fliers. We also shared how that resetting could lead to some downward pressure in the overall market, so we’re not surprised by how it is digesting these realizations.

Also weighing on the market is the realization the 2Q 2018 GDP figure of 4.1%, which was propped up by government spending and some pull forward in demand ahead of tariff phase-ins, is not likely to repeat itself in the current quarter. As we noted above, there was some progress on trade between the US and EU last week — more of an agreement to work on an agreement — and there are still tariffs with Canada, Mexico, and China to face. And as much as we would like to see last week’s progress as hopeful, we’ve heard from a number of companies about how under the current environment higher input costs will weigh on margins and profits in the back half of the year. The response has companies boosting prices to pass along those increased costs, which could either sap demand or stoke inflation concerns.

We saw that rather clearly in the IHS Markit Flash US PMI for July last week. The headline flash PMI index clocked in at 55.9, a three-month low with the manufacturing component at a two month higher while services slipped month over month. One of the key takeaways was summed up by Chris Williamson, Chief Business Economist at IHS Markit who said, “…the July flash PMI is in line with the average for the second quarter and indicative of the economy growing at an annualized rate of approximately 3%.” The same flash report also showed a steep increase in prices with survey respondents citing the impact of tariffs, but also supply chain delays, which in our experience tends to be a harbinger of further price increases.

Because we’re still in the thick of earnings, we’ll continue to assess the situation as more company commentary becomes available and what it means for profits in the coming quarters. Odds are, however, the Fed, is seeing the above and will remain on a path to boost interest rates in the coming months. We’ll get more on that later today when the Fed exits its latest FOMC policy meeting. Barring a meaningful pick up in wage growth it could lead to more restrained consumer spending. We see that as positives for incremental consumer wallet share gains at Amazon (AMZN) and Costco Wholesale (COST) as we head into the seasonally strong shopping season.

  • Our price target on Amazon (AMZN) shares remains $2,250.00
  • Our price target on Costco Wholesale (COST) remains $230.00

 

Apple delivers and boosting our price target in response

We are boosting our price target on Apple (AAPL) shares to $225 from $210. This boost follows last night’s solid June quarter results and guidance, which topped expectations as investors and consumer prepare for the latest iteration of iPhone and other Apple products to hit shelves in the coming months. Here are some of the highlights from Apple’s June quarter:

  • Reported EPS of $2.34 vs. the consensus forecast of $2.18 on revenue of $53.265 billion vs. the expected $52.43 billion.
  • Year over year revenue grew 17% with led by double-digit increases at iPhone, Services and Other while Mac and iPad revenue declined vs. year-ago levels.

Moreover, the company forecasted September quarter revenue to grow double digits sequentially with prospects for an improving gross margin profile. That combination is leading Wall Street to take its EPS expectations higher, and I suspect we will see a number of price target increases this morning.

As exciting as this is — as well as proof positive the Apple model is not broken as some doomsayers would suggest — in several weeks Apple will take the wraps off its revitalized Fall 2018 new product lineup that is expected to have a number of new models across iPhones and iPads. Some products, like iPads, are expected to get new features such as FaceID, while the iPhone X lineup should expand to larger screen sizes as well as lower cost models utilizing an LCD screen instead of an organic light emitting diode (OLED) one. I see the Apple enthusiasm once again cresting higher as that date approaches.

Now let’s break down the quarter’s results:

iPhone revenue grew 20% year over year to $29.9 billion despite tepid smartphone industry dynamics. During the quarter Apple sold 41.3 million iPhones, which paired with the 19% year over year improvement in average selling price (ASP) to $724 vs. $606 in the year-ago quarter drove the revenue improvement. That surge in ASP reflects ongoing demand from the company’s premium iPhone products – iPhone X, iPhone 8 and iPhone 8+.

The Services business grew 30% year over year to $9.5 billion, roughly 18% of overall Apple revenue vs. 16% in the year-ago quarter. The total number of paid subscriptions rose 30 million sequentially to hit 300 million, up from 185 million exiting the June 2017 quarter. I see this as a positive given the subscription nature of iCloud, Apple Music, Apple Care, Texture and other offerings that drive not only cash flow but revenue predictability. During the earnings call, Apple tipped that it has over 50 million Apple Music listeners “when you add our paid subscribers and the folks in the trial…”

As the Services business continues to grow across the expanding Apple device install base, accounting for a greater portion of revenue and profits, odds are investors will begin to re-think how they value Apple shares, especially as the company’s dependence on iPhone sales is lessened at least somewhat. That will be especially true as Apple tips its original content plans, from both a programming perspective as well as pricing and subscription plan one.

Other products grew 37% vs. the year-ago quarter driven by wearables (Apple Watch, Air Pods, Beats) to account for 7% of overall revenue for the quarter.

For the September quarter, Apple guided revenue to $60-$62 billion with gross margin between 38.0-38.5% (vs. 38.3% in the June quarter). That double-digit sequential revenue improvement looks strong heading into the Fall unveiling of new devices, including multiple iPhone models, which as I mentioned earlier is expected to include a larger screen sized iPhone X model as well as a new iPhone X model and a lower priced one with an LCD screen. That implies a rebound in unit volume growth tied with favorable ASPs to drive iPhone revenue growth in the coming quarters. Of course, I continue to see the next major upgrade cycle tied to 5G, which increasingly looks to go live in North America during 2019 and outside the US thereafter.

Investor confidence in new products and Apple’s new product pipeline should be bolstered by the growth in R&D spending that has now outpaced revenue growth in 24 of the last 25 quarters. Historically speaking, when this has happened in the past, it was a forbearer of Apple unveiling a number of new products, including a new product category or two. While it would be easy to read into the possibilities of potential products as 5G goes mainstream, we’ll continue to focus on the near-term upgrades to be had in a few month’s time and what it means for Apple’s businesses.

Exiting the quarter, Apple’s balance sheet had a net cash position of $129 billion even after retiring some 112 million shares during the quarter. On a dollar basis that was $20.7 billion spent on share repurchases during the quarter, including the last part $10 billion of its prior authorization. That leaves roughly $90 billion under its current $100 billion authorization and we continue to see the company supporting the shares with that mechanism.

Finally, last night Apple’s board of directors has declared a cash dividend of $0.73 per share of the Company’s common stock. The dividend is payable on August 16, 2018, to shareholders of record as of the close of business on August 13, 2018.

In sum, it was a stronger than expected quarter that showed Apple’s various strategies bearing fruit with more to come as it updates existing products and introduces new ones as well as new services. If there was one disappointment in the earnings release and conference call it was the lack of discussion around 5G and original content efforts, but my thinking on that is good things come to those who wait.

  • Ahead of Apple’s (AAPL) upcoming annual product refresh, we are boosting our price target to $225 from $210 for the shares.

 

Nokia scores the biggest 5G contract win thus far

Earlier this week, T-Mobile (TMUS) named Nokia (NOK) as a supplier for $3.5 billion in 5G network gear, making this the largest 5G deal thus far. This is clear confirmation of the coming network upgrade cycle that bodes well for not only Nokia’s infrastructure business but will expand the addressable market for its licensing business as well.

Nokia’s deal with T-Mobile US is multi-year in nature, which means the $3.5 million will be spread out over eight-plus quarters. To put some perspective around the size of that one contract, over the last two quarters, Nokia’s infrastructure business has been averaging a little over $5 billion per quarter.  In our view, this speaks to the diverse nature of the customer base across not only the US but the EU, Africa, and Asia.

The thing is, 5G networks will be coming to each of those geographies over the coming years, and for those further out deployments, mobile carriers will be adding incremental 4G LTE capacity.  In other words, we are at the beginning of the 5G buildout, and it may seem like it has taken longer than expected to emerge, the data points from smartphone components to network builds suggest 2019 will be the beginning of a multiyear upcycle in mobile infrastructure demand.

And a quick reminder, we see the coming 5G buildout and the necessary smartphones and other devices driving demand for AXT Inc.’s (AXTI) compound semiconductor substrates. Those shares have been bouncing around like ping-pong balls of late, but we’ll continue to focus on the long-term drivers such as 5G and the eventual smartphone upgrade cycle.

And I would be remiss if I didn’t touch on Dycom Industries (DY) as well. To me, this T-Mobile US news says it is serious about building out its 5G network, and I strongly suspect both AT&T (T) as well as Verizon (VZ) will be sharing their own buildout plans in the coming days and weeks. These carriers are all about one-upping each other be it on data plan pricing or how good their networks are. As AT&T and Verizon fight back, it’s a solid reminder of the activity to be had for Dycom’s specialty contracting business.

  • Our price target on Nokia (NOK) shares remains $8.50
  • Our price target on AXT Inc. (AXTI) shares remains $11.50
  • Our price target on Dycom (DY) shares remains $125.00

 

Here come earnings from Habit

Quickly turning to Habit Restaurants (HABT), the company will report its quarterly earnings after today’s market close. Consensus expectations are looking for EPS of $0.03 on revenue of roughly $100 million for the June quarter. Ahead of that report, Wall Street is coming around to the Habit story. On Monday, investment firm Wedbush bumped up their price target to $15 from $12 and upped their rating to Outperform from Buy. Yes, I am wondering where they’ve been for the last 30% plus rally in HABT shares…

The gist of the upgrade reflects the positive impact to be had from recent price increases as well as premium pricing associated with delivery. Those are certainly positive drivers for revenue and margins, however, I continue to see the bigger thesis centering on the company’s geographic expansion. That expansion means more burgers and shakes being sold in more locations, drive-thru, and delivery. In other words, it’s the platform that allows for these other margin improving activities. This means I’ll be watching the company’s capital spending plans for the coming quarters.

As tends to be the case, I’ll be reassessing our $11.50 price target with tonight’s earnings report given the shares have sailed right through it over the last few days.

  • Heading into tonight’s earnings report, our price target on Habit Restaurant (HABT) shares remains $11.50.

 

Weekly Issue: Trade Meetings and Earnings Reshape Market Outlook

Weekly Issue: Trade Meetings and Earnings Reshape Market Outlook

Key points from this issue:

  • Earnings from Boeing (BA) and General Motors (GM) signal markets will trade day-to-day as trade meetings and earnings season heat up.
  • Our price target on Dycom Industries (DY) shares remains $125
  • Our AXTI price target remains $11.
  • Our price target on Nokia (NOK) shares remains $8.50
  • Our long-term price target for Farmland Partners (FPI) shares remains $12.
  • As we head into the seasonally strong second half of the year for United Parcel Service (UPS), our price target on the shares remains $130.

 

This week we’ve moved into the meaty part of 2Q 2018 earnings season, and so far, we’ve seen a number of companies beat top and bottom line expectations. Some market observers will point out that some 20%-25% of the S&P 500 group of companies are in that boat, and are declaring “victory” for the market. With today’s earnings from Boeing (BA) that and General Motors (GM), the market is trending lower as Boeing’s outlook falls short of Wall Street expectations while GM cut its outlook due to higher commodity prices. As you probably guessed, one of the culprits for GM is higher aluminum and steel prices.

My take on that is with 75%-80% of the S&P 500 yet to report, that claim while it could prove to right, it also could be a bit premature. As I shared with Oliver Renick, host at the TD Ameritrade Network a few days ago, we’ve only started to see the impact of initial trade tariffs and if the international dance continues we could see far more tariff jawboning put into action.

Consider a tweet from President Trump this morning that suggests a tariff follow through is possible.

 

 

But last night Trump tweeted a path forward to eliminating tariffs and other trade barriers between the Eurozone and the US ahead of his meeting today with the European Commission President Jean-Claude Juncker today to discuss trade, including tariffs on autos.

It would appear Trump is attempting to keep his negotiating opponents off balance in the hopes of improving trade relations from a US perspective. But it also seems that others have read Trump’s Art of the Deal by now as according to EU trade commissioner Cecilia Malmstrom, the Commission is also preparing to introduce tariffs on $20 billion of U.S. goods if Washington imposes trade levies on imported cars.

While I would love to see some forward progress coming out of these talks, but just like with China the probability is rather low in my opinion. Much like with the China trade talks, things have escalated so that both sides will be looking to claim some victory to report back to their countrymen and women.  This likely means that as we migrate over the next few weeks of earnings, we will have to continue to watch trade developments, especially if more recent and wider spread tariffs wind up being enacted.

With more on the earnings and trade to be had in the coming days, we should be ready for day-to-day moves in the market, which will make it challenging for traders and options players. As they struggle, we’ll continue to take a longer-term focus, heeding the signals to be had with our thematic investing lens. Now, let’s get to some updates and other items…

 

Checking in on 5G spending from Verizon and AT&T

With both Verizon Communications (VZ) and AT&T (T) reporting June quarter results yesterday, I sifted through their comments on several fronts but especially on 5G given our positions in mobile infrastructure and licensing company Nokia (NOK), specialty contractor Dycom (DY) as well as compound semiconductor company AXT Inc. (AXTI). The nutshell take is things remain on track as both carriers look to launch commercial 5G networks in the coming quarters.

Verizon delivered solid quarterly results, buoyed by its core wireless business that added 531,000 net retail postpaid subscribers, which included 398,000 postpaid smartphone net adds. We’ve talked about how sticky mobile service is with consumers as smartphones are increasingly a life link for their connected lives so it comes as little surprise that Verizon’s customer loyalty remains strong with the quarter marking the fifth consecutive period of retail postpaid phone churn at 0.80 percent or better.

In terms of capital spending, a figure we want to watch as Verizon gets ready to launch its commercial 5G network, the company shared its 2018 spend will be at the lower end of its previously guided range of $17.0-$17.8 billion. Now here’s the thing, the mix of spending will favor 5G, which confirms the bullish comment and tone we shared last week from Ericsson (ERIC) on the North American 5G market.

With AT&T, its net capital spending in the June quarter slipped to $5.1 million, down from roughly $6 million in the March quarter but the company shared it will spend roughly $25 billion in all of 2018. Doing some quick math, we find this spending is weighted to the back half of 2018, which likely reflects investments in its 5G network as well as the new first responder network, FirstNet, it is building. During the earnings call, management shared the company now has 5G Evolution in more than 140 markets, covering nearly 100 million people with a theoretical peak speed of at least 400 megabits per second with plans to cover 400 plus markets by the end of this year. In terms of true 5G, trials are progressing and AT&T is tracking to launch service in parts of 12 markets by the end of this year.

That network spend and 5G buildout bodes well for both our Dycom shares.

  • Our price target on Dycom Industries (DY) shares remains $125

 

In addition, a few days ago mobile chip company Qualcomm (QCOM) shared that its 5G antennas are ready from prime time. More specifically, Qualcomm is shipping 5G antennas to its device partners that include Samsung, LG, Sony (SNE), HTC and Xiaomi among others for testing. Moreover, Qualcomm said it stands ready for “large-scale commercialization” which likely means 5G devices are just quarters away instead of years away.

We’d note those device partners of Qualcomm’s mentioned above have all announced plans to bring initial 5G powered phones to market during the first half of 2019. That means the supply chain will be readying power amplifiers and switches that will enable these devices to communicate with the 5G networks, which bodes well for incremental compound semiconductor substrate demand at AXT. Because 5G is being viewed as an “access technology” that will move mobile broadband past smartphones and similar devices, I continue to see this as a positive for the higher margin licensing business at Nokia as well.

As a reminder, AXT will report its quarterly results after tonight’s market close, and expectations for its June quarter are clocking in at $0.08 per in earnings on $26.1 million in revenue, up 60% and roughly 11% year over year.

  • Our AXTI price target remains $11.
  • Our price target on Nokia (NOK) shares remains $8.50

 

Farmland Partners fights back

A few weeks ago, we shared not only our long-term conviction for Farmland Partners (FPI) shares but also prospects for continued drama in the coming months. Well, let’s say we’re not disappointed as this morning the company filed a lawsuit in District Court, Denver County, Colorado against “Rota Fortunae” (a pseudonym) and other entities who worked with or for Rota Fortunae in conducting a “short and distort” scheme to profit from the sharp decline in Farmland’s stock price resulting from false and misleading posting on Seeking Alpha. Farmland is seeking damages and injunctive relief for defamation, defamation by libel per se, disparagement, intentional interference with prospective business relations, unjust enrichment, deceptive trade practices, and civil conspiracy.

Are we surprised? No, especially since the Farmland management team signaled it would be moving down this path. While this will likely result in some incremental noise, we’ll continue to focus on the business and the long-term drivers of the agricultural commodities that drive it.

  • Our long-term price target for Farmland Partners (FPI) shares remains $12.

 

Paccar delivers on the earnings front, boosts its dividend

Tuesday morning, heavy and medium duty truck company Paccar (PCAR) delivered strong June quarter results, beating on both the top and bottom line. For the quarter, Paccar reported earnings of $1.59 per share, $0.16 better than the $1.43 consensus on revenues that rose more than 24% year over to year to $5.47 billion, edging out the $5.39 billion that was expected. The strength in the quarter reflects not only rising production and delivery levels that reflect the pick up in truck orders over the last 6-9 months, but also the ripple effect had on the company’s high margin financing business. Also too, as truck up time increases as does the number of Paccar trucks in service, we’ve seen a nice pick up in the company’s Parts business that carries premium margins relative to the new truck one.

During the quarter, Paccar repurchased 1.21 million of its common shares for $77.2 million, completing its previously authorized $300 million share repurchase program. The Board of Directors approved an additional $300 million repurchase of outstanding common stock earlier this month and given the current share price that is below that average repurchase price we suspect this new program will be put to use quickly. Also during the quarter, Paccar boosted its quarterly dividend to $0.28 per share from $0.25, and management reminded investors of the company’s track record of delivering quarterly and special dividends in the range of 45-55% of net income.

Given 111% year over year growth in the new heavy truck orders throughout the U.S. and Canada during the first half of 2018, we continue to be bullish on PCAR shares as we head into the second half of 2018. Even so, we’ll continue to analyze the monthly truck order data as well as freight indicators and other barometers of domestic economic activity to assess the continued strength in new truck demand. In the coming months, we expect long-time followers of Paccar will begin to focus on the potential year-end special dividend the company has issued more often than not.

  • Our price target on Paccar (PCAR) shares remains $80.

 

A quick note on United Parcel Service earnings

Early this morning, United Parcel Service (UPS) beat estimates by a penny a share, with an adjusted quarterly profit of $1.94 per share. Revenue beat forecasts, as well, boosted by strong growth in online shopping – no surprise to us given our Digital Lifestyle investing theme. UPS will host a conference call this morning during which it will update its outlook for the back half of the year, and that should help quantify the year over year growth in Amazon’s (AMZN) Prime Day 2018 ahead of its earnings report later this week.

  • As we head into the seasonally strong second half of the year for United Parcel Service (UPS), our price target on the shares remains $130.

 

 

Amazon shares some Prime Day results, Bullish 5G comments from Ericsson

Amazon shares some Prime Day results, Bullish 5G comments from Ericsson

Key points in this issue:

  • Our $1,900 price target for Amazon (AMZN) shares is under review with an upward bias.
  • Our price target on United Parcel Service (UPS) remains $130.
  • Our price target on Dycom (DY) shares remains $125.
  • Our price target on AXT Inc. (AXTI) shares is $11.
  • Our price target on Nokia (NOK) shares is $8.50.

 

Follow up on Prime Day 2018

As the dust settles on Amazon’s (AMZN) 2018 Prime Day, the company shared that not only did Prime members purchase more than 100 million products during the 36-hour event, but that it was also the “biggest in history.” While details were limited, this commentary like means the 2018 event handily eclipsed last year’s. Adding credence to that was the noted addition of Prime Day in Australia, Singapore, the Netherlands, and Luxembourg, which brought the total event country count to 17. It was also reported that Prime Day Sales on Amazon’s third-party marketplace were up some 90% during the first 12 hours of Prime Day this year.

All very positive, but still no clarity on the overall magnitude of the event relative to forecasts calling for it to deliver $3.4-3.6 billion in revenue. There was also no mention about the number of new Prime members that joined the Amazon flock, but historically Prime Day has led to a smattering of conversions and with it occurring in 17 countries this year, including four new ones, odds are Amazon continued to draw in new Prime users.

As we mentioned yesterday, our $1,900 price target for Amazon shares is under review with an upward bias. In looking at Prime Day from a food chain or ecosystem perspective, we see it benefitting the package volume for Tematica Investing Select List resident United Parcel Service (UPS). I’ll be looking for confirming data in comments from United Parcel Service when it reports its 2Q 2018 quarterly results on July 25 as well as any insight it offers on Back to School shopping and the soon to be upon us year-end holiday shopping season. Let’s also keep in mind that UPS will share those comments one day before Amazon reports its quarterly results on July 26.

  • Our $1,900 price target for Amazon (AMZN) shares is under review with an upward bias.
  • Our price target on United Parcel Service (UPS) remains $130.

 

Ericson’s 5G comments are positive for Dycom, AXT and Nokia shares

Also yesterday, leading mobile infrastructure company Ericsson (ERIC) reported its 2Q 2018 results, and while we are not involved in the shares, its comments on the 5G market bode very well for our the shares of specialty contractor Dycom Industries (DY) and compound substrate company AXT Inc. (AXTI) as well as mobile infrastructure and wireless technology licensing company Nokia (NOK).

More specifically, Ericsson called out that its sales in North America for the quarter increased year over year due to “5G readiness” investments across all of its major customers. This confirms the commentary of the last few weeks as AT&T (T) and Verizon (VZ) – both of which are core Dycom customers – move toward commercial 5G deployments in the coming quarters.

We’ve also heard similar comments from T-Mobile USA (TMUS) as well. But let’s remember that 5G is not a US-only mobile technology, and we are seeing similar signs of readiness and adoption for its deployment in other countries. For example, the top three mobile operators in South Korea are working to launch the technology in March 2019. Mobile operators in Spain are bidding on 5G spectrum, France has established a roadmap for its 5G efforts and recently the first end to end 5G call was made in Australia.

While the US will likely be the first market to commercially deploy 5G service, it won’t be the only one. This means similar to what we have seen with past mobile technology deployments such as 3G and 4G LTE, this global rollout will span several years. While Ericsson’s North American comments bode well for our DY shares, these other confirmation points keep us bullish on our shares of AXT and NOK as well.

  • Our price target on Dycom (DY) shares remains $125.
  • Our price target on AXT Inc. (AXTI) shares is $11.
  • Our price target on Nokia (NOK) shares is $8.50.

 

WEEKLY ISSUE: Adding back a specialty contractor to Select List

WEEKLY ISSUE: Adding back a specialty contractor to Select List

 

  • We are issuing a Buy on Dycom Industries (DY) shares with a $125 price target as part of our Connected Society investing theme.
  • We are adding LendingClub (LC) shares to the Tematica Investing Contender List and will revisit the shares following the resolution of the current FTC complaint.
  • Our price target on Costco Wholesale (COST) and Amazon (AMZN) shares remain $210 and $1,750, respectively.
  • Our long-term price target on shares of Applied Materials (AMAT) remains $70.

As we inch along in the second half of the current quarter, the stock market is once again dealing with the flip-flopping on foreign trade. Last week there appeared to be modest progress between China and the US but following comments from President Trump on the pending summit with North Korea and “no deal” regarding China’s bankrupt ZTE, trade uncertainty is once again gripping the markets. Several weeks ago, I cautioned we were likely in for some turbulent weeks – some up some down – as these negotiations got underway. In my view, there will be much back and forth, which will keep the stock market on edge. I’ll continue to utilize our thematic lens and look for compelling long-term opportunities in the coming weeks, just like the one we are about to discuss…

 

Adding back shares of Dycom (DY) to the Tematica Investing Select List

Late last summer, we exited our position in specialty contractor and Connected Society food chain company Dycom Industries (DY) that serves the mobile and broadband infrastructure markets. Yesterday, following an earnings miss and reduced guidance from the company, its share dropped 20% to $92.64. The reason for the miss and outlook revisions stemmed from weather-related concerns during the February and March months as well as protracted timing associated with key next-gen network buildouts.

Clearly disappointing, but we have seen such timing issues before in the buildouts of both 3G and 4G/LTE networks before. In today’s stock market that double disappointment hit DY shares, no different than it has other companies that have come up short this earnings season.

We’ve often used pronounced pullbacks in existing positions to sweeten our average cost basis, and today we’re going to use this drop in DY shares to add them back to the Tematica Investing Select List.

Why?

Two reasons.

First, the inevitability of 5G network deployments from key customers (AT&T) and Verizon (VZ). Those two alongside their competitors have Sprint (S) and T-Mobile (TMUS) have committed to launching 5G networks by year-end, with a buildout to a national footprint to follow over the ensuing quarters. AT&T and Verizon accounted for 24% and 16% of the quarter’s revenue with Comcast (CMCSA) clocking in at just under 22% and Centurylink (CTL:NYSE) around 12%. This positions Dycom extremely well not only for the pending 5G buildout, but also the gigabit fiber one that is underway at cable operators like Comcast. Amid the timing disruptions with AT&T and Centurylink that led to the earnings disappointment and outlook cut, Dycom called out solid progress with Verizon, as its revenue rose more than 80% year over year. There’s also an added bonus – Dycom has little exposure to Sprint and T-Mobile, which are planning to merge and based on what we’ve seen in the past that means spending cuts are likely to be had as they consolidate existing assets and capital expansion plans.

Here’s the thing, while it is easy to get caught up in yesterday’s DY share price drop, it’s akin to missing the forest for the trees given the network upgrades and next-gen buildouts that will occur not over the coming months, but over the coming quarters.

Dissecting Dycom’s quarterly earnings and revised outlook that calls for EPS of $1.78-$1.93 in the first half of the year, to hit its new full-year target EPS of $4.26-$5.15 it means delivering EPS of $2.98-$3.22 in the back half of the year. In other words, a pronounced pick up in business activity that likely hinges on a pickup in network buildout activity from its customers.

I do expect Wall Street price target revisions and analyst commentary to weigh on DY shares in the near-term. Even I am cutting my once $140 price target for the shares to $125. That $140 target was based on 2019 EPS of $7.10 per share and given the company’s comments yesterday I expect 2019 EPS forecasts to be revised down to the $6.00-$6.50 range.

As the 5G buildout gets under way, the reality is that several quarters from now, such EPS and price target cuts could prove to be conservative, but I’d rather be in the position to raise our price target as the company beats EPS expectations. That revised 2019 EPS range derives a price target for DY shares of $120-$130. For now, we’ll split the difference at $125, which still offers almost 35% upside from current share price levels.

  • We are issuing a Buy on Dycom Industries (DY) shares with a $125 price target as part of our Connected Society investing theme.

 

Putting LendingClub shares onto the Contender List

As team Tematica has been discussing over the last several weeks in our writings and on our Cocktail Investing Podcast, we’re seeing increasing signs of inflation in the systems from both hard and soft data points. This likely means the Fed will boost rates four not three times in 2018 with additional rate hikes to be had 2019. That’s what’s in the front windshield of the investing car, while inside we are getting more data that points to a stretched consumer.

  • Per the May 2018 Consumer Debt Outlook report from Lending Tree (TREE), Americans are on pace to amass a collective $4 trillion in consumer debt by the end of 2018. This means Americans are spending more than 26% of their income on consumer debt, up from 22% in 2010 with the bulk of that increase due to non-house related borrowing.
  • The Charles Schwab’s (SCHW) 2018 Modern Wealth Index that reveals three in five Americans are living paycheck to paycheck.
  • A new report from the Federal Reserve finds that 40% of Americans could not cover an unexpected $400 expense and 25% of Americans have no retirement savings.

 

As consumer debt grows, it’s going to become even more expensive to service as the Fed further increases interest rates. On its recent quarterly earnings conference call, LendingClub’s (LC) CFO Tom Casey shared that “Borrowers are starting to see the increased cost of credit as most credit card debt is indexed to prime, which has moved up 75 basis points from a year ago…We have observed a number of lenders increase rates to borrowers…We know that consumers are feeling the increase in rates.”

Again, that’s before the Fed rate hikes that are to come.

The bottom line is it likely means more debt and higher interest payments that lead to less disposable income for consumers to spend. Unfortunately, we see this as a tailwind for our Cash-strapped Consumer investing theme as well as a headwind for consumer spending and the economy. We’ve seen the power of this tailwind in monthly retail same store sales from Costco Wholesale (COST), which have simply been off the charts, and in monthly Retail Sales reports that show departments stores, sporting goods stores and others continue to lose consumer wallet share at the expense of non-store retailers like Amazon (AMZN). The drive is the need to stretch what disposable spending dollars a consumer has.

The reality is, however, that those that lack sufficient funds will seek out alternatives. In some cases that means adding to their borrowings, often times at less than attractive rates.

With that in mind, above I mentioned LendingClub. For those unfamiliar with the company, it operates an online credit marketplace that connects borrowers and investors in the US. It went public a few years ago and was heralded as a disruptive business for consumers and businesses to obtain credit based on its digital product platform. That marketplace facilitates various types of loan products for consumers and small businesses, including unsecured personal loans, unsecured education and patient finance loans, auto refinance loans, and unsecured small business loans. The company also provides an opportunity to the investor to invest in a range of loans based on term and credit.

Last year 78% of its $575 million in revenue was derived from loan origination transaction fees derived from its platform’s role in accepting and decisioning applications on behalf of the company’s bank partners. More than 50 banks—ranging in total assets of less than $100 million to more than $100 billion—have taken advantage LendingClub’s partnership program.

LendingClub’s second largest revenue stream is derived from investor fees, which include servicing fees for various services, including servicing and collection efforts and matching available loans with capital and management fees from investment funds and other managed accounts, gains on sales of whole loans, interest income earned and fair value gains/losses from loans held on the company’s balance sheet.

The core loan origination transaction fee business along with the consensus price target of $5.00, which offers compelling upside from the current share prices, has caught my interest. However, there is one very good reason for why I am recommending we wait on LC shares.

It’s because the Federal Trade Commission (FTC) has filed a complaint against LendingClub, charging that it has misled consumers and has been deducting hidden fees from loan proceeds issued to borrowers. Moreover, as stated in the FTC’s complaint, Lending Club recognized that its hidden fee was a significant problem for consumers, and an internal review by the company noted that its claims about the fee and the amount consumers would receive “could be perceived as deceptive as it is likely to mislead the consumer.”

Given the potential fallout, which could pressure LC shares, we’ll sit on the sidelines with LendingClub and look for other companies that are positioned to capitalize on this particular Cash-strapped Consumer pain point.

  • We are adding LendingClub (LC) shares to the Tematica Investing Contender List and will revisit the shares following the resolution of the current FTC complaint.
  • Our price target on Costco Wholesale (COST) and Amazon (AMZN) shares remain $210 and $1,750, respectively.

 

Sticking with shares of Applied Materials

Last week Disruptive Technology company Applied Materials (AMAT) reported quarterly results that once again topped expectations but guided the current quarter below expectations. As I mentioned above with Dycom shares, the current market mood is less than forgiving in these situations and that led AMAT shares to give back much of the gains made in the first half of May.

The shortfall relative to expectations reflected reported weakness in high end smartphones, which is slowing capital additions for both chips and organic light-emitting diode display equipment. This is the latest in a growing number of red flags on smartphone demand, which in my view is likely to be the latest transition period in the world of smartphones. For those wondering about our Apple (AAPL) shares, the company already issued a sequentially down iPhone forecast when it reported its own earnings several weeks back as it upsized its own buyback program.

Again, looking back on my Dycom comments above, mobile carriers are about to embark on building out their 5G networks, which will drive incremental RF semiconductor chip demand as well as drive demand for new applications, such as semi-autonomous and autonomous cars. I see 5G devices with near broadband data speeds driving the next smartphone upgrade cycle. When that happens, there are also other technologies, such as artificial intelligence, augmented reality, and virtual reality that will be moving into a greater number of these and other devices. On its earnings call, Applied shared it’s starting to see ramping demand for artificial intelligence, big data a cloud related applications. I see more of this happening in the coming quarters… again, the long-term forest vs. the quarterly tree… and I haven’t even mentioned the internet of things (IoT).

Another driver I’m watching for Applied’s semi-cap business is the ongoing buildout of in-China semiconductor capacity. The item to watch for this is The National Integrated Circuitry Investment Fund, which represents the Chinese government’s primary vehicle to develop the domestic semiconductor supply chain and become competitive with the U.S.  chip industry leader the US. That fund is reportedly closing in on an upsized 300 billion-yuan fund ($47.4 billion) fund vs. the expected 120 billion-yuan ($18.98 billion) to support the domestic chip sector. As we have seen in the headlines with ZTE as well as the Broadcom (AVGO) bid for Qualcomm (QCOM), the semiconductor industry has taken a leading role in the current U.S.-China trade conflict. As I continue to watch these trade discussions play out, I’ll only be assessing implications for the National Integrated Circuitry Investment Fund and our Applied Materials shares.

In terms of organic light emitting diode displays and revisiting shares of Universal Display (OLED), the industry is still in a digestion period given the capacity ramp for that technology and the smartphone transition I touched on above. We’ve got OLED shares on the Tematica Investing Contender List and I’ll be watching them and signs of ramping demand as we move through the summer months.

While we wait, I expect Applied will continue to put its robust share repurchase program to use. As we learned in its quarterly earnings report last week, during the quarter, Applied used $2.5 billion of its $8.8 billion share repurchase authorization to repurchase 44 million shares, roughly 4% of the outstanding share count coming into the quarter. I suspect that once the post-earnings quiet period is over, Applied will be putting more of that program to work. I see that as limiting downside from current levels.

Finally, a quick reminder that come June, Applied will be paying its first $0.20 per share dividend.

  • Our long-term price target on shares of Applied Materials (AMAT) remains $70.
  • As we monitor signs of organic light emitting diode display demand, we continue to have shares of Universal Display on the Tematica Investing Contender List

 

 

WEEKLY ISSUE: The Shakeout from Market Volatility on the Select List

WEEKLY ISSUE: The Shakeout from Market Volatility on the Select List

 

 

It’s Wednesday, February 7, and the stock market is coming off one of its wild rides it has seen in the last few days. I shared my thoughts on the what’s and why’s behind that yesterday with subscribers as well as with Charles Payne, the host of Making Money with Charles Payne on Fox Business – if you missed that, you can watch it here.

As investors digest the realization the Fed could boost interest rates more than it has telegraphed – something very different than we’ve experienced in the last several years – the domestic stock market appears to be finding its footing as gains over the last few days are being recouped. Lending a helping hand is the corporate bond market, which, in contrast to the turbulent moves of late in the domestic stock market, signals that credit investors remain comfortable with corporate credit fundamentals, the outlook for earnings and the ability for companies to absorb higher interest rates.

My perspective is this expectation reset for domestic stocks follows a rapid ascent over the last few months, and it’s removed some of the froth from the market as valuations levels have drifted back to earth from the rare air they recently inhabited.

 

Among Opportunity This New Market Dynamic Brings, There Have Been Casualties

While this offers some new opportunities for both new positions on the Tematica Investing Select List as well as the opportunity to scale into some positions at better prices once the sharp swings in stocks have abated some, it also means there have been some casualties.

We were stopped out of our shares in Cashless Consumption investment theme company, USA Technologies (USAT) when our $7.50 stop loss was triggered yesterday. While the shares snapped back along with the market rally yesterday, we were none the less stopped out, with the overall position returning more than 65% since we added them to the Select List last April. For those keeping track, that compares to the 15.3% return in the S&P 500 at the same time so, yeah, we’re not exactly broken up over things. We will put USAT shares on the Tematica Contender List and look to revisit them after the company reports earnings tomorrow (Thursday, Feb. 8).

That’s the second Select List position to have been stopped out in the last several days. The other was AXT Inc. (AXTI) last week, and as a reminder that position returned almost 27% vs. a 15% move in the S&P 500. Again, not too shabby!

The last week has brought a meaningful dip in shares of Costco Wholesale (COST). On recent episodes of our Cocktail Investing Podcast, Tematica Chief Macro Strategist Lenore Hawkins and I have discussed the lack of pronounced wage gains for nonsupervisory workers (82% of the US workforce) paired with rising credit card and other debt. That combination likely means we haven’t seen the last of the Cash-Strapped Consumer investment theme — of the key thematic tailwinds we see behind Costco’s business. While COST shares are still up more than 15% since being added to the Select List, we see the recent 5% drop in the shares as an opportunity for those who remained on the sidelines before the company reports its quarterly earnings in early March.

  • Our price target on Costco Wholesale (COST) shares remains $200.

 

 

Remaining Patient on AMAT, OLED and AAPL

Two other names on the Tematica Investing Select List have fallen hard of late, in part due to the market’s gyrations, but also over lingering Apple (AAPL) and other smartphone-related concerns. We are referring to Disruptive Technologies investment theme companies Applied Materials (AMAT) and Universal Display (OLED). As we shared last week, it increasingly looks that Apple’s smartphone volumes, especially for the higher priced, higher margin iPhone X won’t be cut as hard as had been rumored. Moreover, current chatter suggests Apple will once again introduce three new iPhone models this year, two of which are slated to utilize organic light emitting diode displays.

Odds are iPhone projections will take time to move from chatter to belief to fact. In the meantime, we are seeing other smartphone vendors adopt organic light emitting diode displays, and as we saw at CES 201 TV adoption is going into full swing this year. That ramping demand also bodes for Applied Materials (AMAT), which is also benefitting from capital spending plans in China and elsewhere as chip manufacturers contend with rising demand across a growing array of connected devices and data centers.

  • Our price target on Apple (AAPL) remains $200
  • Our price target on Universal Display (OLED) remains $225
  • Our price target on Applied Materials (AMAT) remains $70

 

The 5G Network Buildout is Gaining Momentum – Good News for NOK and DY

This past week beleaguered mobile carrier, Sprint (S), threw its hat into the 5G network ring announcing that it will join AT&T (T), Verizon (VZ), and T-Mobile USA (TMUS) in launching a commercial 5G network in 2019. That was news was a solid boost to our Nokia (NOK) shares, which rose 15% last week. The company remains poised to see a pick-up in infrastructure demand as well as IP licensing for 5G technology, and I’ll continue to watch network launch details as well as commentary from Contender List resident Dycom Industries (DY), whose business focuses on the actual construction of such networks.

Several months ago, I shared that we tend to see a pack mentality with the mobile carriers and new technologies – once one makes a move, the others tend to follow rather than risk a customer base that thinks they are behind the curve. In today’s increasingly Connected Society that chews increasingly on data and streaming services, that thought can be a deathblow to a company’s customer count.

  • Our price target on Nokia (NOK) shares remains $8.50
  • I continue to evaluate upgrading Dycom (DY) shares to the Select List, but I am inclined to wait until we pass the winter season given the impact of weather on the company’s construction business.

 

Disney Offers Some Hope for Its ESPN Unit

Last night Disney (DIS) announced its December quarter results while the overall tone was positive, the stand out item to me was the announcement of the new ESPN streaming service being introduced in the next few months that has a price tag of $4.99 a month. For that, ESPN+ customers will get “thousands” of live events, including pro baseball, hockey and soccer, as well as tennis, boxing, golf and college sports not available on ESPN’s traditional TV networks. Alongside the service, Disney will unveil a new, streamlined version of the ESPN app, which is slated to include greater levels of customization.

In my view, all of this lays the groundwork for Disney’s eventual launch of its own Disney streaming content service in 2019, but it also looks to change the conversation around ESPN proper, a business that continues to lose subscribers. Not surprising, given that Comcast (CMCA) continues to report cable TV subscriber defections. One of the key components to watch will be the shake-out of the rights to stream live games from the major professional leagues — the NFL, Major League Baseball, the NBA. Currently, ESPN is on the hook for about $4 billion a year in rights fees to those three leagues alone — not to mention the rights fees committed to college athletics. Those deals, however, include only the rights to broadcast those games on cable networks or on the ESPN app to customers that can prove they have a cable subscription, not cord-cutters. So the question will be how quick will customers jump on board to pay $5 a month for lower-level games, or will they be able to cut deals with the major professional sports leagues to include some of their games as well.

Nevertheless, I continue to see all of these developments as Disney moving its content business in step with our Connected Society investing theme, which should be an additive element to the Content is King investment theme tailwind Disney continues to ride. With that in mind, we are seeing rave reviews for the next Marvel movie – The Black Panther – that will be released on Feb. 16. The company’s more robust 2018 movie slate kicks off in earnest a few months later.

  • We will continue to be patient investors with Disney, and our price target on the shares remains $125

 

 

 

Ahead of CES 2018, AT&T targets 5G in 2018. Another positive for NOK and AXTI shares

Ahead of CES 2018, AT&T targets 5G in 2018. Another positive for NOK and AXTI shares

Early this morning it was announced that AT&T (T) “will be providing 5G services in around 12 markets by late 2018” and “plans to add 3 million more locations to the AT&T Fiber network, for a total of 12.5 million locations across 82 metro areas by mid-2019.” This follows comments several weeks ago by T-Mobile USA’s (TMUS) CTO Neville Ray that it would look to deploy its own 5G network across the entire nation by 2020. At the time of the T-Mobile news, we shared the likelihood that AT&T and Verizon (VZ) would soon be putting their own 5G stakes in the ground, and that is what we are seeing today. Given the impact of 5G networks on our Disruptive Technologies and Connected Society investing themes, we are following these developments rather closely.

Whenever I heard of this big spending plans on networks, facilities or other forms of capital spending, my mind switches into detective mode and the first question tends to be: Who benefits?

In this case, it’s who benefits as AT&T opens the purse strings and spends on the network and as its competitors follow suit?

On the Tematica Investing Select List, we have existing positions in mobile infrastructure company Nokia (NOK), as well as AXT (AXTI) whose substrates are the core building block for wireless and fiber optic related semiconductors. Both stocks are trading up modestly today, but I’d note that given the winter storm that is pounding the Northeast today (believe me I know on this as I am huddled in a hotel room about 30 miles outside of Manhattan right now) trading volumes are rather lite.

As I shared in yesterday’s Tematica Investing, I expect to hear much more about 5G next week when CES 2018 is held. Heading into next week, I remain bullish on both Nokia and AXT shares, which have respective price targets of $11 and $8.50.

On the back of the AT&T news, we are eyeing bringing specialty contractor Dycom (DY) back into the Tematica Investing Select List fold. I say eyeing because as much as a positive as the 5G race will be for the company, the record low temperatures across the country and winter storm Grayson are likely to lead to some disruptions in the current quarter for Dycom and could thus push revenue from the first quarter into the second quarter. Once these probable disruptions are priced into DY shares, I’ll look to revisit them as well as other chip companies that are poised to benefit from incremental 5G demand, but must first contend with the seasonal slowdown in smartphone demand.

 

 

Previewing AT&T (T) Earnings and Watching Capital Spending Levels for Dycom (DY)

Previewing AT&T (T) Earnings and Watching Capital Spending Levels for Dycom (DY)

After today’s market close when Connected Society company AT&T (T) reports its 1Q 2017 results we will get the first of our Tematica Select List earnings for this week. This Thursday we’ll get quarterly results from both Amazon (AMZN) and Alphabet (GOOGL) with several more to follow next week.

Getting back to AT&T, consensus expectations call for the company to deliver EPS of $0.74 on revenue of $40.57 billion for the March quarter. As we have come to appreciate, these days forward guidance is as important as the rear view mirror look at the recently completed quarter; missing either can pressure shares, and mission both only magnifies that pressure. For the current (June 2017) quarter, consensus expectations are looking for AT&T to earn between $0.72—$0.79 on revenue of $40.2-$41.3 billion.

Setting the state for AT&T’s results, last week Verizon (VZ) issued its March quarter results that saw both its revenue and earnings miss expectations. Buried in the results, we found decreased overage revenue, lower postpaid customers and continued promotional activity led to a year on year revenue delicate for Verizon Wireless. The culprits were the shift to unlimited plans and growing emphasis on price plans that likely led to customer switching during the quarter.

If AT&T were still a mobile-centric company, we’d be inclined to re-think our investment in the shares, but it’s not. Rather, as we’ve discussed over the last several months, given the pending merger with Time Warner (TWX), AT&T is a company in transition from being a mobile carrier to a content-led, mobile delivery company. As we’ve seen in the past, consumers will go where the content is (aka Content is King investment theme), and that means AT&T’s content portfolio provides a competitive moat around its mobile business. In many ways, this is what Comcast (CMCSA) established in buying NBC Universal — a content moat around its broadband business… the difference is tied to the rise of smartphones, tablets and other mobile content consumption devices that have consumers chewing content anywhere and everywhere, and not wanting to be tied down to do so.

For that reason, we are not surprised by Comcast launching Xfinity Mobile, nor were we shocked to hear Verizon is “open” to M&A talks with Comcast, Disney (DIS) and CBS (CBS) per CEO Lowell McAdam. In our view, Verizon runs the risk of becoming a delivery pipe only company, and while some may point to the acquisitions of AOL and Yahoo, we’d respond by saying that both companies were in troubled waters and hardly must-have properties.

With AT&T’s earnings, should we see some weakness on the mobile side of the business we’re inclined to let the stock settle and round out the position size as we wait for what is an increasingly likely merger with Time Warner.

 

We’re Also on the Look Out for Datapoints Confirming Our Position in Dycom (DY)

As we listen to the call and dig through the results, we’ll also keep an eye on AT&T’s capital spending plans for 2017 and outer years, given it is Dycom’s (DY) largest customers (another position in our Tematica Select List). As we digest that forecast and layer it on top of Verizon’s expected total capital spending plan of $16.8-$17.5 billion this year, we’ll look to either boost our price target on Dycom or revise our rating given we now have just over 8 percent upside to our $115 price target.

 

Tematica Select List Bottomline on AT&T (T) and Dycom (DY)
  • Our price target on AT&T (T) shares remains $45; should the shares remain under $40 following tonight’s earnings, we’ll look to scale into the position and improve our cost basis.
  • Heading into AT&T’s earnings call, our price target on Dycom (DY) shares remains $115, which offers less than 10 percent upside. This earnings season, we’ll review customer capital spending plans to determine addition upside to that target, but for now given the pronounced move in DY shares, up more than 18 percent in the last month, we’d hold off committing fresh capital at current levels.