Novum Digital Asset Alpha – Daily Analysis 2 July 2020 (9-Minute Read)

We did it! We found a cure for the coronavirus! 

Well, not exactly. But the way markets are reacting, you’d be forgiven for thinking that a cure has been found. 

In brief (TL:DR)

  • U.S. stocks are up, with the S&P 500 (+0.50%) and tech-heavy Nasdaq Composite (+0.95%) all closing yesterday in the green, while the blue-chip Dow Jones Industrial Average (-0.30%) fell, dragged down by Walgreens Boots (-3.56%) and Exxon Mobil (-2.25%). 
  • Asian stocks were up marginally in the pre-lunch trading session, taking their cue from Wall Street.   
  • Early trials of an experimental coronavirus vaccine from Pfizer (+3.18%) and BioNtech show promising early results, fueling optimism. 
  • U.S. 10-year Treasury Bills fell, as yields rose to 0.682% from 0.653% a day earlier, with more investors moving into risk assets (yields typically rise when prices fall). 
  • The dollar was unchanged against a basket of major currencies.  
  • Crude oil fell with WTI Crude Oil (Nymex) (-0.23%) trading at US$39.73, as traders weighed ongoing concerns over the spread of the coronavirus across the U.S. sunbelt, against strong drawdowns in crude stockpiles. 
  • Gold (Comex) (-0.11%) slipped to US$1,777.90 as investors adopted a risk-on approach and moved into stocks. 
  • Bitcoin (+1.25%) edged higher in overnight trading and sits at US$9,225 (GMT 0200) edging out of its earlier range as yield-hungry investors hunt for opportunities in a wider range of assets.

In today’s issue…

  1. The coronavirus pandemic is leading to a worsening pension crisis – will you have enough to retire? 
  2. No dividends? Junk Bonds Provide A Risky Source of Yield 
  3. When Bitcoin Whales Move – Get Ready For a Big Wave

Market Overview

Asian stocks were all up meaningfully at the open with Tokyo’s Nikkei 225 (+0.27%), Seoul’s KOSPI (+0.58%), Sydney’s ASX 200 (+0.80%) and Hong Kong’s Hang Seng Index (+1.33%) all chalking nice gains. 

Stocks in the U.S. rose on promising job data ahead of Friday’s Bureau of Labor Statistics results. 

According to the ADP National Employment Report, the U.S. non-farm private sector created 2.4 million jobs in June, with 70% of new jobs created in the leisure, hospitality, trade and construction industries – the industries most badly hit by the coronavirus pandemic. 

In other positive news, the Institute for Supply Management’s June manufacturing index for the U.S. rose to 52.6 in June, from 43.1 in May – numbers above 50 indicate expansion. 

Coronavirus cases continue to surge in the U.S., with roughly 40,000 infections a day, a number that America’s top infectious disease doctor Anthony Fauci warns could easily surge to 100,000 if Americans continue to flout advice on social distancing and the wearing of face masks. 

On a positive note, U.S. President and infamous mask-hater Donald Trump, in an apparent about turn, claims he’s “all for masks ” now, as coronavirus infections threaten to derail the U.S. economic recovery. 

The release of the U.S. Federal Reserve’s minutes of its June meeting reveal that Fed officials expect to keep interest rates near zero at least through 2022, with meaningful discussions on how to devise more support measures for the economy. 

Stocks and other risk assets will continue to be volatile until there is greater clarity on the three Vs – a V-shaped recovery, virus resurgence and a vaccine.

1. How will we ever retire?

  • Already struggling pensions are allowing members to draw down on their funds earlier to cover cost of living during the coronavirus pandemic
  • Prolonged low interest rates put added pressure on pension funds to hunt for yield

Even before the arrival of the coronavirus pandemic, pension funds had been struggling as a prolonged period of historically low interest rates put pressure on returns for members, just as a larger than ever demographic would be drawing down on retirement needs.

And longer life expectancy means that individuals will need to save much more in order to afford a comfortable retirement.

But the coronavirus pandemic has added a new dimension to the strain on pension funds.

The Australian government announced in March that it would allow young people to raid retirement honey pots, to ease financial pressures caused by the coronavirus lockdown, but Australia is hardly alone.

The U.S. and a slew of other advanced nations have all permitted, or made it easier for citizens to make withdrawals on their retirement savings. And that has been reflected not just in Boeing’s corporate culture, but its products as well. 

And the investment landscape has not made things easier for savers who are looking towards retirement.

Central banks are indicating that savers could face another prolonged period of ultra-low interest rates as policymakers try to foster an economic recovery, at a time when a string of blue-chip companies have been forced to cut dividends as a result of the coronavirus pandemic.

The confluence of factors that have depressed pension fund returns has exacerbated trends that have been in play for awhile.

For most pension funds, their assets have been hit at a time when liabilities have gone up with lower interest rates providing no buffer.

And while some of the immediate pain has been alleviated by the huge stock market rally since April, pension funds may really just be taking their wins early, because the strength of any future rally remains in question.

In 2017, the World Economic Forum warned that the retirement savings gap – or shortfall between what people currently save and what they need for an adequate standard of living when they retire, would balloon from US$70 trillion to US$400 trillion in 2050 – a gap which has only widened as a result of the coronavirus pandemic.

The only way out for pension funds of course is to pile on more risk in search of yield.

Already, pension funds have moved out into a variety of other investments which have not been within their typical purview, including venture capital, private equity, distressed debt and cryptocurrencies.

For now at least, and until the coronavirus pandemic has run its course, concerns over the extra risk that pension funds are piling on, have been relegated to the backburner, as more immediate and existential concerns hold primacy.

But the reality is that at some stage we’ll need to deal with the gaping holes in our pensions and saving alone will not get us there.

2. One Man’s Junk Is Another Man’s Treasure

  • Erosion of dividends is driving investors towards high yield debt (junk bonds) 
  • Low funding costs will hide myriad risks

Bernie Madoff’s US$65 billion Ponzi scheme wasn’t uncovered by investigative journalists or tip-offs, it was due to the tide going out – when the global economy succumbed to the financial crisis.

As investors into Madoff’s scheme needed to start withdrawing funds, it soon became apparent that the funds were not there for the taking and before long the jig was up.

And that may well be the case in the coming years for investors of high-yield corporate bonds.

With the U.S. Federal Reserve putting caps on bank stock dividends, a once reliable source of income, investors have had to explore other sources that they would not ordinarily have considered.

Just as the banks were considered “too big to fail” in 2008, now credit markets are coming into sharp focus, as central banks have helped to ensure that even the most feckless companies have access to credit.

Significant flows into junk bonds were noted when in April, the Fed pledged support for debt by buying debt-backed exchange traded funds and the yield on companies like Ford’s (-1.64%) US$1.8 billion bond, which is maturing in 2031, immediately dropped from almost 13% to 9.3% after the announcement.

That trend has now crossed the Atlantic into Europe.

According to a report from Bank of America, a steady erosion of stock market dividends is driving European investors into high-yield debt markets, which has facilitated fundraising from low-rated issuers (those who are least credit worthy).

High yield, or “junk” debt is looking increasingly attractive to investors, especially where traditional sources of income are steadily being depleted.

The dividend yield on the Stoxx Europe 600 Index – which measures the expected payouts by the region’s biggest listed companies over the next year as a proportion of their share price – has dropped to about 3.13% from 3.45% at the end of 2019.

That has pushed investors into high yield European debt, for instance in the industrials sector, where bonds can offer yields as much as 4% higher than the expected dividend yields on industrial stocks.

This could fundamentally turn off investor appetite for low-growth, but reliable dividend stocks as a source of income, and it will also mask the failing business models of some debt issuers.

With central banks acting as a backstop to some of the most vulnerable companies, a wave of corporate failures, that in April seemed likely, has yet to materialize.

Stay-at-home orders and the rout in oil markets have led to a significant uptick in defaults and bankruptcy filings, from retailers such as J.C. Penny (-2.94%) and Neiman Marcus, to car rental giant Hertz (+4.26%).

To be sure, companies that have succumbed, were already heavily indebted and in industries that were declining well before the pandemic, the collapse of revenue caused by the coronavirus was the tipping point that pushed them over the edge.

But don’t let the zombie-like existence of the companies that persist fool you, they are merely kicking back the inevitable.

The Fed’s unprecedented actions has allowed companies including General Motors (-1.34%) and Royal Caribbean (+1.05%) to raise significant amounts of capital and stave off possible default, which has allowed their stock prices to recover as well.

And investor appetite for yield amid record low interest rates has also seen theater operator AMC Entertainment (+6.53%) and theme park operator SeaWorld Entertainment (+6.01%) raise billions of dollars through high-yield bond offerings in April, while their stocks have also come off March lows.

But all that added debt could easily come back to bite these companies if their businesses don’t recover quickly enough, or fail to regain pre-pandemic levels, especially if their failing business models were propped up by the availability of cheap credit.

Cheap money doesn’t make a failing business model good, it just makes it slower to die and investors betting on stocks which are intimately tied to the success of the economy may be in for a rude shock when time runs out on those soft loans.

3. Bitcoin Whales Offer Bitcoin Bulls A Glimmer of Hope

  • Bitcoin moves out of lower US$9,100 to US$9,200 range
  • Bitcoin whales are holding on to balances, suggesting an upwards push is likely 

Over the past 6 weeks, every breakout for Bitcoin has proved to be a false start and Bitcoin has rapidly retraced to previous ranges almost immediately thereafter. 

But a recently released report from blockchain data intelligence provider Glassnode has revealed that there are now over 1,800 Bitcoin whales in the market – Bitcoin wallet addresses with a large concentration of Bitcoin. 

While typically a large number of Bitcoin whales is considered bad for the market, because of concentration risks, the increased number of Bitcoin whales coupled with a constant or decreased balance in each Bitcoin wallet address suggests that a larger number of investors are actually holding on to their Bitcoin. 

And the withdrawal of previously purchased Bitcoin out of exchange wallets is a sign that Bitcoin whales are expecting a bullish market to develop in the future. 

Trading Bitcoin Today

Yesterday we suggested that trading for the next 24 hours, Bitcoin could be expected to continue trading within a range, with low volatility continuing to be the order of the day.

Bitcoin has edged up slightly out of that earlier range and is making tentative moves northwards. 

The trade we suggested yesterday for those long on Bitcoin was to get in on a pullback closer to US$9,100 and get out closer to US$9,180 with a stop loss at US$9,060 – this trade was in the money. 

Yesterday’s short for Bitcoin was to wait till it ran to US$9,190 again and short to US$9,100 with a short cover at US$9,220 – this trade was stopped out, Bitcoin continued its ascent. 

Having moved out of its earlier range convincingly, Bitcoin now looks poised to stay within a new range before breaking out. 

Those looking to go long on Bitcoin over the next 24 hours can consider entering at US$9,235 and taking profit when Bitcoin makes another run for US$9,290, with a stop loss at US$9,210. 

Shorts for Bitcoin can wait till Bitcoin tests US$9,280 again and take profit at US$9,200, with a short cover at US$9,300. 

Trading Ethereum Today

Ethereum traded within a band between US$224 and US$226 yesterday before moving out of the lower band to now trade between US$230 and US$232.

Expect some degree of consolidation at this level for Ethereum before it moves higher. 

Yesterday the long for Ethereum was set at US$225.30 and exiting at US$225.90 with a stop loss at US$225 – a tight but successful trade. 

While the short we suggested was to wait till Ethereum made another run for US$226 and shorting to US$224.50 with a short cover at US$226.50 – this trade was stopped out. 

For now, the support at US$230 seems to be holding for Ethereum and those looking to go long can try to enter at US$230 with profit-taking at US$232 and a stop loss at US$229.50. 

Shorts for Ethereum can consider waiting till Ethereum hits US$232.50 and short to US$229.50 with a short cover at US$233.

Novum Digital Asset Alpha is a digital asset quantitative trading firm.

Exclusive access to Novum Digital Asset Alpha’s Daily Analysis is made in conjunction with Bitcoin Malaysia.

The information and thoughts laid out in this analysis are strictly for information purposes only and should not be regarded as an offer to sell or a solicitation of an offer to buy any security in any jurisdiction where such an offer or solicitation would be in violation of any local laws.

It does not constitute a recommendation or take into account the particular allocation objectives, financial conditions, or needs of specific individuals.

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