Novum Alpha – Weekend Edition 21-22 November 2020 (8-Minute Read)

Wishing you a wonderful weekend! 

In brief (TL:DR)

  • U.S. stocks took a turn and closed down on Friday with the S&P 500 (-0.54%), tech-heavy Nasdaq Composite (-0.04%) and blue-chip Dow Jones Industrial Average (-0.42%) as investors worried over the U.S. Treasury Department allowing certain lending facilities to lapse at the end of this year 
  • Asian stocks were a mixed bag as Wall Street was volatile throughout most of the trading day. 
  • U.S. 10-year Treasury yields rose to 0.835% from 0.820% as investor risk appetite returned (bond yields typically rise when Treasury prices fall).  
  • The dollar was flat, remaining more or less unchanged heading into the weekend. 
  • Oil headed higher with December contracts for WTI Crude Oil (Nymex) (+0.98%) at US$42.15 from US$41.76 as record cargo flows and trucking are throwing crude oil a lifeline. 
  • Gold edged up as December contracts for Gold (Comex) (+0.56%) rose to US$1,872.00 from  US$1,864.80.  
  • Bitcoin (+3.88%) surged into the weekend at US$18,620 from US$17,816 as outflows from exchanges continued to lead inflows (outflows typically suggest that investors are looking to hold Bitcoin in anticipation of price increases). 

In today’s issue…

  1. Coronavirus Vaccine Dampens Demand for Gold  
  2. Make Hay While the Sun Shines
  3. Bitcoin Blasts Ahead Undeterred

Market Overview

Considering that it’s just two months before Joe Biden is sworn in as America’s 46th President, the outgoing Trump administration in its lame-duck phase, is wasting no time doing as much damage as possible to the prospects of an incoming administration. 
With the U.S. Treasury Department allowing a slew of lending facilities that the U.S. Federal Reserve had in its toolkit lapse, including a lending facility for medium-sized businesses, politics is once again prevailing over concerns that the pandemic could cause greater economic harm. 
While the lending programs that the Trump Administration had in place were underutilized, they did have an important calming effect on the market, that the Fed would have the necessary tools to intervene should credit markets freeze up suddenly. 
With that security somewhat diminished, the incoming Biden administration will have its work cut out for it, especially if there are any unexpected economic shocks in the coming weeks and months. 
Asian markets ended the week a mixed bag, with Tokyo’s Nikkei 225 (-0.42%) and Sydney’s ASX 200 (-0.12%), down, and Seoul’s KOSPI (+0.24%) and Hong Kong’s Hang Seng Index (+0.36%) up.

1. Coronavirus Vaccine Dampens Demand for Gold

  • Gold has come off its highs this year as demand has waned and ETF outflows have increased 
  • Successful coronavirus vaccine candidates have seen investors rotate into other risk assets, but inflation could see another return of gold demand 
For an asset which generates zero yield and incurs storage costs, gold has had an amazing year so far, hitting an all-time-high as the coronavirus pandemic has led investors to pour into the Mesopotamian good.
But rising prospects of a successful vaccine have dampened gold demand of late, with the precious metal already falling about 10% since its August peak of over US$2,000, and as confidence has gradually returned to other risk assets.
As investors move out of government bonds for stocks, pushing yields higher, the relative attractiveness of gold has dulled, especially against the backdrop of a potentially recovering global economy.
Outflows from gold-backed exchange traded funds, which were a key factor in bullion’s bull run up to August, has also contributed to the recent slide.
According to data from Bloomberg, the physical holding of gold in ETFs has fallen by about 1.7%, with holdings from the world’s largest ETF, SPDR Gold Shares, hitting their lowest level since July last week.
Gold’s decline has also seen investors move into industrial metals such as copper and silver (used in a variety of electronics and in solar panels), which have seen strong positive gains recently.
Prices for platinum, a metal used in catalytic converters in car exhausts have risen to their highest levels since mid-September over the past week as well.
Coronavirus vaccinations are seen to be reducing risks, with gold viewed as less desirable as a risk hedge.
And while some central banks were stocking up gold reserves in the midst of the economic turmoil wrought by the pandemic, central banks, led by Russia and Turkey, became net sellers of gold for the first time in a year and a half, according to the World Gold Council.
Gold jewelry demand has also fallen by almost a third, with China and India largely absent from gold’s rally this year.
But some investors are betting that rising inflation, as the global economy recovers, could see a rebound in gold prices.
The U.S. Federal Reserve has also indicated that it intends to keep interest rates low for an extended period, which could also see a return in gold demand.
Goldman Sachs (-0.58%), which expects that the Fed will keep rates on hold till at least 2025, remains bullish on bullion, predicting that gold will reach US$2,300 in the coming months while Citigroup (-0.94%) expects fresh highs in 2021 as quantitative easing keeps yields on other asset suppressed. 

2. Make Hay While the Sun Shines

  • Companies hit hardest by the coronavirus pandemic are using the opportunity of a market rallying on a potential vaccine to raise funds 
  • Lower yield environment in the long term may tempt investors into buying into the debt of these companies but risks abound, particularly given the low margins of travel-related businesses such as airlines 
While it may be sometime before a coronavirus vaccine goes into your arm and you book that holiday overseas, companies worst hit by the pandemic are wasting no time to take advantage of optimism to sell bits of paper other than tickets.
As markets have rallied on the prospect of effective coronavirus vaccines, airlines and cruise companies are taking advantage of optimism to raise billions of dollars in fresh debt, including the likes of Lufthansa (-0.58%) and American Airlines (-2.03%), as well as cruise operator Carnival (-4.46%).
American Airlines raised over half a billion dollars in a stock sale, while last week, Carnival revealed that it would sell as much as US$1.5 billion worth of stock, to help it survive the pandemic.
Lufthansa, which has been propped up by the German government, recently raised around US$711 million through a convertible bond offering, increasing the size, after it received strong demand from investors.
Travel-related companies have been some of the worst hit by the pandemic and have raised record sums through debt markets to sustain themselves, with airlines and cruise operators offering their planes and ships as collateral to secure financing at sometimes dubious valuations.
Carnival has raised some US$10 billion since the start of the pandemic, while American Airlines has raised an eye-watering US$16.7 billion.
Considering that American Airlines has a market cap of only US$7.6 billion, while Carnival is valued at US$18.1 billion, the weight of the enormous debt load that these firms are carrying could be crushing in the years to come, with another shock possibly pushing them over the edge.
Airlines are a tricky business even in the best of times, with painfully low margins and exposure to a vast array of external factors beyond the control of investors, whereas cruise operators enjoy higher margins, but are more heavily affected by shifts in discretionary spending.
Shares of travel and leisure companies continue to remain far below pre-pandemic levels and even as bankruptcies begin to mount, investors have been navigating the minefield to place bets on companies they are betting will survive.
And in a low interest rate environment, investors hungry for yield may just be willing to bite.
Like a meal on board an airplane, if you’re hungry enough, you’ll eat it no matter how bad it tastes or how it’ll make you feel six hours later. 
Plucky investors into airlines and cruise operators may just find themselves in the same position several years down the road. 

3. Bitcoin Blasts Ahead Undeterred

  • Bitcoin edges closer to all-time-high as it sails past US$18,000  
  • Wider institutional adoption may make the most recent Bitcoin rally qualitatively different from 2017 and PayPal (+0.93%) enablement of cryptocurrency payment should facilitate wider adoption 
When Bitcoin pulled back recently to below US$18,000, some investors understandably wondered if the Bitcoin bubble was about to pop, to which Bitcoin responded, “Hold my beer.”
Sailing past US$18,000, Bitcoin is now closing in on US$19,000 and looking to surpass it’s all-time-high.
After all, if gold managed to pull it off this year, what more its digital cousin?
Having more than doubled since the end of 2019, few assets have delivered as strong returns in one of the most turbulent years for financial markets as Bitcoin.
The last time Bitcoin scaled these lofty heights was three years ago, amidst a frenzy of retail buyers and Reddit discussions was in 2017.
And when that bubble burst as spectacularly as it was inflated, many professional investors saw all the evidence they needed to dismiss Bitcoin altogether as an asset class.
And while there is no shortage of speculation in Bitcoin this time around, there has also been no shortage of institutional investors cozying up to the cryptocurrency as well, many doing so publicly for the first time.
Billionaire hedge fund investor Paul Tudor Jones revealed last month that he had a “small” position in Bitcoin, which he described as, “investing with Steve Jobs and Apple (-1.10%) or Google (-1.26%), early.”
Speaking on CNBC, Tudor Jones suggested,
“You’ve got this group that is dedicated to seeing Bitcoin succeed in becoming a commonplace store of value and transactional to boot.”
“I’ve never had an inflation hedge where you have a kicker that you also have great intellectual capital behind it.”
And it’s this last quality that may have some investors moving out of gold and into Bitcoin.
Whereas both gold and Bitcoin do not generate any yield (although Bitcoin can be converted to “wrapped Bitcoin” which can be used on the Ethereum blockchain for lending and can also be loaned out for interest in its own right), unlike gold, Bitcoin’s use cases are constantly evolving.
As Tudor Jones rightly notes, there is a global team of developers, actively working to improve not only the Bitcoin blockchain, but also its functionality and ability to manage transactions.
The use cases of Bitcoin, unlike gold, are also not necessarily set in stone, with technologists dreaming up new use cases, including using the existing Bitcoin blockchain to secure other blockchains.
And that shift from gold to Bitcoin may already be taking place.
In the past few months, flows from ETFs tracking gold have seen a commensurate increase in flows into Grayscale’s Bitcoin Trust.
Grayscale now manages almost US$9 billion in assets, and its rise reflects growing institutional interest in Bitcoin.
The Chicago Mercantile Exchange, another traditional venue for institutional investors looking to gain exposure to Bitcoin, has also seen the number of Bitcoin futures and options contract quadruple from a year earlier.
And while millennials and younger people are more open to using cryptocurrencies both for transactions and investments, wider adoption is likely to be bolstered as more big-name companies integrate cryptocurrencies into their business.
Of all the big-name companies, PayPal, a pioneer in enabling online payments, could potentially make the biggest difference in bridging the generational perception gap when it comes to cryptocurrencies.
PayPal started allowing its U.S. customers to buy, sell and hold Bitcoin and other cryptocurrencies in their online wallets last month, and plans to enable users to begin using cryptocurrencies as a funding option in transactions with millions of merchants early next year.  
And while these PayPal transactions will be settled in fiat currencies, it represents an unprecedented opportunity to use cryptocurrency for payment in a more mainstream manner, marking a tremendous step forward in ease-of-use.
PayPal is still widely used by eBay (-1.59%) users, who also tend to be more senior, and that could help bridge the generational divide and perception of cryptocurrencies.
At some stage, even gramps might be holding on to some Bitcoin after selling his war medals, you never know. 

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

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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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