Weekly Market Commentary By H.E.R.O. (16 to 20 Aug 2021)
The Portfolio of Dividend-Yielding Global H.E.R.O. Innovators -0.1%. Taper hints, Delta fears, Supply Chain disruptions, and China slowdown+regulatory clampdown are hitting the markets in the biggest slide in a month that saw MSCI ACWI All World index -1.5%, S&P 500 -0.6%, NASDAQ -0.7%, Russell -2.5%, Europe in its second-worst weekly performance of the year led by luxury goods stocks after Xi calls for “common prosperity” and plans to target excessive corporate profits and wealth inequalities, with Stoxx -1.9%, FTSE -1.8%, DAX -1.1%, while Asia plunged with Singapore STI -2%, Taiwan TWSE -3.8%, Topix -3.9%, KOSPI/KOSDAQ -3.5%/-7%, Hang Seng -5.8%, CSI 300 -3.6%, MSCI China -7.1%, Hang Seng Tech ETF -10.4%, China Internet ETF KWEB (in StashAway’s portfolio) -8.5%, Tencent -9.5%, Meituan -17.1%, Alibaba -16.3%, Cloud ETFs stumbled with SKYY/WCLD -1.5%/-1.7%, and speculative growth stocks tumbled with ARKK Innovation ETF/FOMO/BUZZ -3.6%/-3%, -3.8%, while the dollar index reached a nine-month high since November and commodities from copper which has fallen 16% from its 2021 high hit in May, to iron ore which sank to an eight-month low and down more than 33% since July as China sought to cut steel production and BHP warned of peak prices, to oil plunged with weekly losses of over 6% to the lowest since May. Meanwhile, UBS has warned that the gold’s rebound will be short-lived, urging investors to ditch the commodity and “get out”.
Nervousness about possible tapering by the Fed ahead of next week’s Jackson Hole speech by Chair Powell after the minutes of the most recent meeting of the FOMC on July 27-28 showed discussions that most of the FOMC members thought that the central bank’s monthly purchases of $120 billion of Treasury and agency mortgage-backed securities could be tapered later this year (the Fed had spent US$4 trillion on bonds since the pandemic began, or US$834 million an hour), along with a potential Chinese growth slowdown, have weakened the reflation hopes many had back in Q1. The stock market is supported by fewer and fewer stocks, with Russell 2000 slipping 2.5%. The “tick index” stayed below that threshold for 13 full sessions through Thursday, the longest stretch in three years, indicating subdued impetus to buy stocks, though U.S. stock funds enjoyed their largest inflows in nine weeks as “everyone believes in TINA (there is no alternative) & BTD (buy the dip)”, and emerging market ETFs outflows hit 11-month high. U.S. housing starts slumped and retail sales in July suffered a larger-than-expected drop as stimmy spending stalls. U.S. stocks rebounded on Friday to pare the weekly losses after Dallas Fed chief Kaplan said he may rethink his call for the Fed to quickly taper its asset purchases if the spread of the Delta variant continues slowing economic growth. The Reserve Bank of New Zealand’s decision to postpone an expected interest-rate hike is leading investors to wonder if the delta variant of coronavirus will force other central banks to do the same. The S&P 500 hasn’t fallen by at least 5% in 200 sessions in the longest stretch since 2016, while the Stoxx 600 has gone without a 5% drop for 138 days, the longest streak since 2017.
There’s a growing view that stocks in the depths of March 2020 lows look like bigger bargains now as doomsayers miss the strength in earnings: Corporate profits have roared higher in such a spectacular fashion that valuations -- when analyzed against the actual earnings reported a year later -- were almost 20% cheaper than analysts thought when investors began piling into the S&P 500 Index in April 2020.
With the European earnings season nearly at the halfway mark, profit for STOXX 600 companies is expected to have surged 150% in the second quarter, the best since Refinitiv IBES records began in 2012. The Stoxx 600 operating margin on a quarterly basis has rebounded from pandemic lows to over 11%, the highest since 2011. Europe’s record-breaking earnings season has shown a sharp rise in the number of companies repurchasing their stock, raising investor hopes of big U.S.-style returns in a market that has historically focused on dividend payouts rather than buybacks.
Chinese companies listed in the U.S. and China tech stocks matched their longest weekly losing streak in more than a decade after Beijing intensified its regulatory clampdown across various industries. China has passed legislation, which goes into effect Sept. 1, setting out tougher rules for how companies handle user data, a move pushing forward its campaign to curb big tech’s influence. China also broadened its crackdown on information gathered by automakers, and the rules will take effect Oct. 1. China’s legislature has also officially passed the Personal Information Protection Law (PIPL), placing legal restrictions on how personal data can be collected, used and managed after it comes into effect on November 1.
The law, one of the world’s toughest on personal data security, is set to make it significantly harder and more expensive for tech firms in China to access and use consumer information, with a far-reaching impact that is being compared with the implementation of the General Data Protection Regulation in the European Union. Chinese state media called for tougher oversight to protect consumers, hurting liquor makers, cosmetics firms and online pharmacies on Friday. The Hang Seng Index plunged to enter a technical bear market as regulatory crackdowns spread across industries. This comes after policymakers in China released a fresh round of proposed regulations to further ensure the rights of drivers who work for online companies and to step up oversight of the live streaming industry. Chinese authorities will impose a cap on the percentage ride-hailing platforms can take from drivers' fees, an official from the Ministry of Transport said on Wednesday, in response to issues such as arbitrary pricing, driver fatigue and "excessively high" ride takings, to better improve working conditions for drivers. Adding to regulatory worries are concerns that China’s economic recovery is losing momentum and debt risks are rising, as data points to sharp slowing in demand, retail sales and factory output, and suggests authorities are cracking down at a delicate time with over 300% debt/GDP, a number which has more than double since the financial crisis. Policymakers’ persistence with curbing red-hot property prices has markets on edge and corporate credit fell further on Friday with the news that heavily-indebted Evergrande had been rebuked by regulators. Meanwhile, spending on 5G networks and other infrastructure by Chinese telecommunications companies dropped 25% in the first half of the year, a period they had previously identified as a peak time for building out their new high-speed systems. More than $6 billion worth of cornerstone investment lockups are due to expire within the next five months for this year’s HK IPOs. Singapore’s Temasek Holdings was reported to have bought stakes or increased its holdings in several prominent Chinese technology companies (Didi, New Oriental Education, TAL Education, 17 Education, Baidu, Kanzhun, Pinduoduo) shortly before sweeping moves to rein in the private sector caught the market by surprise, resulting in hundreds of millions in steep losses (ranging from -15% to over -80% in the various stocks); China was Temasek’s biggest geographic source of investments as of March 31, making up 27% of its S$381 billion (US$280 billion) portfolio. WH Group, the world’s largest pork producer and a popular stock of many prominent value investors, is coming under the media spotlight again as a new twist in the family feud shaved US$1.4 billion off its market value. China’s warm welcome for Taliban’s return to rule sparks backlash at home, a strategic U-turn that has left many at home feeling whiplashed. Further instability in Afghanistan could impact neighboring Pakistan, where China has $50 billion in Belt and Road investments, and send extremism over its border, threatening billions in China policy bank loans.
As euphoric traders piled into the trendy Cyclicals/Value Traps, we believe that there is a high probability of downside risk in chasing and catching them at exactly the wrong time after their sharp run-up from being blinded by the fiscal stimulus hopes and vaccine euphoria — the light at the end of the tunnel — and things can turn very nasty suddenly, as markets tend to underestimate how long that tunnel is, and how dangerous that tunnel is. This situation is very vulnerable for cyclicals to degenerate or revert back into its true ugly colors as cheap-gets-cheaper Value Traps once the vaccine euphoria fades or something negative happen on the mass vaccination roll-out or the vaccine does not prevent people from carrying and spreading the virus to others or new mutated virus strains erupt to render the vaccines ineffective. Once the vaccines actually start being administered at scale and the pandemic recedes, a lot of investors are going to wake up to the fact that the global economy is still dogged by a host of thorny problems that both predate and have been exacerbated by the virus. The current unsustainable market euphoria over Cyclicals, Value Traps, Zombies (companies who cannot cover their interest expense with cash from operations) and Vampires (junk-rated corporations with negative EBITDA) has created opportunities for long-term investors in the inexorable rise of a selected group of fundamentals-based structural growth innovators. These winners solve high-value real-world problems to generate visible and vigorous quality earnings growth before and during the pandemic, as well as are poised to enjoy continued healthy demand and staying power in a post-pandemic future when the world recovers painfully and slowly to transition from the Pandemic Health Crisis to the next crisis – the PTSD Post-Pandemic Growth Crisis. Our portfolio companies have shown resilience and scalability during this tumultuous environment and the management continue to make key strategy decision to expand their market leadership in their respective fields. The quiet HE.R.O. innovators have invested wisely in innovations that sharpen their exponential competitive edge for long-term value creation, strengthened their market position in the value chain that supercharged their cashflow dynamics, developed new channels, new markets and new customer base for revenue growth while improving their profitability at a time when most businesses are struggling, and nurtured their human capital and corporate culture to foster innovation and ESG sustainability. While the short-term day-to-day price movement can be volatile, what continues to be crystal clear is that the quiet structural growth H.E.R.O. innovators remain the most visible and vibrant pathway in a foggy, volatile, whipsawing, uncertain market to deliver sustained outperformance with their healthy fundamentals results.