Weekly Market Commentary By H.E.R.O. (23 to 26 Nov 2021)
Global and U.S. stocks tumbled on Friday with the worst post-thanksgiving Black Friday in over 70 years to extend losses during the week after the discovery of a “dramatically” new, heavily-mutated vaccine-resistant coronavirus variant shook market sentiment, with commodity/oil, travel, and banking stocks leading the sell-off. The little-understood B.1.1.529 “Omicron” variant, first identified in Botswana, South Africa and highly-vaccinated Israel, carries an "extremely high number" and "unusual constellation" of mutations and is “clearly very different” from other variants and believed to be behind a surge in Covid cases in southern Africa over the past week and has alarmed global health officials because of its apparent ability to evade vaccines and spread more quickly than the Delta variant. Two cases of the variant were confirmed in Hong Kong late on Thursday. Belgium became the first European country to confirm cases of the new strain. The Omicron virus variant has punctuated the false sense of security that has lulled vaccinated nations. Pfizer CEO said it could take scientists 100 days to develop a novel variant vaccine to combat Omicron. Merck’s experimental COVID-19 pill molnupiravir showed updated data on Friday that the drug was significantly less effective in cutting hospitalizations and deaths than previously reported, with a 30% reduction in hospitalizations and deaths, compared to a roughly 50% efficacy from data back in October. MSCI ACWI All World index -3%, S&P 500 -2.2%, Russell -4.2%, Stoxx -4.5%/Stoxx 50 -6.1%, DAX -5.6%, Hang Seng -3.9%, Hang Seng Tech -4.4%, MSCI China -3.9%, China Internet ETF KWEB (in StashAway’s portfolio) -6.1%, Cloud Software ETF SKYY/CLOU/WCLD -5.3%/-5.2%/-6.7%, ARKK Innovation ETF -5.4%, Gold -2.3%.
Risks of Omicron’s hit to economic activity are lowering expectations for rate hikes next year from the world's major central banks. Money markets no longer fully price a 25-basis-point interest rate rise by the Federal Reserve by June 2022, nor are they positioned for a full 10-bps hike from the European Central Bank by the end of 2022, as they were just a few days ago. The week also saw dramatic price rout in loss-making tech stocks and some of the market’s most speculative fringes, with the likes of Peloton, DraftKings and Beyond Meat shedding a quarter of their value or more. Also expanding is the list of popular tech stocks hitting new 52-week lows, from PayPal, Roku, Twitter, Pinterest, Snap, Bumble, Stitch Fix, Lyft, Robinhood to Palantir, Teledoc, Wix.com, C3.ai, Zillow, CRISPR, SmileDirectClub. There is also an increased interest in bearish options; the Cboe put-to-call ratio that tracks the volume of options tied to individual companies, jumped to a one-month high. Meanwhile, investors are starting to relatively reward profitable companies, as the average return for profitable members of the Russell 3000 Index is about triple the gains for unprofitable companies this year.
Supply chain disruptions continue to worsen after China prohibit crew changes for foreign crew and recently imposed as much as a seven-week mandatory quarantine for returning Chinese seafarers, as its Covid Zero policies crippled the shipping industry and prolonged a crisis that’s snarled ports and emptied shelves worldwide. Even vessels that have refreshed their crew elsewhere have to wait two weeks before they’re allowed to port in China. To comply, shipowners and managers have had to reroute ships, delaying shipments and crew changes, adding to the supply chain crisis. Ships in Chinese waters are disappearing from tracking systems following the introduction of a new data law in China, frustrating efforts to ease bottlenecks that are snarling the global economy. China's Personal Information Protection Law, which came into effect on Nov. 1, has added to a raft of new rules designed to increase government control over how domestic and foreign organisations collect and export China's data. The data is relied upon to provide information on cargo volumes and helps optimise logistics by predicting congestion so companies can make key decisions on shipping routes. Some domestic providers in China have stopped giving information to foreign companies as a direct consequence of the new rules.
Tension between the U.S. and China continue to rise, with the U.S. placing a dozen Chinese groups involved in quantum computing and other advanced technologies in the semiconductor and aerospace industries, including memory chipmakers and suppliers of navigation chips, on an export blacklist, saying they pose a risk of gaining access to critical American technologies for the People’s Liberation Army. The latest blacklisting of companies could slow China's ambition to build a controllable, secured and self-reliant supply chain as many Chinese companies still rely on U.S. technologies including design tools and equipment, as well as intellectual properties to develop chips and other technologies.
China tech stocks continue to plunge as selling by mainland China funds accelerated following disappointing earnings from technology juggernauts. Chinese state-run companies, from China Mobile, China Construction Bank to China National Petroleum, are restricting employees’ use of Tencent’s popular domestic messaging app Weixin. Employees were told that any chat groups set up for work purposes on Weixin could contain sensitive information and should be shut down and deleted. China also moved to suspend Tencent from upgrading apps or launching new ones, sending a signal that implementation of new regulations will be ruthless. It is not known how long the suspension will last. The central bank also rules to prohibit the use of personal QR codes for business payment from March 1, adversely impacting Tencent’s payment business.
China's market regulator proposed new rules on Friday that would increase online advertising oversight, including stipulating that adverts should not affect normal internet use or mislead users, as well as issued draft guidelines that put restrictions on promoting healthcare, drugs, after-school tutoring, cosmetics and other ads. The Cyberspace Administration of China has requested Didi's top executives to develop a plan to delist from NYSE due to concerns about leakage of sensitive information, sending its shares plunging. Online brokerage Futu Holdings, known as "China's Robinhood," attempted to reassure anxious clients on Wednesday that it would not close accounts and will focus on expanding its presence in Hong Kong and Singapore after Beijing increased pressure on the industry, sending its shares tumbling. Shares have plummeted about 35% since mid-October when state media called out Futu and the Xiaomi-backed Up Fintech, warning that online brokerages operating across borders could violate user privacy and face regulatory risks. Futu shares are now down by more than 70% from their peak in February. The People’s Daily, mouthpiece of the ruling Chinese Communist Party, has spoken out against the investment fever around non-fungible tokens (NFTs), questioning whether it is another “zero-sum game hyped by cryptocurrency investors and capital”.
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.