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The Weekly Summary


Another quiet week on Wall Street gave BMR stocks plenty of runway to extend their recent outperformance. The market as a whole receded a bit on the absence of real developments in the trade war or elsewhere. Our recommendations rebounded another 1%, flipping our return for the 3Q19 earnings season as a whole back into positive territory in the process. These stocks are making money. And in weeks like this, they're doing a lot better than what the index funds can provide.


But this only underlines how quiet the market is getting as the last reports of the earnings cycle give way to the long Thanksgiving break. Investors are tired and few are paying real attention at the moment. Turnover is down across Wall Street. And with the market shutting down Thursday and then closing early on Friday, we suspect the coming week will get even quieter. After that, there's only 19 full days left on the 2019 calendar. We expect a Santa Rally to play out in that timeline, but after a big year even the gains will probably be on the subdued side.


From there, we're already looking out to 2020 for better earnings and a resolution to the trade war. Despite rhetoric on both sides, negotiations with China have neither broken down nor broken through. As distracted as the White House is with other matters, even an extension of the status quo is all we need to get to the 4Q19 earnings cycle when January rolls around. Of course there's always the risk that tempers will flare and extensive tariffs will kick in on December 15. We're keeping our eyes open either way.


There’s always a bull market here at The Bull Market Report! The High Yield Investor starts to lay out our view of where investor sentiment is going in 2020 and the directions from which the potential shocks will come. We like the yield curve now. China and the political environment will always be controversial. Gary Jefferson provides more detail on the consumer economy, which becomes the core focus when we filter out global headlines as the all-important holiday Retail season starts.


The Big Picture takes a slightly different angle by asking whether it still makes sense to buy "defensive" sectors now that all the relatively safe havens are so crowded with nervous money. Beyond that, it's time to review our High Technology positions, so we provide fresh looks at Splunk, Spotify, Shopify, Facebook, Roku and Akamai, as well as an Earnings Preview on Dollar Tree.


Finally, while we'll see you before Thanksgiving, we want to make sure we wish you a happy holiday early. Thank you for your attention over the year. We're grateful to have you here. And we love what the market has given us all so far in 2019. We look forward to more ahead.


Key Market Indicators



BMR Companies and Commentary


The Big Picture: Defense Is No Defense


No bull market ever died of old age so we see a lot of unnecessary fear crowding investors into safe havens. That's a real problem when demand for risk protection is so intense that these areas of the market become too expensive to make sense. Risk tolerances haven’t collapsed. Bond yields around the world have. And as money inches out of bonds in search of reasonable returns, yields in the stock market follow bond rates lower.


We've talked about the premium risk-averse investors are paying for relief from recession anxiety without having to accept the negative inflation-adjusted income they’d get from Treasury bonds. Let’s bring a little more math to the table. If prices are climbing 1.7% a year and the Fed won’t raise rates before inflation hits 2%, buying middle-term government debt will leave you with less purchasing power when those bonds mature than what you have now.


That’s only an acceptable strategy if you’ve abandoned hope for anything in the global markets doing better than breaking even. We’re naturally on the side of doing better. So are most realistic investors who recognize that the world is a long way from the point where locking the doors against absolute disaster is the only move that makes sense. However, some moves only make sense because every other option has a worse outcome. That’s where we think utilities and consumer staples stocks are now. They’re not objectively bad as places to park cash ahead of an economic storm.


But when you see better alternatives, these sectors look bloated and on their way to outright bubble territory. Utilities, for example, usually command a slight premium because their dividends are about as reliable as it gets, and people will pay extra for that kind of clarity. However, that premium has expanded a lot. Three months ago, these stocks were available for 19.1X earnings against an 18.4X multiple for the S&P 500 as a whole. The S&P 500 valuation hasn’t changed while utilities are at the point where they cost 20.9X earnings to buy in.


Admittedly, the sector still pays a 1% higher dividend yield than the S&P 500, but when you’re weighing whether to lock in 2.8% or 1.8%, nobody is reaping huge windfalls here. But the real arbiter of value in a defensive portfolio is the amount of extra income investors can squeeze out of the stocks they pick while their money is parked. With Treasury debt, the rate you lock in is the interest you’ll receive. The odds of a default are as close to zero as it gets. Everywhere else, you’re accepting a little risk that a company will run out of cash and cut its dividend or skip a payment.


Five-year bonds bottomed out at 1.26% at the end of 2008, when it looked like Wall Street’s world was ending and overnight lending rates were effectively zero. Back then, utilities paid 4.2% to reflect the elevated risk that these companies would fail to meet their shareholder obligations. The spread naturally rose to roughly 3 percentage points. A lot of people were scared. What happened, of course, is that the sector didn’t even blink. Likewise, we can track the spread between “defensive” yields and what investors get from the S&P 500 as a whole. Normally we expect utilities to pay 2.4% more than the broad market. The spread is now barely 1 percentage point wide now.


There just isn’t a lot of room left there for more money to crowd into the sector before the risk curve breaks. Back in 2008, for example, the yield spread between utilities and the S&P 500 narrowed to barely 1.2 percentage point. We’re close to that historical limit now. We're lingering on this math to give you a better sense of how the current rush to defense is distorted in any reasonable historical context.


If the world right now feels like it did at the end of 2008, then locking in these abnormally low yields and compressed risk spreads makes sense as the best way to sidestep any significant economic threat. Otherwise, the math doesn’t add up. The usual statistical indicators that accompany real fear in the market simply aren’t there. To borrow a line from the Sherlock Holmes stories, the dog isn’t barking. Maybe there’s no dog.




Akamai (AKAM: $88, flat last week)


Although the stock has flatlined over the past couple of months, it’s still up an exceptional 43% YTD. This company has a lot going for it, so we see continued price appreciation well into the new year and beyond.


3Q19 was strong with revenue coming in at $710 million for a 6% YoY gain. EPS of $1.10 beat market expectations by $0.10. EBITDA also rose 10% YoY to $300 million. All of the various divisions increased revenue over the quarter, with the high-margin Cloud Security division improving by a whopping 28% YoY, to $215 million. And while U.S. revenue was consistent with last year, the company has been prioritizing global growth, and saw a 15% YoY bump in international revenue to $300 million.


Management raised its full-year outlook on the earnings call, predicting revenue of $2.87 billion, up from $2.85 billion. EPS is guided upwards from $4.26 to $4.40.


BMR Take: The financials tell most of the picture here. This is a strong, growing company that continues to improve both on revenue and earnings. Additionally, the company is growing its user base globally, which is important for diversification purposes and market share capture. We are reiterating our $100 Target Price for Akamai.





Facebook (FB: $199, up 2%)


Many were predicting the demise of Facebook around this time last year, with the company suffering from a myriad of headline-making PR nightmares. Oh how wrong they were. We dropped the stock for a brief period, but quickly came back and Facebook has rewarded us with a 53% YTD gain.


The company is making some major changes, including the launch of a payments platform which will integrate with Messenger, Instagram and WhatsApp. This will help further monetize those properties. Facebook is further monetizing WhatsApp with a catalog feature that allows businesses to set up a virtual storefront showcasing their products. This follows the successful launch of a similar product on Instagram earlier this year.


3Q19 was a good one for the company, with revenue of $17.6 billion up 29% YoY, and EPS of $2.12 beating consensus estimates by $0.24. The stock rose after the earnings call, and is up 4% since.


BMR Take: We see continued price appreciation for Facebook, as the company is showing no signs of slowing. Most of the negative press is in the rearview, and what remains has already been baked into the stock. Plus, the company is finally beginning to monetize its WhatsApp, Messenger and Instagram platforms – which is what we’ve all been waiting for. Our $220 Target Price is now within reach.





Roku (ROKU: $159, up 1%)


Roku took a plunge in September, and some went running for the hills. Not us though – we have faith in this company, and that faith has already paid off as the stock is back to where it was pre-tumble.


This is our best performing stock of the year (up over 400% YTD). The company is riding a wave of ‘cord-cutting,’ where Millennials and others are transitioning away from traditional cable and towards content streaming. Roku is in an undeniable position to benefit, as the platform offers a one-stop-shop for all of the streaming options. And with more entrants into the market seemingly every day (Disney, WarnerMedia and others), ‘The Streaming Wars’ as they are being called only enhances Roku’s value.


3Q19 saw the company impress on both top and bottom lines, as well as add more users to its platform. Revenue rose 50% YoY to $260 million, and while they are still losing money, ($25 million) the $400 million in cash in the bank is enough to cushion them for many months ahead. The 32 million active accounts represents a 36% YoY increase. And Roku is monetizing those accounts faster than ever before. The average revenue per user soared 30% to $22.60.


BMR Take: What isn’t Roku doing right at this point? The company is firing on all cylinders and keeps blowing past expectations on its earnings releases. The stock dropped in September as some investors felt the time was right to take profits. We disagree. We’re staying in this stock and reiterating our $205 Target Price. That may seem like a long road from here, but remember that’s only 28% from the current level.





Shopify (SHOP: $315, up 1%)



Like Roku, Shopify can do no wrong. The stock is up 130% YTD, and is down nearly 25% from its 52-week high of $410.


We see Shopify continuing its upward trajectory well into next year. The company is launching a new email marketing tool that allows merchants to create, run, and track email marketing campaigns from within Shopify Marketing. This makes the product even more integrative and user-friendly. The company also recently purchased 6 River Systems for $450 million. The warehouse fulfillment business augments Shopify’s own fulfillment network, which again makes the user experience even more fluid.


3Q19 revenue of $390 million, which represented a 45% YoY gain, was enough to continue to boost the stock skyward. The market shrugged off the EPS miss, with net loss on the quarter of $0.29. The market had been expecting earnings of $0.10. But with all of the growth happening, it’s expected that earnings will be depressed for a while. Revenue and market capture is the real story here, which is why the stock continues to soar.


BMR Take: Our $450 Target Price isn’t as far off as it may appear. The stock was above $400 less than three months ago. And this company – which is already the dominant industry leader – is making all of the right moves for future market share capture. We’re excited for what 2020 will bring to Shopify’s top and bottom lines.





Splunk (SPLK: $140, up 18%)


Here’s one stock that’s had a very up-and-down year. We can’t complain though, since Splunk is up 33% YTD. The stock keeps testing that $140 level, and we believe it will eventually break through.


Splunk is riding the red-hot Cybersecurity wave. The company’s ‘data-to-everything’ approach is catching on, as Splunk is one of the few cybersecurity platforms that offers a comprehensive data security toolkit (most companies focus on a specific aspect of security). Management keeps unveiling new products and upgrades, which retains customers and courts new ones (the company signed on 440 new enterprise clients over the last quarter alone).


3Q19 was strong, with $625 million in revenue coming in at a 30% YoY gain. EPS of $0.58 beat market expectations by $0.04. Software revenue soared 40% to $455 million, and raised its full-year revenue guidance to $2.35 billion, which is up from $2.3 billion.


BMR Take: Yes there is a lot of competition in this sector, but Splunk is one of the industry leaders. Morgan Stanley recently hopped aboard the Splunk train with an ‘overweight’ rating, and a $169 Target Price (above our $166 target). We’ll be happy to take either. Morgan Stanley is predicting $1 billion in free cash flow by 2023 – that would make Splunk an absolute monster. We don’t disagree.





Spotify (SPOT: $141, down 5%)


Here’s another stock that has had an up-and-down year, but is up a respectable 24% YTD. Like Splunk, Spotify keeps testing a ceiling – currently $155. We believe the stock will crack through sooner rather than later.


The company posted a nice profit surprise last quarter, with 3Q19 EPS coming in at 0.36 euros, or $0.65 euros more than the market anticipated (Spotify – a Swedish company – reports in euros). The market wasn’t expecting a profit, but Spotify delivered anyway, which is always wonderful to see. Revenue of 1.7 billion euros also impressed, up 28% YoY.


The Parcast and Gimlet Media acquisitions are laying the groundwork for Spotify’s soon-to-be dominance of the podcast market. And management has hinted (not-so-subtly) at other spoken-word formats, including news and interview shows. Spotify has ambitions beyond mere music streaming, the company wants to be the Netflix for audio, which it absolutely can achieve.


BMR Take: We had thought it would be up a bit more on the year by now. There is so much going right for this company fundamentally, investors are just a little skittish given the competition from the likes of Amazon. But Spotify has an enormous first-mover advantage, as well as a solid growth strategy. Once investors get back to focusing on the fundamentals, Spotify will resume its upwards trend. In the meantime, we are lowering our Price Target from $198 to $160 and our Sell Price to $125.





A Word From Gary Jefferson

Jefferson Financial Group
First Vice-President, Investments
UBS Financial Services, Inc.

Several prominent market figures have arrived at some interesting observations and projections on the market for next year. First, money managers are having a good year with most averaging 10% to 12% returns. And, most managers still believe they can increase that as we head into the Christmas season.


Then what? The hard reality is that market valuation has become somewhat stretched. Top economists who in our view get it right more often than not believe economic growth in the U.S slows the first half of 2020 where it bottoms, narrowly skirting a formal recession, and then begins accelerating again the second half of the year. This slowdown is attributed in large part to the tariff war continuing, which will translate into lower earnings and lower valuations. Lower valuations would mean lower P/E ratios, which only happens here if stocks decline.


However, if this does occur it would typically mean bonds rally and interest rates recede. We have seen some forecasts for the 10-year bond yield falling as low as 1%. With the average yield of the S&P 500 now closer to 2%, this would end up a major positive factor for stocks . . . history is squarely on the side of equities when dividend yields are higher than bond yields.

If this scenario happens, it should bode well for the patient investor who doesn't panic into the inevitable selloffs. It also bodes well for investors who buy in to whatever selloff may occur. These "corrections," however severe they may seem, are usually of short duration. Meanwhile, the resiliency of the U.S. markets this year has allowed the overall analyst community to actually slow the pace of cuts to their profit forecasts for the next several quarters. And in light of these most recent earnings projections, the S&P 500 can rise roughly 12% next year without theoretically getting any more expensive.


Bottom Line: What investors need to understand from all these statistics and information is that "stocks can still appreciate" in today's environment even as they hit new highs on a daily basis. This is because of all the other supportive news in the economy. GDP growth this year is pacing at a stronger rate than average across this entire near-11-year expansion. Consumer confidence is near record highs, and remember: 70% of our GDP comes from consumer spending. Household income is at the highest level in 20 years, low interest rates and corporate earnings that continue to impress.

And one final thought. There has been some recent commentary that the Democrats will actually do the right thing and ratify the USMCA trade agreement this year. This should provide an even bigger boost to the economy and the market because we export more than five times as much to Canada and Mexico (our two largest trading partners) than to China. In the meantime, our economy still looks great and remains the best in the world.




Earnings Preview: Dollar Tree (DLTR: $109, flat)

Earnings Date: Tuesday, 8:00 AM ET 

Expectations: 3Q19
Revenue: $5.7 billion
Net Profit: $268 million
EPS: $1.13


Year Ago Quarter Results
Revenue: $5.5 million

Net Profit: $282 million
EPS: $1.18


Implied Revenue Growth: 4%
Implied EPS Decline: 4%


Target: $120
Sell Price: $82
Date Added: March 20, 2018
BMR Performance: 15%


Key Things To Watch For in the Quarter


Dollar Tree earned its spot in our Special Opportunities portfolio in two ways. First, as one of the most defensive names in the Retail sector, the stock tends to do well when concerns around the consumer economy are circulating. People will keep buying the necessities this discount chain sells even in a recession. They'll just buy more of it in smaller packages, diverting purchasing activity from big-box stores and their upscale boutique-oriented rivals. When wallets are less free, Dollar Tree actually outperforms.


And in the meantime, management keeps figuring out how to squeeze incremental improvements out fo the business. New stores open to take sales away from competitors while the least efficient existing stores shut down. The merchandise mix shifts to capture the target market's attention at the right price point while steering clear of trade war threats to the supply chain. Year after year, revenue edges up. In good years, profit follows.


This is not one of the good years because Dollar Tree is still recouping its investment in the Family Dollar chain by remodeling 1,000 locations it wants to rebrand while closing the rest. Renovating just one store can cost $100,000 so the pressure on margins is obvious . . . but the long-term rewards can be substantial. What we're looking for this week is evidence of progress along that path. Expectations are low. All we need is a little progress on revenue and contained deterioration on the bottom line. After all, the S&P 500 is doing no better and no worse than that.





The High Yield Investor


By John Freund
VP of High Yield
The Bull Market Report 


Things have certainly settled down in the 4th quarter of 2019, compared to how the market has been acting over the past few months, and especially compared to how it acted during 4Q18. There are still some lingering anxieties that are placing downward pressure on industries in particular and the market as a whole, and we’ll tackle each one of those here for you.

China. The trade war continues on. President Trump promised a ‘Phase One’ negotiation, whereby both the United States and China would take initial steps to defuse the ongoing trade war. However, the Phase One negotiation has yet to happen, and earlier in the week some experts sounded alarm bells that the window of opportunity is closing. Meanwhile, economists agree that the 16-month trade war is slowing global growth, hampering supply chains, disrupting investment and negatively impacting business confidence.

Yet Friday brought some good news on the Phase One front, with both President Trump and Chinese President Xi Jinping stating publicly their desire to achieve a Phase One agreement. This is significant, because President Xi rarely comments publicly on the trade war, and when he does it is usually to take a dig at Trump, so the fact that he came out and stated his overt desire to reach a deal is promising.

One date to keep in mind is December 15, when tariffs on $160 billion in Chinese goods are set to take effect. That’s only nine days before Christmas, and any economic harm caused by the trade war during that time would be a black mark for Trump as he enters re-election year. So look for either a Phase One agreement in the next few weeks, or for Trump to delay the tariffs on Chinese goods. Either one will boost the market, so the odds are December is looking good on the trade war front.

The yield curve. We’ve written about this numerous times over the past few months, even devoting an entire High Yield Investor to the recent yield curve inversion. The yield curve is no longer inverted, which is a good thing (mostly). With the yield curve slowly-but-surely returning to normal, several of our REITs like Annaly Capital (NLY: $9.20, up 1%, Yield = 10.9%) and Apollo Commercial Real Estate (ARI: $17.95, flat, Yield = 10.3%) are benefitting from widening spreads which allows them to swap long-term bonds for shorter ones (in the case of Annaly) or simply benefit from the boom in Commercial Real Estate that’s happening (in the case of Apollo).


An inverted yield curve isn’t out of the woods yet; it is still historically pretty flat. But the curve continues to widen and we don’t believe another inversion is going to happen any time soon. Plus, the yield curve inversion was good news for our muni stocks like Invesco Municipal Trust (VKQ: $12.27, up 1%, Yield = 4.8% tax-free, the equivalent of 7.4% taxable), and Nuveen AMT-Free Municipal Credit Income Fund (NVG: $16.17, up 1%, Yield = 4% tax-free, the equivalent of 6.2% taxable). As we’ve written previously, muni funds operate on their own yield curve, which is traditionally much steeper than the standard yield curve. So when the yield curve flattens or inverts, investors rush to the safety of muni funds, which is why our munis have done so well this year. (Nuveen is up a healthy 14% this year, and Invesco is up 10% - that’s not including the tax-free yields they produce.) Yet another example of why it’s so important to diversify your portfolio.


Politics. An election year is always a dicey one for the market – especially an election that is likely to be as tumultuous as this upcoming one. There’s no telling what will happen over the next 12 months. Many forecasters are predicting a pullback or even a recession – of course those same prognosticators have been predicting a recession for two, three, or in some cases even four or more years now. While it’s true that this is now the longest period in American history without a recession, and it’s also true that recessions are inevitable, a recession doesn’t simply just happen because it’s overdue. Many times recessions happen when bubbles burst – and there don’t seem to be any major bubbles in danger of bursting; at least not in the same way that we experienced over the last several recessions (Real Estate in 2007-2008, Tech in 2000). It is entirely possible that this no-recession streak continues for many more years. Australia, for example, has gone 27 years without a recession (17 more than we have!) We believe there’s plenty of runway left for this bull market.

Even without a recession next year, there are likely to be a lot of political headwinds, given the tension that exists in global politics at the moment. The U.S. leads the way here, with the impeachment hearings ongoing. It’s likely that if Trump is impeached in the House, he will be acquitted in the Senate – but then again, anything is possible. And if there’s one thing the market doesn’t like, it’s uncertainty. If there is even a hint that Trump could be convicted in the Senate next year, look for the market to quiver a bit (simply because the prospect of Trump’s removal from office presents a high degree of uncertainty.)

Not far from the U.S. in terms of dysfunctional politics is the U.K. Britain has been talking Brexit for the last three years, and seems to be inching closer – but then again, the closer they get, the further away Brexit actually seems. The nation is now facing a snap election between a deeply unpopular prime minister in Boris Johnson, and perhaps the only politician who’s more unpopular – Jeremy Corbyn. If Johnson wins, expect a renewed Brexit push. If Corbyn wins, there’s absolutely no telling what to expect – both in terms of Brexit and for corporations in the U.K. In either case, there is a lot of uncertainty that the market will face, and the market doesn’t like uncertainty. The only question here is, how deeply can Britain’s politics affect global markets? No one quite knows the answer.

On top of all of that, there are political uprisings happening across the globe. Demonstrations and riots are taking place everywhere from Chile to France to Spain to Hong Kong. The protestors all have their own sources of dissatisfaction, and each country is likely to have a slightly different outcome. The one with the most potential to roil global markets is Hong Kong, given that the quasi-independent city-state is a major hub of financial activity. Again, the market doesn’t like uncertainty, so it will be important to keep an eye on how these riots and protests pan out.


Those are the three major anxieties that currently linger over the market. There’s good news with all of them, however. The trade war is likely to improve thanks to political concerns on both sides, the yield curve is returning to normal, and the prospect of a recession is dim, as is the likelihood that any of the aforementioned geopolitical concerns causes a major selloff in the U.S. market.


So with the market looking strong and the overall economy getting a boost from the Fed in terms of lower interest rates, now is a terrific time to lock in some fixed income in the form of high yield investments. Our muni funds have performed well and are likely to maintain their strength going forward as investors play some defense in the face of all these headwinds, and the other REITs in our portfolios will only get better as the economy improves and the yield curve widens.


Diversification is the antidote to market anxiety. Our High Yield stocks are highly diversified and will produce steady fixed income returns in the years to come.


Good Investing,
Todd Shaver, Founder and CEO
The Bull Market Report
Since 1998