Investors can be forgiven for feeling as if they are drowning in a sea of data, struggling to separate the signal from the noise. Sentieo, a financial research platform start-up, aims to help. In addition to traditional data sources like company filings and analyst reports, the service tracks alternative data such as web visits, Google Trends, and Twitter mentions for major products and companies as a whole. These observations help gauge consumer-facing businesses' traffic, sales, and eventual earnings before the figures are officially released. When the results differ from Wall Street's expectations, the disconnect can provide an attractive investment opportunity.
To demonstrate the predictive power of its trend-spotting tool, called Mosaic, Sentieo publishes a list of stock recommendations each year. In 2018, its 16 recommended stocks rose 25.4% on average, handily beating the S&P 500's (.SPX) 6.2% decline. Top performers included Crocs (CROX), up 106%; Medifast (MED), up 79%; and SodaStream, up 105% until it was acquired by PepsiCo (PEP) this fall. Flops included Snap (SNAP), which slid 62% in 2018, and Skechers USA (SKX), which fell 40%.
Sentieo's 11 recommendations for 2019 bring back three stocks from last year's list: Lululemon (LULU), Twitter (TWTR), and Crocs. Some names, such as Nintendo (NTDOY), LendingTree (TREE), and Roku (ROKU) have had poor returns of late. Others are among 2018's best performers: Five Below (FIVE), Chipotle Mexican Grill (CMG), and Netflix (NFLX). Rounding out the list, Garmin (GRMN) and Ulta Beauty (ULTA), appear poised to rise this year, according to Sentieo's data.
Alap Shah, Sentieo's co-founder and CEO, spoke with Barron's about Sentieo's latest picks, detailed in a recent white paper. Shah comes to Sentieo from consumer analyst roles in Citadel's global equities business and previously at Viking Global Investors.
Q: Walk me through your 2019 picks methodology.
A: The primary driver is essentially using the Mosaic service within Sentieo as an initial screen for businesses in which things like search trends, web traffic trends, and social media trends have all accelerated. The best scenario is one where Wall Street analysts' estimates are decelerating while our data suggest there's an acceleration, and there's going to be a big beat coming. But in a lot of cases, even if the Street's looking for flat quarter or just a small increase and we see a large increase, that's still plenty to get the stock going. And obviously with the drawdown in Q4, we're seeing tons and tons of opportunities out there.
Q: What are some qualitative signals that you look for and which companies are taking advantage of them?
A: It's looking for businesses that are benefiting from long-term trends, are leaders of that trend, or in some cases are even creating and driving those trends. Netflix and Roku are two related companies that are on our list that are great examples. Netflix essentially created the video-on-demand phenomenon. Then Roku has come in and has really taken a ton of share in delivering not just Netflix, but 4,000 other apps. Our data suggest those trends are accelerating. As that happens, we see huge upside for Netflix. To us, Roku looks completely crazy from a valuation perspective in that this is such a strategic asset in the space where old media is getting squeezed right now. We don't think this thing will be public in 18 months.
Q: Who could buy it?
A: It's just such an obvious takeout for someone like a Walt Disney (DIS) or a bunch of other companies to gain scale. We don't talk about that quite as much in the piece, but it's a $4 billion company with 25 million subscribers on its platform. And as people move to more and more video on demand, we think Roku is a huge beneficiary. So those are two great stocks within a category that is just going to grow forever. They're the two market leaders in the category, and both of them are available on sale because the market has really gotten beat up.
Q: What's another trend you see and a company benefiting from it whose stock you recommend?
A: In general, people don't want to wear suits, they don't want to wear ties. Women have been wearing yoga pants now for five to seven years and that's what's driven Lululemon's growth, which is on the list for a second time. It's just a phenomenal business that has created the yoga category and created this more-comfortable clothing category. The stock doubled at one point in 2018 and then gave some of it back with the drawdown last quarter. In the previous five years they were growing revenues 15% to 20% a year, but they had margin issues and the stock really didn't move for five years. Finally, last year, there came this big moment when all the stars aligned and they're just firing on all cylinders.
Q: Where does continued growth from here come from?
A: We think Lulu can get to a much larger fraction of Nike (NKE) over the next five years. The beauty of it is that it's almost 100% a North American business. It's less than 10% outside of the U.S. now, but the reality is that all of those trends around activewear and yoga are going to the rest of world. Lululemon has just been very methodical and slow about getting there, but now as they move toward Europe and Asia, it's a really powerful trend to be a part of. You can see that in the way the men's business is growing. It's growing at 100% year over year. I think that trend of people just wanting to be more comfortable and workplaces being more open means that people will continue to dress down. And Lulu is a huge beneficiary of that.
Q: What other company is growing because people want to be comfortable?
A: Crocs is another interesting beneficiary there. People don't want to wear formal shoes. Sandals and slip-ons are a lot more comfortable. We think Crocs is the largest sandal brand out there. It's been a very battleground stock, been really up and down. But new management has come in and done a great job. They've done all these partnerships with Balenciaga and Post Malone and other folks so they've gotten very cool again. Kids are into Crocs again, which is crazy. I think they've done it in a way where they've been really methodical about building the platform and not just driving the fad. And so, in that sense, this small $2 billion market cap company is shooting the lights out. They spent the last five years really cleaning up the entire business and restructuring it. So now whenever they deliver top line growth, which we think is accelerating, the bottom line flow-through is going to be phenomenal. They grew earnings per share 150% this year, and they're expected to grow 150% next year. I think that's meaningfully too low. Crocs is one we're really excited about.
Q: What about another repeat on your list, Twitter?
A: Twitter is really fascinating right now. They beat EPS numbers by a lot in Q3 and the stock popped pretty substantially, up 15% in a day. It's given it all back because of the market swoon and a Citron Research report that came out. Amnesty International found that Twitter is toxic to women, then Citron said that can have a huge impact on the stock, on the business. I'm not going to disagree with what Amnesty said. Twitter has a lot of problems. I don't think that's unique to Twitter. I think all social media and trolling on it is a big issue. But I think they're beginning to address it. It's going to take a long time but I don't think that it's going to translate into a meaningful impact on their business. We use their business pretty aggressively ourselves at Sentieo and we see great ROIs and I think lots of other folks do, too. But they do have their work cut out for them to fix that.
Q:What will drive a rebound?
A: The daily active users haven't been growing because they've been aggressively going out and culling troll accounts and bots. But the flip side is they can afford to do that because their monetization is going through the roof right now, sales are up over 20% year-over-year. A lot of that is being driven by video and they're still in the very early stages of video. So it looks to us again like the data correlates pretty well to them having a good quarter. They should beat. And I think some of the Citron concerns should recede at that point. The market multiple can just massively expand because they've got things going for them right now. It really feels like this is one with a lot of earnings momentum. It has shrugged off some of the other market trends and it's just a question of once they put up Q4 numbers that there's be some pretty substantial upside.
Q: What else is showing good trends on Mosaic?
A: LendingTree has been just an amazing stock over the last 10 years. These guys just figured out how to generate traffic and then put that in front of the right loan or mortgage provider. And so they continue to grow and grow and grow that business and have acquired into a bunch of traditional categories away from mortgages. Last year, the stock really got hammered despite very minimal misses from an actual estimates' perspective. They missed one quarter and then they beat the next quarter. And if you look at full-year estimates, they ended the year higher than they started. Despite that, people have shorted it because it's a high-multiple stocks and it was a proxy for the mortgage market because the mortgage market is what really drove the miss...
Our data works really well and it suggests that right when mortgage rates troughed, the Mosaic trend troughed, and since then they've rebounded really powerfully.
Q: Some investors still seem to be concerned about a slowing mortgage market.
A: They made a really smart acquisition of QuoteWizard [a car insurance comparison tool], which brings them into the insurance market which is a perfect corollary to their core market. They can apply all the same knowhow they have into that market. You're right, the big concern has been that mortgages are slowing but now it actually looks like that market is picking back up. Home builder Lennar (LEN) came out with pretty good numbers and the stock popped. But whether that market picks back up or doesn't, it's only 20% of the business today. All their other markets are growing really fast and they're much earlier stage.
Now, the stock is in a great position where short interest is really high, the multiple is half what it has been historically, and the Street is looking for 30% top line and bottom line growth next year. About two-thirds of that is just from the QuoteWizard acquisition. So that implies that the underlying organic growth of the business is like 10 to 12% top line growth, compared to the last few years' organic growth in the 40s. I think organic growth is going to be in the high 20s or low 30s this year. Top-line estimates could be 20 percentage points too low by the end of the year as they continue to acquire new companies in the space as well as build organically. So I think this is going to go right back to where it was last year [above $400/share] and it's going to get its old multiple back.
Q: What's the long-term trend there?
A: This is just the future. People want to comparison shop for financial products, and they want to buy them online. They're one of very few players who have really figured that out. It's almost like the gateway to all these other businesses that essentially this is a really important channel for them to buy those.
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