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Why Cybersecurity Stocks Are Soaring

InvestorPlace - Mon Mar 7, 2022

A close-up shot of fingers over a keyboard with blue and white text overlaid.Source: Shutterstock

The FBI and Cybersecurity and Infrastructure Security Agency warned American companies over the weekend of the dangers of potential ransomware attacks, which hold company data hostage until the hackers receive payment.

This warning came after hackers hit the Ukrainian government websites with Denial of Service (DoS) attacks, flooding the network with traffic so no one could access the sites. Data wiping malware, which wipes a computer entirely, rendering it inoperable, was also detected.

Cyberattacks present an incredible danger to companies, as the damage caused to companies’ computer systems not only disrupt the supply chain but could also leak company data, damage reputations and halt company operations entirely.

I should add that cyberattacks are expensive. In 2021, cyberattacks cost companies an average of $4.24 million, up nearly 10% from the cost of attacks in 2020 and higher than any other year in the 17 years since IBM began publishing this data.

Expeditors International of Washington, Inc. (NASDAQ:EXPD), NVIDIA Corporation (NASDAQ:NVDA) and Toyota Motor Corp. (NYSE:TM) are experiencing the pain a cyberattack can bring, as they were all targets of cyberattacks in the past two weeks.

On February 20, EXPD announced that hackers attacked its systems. The company has launched an investigation into a cyberattack that shut down most of its global operations. EXPD did not confirm if it was a ransomware attack, nor if the attack had any ties to Russia.

The company released the following statement in a new investor filing:

“The Company expects that the impact of the prior shutdown and the ongoing impacts of the cyber-attack will have a material adverse impact on its business, revenues, expenses, results of operations, cash flows and reputation. At this early stage, the Company is unable to estimate the ultimate direct and indirect financial impacts of this cyber-attack.”

NVIDIA Corporation suffered an attack last week that resulted in theft of company data. A ransomware operation under the name ‘LAPSUS$’ took responsibility for the attacks, which leaked employee passwords, credentials and company proprietary information online. The group has called on NVIDIA to remove its Lite Hash Rate (LHR) technology in its graphics cards and has threatened to leak more data if the company does not comply.

While operations have continued, NVIDIA went offline for two days, likely to ensure no further damage could be done. The company even responded with a “hack back,” breaking into and encrypting the group’s servers so they can no longer retrieve the stolen files.

Toyota lost 13,000 cars of output Tuesday when a cyberattack led to halted production at all of the company’s Japan plants. The attack on domestic supplier Kojima Industries Corporation, which provides the plastic and electronic components to the automakers, kept the company’s production down until Wednesday.

Wall Street Flocks to Cybersecurity Stocks

On the investing side, it should be no surprise that Wall Street has been flocking to cybersecurity companies in recent weeks. The reality is that cybersecurity companies stand to make more money as companies up their security. So, while the Russian invasion of Ukraine has sent the markets spiraling, cybersecurity stocks were actually up in February.

As you can see in the chart below, the First Trust NASDAQ Cybersecurity ETF (NASDAQ:CIBR), which tracks 35 cybersecurity stocks, significantly outperformed the NASDAQ, S&P 500 and Dow. CIBR ended February up 6.4%, while the NASDAQ, S&P 500 and Dow fell 4.1%, 3.4% and 4.1%, respectively.

Now, while you might think all cybersecurity stocks are a safe bet, not all cybersecurity stocks are equal.

Let’s go back to CIBR for a moment and take a look at its top 10 holdings. As you can see below, not all of the stocks receive top scores in my Portfolio Grader.

Half of the top 10 earn a total grade of ‘B’ or higher. But the other half of the top 10 are considered a “Hold” or “Sell.” Zscaler Inc. (NASDAQ:ZS), which is the number-one holding in CIBR, earns a C-rating.

Or we can consider Okta Inc. (NASDAQ:OKTA), the fourth top holding in CIBR, and it holds an ever lower rating in Portfolio Grader. Specifically, OKTA it has a D-rating for its Total Grade, making the stock a “Sell.”

Its D-rating makes perfect sense given the company’s earnings results for its fourth quarter in fiscal year 2022, released on Wednesday, March 2. OKTA reported an earnings per share loss of $0.18 on $383 million in revenue. Analysts were expecting an earnings per share loss of $0.24 on about $360 million in revenue, so OKTA topped analysts’ earnings and revenue estimates. For fiscal year 2022, revenue increased 56% year-over-year to $1.30 billion.

However, looking to fiscal year 2023, Okta’s guidance isn’t as rosy. The company expects revenue of $1.78 billion to $1.79 billion. It also anticipates an operating loss of $185 million to $180 million and a net loss of $1.27 per share to $1.24 per share.

The weak forward-looking guidance spooked Wall Street, triggering a more than 8% drop on Thursday.

Now, folks following my Portfolio Grader would have known to stay far away from Okta heading into earnings.

So, Otka certainly does not qualify as a top 10 stock in my Portfolio Grader.

With that said, not all of the top 10 cybersecurity holdings are bad stocks. In fact, there are two that I think are great buys right now:Cloudflare Inc. (NYSE:NET) and Fortinet, Inc (NASDAQ:FTNT). Both stocks reported strong earnings are both ranked as ‘Buys’ in my Portfolio Grader. They’re also two of my favorite cybersecurity stocks I recommend in my Growth Investor service. Let’s take a look:

Cloudflare Inc. is one of the largest networks in the world, with about 25 million internet properties housed on its network. Simply put, Cloudflare’s online platform acts as a go-between folks’ internet requests and the servers housing these internet properties to ensure that folks are able to access websites and apps quickly and securely.

Cloudflare’s system provides protection against cyberattacks. The detection and blockage of these attacks has created 30% faster loading speeds for websites. The company has data centers in more than 200 cities around the globe to process all of these requests (an average 20 million HTTP requests per second!) and to offer security solutions to protect internet properties from malicious attacks. The company’s platform also helps companies minimize costs given that they don’t need to manage or integrate individual network hardware.

I should add that NET has more than 3.2 million customers, including about 16% of the Fortune 1000.

The company posted fourth-quarter results on February 10. Fourth-quarter earnings surged to $0.1 million, up from an earnings loss of $7.4 million in the fourth quarter of 2020. Fourth-quarter revenue jumped 54% year-over-year to $193.6 million, topping analysts’ estimates for $184.9 million.

For its fiscal year 2021, Cloudflare achieved total revenue of $656.4 million and reported an earnings per share loss of $0.05. That represented 52% annual revenue growth and compared to an earnings per share loss of $0.12 in fiscal year 2020. Analysts were expecting an earnings per share loss of $0.05 and revenue of $647.59 million.

Company management noted that 2021 was the fifth-consecutive year that Cloudflare achieved compounded revenue growth of 50% or more. And the company expects momentum to continue in fiscal year 2022. For full year 2020, Cloudflare expects total revenue between $927 million and $931 million and earnings per share between $0.03 and $0.04.

The company ranks strongly in my Portfolio Grader, with an overall ‘B’ grade, making it a solid buy.

Fortinet, Inc. provides unified security solutions that can be deployed over digital networks to protect users against malware, spam and network intrusions. The company’s services and products have been in top demand as individuals and businesses upgrade their security efforts.

On February 3, FTNT released better-than-expected earnings for its fourth quarter and fiscal year 2021. Fourth-quarter revenue rose 28.8% year-over-year to $963.6 million, beating consensus estimates of $960.46 million.

Fourth-quarter earnings grew 17.3% year-over-year to $205.8 million compared to $175.5. million in the fourth quarter of 2020. Analysts expected earnings of $1.15 per share, so Fortinet posted a 7% earnings surprise.

For fiscal year 2021, Fortinet achieved total revenue of $3.34 billion and earnings of $666 million. These results represent annual revenue growth of 28.8% and earnings growth of 18.4% and topped analysts’ estimates for earnings of $3.91 per share on revenue of $3.34 billion.

Fortinet has achieved revenue growth of 20% or more for three years straight. Looking to fiscal year 2022, FTNT anticipates revenue between $4.275 billion and $4.325 billion and earnings per share between $4.85 and $5.00.

The stock ranks very nicely in my Portfolio Grader.

The stock earned a combined ‘B’ Fundamental Grade and ‘A’ Quantitative Grade to give Fortinet an ‘A’ Total Grade. So, not only does it boast solid fundamentals, but it’s seeing persistent institutional buying pressure, too. This makes it a strong buy in my book.

The bottom line: Cybersecurity stocks are becoming go-to investments for investors, but that doesn’t mean that every cybersecurity company is a great buy right now. So, before you jump into just any cybersecurity stock, consider its fundamentals first.

I should note that cybersecurity stocks are not the only stocks outperforming in the past month. Energy stocks have been on fire, too. I explained exactly why in yesterday’s Market360 article, so if you missed it, I encourage you give it a read.

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The Editor hereby discloses that as of the date of this email, the Editor, directly or indirectly, owns the following securities that are the subject of the commentary, analysis, opinions, advice, or recommendations in, or which are otherwise mentioned in, the essay set forth below:

Cloudflare Inc (NET), Expeditors International of Washington, Inc. (EXPD), Fortinet Inc. (FTNT), NVIDIA Corporation (NVDA), Toyota Motor Corp (TM)