Smallcap Discoveries: Weekly Update: August 15

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Subject: Smallcap Discoveries: Weekly Update: August 15 - 19

August 15 - 19

Market Commentary

Markets

We are finally seeing a pullback in the markets. Nasdaq led the markets lower this week and ended lower by 2.6%. The DOW was lower by only 0.1% while the TSX was down 0.3%. Nasdaq has gained over 25% from the lows it reached in June. I’ve been suggesting we were getting into overbought territory for a few weeks now and this is a necessary and healthy correction to ease some of the overbought conditions. The question, of course is how much more do we have to correct?

This rally has been one of the most hated and questioned rallies I’ve seen in quite some time. Too many pundits and investors have been calling for an apocalyptic decline and many continue to claim we are just in a bear rally, and we will soon start hitting new lows. I ran a twitter poll this week asking if we are witnessing the start of a new bull or are we just seeing a bear rally. The results were a little more surprising than I expected. 72.5% of respondents think we are witnessing a bear market rally and only 27.5% think we are in a new bull market.

To be fair there are a lot of things to be worried about but if people are bearish that’s usually an indication that they have acted on that sentiment. They are likely sitting on cash or have sold their positions and may even be short. A new bull market needs these conditions to be able to thrive. If everyone is bullish and are in the market, who is left with cash to buy? My guess is that if I had run this poll near the top of the bull market you’d have a very different set of results. The bulls were all in with little cash left to buy.

Hedge funds are the most net short the S&P 500 they have been since the summer of 2020.

What happened shortly after that?

The S&P 500 rallied by about 60% and Nasdaq rallied over 70%

Heavy fund flows out correlate well with market bottoms and the opposite correlate with market tops.

If you think fund managers are the smart money, keep this in mind, roughly 85% of fund managers don’t beat the indexes….

Bearish prognosticators grab the lion’s share of investor’s attention when the markets have been falling. When things feel negative the bears sound smarter. Bearish commentators get media attention. They help foster the most bearish sentiment usually just as the markets are the most stretched to the downside. The same goes for the bulls at the tops. Remember how many times we saw Cathy Woods on TV when things were rocking? No one wants to listen to her right now. Bullish commentators sound like silly desperate cheerleaders in down markets. As Morgan Housel stated so well “In investing, a bull sounds like a reckless cheerleader, while a bear sounds like a sharp mind who has dug past the headlines – despite the record of the S&P 500 rising 18,000 fold over the last century”.

So, while “past results are not a guarantee of future performance” the excessive bearishness seems to be priced into the markets. I’m liking what I see and subject to some overbought conditions shorter term, will maintain a significantly bullish stance…

Energy

Another good week for the energy complex. After flirting with 6-month lows during the week WTI oil closed back above $90 per barrel, at $90.84. Natural gas keeps testing multi year highs and closed the week at $9.28.

European natural gas prices are a completely different story as ongoing shortages and Russian gas disruptions cause chaos and uncertainty ahead of the winter heating season. Natural gas in Europe has reached the equivalent to $410 per barrel of oil!

With the summer driving season slowly coming to an end gasoline prices were steady closing the week at $3.00 per gallon.

We saw a drop of one drilling rig from the active North American land drilling fleet this week according to Baker Hughes. Drillers are still very active.

Commodities

Gold continues to weaken as the US dollar continues to strengthen.

If there is one thing (there isn’t just one) that concerns me is the overall strength in the US dollar. A very strong US dollar has the potential to break things. Emerging economies and entities that have US dollar denominated debt will struggle significantly with a stronger dollar and while the last few weeks it had looked like we could have started to see a break down in dollar strength this week the dollar began to rally again. This will help temper US based inflation pressures but increases inflation pressures outside the US as so many commodities are priced in US$.

Most food commodities were flat to lower while lumber and steel were sharply lower.

Stocks

Most equity indexes have a had a strong rally off their June lows and have entered overbought territory so we can expect some consolidation and profit taking. There have been some exceptional gains over the past few weeks and some of this strength has finally reached microcap land. Many of the microcaps we have been following (and some that we have been buying) have been “catching a bid” and generally showing better strength than we have seen in quite some time. Many microcaps are still very far off their highs and while some have had decent bounces, they have a long way to go to reach previous peaks. The poor quality or bubble stocks of the past few years may never get back to old highs, but the fundamentally strong companies are now starting to react very positively to good earnings and corporate progress. It’s encouraging to see good news turn into good share price movement.

Some of the names near and dear to our hearts that have risen nicely over the last 30 days include, GEO.T up 20%, AEP.V up 43%, CZO.V up 42%, IPA.V up over 60% and IVX.V up a whopping 82%. Most of these have moved on the back of solid earnings reports. This coming week will bring us more quarterly financials and likely more things to talk about.

In the life science sector, we saw a few more interesting announcements. Sanofi announced a $1.2B biobuck partnership deal with San Fran based artificial intelligence company Atomwise. The interest in AI based drug discovery continues to increase and helps highlight what the potential value could be for other similar platforms like IPA’s Biostrand technology.

Roche, through their Genentech subsidiary, plunked down $60 million in upfront cash and up to $590 million in further milestone payments for private company Jemincare’s clinical stage prostrate cancer drug. The market for life science collaborations and licensing deals continues to heat up.

Shares in Immunoprecise Antibodies (IPA.V) have had a very strong move in the last few weeks. Insiders have been consistently buying shares and almost seem to be in a hurry to buy. While the sector has finally generated a strong tailwind it appears that there may be something else generating excitement. While the volume of trading is still quite low compared to the levels, we saw last year it’s still encouraging to see this price action and insider activity. "Insiders might sell their shares for any number of reasons, but they buy them for only one: they think the price will rise." Peter Lynch

And on the subject of insider activity, insider buying and selling is something that we find to be an important criteria in our initial due diligence and maintenance due diligence. You can glean a lot of insight by following insider buying and selling especially when it’s a multitude of insiders doing the same thing.

CANSLIM Contenders

Envela Corporation (ELA – AMEX)

Closing Price: $8.16

Envela is the North American re-commerce leader, enabling a better world through the circular economy. It empowers buyers and sellers to extend the useful lives of specialty and durable goods, and to seizes retail, recycling, and reverse-logistics supply-chain opportunities. This financially benefits consumers and manufacturers alike. Envela operates primarily via two re-commerce business segments, DGSE and ECHG. DGSE (Envela's B2C portfolio) operates retail stores and online sites offering luxury hard assets and precious metals, including gold, silver, and diamonds. ECHG (Envela's B2B portfolio) re-commercializes consumer electronics and IT equipment, and also provides end-of-life recycling services for products in a variety of industries. Envela conducts its re-commerce operations at retail and wholesale levels, through distributors, resellers, dedicated stores, and online.

Website: https://envela.com/

Sector: Consumer Cyclical – Luxury Goods

Last quarter revenue growth: 26.4%

TTM revenue growth: 35.6%

Last quarter EPS growth: $0.14 vs $0.08

Trailing 12-month PE: 18.1

Insider Ownership: 72.0% (per Yahoo Finance)

Institutional Ownership: 5.7% (per Yahoo Finance)

Recommended Reading

Factfulness - by Hans Rosling – Ten Reasons We’re Wrong About the World – and Why Things Are Better Than You Think

This book will make you re-think the way you absorb news and data. We have way too many biases and misperceptions. The world is a better place than we think it is.

“One of the most important books I’ve ever read―an indispensable guide to thinking clearly about the world.” – Bill Gates

Buys and Sells This Week