Posts

August 2, 2019

Mad Hedge Technology Letter
August 2, 2019
Fiat Lux

Featured Trade:

(THE GREAT LATIN AMERICAN INTERNET PLAY),
(MELI), (PYPL), (AMZN), (EBAY)

The Great Latin American Internet Play

How do you get exposure to the e-commerce story in Latin America?

The best way to do that is to dive into Mercado Libre (MELI), meaning “free market” in Spanish, an Argentine company incorporated in the United States that operates online marketplaces dedicated to e-commerce and online auctions, including mercadolibre.com.

Mercado Libre was established as an Argentine company in 1999 and Founder & CEO Marcos Galperin, while attending Stanford University, acquired funding from HM Capital Partners co-founder John Muse to start his brainchild.

Mercado Libre received additional funding from JPMorgan Partners, Flatiron Partners, Goldman Sachs, GE Capital, and Banco Santander Central Hispano.

The company has used M&A along with organic growth to drive the company.

Relevant examples are of eBay (EBAY) buying a 19.5% stake in the company and then selling its stake in Mercado Libre in 2016, but the companies continue to expand eBay sellers into Latin America.

The cooperation remains strong with eBay opening its first branded store on the Mercado Libre marketplace from Chile in March 2017.

Mercado Libre has acquired iBazar Como, the Brazilian subsidiary of eBay’s earlier acquisition, iBazar S.A.

The success culminated with becoming the first Latin American technology company to be listed on the NASDAQ, under the ticker symbol MELI.

The firm offers investors a way to invest in one of the fastest-growing e-commerce markets in the world.

The company has 280 million registered users out of 644 million people who live in Latin America.

The stock has soared 543% in the last five years making the firm one of the fastest growing e-commerce companies in the world by many metrics.

The main drag is that the valuation looks frothy at these price levels.

Mobile payments have mushroomed naturally because of its title, the “eBay of Latin America.”

They can also claim to be the PayPal of the region, thanks to robust growth happening in the MercadoPago digital payments business.

In the first quarter, total payment volume rose 82.5% year-over-year.

Off-marketplace payment volume is up 194% – accelerating each and every quarter.

Off-marketplace payments now comprise 45% of the company’s total payment volume, and management sees high penetration trends happening in certain areas.

PayPal (PYPL) have become huge supporters of MercadoLibre with an investment of $750 million into MercadoPago.

The deal will join the firms together to work on the shared vision to digitize the economy, especially for the underbanked, in Latin America.

It’s a stamp of approval of Mercado’s brand recognition in the region that PayPal chose to invest in the company instead of competing.

How fast is the addressable market growing?

Investors have been seduced by the company’s impressive growth in payments, but the core marketplace business is still doing backflips.

Gross merchandise volume (GMV) expanded 27% year-over-year in the first quarter, driven by 70% growth in Mexico.

Brazil is the largest market and expanded GMV by 18% year-over-year in the quarter.

Management referenced supermarket items in Mexico and increasing apparel selection as two areas that are showing strong results.

Apparel is the fastest-growing category, up 79% year-over-year last quarter.

With signs that new development is headed in the right direction, new categories and the company expanding its logistics footprint, the market will definitely expand.

MercadoLibre can grow beyond the marketplace business to become a formidable fintech company.

As it expands into other services, Mercado is fortifying its strong brand across Latin America.

Even as Amazon.com (AMZN) enters the high stakes industry, Mercado’s first mover advantage can’t be underestimated.

The stock is pricey so lay off it for the time being but add with any major dips.

 

June 13, 2019

Mad Hedge Technology Letter
June 13, 2019
Fiat Lux

Featured Trade:

(THE TRADE WAR MOVES DOWN MARKET)
(DOCU), (PSTG), (ZUO), (MSFT), (PYPL), (ADBE)

The Trade War Moves Down Market

To understand the consequences of the global trade war, just take a look at the second-tier software companies.

There has been softness in the latest earnings reports and guidance signaling a lukewarm upcoming summer.

The best-case scenario is the likes of DocuSign (DOCU) and Zuora (ZUO) rallying into the end of the year.

That is hardly a given considering the global turmoil has shifted supply chains in every which way as well as denting overall demand.

Cloud-based companies have seen meaningful weakness this earnings season, even some of them absorbing heavy losses in the wake of their quarterly results, but analysts aren’t ready to write off this industry yet.

Referencing the latest industry survey, 20 software companies reported results in the last month, and of those, only six saw a positive response in their stock prices.

DocuSign and Pure Storage (PSTG) were among names that got clobbered, along with cloud-computing plays like Cloudera Inc., Nutanix Inc., Box Inc., and Pivotal Software Inc.

The current malaise in software is due to higher valuations and macroeconomic issues which subsequently elevates uncertainty.

There is no reason to go hysterical over this, and in no way, shape, or form, does this signal an imminent implosion of cloud companies, any incremental caution may be reversible if macro indicators and sentiment rebound.

And this rebound can be swift once all the stars align together.

Adding to the comfort is that some of the sharp drawdowns were company-specific reasons.

MongoDB Inc. or Zscaler Inc., were coming off strong year-to-date advances in their shares and it was time to take profits before the next upward explosion.

Cybersecurity company Zscaler, is appropriately accounting for outperformance and have already been crushing higher than normal expectations.

DocuSign eclipsed expectations on some metrics but disappointed on others, such as billings growth.

This disappointing miss punished the company with a drop of 15% in the pre-market session, as DocuSign grew sales by 27%, a lower rate than in previous quarters.

Management blamed the poor performance to an elongated sales cycle.

Bulls were hoping for a beat-and-raise quarter and instead got in-line numbers with some soft spots around the periphery.

Investors aren’t in a charitable mood and the sensitive mood around geopolitics has made investors more agitated with a shorter leash.

There was a tone of a broader deceleration in software demand prompting stronger names to get comingled together, but the bulk of this negative price action has been overdone.

Even further down the pecking order, results from smaller cloud firms have pointed to more fundamental issues, and these stocks have emerged as a particularly weak sub-sector.

A number of these companies reigned in their forecasts, a trend that has buttressed analyst caution over the group.

Considering that many companies have labored and there exist clear narrative similarities, it’s hard not to surmise that some real systemic pains in infrastructure exist.

Many in the industry are acutely aware of the growing chorus of companies blaming competition or poor sales execution.

Lower growth rates are effectively the predominant reason for lower stock prices in this group of cloud companies.

On the flipside of this weaker cloud growth are the heavy hitters who are throwing around their weight getting through largely unscathed.

If any of these bigger cloud companies can fuse together a business model with no China exposure, then shares are likely stable to upward trending.

A company like Adobe (ADBE) is a perfect company to look at with an unpretentious yet steady growth rate and wildly successful products.

If we were to look at more growth-based companies with larger scale, then PayPal (PYPL) and Microsoft (MSFT) epitomize the type of cloud companies that are thriving in this environment and if geopolitics subsides, take on another 10% in sales.

Not only is the weather hot in the summer, but the anti-trust regulators are turning up the heat on certain tech companies on anti-trust concerns.

This could be a time to wait out those stocks and there could be another move to the upside if regulation is weaker than expected.

 

 

 

June 5, 2019

Mad Hedge Technology Letter
June 5, 2019
Fiat Lux

Featured Trade:

(BOX TAKES A HIT)
(BOX), (MSFT), (PYPL)

Box Takes a Hit

REVENUE DOWNGRADES – these are meaningful side effects that many public tech companies are grappling with.

To really understand the complete picture of the technology industry, analyzing the fringes goes a long way to telling us the level of health of firms operating in the face of a mammoth trade war.

Before companies start posting decelerating revenue numbers, the warnings and preannouncements come thick and fast.

That is exactly what we have been receiving as of late.

Redwood City-based cloud storage company Box (BOX) nosedived 14 percent at today’s opening after beating financial estimates but offering investors light guidance that fell short of expectations.

In fact, Box had a tidy quarter and its 16% YOY of revenue growth is performance that many industries would give a left arm for.

The $163 million in sales in the first quarter was a beat of about $1.6 million showing that cloud companies are still the kings of the modern economy.

Being that the stock market is forward-looking, mister market didn’t like what Box finished the call with.

Consensus had it that Box would deliver around $700 million of sales in 2019, but the company indicated that the souring climate because of the trade war made this highly unlikely and guided down to between $688 million to $692 million.

This won’t be the last downgrade if there are no resolutions in the next quarter, expect more than a handful to preannounce.

As we speak, both countries are digging their heels in, signaling to each other they are unlikely to budge.

Box is at an inflection point in their history where they are attempting to push their business model into a $1 billion per year operation.

This means chasing after corporate clients who have the scale and volume to satisfy these revenue goals.

Corporate clients usually are prone to having deep overseas supply chains and the diminishing success of these businesses will force them to think twice about partnering with firms like Box.

They might want to now but could put off the decision for a year or two.

The knock-on effect is massive with many areas of the expense puzzle shaved off here and there.

Expect downgrades in the quality of their office coffee beans as well.

Ultimately, many of the second-tier tech companies are at risk of issuing an imminent profit warning or if they don’t make profits, revenue downgrades will happen in the upcoming weeks.

If you thought the dollars are vanishing into thin air, you are wrong.

They still exist but are actively being pushed around to different parts of the global economy and there is one main recipient of the flow of funds.

Since tariffs have created a situation where it is too expensive to export or import from America and China, one country, in particular, has welcomed an avalanche of new money.

Many supply chains are moving over to Vietnam as we speak.

Malaysia, Chile, and Argentina have also seen an uptick in trade flows.

And you can bet that every drop of manufacturing foreign capital right now is avoiding China like the plague until they get more clarity on trade policy or weighing up moving operations to America, so they aren’t charged a tariff for selling to Americans.

Many Chinese manufacturers are using a workaround – offshoring their business taking a cue from America in the 1990s.

Vietnam has already gained 7.9% of GDP in new businesses from Chinese and American corporations.

America is past the point of no return as many executives believe this could be a dog fight in the trenches until 2035.

Better to move now and salvage what they can.  

Many experts have chimed in admitting that Vietnam is what China was 20 years ago, offering manufacturers cheap labor and growing know-how in high precision industries.

Throw into the mix that Vietnam has a huge Chinese minority population which many not only speak the local language but also can communicate in Chinese, then it seems like a natural fit to source goods from there.

It could play out quite ironically with American tech companies deploying this exact carbon copy of a strategy, and we might see Chinese and American factories and research centers standing shoulder to shoulder with one another dotted around Ho Chi Minh City and Hanoi.

Expect Vietnam to be the next to ride the economic rollercoaster that China enjoyed for 30 years.

Effectively, tech profits and other American industries have seen their margins and revenue repackaged and delivered to the Vietnamese economy.

The Chinese and American economies are in for some short-term grinding and if they can’t get along at some point, Vietnam and others will be handsomely rewarded.

Investors need to keep a watch out for the next batch of data from second tier tech companies that will offer a glimpse into the future and how this trade war is playing out.

I believe the cleanup hitters like Microsoft and PayPal still swing a heavy bat and that won’t go away for the rest of 2019, but the little guys could get bullied with some revenue resets.

 

 

May 14, 2019

Mad Hedge Technology Letter
May 14, 2019
Fiat Lux

Featured Trade:

(CHINA’S COUNTERATTACK)
(AAPL), (MSFT), (ADBE), (PYPL), (QCOM), (MU), (JD), (BABA), (BIDU)

China’s Counterattack

Ratcheting up the trade tensions, China is pulling the trigger on retaliatory tariffs on $60 billion worth of U.S. goods, just days after the American administration said it would levy higher tariffs on $200 billion in Chinese goods.

American President Donald Trump accused China of reneging on a “great deal.”

The mushrooming friction between the two superpowers gives even more credence to my premise that hardware stocks should be avoided like the plague.

I have stood out on my perch in 2019 and proclaimed to buy software stocks and if you need one name to hide out in then I would confidently choose Microsoft (MSFT).

Microsoft has little exposure to China and will be rewarded the most on a relative basis.

The last place you want to get caught out is buying hardware stocks exposed to China and Apple is quickly turning into the largest piece of collateral damage along with airplane manufacturer Boeing.

Remember that 20% of Apple’s revenue comes from China and Apple bet big to solidify a complex supply chain through Foxconn Technology Group in China.

When history is recorded, CEO of Apple Tim Cook not hedging his bets exposing Apple’s revenue machine could go down as one of the worst ever managerial decisions by tech management.

The forced intellectual property transfers in China from western corporations was the worst kept secret in corporate America.

Being an operational guru as he is, and the hordes of data that Apple have access to, this was a no brainer and Cook should have mitigated his risks by investing in a supply chain that was partially outside of China, and not incrementally spreading out the supply chain through other parts of Asia is coming back to bite him.

China’s most recent tariffs will come into effect on June 1, adding up to 25% to the cost of U.S. goods that are covered by the new policy from China’s State Council Customs Tariff Commission.

The result of these newly minted tariffs is that importers will probably elect to avoid absorbing the costs themselves and pass the price hikes to the consumer sapping demand.

The American consumer still retains its place as the holy grail of the American economic bull case, but this will test the thesis.

For the short term, it would be foolish to hang out to Chinese companies listed in New York through American depository receipts (ADR) such as JD.com (JD), Alibaba (BABA).

Baidu (BIDU) is a company that I am flat out bearish on because of a weakening strategic position versus Alibaba and Tencent in China.

Even with no trade war, I would tell investors to short Baidu, and the chart is nothing short of disgusting.

Wei Jianguo, a former vice-minister at the Chinese Ministry of Commerce who handled foreign trade, said to the South China Morning Post that “China will not only act as a kung fu master in response to U.S. tricks but also as an experienced boxer and can deliver a deadly punch at the end.”

It is clear that any goodwill between the two heavyweight powers has evaporated and the hardliners inside the communist party pulled all the levers possible to back out at the last second.

Many of us do not understand, but there is a complicated political game perpetuating inside the Chinese communist party pitting reformists against staunch traditionalists.

This is not only Chairman Xi’s decision and appearing weak on the global stage is the last concession the communist government will subscribe to.

Along with the iPhone company, semiconductor stocks will be ones to avoid.

The list starts out with the chip companies leveraged the most to Chinese revenue as a proportion of total sales including Qualcomm (QCOM) with 65% of revenue in China, Micron (MU) who has 57% of sales in China, Qorvo who has half of sales from China, Broadcom who has 48% of sales from China, and Texas Instruments rounding out the list with 43% of total revenue from China.

The first 5 months of the year saw constant chatter that the two sides would kiss and makeup and chip stocks benefitted from that tsunami of positive momentum.

The picture isn’t as pretty when you flip the script, and chip stocks could suffer a gut-wrenching summer if the two sides drift further apart.

After Microsoft, other software names I would take comfort in with the added bonus of strong balance sheets are Veeva Systems (VEEV), PayPal (PYPL), and Adobe (ADBE).

The new tariffs will burden American households to up to $2 billion per month going forward, and new purchases for discretionary items like extra electronics will be put on the back burner extending the refresh cycle and saddling chip companies and Apple with a glut of iPhone and chip inventory.

Buy software companies on the dip.

 

 

May 6, 2019

Mad Hedge Technology Letter
May 6, 2019
Fiat Lux

Featured Trade:

(PAYPAL GOES FROM STRENGTH TO STRENGTH)
(PYPL), (SQ), (GOOGL), (LYFT)

PayPal Goes From Strength to Strength

It’s time to revisit one of my favorite tech picks for 2019 that is a constant trade alert candidate.

The attention is warranted with the stock performance delivering a tidal wave of euphoria rising around 30% in the first half of 2019.

I expected PayPal to have a great year, but I didn’t expect them to perform better than Square who are growing from a lower install base.

PayPal’s overperformance signals to the wider business establishment how important a broad install base can be that can tap the network effect to reel in profits.

This is how once legacy dinosaurs can reinvent themselves in months.

The lack of entry points is a concern prodding investors to chase the stock if they want a piece of the action.

This is one of the drastic side effects of PayPal’s meteoric rise that has been buttressed by dovish Fed policy.

Investors are literally praying to the skies for any softness in tech earnings reports because for the best of the bunch, there have been no moderate pullbacks of note since last winter.

PayPal did offer a slight data point that might be construed as disappointing when total payment volume (TPV) of $161 billion was slightly lower than the consensus of $163 million for the quarter.

It’s slim pickings for the bear camp with not much to feast on in an otherwise pretty solid earnings report.

As PayPal expanded by 9.3 million new active accounts, bringing its total up to 277 million, management has super charged this legacy fintech company into an outright renaissance.

Doing even more to shed the tag of a legacy company, PayPal invested half a billion dollars at $47 per share into the upcoming Uber IPO signaling possibilities that their payment software could at some point integrate into Uber’s network down the road.

Alphabet (GOOGL) has shown that if you get in early with these Silicon Valley unicorns, synergistic effects are plenty with Alphabet lapping up revenue charging Lyft (LYFT) for providing digital ad capabilities on top of the appreciating value of their investment stake.

And if you remember that way back, PayPal was tied to eBay before it was spun out.

Better to attach future hopes and dreams to a leading visionary and innovator instead of a legacy e-commerce platform.

Illustrating the tough task of turning around eBay, eBay clocked in negative TPV growth of 4% in the past quarter.

PayPal offered us more detail into active-account numbers for its Venmo peer-to-peer service with more than 40 million people using Venmo for at least one transaction in the last 12 months.

Venmo processed $21 billion in TPV last quarter, mushrooming by 73%, while the core PayPal platform’s TPV grew 41% to $42 billion.

The success paved the way to raise its full-year EPS outlook from $2.94 to $3.01 ensuring that its prior forecast on revenue and TPV will be met.

PayPal previously guided lower with an expected $2.84 to $2.91 in adjusted EPS and $17.75 billion to $18.1 billion in revenue.

When we tally up all the positive points, it’s hard to ignore the 12% YOY increase in revenue to $4.13B and the more impressive 37% YOY rise in EPS growth signaling the company is applying its giant scale to maximum effect.

Customer engagement of 37.9 payment transactions per active account rose 9% YOY while the TPV which came in lower than consensus was still growth of 22% YOY.

I love that PayPal has migrated towards the heart of innovation while being a legacy fintech company.

Venmo and the Venmo card are rapidly infiltrating the center of consumer’s daily financial lives wielded for groceries, gas, and restaurants.

In February, PayPal introduced a limited-edition rainbow card which became the fastest adopted Venmo card.

I want to reiterate how the proof is in the pudding with Venmo volume increasing 73% to approximately $21B in the quarter.

Not only does this legacy fintech have super growth drivers, they have become quasi venture capitalists applying a horde of capital to snap up attractive assets.

An example is a $750 million investment in the e-commerce and payments leader in Latin America called MercadoLibre which creates a network effect to PayPal’s core business in the region.

If the steady drip of news wasn’t good enough, PayPal announced a partnership with Instagram to process payments when customers are shopping on Instagram in the U.S.

Management is convincingly delivering the goods with 110 basis points of operating margin expansion.

PayPal’s flawless performance is a great model in how to survive the volatile times of rapid tech shifts, and the best way to alter a model to reduce existential threats.

The company has growth drivers, have migrated capital into growth tech, are innovating with the best of them, and management is executing surgically taking advantage of a massive install base.

Buy on any weakness, entry points are few and far between.