San Francisco, CA
“This is the business we have chosen.” – Hyman Roth, The Godfather
The markets roared back to life in October, in spite of its being the “scariest” month of the year and in spite of the media’s infatuation with reminding everyone of the two crashes many years ago (29’ & 87’). But we live in a different world now; algorithms and Wall Street Bets traders are hardly students of history, or of markets for that matter.
Momentum returned in force this month, particularly in a new host of meme stocks. Highlighted by Digital World Acquisition Corp, which is a Donald Trump-linked SPAC that soared almost 800% after debuting on the September 24th. Interestingly enough, the old meme stocks Gamestop and AMC saw their prices decline precipitously as traders sought out better action in different names and grew tired (based on the charts at least) of these “old” meme stocks and their inability to capture the past glories of January and February of this year.
We only bring this up to emphasize the fact that the markets, despite the consistent low VIX readings, are still full of active traders and are still dominated by passive funds that use S&P 500 and Nasdaq 100 ETFs for instant exposure. We view all these observations as market positives, not in the sense that they symbolize a stable environment (they don’t), but more so that they continue to churn out lucrative trading opportunities for those with quick time frames and void of any opinions. That remains our sole focus right now.
It has admittedly been tough to find our way with any long-term stories with regard to stocks this year (Twitter being the poster child – more below). Aside from Bitcoin, we have had much more success dating than looking for a long-term relationship. And as we survey the landscape and begin to peer into 2022, we really don’t see that narrative changing at all. In fact, we only see the dynamic strengthening. Our reasons for this conviction are the same ones we have been yammering about all year, but they seem to be intensifying. The Fed and taper talk is 100% in play now as evidenced by Chairman Powell’s succinct words on October 22nd “Fed will begin tapering soon”
Now throw in the wildcard of cryptocurrency becoming all the rage again and hitting a definite fever pitch in both interest and price (Bitcoin pierced through its all-time highs on October 20th). This month Sushi and Shiba Unu coins were where the speculation was most fevered, Again, whether this is a telltale sign of a massive bubble or the continuation of an asset appreciating for years to come is a conversation over a bottle of wine on a Friday night – not a trade-able gauge.
We often use the tired line “trade the markets in front of you, not the ones you envision.” But it truly remains maybe the sagest advice anyone could ever get when entering the arena where we dwell daily.
Another area that is witnessing a rebirth of sorts are the SPACs. They have been left for dead for months now after being all the rage in Q1 this year. Part of the rebirth this month was spurned by before mentioned Trump media company and a swath of new acquisition corps in the electric vehicle/battery space. Also, a few bitcoin mining names created some good trading opportunities as the transfer from China mainland miners to other friendlier confines is well underway.
But the real point here is that there are rotating pockets of speculation showing up daily in the current market environment. Which can lead to some fruitful trading opportunities for those with quick fingers and extreme focus. This again leads us to argue that the future for our style and discipline remains on point.
To sum up, 2021 thus far has been marked by intense speculative fervor highlighted by the meme stocks in Q1. That signaled a short-term top and led to a long period of massive divergences between the placid indices and terminally underperforming small caps. That was also highlighted by a complete wipeout in in the SPAC space, a 50%+ drawdown in Bitcoin, and the slow leaking of air out of all the meme stocks (AMC 43% off highs, Gamestop 39% off highs)
But the fall has resulted in a complete one-eighty of the above scenarios. Bitcoin rallied back to new highs, SPACs saw a bit of a rebirth as shorts began to get squeezed and certain issues rallied in multiples of 100%. Also, the Russell small-cap index saw a nice move off the lows as it attempted to break out of its ascending triangle and provide some more momentum for active daily traders.
No one promised that this would be easy, and it certainly isn’t. But we reiterate that the landscape is full of opportunities daily, the likes of which we have not seen in years.
We are knee deep into corporate earnings reporting season as we wind up October and peer into November. Thus far, the reporting has gone well with well over 82% of the SP 500 companies beating estimates by an average of 10.3%. Furthermore, 75% of reporting companies have exceeded analyst’s revenue estimates.
In early September many market pundits were worried that earnings would be disappointing given the soft year-over-year comparisons and could lead to a sell-off as valuation concerns were reignited. Well, thus far that has hardly been the case. The markets have embraced corporate America’s earning prowess and rich balance sheets.
This has helped keep the overvaluation arguments in check somewhat. It is also what has helped reignite the animal spirits we have detailed in the pages above.
Looking Forward and other Market Commentary:
The main event in November will take place in just a few days when the Fed holds its second-to-last meeting of the year. We have already pontificated above on the Fed, but as we have been reiterating in recent updates, the need to follow other central bank actions these days is as important as ever. For example, on October 27th, the Bank of Canada opted to hold its benchmark rate steady at 0.25% but signaled higher rates were ahead and abruptly ended its quantitative easing program. Also, this month the ECB opted to slightly reduce its monthly bond buying pace and upped its inflation forecast a tad. It did, however, push back against any rate increases in 2022. This narrative loosely falls in line with other developed central banks and maps out a blueprint of sorts for our Fed.
This is further evidenced by the fact that the German 10-year yield, while still negative, has rallied to 0.54 basis points in less than a year and now yields -0.10%.
The Bank of Japan also had a meeting in late October and cut its inflation forecast from 0.6% to 0.0%. It must agree with Cathie Wood that this supply-chain debacle is transitory. This also means that the BOJ is not the Bank of Canada and will stay accommodating for quite a while.
The Bank of England on the 4th and the Royal Bank of Australia on the 2nd are the only other developed central bank that will meet in November aside from the Fed on the 3rd.
It is clear that 2022 will finally be the year of changing monetary global policy. We saw some instances of bond pushback this month on the shorter end of the curve in Canada, Australia, and here in the US 2-year note. Is this a sign of yield curve control gone awry and a harbinger of things to come or a one-off weird week? This week’s Fed meeting should give us some more insight.
Legendary trader Paul Tudor Jones, in an interview on CNBC on the 19th, expressed concern that if inflation keeps accelerating and the Fed is forced into hiking short-term rates, the P/E ratios across the market will likely plunge as higher rates makes debt financing more expensive,
If the Fed hikes short-term rates to 4% or 5% (from the zero-bound), for stocks, “you’re talking about a P/E of 17 or 18…and the market’s down 35%.”
We would hate to see what kind of inflation would earn a 4%-5% rate. While his point is well taken, it seems a bit draconian to us. Especially when we know that a sure-fire way to at least tamp down inflation is to get the supply chains loosened up. There has been talk of the national guard stepping in to help and the military. Maybe that is just a short term fix, but then again maybe that’s all it will take. There is a lot of money sitting idle in ships near ports around the globe. We believe it gets partially resolved sooner than later.
As is the case now, the CPI and PPI readings have taken on significantly more meaning for macro positioning. They have become market movers and have practically replaced the importance of the monthly jobs report. Everyone knows there are plenty of jobs of available out there. The more important input is what it will now cost to get them filled.
Add in the continued supply chain debacle and persistent (not transitory) inflation, which has lent itself to creating sharp opportunities in the commodity, rate, and currency markets. Areas which were void of much action or participation just a couple of years ago. If you think we are overstating that just look at the Deutsche Bank news this month when they are now re-committed to opening a commodities trading division- after shutting it down in 2016.
“Currently, supply-chain congestion continues in the Transpacific trade lane, with the combination of inventory restocking, peak season and ongoing elevated consumption trends. We expect these conditions to remain largely in place at least through mid-year 2022.” Matson CEO Matt Cox
If indeed, Mr. Cox is correct, and all signs unfortunately point to him being so, then Chairman Powell and the rest of the FOMC are going to have a very interesting 2022 to grapple with. With tapering on the way (their words) and no plans to hike rates (also their words), we will sit back and watch how they deal with this inflation problem that we can all agree now has gone from “transitory” to “sticky.” Oil is hovering in the mid- $80s, industrial metals, soft commodities, and coal all are surging in prices and helping spread inflation from construction to heating homes to heading to the grocery store.
Earnings season marches on for at least a couple more weeks. While we have heard from a good chunk of the biggest companies in America, there are still a handful of names we are anxious to hear from. They include: Snowflake, Palantir, Expedia, Cirrus Logic, ZoomInfo, Pfizer, Akamai, Zillow, Wingstop, Clorox, Booking Holdings, Trupanion, Alibaba, and Barrick Gold. To name a few.
Also, the October jobs report will be released two days after the Fed meeting, but we have a sneaky suspicion that the FOMC members might get a little preview of that number before their two-day meeting wraps up. Just a guess of course.
The next two FOMC meetings are obviously important (as we touched on above), but even more so when we begin to consider the fact that Chairman Powell’s tenure may be coming to an end much earlier than had been expected. The current betting odds have him at just over 50% to keep his job, down from 71% just weeks ago. Democrat party to remove Chairman Powell and replace him with a more liberal, climate-change-focused, easier-money-focused. If President Biden goes along with these wishes, then we may officially see the acceptance of Modern Monetary Theory, or MMT, become federal reserve policy. Now, many will argue that we are already there and that MMT is alive and well despite not being officially adopted. And it’s hard to dissuade that narrative when one studies the enormous expansion of the Fed balance sheet for the past few years combined with the massive amounts of stimulus doled out by the government since the pandemic began.
In this world of massively irresponsible monetary policy, won’t at some point the metals resume their role as the equalizer? And wouldn’t it be ironic to see gold surge as the Fed begins to tighten, seeing as it certainly ignored most of the expansion. And, yes we are very cognizant that cryptocurrency has garnered some of the metal’s liquidity. Furthermore, we are pleased to see it as it has created a whole new asset class in which we can participate.
It was another month chock-full of encouraging news for those who believe cryptocurrency will continue to march on as a legitimate asset class for years to come. Here are a few highlights:
∙ A Bitcoin ETFs finally came to market this month after months and months of wrangling with the SEC. ProShares Bitcoin Strategy ETF debuted on the 19th of this month and now makes it easier for individual investors to gain access.
∙ Fixed Income behemoth Pimco’s CIO admitted they were already dabbling in cryptocurrency and were introducing plans to gradually offer more digital assets to their clients.
∙ Mastercard announced they will soon allow the thousands of banks and millions of merchants on its payment network to integrate crypto into their products. They will be partnering with crypto firm Bakkt.
∙ Robinhood announced they would be offering a crypto wallet to customers soon and immediately saw the wait list surge to over one million customers. ∙ Coinbase, a stock we like, announced Coinbase NFT, a peer-to-peer marketplace that will help simplify NFTs. It also saw “substantial” sign-ups for its wait list but declined to provide a number.
∙ The Wharton School of Business announced they will now accept Bitcoin to pay tuition costs.
As much as we like this area and are excited as it matures into a legitimate asset class, we are starting to feel the tingling sensation that is usually associated with frothy markets. Surely, Bitcoin trading back to a new all-time high spurned the froth. But the continued craze in the NFT space, the surge in some altcoins such as Sushi and Shibu Uni, along with the 39% rise in Coinbase this month have us a little on edge for a healthy, warranted pullback.
Staying with Coinbase: We feel that in the past few months it has become the de facto stock for Bitcoin exposure and crypto in general, overtaking MicroStrategy, which is essentially a balance sheet full of Bitcoin. In fact, it seems to us that traders are using MicroStrategy as a source of funds to finance both Coinbase and the newly formed Bitcoin ETFs purchases.
Facebook is going through a rough patch these days as scrutiny continues to build around their ad targeting and messaging controversies, the latest involving teenage girls and mental health. The company also reported their earnings on the 25th and by Facebook standards they were sub-par. The social media giant beat earnings by $0.03 but came up light on revenues and average revenue per user (ARPU) missed by $0.15.
The stock was initially buoyed by a $50 billion stock buyback, but quickly succumbed to selling pressure and closed down 7% on the 26th and is now down 13% in just two months. Which makes it one of the worst big-cap performers in the NASDAQ-100. Some are trying to compare Facebook to the tobacco companies of the 80s. And judging by how everyone is obsessed with Instagram and their Facebook news feeds we would be hard pressed to argue it isn’t as addictive as nicotine – at least mentally.
But we would hesitate to lump Facebook with Phillip Morris right now. The fact is that members of our society are addicted to their screens, constant newsfeeds, photos of what they and their friends are doing daily, and to arguing somewhat anonymously with each
other. And the simple fact is that there aren’t a ton of places to achieve all that. Smoking has been banned indoors in the vast majority of places and the focus on better physical health/diet has increased exponentially in the past twenty years.
We just don’t see Facebook going away in any significant fashion. They are currently in the midst of a total rebrand to Metaverse, which in part is likely to expel them from the bad press and societal pushback they have received recently. Nor do we believe regulators will be able to deliver much of a punch, as witnessed by previous attempts with Google and Microsoft. This doesn’t mean we love the stock here, we prefer Twitter, but the calls of its immediate demise seem impulsive.
Twitter reported their earnings a day after Facebook, and in usual fashion, they were a bit confusing, a bit underwhelming, and a bit messy. The top line estimates missed by a $0.74 – mainly due to a $766 million litigation charge. Revenues rose 37.1% year-over year to $1.28 billion which were in line. The company sees in-line revenue guidance for Q4. Average mDAU was 174 million for Q3, compared to 152 million for the same period and 169 million in the previous quarter.
The stock rose a few dollars immediately following the release but quickly succumbed to selling pressure and fell 8% on the 27th. Again, it wasn’t an outstanding quarter, but they did see a +51% US ad growth versus +31% for Facebook and 39% for Google. And valued at less than $50 billion, with Facebook falling out of favor at least temporarily, and Snap delivering a bummer of a quarter on the 22nd. It might have stood to reason that Twitter would be the beneficiary for the next quarter or two of social media capital looking for a home; similar to Coinbase and MicroStrategy. But, once again, Twitter grabbed defeat from the jaws of victory and is again regulated to price purgatory as it sits near where it IPO’d eight years ago.
We had a bullish call spread on for the report in case Twitter actually rose to the occasion, which, judging by the price reaction, it clearly did not judging by the price reaction. So, we come into the last two months of 2021 flat the name and are back in a “wait and see” mode. Very frustrating company to navigate.
The last week of the month was laden with big cap tech earnings as we heard from Facebook (bad), Twitter (see above), Microsoft (good), Google (good), Amazon (bad for a second straight Q) and Apple (bad – first revenue miss since 2017)
Big cap tech has been the driver of the markets for most of the year and nothing reported, even Amazon’s mess, is going to stop that anytime soon. We would argue that only a sharp rise in rates would quell this momentum, as we have seen that correlation hold for brief periods throughout the year – particularly in late September/early October.
There is more to the world than tech, seriously. And the 12% surge in the transportation average this month certainly confirmed that. This month we were treated to good quarters by Union Pacific, UPS, Caterpillar, Kansas City Southern, General Electric, and Roper Technologies. The only real disappointing report was from Lockheed Martin. All the companies listed above, as was the case with just about every conference call, cited supply chain issues as their top concern.
As we look forward to the holiday season, the stock market, based on history, is also looking forward to the last two months. Since 1980, the SP-500 has been higher nearly three-quarters (73 pct) of the time in the last two months. of the year, and up an average of +3.3 pct overall. When the S&P is higher in November and December, it’s gained an average of 5.6 pct compared to a loss of 3.1 pct during years with a negative return for those two months.
The Street’s 2021 SP-500 corporate earnings estimates are up 22 pct since the start of the year, which coincides perfectly with the approximate advance in the indices this year. Hardly a coincidence. But it also brings into question how easy this will be to replicate in 2022.
The VIX has dropped by an average of 4.5 pct in November/December over the last 3 decades. If that holds true, that will put the VIX in the 13-14 range which seems awfully complacent as we peer into 2022 and begin to tackle some pretty heavy issues, plus likely undergo a rate environment change. Obviously, trends can be broken, and maybe the 27% is the case this year for equities. But those bearish stocks should study some history – just in case it isn’t different this time.
However, there is one item we continue to find disconcerting with regard to stocks. Currently, Amazon, Apple, Facebook, Google, Microsoft, and Tesla now make up 24% of the S&P 500. Which is an incredible statistic.
Currently, only 45% of all stocks are over their 200-day simple moving average of price, and only 58% are over their 40-day simple moving average of price. A sharp contrast to what the major indices reflects.
Also, the Russell 2000 index has not made a new high since March 15th and remains in a massive channel as of this writing after a failed attempted breakout in late October. Currently, 1/3 of all companies listed in the Russell are unprofitable. Another incredible statistic, but one that implies a direct correlation between the ability to finance (i.e. corporate bond spreads) and the strength of the index.
Those circumstances help explain the divergences we have and correlate with the frustration many have had this year with stock picking when equated to the general indices.
Occasio Partners, LLC 465 California Street, San Francisco, CA