Back Then Forward
We want to spend the majority of this update focusing on 2022 and the positive changes that await both our fund and partners; but first we need to wrap up some statistics for 2021, explicitly just where equities stand in relation to valuation and more importantly future valuations..
Here are some numbers from Fact Set that best summarize the recent third-quarter action:
Q3 earnings reporting season for S&P 500 companies, with 92% reported:
- 81% of companies beat Wall Street analysts’ earnings estimates, better than the 5-year average of 76%.
- The average earnings beat was +10.1%, better than the 5-year average of +8.4%.
- 75% of companies beat analysts’ revenue estimates, better than the 5-year average of 67%.
- The average revenue beat was 2.8% above expectations, better than the +1.4%
5-year average.
- With 92% of firms reporting, the S&P 500 earned $53.60/share in Q3. That beat Street estimates by +10%.
Currently, the S&P 500 trades for 21.6x the current earnings estimate of $220/share, which is up from the $214/share projected at the beginning of the year. Lofty levels for sure, and even if you assume 10% growth for 2022 or $242/share that still leaves the market at a rich 19.4x earnings.
We admittedly aren’t too well versed in the Shiller P/E but did read that it now trades at 40. Or 40x its trailing 10-year earnings record – which would be a record. Again, we aren’t using this as a red flag, but do find it interesting nonetheless.
S&P 500 earnings growth for the fourth quarter is currently projected at 21.1% on revenue growth of 12.1%. For the calendar year 2021 we are still looking for an earnings growth of 44.6% on revenue growth of 15.5%. Impressive metrics no doubt but how sustainable given the challenges that lay ahead? Specifically, rising consumer inflation and the potential demand destruction it can cause.
Staying with equities:
It seems like we have spilled a lot of ink on these pages in 2021 lamenting the divergences between the large cap tech stocks and the small caps. Obviously, the big five: Apple, Amazon, Facebook, Microsoft, and Netflix have done a lot of heavy lifting. But as we have said time and time again the damage under the surface is much more concerning than is being reported by most news services.
Case in point – last Wednesday (24th) action saw a large number of stocks hitting new 12-month lows. The Nasdaq even set a record for the most stocks at new 12-month lows while the index was hitting a new 12-month high. There were more than 500 stocks hitting new 12-month lows while only 280 were hitting new 12-month highs. Those are not the sort of readings that generally occur in a strong market uptrend. – (data via Helen Meisler of Real Money)
Even more damning is when one looks at some of the popular individual names that have suffered tremendously in this “bull market”. Here are a few examples:
- Pinterest – 45.2% YTD
- Baidu – 30.9% YTD
- Zoom – 41.2% YTD
- ARK Innovation Fund – 15.3% YTD
We are very mindful that hand-picking a few select names and showing precipitous declines hardly pass as insightful. But there are several more examples we could use; the underlying point is that, despite the impressive average returns on the year, we constantly hear from traders and funds that are grumbling about just how poor many of their names trade. Breadth, which is a mathematical formula that measures the number of advancing and declining stocks, has been steadily poor for much of the year – even as the general indices made new all-time highs.
Lastly, if you purchased the Russell 2000 Small Cap ETF (symbol: IWM) ten months ago and held until November 30th, 2021 – you are down approximately 1%. Not exactly a statistic you would expect to hear at a cocktail party in 2021.
Now let’s focus on 2022. We have come up with 10 reasons (or catalysts) to be optimistic about in 2022: Optimistic in the sense that these inputs will soon provide tremendous opportunities.
- Meme/Reddit traders keep markets wild and create opportunities that weren’t around just 1.5 years ago. Organized short squeezes and massive call buying/ gamma events have led to some unprecedented moves in 2021.
- The coming change in Central Bank policies will result in a reset of asset prices and potential changes in yield curves of which we have not seen in years. This is the overwhelming story of 2022 and has the potential to literally affect every asset class on the planet. From Dogecoin to Bordeaux’s everything will be re-sized as rates become more volatile and inflationary pressures continue to lean on central bank policy.
- Supply chain issues will persist in 2022 affecting commodity prices, margins, consumer sentiment, and retail spending amongst others. We all certainly hope the logjam is sorted out in the coming months. But based on politics and the lack of willing labor force, it’s more a hope than a reality right now.
- Inflation fears, warranted or not, will continue to greatly affect commodity prices. Many have never traded in this environment, which will lead to increased volatility and wider price swings.
- Crypto is not going away and will only strengthen and grow. The volatility associated with this new asset class also creates many opportunities. Also, the passage of Bitcoin ETFs, advancement of more futures (Ethereum next?) and added liquidity into stocks associated with cryptocurrency (Coinbase, MicroStrategy, Riot Blockchain, Bitfarms) has expanded the ability to diversify and hedge cryptocurrency exposure.
- The (very hopeful) end of Covid in 2022 and what aftereffects will linger, both positive and negative. Specifically, companies such as Pfizer, Moderna, Zoom, Expedia, Peloton, and Amazon.
- The Metaverse – laugh at it if you will, but it’s a real thing and it’s not going away. We have already seen powerful moves in Facebook (now Meta), Nvidia, Microsoft, and Roblox as investors jockey to find the correct names to play this theme.
- ESG – Environmental, Social, and Governance is slowly becoming another asset class that newer investors are clamoring for. How exactly to quantify it and profit from it will be tricky, but it does create a whole other set of opportunities.
- Electric Vehicles (EV) – Currently, EV sales account for 2% of the global vehicle sales. This number is projected to hit 24% by 2030. Every known car maker on the planet is reconfiguring their plants to satisfy the coming demand. Add in the charging capacity that will be needed as well and we have an entire new industry to analyze and trade in the coming years.
- The return of currency trading. That may sound like an odd statement. Obviously, currencies haven’t gone away, but the shift in global central bank policies have tamped down the sector considerably. If and when we do finally see a marked change in policy next year, the $6.6 trillion currency market will provide some great opportunities.
We found this quote interesting regarding the Metaverse and its potential; we readily admit we need to get better versed in this space.
“Over the coming decades, the metaverse has the potential to become a multitrillion-dollar part of the world economy,” the CEO said at a conference in Seoul on Tuesday. “The next three years are going to be critical for all of the metaverse-aspiring companies like Epic, Roblox, Microsoft, Facebook,” he said in an interview after. “It’s kind of a race to get to a billion users, whoever brings on a billion users first, would be the presumed leader in setting the standards.” -epic games CEO Tim Sweeney
So those are some of the main inputs that have us excited for next year. Throw in the fact that we are expanding our cryptocurrency trading (#5 above) and are increasingly encouraged by the automated signal system we have been painstakingly testing for months now and we can hardly wait for the holidays to be over and ring in 2022.
It’s also very apparent that the future of finance, at least in the short-term (3-5 years) is headed toward the alternative asset space.
This was reiterated in a note out of JP Morgan this month where they said:
Interest rate risk should probably make room for credit risk and forex components should be seriously considered. Alternative assets and strategies such as private equity, hedge funds and dedicated infrastructure plays (from a credit and an equity perspective) become mandatory building steps in new investment and trading blueprints.
And the theme was reinforced in a November 16th Wall Street Journal article that highlighted the changes at the nation’s largest pension fund Calpers, and how they are exploring using both leverage and alternative assets in an attempt to try and meet their recently lowered investment-return target. They cited private equity and hedge funds as vehicles they were consulting with.
We are highly confident in saying that cryptocurrency exposure is one of the first topics of discussion that comes up in those meetings.
‘The move by the $495B California Public Employees’ Retirement System reflects the dimming prospects for safe publicly traded investments by households and institutions alike and sets a tone for increased risk-taking by pension funds around the country. -Wall Street Journal 11/16
Hardly lends itself to the “barbell” approach so many financial advisors preach about. The simple fact is that central bank polices, technology, the after-effects of Covid, and the speed with which markets trade and the number of exotic derivatives have permanently changed investing.
These two examples just reinforce what we have been and are trying to structure in the Four Arm Fund.
Between the end of 2020 and the end of 2025, global AUM in alternatives is expected to increase by 60%, equal to a CAGR of 9.8%. The rate of growth should far outpace global GDP and inflation, with significant real appreciation across the alternative asset space.
The chart below clearly represents where the trend is headed
And if you think higher rates aren’t a sure thing like so many (including us) are prognosticating, then all you have do to is look at the Fed Funds futures which are historically accurate and see that they are pricing in 67% chance of a rate hike by June 2022 – which would also coincide with the culmination of the current tapering program slated to wrap up by mid-year 2022 – at the latest.
On the last day of November, in a scheduled testimony to Congress, Chairman Powell both dropped the word “transitory” from his verbiage regarding inflation and signaled that the central bank could end its bond-buying program much earlier than expected (February), citing a strong economy and high inflation pressures.
“The economy is very strong and inflationary pressures are high. It is therefore appropriate in my view to consider wrapping up the taper of our asset purchases… perhaps a few months sooner.” – Jerome Powell, 11/30
The markets did not expect nor like those comments, especially considering they came just days after the troubling news of Omicron, and immediately went into risk-off mode for virtually all assets (except bonds).
Of course, all these grand taper plans could change quickly due to a deeper variant shock or a market tantrum much like we saw in December 2018 when Jerome Powell started to talk tough, only to take it all back quickly when he saw the market’s swift, violent reaction (is there anybody left who doesn’t think the Fed is glued to the moves in the equity markets?).
So, the Fed may really find itself in even more of a box if the Omicron is a real issue. And they have no one to blame but themselves. Years of reckless monetary policy, despite an environment that clearly did not mandate it (buying $20 billion in mortgage bonds a month during an absolute housing boom?), has constricted the Fed’s ability to positively effect policy when it is most needed. And now inflation is at the forefront of everyone’s mind dangerously approaching levels where it permeates social angst, re-election possibilities, and drastically hampers savers who are seeing their real rate of returns approach –4%.
All this while we were starting to see the beginning of a rate tightening cycle in lesser regarded central banks – specifically The Bank of New Zealand and South Korea. A surging virus with elevated levels of inflation is the worst-case possible scenario come true for central bankers trying to tighten policy or aid flailing markets in need of liquidity.
2022 is shaping up to be a fascinating year on that front. Got volatility?
On Monday November 29th, we all finally got the news long-time suffering Twitter bulls have been waiting for….Jack quit. CEO Jack Dorsey finally realized that being co-CEO of two major companies wasn’t a great way to manage either. And given his love for Bitcoin it’s not a surprise that he chose to stay with Square.
The stock price surely hasn’t liked Jack in charge for some time now. While big-cap tech stocks have soared so far in 2021, Twitter (even after the Jack news) finds itself down 14.3% YTD. Twitter must be one of the most frustrating companies to own in recent history. They possess a global brand that should be the envy of every tech company. They have a revolutionary platform that is the global heartbeat for millions on a daily basis. And they have the potential to massively monetize this brand and grow their market cap into the Facebook stratosphere.
But the perennial problem with Twitter is that is always a “hope” story. At the investor day in February the company promised to double revenues and DAU’s – which sent the stock to new all-time highs; only to see it crater 42% since.
Even the news of Dorsey quitting, which initially popped the stock over 12%, succumbed to steady selling and the stock even closed down almost 2% on the “good news.”
Those considering buying or staying with Twitter have to convince themselves that new CEO Parag Agrawal will steer this wayward ship into stable profitable waters and begin to rival the metrics of Facebook, a company that is having an identity crisis and showing signs of vulnerability due to the social backlash regarding their polices.
But cynics will question why they promoted from in-house and did not look for a more media savvy big name CEO? And how is a 10-year employee going to create change when he has been part of the problem, not the solution?
Note that in the last eight years Facebook has seen their market cap soar by 1100% while Twitter’s crawled to measly 30%. As for price? Twitter’s stock price has appreciated 10.7% since they came public in October of 2013. By comparison, Facebook’s price appreciation in that same period has been 577%.
And you wonder why Twitter shareholders remain skeptical despite finally getting what they wanted this month.
Bitcoin Update:
After hitting an all-time high of $68,521 on November 5th, the price of Bitcoin has now retreated nearly 20% and currently stands at around $57,000, still up nearly 45% for the year. There is no arguing that Bitcoin, and all cryptocurrencies, are volatile assets. But we have to always keep in mind that this is a new burgeoning asset class and that comes with volatility as it tries to find its footing and mature – which it undeniably is. Bitcoin is currently 12x more volatile than the SP-500, implying a 1.7% move in the index would correlate with Bitcoin. Which is almost laughable these days as a 1.7% move in the SPX would feel like a 12% move as evidenced by the VIX permanent teenage status for most of this year (last week of November notwithstanding).
One interesting fact we came across this month amidst the nearly 20% drawdown is that the bitcoin network hit a new all-time high on the 23rd when looking at the number of bitcoin addresses on-chain that hold at least 0.01 bitcoin balances. The new all-time high came in at 9,245,770.
Apple CEO Tim Cook made some positive comments this month regarding Bitcoin. He said it was part of a diversified portfolio and admitted to owning some personally. He, however, did not say that Apple would start accepting Bitcoin as payment anytime soon or adding it to its massive balance sheet. But he also did not rule it out.
Some real Bitcoin believers have always preached that Bitcoin will act as a safe haven when the ports become stormy due to its unique structure and anti-establishment mantra. Well, they are wrong. Really wrong. Part of accepting Bitcoin as a true new asset class is also admitting to the fact that it will trade like other asset classes. When liquidation waves hit in late November across most asset classes, Bitcoin fell right in-line with the rest. There is no de-coupling and to think that will change anytime is just pure hope – and we all know there is no room for such hope in this business.
Bitcoin has a great future but no, it’s not different this time when emotions run high.
The digital economy is going to challenge multiple generations with the question “Are you curious enough to learn something new and humble enough to realize some your prior knowledge may be a liability instead of an advantage?”-Antony
Looking Forward and other Market Commentary:
Before we head home for the remainder of the holidays we have some significant macro business to attend to. Believe it or not, there is a slew of important events scheduled: They are as follows:
- December 4th: November jobs data
- December 10th: CPI Data
- December 11th: PPI Data
- December 8th: Bank of Canada meeting
- December 15th: FOMC meeting
- December 16th: ECB Meeting
- December 16th: Swiss National Bank meeting
- December 16th: Bank of England meeting
- December 17th: BOJ meeting
We’ve already gone over the earnings summary in the pages above and there are only a handful of names reporting between now and Christmas. The season will go into hiatus until mid-January of 2022.
But between the events listed above and the daily tracking of the Omicron variant, vaccination rates, hospital occupancy rates, and potential case spikes due to colder weather and holiday gatherings – we will have plenty to keep our eyes on in December.
We have hopefully properly expressed our goals for 2022 and just how enthusiastic we remain on the numerous prospects that are out there. The comments from Fed chair Powell on the 30th only reinforced this certainty with regard to our approach and access to various markets and strategies. The newest being our automated signal and cryptocurrency trading development.
Occasio Partners, LLC 465 California Street, San Francisco, CA