Weekly Market Commentary By H.E.R.O. (5 to 9 April 2021)
Markets rose to new highs while equity trading volume plunged, with the five-day average across U.S. exchanges dropping to the lowest since October. The lull felt especially abrupt after 13 months of frenzied trading brought the fastest bear market ever and a furious rally not equaled in 90 years. Inflows to stocks past 5 months (US$576bn) exceed inflows in prior 12 years combined (US$452bn) as stuck-at-home traders turned online brokerages into casinos, while vaccine approvals in November sparked more euphoria, spurring investors into Cyclicals, stocks with weak balance sheets, and speculative penny meme stocks. Markets rallied and yields declined after appearing to be sedated by Powell’s repeated dovish comments that the central bank has the tools to curb any inflation pressures, which are expected to be temporary, given that the “economic recovery is incomplete” and that uneven global vaccinations roll out is recovery risk. Big Tech jumped while the overall Russell index was down 0.5% as Cyclicals corrected.
The calm was unsettled somewhat on Thursday on a mystery giant VIX options bet that volatility will spike aggressively by July. In addition, insider selling in the first quarter of the year was at a 14-year high, even as share buybacks are rising to the most in seven quarters. Market chatters are that investors will be disappointed after the sharp run up in earnings expectations, which could dent stock prices after a months-long rally led by the economically sensitive Cyclicals. Traders are also looking warily at the gathering “tax storm” unleashed by Biden which represents a fresh threat that could derail the rise in US stocks - and potentially raise the relative attractiveness of European stocks. Meanwhile, Michigan is the epicentre of a regional surge in infections which experts warn could become yet another national wave if not contained, as younger adults and new variants fuel rise in state despite vaccination campaign; “If you are in Michigan right now, the next wave has already started”.
The Biden administration took its first trade action against China on Thursday, adding seven Chinese supercomputing developers to an export blacklist for assisting Chinese military efforts in a move that will likely further escalate frosty tensions between the world's two largest economies. China markets stood out in contrast with the China CSI 300 index down 2.5%. Meanwhile, China’s antitrust regulator imposed a record US$2.8 billion fine against Alibaba for abusing its dominant position over rivals and merchants on its e-commerce platforms. Following a record surge in defaults driven by property developers and bad loans at local banks, Vice Premier Liu He unleashed his fury to flag deeper clampdown on debt growth and called for “zero tolerance” on illicit activities, telling regulators to strengthen supervision of shareholders and owners of financial institutions, risk concentration, connected transactions and data authenticity.
The portfolio stocks remain well-anchored to very strong and powerful fundamentals with clear and visible growth prospects and positive corporate development progress and robust end markets, and are very likely to rebound resiliently from the speculative sentiment-led rotation and frenzied positioning once the 1Q2020 earnings reports start from mid-April onwards, and the current correction is a great opportunity to accumulate existing stocks and potential new companies.
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 who have remained resiliently positive throughout the most extreme ever market rotational change since November 2020, setting the roadmap this year and beyond in a post-pandemic future. 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.