The iShares U.S. Medical Devices ETF has pulled back off highs and below its 50-DMA ahead of Q3 earnings. Despite this, it has held up well relative to the broader market largely because of its mega-cap constituents. In this week’s webinar, Executive Director, Research Analyst Raj Gupta will review support and resistance levels for the group, preview Q3 earnings, and reveal which ideas he believes have the fundamental and technical characteristics to climb to new highs. He will also discuss international ideas that have best opportunity going forward.
Author: Raj Gupta
Raj Gupta is Director, Research Analyst.
After joining the firm in 2002 as a research analyst, Raj was appointed senior equity analyst in 2006, and lead senior equity analyst in 2014—largely because of his ability to select outperforming stocks. He acts as an expert in the O’Neil Methodology and contributes to the direction of product and service line development. He recommends securities for addition to or removal from the U.S. Focus List, or USFL, and the associated alerts to clients. During his tenure, he was part of the leadership that developed the Global Focus List, which marked the firm’s successful expansion into international equity recommendations. He is also a lead on the IPO Rewind report and contributes to weekly summaries on the performance of the U.S. market. Much of his expertise is delivered as highly customized service to clients.
RAj earned his Bachelor’s degree in Economics from the University of California, Santa Barbara. He began working at the firm directly out of college, driven by his passion for investing and stocks. An avid soccer player, he built and managed an adult league in the Los Angeles area, in which he still plays. He also enjoys international travel; he and his wife commit to at least one major adventure a year.
Viva Biotech
Key Points:
- We recommend buying shares after a strong break out from a stage-one IPO base in heavy volume. The company trades at a steep discount to peers and expects high double-digit growth over the next two years outpacing industry growth of 11%.
- Favorable industry tailwinds: China’s CRO market will grow at a 28% CAGR to reach $14B by 2022. R&D Outsourcing in China is expected to accelerate to 40% in 2022 from 31% in 2017. Viva is the fourth largest player in China with 3% market share in terms of China-based revenue. Viva earned H1 2019 gross margin of 50%, higher than Wuxi’s 40%, Pharmaron’s 33%, and Charles River’s 37%.
- Sticky customer base: In H1 2019, revenue generated from repeat customers accounted for 83% of total revenue in the CFS segment, up from 81% in 2018. More than 60% of existing customers have used Viva’s services more than once. In H1 2019, the company added 23 new customers, taking its total to 388.
- Unique equity-for-service (EFS) segment: Viva is a pioneer of the incubation business model, where it provides drug discovery and/or incubation services to select customers in exchange for equity interest. Thus far, Viva has realized gains in four of its incubation projects, with return rates of 212%, 494%, 200%, and 315%. The company targets adding 35 and 50 additional incubation projects in 2020 and 2021, respectively, for a total of 137.
- Double-digit H1 growth: Revenue increased 84% y/y to RMB 142M, driven by 72% y/y growth in the CFS segment. Adjusted EPS grew 33% y/y to RMB 0.08.
- Looking forward: Consensus expects 2019 revenue and EPS growth of 74% and 20%, y/y, respectively. For 2020, consensus expects revenue and EPS growth of 64% and 92%, y/y, respectively.
Global Health Care Sector—Medical Devices and Equipment
Some highlights from the report:
- The iShares U.S. Medical Device ETF ( IHI ) is consolidating within a 7% range. Near-term resistance is the 50-DMA before all-time highs at ~$253. We see strong support at ~$234, which is the top of the prior base. The majority of Medical Device names are also consolidating within longer-term ranges with near-term direction dependent on Q3 results and guidance. We advise a selective approach as we are still looking for a break into new highs that we believe could lead to a new trend higher.
- Next year’s growth/valuation remains in line with historical medians. The median five-year EPS growth rate is 15% and median five-year average P/E ratio is 32x. 2020 EPS is expected to grow a median of 13% with a median P/E ratio of 26x.
- Q3 earnings are expected to decelerate sequentially, but reaccelerate in Q4 and into 2020 due to favorable comps. IHI constituents expect median Q3 2019 EPS and revenue growth of 9% and 6%, y/y, respectively, slowing from 10% and 8% in Q2. Q4 2019 EPS and revenue is expected to grow 10% and 9%, y/y, respectively.
- U.S. Focus List ideas include EW, HAE, and IDXX.
- European Focus List ideas include AFXX.DE, ELKB.SE, SRT3X.DE, COL.DK, and LONN.CH.
- APAC Focus List ideas include NAN.AU, SDW.HK, and WUXA.HK.
Market View
U.S. Market
The U.S. market remains in a Rally Attempt. The S&P 500 and Nasdaq nearly staged a follow-through day Friday, before selling off sharply during the final few minutes to close in the lower half of the day’s session. Monday will now mark day eight of the attempted rally. A follow-through day should feel like an explosive rally, with indices preferably closing up 1.7% or more on heavier volume than the day before. We would recommend a
gradual increase in risk should a follow-through day occur next week.
Following Friday’s move, Technology, Retail, and Utility are now trading 1% or more above their respective 50-
DMA. Five sectors, including Consumer Cyclical and Technology, rallied 1% or more, while defensive sectors
such as Utility lagged behind, trading down on the session. ~60% of S&P 500 stocks are back above their respective 50-DMA, up from just 47% on Thursday.
Market View
U.S. Market
The U.S. market is in a Downtrend. The S&P 500 and Nasdaq gapped down below their respective 50-
DMA this week resulting in a market downgrade. This is the third severe break below that key moving
average over the last several months. The first occurred on May 13 and the second occurred on August 5. What followed was a series of short three-day rallies toward 50-DMA resistance before another
decline. Therefore, despite a strong rally to close the week, it is best to wait for another follow-through
day coupled with a multitude of quality ideas emerging from consolidation before increasing risk.
Market View
U.S. Market
The U.S. market remains in a Confirmed Uptrend. The S&P 500 pulled back to its 50-DMA this week, closing
just above that key level of support. Despite the pullback, the index is still trading just 2% off all-time highs.
Should the index close below its 50-DMA next week, we will shift the market status to Under Pressure.
Market View
U.S. Market
The U.S. market remains in a Confirmed Uptrend. The S&P 500 and Nasdaq are testing resistance at or near
all-time highs with four and five distribution days, respectively. One distribution day expires on the S&P 500 next
week and two expire on the Nasdaq. Support remains the rising 21- and 50-DMA on both indices.
Eight of 11 O’Neil sectors are trading 1% or more above their respective 50-DMA, led by Utility, Energy, and
Health Care this week. 142 of 197 O’Neil Industry Groups and ~75% of S&P 500 stocks are also trading above
their respective 50-DMA. Notable moves higher this week came from Solar, Medical Equipment, Home Builders,
and Reits.
Zoetis Update
Key points:
- Fundamentals intact; hold positions and look to add when right side of base begins to form: We recommend holding ZTS shares despite near-term weakness, while looking to add to positions when the stock begins building the right side of a new base. We believe the stock will hold support around its 100-DMA should it break its 50-DMA. Given an upcoming new product launch, double-digit growth across leading dermatology products, and a new presence in veterinary diagnostics following their 2018 acquisition of Abaxis, we believe Zoetis will continue to beat consensus EPS and raise guidance going forward. Given eight straight quarters of beating consensus (average beat of 7.4%), we believe there is upside to 2020 consensus EPS of $3.97 with the multiple likely remaining between 30x and 35x.
- Leadership position in $150B animal health industry: The company estimates its addressable market to be $34B, which is expected to have a CAGR of 5-6% to reach $41B by 2022. Growth is driven by increasing need for animal medicine, with 43M more dogs, 18M more cats, and 9M more horses to be treated by 2026. International markets are underpenetrated at 40%, compared with the U.S. at 70%.
Market View
The U.S. market remains in a Confirmed Uptrend. The S&P 500 is now testing resistance at all-time highs, while
the Nasdaq is trading ~2% below that level. Distribution was unchanged this week at three and five days, respectively, with one expiring on each index on Wednesday. We will be looking for a breakout into new highs in
the coming days, however, to remain constructive on a potential pullback, we will be looking for the major averages to hold above their respective 21- and/or 50-DMA while avoiding any significant pickup in distribution. The
21-DMA is set to cross above the 50-DMA on both indices next week
Market View
The U.S. market has been moved back to a Confirmed Uptrend. The S&P 500 and Nasdaq are consolidating
gains after gapping above resistance at the 50-DMA. To remain constructive, we would like to see the 50-DMA
serve as support as more high quality ideas emerge from bases. Currently both indices are less than 2% off alltime highs with five distribution days on the Nasdaq and three on the S&P 500.
