Mad Hedge Technology Letter
September 21, 2020
Fiat Lux
Featured Trade:
(WHAT’S NEXT FOR THE TECH MARKET)
($COMPQ)
Posts
The tech market appears to be stalling out confronting uncertainty on a host of fronts, but investors betting on one theme—the unfolding economic recovery—appear positive.
What is certainly uncertain is that elections, brazen geopolitics, healthcare bills, inflation, forbearance, natural disasters are piling up like a dirty laundry basket of heightened risk.
Cyclical outperformance has been the catchphrase since the start of September, and the establishment on Wall Street has been barking for a rotation in market leadership from mega-cap tech.
As much as I love the business models of Apple, Google, Amazon, Microsoft, and Netflix, they have come too far — too fast.
We are currently smack dab in an economic phase where growth stocks won’t perform like they did when the broader economy was humming along just before March and the shelter-at-home trade has faded away from its initial boost.
There are knock-on effects and big tech doesn’t just live in a silo which is why investors are searching for reasons to take tech higher.
That being said, big tech did harvest the lions’ share of the gains from March until the end of August and in relative terms, they have emerged the ultimate winners during this health crisis.
Many upper-middle-class families are beginning to feel the economic pinch as well, as the damage is starting to be felt further up the economic food chain.
But these families will still need their tech software and services when they do a cost-benefit analysis and items such as car loans, entertainment, and food delivery will be more likely on the cutting block.
The overextended S&P 500 technology sector has lost 8% in September, while value-oriented materials and industrials have added 6% and 2%, respectively. The overall S&P 500 has declined 4%.
The valuation of the market is arguing for a rotation, not a continued leg up.
In the short term, tech stocks could lose out to U.S. small-caps and specifically small companies with high returns on equity, or ROE.
Low-ROE and nonearning stocks have dominated the Russell 2000’s rebound since late March, as investors focused on revenue growth above all else. That has benefited a lot of software, biotech, and other stocks, but forced investors to pay a high premium.
When the economy is in free fall, many companies have negative sales growth, and the market will favor those who aren’t overvalued.
By my estimation, tech is overvalued in the short-term but still a great long term bet.
Now that the fiscal morphine shot is wearing off, tech appears to be resting while it consolidates while waiting for an “event” to give it more juice.
Some fiscal tools just don’t work now like share buybacks. Management would be tone-deaf to the economic carnage going on in the U.S. — not to mention that tech stocks just visited all-time highs.
The Federal Reserve now sees 4% gross domestic product growth in the U.S. next year, followed by 3% in 2022.
This small-cap rotation will come and go, and once tech gets a little cheaper, the dip will be bought.
As the retracement goes from 20 days to one month, some positive news comes in the form of Walmart and Oracle acquiring parts of TikTok even in a highly diluted form.
Fortunately, the tech portfolio has been in 100% cash as I sensed the consolidation in time.
We will search for better entry points and will need to be patient.
Mad Hedge Technology Letter
August 12, 2020
Fiat Lux
Featured Trade:
(PUT THE KIBOSH ON TECH STOCKS?)
($COMPQ)
Whether Russia has actually produced a vaccine or not takes a backseat to the upcoming uncontrollable avalanche of media content about delivering a North American vaccine that news wires will disseminate.
It could be the case that the tide rises all boats in the equity world, but the pathway for a serious rotation into laggards is the more likely case.
Russian President Vladimir Putin claimed Russia has become the first country in the world to grant regulatory approval to a virus vaccine after less than two months of human testing.
Establishing an initial marker for a vaccine being realized is bullish for the overall stock market, but tech stocks might participate less in the rally as the capital is funneled into the catch-up trade.
At the very minimum, tech stocks, short term, are at risk of being slightly discounted to the overall market as the “shelter in place” trade that has benefited the strongest cloud plays has a weaker case than it did before.
Expect a bevy of upcoming announcements from North American and European pharma firms describing their unique pathway to a vaccine.
The European and North American scientific community will not want to be outdone by the Russians.
Don’t forget that the Nasdaq is at market tops and it's normal to have a phase of digestion.
Naturally, the Russian vaccine news has been met with a wave of general skepticism concerning its efficacy.
Putin chose to give a personal anecdote citing his daughter’s involvement with the trials as concrete evidence that she is fully vaccinated from the coronavirus.
The development of the vaccine has been put on an accelerated schedule raising concerns among some experts at the speed of its approval, but the Russian business conglomerate Sistema has said it expects to put it into mass production by the end of the year.
Regulatory approval is the precursor to mass inoculation of the Russian population and the government is desperate to revive the economy after a synchronized health crisis, economic crisis, and oil crisis wrapped into one.
The vaccine will be marketed under the name 'Sputnik V' in foreign markets and is already been offered for sale to other countries.
The jury is still out on this potential vaccine and a larger trial involving thousands of participants, commonly known as a Phase III trial hasn’t started yet meaning the approval is quite premature.
Such trials, which require a certain rate of participants catching the virus to observe the vaccine's effect, are normally considered essential precursors for a vaccine to receive regulatory approval.
“You need a large number of people to be tested before you approve a vaccine,” said Peter Kremsner from the University Hospital in Tübingen, Germany currently testing biopharmaceutical company CureVac's vaccine in clinical trials.
So aside from the uncertainty that this could be a ploy to generate revenue for the Russian state, what does this mean for tech stocks?
A real vaccine that will save people from the dreaded coronavirus would mean the “re-opening trade” is alive and well.
A fake vaccine means rhetoric about finding a vaccine which is also positive for the tech market too.
Capital will rotate into the neglected industries of hospitality, retail, transport, and energy.
It’s been a meteoric rise up in 2020 for cloud, software, and tech’s monopolistic juggernauts.
This was due to happen at some point just like the elevated virus risk will eventually dissipate whether it takes six months, two years or five years.
My base case is that tech will be spared from any major carnage and will be range bound in the short to medium term with few catalysts to take them higher.
Earnings certainly isn’t the force multiplier for tech it once was pre-virus.
This Russian vaccine could be indeed a head fake as well leading to another “buy the dip” moment that is so ingrained in the current psyche.
Portfolio managers have a hard time dumping tech stocks full stop because they are hard to get back into on the next move up.
Not to mention they should already be the cornerstone out of any major portfolio and that the opportunity cost of missing out on tech’s supercharged run-ups will limit any broad-based selling and far outweighs the risk of downside price action.
This wasn’t the greatest news for tech stocks, but it could have been worse.
Ultimately, the secular bull market in tech is as healthy as ever.
Mad Hedge Technology Letter
June 26, 2020
Fiat Lux
Featured Trade:
(GETTING READY FOR THE SECOND WAVE)
(DOCU), (TDOC), (NFLX), ($COMPQ)
The coronavirus is dangerously inching towards knocking out the main street economy which would finally land a heavy blow to the tech sector because of the knock-on effect of a substantial drop in future tech budgets.
This leads me to believe that tech stocks are overvalued in the short-term and are due for consolidation.
Daily coronavirus cases have more than doubled from 18,000 to 45,000 as of June 24rd as Americans reclaim the streets and the summer heatwaves kick into gear.
Florida, California, Arizona, and Texas appear to be the new ground zero of the coronavirus and 26 states are experiencing an explosion in cases compared to the prior week.
The blatant disregard for human safety after the reopening means that deaths are likely to spiral out of control in the short-term boding ill for the Nasdaq index but great for shelter-in-place tech stocks.
DocuSign (DOCU), Netflix (NFLX), and Teladoc Health (TDOC) could be in for another run-up.
The jolt in death levels is not baked into tech shares yet, and if things get out of hand, Americans could voluntarily resort back to a shelter-in-place existence.
From March until today, the Nasdaq index has done nothing but sprint upwards due to the eclectic mix of the “re-opening” trade and copious amounts of fiscal stimulus.
If the re-opening trade is killed, the tech market will then go through another contentious referendum to test whether Jay Powell and the Fed are willing to save the equity market yet again.
Propping up the markets ultimately means propping up the tech markets.
If U.S. coronavirus cases re-accelerate from 45,000 to 70,000 then 100,000 per day, the streets could empty out in 1-day.
The risks are certainly to the downside now and the mushrooming of U.S. coronavirus cases could be the catalyst for mass profit-taking in tech names.
Saying the Nasdaq is a little frothy does not mean that tech shares can’t still go higher from here.
They certainly can and there is a legitimate base case surrounding the enormous amount of liquidity sloshing around in the system, meaning that every dip will be bought up.
Then we look forward to the next earnings and news like Apple re-closing 18 stores in coronavirus hot spots doesn’t help.
However, even in the throes of the pandemic, Apple is as innovative as ever - announcing plans to cut ties with Intel during its virtual Worldwide Developers Conference on Monday, saying that it will phase out the use of Intel’s chips in its Mac line of computers over the next two years to use its own in-house chips.
That’s a big deal.
Big tech has so many levers at its disposal.
This goes a long way in a pandemic when specific revenue avenues are blocked off.
Tech is nimble as ever.
Another prime example, after the success of video conferencing software Zoom Communications (ZM), Facebook, Google, and Microsoft posted replica software in a matter of weeks.
Even if their video communication replicas do not catch on, it shows you the vast resources they can muster to harness in whichever direction they please in a blink of an eye.
Many firms are confronting some harsh realities, but investors aren’t penalizing tech firms by selling.
Facebook has seen an ad boycott because of not doing enough against extremism and racism on their platform.
Their algorithms often pit two opposite opinions against each other stoking engagement and more hatred.
Companies including REI, The North Face, Magnolia Pictures, and Upwork have said they won't buy ads on Facebook at least through July as part of a boycott.
The boycott is mostly all bark and no bite and earnings won’t change in a meaningful way.
Uber is a less robust tech firm in the regulatory crosshairs with the state of California about to file court documents that could force Uber and Lyft to reclassify drivers as employees in less than a month.
This could wipe out a small tech company like Uber which is only a $53 billion company.
If the courts rule against Uber, the law would require them to grant drivers employment status while they await the outcome of a pending lawsuit over the issue which would crush the bottom line.
They are having a tough time figuring out how to become profitable.
Investors are doing their best to analyze what the tech industry will look like post-Covid-19 and the assumption is that tech and big tech will dominate which is why any sell-off is temporary.
Every big tech name will survive the pandemic with its business models intact.
Throw in that news of a vaccine and treatment inching forward to fruition and there is a solid bottom for any temporary dip.
It is irrelevant if big tech loses 10% or 20% of revenue this year just as long as they don’t structurally break.
Mad Hedge Technology Letter
June 5, 2020
Fiat Lux
Featured Trade:
(EUROPE’S BIG TECH TAX GRAB),
(COMPQ), (NFLX), (APPL), (AMZN), (GOOGL), (MSFT)
Big Tech regulation gets the protection of the U.S. government.
The U.S. government has announced that it is looking into aggressive regulation originating from foreign countries that would die to have a FANG themselves.
This is just another salient data point to which tech will lead us through the maze of complexity that the world now finds itself in.
Many jumped on the bandwagon saying it was a matter of time before regulation destroys big tech, but I will argue that big tech has become too big to fail and the value generated from stock appreciation and tax revenue has become even more important.
Tech has been the only industry to not get pummeled by the coronavirus and the ramifications of social unrest.
The U.S. government doesn’t want to tip over the last remaining pillar the U.S. economy is clinging to, they are desperate to allow the U.S. tech models to stay intact.
The Federal and State budgets have massive holes in them and crushing tech’s contribution to the revenue coffers would be political suicide.
Understanding how the administration cherishes big tech means viewing them through the prism of how other countries treat U.S. tech companies hoping to take a piece of the pie themselves through clever “regulation.”
The European Union, the Czech Republic, and the U.K. plan to siphon off tax revenue from big tech even though confronted by possible trade sanctions from the U.S.
The U.S. probe also will look into the digital services tax plans of Austria, Brazil, Indonesia, Italy, Spain, and Turkey because they are all looking to skim some cash off of big tech’s cash cow.
To read more about the tax fiasco, please click here.
Europe and the emerging economies have been hit harder than the U.S., not in terms of deaths, but in relative economic terms because they don’t possess the rolodex of Fortune 500 companies that can just issue more corporate debt or a Fed central bank that is delivering trillions in liquidity that has saved the stock market.
Washington has specifically been eying up France for a section 301 investigation after it became the first country to fully implement a digital sales tax in July 2019.
France has been quite aggressive in calling out big tech for undermining and exploiting their economy by not paying tax due.
French Finance Minister Bruno Le Maire has been sharp-tongued criticizing America’s big tech companies for running wild in European markets.
A 3% digital sales tax was in the cards before the U.S. slapped on a counter tariff to French goods which delayed the frosty confrontation.
Europe’s vast network of splintered resources and unbalanced innovation combined with Europe’s infamous avalanche of bureaucracy meant that developing a famous tech company fell through the cracks.
Nothing even remotely close to Silicon Valley was ever conjured up inside the confines of the European Union.
The consequences have been costly with most Europeans relying on Apple cell phones, Google software, Netflix subscriptions, and Microsoft enterprise products to get them through the day just like most Americans.
The tax grab is out of desperation as the EU confronts a post-coronavirus world where they are increasingly controlled by decisions from the Communist Chinese and subject to a graying population that delivers a reduced tax revenue base.
The European Union is one of the biggest losers from the coronavirus.
The hands-off warning by the U.S. government on its own big tech companies puts a premium on their existence to the U.S. economy.
Instead of twisting their arm to squeeze every extra tax dollar out of them, they will most likely get more access to deliver the services most Americans are hooked on.
It’s not a secret that current U.S. President Donald Trump is hellbent on destroying big tech but there is no way to do it without destroying the U.S. economy and the U.S. stock market.
At this point, just a handful of tech companies comprises over 22% of the S&P and this will most likely continue as other industries are still licking their wounds with some analysts believing it will take 10 years to get back to late 2019 economic levels.
The most likely scenario for big tech is that the array of crises has delayed real regulation indefinitely and the U.S. will protect big tech from a tax grab abroad.
The best-case scenario is zero regulation leading to zero extra costs.
Either way, stock appreciation is in the cards for tech’s future.
The end result is that big tech could eventually comprise up to 30% of the S&P in the next 3 years which dovetails nicely with a recent analyst call that Microsoft will hit over $2 trillion in market capitalization in the next 2 years.
Mad Hedge Technology Letter
June 3, 2020
Fiat Lux
Featured Trade:
(ABOUT YOUR RIOT-PROOF PORTFOLIO),
(COMPQ), (WMT), (APPL), (AMZN), (TGT), (JWN), (EQIX), (GOOGL), (MSFT)
Social unrest will have NO material effect on tech shares moving forward.
Some investors expected the Nasdaq (COMPQ) index to roll over big time, throttled by a national insurrection. Anti-police-violence protests, some becoming riots, have broken out in more than 60 cities.
However, it appears to be another false negative for the Nasdaq as it motors upwards acting on the momentum of outperformance during the coronavirus.
One thing that the coronavirus pandemic, as well as protests, have taught investors is the unwavering faith in technology’s strength will continue powering the overall market rebound.
Any social unrest will not stop tech shares because they simply don’t subtract from their revenue models.
This will perpetuate into the rest of 2020 and beyond.
Much of the public reaction from big tech has been paying some form of lip service about the national situation being untenable followed up with a small donation.
Apple (AAPL) says it's making donations to various groups including the Equal Justice Initiative, a non-profit organization based in Montgomery, Alabama that provides legal representation to marginalized communities.
To read more about big tech’s donations, click here.
Aside from some PR formalities, it will be business as usual after things settle down.
Apple might suffer some slight inconveniences of having some stores looted, but that doesn’t mean consumers can’t buy products online.
Tech companies simply contort to fit the new paradigm and that is what they are best at doing.
Apple has charged hard into the digital service as a subscription world that has served Amazon, Apple, Google (GOOGL), and Microsoft (MSFT) so well.
To read more about the robust performance of software stocks, please click here.
Many of these tech companies don’t need a physical presence to drive forward earnings, revenue models, and widen their competitive advantages.
That’s the beauty of it and their brands are so entrenched that it doesn’t matter what happens in the outside world at this point.
It’s true that a few tech companies might have to scale back or modify operations until the storm subsides but not at a great scale that will worry investors.
Amazon is reducing deliveries and changing delivery routes in some areas affected by the protests.
Big tech dodged a bullet with the majority of the financial burden falling on the shoulders of big-box retailers like Walmart (WMT) and Target (TGT) and city center-located businesses.
Walmart closed hundreds of stores one hour early on Sunday, but most are slated to reopen. Nordstrom (JWN) temporarily closed all its stores on Sunday.
Amazon (AMZN)-owned Whole Foods are often located in neighborhoods that are perceived likely to escape the bulk of the turmoil.
The events of the last few days will have significant side effects on the normalcy of society or the new normal of it.
Combined with the pandemic, consumers will opt for more spacious housing options in less concentrated areas of the U.S.
The social unrest once again delivers the goodies into the hands of e-commerce as people will be less inclined to leave their house to consume.
A stock that really sticks out during all of this is the leader in interconnected data centers Equinix (EQIX) because of the explosion of data being consumed from the stay-at-home revolution.
Sadly, the price of tech share does not account for life quality which is part of the reason we see stocks lurching higher.
By the time all the different crises, including coronavirus and protests, are snuffed out, we could be in a world where the only strong companies left are technology, "big tech".
They have an insurmountable lead at this point with guns still blazing.
When you add the windfall of trillions in cash the Fed has pumped out and unwittingly diverted into tech shares recently, it is hard to envision ANY scenario in which the Nasdaq will be down a year from now.
I am bullish on the Nasdaq index and even more bullish on big tech.
Even the supposed “rotation” to value has only meant that tech shares haven’t gone down.
A dip now in tech shares means shares dip for two hours before resurging.
Why would anyone want to sell the best and highest growth industry in the public markets with unlimited revenue-generating potential?
