Bonds: License to Kill

In his twenty-three official movies since 1962, James Bond has killed 370 villains. Oddly enough, but only 10 of those came in the License to Kill movie, which ranks 15th in terms of kills. As you probably know, as bond yields rise, their prices will rise. The question of late though is will rising Treasury rates kill the economic recovery and momentum in equities markets. I’ve been following rising rates for a while, but we’re starting to get into the danger zone. Large cap momentum and growth names have sold off their highs over the past couple of weeks, but value has held up decently in this. I was surprised not to see some crazy weird event last week. This one has been brewing slowly and it has little spikes of worry, like we saw in the 7Y UST auction last week. In this week’s post, there are a ton of articles around rates and credit. Even with all that, my ‘Best of’ this week centers around Bitcoin and its energy consumption. This interview was eye opening and the flexibility of thought could help others think of different ways to go about solving problems.

Aside from keeping an eye on rates, there are a few events already on the calendar to pay attention to. The FDA emergency use approval is pending for J&J’s COVID vaccine. This could help increase the re-opening expectations. OPEC+ has a meeting scheduled, so oil and energy names might hold a little extra risk this week. Coinbase has a direct listing expected. There are also two $1B IPOs this week; Oscar Health is a traditional listing and KKR’s has a SPAC listing.

Earnings Watch

Last Week

It was a rough week for the large companies reporting. NVIDIA, Home Depot, Salesforce, Lowe’s and Square all beat estimates, but still ended the week lower. The Canadian Banks released good numbers for the most part, but as a whole they were only up slightly. I guess that’s better than most of the rest of equities. Teledoc had a rough week, as their guidance wasn’t all that great, but many analysts are still positive on the future. Let’s take a look at my names from last week. There are a couple of big beats here.

• Diamondback Energy reported mixed results with a slight miss on the top line and small $0.01 beat on the bottom line. Better than expected production numbers seemed to drive the better revenues. The stock traded off after the announcement, opened lower, then benefited from the midweek run by the whole energy segment.

• For Sage Therapeutics, it seems a 750% Predicted Surprise was low. A mean EPS of $-0.35 was nowhere near the $18.19/share number. That erased the terrible first three quarters and swung the EPS and Net Income into positive territory for the year. Even with all that positive news on earnings, the stock opened lower, tried to rebound, but closed slightly down on the day. Their time at the SVB Leerink Global Healthcare conference revealed nothing new. To be honest, most of it could have been in a foreign language. The stock traded up as much as 10% on Wednesday, but gave it back the rest of the week.

• Denali Therapeutics told Sage, “Hold my Beer.” They saw their 5,200% beat and raised to 24,400%, and 300%+ on revenues. They apparently had some good results from phase 1/ 2 trials, but again I didn’t understand much past that. The company did say that they expect to expand manufacturing and commercial capabilities. The market liked this and the stock opened up 4.4% and moved higher the entire day closing up about 14% on heavy volume.

This Week

We’re starting to hit the tail end of the large cap names reporting. Less than 5% of the index market cap is reporting for the S&P 500, Russell 1000, and TSX. Small caps are still making their way through, as the Russell 2000 has 300+ names reporting that equate to about 18% of the market cap. A couple of industries are prominent this week. Diversified Retail has a few well known names scheduled with Costco, Target, Dollar Tree, Burlington, and Kohls reporting. Also, Software and IT Service with Zoom Video and Slack. Plus, we hear from The Oracle, of Omaha that is. This week I only have a single name of interest.

• Spunk is coming off a terrible quarter. It’s last earnings report missed by a bunch and the stock took a hit of 23%. The stock is now trading below that price after a 10% down week last week. The Predicted Surprise for this quarter is -58% and a big part of that difference is the estimate from Loop Capital from back in August that is 1,700% higher than the mean. There are eight 5-star analysts of thirty-six total covering the stock. Their mean estimate is -$0.04 vs. the $0.04 mean. The 30D implied volatility is at the 100 percentile over the last six months and it jumped about 10pts last week, so someone is placing bets on volatility. 

Best of the Week:

Marty Bent and Harry Sudock talk with Preston about whether Bitcoin energy consumption is a concern and address questions about mining being too concentrated in China. This is an amazing conversation. The part I found most interesting was the discussion around mining rigs, that’s Bitcoin mining, basically pulling alongside a Oil & Gas unit that is flaring off gas and buying that from them at extremely cheap rates. This can be as much as 60% more efficient than traditional flaring and an income stream for the Oil and Gas companies.

Bitcoin Mining and Energy w/ Marty Bent and Harry Sudock - Listening time: 72 minutes

Best of the Rest:

I loved this interview piece with David Rosenberg. David has a few different views from the masses. He believes the post-COVID party will only be temporary, then we’ll have to deal with our reality. If rates go up by 100 basis points, that moves $800B or 4% GDP into debt servicing, which will slow growth. David makes the point that the recent rise in yields is based on assumptions, not reality. This is a long read, but well worth it.

We’re Getting Closer to a Breaking Point

Just as David mentioned above, Chris Cole made a quick point about rising rates.

Normalization of Rates

Just how much of an of an effect do the Treasury markets have on equites? This week there was a bit of a thing in the 7 year Treasury auction. The bid to cover ratio was light compared to recent history, but bids are not that light. This last auction was more than 160% of the average bid in 2019. The thing is bids did dip from the last few auctions and this spooked the market. Below you can see the spike in 7Y yields during the auction, which was about 1pm ET on Thursday and the S&P futures dropped almost 1% during this time. Below that is a history of the 7T bids and cover ratio. Looking back to 2009, the last time the cover ratio was as low as this week’s was. Finally, this appeared to have been similar in all of the auctions. JPM shows how the day played out in Treasury yields.

Treasury Yields Just Spiked After a Brutal 7-Year Auction. What Investors Should Know

via themarketear.com

As yields have risen on Treasuries, high yield corporate bonds have sold off. The sell off in high yield follows the sell off in the more liquid corporates. I’ve also noticed an increase in the short interest, courtesy of S3's Black app, and implied volatilities of the Bond ETFs. That said, US Rate vol is nothing compared to long term averages or real spikes according to JPM Cross-Asset research.

Corporate ‘junk bonds’ stumble as Treasury yields spike

via themarketear.com

Charlie Bilello does an excellent job of summarizing a lot of the recent history of drawdowns in bond prices here. There are a ton of charts in here on drawdowns, spreads, and average duration. As the chart above shows, the spreads on credit are still low and have yet to budge much.

The Price of Admission in Bonds

Ben points to some data that you wouldn’t think you’d see from equities in a rising rate environment. As Ben points out, the large cap tech names that make up a huge percentage of the S&P. We can see in the recent performance of the S&P Equal Weight vs. the SPX.
How Does the Stock Market Perform When Interest Rates Rise?

Ark Invest is a hot topic. Whether it’s Cathy Wood constantly being on the TV to talk her positions or their focused book, people seem to be attracted to what the firm is doing. There’s chatter that traders are front running her moves. As this article highlights, someone has even  created an app to track their daily trades. The huge flows of late are creating an opportunity for those that trade. It remains to be seen whether this is good or bad for Ark.

Special Edition: Will ARK Invest Blow Up?

Last week, Hong Kong regulatory authorities increased the stamp duty from 10 to 13bps. Data shows a very large outflow of from Chinese investors. This is something to think about for the US markets under the Biden administration. The SEC fee is a much smaller fee of 0.22 basis points on sales only, and it’s going down to .05bps. A fee much higher than the current SEC fee but still much lower than the HK duty could drive a ton of tax revenue.

Hong Kong shares slump most in 9 months on stamp duty hike

Fee Rate Advisory #2 for Fiscal Year 2021

Bitcoin futures and options activity is setting records. The average daily volume increased 65% YoY in January. Looking at the CME data, you can see the volume trending higher. One thing that caught my eye here too was the bump in open interest up above 65,000.

CME Bitcoin futures and options -Trading volume climbs in 2021

Wells Fargo selling its asset management manages more than $600B. Its Wealth & Investment Management division was less than 5% of total net income in Q4 of 2020. This is a big shake up and many see it as good news for the WFAM. WFAM is a large asset manager, but even at $600 it doesn’t crack the top 25 in the US. The bank will continue to own a minority stake of 9.9%, but GTCR and Reverence Capital Partners will have some work to do to make it a major player.
Wells Fargo sells asset management arm to private equity firms for $2.1 billion
Here’s What the Wells Fargo Asset Management Deal Means

Thanks for reading. Have a magnificent week. 

Michael