Mad Hedge Technology Letter
October 31, 2022
Fiat Lux
Featured Trade:
(MAYBE NEXT GENERATION)
(JD), (BABA), (HUAWEI), (GOOGL), (TENCENT)
For all the China lovers out there who think buying Chinese tech after the dip is a good idea – I have bad news for you – it’s just a dead cat bounce.
Don’t be fooled into thinking just because Chinese tech stocks became cheap, it’s a good entry point into corporate China.
It’s not.
The truth is that this isn’t your father’s China.
The situation has dramatically changed in the last 10 days so much so that I will say with conviction to stay away from Chinese technology stocks perhaps forever, almost, like it’s the black plague.
The place is totally done after China’s Chairman Xi Jing Ping was “re-elected” for his 3rd successive five-year term as the authoritarian leader of the East Asian nation.
Investors have also listened to my advice as Chinese tech shares have been thrown out with the bath water from Hong Kong to mainland China.
Many investors want no more part of China Inc. which is ironic since this was the place they couldn’t get enough of just a few years ago.
Why have investors been so jittery anyway?
Essentially, Chairman Xi packed the Politburo standing committee, the core circle of power in the ruling Communist Party of China, with his friends, poker buddies, and allies.
It was only just recently when China was tightening the tech environment before with examples littered around the country such as putting the shackles on the founder of ecommerce firm Alibaba (BABA) Jack Ma.
The Chinese communist party blocked his IPO of Alibaba’s finance arm Ant Group resulting in mass shareholder losses.
The backdrop has only soured significantly since then.
Under Xi’s leadership, China has implemented a raft of policies that have tightened regulation on the tech sector in areas from data protection to governing the way in which algorithms can be used.
JD.com (JD), Alibaba, and Tencent laid off thousands of employees in April due to tightened regulations and a slowing economy.
What are the rest of the unintended consequences?
A stronger dollar and weaker Chinese yuan just for starters.
It’s no secret that China hoovers up as many dollars as it can find, but in the meantime, the Chinese yuan is under relentless pressure from its underperforming economy, poor government policies, and gargantuan federal debt load.
Tech innovation will drop off a cliff.
Before, Chinese tech innovation meant stealing ideas and IP from Americans, but it will be harder now that this is a bipartisan issue in the US Congress.
China will also slow down the rollout of new tech products simply because they can’t acquire the advanced chips they need to build their products.
Just look at Huawei that was once counted as one of the most popular smartphones in Europe. Nobody buys their phones anymore because Google-based apps are banned on Huawei phones.
Most chilling of all, Chinese tech workers won’t be incentivized to take any risk in an environment that will penalize them by who knows what at this point.
That means many of these firms will be playing it safe yet be pushed by boss, CEO, and the communist party to beat America in the tech race for global hegemony.
In short, America has won and China faces a stark future of mediocrity in the tech space. They churn out a high volume of tech employees but industry can only develop so far by copying. It’s impossible to out-copy oneself or others into the lead.
It’s getting so bad in China that even investor Ray Dalio has stopped cheerleading for the Mandarins.
“Failure can teach you something, and as long as you're moving very, very quickly, you're going to start piling up the wins. Speed gives you the luxury to be able to fail.” – Said Current CEO of Uber Dara Khosrowshahi
Happy Halloween! (If you’re into it)
And best of luck to all the Australians who are going to throw their money onto a horse…
Hello everyone,
The market is still on a bullish trajectory. But, in all probability, this will end with another significant sell-off. When this happens, expect to see/hear bearish market sentiment to grow louder and more raucous as the TV talking heads/strategists start to wring their hands about the possibility of new market lows. Take this as your sign to start buying – the doom and gloom environment is mostly a great buying opportunity, which would enable you to position yourself well for the strong advance over the coming weeks/months.
Bitcoin continues to trade in a consolidating pattern. It is only when this consolidation is resolved will the next technical trend move occur. It is possible that Bitcoin may mount an attack upon $25,000 resistance, and then sell off to make new lows. This is a theory, that’s all.
Fashion on the Field
I hear it’s going to be a bit chilly for all those that dress up for Melbourne Cup Day. Spaghetti straps, short skirts, flimsy material or overalls (whatever takes your fancy), and the 4-6 inch heels may prove challenging today, unless you are one that prefers to be fashionable and “seen” over comfort and warmth. I wish you luck holding on to the hat…as well as your dress skirt and your bag… and your glass of champagne!!!
Let’s talk about climate change…
It’s a topic that’s still so divisive and yet it is happening before our eyes. Last weekend the New York Times devoted its whole magazine to this issue. Even in ten years’ time, the changes will be marked in our world. There will be plenty of opportunities for investment, I’m sure. To stabilize, the world’s temperatures at the cooler end of two degrees is going to need an enormous transformation of all the human systems that gave rise to warming: energy, transportation, agriculture, housing and industry, and infrastructure. Migration, not only of people but of wildlife, will create new viruses as humans and wildlife encounter each other. For example, as the NYT reports, “a single bat, escaping a warming habitat, might carry a novel virus hundreds of miles, …from a cave in South Asia to the foothills of the Himalayas, infecting cattle or people and spreading exponentially from there. Some will have a limited effect, but covid-19 has given us a taste of how disruptive just one global pandemic can be – imagine a new “pandemicine” could deliver several at once. What a thought!
As the Equator becomes too hot for humans and many species to live there, huge migrations will occur. Many from Africa are already making the journey to parts of Europe. Wildfires will be common, and millions will die each year from the heat.
Infrastructure will change. Buildings will be designed to keep people cool. There will be more tree cover, smaller windows, water misters along footpaths. One report from McKinsey estimated that, in some scenarios, a transition to net zero emissions could generate more than $12 trillion in annual revenue gains, and not just for solar entrepreneurs.
Transportation and buildings is where investments will be made.
More to be said about this topic later this week.
Will the RBA increase rates today?
In other words, do you shower the horse with money, or do you buy food and pay off the mortgage with it? For some people, this is how they are thinking.
Have a great week.
Take care.
Cheers,
Jacque
To find out more, go to mad hedge fund trader look me up in the Store.
Being entirely honest with oneself is a good exercise.
Sigmund Freud
Global Market Comments
October 31, 2022
Fiat Lux
Featured Trade:
(MARKET OUTLOOK FOR THE WEEK AHEAD, or WAS THAT THE POST-ELECTION RALLY?)
(SPY), (TLT), (VIX), (V), (MA), (AXP)
I have been through 11 bear markets in my lifetime, and I can tell you that the most ferocious rallies always take place in bear markets. This one is no exception. Short sellers always have a limited ability to take pain.
This rally took the Dow Average up 14.4% during the month of October, the biggest such monthly gain since 1976 (hmmm, just out of college and working for The Economist magazine in Tokyo, and dodging bullets in Cambodia).
The Dow outperformed NASDAQ by 9% in October, the most in 20 years. That is a pretty rare event. During the pandemic, the was a tremendous “pull forward” of technology stocks, as only commerce was possible. Now it is time for their earnings to catch up with pandemic valuations, which may take another year.
But first, let me tell you about my performance.
With some of the greatest market volatility in market history, my October month-to-date performance ballooned to +4.87%.
That leaves me with only one short in the (SPY) and 90% cash.
My 2022 year-to-date performance ballooned to +74.55%, a new high. The Dow Average is down -9.47% so far in 2022.
It is the greatest outperformance on an index since Mad Hedge Fund Trader started 14 years ago. My trailing one-year return maintains a sky-high +77.95%.
That brings my 14-year total return to +587.88%, some 2.86 times the S&P 500 (SPX) over the same period and a new all-time high. My average annualized return has ratcheted up to +45.60%, easily the highest in the industry.
And of course, there is no better indicator of the market strength than the Mad Hedge Market Timing Index, which broke above 50 for the first time in six months, all the way to 61.
It's no surprise that investors sold what was expensive (tech) and what was bought that was cheap (banks). It’s basic investing 101. Tech is still trading at a big premium to the market and double the price earnings of banks
The prospect of an end to Fed tightening has ignited a weaker dollar, prompting a stronger stock market that generated the rocket fuel for this month’s move.
All the negatives have gone, the seasonals, earnings reports, a strong dollar, and in 8 days, the election. Don’t forget that the (SPX) has delivered an eye-popping 16.3% return for every midterm election since 1961, all 15 of them.
The put/call spread is the biggest in history, about 1:4, showing that investors are piling in, or at least covering shorts, as fast as they can. Individual stock call options are trading at the biggest premiums ever.
Suffice it to say that I expected all of this, told you about it daily, and we are both mightily prospering as a result.
Much of the selling this year hasn’t been of individual stocks but of S&P 500 Index plays to hedge existing institutional portfolios. The exception is with tax loss selling to harvest losses to offset other gains. That means indiscriminate index selling begets throwing babies out with the bathwater on an industrial scale. And here is your advantage as an individual investor.
A classic example is Visa (V) which I’m’ liking more than ever right now, which I aggressively bought on the last two market downturns. The company has ample cash flow, carries no net debt, and with high inflation, is a guaranteed double-digit sales and earnings compounder.
It clears a staggering $10 trillion worth of transactions a year. With $29.3 billion in revenues in 2022 and $16 billion in net income, it has a technology-like 55% profit margin. Visa is also an aggressive buyer of its own shares, about 3% a year. That’s because it trades at a discount to other credit card processors, like Master Car (MA) and American Express (AXP).
The only negative for Visa is that it gets 55% of its earnings from aboard, which have been shrunken by the strong dollar. That is about to reverse.
It turns out that digital finance never made a dent in Visa’s prospects, as the dreadful performance of PayPal (PYPL) and Square (SQ) shares amply demonstrate.
Remember, however, that the Fed is raising interest rates by 0.75% to a 3.75%-4.00% range on Wednesday, November 2, and may do so again in December. It has been the fastest rate rise of my long and illustrious career, and also the best telegraphed.
That may give us one more dip in the stock market that will enable us to buy in on the coming Roaring Twenties.
We’ll see.
My Ten-Year View
When we come out the other side of the recession, we will be perfectly poised to launch into my new American Golden Age, or the next Roaring Twenties. With the economy decarbonizing and technology hyper-accelerating, there will be no reason not to. The Dow Average will rise by 800% to 240,000 or more in the coming decade. The America coming out the other side will be far more efficient and profitable than the old. Dow 240,000 here we come!
On Monday, October 31 at 6.45 AM, the Chicago PMI for October is released.
On Tuesday, November 1 at 7:00 AM, the JOLTS job opening report for September is out.
On Wednesday, November 2 at 8:30 AM, ADP Private Employment Report for October is published. The Fed raises interest rates at 11:00 AM and follows with a press conference at 11:30.
On Thursday, November 3 at 8:30 AM, Weekly Jobless Claims are announced.
On Friday, November 4 at 8:30 AM the Nonfarm Payroll Report for October is printed. At 2:00, the Baker Hughes Oil Rig Count is out.
As for me, during the late 1980s, the demand for Japanese bonds with attached equity warrants was absolutely exploding.
Japan was Number One, the engine of technological innovation. Everyone in the world owned a Sony Walkman. They were trouncing the United States with 45% of its car market.
The most conservative estimate for the Nikkei Average for the end of 1990 was 50,000, or up 27%. The high end was at 100,000. Why not? After all, the Nikkei had just risen tenfold in ten years and the Japanese yen had tripled in value.
In 1989, my last full year at Morgan Stanley, the Japanese warrant trading desk accounted for 80% of the firm’s total equity division profits.
The deals were coming hot and heavy. Since Morgan Stanley had the largest Japanese warrant trading operation in London, a creation of my own, we were invited to join so many deals that the firm ran out of staff to attend the signings.
Since I was the head of trading, I thought it odd that the head of investment banking wanted to speak to me. It turned out that Morgan Stanley was co-managing two monster $3 billion bond deals on the same day. Could I handle the second one? Our commission for the underwritings was $10 million for each deal!
I thought, why not, better to see how the other half lived. So, I said “yes.”
The attorneys showed up minutes later. I was given a power of attorney to sign on behalf of the entire firm and commit our capital to the underwriting $3 billion five-year bond issue for the Industrial Bank of Japan. The deal was especially attractive as the bonds carried attached put options on the Nikkei which institutional investors could buy to hedge their Japanese stock portfolios.
Since the Industrial Bank of Japan thought the stock market would never see a substantial fall, they happily sold short the put options. Only the Industrial Bank of Japan could have pulled this off as it was one of the largest and highest-rated banks in Japan. I knew the CEO well.
It turned out that there was a lot more to a deal signing than I thought, as it was done in the traditional British style. We met at the lead manager’s office in the City of London in an elegant wood-paneled private dining room filled with classic 18th century furniture.
First, there was a strong gin and tonic which you could have lit with a match. A five-course meal accompanied with a 1977 deep Pouilly Fuse white and a 1952 Bordeaux red with authority. I had my choice of elegant desserts. Sherry and a 50-year-old port followed, along with Cuban cigars, which was a problem since I had just quit smoking (my wife recently bore twins).
The British were used to these practices. Any American banker would have been left staggering, as drinking during business hours back then was illegal in New York.
Then out came the paperwork. I signed with my usual flourish and the rest of the managers followed. The Industrial Bank of Japan provided the Dom Perignon as they were about to receive $3 billion in cash the following week.
Then an unpleasant thought arose in the back of my mind. Morgan Stanley assumed the complete liability for their share of the deal. But did I just incur a massive personal liability as well?
Then I thought, naw, why pee on someone’s parade. Morgan Stanley’s been doing this for 50 years. Certainly, they knew what they were doing.
Besides, the Japanese stock market is going up forever, right? No harm, no foul. In any case, I left Morgan Stanley to start my own hedge fund a few months later.
Some seven months later, one of the greatest stock market crashes of all time began. The Nikkei fell 50% in six months and 85% in 20 years. Some 32 years later the Nikkei still hasn’t recovered its old high.
For a few years, that little voice in the back of my mind recurred. The bonds issued by the Industrial Bank of Japan fell by half in months on rocketing credit concerns. The IBJ’s naked short position in the Nikkei puts completely blew up, costing the bank $10 billion. The Bank almost went bankrupt. It was one of the worst timed deals in the history of finance. The investors were burned bigtime.
Did I ever hear about the deal I signed on again? Did process servers show up and my front door in London with a giant lawsuit? Did Scotland Yard chase me down with an arrest warrant?
Nope, nothing, nada, bupkis. I never heard a peep from anyone. It turns out you CAN lose $12 billion worth of other people’s money and face absolutely no consequences whatsoever.
Welcome to Wall Street.
Still, when the five-year maturity of the bonds passed, I breathed a sigh of relief.
My hedge fund got involved in buying Japanese equity warrants, selling short the underlying stock, thus creating massive short positions with a risk-free 40% guaranteed return. My investors loved the 1,000% profit I eventually brought in doing this.
Unlike most managers, I insisted on physical delivery of the warrant certificates, as the creditworthiness of anyone still left in the business was highly suspect. Others who took delivery used warrants to wallpaper their bathrooms (really).
They all expired worthless, I made fortunes on the short positions, and still have them by the thousands (see below).
In September 2000, the Industrial Bank of Japan, its shares down 90%, merged with the Dai-Ichi Kangyō Bank and Fuji Bank to form the Mizuho Financial Group. It was a last-ditch effort to save the Japanese financial system after ten years of recession engineered by the government.
Morgan Stanley shut down their worldwide Japanese equity warrant trading desk, losing about $20 million and laying off 200. Some staff were outright abandoned as far away as Hong Kong. Morgan Stanley was not a good firm for running large losses, as I expected.
I learned a valuable trading lesson. The greater the certainty that people have that an investment will succeed, the more likely its failure. Think of it as Chaos Theory with a turbocharger.
But we sure had a good time while the Japanese equity warrant boom lasted.
Stay Healthy,
John Thomas
CEO & Publisher
The Diary of a Mad Hedge Fund Trader
"We underestimated the negative impact of the slowdown in the housing market, and we may be underestimating the tailwind in its recovery," said Uwe Mark Ruttke of Merrill Lynch, the top financial advisor in Colorado.
Mad Hedge Technology Letter
October 28, 2022
Fiat Lux
Featured Trade:
(ENTRY POINT INTO AMAZON)
(AMZN)
The bonanza is over for now at Amazon (AMZN).
“Tightening our belt” are 3 words that I never thought I would hear from a Silicon Valley tech behemoth.
Yet, that is the shocking phrase that Amazon CFO Brian Olsavsky uttered as the man behind Amazon’s numbers spoke about the firm’s immediate future.
His less-than-sanguine outlook dovetails accurately with my prognosis for this earnings season that big tech will show weakness, but far short of the earnings apocalypse many were predicting.
That is why I am executing bullish trades on the dips for the best of class in tech.
Many investors are writing off 2022 as a year to forget, and tech companies are trying to make it over the line so they can pick a new play in the huddle.
The conditions and backdrop in Silicon Valley couldn’t have been worse in 2022.
2023 is poised to be a rebound year as liquidity loosens and supply chain bottlenecks ease.
Amazon used to glide through earnings with 5 stars.
Now they are stuck with quite a few mediocre businesses.
Amazon said it expects to post fourth-quarter revenue between $140 billion and $148 billion, representing year-over-year growth of 2% to 8%. Analysts were expecting sales to come in at $155.15 billion.
Amazon growing at 2%!
Yes, you heard it here first, and how the mighty and powerful have declined.
Under current CEO, Andy Jassy, who took the helm from founder Jeff Bezos in July 2021, Amazon has responded to hyperinflationary costs by aggressively cutting expenses across large segments of the company in recent months.
It shed warehouse resources, froze many experimental projects, shelved its telehealth service, and froze hiring for corporate roles in its retail business.
Amazon CFO Brian Olsavsky said the company cut its capital expenditures budget for this year by a third after it spent heavily over the last two years on things like ramping up its fulfillment and logistics network to deal with a lockdown economy.
When Founder Jeff Bezos resigned as CEO and took a back seat, Bezos knew that Amazon was peaking in the short term. He even sold some stock at the peak to cash in.
Jassy simply has a hard task on his hands to prove that he can reignite the tech company, but to give him the benefit of the doubt, he entered into a company dipping from its peak.
One bright spot that I didn’t mention was the strength of the digital ad business – it should arrive at a $10 billion per year business in a year or 2.
In totality, there is no way I can just throw AMZN onto the scrap heap.
The 10% selloff this morning, although warranted, is a great buy-the-dip entry point in the short term or long term.
That is why I executed a bullish call spread with strike prices of $87-$92 speculating that AMZN will stay above $92 by November 18.
This trade is even more soothing when the probability of the Fed slowing down rate hikes has dramatically improved in the short-term.
Any type of behavior that is perceived as pausing the tightening of liquidity is now equivalent to a “pivot.”
“Over the next 10 years, we’ll reach a point where nearly everything has become digitized.” – Said Current CEO of Microsoft Satya Nadella