February 2024
From Bloomberg's Weekend Reading:
For those holding out hope the US Federal Reserve would start dropping interest rates later this month, the most
recent inflation data surely dashed those expectations. The Fed’s preferred gauge of underlying inflation rose in
January (0.6% from December) at the fastest pace in almost a year. ("With So Many Flavors of Inflation, Which
Should We Care About?" from the NYT's Peter Coy: https://www.nytimes.com/2024/03/01/opinion/inflation-
supercore-federal-reserve.html) The uptick highlights the bumpy road to fully containing price pressures,
especially amid the backdrop of a robust labor market, strong growth and a resilient American consumer. It also
underscores the central bank’s oft-repeated stance that it’s in no rush to drop rates, concerned that loosening
policy too soon could reignite some price pressures. The situation is similar in other countries and regions
including Europe, where inflation eased less than anticipated last month and officials also exhibited a cautious
approach to rate cuts.
Still, it’s important to take a moment and reflect on the economic hurdles the world has had to overcome or
continues to endure—from the pandemic to war—and the progress made. Most central banks have walked a
fine line of pushing rates higher to bring down inflation—but not so high as to trigger a recession. Finance
chiefs from the G20 this week cited a growing chance of a soft landing for the global economy as inflation
comes to heel, a powerhouse US underpins growth and fiscal stimulus flows in China. Of course, plenty of
risks remain, from fear of deflationary malaise to a widening conflict in the Middle East.
BCA Research's Global Investment Strategy developed a quantitative model which is published monthly. From
Feb. 29th's:
MacroQuant Model Update: Still Dancing
1. Overview
After a brief sojourn into neutral territory in January, MacroQuant upgraded equities to overweight in February
on a tactical short-term (1-to-3 month) horizon. It continues to see downside risks to stocks on a medium-term
(12-month) horizon.
As was the case in January, the model ranked the US as its favorite equity region and tech as its favorite equity
sector.
Consistent with the model’s relatively somber medium-term growth outlook, it sees more downside for bond
yields on a 12-month horizon than on a 1-to-3 month horizon.
The model is neutral on the near-term direction of the US dollar. It is modestly bullish on copper, neutral on oil,
and slightly negative on gold.
2. Model Components
A. US Equities: Blow-Off Phase
MacroQuant’s US equity model, Stock Coach, has become more bullish on the near-term prospects for the S&P
500. Its short-term (1-to-3 month) equity score improved over the course of February, finishing the month at the
86th percentile of its historic distribution, up from the 57th percentile at the end of January. Such a score is
consistent with significantly above-average returns (Chart 2). The model’s equity score has stayed above the
50th percentile for 12 straight months.
The jump in the equity score in February was largely driven by better economic data (Chart 3). Among other
things, economic surprise indices have improved, manufacturing new orders have risen, initial unemployment
claims have dipped, survey-based recession odds have fallen, and several housing-related indicators have turned
up.
Not all is rosy, however. While the model’s medium-term
(12-month) equity score did move up in February, it stands
at only the 39th percentile, consistent with subpar returns.
Large divergences between the short-term and medium-
term equity scores are fairly rare and have typically
occurred only near market tops. This suggests that US
equities are in a blow-off phase that could end as early as
this spring.
The model sees the US economy as being in the late stages
of the expansion, as evidenced by a very low
unemployment rate. Historically, a low unemployment rate
has been associated with below-average subsequent equity
returns (Chart 5). This is mainly because the
unemployment rate is a highly mean-reverting series and
typically starts rising within two years of bottoming.
Adding to the worries are valuations. The S&P 500 currently trades at 20.6-times forward earnings, compared
with 16.9-times between 2016 and 2019. Against the backdrop of real long-term Treasury yields in excess of
2%, the model sees the S&P 500 as being 42% overvalued relative to expected future cash flows – the most
extreme level of overvaluation since September 2000 (Chart 6).
Admittedly, the S&P 500 would trade at “only” 18.5-times
forward earnings if one were to exclude Alphabet, Amazon,
Apple, Meta, Microsoft, and Nvidia from the index (Chart 7).
However, the remaining 494 stocks saw their earnings contract
by 10.5% in 2023. Thus, while the rest of the index is relatively
cheap, it is cheap for a reason. In general, our backtests reveal
that rising concentration – to the extent that it is associated with
positive price momentum – is good for stocks in the near term,
but bad for stocks over the long haul.
As a reminder, the Global Investment Strategy team uses the
MacroQuant model as one of several inputs into its decision-
making process. We are currently neutral on global equities on
a 6-to-12 month horizon.
B. US Sectors: Tech Remains on Top
As was the case last month, MacroQuant’s US equity sector model, Sector Selector, has ranked IT as its favorite
sector. Strong sales and earnings momentum, rising orders for tech equipment, and positive inflows into tech
funds all helped IT maintain the top spot. The tech-heavy communication services remains the second-highest
ranked sector.
Sector Selector kept financials at neutral in February, although the score is now just a whisker from being
overweight. While this sector is benefiting from cheap valuations and a moderation in the pace at which banks
are tightening lending standards, it is being hampered by rising loan delinquency rates and slowing credit
growth.
The model downgraded materials to underweight, partly due to continued uncertainty over China’s growth
outlook. It remains negative on energy, where earnings estimates have fallen for three straight months.
As in January, the model is underweight health care, consumer staples, utilities, and real estate. Subjectively,
the GIS team has less of a procyclical bias than Sector Selector. The biggest divergence in views is with regards
to health care. We see scope for health care stocks to outperform over a 6-to-12 month horizon given their
defensive nature, favorable valuations, and room for increased pricing power.
C. Equity Regions: Overweight the US
As was the case in January, MacroQuant’s regional equity model, Region Rumble, awarded the US the top spot.
US equities benefit from superior relative earnings and sales revisions, stronger buyback activity, and a more
favorable sector mix (with tech overrepresented in the US). US growth has also handily outpaced growth in the
rest of the world. Only relatively stretched valuations represent a black mark against US stocks.
Given that the US constitutes 64% of global stock market capitalization, an overweight on the US will
invariably push other stock markets far down the leaderboard. As such, the euro area, UK, Canada, and
Australia all registered underweights.
Japan also registered an underweight, partly on the back of recent growth disappointments. It is important to
stress that the model aims to predict relative equity performance in common-currency terms. While the weak
yen has boosted the Nikkei, it has hurt the stock market in dollar terms. ...
From yesterday's High Dividend Opportunities:
Reviewing past rate cycles shows that REITs outperform equities after rate hikes. After the 1973 bear market
and a pivot from the Fed in December 1974, listed REITS returned 59% in the following 12 months compared
to 36% for the broader equity market. Similarly, in the 12 months after the GFC, REITS soared 74%, compared
with 49% for equities. Current market conditions indicate similar, if not better, returns for the REIT sector due
to their better positioning regarding balance sheet quality, FFO growth, and dividend coverage.
Follow-ups
As we opined last month. From NYT:
Another Wall Street fad has imploded. Not before it claimed its
victims.
By Adam Lashinsky
February 20, 2024
Yet another Wall Street investment fad has crumbled, this time a dodgy technique for taking companies public
called SPACs, or special purpose acquisition companies. As is often the case, regular investors and rank-and-
file employees are the losers; hedge fund managers and investment bankers are the winners. Not for the last
time, regulators are stepping in to quash snake-oil schemes they didn’t do enough to stop when it might have
made a difference.
It's worth taking note of this debacle now because it won’t be the last time Wall Street hustlers separate
unsuspecting investors from their savings. It’s just the latest.
If you only started paying attention to SPACs a few years ago, you’d be forgiven for thinking they were a new
financial elixir. In 2021, nearly 200 companies completed SPAC deals, up more than threefold from the year
before. These deals were worth close to $500 billion, a fivefold increase.
But SPACs have been around for decades. Before a few years ago, however, only unsavory, little-known
companies attempted to enter the public markets using this device. The transaction involves a financial player
raising money from a pool of public investors to merge with a not-yet-identified company at a later date. SPACs
had long been a back-door path to an initial public offering that only a company that couldn’t do it the
respectable way would pursue.
Perhaps that’s why the SPAC craze of the early 2020s was such a magnet for a new crop of unlikely start-ups in
capital-intensive industries such as electric cars and flying taxis. A speculative frenzy ensued that sucked in all
sorts of prominent if shaky companies. Today, many are limping along — or worse.
Late last year, Bloomberg counted more than 20 companies that had gone public by SPAC only to declare
bankruptcy relatively shortly afterward. One of these was WeWork, the shared workspace real estate company.
WeWork’s backdoor IPO occurred well after company founder Adam Neumann had departed in a cloud of
scandal. (Neumann reportedly is trying to take back control of WeWork, an effort that doesn’t seem to be going
anywhere.)
The British electric-vehicle maker Arrival, which hit the capital markets with backing from South Korean
carmaker Hyundai, even tried doing a SPAC deal twice, the second time falling apart before it could happen.
The fledgling company was worth $15 billion when it first went public, despite not yet having produced a
vehicle. Arrival already has departed: Its shares have been delisted from the Nasdaq stock market, and the
company declared bankruptcy.
The SPAC-splat list goes on: Blade Air Mobility, a firm that flies the Ferragamo-favoring, Air Mail-reading set
on helicopters from Manhattan to the Hamptons and other locations, has seen its post-SPAC share price fall
from $15 in 2021 to $3 today. Shares in BuzzFeed, a onetime media darling, trade for 20 cents. That’s even
worse than the spit-test DNA start-up 23andMe, whose shares hover just below a dollar.
It will likely surprise no one that Donald Trump has been working to cash in on the SPAC game, too. The
company that owns his Truth Social media platform has been trying for more than two years to go public by
merging with a SPAC named Digital World Acquisition Corp. (SPAC creators love anodyne names like this.)
Stymied by various Securities and Exchange Commission investigations, Digital World Acquisition last
year returned $1 billion to investors that had been earmarked to buy Truth Social. Yet just last week, the SEC
granted its approval for the merger to move forward.
What happened to make all these SPACs go bust? Think of the SPAC debacle as the last gasp of the low-
interest-rate era. When money was nearly free, Wall Streeters could compete with each other to conjure novel
ways to raise and deploy capital. As rates rose, it became harder for cheap money to chase bad ideas, forcing
companies to actually have profitable business models to attract financing. Last year, there were just 98 SPAC
deals on Wall Street, about half the level in 2021.
It is important to tell this story now because another crazy financing vehicle will come along soon. That
immature or money-losing companies were able to raise big bucks so easily was as predictable as it was tragic
for investors who got caught on the wrong side of the trade. It was no different from the “pre-
revenue” companies that did traditional IPOs during the dot-com boom of the late 1990s. Everyone knew
there’d be a bust. They just didn’t know when.
Just as predictably, the SEC recently promulgated new rules tightening listing requirements for SPACs, a good
example of closing the barn door after the horses have fled. Among other measures, regulators will make it
more difficult for SPACs to make rosy projections, a marketing ploy long denied traditional IPOs. “Just because
a company uses an alternative method to go public does not mean that its investors are any less deserving of
time-tested investor protections,” SEC Chair Gary Gensler wrote in a statement.
Here’s a better idea for the SEC: Start thinking now about the next, rather than the last, get-rich-quick scheme
that’s likely to snooker the investors your agency is supposed to be protecting.
Adam Lashinsky is former executive editor of Fortune magazine and the author of “Inside Apple: How
America’s Most Admired — and Secretive — Company Really Works.”
Our view on Crypto hasn't changed. It is a speculative vehicle with no intrinsic value. From the front page of
February 5th's WSJ:
Financial Giants Race to Lure Investors Into Cryptocurrencies
BY ALEXANDER OSIPOVICH
Listen to firms on Wall Street these days, and you might think you are knocking down beers with a gaggle of
crypto bros.
Larry Fink, chief executive of BlackRock, the world’s largest asset manager, told CNBC last month that he was
a big believer in bitcoin. A few days later, Howard Lutnick, the CEO of financial-services firm Cantor
Fitzgerald, predicted that bitcoin would rally this year. He also praised Tether Holdings, the firm behind the
widely used stablecoin tether.
“Holding a dollar in a token is amazing,” Lutnick, whose firm manages much of Tether’s bond portfolio, said in
a televised interview from Davos, Switzerland. In 2021, Tether’s creators reached a $41 million settlement with
U.S. regulators over allegations that they misled investors about whether the coin was fully backed by dollars.
Tether didn’t admit wrongdoing.
After years of tiptoeing around the world of cryptocurrencies, huge financial firms are racing to lure Main Street
investors into these mostly unregulated markets, seeking a fresh source of revenue. The stampede has been
prompted largely by January’s heavily anticipated launch of exchange traded funds that directly hold bitcoin.
Bitcoin proponents hope the ETFs will boost the price of the digital currency by opening it to a wider investor
base, but many outsiders question whether these highly speculative assets belong in the average individual’s
portfolio.
Some asset managers backing the new ETFs have flaunted their bitcoin bona fides on social media, dropping
memes and lingo familiar to the crypto community, though perhaps obscure to others.
For example, you might not know that Jan. 3 was the 15th anniversary of the first bitcoin transaction, but
Invesco made it clear that it did: The $1.6 trillion asset manager wished bitcoin a happy birthday on its official
X account.
“BOOORN TO BITCOIN,” investment- management firm VanEck tweeted on Jan. 16. The fund manager later
tweeted at Merriam-Webster, asking why its dictionary didn’t include “HODL,” a term used by
bitcoin investors to mean never selling one’s coins despite wild volatility.
Franklin Templeton, a 77year-old asset-management company, was named after Benjamin Franklin because
he “epitomized the ideas of frugality and prudence,” according to its website. In January, the company, which
trades publicly as Franklin Resources, tweaked its official X profile picture to show the U.S. founding father
with laser eyes, a meme popular with bitcoin bulls.
“In crypto, speculation is a feature, not a bug,” Franklin Templeton tweeted on Jan. 17, during a roughly 90-
minute stunt in which the firm’s digital- assets team took control of the X account.
In other posts, Franklin Templeton cited the “massive potential” of some blockchain networks and circulated a
meme that appeared to endorse adding bitcoin to a traditional 60/40 portfolio of stocks and bonds.
“We’re always trying to stay fresh and current,” said Roger Bayston, head of digital assets at Franklin
Templeton.
The firm recently removed the laser eyes from Benjamin Franklin’s image on its main X account. It also deleted
a crypto-themed post featuring a meme with images of former WWE boss Vince McMahon after an ex-
employee filed a lawsuit accusing him of sex trafficking. McMahon has denied the allegations. “Given the
allegations at that time, we felt that removing the tweet was the most appropriate course of action,” a Franklin
Templeton spokeswoman said.
Some crypto skeptics said Wall Street’s embrace of bitcoin rang hollow, calling it a thinly disguised attempt to
cash in on an emerging asset class.
“Fee revenue is the name of the game on Wall Street. This is a new opportunity to get fees,” said Lee Reiners, a
lecturing fellow in economics at Duke University.
Some of the biggest players in traditional finance are still wary. Vanguard Group has refused to provide
access to bitcoin ETFs via its brokerage platform, saying they don’t align with its philosophy of enabling long-
term, buy-and-hold investing. Jamie Dimon, CEO of JPMorgan Chase, has maintained his personal skepticism
of bitcoin even as the bank has agreed to facilitate trading in BlackRock’s bitcoin ETF.
Bitcoin is a useless “pet rock,” Dimon told CNBC on Jan. 17. “My personal advice is don’t get involved, but I
don’t want to tell any one of you what to do. It’s a free country.”
There are risks for regulated financial firms that get too enthusiastic in marketing crypto. Last month, the
Financial Industry Regulatory Authority released the results of a 2022 review of more than 500 crypto-related
communications from 11 brokerage firms. More than 70% of the messages were potentially in violation of a
Finra rule that prohibits false or exaggerated communications with the public, Finra said. Not long ago, the
crypto community viewed Wall Street as an ideological enemy. Bitcoin’s anonymous creator, Satoshi
Nakamoto, originally envisioned his invention as a way to make payments without relying on banks, and many
early bitcoiners were libertarians bent on creating a financial system outside of government control. In turn,
most financial firms kept their distance from the unruly world of digital currencies.
Now, in much the same way that high fashion co-opted rebellious subcultures such as punk and grunge, the
financial industry is echoing the messaging of crypto. “Bitcoin may help guard against the government
devaluing your money,” VanEck said in a recent television commercial for its new bitcoin ETF. In an interview,
CEO Jan van Eck said the firm had a history of offering products to help investors protect against inflation.
Positions
THC - Our IVA Stock Selection System requires Valuation to be in the lowest decile on either PEG,
EV/EBITDA, or EV/EBIT, in that order of preference. As detailed on our website, we will usually sell when the
stock becomes fully valued. We sold THC on 2/21 for 4 clients @ 90.98:
