Weekly Watch | 2/15/2021
Applied Materials (AMAT): Outperform Rating
Applied Materials is a company producing equipment used to manufacture semiconductors, solar panels and other flat panel displays. As one of the largest producers of semiconductor equipment, the company additionally provides software automation and other technology services to sustain and improve current equipment. With approximately 20% of total market share in the semiconductor manufacturing industry, Applied Materials remains heavy in R&D spending. AMAT’s strategic focus on R&D has allowed the company to outperform competitors as they continuously innovate and invest heavily in AI/IoT-oriented segments. Over the past few years, AMAT’s ability to increase free cash flow and revenue/EPS has put the company in a position to be a juggernaut supplier among innovative industries like cloud computing, data caching, 5G and even autonomous transportation. We think it’s important to remember how capital-intensive technology is becoming, and much of the semiconductor industry is competing to make chips that are smaller, faster, use less energy, and can store more data. As one of the leaders in manufacturing equipment, the company will most likely benefit regardless of who has the “hottest chips”. Nonetheless, semiconductor equipment manufacturing growth is forecasted to reach $70BN by 2021 and surpass $80BN by the year 2023. With the expectation of improvement among semiconductor production volumes, we believe Applied Materials is in a prime position to potentially occupy more of the chip fabrication market.
Due to the current ongoing chip shortage around the world, we note there may be some risk associated with AMAT’s ability to operate as efficiently as possible. However, last week the Biden team pledged to take combative measures to address the shortage. From a long-term perspective, we should expect to see action taken by the new administration if we hope to be at forefront of technological innovation for years to come. Such goals are simply unachievable without effective semiconductor production, but luckily our demand is there. It is no secret the Covid-19 pandemic has spurred a demand for electronic products, with the rise of “stay-at home” activity causing large chip manufacturers like AMD and Qualcomm to have consumers waiting for the latest technology products. Here at City Street, we attempt to look for value where others do not, and we believe Applied Materials has the capacity to sustain growth far after our economic recovery. In other words, we believe AMAT is (metaphorically speaking) producing the pickaxes for the inevitable gold rush.
From a technical analysis perspective, Applied Materials has reached an inflection point. For a stock like this, using the Gann Fans tool seems to be a good instrument to predict price movements on larger time frames. This specific form of technical analysis is based on the idea that the market is geometric and cyclical by nature. The fans themselves consist of a series of angles that can be used to display potential areas of resistance or support. The primary 1:1 line, acting as an uptrend and downtrend, is regarded as the most important angle (45 degrees) because it is the ideal balance between price and time.
Applied Materials closed at a share price of $17.70 last Friday. After running up over 15% last week, AMAT is set to report their Q1 earnings report for the 2021 fiscal year on February 18th, after market close. Shares or long-dated options are the more attractive approaches We maintain an Outperform recommendation on Applied Materials with a near-term price target of $120 and a 12-month price target of $160.
Arista Networks (ANET): Maintain Rating
Arista Networks is a company that specializes in developing, managing and selling cloud networking solutions. ANET is heavily focused on the R&D side of the business model, which attributes more than 20% of its total revenue. The company is experiencing favorable news events ahead of its earnings, including a partnership with Forescout Technologies and a recent Goldman Sachs technology conference on February 11th. The main product of Arista Networks are switches that are offered to all the large cloud companies (Microsoft, Google, Facebook, Amazon). However, their biggest competitor by far is Cisco. Cisco has been falling in their last earnings periods as Arista has slowly been rising from a very tough chain reaction of events in 2018 that dragged on them until the end of 2019. This was not a problem of market capitalization or overall completion, but rather the demand of supply chains unable to handle the rapid growth which then led to more constraints. Coincidentally, the pandemic has made it even harder for the supply chains to operate smoothly, right as things were starting to begin to look up. This happens to many tech companies especially after their leases begin to catch up on them with exponentially growing demand. Regardless, this is a problem that hopefully will be more clarified after their earnings call. As it currently stands from their last quarter, Arista is in a much better position to handle that demand from these cloud customers. Much of the success behind these relationships has been the forecasting of the revenue growth from switching over to an Arista Networks switch compared to the older or third-party technology. While Cisco has been able to dominate this market for many years, their overall market share has been slipping into the ranks of companies like Arista. This isn’t to say that we’re bearish on Cisco, as they seem poised for a recovery in the short-mid-term, but something to consider in the long run, as we see Arista Networks as a major disruption to the entire company. As it stands, Arista has higher gross margins than Cisco, and Cisco has been an established player in the game for over 30 years, with disproportionately larger market capitalization from their assortment of products. The newer hardware that Arista offers, is more center-focused on what their customers want: security, automation and appeal to the widest audience of users. They also offer a series of routers and routing services that, while not nearly as profitable as the switches will be, have positive net growth potential by 2022. Unlike the switches, the routers do not have the same influx of demand as there are many more competitive barriers to entry.
From a technical side, Arista is a very low-volume traded stock, which is a possible indication of heavy manipulation by algorithms while institutions act as bag holders owning a bulk majority of the stock. Most of the ‘real’ money, aka the bulk orders are going in at the end of the trading day or after normal market trading hours are over. As such, the overall impact of this synthesis information is delayed as it seems insiders are perhaps more bullish than hedge funds and investment banks could imagine. This isn’t necessarily a bad thing, but not a stock that is going to jump up and down every single day by five or more percent. Their last earnings period ended in a 30% spike in the stock price and hasn’t sold off below that level ever since. Regardless, with earnings on deck, the upside for Arista Networks is very potent and offers a potential momentum paradigm shift. However, since Arista focuses more on building such a unique product as opposed to a simplistic approach, demand will come organically for these routers in time. The focus as of right now is the switches, which hopefully we will be more informed about after Arista reports earnings on February 18th.
Palantir (PLTR): Strong Buy Rating
Palantir at its core is a proprietary technology company involved in data science and big data analytics. Before the company went public, they worked solely as an affiliated government contractor but more recently started expanding into other non-government entities. Data scaling is the next wave of technological advancement, and Palantir may be the next big deal. Palantir arguably has a better design language than the likes of Google, Microsoft and Salesforce. Palantir’s products are the closest thing to Iron Man’s technology; they are attempting to build user experiences (UX) that create relationships between human beings and computers to solve cognitive tasks.
Additionally, Palantir wants to interconnect all the data sources that are collected by an organization and use their big data analytics, algorithms and machine learning to help drive business decisions on a corporate level. The company’s data structure is founded on machine learnings, where the systems teach themselves over time and develop new algorithms on their own to adapt to any shocks to the business model. Essentially, PLTR is a resource that simplifies business decisions surrounding cash flows, profit, efficiency and margins. This kind of structure is needed within many businesses if they want to remain competitive within the new digital age. Not only is this technology super beneficial for Palantir but it also advances the growth of those who use PLTR’s products in the long run. The company also has large institutional backing and strong, experienced leadership ready to take it to a whole new level. However, it's important to realize their business is sort of dependent on lucrative government contracts. Nonetheless, they have a very bright future in the AI and SaaS industry ultimately making the stock attractive at current levels.
Marriott (MAR): Underweight Rating
Marriott International is the world's largest multinational operator of licensed hotel, residential and timeshare properties. It owns over 7,500 properties in 132 countries. Due to the pandemic’s effect on travel, specifically international, their business has been one of the most severely impacted. However, the stock has been rebounding in recent months due to increases in bookings through 2022. A return to international travel is key for Marriott to reach new highs, but this return is inevitable. The vaccine rollout is only going to increase from this point forward, and although the EU is experiencing particular difficulties in delivering doses, this will not be a long-term problem. People want to travel and socialize; it is a part of human nature. The travel industry as a whole has a positive outlook, especially for Marriott. Even though EBITDA has decreased 55.5% YoY, it is expected to rebound to pre-pandemic levels by the end of 2021. Marriott also recently announced a major deal with Sunwing Travel Group’s hotel division, Blue Diamond Resorts. This agreement will add 19 more resorts to its portfolio by 2025. The Covid-19 pandemic also had the effect of having people choose to stay longer on their trips, exposing them to other options than the traditional hotel experience. Airbnb is one of these options. Airbnb allows people to fully immerse themselves in their travel experience by allowing them to stay in local residential properties owned by local residents. There has been a steady increase in demand for this type of accommodation and Airbnb will be an ever-increasing competitor to Marriott because of this.
From a technical standpoint, Marriott is at a unique buying opportunity. Its stock price pays close attention to Covid-19 news and reacts accordingly to if it was good or bad. Thus, it has been much more volatile than it usually is. It has recently broken out of a weeklong downtrend after testing an intermediate resistance level of 130, and the 21 SMA is about to cross over the 50 SMA. As of February 13th, Marriott's market cap is $42 billion and it is trading at 129.85, right at resistance. With the inevitable return of international and domestic travel, the stock could prove to be a great buy in the long term. For now, it remains a risky play as the world is still in lockdown with 2.2% of people vaccinated worldwide. Its price jumped last quarter after beating EPS estimates while estimates for this quarter are $0.09. It is an extremely risky gamble if you are holding options through earnings on this one in light of its recent rally, it's a hit or miss. If you are, however, at least hedge yourself and stay closer to the money with a 130-strike expiring a week out.
Shopify (SHOP): Maintain Rating
As the E-commerce industry continues becoming a staple in our daily lives, we see one company stand above the rest. Last quarter, Shopify, a Canadian E-commerce platform mainly focused on digital points-of-sale transactions, posted earnings of $1.13 per share which exceeded expectations by 126%. It’s no surprise that the stock price has been on a tear these past few months riding off this post-earnings momentum and a revenue figure of $767.4 M. Though Shopify is quiet about their estimates, some are predicting a $1.21 EPS figure and over $900 M in revenue this time around. These are obviously strong numbers that attempt to validate the lofty valuation for Shopify, but they won’t have the wow factor that we saw from Q3.
Shopify is also trading off news in addition to numbers. Shop Pay, Shopify’s speedy online payment option that increases conversion percentages for sellers by roughly 1.8x (average between desktop and mobile) will be added to Facebook and Instagram in the coming weeks. This is a huge move for Shopify as they now have their hands in all the cookie jars being that they are heavily integrated into Amazon as well. In addition, as the pandemic nears an end, a new Shopify POS system and Tap & Chip Card Readers will fare well when people eventually flood back to main street.
Now let’s get down to the technicals. After reaching a high of $1276.91 back on December 22, Shopify has double-bottomed on support from a previous high earlier that month. In February, we’ve watched the price reapproach the key $1276.91 support level and begin to breakout. This period happened to align with the news of Facebook and Instagram’s integration of Shop Pay which only accelerated this climb that ended with a $221 swing in share price over a six-day period. It’s easy to convince yourself that the best days of swing trading Shopify are in the rearview mirror at this point. However, keep an eye on the prospect of a bullish flag forming if we see a moderate sell-off post-earnings.
