Novum Alpha – Daily Analysis 23 September 2020 (8-Minute Read)

Welcome to your Wednesday and what a ride it’s been for investors as markets took a turn midweek towards the bright side. 

In brief (TL:DR)

  • U.S. stocks reversed their course on Tuesday as the S&P 500 (+1.05%), tech-heavy Nasdaq Composite (+1.71%) and blue-chip Dow Jones Industrial Average (+0.52%) staged a dramatic turnaround as investors took a bet on the Fed coming back to rescue markets again. 
  • Asian stocks were mixed in the morning trading session as investors mulled uncertain U.S. stock futures activity. 
  • U.S. 10-year Treasuries continued to rise, with yields falling to 0.663% from 0.670% as demand for safe assets continued to firm. 
  • Oil continued to slide as October contracts for WTI Crude Oil (Nymex) (-1.28%) fell on persistent fears of renewed lockdowns, sliding to US$39.29 from US$39.57 in the previous session.
  • The dollar rebounded sharply and pushed past key technical resistance against other currencies as U.S. stocks recovered. 
  • Gold slid further with Gold (Comex) (-0.12%) at US$1,905.40 from US$1,911.90 in the previous session, for December contracts, as a shift into stocks saw investors shun the precious metal. 
  • Bitcoin (+0.69%) rose overnight and now trades at US$10,520 (GMT 0230) on increased risk appetite, with outflows from exchanges surging ahead of inflows, and on modestly rising volumes (outflows suggest that traders are holding onto Bitcoin in anticipation of price rises). 

In today’s issue…

  1. When It Comes to Lending, The Buck Doesn’t Stop At The Fed
  2. When Nothing Else Makes Sense Should You Bet on FANG? 
  3. Your Pension May Be Taking a Bet on Bitcoin That You May Not Know About

Market Overview

While the U.S. Federal Reserve and Congress play the finger-pointing game, America slips unsteadily from one crisis to the next. 
 
The untimely death of U.S. Supreme Court Justice Ruth Bader Ginsburg has distracted lawmakers on in Washington at a time when huge swathes of Americans are continuing to suffer from the fallout of the coronavirus pandemic. 
 
Investors are betting that comments in front of Congress by U.S. Federal Reserve Chairman Jerome Powell hint at the central bank being prepared to intervene where Congress is unable or unwilling to tread. 
 
While a fresh pandemic stimulus bill which would require bipartisan support out of Washington seems unlikely out of Congress, Powell may have been doing what in legal parlance is considered “that justice is seen to be done.”
 
As the foremost central banker, the Fed needs to maintain its independence, and where it cannot, it must at the very least “be seen to be maintaining its independence.” 
 
And that may be one of the reasons why the Fed didn’t act more aggressively on quantitative easing or more direct forms of lending to medium-sized U.S. companies – the Fed is acknowledging that that is a role more suited for Congress, or indeed, commercial banks.
 
If so, that conclusion by the Fed should be welcome because it shows that at least the Fed is attempting to maintain the integrity of the institutions which America has worked so hard to create. 
 
Over in Asia, stocks were mostly down in the pre-lunch trading session, with Tokyo’s Nikkei 225 (-0.58%)Seoul’s KOSPI (-0.95%) and Hong Kong’s Hang Seng Index (-0.12%) down, while Sydney’s ASX 200 (+1.70%) was up strongly on Chinese demand for raw materials on the back of improving manufacturing numbers. 
 

1. When It Comes to Lending, The Buck Doesn’t Stop At The Fed

  • Investors shouldn’t count on the Fed or Congress doling out any new stimulus packages from now until 2021, short of serious economic shocks 
  • Low interest rate environment likely to persist well until after 2023, which provides opportunities and volatility in a variety of asset classes that should benefit from bubble risks
“Neither a borrower nor a lender be,
For loan oft loses both itself and friend,
And borrowing dulls the edge of husbandry.”
 
– Hamlet, Act 1, Scene III, Lines 75-77
 
It’s somewhat ironic then that the world’s foremost central bank is declining to be a lender at a time when America needs it the most. 
 
What U.S. Federal Reserve Chairman Jerome Powell may have missed in business school (Powell is a trained lawyer), he must have made up for in English class, as he has warned Congress that it’s their job to pass a new fiscal stimulus package and not the Fed’s to dole out loans. 
 
Much to the chagrin of investors, in its last meeting before U.S. elections, Powell and friends committed to keeping interest rates low until 2023 at the very minimum, but without doing more or pledging any quantitative easing (keeping the federal government’s long term borrowing costs low).
 
Investors were unimpressed by the Fed’s doing no more than keeping the status quo, with markets plunging to six-week lows at one point. 
 
There had been more than some expectation that the Fed would come to the rescue where Congress had failed to act, by making its US$600 billion fund for loans to medium-sized businesses more readily available and easier to navigate. 
 
But Powell reiterated that the Fed wasn’t as much of a “lender” as Congress should be a “spender.”
 
Yet with both the Fed and Congress keeping their arms folded – nothing got done. 
 
Investor hopes for a fresh stimulus package from Congress have progressively faded as partisan differences over the size and extent of such a package have left Americans feckless while Washington fiddled. 
 
And while there was hope the Fed would step in, Powell, in testimony before Congress this week, stated unequivocally that “direct fiscal support” rather than loans from the central bank, were needed, 
 
“The recovery will be faster if we have both tools (fiscal and monetary) continuing to work together.”
 
For now at least, it seems as if neither hand is clapping and part of the reason the Fed is keeping its cards close to its chest is because of the “marked improvement” in many economic indicators, thanks to heavy doses of fiscal stimulus injected in the early days of the pandemic. 
 
Noting better data on housing, investment and the labor market, it appears that investors hoping the Fed would throw them a bone will be sorely disappointed. 
 
With a second wave of coronavirus infections threatening to embroil Europe and American deaths from the pandemic crossing the 200,000 mark, investors have been pouring into tech stocks as a defensive play and bond yields have been plunging to their lowest levels in as many weeks. 
 
Because the Fed has signaled that it will keep interest rates near zero until at least 2023, and it’s dovish stance until inflation hit 2%, a milestone that could take even longer, investors can expect new asset bubbles to get reflated, and the opportunities and pitfalls that will bring. 

2. When Nothing Else Makes Sense Should You Bet on FANG?

  • So-called FANG stocks represent return to “safety” from investors, hedging against both the prospect of inflation as well as greater uncertainty moving forward 
  • Early correction of FANG stocks proved short-lived as the threat of a fresh wave of lockdowns boosts the narrative supporting these companies that continue to generate revenue in the midst of a pandemic 
To say that this year has been more than a little strange is to put it mildly. 
 
But you know that markets have flipped upside down when the so-called FANG stocks are seen as a “flight to safety.” 
 
On Monday, as the S&P 500 came down by as much as 10% off its most recent high, the stocks of Facebook (+2.66%) , Amazon (+5.69%) , Netflix (+0.78%)  and Google (+2.08%)  remained surprising resilient. 
 
For the most part, FANG stocks remain popular because investors see them as defensive plays. 
 
Thanks in large part to their revenues being relatively vaccinated from the coronavirus pandemic (the closest we are at the moment to a vaccine unfortunately), the entrenched competitive position of FANG stocks are thought to offer safety. 
 
Other sectors which are more heavily exposed to the strength of the economy on the other hand didn’t fair as well – such as banks, which are also being stretched by low bond yields, and are now being buffeted by a fresh dose of scandal regarding some US$2 trillion in suspicious transactions. 
 
And with coronavirus numbers increasing as the northern hemisphere (where most of the world lives) heads into peak flu season, the resilience of FANG stocks marks a return to caution over the economy. 
 
With the threat of a second wave of lockdowns looming as countries struggle to bring the spread of the pandemic under control, it’s understandable that investors are returning to the stocks that were able to not just weather the coronavirus storm, but make record profits in the meantime. 

3. Your Pension May Be Taking a Bet on Bitcoin That You May Not Know About

  • Small-cap MicroStrategy (+1.37%)  has purchased significant holdings of Bitcoin as a buffer against inflation, shunning gold and U.S. treasuries
  • CEO Michael Saylor predicts that other publicly-listed companies will eventually move into Bitcoin in an environment of low rates and low bond yields  
Last week, MicroStrategy, a business intelligence company disclosed that it held over 38,000 Bitcoin, with its CEO Michael Saylor publicly stating that Bitcoin is a dependable store of value and an attractive investment asset instead of holding onto cash, especially since rates interest rates were so low. 
 
So far no big deal – another tech company banking in Bitcoin is hardly newsworthy. 
 
But according to an Arcane Research report, the Norwegian Government Pension Fund, Blackrock Fund Advisors and Vanguard Group all own stakes in MicroStrategy, meaning that MicroStrategy’s direct bet on Bitcoin, has created an indirect bet by these funds on Bitcoin. 
 
In an interview with Bloomberg, Saylor said, 
 
“We feel pretty confident that Bitcoin is less risky than holding cash, less risky than holding gold.”
 
Before the pandemic, MicroStrategy had about US$500 million mostly invested in short-term U.S. Treasuries, but Saylor started to question that conventional strategy when yields tumbled in the wake of the coronavirus. 
 
By Saylor’s estimate, asset inflation will surge to over 20% on an annualized basis, eroding real purchasing power. 
 
And there just may be some method to Saylor’s apparent madness. 
 
MicroStrategy joins a growing list of high profile investors betting on inflation and who have turned their attention to Bitcoin, including billionaire macro hedge fund investor Paul Tudor Jones, who told CNBC earlier this year that he has as much as 3% of his assets in Bitcoin. 
 
According to Saylor, MicroStrategy did invest some money in share buybacks and considered real estate investments, but with much of the commercial real estate market decimated by the pandemic, turned its focus instead to Bitcoin instead of gold, which is still being mined, decreasing future returns. 
 
Bitcoin on the other hand is finite and is seen by many investors as a store of value and would go some way to explain its continued resilience over the US$10,000 level. 
 
But investors betting on MicroStrategy being a Bitcoin bull may want to note that Saylor has said that if bond yields jump, he won’t hesitate to dump, though he has no immediate plans for the company to sell,
 
“We can liquidate it (Bitcoin) any day of the week, any hour of the day.” 
 
And as for slippage, it appears that Saylor has already catered for any potential Bitcoin dump,  
 
“If I needed to liquidate US$200 million of Bitcoin, I believe I could do it on a Saturday. If I took a haircut, I believe it would be 2%.”
 
Saylor’s comments reveal that he understands the cryptocurrency markets better than perhaps most other listed company CEOs.
 
Weekend trading volumes for cryptocurrencies tend to be the thinnest and are when large sales or purchases can have an outsize influence on price. 
 
Unlike most other public companies, MicroStrategy, where Saylor owns around 73% of the voting shares, has had a somewhat easier time shifting into Bitcoin. 
 
According to Saylor, when speaking with the top ten shareholders at the company, which would include the Norwegian Government Pension Fund, Blackrock Fund Advisors and Vanguard Group, most of them were “very supportive and complimentary” about the shift into Bitcoin. 
 
Saylor predicts that other public companies will eventually make their way into Bitcoin as well, with smaller ones like US$1.5 billion MicroStrategy at first, before mid-sized companies. 

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

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