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Last week wasn’t a great one for investors, with unexpectedly weak economic data feeding a general sense of exhaustion and uncertainty as the 4Q18 earnings season winds down. The S&P 500 dropped 2.2%. Our stocks held up a little better, down 1.7% on average with only the Aggressive portfolio falling faster than the market as a whole while our High Yield recommendations edged higher as a defensive play.

Defense remains a good posture thanks to the drumbeat of tension in Washington spilling over into trade policy. Reciprocal tariffs are hurting U.S. exporters, with companies that do most of their business overseas staring at an 11% earnings decline in the current quarter compared to a thin pulse of continued growth for their more domestically focused counterparts.

The federal government shutdown also stung the domestic economy, showing up in the prior week’s slight miss on Gross Domestic Product expansion and now the February job creation numbers, which slowed to a crawl. We haven’t seen conditions this close to a stall since late 2016. Needless to say, we survived those circumstances and our subscribers have made plenty of money in the intervening boom.

In our view, this is more seasonal shudder than serious slump. The first quarter is notoriously icy for the U.S. economy as millions of people opt to stay out of the weather and defer big purchasing decisions until warmer conditions prevail. With earnings out of the way, we’ll focus our resources on pointing you to the stocks that are defying the doldrums. Friday’s report is only the first taste of what you can expect. It's up 8% already. Don't you wish you knew what it was?

There’s always a bull market here at The Bull Market Report! This week's Big Picture dissects what the transition between earnings seasons means for us and delivers final judgement on what the 4Q18 cycle did for our stocks. Yes, we beat the S&P 500 by a wide margin. Business as usual.

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Key Market Measures (Friday’s Close)

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BMR Companies and Commentary

The Big Picture: From Season To Season

While we still have one company left to review before the 4Q18 cycle formally ends, on the whole it’s time to put the quarter to bed and start getting in position for the first 1Q19 numbers to hit five weeks from now.

Expectations are mixed. Average out all the predictions and Wall Street is braced for a 3% earnings decline even though we should see revenue across the S&P 500 climb 5% from last winter. That pressure on the bottom line and continued strength on the top says it all. Nobody seriously envisions a severe chill in the underlying economy at this stage. Corporate America is struggling but Main Street remains as robust and resilient as ever.

And even that weakness on the bottom line is really more a matter of a few heavily weighted stocks pivoting than widespread pain. Many of the biggest Technology companies will need at least a season or two to get their fundamentals back on track. We still love Apple (AAPL: $173, down 1%) in the long term, for example, but revenues and earnings comparisons will be tough in 2019 for the company, so it is going to cast a shadow on the market this year. Facebook (FB: $170, up 4%), likewise, is spending a lot to reorient its business, sacrificing margins for long-term sustainability.

Zeroing out these two stocks off the 2019 growth prospects translates into a drag of 15% of the entire Nasdaq. But it’s more than Technology. The Consumer sector is really all about Amazon (AMZN: $1,621, down 3%) right now, with other Retail stocks actually tracking negative growth when you factor out the giant. We’re also not optimistic about Energy, where low oil prices have a full 5% of the market watching the fundamentals shift into reverse.

A year from now it’s likely that growth will be back. For now, sector-based investment strategies are unlikely to have the numbers on their side. We don’t mind. We rarely recommend whole sectors except as a strategic hedge against specific market risks like a Fed tightening cycle or an oil price shock overseas.

Instead, BMR subscribers concentrate on specific stocks that are dynamic enough to keep the fundamentals moving in the right direction. Most of our recommendations are racking up revenue 3-4X as fast as the market as a whole, running rings around every sector. In many cases, they’re also translating those big revenue gains into profit growth as well. It’s going to take positive earnings growth to bring these stocks to higher price levels.

We’ll break down our portfolios to weigh the relative growth prospects in the next few weeks. For now, rest assured that cutting out a lot of the dead weight on Wall Street gives the BMR universe a much stronger expansion profile than the drag that index fund investors can only grit their teeth and tolerate.

If any stocks at all have what it takes to make money in the next five weeks, odds are good that you’ll recognize a lot of the leaders from our Research Reports -- and we’ll add to our coverage where the math is most attractive. Healthcare, in particular, is a good place to expand. While 4% earnings growth there isn’t huge, it’s a lot better than what we’d find elsewhere.

And of course expectations could be set too low. Surprises to the upside are always welcome. But since it will take five weeks before the next cycle begins, we could be in for a month of volatility and dithering. Investors are already retreating to a more cautious position, studying economic data and developments in Washington from the safety of the sidelines. That’s not us. We see no reason to sell and every reason to buy good stocks on a selective basis.

After all, our stocks were big winners last cycle. The S&P 500 is up close to 6% since the big Banks started the season exactly two months ago. Our stocks have gained 9% in the aggregate, with only a handful of disappointments drowned out in the sea of applause. Only Tesla (TSLA: $284, down 4%), Nutanix (NTNX: $34, up 2%) and Office Properties Trust (OPI: $27, down 7%) as well as the departed Box are down double digits in that period. Double-digit rallies outnumber them by a factor of 3.5 to 1.

We could list all the winners, but it would take up too much space, essentially repeating 25% of our overall universe. Instead, we’ll just drop a few names: Roku (ROKU: $71, up 3%), Universal Display (OLED: $147, down 4%), CyberArk (CYBR: $107, down 3%) and Paycom Software (PAYC: $178, down 2%) have all given us 35% to 80% over the last two months. That’s enough glory to cover a few foul balls. And it’s why we’re looking forward to the start of a new season.

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Salesforce.com (CRM: $155, down 6% -- all returns are for the week)

As we discussed in the post-earnings News Flash, Salesforce had a tremendous 4Q18, yet the stock is down 2% after 1Q19 guidance estimates came in slightly below Wall Street’s expectations. Such is the fickle nature of the stock market, yet the dip presents a fabulous buying opportunity as the company has never been on surer footing, as proven by the otherwise resoundingly positive earnings call.

Revenue grew 25% -- the same growth rate as 3Q18 -- to $3.6 billion for the quarter. Consistently strong expansion is a fabulous achievement for a company that already boasts a $120 billion market cap. And the bigger story is even deeper in the numbers. Although the core Sales Cloud still comprises 1/3 of total revenue, by far the fastest growing segment of the business is Platform Services, which grew 50% last year. This includes the recent acquisition of  MuleSoft, which helps businesses integrate and streamline third-party software into a truly unified “platform.”

Salesforce is using MuleSoft to generate awareness and interest in its new third-party app store – similar to Apple, but specifically for SaaS* – and thanks to that push platform revenue now comprises 1/5 of total revenue, the highest composition to-date.

*Software as a service is a software licensing and delivery model in which software is licensed on a subscription basis and is centrally hosted.

The core business is still growing strong – Sales Cloud grew by 13% last year – and management remains focused on diversifying strongly across business lines while establishing a real foothold for future top-line growth. The number of new contracts valued at $20 million or more grew by 50% in the quarter and the two relationships on the books already worth over $100 million keep expanding. CEO Marc Benioff predicted $20-$30 billion in revenue being “right around the corner” and raised full year 2019 guidance to $16 billion. (Last year the company booked $13.2 billion.)

Operating cash flow grew 27% YoY last quarter to $1.3 billion, while EPS surged 50% YoY to $0.70. Meanwhile, long-term debt held steady at $3 billion, where it has stood all year long. The company isn’t relying on debt to fuel its growth, so there’s zero concern of financial instability. Cash is strong at $4.3 billion.

Yet even with all of that, the stock slipped after Benioff announced on the earnings call that 1Q19 revenues are expected to grow 22% YoY. Wall Street had been expecting 23% YoY growth. And for that single percentage miss, the stock tumbled over 5%. What impresses us is that the full year guidance is still strong at the aforementioned $16 billion.

BMR Take: We couldn’t reiterate this more: the dip is an opportunity to exploit other investors’ lack of nerve. Major banks from Barclays to SunTrust to JP Morgan to Wells Fargo raised their price targets for the stock and reiterated their buy rating. We couldn’t agree more. Salesforce is an industry pioneer that is expanding its customer base and diversifying its suite of products. What more could you ask for?

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Square (SQ: $74, down 4%)

Even after the dip this week, is having a tremendous year so far. The stock is up 33% YTD and 4Q18 came in strong with revenue up 6% YoY to $930 million. Gross payment volume also increased 30% YoY to $23 billion and earnings practically doubled from the prior year’s fourth quarter to $224 million, $0.14 per share.

The stock dipped on forward-looking revenue deceleration, as CEO Jack Dorsey guided reduced revenue growth rates for the coming quarters. Yet growth is slowing from a lofty (and unsustainable) 60% to 40% for a very good reason: as the operation expands, keeping the needle moving requires more force. A year ago, Square had just booked a $1 billion year and was looking to add $600 million to that base within 2018. Now, here at $1.6 billion a year, it would take another $1 billion on the top line to have the same effect.

The fact that Dorsey is comfortable suggesting that he can capture another $700 million in revenue this year is more impressive than the year-over-year rates imply. There’s no reason to suspect he can’t do it. Square is investing heavily in Sales & Marketing and R&D as it looks to boost its Cash App to compete with PayPal’s Venmo.

February saw an additional 2 million downloads of the Cash App, which represents nearly 40% YoY growth for the second quarter in a row. The Cash App now boasts 15 million total users – double the number of users from one year ago. So all of that operating spend is paying off big time.

BMR Take: As with Salesforce, this latest selloff is a buying opportunity. Analysts are focused on the revenue growth numbers, ignoring the way the bottom line is benefiting from increased efficiencies of scale. We’re still looking at 60% earnings growth, which is what every company ultimately needs to succeed. Revenue is always important, but a small deceleration in the face of additional market share capture is a worthwhile trade. Square is playing long-ball here, and the bears are thinking short-term. We like Square for the long haul.

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Amazon (AMZN: $1,621, down 3%)

One company that’s been in the news lately (and not for the first time) is the giant Jeff Bezos built. Amazon already dominates Electronic Commerce and is now going to add some brick-and-mortar, with plans to open dozens of supermarkets across the U.S.

We don’t need to tell you how dominant a force Amazon is in Retail, and if they’re going brick and mortar, you better believe it’s for a good reason. Likely they will soon be rolling out cashier-less supermarkets, as they’ve already been field-testing this concept in Seattle. This is a total game-changer for the industry, as Amazon will be able to offer high-end groceries via its Whole Foods or similar chains at bargain-basement prices thanks to having fewer employees on the payroll.

The story of Amazon has always been one of growth, but we’d be remiss if we didn’t mention 2018’s 28% revenue growth to $230 billion, and net income of $10 billion – more than triple what it was in 2017. Yes that’s right, this company can turn a profit if it wants to, and clearly Bezos decided 2018 was a good year to bring profits to the table. Analysts have long discounted income here, as the story has always been big revenue gains and world domination. But when you can take over the world and turn a profit, that’s even better.

BMR Take: Amazon is another stock having a strong year, up 8% even despite falling like a lot of strong companies last week. This has always been an industry disruptor and there’s plenty more of that on the horizon.

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Facebook (FB: $170, up 4%)

Mark Zuckerberg made headlines last week for announcing that his company will be shifting its focus to private messaging. Facebook plans to beef up its private messaging service by offering users encrypted messaging which no one else – including Facebook themselves – can read. Additionally, they’re taking a page from rival Snapchat’s playbook and including an option for messages to automatically disappear after being viewed.

(This is really the only page in Snapchat’s book. We can’t believe Snapchat is worth $12 billion. They booked $1.2 billion in revenue in 2018 and lost $1.2 billion – this is not a misprint. But that is better than 2017 when they had $825 million in revenue and $3.4 billion in losses – again, not a misprint!)

Advertising will still exist within the messaging app, building on what’s already a $67 billion ad revenue target this year. Facebook will also leverage its messaging service to push new products like a digital wallet – again taking a page from a competitor’s playbook, this time Chinese behemoth Tencent.

Zuckerberg was clear that this new private messaging business will complement the core social media platform, not replace it. The stock is already up 29% for the year on the amazing growth prospects that lie ahead for the core business. Throw a brand new revenue stream into the mix, and things are looking up even more.

BMR Take: Facebook already has expertise in the area of private messaging, thanks to its billion-user Messenger and WhatsApp channels. If any company can turn private messaging into a money tree, Facebook can. Perhaps that’s why the stock surged this week on the news while the rest of the market sputtered.

Good Investing,

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

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