Weekly Research Briefing: Watching the Balloon

June 15, 2021
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Inflation watching has become the newest, favorite pastime of the markets, the press, and the politicians. And it should be important because inflation is a hidden tax against our earnings and savings. We knew that there would be kinks and bottlenecks to stopping and starting the world economy, and now we are seeing it happen in real time. Pauses in the semiconductor chain have created shortages of chips, auto plant shutdowns, and soaring car and truck prices. COVID closures at sawmills combined with a rush toward single family homes in new communities created a spike in lumber prices. And cautiousness in returning to mass transit as well as returning to an indoor workout facility has caused a jump in bicycle demand (especially e-bikes).

But as we can recall from Econ 101, the best cure for higher prices is higher prices. This is what the bond market has been trying to tell us the last few months as 10-year U.S. Treasury yields moved from an overbought 1.75% yield to a now oversold 1.45%. The government bond markets are brushing off the current inflation spikes and suggesting that higher prices will eventually cool recent demand. And guess what, that is now happening.

Last week's big data point was the Consumer Price Index release and while it exceeded expectations (+0.6% vs. +0.5% est.), it came in under control which rallied both stocks and bonds. Used auto prices were mostly to blame rising +7.3% and accounting for about 1/3 of the total increase. Airline prices also jumped +7.1%, but that series should be running hot right now as we fill up the airplanes. Most other prices remained under control.

But look what happened to last week's consumer sentiment surveys when asked about the effects of soaring prices—the surveys plunged. This is the effect of higher prices. Buyers can wait, while sellers can accelerate their plans to sell. Throw up a supply/demand curve and let's observe. We are now reading that Volkswagen sees light at the end of the semi chip tunnel, sawmills are racing to come back online and Trek, well, let's just say they are making bikes as fast as they can. Single family home inventories have bottomed, and I would assume that auto dealers will soon be past their lowest point of inventory.

On the heels of a focus on inflation, the FOMC meets this week with a decision announcement planned for Wednesday. We will be watching to see what they will say about current inflation data points. Will some members call for a sooner tapering? Could some use their dot plot to send a future signal? Or will the more hawkish members toe Powell's party line and kick the can to the August conference in Jackson Hole while sliding into a pair of flip flops? It will be a most interesting meeting.

The market will be paying attention, but this could be the last active day of trading until earnings hit in July. So far, the summer (post-Memorial Day) volumes have been dreadful for the S&P 500. Sure, the meme stocks still make up a ton of the daily volumes, which might pay the NYSE electricity bills, but the trading desks are doing much less business right now. I wouldn't expect a full return in volumes until September outside of a major global event.

Keep an eye out for this Delta COVID variant in your town/city. This one looks like it is not to be messed with if you live in a low vaccination region. It is much more transferable than the previous variants and this one could cause a Fall spike in cases as the weather turns colder. If you are vaccinated, there is little reason to worry. However, it could disrupt your summer/fall travel plans if others with you create an outbreak. Looking at you cruise ships, theme parks, sports complexes and convention centers.

Higher auto prices caused a plunge in University of Michigan's buying sentiments...

@SoberLook: The U. Michigan buying conditions for vehicles tumbled amid shortages and rapid price increases.

University of Michigan Buying Conditions for Vehicles

The same survey also showed a plunge in the demand for home buying and a record high in appetite for selling...

@RenMacLLC: Talking about a weird situation in housing. UMich Buying conditions for houses crumbled to a record low. But, conditions for selling houses are at a record high. No one wants to pay higher prices, but how bad can demand really be if it is also a great time to sell?

A weird housing market

Mohamed El-Erian thinks the Fed is running out of wiggle room...

Developments on the ground have pinned the Fed into a corner of its own making as a stronger economy challenges the central bank’s commitment not to tighten policy until there is actual evidence, rather than forecasts, that employment and inflation are at target levels — its so-called outcomes-based policy framework.

While longer term uncertainties remain, there is now greater clarity about this year’s US recovery.

Demand is on a sharp upswing with significantly higher public and private consumption accompanied by a pick-up in corporate investment and manufacturing exports. The supply side is responding, but insufficiently so.

This has resulted in widespread supply bottlenecks, inventory problems, and transportation challenges. Meanwhile, significant demand to hire new employees is being frustrated by too few workers able and willing to fill what are now record job openings.

Some of these trends are temporary and should be reversed soon. Others are not, with high likelihood that notable wage and price rises will stick.

(FinancialTimes)

While PTJ wants to corner the market on inflation hedges...

Paul Tudor Jones said economic orthodoxy has been turned upside down with the Federal Reserve focused on unemployment even as inflation and financial stability are growing concerns.

Inflation risk isn’t transitory, the hedge fund manager said in an interview on CNBC.

If the Fed says the U.S. economy is on the right path, “then I would go all in on the inflation trade, buy commodities, crypto and gold,” he said. “If they course correct, you will get a taper tantrum and a sell off in fixed income and a correction in stocks.

Jones said if he was on the investment committee of a pension fund, he would “have as many inflation hedges on as I possibly could.”

(Bloomberg)

The bond markets believe the inflation data is more temporary...

Probability of a Fed Rate Hike by the End of 2022

(@SoberLook)

Meanwhile, across the pond, the ECB remains committed to kicking and throwing cans...

“The Governing Council expects net purchases under the PEPP over the coming quarter to continue to be conducted at a significantly higher pace than during the first months of the year,”
(ECB President Christine Lagarde and her colleagues)

No one is seeing more inflation right now than the Millennials...

“Today my Uber ride from Midtown to JFK cost me as much as my flight from JFK to SFO,” Sunny Madra, a vice president at Ford’s venture incubator, recently tweeted, along with a screenshot of a receipt that showed he had spent nearly $250 on a ride to the airport.

“Airbnb got too much dip on they chip,” another Twitter user complained. “No one is gonna continue to pay $500 to stay in an apartment for two days when they can pay $300 for a hotel stay that has a pool, room service, free breakfast & cleaning everyday. Like get real lol.”

Some of these companies have been tightening their belts for years. But the pandemic seems to have emptied what was left of the bargain bin. The average Uber and Lyft ride costs 40 percent more than it did a year ago, according to Rakuten Intelligence, and food delivery apps like DoorDash and Grubhub have been steadily increasing their fees over the past year. The average daily rate of an Airbnb rental increased 35 percent in the first quarter of 2021, compared with the same quarter the year before, according to the company’s financial filings.

(NYTimes)

Timber...

Prices in Chicago fell 18% this week, the biggest decline for most-active futures in records going back to 1986. Lumber has now dropped almost 40% from the record high reached on May 10.

Sawmills appear to be catching up with the rampant homebuilding demand in North America that fueled a months-long rally, bringing some relief to a market beset by supply shortages and price surges. Buyers are balking at still historically elevated prices and awaiting additional supplies, setting off a cascading sell-off, analysts said.

(Bloomberg)

Lumber Future

(@TheStalwart)

For those seeking a roof, these differences are getting too big to ignore…

Soaring housing prices and plunged rental prices have created this opportunity for people to save a lot on housing costs today. Analysis like this will slow housing demand because there is no better cure for soaring prices than a much cheaper alternative.

A recent study by LendingTree found that median housing costs were lower for renters than for homeowners with a mortgage in all 50 of the largest U.S. metro areas. The greatest difference between the median rent and the median cost of owning a home with a mortgage was in New York City, at $1,363 a month. San Francisco and San Jose, Calif., were next, with the gap between renting and owning exceeding $1,000.

Savings for Renters

(NYTimes)

Working at the beach/lake/mountains was great while it lasted, but now it is time to return to the office…

And away from the second home markets, Zelman Associates' homebuilder survey shows a fourth straight month of weaker-than-seasonal order activity in May. So, time for housing prices to cool.

The pandemic rush to buy a beach house or mountain retreat is cooling as offices reopen and buyers balk at high prices.

Starting in June 2020, well-heeled Americans looked to buy vacation homes to ride out months of remote work and school. That caused demand to more than double overnight, according to an analysis of mortgage data from Redfin Corp.

Demand stayed high for most the past year. Last month, however, the increase was just 48%. While that’s still a significant jump, it’s off depressed levels at the start of the pandemic when much of the home-buying market was frozen.

Redfin said the recent shift is likely due to a number of factors, including that many companies are looking to reopen offices. Soaring home prices haven’t helped, either.

(Bloomberg)

Demand Dips

Recent housing inventory has bottomed...

Is this just a temporary seasonal bottom or have rising prices attracted new inventory?

As of June 11th, inventory was at 342 thousand (7 day average), compared to 698 thousand the same week a year ago. That is a decline of 51.0%.

A week ago, inventory was at 329 thousand, and was down 53.3% YoY. Seasonally, inventory has bottomed.

Housing Inventory

(CalculatedRisk)

As it relates to jobs...

The labor market continues to tighten, with the latest job openings indicators hitting record highs (well above consensus forecasts). Note that both the absolute number and the openings rate have been surging.

US Job Openings

Goldman Sachs says that expiring unemployment insurance benefits are about to meaningfully benefit the monthly job growth figures...

Tweet from @carlquintanilla

The Fed's newest pickle might be the increasing number of retired workers leaving the economy...

The Fed believes many factors holding back the labor force are tied to the pandemic and will fade later this year.

But one might not: The 2.6 million people who retired since February 2020, according to estimates from the Dallas Fed. A steadily aging U.S. population suggests limited scope for reversing that trend, some economists say.

“The number of people who left the labor force through retirement was higher during this pandemic recession-recovery than in previous recession-recoveries,” Cleveland Fed President Loretta Mester said June 4 on CNBC. “Typically, when people retire, they don’t come back into the labor force.”

Hanging Up the Boots

(WSJ)

On to stocks, can you believe that energy now leads in the percentage of BUY ratings?

Overall, there are 10,511 ratings on stocks in the S&P 500. Of these 10,511 ratings, 56.7% are Buy ratings, 36.8% are Hold ratings, and 6.5% are Sell ratings. Over the past five years, the average (month-end) percentage of Buy ratings is 51.6%, the average (month-end) percentage of Hold ratings is 42.4%, and the average (month-end) percentage of Sell ratings is 6.0%.

At the sector level, analysts are most optimistic on the Energy (64%), Information Technology (63%), Health Care (62%), and Communication Services (62%) sectors, as these four sectors have the highest percentages of Buy ratings. On the other hand, analysts are most pessimistic on the Consumer Staples (44%) sector, as this sector has the lowest percentage of Buy ratings. The Consumer Staples sector also has the highest percentage of Hold ratings (45%) and highest percentage of Sell ratings (11%) of all 11 sectors.

S&P 500: Percentage of Buy, Hold, and Sell Ratings

(Factset)

Note the weekly trading volumes at the bottom of this chart...

Individual exchange volumes might be higher, but the SPY volumes better reflect the trading in companies that actually make money and are involved in GDP. Keep your popcorn and blackberries.

S&P 500 ETF

(StockCharts)

Japan traded the U.S. well in the last 15 months...

Japanese investors sold a record amount of U.S. equities at the start of the Asian nation’s fiscal year as they cashed out amid a rally in risk assets. Net sales in the six months through April 30 totaled 6.49 trillion yen ($59.3 billion), while American stocks returned 35% to Japanese funds, including reinvested dividends. Net purchases of U.S. bonds amounted to 7.58 trillion yen during the period, pointing to portfolio rebalancing among investors, Bloomberg reports.

Japan investors sell record amount of U.S. equities amid rally

(Jones Trading)

It would be great to see global equities breakout this year against the U.S...

And given the many valuation differences, it is tough to not want to continue to build international equity allocations.
@mark_ungewitter: Non-U.S. vs. $SPX. Most important chart in the world?

MSCI World (ex USA)

Finally, a stronger oil price breakout...

@charliebilello: Crude Oil ends the week above $70 a barrel for the first time since October 2018, up 95% in the last year.

Crude Oil

For those keeping score at home, the small market cap cutoff will be moving to $5 billion on the next Russell rebalancing…

Distribution of Russell 3000 cumulative market capitalization

(Goldman Sachs)

The bankers have set up a buffet table of IPOs...

Now, let's see how big the market's appetite is during what looks like a very slow summer.

The IPO market is set to be scorching hot this summer…

Public filings are looming for Chinese ride-sharing company Didi Chuxing Technology Co. and Robinhood Markets Inc., two of the most hotly anticipated initial public offerings of 2021, people familiar with the matter said. Their stocks are likely to begin trading in July. Fund managers, venture capitalists, bankers and lawyers said they are busier than they have been in decades at this time of year, which is usually quieter. Some claim business is even crazier than during the dot-com boom of the late 1990s.

From June through August, U.S.-listed IPOs could raise upward of $40 billion, some bankers estimate. That would eclipse the previous record of $32 billion over those three months, set last year, according to Dealogic data going back to 1995. That doesn’t include money raised by special-purpose acquisition companies, or SPACs, which were going gangbusters earlier this year but have slowed.

Heatwave

(WSJ)

If you know how strong the U.S. economy will grow, then Goldman has a Growth/Value market factor item for you...

The Growth vs. Value trade has had a strong historical relationship with economic growth and interest rates, and we believe the macro environment will continue to be an important determinant of performance going forward. Value stocks tend to outperform when economic growth is very strong, which is often the case early in the economic cycle. This relationship has been evidenced for decades and clearly demonstrated again during the past year. Value also tends to outperform when economic growth is extremely weak, while Growth stocks fare best in mediocre economic growth environments such as have characterized most of the past decade.

(Goldman Sachs)

Growth stocks

The most widely held names have underperformed for the last year...

Maybe they should offer free popcorn to their shareholders?

Tweet from @MichaelKantro

Snowflake may be a great company and business model...

But it is difficult projecting a business out eight years. A couple of years, sure. But things can change, and monopolies can become disrupted. Today, Snowflake has a market cap of almost $74B. Based on the company's investor day presentation last week, it's low bar, base case will generate about $1B in operating income. So, what is in the sandbag? Maybe they double their revenue and margin goals, and you get to $4B in operating income? I do not know too many companies that grew revenues 45%+ for a decade. It could happen, just know what you are paying for the investment today.

The event was titled “the path to $10 billion,” which is the amount of product revenue Snowflake is attempting to achieve come fiscal year 2029.

The short version of the story is that Snowflake will see sales, as measured by product revenue, grow by forty-four percent annually for this year and the following seven years, starting from half a billion last year in product revenue. (Product revenue excludes revenue from consulting services.)

The company also said it will go from losing tons of money at present to having an operating profit margin of ten percent by then, and a free cash flow margin of fifteen percent.

Now, growth of over forty percent for almost a decade is pretty impressive. Nevertheless, to have an operating profit of only ten percent in eight years from now is not something to look forward to, especially not if one is making ten billion dollars a year. Presumably, with scale of that sort, more should be flowing to the bottom line.

(TheTechnologyLetter)

Snowflake

(Snowflake)

Tweet from @williamgreen72

This may not end well...

Sure, we all want to help Alzheimer's patients, but an approval on an expensive drug that no member of the researching committee voted for? All of my contacts in the healthcare industry are more perplexed than I am.

“This might be the worst approval decision that the F.D.A. has made that I can remember,” said Dr. Aaron Kesselheim, a professor of medicine at Harvard Medical School and Brigham and Women’s Hospital, who submitted his resignation Thursday after six years on the committee.

He said the agency’s approval of the drug, aducanumab, which is being marketed as Aduhelm, a monthly intravenous infusion that Biogen has priced at $56,000 per year, was wrong “because of so many different factors, starting from the fact that there’s no good evidence that the drug works.”

Two other members of the committee resigned earlier this week, expressing dismay at the approval of the drug despite the committee’s overwhelming rejection of it after reviewing clinical trial data in November.

The committee had found that the evidence did not convincingly show that Aduhelm could slow cognitive decline in people in the early stages of the disease — and that the drug could cause potentially serious side effects of brain swelling and brain bleeding. None of the 11 members of the committee considered the drug ready for approval: Ten voted against and one was uncertain.

(NYTimes)

Global public equities hit $116 trillion in value last week...

World Total Stock Market Cap

(@Schuldensuehner)

Meanwhile, total global private market assets now amount to $7 trillion...

And with double-digit growth rates on the horizon, more players are looking to grow in the asset class.

Although still dwarfed by the traditional asset management industry — which primarily invests in mainstream, public equity and bond markets — explosive growth in areas such as private equity lifted the size of the overall private capital industry to $7.4tn at the end of 2020, according to Morgan Stanley. The bank expects it to hit $13tn by 2025.

Private capital is now growing as quickly as cheap, index-tracking passive investing, prompting many big asset management groups to expand their operations in the area to counteract the profit pressures on traditional investing avenues.

(FinancialTimes)

Private capital industry has exploded in size

As for returns, private equity crushed it in Q4 of 2020...

No, literally, the +16.3% pooled return across all PE strategies ranked in the 100th percentile. And private credit also did well with a 89th percentile return of +6.3%. Our team will have a full note out soon detailing the Q4 data in much more detail so keep an eye open.

Private equity and private credit quarterly TWR distributions

(Cobalt / Hamilton Lane Analysis)

Some Q4 2020 observations by our team...

  • Across different strategies PE funds had similar median returns in Q4. However, riskier strategies like growth equity and venture capital continued to have more dispersion of returns. To be top-quartile in this cohort meant 24%+ returns for the quarter.
  • The 3rd to 4th quartile cutoff for most strategies was near zero for the 2nd through 4th quarters, suggesting that about one quarter of funds put up a negative return during that time frame. This was not the case for the large buyout funds which did a better job of protecting to the downside.
  • Large buyout funds outperformed SMID buyout funds during Q4 in each quartile and have a much tighter dispersion. The biggest difference was for the bottom quartile splits as large buyout funds had 5.7% return and very few funds lost money in the quarter. Something that couldn't be said for the bottom quartile SMID funds.

Private markets fund return distribution by quarter

(Cobalt / Hamilton Lane Analysis)

The red sky sunsets in Colorado have begun...

Unfortunately, the beauty is caused by all the fire activity in our western states. I would much more rather have clear blue skies and a yellow sunset every night. But this chart shows that this will likely not be the case in 2021.

Early June drought conditions in the west

(NYTimes)

The Delta COVID-19 variant should cause everyone to get vaccinated...

Keep an eye on the spread of this Delta variant in your region as it is much more likely to spread than any that we have studied. If you are vaccinated, then no worry. But if the U.S. has a fall COVID wave or you have a diversion in your upcoming cruise, this new virus could be the reason why.

@Bob_Wachter:
11/ Why is Delta scarier? First, it appears to be even more infectious than the Alpha variant, probably by a similar amount (~40% more infectious than Alpha.) This means the same exposure that a person might have had last year is now about…
12/ …twice as likely to result in Covid. Second, it's looking like it is more serious, though we need more data to be sure. Third – and this is the big one – it does appear to be somewhat immune resistant. Before getting too freaked out about this, it’s worth noting that the…
13/ …data are reassuring, in a way: the efficacy of 2-doses of Pfizer is 88%, only a smidge lower than the 95% we’re used to, and still great. But the first dose data is concerning. Normally, a few weeks after dose 1, you’re about 80% protected (this was the argument for…
14/ …delaying 2nd doses when jabs were scarce). But for Delta, Pfizer dose 1 is only ~33% protective. https://gov.uk/government/news/vaccines-highly-effective-against-b-1-617-2-variant-after-2-doses This creates 2 problems: 1) People stay vulnerable until after shot 2 (& many let guard down earlier); 2) Loss in efficacy for dose 1 points to some…
15/ …degree of vaccine/immune escape. And – though this isn’t proven – I’d worry that a fully vaccinated elder, or someone whose immunity stems from an infection >12 mths ago, won’t be sufficiently protected over time, if immunity falls below a threshold needed to thwart Delta.

How the R0 numbers of Covid-19 variants and other diseases compare

(@EricTopol)

Here is a sure way to get the U.S. fully vaccinated...

Offer bonus Congressional votes to any state that gets its total population vaccinated above 70%. That should minimize the threat of the Delta variant real soon. Congrats to the 13 states below who passed 70% without an incentive. And Colorado, how did we let California beat us?

Tweet from @erikbryn

If the Lighting reviews continue this positive, it might be years before you can find one. Nice job Ford...

If there’s one word to describe my ride in the Lightning, it’s speed. The truck’s chief engineer, Linda Zhang, eased it onto a banked, high-speed oval at Ford’s proving grounds. “Are you ready?,” she asked, and I thought I was — until Zhang floored it. The G-forces from the instant torque generated by the truck’s two electric motors pressed me deeply into my seat and left my stomach somewhere on the road behind us. I hadn’t felt this kind of queasy since the last time I took hot laps in an actual race car.

The electric drivetrain, powered by a 1,300-pound battery, kicks out 563 horsepower and 775 pound-foot of torque, making it the most powerful F-150 ever. That torque came in handy for our next demo — towing a 6,000-pound trailer up and down a steep and winding road. Torque is what you need most for towing and hauling. And the electric F-150 can tow up to 10,000 pounds and haul another 2,000 in the bed. Yet as we navigated this undulating course, my driver, Ford engineering manager Dapo Adewusi, never had to raise his voice. There was no clunk or groan coming from the trailer. Just a smooth, quiet ride that seemed as if we weren’t pulling anything.

But it was off-road where the Lightning really proved its mettle. It splashed through muddy bogs and slammed its undercarriage against grassy mounds with nary a nick or scrape. The big battery is safely entombed inside a water-tight metal casing surrounded by crash-absorbing protection. Ford says the truck’s frame is made from the strongest steel it’s ever employed on an F-150. And the entire electric drivetrain is protected by steel skid-plates running underbody for the full length of the vehicle.

(Bloomberg)

Catch up on past Weekly Research Briefings >


Disclosure

The information presented here is for informational purposes only, and this document is not to be construed as an offer to sell, or the solicitation of an offer to buy, securities. Some investments are not suitable for all investors, and there can be no assurance that any investment strategy will be successful. The hyperlinks included in this message provide direct access to other Internet resources, including Web sites. While we believe this information to be from reliable sources, Hamilton Lane is not responsible for the accuracy or content of information contained in these sites. Although we make every effort to ensure these links are accurate, up to date and relevant, we cannot take responsibility for pages maintained by external providers. The views expressed by these external providers on their own Web pages or on external sites they link to are not necessarily those of Hamilton Lane.

Endnotes: Strategy Definitions

Credit – This strategy focuses on providing debt capital.

Growth Equity – Any PM fund that focuses on providing growth capital through an equity investment.

Infrastructure – An investment strategy that invests in physical systems involved in the distribution of people, goods, and resources.

Mega/Large Buyout – Any buyout fund larger than a certain fund size that depends on the vintage year.

Natural Resources – An investment strategy that invests in companies involved in the extraction, refinement, or distribution of natural resources.

Real Estate – Any closed-end fund that primarily invests in non-core real estate, excluding separate accounts and joint ventures.

Venture Capital – Venture Capital incudes any PM fund focused on any stages of venture capital investing, including seed, early-stage, mid-stage, and late-stage investments.

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