Behind The Street - Issue #14
February 14, 2022
February 14, 2022
Behind The Street Newsletter
OVERVIEW
The NASDAQ, S&P 500, and Dow Jones Industrial Average are all sitting below their respective 200 – day moving averages. The Russell 2000 is down about 18% from all-time highs while the U.S. 10 Year Treasury yield is knocking on the door of 2%, briefly breaking above 2% during Friday’s trading day. Higher rates are putting pressure on growth stocks especially companies in the small cap Russell 2000 index.
ZOMBIE COMPANIES
Zombie companies are unprofitable companies that often, can’t generate enough revenue to cover the interest on their debt obligations. These companies will turn to loans form other creditors and investors to stay in business. With interest rates at historically low levels these companies are being allowed to operate solely on the fact that money is cheap, at least for now.
Almost a third of companies in the Russell 2000 generate no profits. Its no wonder why the market is selling down the Russell 2000 in comparison to the S&P 500 and NASDAQ.
RUSSELL LACKS BIG TECH
The Russell 2000 does not have the pleasure of Mega Cap Technology stocks propping up the index as does the S&P 500 and NASDAQ. The S&P 500 is down roughly 9% from record highs while the NASDAQ Composite is off 14%.
As the Federal Reserve starts to raise interest rates in March I expect more pressure on small caps, especially those with little to no earnings. Stick to quality, less speculative companies with strong pricing power during times of high inflation and rising interest rates.
THE JUNK GOES FIRST
When the market turns the junk always gets sold first, the companies with sky high valuations and no earnings.
I always talk about looking “under the hood” of the market. A few months ago, growth stocks were getting hammered with many now down over 60% from their record highs, but major indexes were still in spitting distance from new records.
With stocks like $GOOGL, $AAPL, $MSFT, and $AMZN making up most of the weighting in the major indexes, it is easy for investors to miss key warning signs that a major trend change is about to commence. The flight to safety, the flight to quality, a major rotation.
EARNINGS BRIGHT SPOTS
$DDOG, Datadog reported EPS of $0.20 beating analysts’ expectation by over 80%. Revenue came in strong up 84% year over year to $326 million.
2,010 customers now have an annual run rate (ARR) of $100k or more up from 1,228 just a year ago, generating 83% of total ARR.
LAND AND EXPAND
In SaaS sales, a key focus is acquiring a base of accounts and selling them additional products and services.
$DDOG is doing a fantastic job of landing new customers and expanding revenues by selling additional services to those customers. 78% of customers now use two or more products, this is up from 72% a year ago. In addition, 33% of $DDOG customers utilized four or more products, an increase from 22% in the year-ago quarter.
This is a clear sign that customers are happy as they continue to buy new products, thus making these customers more “sticky”, less likely to go elsewhere.
TECHINCAL OUTLOOK - $DDOG
Focus on relative strength.
$DDOG now sports a 96 RS line and after reporting earnings, was trading just 7% away from record highs but has since corrected back towards its 50 – day moving average at $164.35.
The good news is that $DDOG is one of the few tech stocks trading above its 50- and 200-day moving average. Stocks that are the first to break out at the start of a new uptrend tend to be the new TML’s (True Market Leaders)
A lot of repair work as to be done for a sound base to form, but a break above $183.26 could justify a small position. I would like to see some sideways action in this name with higher volume on green days and declining volume on red days.
$DDOG also has growing institutional sponsorship. As of December 2021, the number of funds who own the stock has grown to 1301 from 958 in March of 2021. (Please see photo attached from Market Smith)
Institutions are the key drivers of stock prices, so it is important that large institutional investors are in the process of acquiring the same stocks that are of interest in your personal portfolio.
KEY ECONOMIC DATA
The National Association of Home builders will release its Housing Market Index for February on Wednesday. Many economists are expecting a reading of 83, in line with January data.
United States Nahb Housing Market Index: CLICK HERE
The housing market index is designed to measure the overall sentiment for the U.S. single family housing market and is often used by the Federal Reserve to help make policy changes and interest rate adjustments.
As stated in last month’s report, home builders are concerned about steadily rising commodity prices impacting the affordability of single-family houses in the United States. Lumber futures are still trading near record highs and many large money managers on Wall Street including Goldman Sachs are calling for a “commodities Supercycle”.
Goldman Sachs Calls 10-Year Commodity Supercycle: CLICK HERE
“While lean existing home inventory and solid buyer demand are supporting the need for new construction, the combination of ongoing increases for building materials, worsening skilled labor shortages and higher mortgage rates point to declines for housing affordability in 2022”, said Robert Dietz, NAHB’s chief economist.
According to Barron’s the number of homes in the United States that aren’t affordable on incomes of $75,000 and $100,000 increased to 411,000 at the end of 2021.
This is a trend that I believe will continue to grow throughout 2022, further expanding the wealth divide in the United States and push us further down the path to becoming a renter nation. As incomes fail to keep up with inflation, the middle class will lose out on opportunities to borrow money at low interest rates to acquire income producing assets.
NVIDIA EARNINGS
$NVDA reports after the bell on Wednesday and analysts are expecting EPS of $1.22 on Revenue of $7.4 billion, up 56% and 48% respectively.
We need a monster quarter and stellar forward guidance or this stock will drop like a rock. I expect a solid report and continue to be bullish on the semiconductor industry. The sheer number of emerging technologies that will require chips is almost not to be believed, from 5G, EV’s, smart cities etc.
Due to regulatory opposition from the United Stated, Europe, and China; Nvidia will abandon its plans to acquire Softbank’s chip designer Arm.
MARCELO STEPS DOWN - SOFTBANK
Speaking of Softbank, Marcelo Claure is stepping down after nearly 9 years with Softbank. Marcelo sold Brightstar to Softbank in 2014 and went on to become the CEO of Sprint. Marcelo has accomplished a lot in his career and is an inspirational success story.
Read about Marcelo Claure: CLICK HERE
VIX UPDATE:
The VIX is still elevated at 28.33 but has faded 4 points throughout the trading day. The Russia Ukraine situation is causing some panic and keeping crude prices elevated. Perhaps as clarity of the ongoing situation comes to the forefront fear in the market will subside. You can look at the VIX here: VIX Index (cboe.com)
As of June 29, the following are the five largest S&P 500 index constituents by weight:
1) $AAPL - 5.89%
2) $MSFT - 5.63%
3) $AMZN - 4.07%
4) $FB - 2.32%
5) $GOOGL - 2.03%
DISTRIBUTION DAYS
Days where index sells off in heavier volume than previous day. Signaling institutional selling. 5 - 6 distribution days in the span of 4 weeks signals market weakness) Investor’s Business Daily
Current Distribution Count: Uptrend Under Pressure
Leaders up in volume: $ARCH, $XOM
Leaders down in volume: $ACLS, $EXPE
LEADING SECTORS
Pay attention to the sectors leading the market.
Food Flour & Gain, Oil & Gas, Gold, Tobacco are all leading the market. This is not a sign of a market that is in bull market mode but a sign of defensive pessimism as we enter a phase where the Federal Reserve is tightening and raising interest rates.
Ask yourself, is it worth it? Even the stocks that are setting up and making headway, is it worth it to buy these stocks due to market conditions? If you are going to start new positions make sure to initiate with only 1 – 3 percent of equity.
7 out of 10 stocks follow the overall trend of the market so tread waters carefully here. The follow through day we had last Monday is still in play as price has not undercut the price action of the follow through day.
We are getting closer for the next bull move. I believe the major sell off in growth is largely over. I do think that we can see lower prices in the indexes as we see Mega Cap tech give back gains. Opportunity is coming, watch for growth stocks to build bases and buy right, sit tight.
Lastly, if Russia does invade Ukraine and bullets start to fly that would be a massive buying opportunity in U.S. equities. Markets tend to bottom on the worst sentiment possible. I do not think this will happen and I hope it doesn’t, but if it does be ready.
Thank You