This year certainly started off better than last year, but over the past 16 months the Dow Jones industrials are down almost 8%, the S&P 500 over 12% and the Nasdaq a stunning 13%. Despite a solid rally to start the year, we are still just treading water, and we could be poised for a big sell-off after what has been a classic bear market rally.
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While conservative growth and income investors can buy stocks with big dividends or guaranteed money markets, which could be at 5% soon, what are aggressive growth investors to do at what seems like a difficult impasse? One good idea now is cloud software stocks that have been battered and could be poised to shoot higher in the second half of this year.
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A new Goldman Sachs research report focuses on three cloud software companies that, despite nasty headwinds over the past year, look poised to take off over the balance of calendar 2023. All three have been pounded and are offering outstanding entry points. Goldman Sachs noted this in its extensive report on the three consumption software stocks:
Based on our conversations, investors have generally been more cautious on consumption names in the last 12 months due to the less-predictable nature of revenue relative to recurring models such as ServiceNow or Workday, particularly against a worsening macro-backdrop. While we have maintained the position that software is a growth-cyclical industry and consumption names are most likely to lead us on the way down due to real-time revenue recognition and higher susceptibility to customers’ end-market performance, the opposite also holds true if we see stabilization or incremental improvement to the macro-environment.
While still cautious, the analysts are looking ahead and also noted this:
From our perspective, we believe that the consumption peers may be among those furthest along in setting achievable fiscal year guidance targets relative to our broader coverage given pronounced revenue deceleration (30-40 pp.), still healthy backlogs and new logo wins, and management teams factoring for no incremental improvement to operating conditions through the remainder of the year. Better alignment between management guidance and buy-side expectations at the start of 2023 could set the stage for better stock performance for the consumption models.
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Note that economic worries and tightening budgets are accelerating a move to consumption pricing, which charges software customers based on how much they use a product rather than a recurring annual or multiyear subscription fee.
While these three stocks are Buy rated at Goldman Sachs, it is important to remember that no single analyst report should be used as a sole basis for any buying or selling decision.
Datadog
Some investors may not be as familiar with this name, but it holds tremendous upside potential and is on the Goldman Sachs Conviction List of top stock ideas. Datadog Inc. (NASDAQ: DDOG | DDOG Price Prediction) engages in the development of monitoring and analytics platforms for developers, information technology operations teams and business users. The company’s platform integrates and automates infrastructure monitoring, application performance monitoring and log management to provide real-time observability of its customers’ entire technology stack.
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Datadog recently announced the extension of Network Performance Monitoring (NPM) to Windows. Datadog NPM now monitors the performance of network communications between applications running on Windows Server and Linux, providing seamless network visibility across cloud environments, on-premises data centers and operating systems.
The Goldman Sachs research report said this:
Optimization of cloud workloads at the Hyperscaler level resulted in Datadog’s larger customers lowering spend on the platform. Despite that, Datadog has been able to add net new enterprise customers at a healthy pace. The company ended fiscal year 2022 with +2,780 (+38% year-over-year) customers spending $100K and 317 customers spending $1million annual-run-rate growing +47% y/y.
Goldman Sachs has a $114 price target on Datadog stock. That is well above the consensus target of $99.42 and Tuesday’s final print of $62.69, which was down almost 5% on the day. Shares recovered 5% in aftermarket trading due to strong Microsoft results. Hitting the Goldman Sachs target would be a 75% gain.
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MongoDB
Many investors may not be aware of this software leader either. MongoDB Inc. (NASDAQ: MDB) provides general purpose database platforms worldwide.
The company offers:
- MongoDB Enterprise Advanced, a commercial database server for enterprise customers to run in the cloud, on-premise or in a hybrid environment
- MongoDB Atlas, a hosted multi-cloud database-as-a-service solution
- Community Server, a free-to-download version of its database, which includes the functionality that developers need to get started with MongoDB
The company also provides professional services comprising consulting and training.
The stock recently garnered some upgrades from top Wall Street firms in addition to the positive coverage at Goldman Sachs, which said this:
MongoDB saw a record +2000 Direct Customer additions in 2022 versus +1400 in 2021 and +250 in 2020. We note that MongoDB’s record new business activity comes despite worsening operating conditions through the course of 2022, which we believe demonstrates the growing strategic value of its platform and strong return-on-investment for its customers.
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The Goldman Sachs price target of $280 compares with the $253.12 consensus target, as well as Tuesday’s $212.91 close. That was down almost 5% on the day, but MongoDB stock also rallied big after the market closed. Hitting the Goldman Sachs target would be a 25% gain.
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Snowflake
Surprisingly, Warren Buffett has shares of this top software company in the Berkshire Hathaway portfolio. Snowflake Inc. (NYSE: SNOW) provides cloud-based data platforms in the United States and internationally. Its platform offers Data Cloud, an ecosystem that enables customers to consolidate data into a single source of truth to drive meaningful business insights, build data-driven applications and share data.
According to the research report:
Snowflake added a record +146 Customers >$1million in 2022 vs. 107 in 2021 and +36 in 2020, while adding +1884 total new customers (vs. +1805 in 2021). We believe this speaks to the importance CIOs place on data and analytics despite ongoing budget tightening. Despite the strength in new business activity, Snowflake cited more methodical deployment times in younger customer cohorts (primarily G2K) as these customers seek to better control costs in an uncertain environment, which drove its below-Consensus product revenue guide of 40% in fiscal 2024.
The $185 Goldman Sachs target price is higher than the $181.21 consensus target. The stock closed almost 5% lower Tuesday at $135.48, and like the rest, shares rallied later after the positive reports from big tech. Hitting the Snowflake stock target would be a solid 30% gain.
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With earnings reports from these top companies still to come, it makes sense to consider partial positions now. The potential for the market to trade lower, combined with the fact that any earnings miss, or poor forward guidance, most of which should be factored in already, could cause any of these sector leaders to take a further hit.
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