Private Markets

Weekly Research Briefing: Congratulations Graduates

May 24, 2022

This month millions of kids will graduate from college and high school. For all of them, it was a diploma well-earned due to the pandemic interruption for more than half of their education. Investors in public equities should also receive a diploma for learning that stock prices can leg lower, and lower, and lower. Buying every dip does not work when valuations are high, earnings are rolling over and the macro picture is darkening. A bad market tends to leave few stocks untouched as many conservative investors learned last week. Consumer stocks were run through the gauntlet led by mega-retailers Walmart and Target who saw their largest single day stock declines since the 1987 stock market crash. Both companies noted a rise in inventories caused by consumer buying shifts and significantly higher transportation and labor costs. So instead of positive EBITDA growth in 2022, the retailers will be looking at flat to negative EBITDA levels over 2021. Not the end of the world for these two massive enterprises, but the market quickly rushed to crush both stock prices. Welcome to the world that investors now live in. Beat your earnings or get taken to the woodshed.

While companies are currently having difficulty with their input and fixed costs structures, newer economic data suggests that these stresses could ease in the future. Both the Philly Fed and the NAHB Housing Survey missed significantly last week. Blame China. Blame Europe. Blame higher interest rates. Blame higher material and fuel costs. If the economic data continues to come up short, the Fed could have less urgency as they raise interest rates in 2022 and 2023. You can feel a bit of easing pressure in the bond market over the last few weeks. And don't forget that the current pullback in stocks will create a further tightening as investors feel a bit less wealthy and companies in need of capital will have more difficulty raising it. We are already seeing plenty of signs of reduced hiring, especially among unprofitable companies.

Credit and Bank Loan quality will continue to hold the keys to the longer-term direction of the equity markets, both public and private. J.P. Morgan commented today that they see the possibility for a mild recession without a big spike in credit losses. If this is the case, then the total financial system should remain healthy and forward looking with the potential to deploy capital into new investments. The sharp valuation pullbacks across so many high-quality names will no doubt get investors more interested. But in this type of market, there will always be the possibility of a double-digit percent pullback on any company specific earnings outlook disappointment. That is the price that public investors will pay for the chance of great returns in the future. The best day to buy your favorite stock will be on the day that they miss their earnings, lower their outlook, and the stock moves higher. Then you know that we have reached the bottom. Unfortunately, we are not at that stage of the market yet. But I will keep the lookout for you while you push back from this market and dig into those summer hobbies, sports, and stack of books that you want to dive into. Have a great kickoff to the summer.

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The market remains of one direction...

@carlquintanilla: “There have only been three previous declines of 7 or more successive weeks.” - DeutscheBank

US job vacancies rate

The BofA Global Fund Manager Survey has grown three-inch-long razor claws...

Bottom line: extremely bearish May FMS…highest cash levels since 9/11, biggest tech "short" since Aug’06, biggest equity UW since May’20; BofA Bull & Bear Indicator at 2.0 contrarian buy level; missing “full capitulation” piece = investors expect rate hikes not cuts; stocks prone to imminent bear rally but ultimate lows not yet reached.

US job vacancies rate

The cover of Barron's has grown four-inch-long claws...

Market pricing for the number of 25 bps Fed rate hikes


For anyone trying to sit out this market in Walmart, last week set you back -18%...

Market pricing for the number of 25 bps Fed rate hikes


And if you elected to use Target as your safe and happy place, then you cost yourself 30% last week...

Market pricing for the number of 25 bps Fed rate hikes


Retailer executives are not getting any sleep this year...

"Throughout the quarter, we faced unexpectedly high costs, driven by a number of factors, resulting in profitability that came in well below our expectations, and well below where we expect to operate over time.” (Brian Cornell, Chairman and CEO of Target Corporation)

"A guest might be telling us that they're worried about inflation and rising gas prices but they're also looking to splurge on new shoes or some accent pillows for their home. Many guests are sharing their uncertainty of the overall state of the economy, but are feeling more positive about their personal finances." - Target (TGT) Chief Growth Officer Christina Hennington

"We like the fact that our inventory is up because so much of it is needed to be in stock on our side counters but a 32% increase is higher than we want. We'll work through most or all of the excess inventory over the next couple of quarters." - Walmart (WMT) CEO Doug McMillon

The Transcript

Retail inventories on fire as buyers try and guess the direction of the consumer and the strength of their supply chain...

Wide distribution of outcomes after historical yield curve inversions


China is going to attempt to re-open its economy from lockdown in June. Expect many more disruptions...

"Shanghai now is saying they're going to open up June 1. We don't know exactly what that means when that implies that we would start getting any supply out. And correspondingly, we believe when they open up and when they do allow transportation and logistics to start, we believe there's going to be a high degree of congestion. We believe that there's going to be lots of competition for ports capacity and airport capacity. And we just believe that that, combined with the inbound efforts, trying to get raw materials back into the country, et cetera, we just believe that it's going to be impossible for us to catch up on this issue in Q4, which is what led to the guidance in Q4." - Cisco Systems (CSCO) Chairman & CEO Charles Robbins

"The view that I expect from China is anecdotal. It's from reports that I got from friends of mine in China. Entrepreneurs and people who are plugged into the society, the Chinese friends really cautioned me against making the assumption that post the economy opening up or the lockdown stopping that we'll see the same bounce back as before in China and in the United States as in Europe and in Japan. It's not doom and gloom, it just said don't look for triple-digit growth. I don't think it's going to be like we have in the United States at the moment. We stated in a different -- they're in different period of the cycle, really -- China's growth rate has slowed down -- So I just wanted to caution you not to put in your projections China opening and it goes up again." - Compagnie Financiere Richemont SA (CFRO) Founder & Executive Chairman Johann Peter Rupert

The Transcript

May's Philly Fed was a big miss...

Wide distribution of outcomes after historical yield curve inversions

May's NAHB was equally discouraging as higher prices and higher mortgage rates impact housing...

The NAHB housing market index decreased by 8pt to 69 in May, falling back to roughly pre-pandemic levels. The current sales (-8pt to 78), future sales (-10pt to 63), and traffic of prospective buyers (-9pt to 52) components all decreased. The Midwest (-11pt to 51), West (-11pt to 73), and South (-6pt to 76) regional indices decreased, while the Northeast (+2pt to 76) regional index increased.
(Goldman Sachs)

Wide distribution of outcomes after historical yield curve inversions

Calculated Risk

But travel and entertainment remain a strong point for this economy as people continue to get out...

"As I said, our domestic parks were a standout. They continue to fire on all cylinders, powered by strong demand, coupled with customized and personalized guest experience enhancements that grew per capita spending by more than 40% versus 2019." - Walt Disney (DIS) CEO Bob Chapek

"So we believe that consumer savings are really high and that there is a lot of pent-up demand. You've been stuck in your houses for two years without a lot of travel. Last summer Europe was not what we had hoped it to be. This summer, it will be. We are growing by about 25%. So we feel pretty bullish that this can continue for quite some time." - United Airlines (UAL) EVP & Chief Commercial Officer Andrew Nocella

The Transcript

After another difficult earnings week, future estimates continue to move lower...

Cumulative personal savings in the pandemic


Here is a good list of some of the largest valuation adjustments in the S&P 500 this earning season. Many great companies here...

@bespokeinvest: 4% of S&P 500 stocks declined 10%+ in reaction to earnings over the last three months.

Wide distribution of outcomes after historical yield curve inversions

As earnings fall, many investors are asking when to step in and buy the lower prices...

Wide distribution of outcomes after historical yield curve inversions

Looks like the Nasdaq has lost 1/3 of its forward P/E valuation...

The Nasdaq Composite forward P/E ratio is nearing the pre-2020 range, but there is plenty of room to move lower.

Wide distribution of outcomes after historical yield curve inversions

The Daily Shot

Jerome Powell grew some much longer talons last week during his last open mic...

  • "Financial conditions overall have tightened significantly. I think you are seeing that. That is what we need -- we know this is a time for us to be focused on getting inflation down to 2%. We know how people are suffering from high inflation. We have the tools and the resolve to get inflation back down. No one should doubt our resolve in doing that. I think if you look at how quickly we have moved in the last few months, you will see that it has tightened a bit. We need to see inflation coming down in a clear and convincing way. We are going to keep pushing until we see that."
  • "The underlying strength of the U.S. economy is really good right now. U.S. economy is strong, the labor market is extremely strong. It is still at very healthy levels. Retail sales numbers, the economy is strong. Consumer balance sheets are healthy. Businesses are healthy. The banks are well-capitalized. This is a strong economy. We think it is well-positioned to withstand less accommodative monetary policy, tighter monetary policy."
  • "As a policymaker, the way I’m thinking about it is right now, we are raising rates expeditiously to what we have been seeing to a more normal level, which is something that we will reach may in the fourth quarter. But it is not a stopping point. It is not a looking-around point. We don’t know with any confidence where neutral is. We don’t know where tightening is -- Honestly, we will go until we feel like we are at a place where we can say yes, financial conditions are at an appropriate place, and we see inflation coming down. We will go to that point and there will not be any hesitation about that"

The Transcript

Also, from the BofA Global Fund Manager Survey, portfolio managers now think that hawkish Central Banks now pose the biggest tail risk...

Best Year for Commodities

The increase in hawkishness should be responsible for this dampening inflation expectation...

After the Flood

The Daily Shot

And the bond market is also taking note...

S&P 500


Credit card defaults are beginning to rise...

They are rising off a very low level due to the excess savings and lack of spending during COVID. But we will need to keep a close eye on this as the economy slows down.

S&P 500


On Monday, J.P. Morgan let its investors know that it feels very comfortable with the current level of their credit risk...

This sent banking stocks up 3% on the day as investors look forward to the potential for higher yields helping net interest income without the two by four across the face from spiking credit losses.

In slides ahead of Monday’s presentation, the bank said its credit outlook remains “positive.” It noted that last year net charge-offs were at “historically low levels” and were expected to return to pre-pandemic levels “over time,” implying that the bank isn’t too worried about recent volatility. The bank added that wholesale and consumer balance sheets are “strong,” meaning credit normalization isn’t expected this year.


So, Seattle, Fargo, or Anchorage then if you want to try and beat this summer's heat...

S&P 500


If the science can scale up from the white board, this M.I.T. team will be visiting Stockholm in some future December...

CAMBRIDGE, Mass.—Researchers at the Massachusetts Institute of Technology say they have found a potent new tool in the fight against global warming. It is basically cat litter.

They soaked an odor-eating clay used in cat boxes in a copper solution to create a compound that they say snatches methane from passing air and turns it into carbon dioxide, a much less harmful greenhouse gas.

The Energy Department gave the researchers $2 million to design devices with the compound that can be attached to vents at coal mines and dairy barns, which are big methane emitters. The idea is to alter the chemistry of emissions before they hit the open air, like a catalytic converter on a car...

Desirée Plata, an MIT professor leading the work, said that if emissions from the world’s coal mines were filtered through copper zeolite, methane could stop accumulating in the atmosphere. If methane emissions were reduced by 45% by 2030, projected warming would be reduced by a half-degree Celsius by 2100, according to climate experts...

Her team sought ways to mimic nature and break down methane without dangerously high temperatures, explosive gases or expensive metal catalysts required in other techniques, she said. Scientific literature suggested zeolite. So did an MIT adage: “If you want to make something dirt cheap, make it out of dirt.”

Zeolite usually costs between $50 and $300 a ton, according to the U.S. Geological Survey, which has deemed the mineral abundant enough to not bother estimating reserves.

S&P 500


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The author has current equity ownership in: J.P. Morgan Chase & Co.

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