Mad Hedge Technology Letter
May 15, 2019
Fiat Lux
Featured Trade:
(TRUE COST OF THE CHINA TRADE WAR)
(EXPE), (TRIP), (GOOGL), (CTRP)
As the trade misunderstanding escalates to a new stratum of ferociousness, certain parts of the economy are ripe to be battered.
Tourism and in particular, international travel, will be one of the first luxuries to be sliced off consumers' list.
China’s most popular online travel agent Ctrip.com (CTRP) has suffered a damaging drop in demand from would-be international travelers.
Jonathan Grella, spokesman at the US Travel Association said, “The US runs a US$28 billion travel and tourism trade surplus with China” and preliminary numbers appear that Chinese travel to the US in the past year has dropped around 20%.
Compounding the woes is the weakening of the Chinese yuan which could become collateral damage from the trade negotiations if American and Chinese corporations repurpose supply chains to other countries and stop sending dollars to the mainland.
The ball is already rolling with 93 percent of Chinese companies considering making some changes to their supply chains to mitigate the effects of trade tariffs in an ingenious way to circumvent extra costs.
Of these, 18% are open to a complete supply chain remake and production transformation, with 58% making meaningful changes.
A further 17% plan to make minor tweaks in response to the trade war, with only 7% making no changes at all.
Chinese and American companies are reconsidering their Chinese manufacturing bases to avoid the tariffs placed on US$250 billion of Chinese exports by US President Donald Trump.
The unintended consequence will be a powerful surge in economic activity in South East Asia with also India benefitting from the chaos.
Apart from the supply chain complexities, the worsening of Chinese yuan strength could put a massive damper on Chinese international travel plans.
The annual Chinese international travel growth rate of 5.5% would be in dire straits translating into current travel demand rerouted to lower margin Asian countries such as Thailand, Vietnam, and Malaysia which are quite popular for budget travelers.
If lower sales do not manifest itself because tourists opt to forego expensive western countries, this demand will correlate into fewer dollars per traveler because of cheaper destinations which might force companies to double down on promotions to lure higher volume.
The same goes for American consumers who will be on the hook for the tariff-loaded consumer items that trickle onto our shores.
Decaying relations have already poisoned the US tourism sector that’s seen its growth flatline for the first time in 10 years.
And while only a small percentage of the 80 million visitors to the US in 2018 were Chinese, the potential for that segment’s growth remains robust.
Only 6 percent of Chinese citizens have passports signaling an imminent rise in outbound Chinese tourists that will reach 220 million by 2025.
The opportunity cost of these dollars migrating to other locations will be a kick in the teeth.
I reiterate my negative call for American online travel companies with recent damage control coming from TripAdvisor for last quarter’s debacle when the company reported dismal top-line results combined with a drop in monthly average unique visitors.
The company’s first-quarter revenues of $376 million missed badly up against the consensus forecast of $386.8 million.
TripAdvisor’s quarterly revenues fell 1% YOY as a result of the core hotel business underperforming and revenues from TripAdvisor’s Hotels, Media & Platform (or HM&P) showing zero growth at $254 million.
Revenues from its fringe businesses, which includes rentals, Flights/Cruise, SmarterTravel, and Travel China, plunged 33% to $42.
The proof is in the pudding with the company’s falling unique visitor count putting the kibosh on TripAdvisor’s growth prospects.
The company’s average monthly unique visitors cratered 5% YOY to 411 million users in the first quarter, contrasting with TripAdvisor’s performance last year when it reported an 11% YOY unique visitor growth.
Google is the boogie man in the equation with the company rolling out a more holistic travel product to integrate flight and hotel search functions while organizing people’s travel plans and saving research.
Alphabet will also repurpose more travel data on Google Maps, and integrate hotel and restaurant reservations for customers who are logged on.
Linking the Google travel and map functions seem like a no brainer to me and will be the precursor before the company starts selling ads on Google Maps including travel ads.
Google’s pivot into online travel marks an existential crisis for the incumbents and will strengthen its position in travel by driving further searches and potential higher-qualified leads for its partner companies, such as airlines and hotels.
Consumers have already recognized Google as the go-to place where to do travel research.
In a zero-sum game, Expedia (EXPE) and TripAdvisor (TRIP) will directly lose out.
Highlighting the erosion was Expedia’s super growth asset Vrbo whose gross bookings totaled $4.16 billion, up a paltry 5 percent from a year earlier.
The growth rate was less than half of the main online travel agency business which should sound off alarm bells.
As it stands now, Google generates referral traffic although it does process some bookings on its own site for other travel merchants.
Unlike travel agencies such as Expedia or Priceline, Google doesn’t directly sell travel products such as hotel rooms or airline tickets but that could change quickly.
This ties back to my continuing thesis of the low-value proposition of broker apps in the tech ecosystem, either there will be one with a monopoly, or a bigger fish will hijack their business model and become the new monopolistic dominator.
Such is the high stakes of Silicon Valley in 2019.
“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
Mad Hedge Technology Letter
May 14, 2019
Fiat Lux
Featured Trade:
(CHINA’S COUNTERATTACK)
(AAPL), (MSFT), (ADBE), (PYPL), (QCOM), (MU), (JD), (BABA), (BIDU)
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.
“These trade relationships are big and complex and do need a level of focus and updating and modernization, so I’m optimistic that the countries can work these things out for the benefit of everyone.” – Said CEO of Apple Tim Cook
Mad Hedge Technology Letter
May 13, 2019
Fiat Lux
Featured Trade:
(THE TIDAL WAVE OF EUROPEAN EV SUPPLY)
(TSLA)
It’s not Volkswagen’s first attempt at an all-electric car, but it’s certainly the most crucial attempt in their long history.
There have been iterations such as the e-Golf and other pure-electric vehicles before.
This time around, VW will debut the ID.3 and its new MEB platform.
The newest architecture for electric vehicles will be the lynchpin for several models across all of VW Group’s brands.
According to VW, “The architecture is aimed to consolidate electronic controls and reduce the number of microprocessors, advance the application of new driver-assistance technology and somewhat alter the way cars are built.”
The German company has committed $48 billion in car battery supplies too and plans to run 16 factories to build electric cars by the end of 2022.
At the lowest rung, there’ll be a battery expected to get around 205 miles and this ID.3 will be priced at under 30,000 euro ($33,650) before any subsidies or incentives.
In the middle, there’ll be an ID.3 capable of roughly 261 miles on a full charge which could mushroom into the most popular battery size.
Lastly, there’ll be a 342-mile battery option.
VW is certainly betting big on EVs along with its other in-house brands.
In March, VW announced it plans to launch 70 battery electric vehicles over the next decade and sell 22 million of them.
Previously, VW had said it would sell 15 million battery-electric vehicles by 2025.
The previous plan called for 25% of its global sales to be all-electric by 2025.
VW in-house brands are cranking up launches of new all-electric models.
Audi has started with the e-tron SUV and Porsche’s Taycan goes on sale in September.
VW brand’s I.D. and I.D. Crozz will appear next year while its subsidiaries like Skoda and SEAT are also going electric.
VW is not without its problems.
The recent charge by the European Union (EU) that it colluded with other German manufacturers to limit advances in clean emissions technology was another management misstep.
And the EU provides another challenge to all European carmakers with its harsh rules for 2020 fuel efficiency.
Recent research showed that it could cost VW up to 10 billion euros ($11.3 billion) in fines if it is unable to reduce its current fleet average of 123 grams per kilometer.
Cars like VW’s Audi e-tron offer zero reasons for consumers to buy, costing upwards of 70% more than conventionally powered equivalent vehicles.
The efficiency of the Audi is poor compared with Tesla models and the e-tron’s 95kWh battery offered a range of 2.5 miles per kWh, while the Tesla Model X managed 3.25 miles and the long-range Model 3, 4.13 miles.
Costs should come down substantially for vehicles deploying the MEB platform.
Theoretically, it’s the MEB platform that will serve further electric models going forward.
Yet, it’s highly possible the market is being overly optimistic that VW can deliver on its EV strategy and targets, which is the underlying thesis of the bull story.
VW’s lack of transformative structural improvements and its difficulties in making value-accretive strategic decisions that could unlock shareholder value means multiple upgrades in share price is less than probable.
Volkswagen is offering a Tesla style pre-booking to those who purchase an ID.3 and the possibility of charging electric power at no cost for the first year up to a maximum of 2,000 kWh at all public charging points connected to the Volkswagen charging app WeCharge and using the pan-European rapid charging network IONITY.
The ID.3 is to be delivered to customers in carbon-neutral form.
Production of the ID.3 1ST is to start as planned at the end of 2019 and the first vehicles will be delivered in mid-2020.
With its electric offensive, the Volkswagen brand plans to become the world's number one by 2025.
Mercedes is getting in on the act as well with the EQC Edition 1886 aiming to deliver 292 miles per charge and, with an output of 402 horsepower.
The metrics indicate that it will pose a direct threat to both Tesla's older Model X and upcoming Model Y.
The new Mercedes isn’t attacking the low-end of the market where Volkswagen hopes to apply pressure by offering the base version at 71,281 euros, or just short of $80,000, slightly less expensive than the e-tron quattro in Europe.
The new product from Mercedes qualifies for Germany's 4,000-euro federal tax incentive for EVs.
Ultimately, the avalanche of supply from the European high-end carmakers will heap more pressure on Tesla’s Elon Musk to deliver outperformance.
The entire pivot to EVs is predicated on millennials picking up the demand slack and buying into this story when the Baby Boomer generation did not.
By then, the stringent requirements from government and regulators in tackling climate change by itself might offer a massive customer base to tap into EVs whether they like it or not.
EVs have come a long way since the Chevy Bolt, but it’s far from certain that the Europeans will destroy Tesla, but the new developments will sap German demand for Tesla’s car with a domestic alternative.
Volkswagen Group MEB platform
“It's OK to have your eggs in one basket as long as you control what happens to that basket.” – Said Founder and CEO of Tesla Elon Musk
Mad Hedge Technology Letter
May 9, 2019
Fiat Lux
Featured Trade:
(APEX LEGENDS TO THE RESCUE)
(EA)
