Private Wealth

Weekly Research Briefing: The Big Slick

August 16, 2022
  • SHARE

An opening same-suit King/Ace draw in poker is a great start to a hand. Too great, in fact, which is why the cards are sometimes called 'the big slick'. See the cards in the picture above and the poker player is thinking: high card potential pairs, straight, flush or better! As the excitement runs through their veins, the temptation to bet big follows. The play could either work out in their favor, or, if the dealer lays a few off-suit number cards on the table, that big bet could slide right into another player's stack of chips.

With the financial markets still thinking of a high inflation, recession-destined economic picture, last week's much weaker inflation data dealt investors their own 'big slick' to consider. Investors who were short or significantly underinvested became increasingly pressured to get in the game and not fight the markets. While those positioned for a soft-landing ‘Goldilocks’ scenario were given the confidence to press their bets longer. Many see the current set up as a head fake that will reverse and bite the markets as the Fed continues to fight inflation longer and stronger. Others are feeling better about their long equity and credit bets and are reaching for another stack of chips. Last week was a big one with some significant shifts in macro models causing some big bets to be placed and taken off. And with the markets a bit thinner because of August, the moves were probably a bit greater than they should have been. But don't ignore that jump in the TICK data on Wednesday, the breadth on Wednesday through Friday or the week's continued buying of credit. Eyes wide open right now because there will be lots of money made and lost in coming months due to the bets placed last week.

The flow of data and participation in the markets is about to contract further. Retail earnings this week and the Fed's Jackson Hole Economic Policy Symposium next week. But if history is any guide, then many readers will not be working much over the next two weeks. I see many lining up the 'out of office' replies until September. Shoot, even the Peloton cycling instructors are off their stationary bikes this week. That said, we will give the WRB team a break next week. If you are in the office and want to learn more about our liquid private market vehicles, please call my team in Denver, London, Sydney, Tokyo or one of the other offices. Have a great end to summer.


8 Reasons Private Equity Deserves Advisors’ Attention

A dollar of investment in publicly traded stocks in 2018 is worth on average $1.53 today, while a dollar invested in private equity at that time is worth $2.36.

Learn More


Core inflation was good. Shelter inflation did not accelerate. Energy prices collapsed...

Piecing together the implications of this week's softer-than-expected inflation data with last week's blowout nonfarm payroll report for the Fed's policy path is top of mind for many. The FOMC has made it clear that it needs to see inflation slowing on a sustained basis before pivoting from its current stance. This week's CPI report is a step in the right direction, but we believe the FOMC will err on the side of caution and not take its foot off the pedal until it sees broader signs of an inflation slowdown. The soft July price data are not enough on their own to call for less aggressive Fed action, as there are still signs the descent in inflation may be slow. Rent growth has only started to cool and labor costs continue to rise at a lofty pace.

Wells Fargo Securities


Who wants the credit for the largest decline in gas prices in 14 years?

@LizAnnSonders: So far in August, we’re seeing largest monthly drop in average gasoline price since November 2008


Consumers are loving the decline in energy costs as it relates to their economic outlook...

The Daily Shot


Beyond 60/40: Allocating to Private Markets

Investors may want to consider expanding beyond the traditional 60/40 portfolio.

Learn More


Business customers also saw a collapse in producer prices...

The Daily Shot


Even with last week's better inflation data, Morgan Stanley sticking to its guns that the Fed still needs to stick to aggressive rate hikes...

Q: To what extent does the CPI print relieve pressure on the Fed?

A: The good news for the Fed is, like I said, direction is correct. We are not making new highs in year-over-year inflation comparisons. It looks like 9.1%, at least for now, is going to be cycle peak on headline CPI inflation. That is directionally good, and if I’m Jerome Powell I probably do have a smile on my face and I’m glad that energy prices went my way. But let’s get real here, people. I mean, 8.5% on your headline and a core that was really unchanged at close to 6% is nowhere near a sustainable level. It’s three times your target of 2%. And look, we know throughout history, if Jerome Powell is really the student of history that he claims to be, if he really thinks he’s Paul Volcker, then he knows that it’s going to be very hard for him to take his foot off the accelerator on the fed funds rate until the fed funds rate is approaching core CPI. And if you look throughout history, most Feds that are trying to fight inflation have to get to that point.

So inflation coming down toward something closer, having core inflation come down to something below 4% means he still has about another 150, 175 basis points to go on fed funds, and he’s probably going to have to get there sooner rather than later. September was looking like 50 -- we had a brief moment on the labor data, which was super hot, where some exuberant folks said, ah, it’s gotta be 75. And now we’re back to 50. So we’ve round-tripped. I don’t think there’s a lot of new news in this, other than the direction is correct, but the levels are wrong.

Bloomberg


With the peak in prices potentially behind us, stock investors might begin to smile again...


Of course, the amount of inflation you are seeing depends on which city you live and work in...

Most US cities saw a break last month from relentless price increases, as cheaper gasoline helped slow inflation.

Only the Tampa, Florida, metropolitan area had double-digit inflation -- up 11.2%, little changed from the 11.3% high in May. Several cities saw declines of at least a half percentage point, including San Diego, where inflation cooled to 7.3% on a year-over-year basis from 8.3% two months earlier...

Where that gap had stretched to 6 percentage points in spring, by July the spread between inflation leader Tampa and the city with the tamest inflation -- New York -- had fallen to 4.7 points. New York’s inflation rate eased to 6.5% last month from 6.7%.

Declines in gasoline and used-car prices offers respite to consumers, though price pressures remain elevated in other categories. Shelter -- which makes up almost one-third of the CPI -- is still a driving factor behind much of the extra inflation across the Sunbelt.

Dallas-Fort Worth was the only metro area where prices accelerated to 9.4% in July from May. The cost of shelter ticked up a bit in the Metroplex, while household energy prices surged 43% from a year earlier compared with a 36% increase in the prior month.

While Tampa area motorists saw gasoline costs fall by almost a third in the past two months, shelter costs continued to climb and are up by 13.6% from a year ago.

Bloomberg


But still some economic headwinds: N.Y. Fed Mfg index misses significantly which could further slow hiring datapoints...

U.S. Manufacturing data weak as NY Fed's empire state current business conditions index -31.3 in August (second-largest monthly decline in the index on record) vs +11.1 in July and vs. an expected +5.0 reading by economists. New orders index -29.6 in August vs +6.2 in July, prices paid index +55.5 (lowest level in a year) in August vs +64.3 in July, employment index at +7.4 in August vs +18.0 in July and six-month business conditions index +2.1 in August vs -6.2 July.

Hammerstone Report

@Lvieweconomics


Ditto for the housing builder index which will further slow Q3 residential housing starts...

The NAHB housing market index decreased by 6pt to 49 in August, declining for the eighth consecutive month and falling to its lowest level since May 2020. The current sales (-7pt to 57), future sales (-2pt to 47), and traffic of prospective buyers (-5pt to 32) components all decreased. The Northeast (-8pt to 49), Midwest (-7pt to 42), South (-6pt to 54), and West (-5pt to 42) regional indices all decreased.

Goldman Sachs

@RenMacLLC


One top residential building supply company is feeling the slowdown in housing...

TREX (Trex) reported decent Q2 results, but the guide is very light (they see Q3 revs of $190MM vs. the St $354MM w/Q4 revs of $185MM vs. the St $308MM). “Although we believe consumer demand for Trex decking and railing products remains healthy, in late June, we experienced a sudden reduction in pro-channel demand, as our partners began to adjust their inventory levels to align with expectations for an economic slowdown. Accordingly, we anticipate a significant reduction in revenues in the second half of 2022 as consumer demand is filled by existing channel inventories”.

Vital Knowledge


Micron pre-announced on Tuesday and the stock traded to two-month highs by Friday...

What to make of the semi news? The Micron update isn’t terribly shocking in direction, but the fact they are being forced to cut the outlook just over a month since reporting points to an environment that must be continuing to weaken (and Micron says the pain will persist into its Nov-end quarter too). The general-purpose semi firms appear to be holding up well (TXN, MCHP, ON, etc.) given the strength of their end markets (industrials, autos, etc.), but companies that sell into PCs and smartphones are suffering, and it even seems that the data center market undergoing an inventory correction too. The next big semiconductor data point will arrive with ADI earnings on 8/17. Note that the semiconductor news wasn’t all bad – Global Foundries had a solid report/guide this morning.

Vital Knowledge


Of course the U.S. semi industry was also given two gifts by Congress this month: the CHIPS and Science Act and the Inflation Reduction Act which will ramp environmental spending (so many chips needed to get green)...

…incentivized by the CHIPS and Science Act, Micron also announced plans to invest $40bn in manufacturing facilities in the US through the end of the decade, and noted in its press release that domestic production of memory could grow from less than 2% to up to 10% of the global market in the next decade.

Goldman Sachs


While the Fed speakers talk in the adult voices from "Peanuts", stocks and credit surge higher...

"Inflation remains far too high and not near our price stability goal...We’re not near done yet”. (San Francisco Fed President Mary Daly).


John Authers channels BofA to note that the financial markets are increasingly dreaming of Goldilocks...

As with stocks, the rally embodies a lot of macroeconomic optimism. This summary from BofA is useful. It says three factors are in play:

  • First, last week’s jobs report has made a serious dent in the recession theory. Simply put, this economy does not hire half a million new workers into a recession.
  • Second, the CPI report on Weds offered the first tangible piece of evidence that inflation peak may be happening. We have been consistently emphasizing weakness in commodities as a leading indicator of this, but the CPI print offers a hard data point to support this.
  • Third, credit conditions have been improving fast on the back of a major market rebound from July.

If the perilous descent from Peak Inflation continues successfully, the credit market will continue to validate the recovery in other risk assets. But it wouldn’t take much difficulty for the credit market to shake some of today’s positive assumptions. These data are encouraging, but it’s too soon to call the all-clear.

Bloomberg


Yes, yes, yes and yes...

Best Year for Commodities

If you thought the bounce in stocks was big, go look at high yield credit...

Best Year for Commodities

The Daily Shot


A piece of art for increased risk taking...

I always look to the credit markets first before making a decision on equities.

Best Year for Commodities

And credit spreads still look like they have room to contract as long as stock prices do not fail...

Best Year for Commodities

The Daily Shot


In other words, we are now closer to the highs on stocks than the lows...

@LizAnnSonders: S&P 500 has now reclaimed more than 50% of its bear market decline since January 3

Best Year for Commodities

And a 50% retracement is very good news for stocks...

@TheIdeaFarm: Of the 19x the WWII that the S&P 500 entered a bear market, the 50% retracement test signaled the end of the decline all but once

S&P 500

@SPGlobal


Going from significantly oversold to significantly overbought is also a very good setup...

@jonathanharrier: Rare breadth thrust on $SPX: Only 6 prior times (since 1985) when...

Fewer than 10% of $SPX stocks were under their 50-MA, then jumped to 90% above within 2 months

Avg returns of 23% a year later, but the very low interim drawdowns of -2.8% are the thing to see.

S&P 500

Here is a visual...

@mark_ungewitter: More evidence of internal strength.

S&P 500

I love big TICK readings...

This means that during the open on the 10th after the CPI number that so many investors were buying that a net 1,733 securities were traded on an uptick from one trade to the next. Keep in mind that there are only about 2,800 securities on the NYSE. I felt like I could hear the computers screaming all the way to Denver.

S&P 500

They finally broke the VIX below 20 last week...

@bespokeinvest: The streak of VIX closes above 20 that just ended was the second longest of the last ten years.

S&P 500

The earnings season craziness continued as expectations remained low for high-growth names...

S&P 500

And the companies came through and made fools of bearish stock investors...

S&P 500

“Helen and the Black Crayon” is not a children's book, but her charts can teach us much about the markets...

Is it time for the QQQ to breakout? So many signs point to yes. A small pullback followed by a new summer high would easily confirm.

S&P 500

@hmeisler


The Wall Street Journal trolls the bears by sticking to the facts...

S&P 500

WSJ


Utilities are now less than 3% away from their all-time highs. Good for defensive stocks and for the total stock market...

S&P 500

@hmeisler


Is it now time for the hottest long trade on the last 12 months to take a pause? Or maybe even reverse?

Hedge funds have turned bearish on the dollar for the first time in a year in a wager the US currency’s best days may be over.

Leveraged investors flipped to a net short position on the greenback versus a basket of eight major peers last week, the first bearish shift since last August, according to data from the Commodity Futures Trading Commission. Hedge funds had been some of the biggest champions of the dollar this year due to a hawkish Federal Reserve and concern over slowing global growth.

Sentiment may be shifting as signs emerge that aggressive Fed interest-rate hikes may finally be cooling the quickest US inflation in four decades. The Bloomberg Dollar Spot Index has fallen more than 3% from an all-time high in July after surging more than 14% in the year before that.

S&P 500

Bloomberg


If so, Jared Dillian has a chart for you to consider...

Emerging markets have a dreadful 10-year record, but if the U.S. Dollar flips, so will this chart.

S&P 500

For emerging markets, it is not a question of 'if', but 'when'...

@charliebilello: The Ratio of Emerging Markets to US stocks is at its lowest level since 2001. Over the last 12 years, EM is up 28% while US equities have more than quadrupled.

S&P 500

Of course, China is a big component of EM and one of its most important assets is now collapsing...

But the world knows this, and prices should reflect a partial collapse of their residential housing system. The bigger issue is when will the country move past COVID and how will the Government fix the housing situation.

S&P 500

The Daily Shot


The plug to fill will be big. But China has measures to implement, including re-opening the markets to outside capital...

@SnippetFinance: Trouble in the biggest asset market on earth. Chinese property developer cash flows have turned decidedly negative.

S&P 500

@MarcRuby


But if the thought of buying EM stocks and bonds is too much for you, then maybe consider adjusting your U.S. sector exposures...

S&P 500

The Daily Shot


Activist investors continue to go after public companies with broken stock prices. Third Point buying Disney...

Walt Disney shares were higher Monday after activist investor Third Point disclosed a “significant” stake in the entertainment giant...

In a letter to Disney (ticker: DIS) CEO Bob Chapek obtained by Barron’s, Third Point CEO Daniel Loeb wrote that his firm purchased a “significant stake in the company” after Disney reported quarterly results that “pleased” him. He had owned Disney stock but sold the shares, according to Bloomberg data.

“We have had over two years to observe management navigate the most challenging time in Disney’s history,” Loeb wrote. “This quarter’s results are an important proof point that Disney’s complex transformation is succeeding and our confidence in Disney’s current trajectory is such that we have, in recent weeks, repurchased a significant stake in the Company.”...

Loeb also wrote that a “strong case can be made” for spinning off ESPN, arguing that the sports channel “would have greater flexibility to pursue business initiatives that may be more difficult as part of Disney, such as sports betting.”

“Customers of ESPN and sports leagues would be better served by a focused management team driving a leadership position in sports distribution,” Loeb said.

Barrons


And Elliott buying Cardinal Health...

Activist investor Elliott Management has a large position in Cardinal Health Inc. and is seeking a handful of seats on the medical-products distributor’s board, according to people familiar with the matter.

Elliott nominated five directors to the 11-person board roughly two weeks ago, before Cardinal abruptly replaced its chief executive last week, the people said. The Wall Street Journal reported last week that activists have been circling Cardinal this year with an eye toward whether management change could help boost the company’s share price.

Elliott’s exact intentions couldn’t be learned. The deadline to nominate directors for election at its annual meeting to be held this fall was Aug. 7.

WSJ


With IPOs and secondaries in retreat this year, and stock buybacks and buyouts accelerated, there has been a significant reduction in equities on the U.S. exchanges...

The above combination of a collapse in IPOs and equity offerings and a significant rise in share buybacks and LBO activity implies an intensification of the equity withdrawal by the corporate sector. This is shown in Figure 5, which combines share buybacks with equity offerings and LBOs to proxy net equity withdrawal. Figure 5 shows an acceleration in net equity withdrawal from last year’s historical high to a new record high during the first half of this year of $600bn per quarter. However, so far in Q3, there are signs of significant slowing in net equity withdrawal from first half’s strong pace.

S&P 500

J.P. Morgan


If Morningstar wanted added diversification to their portfolio, they should consider adding liquid private market alternatives into their list of portfolio options...

Now that many Morningstar clients and advisors have access to a growing universe of evergreen private market vehicles that are available through Schwab, Fidelity and others, it is time to begin including them as options for a total diversified portfolio. Especially when the asset class both adds to long term portfolio returns and reduces volatility. And just don't take Cobalt and Hamilton Lane's word for it. Look at the below chart from Bank of America Global & Merrill Lynch who dedicated last week's research piece toward the study of alternatives. David Swensen (Yale Endowment) paved the way, and now that 40-Act mutual funds exist to invest into the private markets, they should be included in any evaluation of investment assets for all retail investors.

Never a dull moment. Already this year, we had a severe selloff spurred by inflation and the resulting interest-rate hikes, and now we're having a big rebound. Who knows what's next? Growth stocks are down 21% for the year, but they had been down more than 30%. Most other areas are doing better than that but are still in the red.

Diversification worked beautifully in the 2000-02 bear market as value generally held up and bonds did quite well. And in 2020, growth stocks held up fairly well, as did most bonds.

But in 2008-09 and in 2022, bonds, stocks, and nearly everything else went down. Vanguard Balanced Index (VBIAX) is a good proxy for your typical 60/40 portfolio, and it's down 12% for the year. (See John Rekenthaler's take on the 60/40 portfolio for more thoughts on the subject.) Bonds are down about 9% this year. That's still useful diversification but obviously not as good as the times when bonds got you a positive return to diminish losses.

Both stocks and bonds are getting hurt by surging inflation and the interest-rate hikes aimed at curbing inflation. In other bear markets, the issue is a recession, and recessions are good for reducing inflation and rates so that high-quality bonds are in the green.

Morningstar

S&P 500

BofA Global Research


The private credit markets are exploding because the rest of the world has pulled back from lending...

Would you rather participate in an environment with a full curb of lenders, or just a few? I know that I would much rather be lending money right now in 2022 than in 2019. Institutional Investor provides some ink to an analysis of the private credit markets.

It seems that every investment shop out there is coming to market with a private credit fund. In fact, as I write this column, two more firms — an asset management firm and a global investment bank — issued press releases touting the launches of their first private debt vehicles.

Institutions and individual investors alike have flocked to the asset class. Estimates from various sources indicate that the private credit industry today has total assets under management of about $1.2 trillion. This represents pretty strong growth — nearly 25 percent per year for more than two decades. Despite the slowdown in broader credit markets, private credit funds raised $45 billion in the first quarter, a pace that would make 2022 the biggest fundraising year ever, surpassing the record totals from last year. Even with high-yield issuance down roughly 65 percent year-over-year from the first quarter of 2021, investor demand for private credit remains robust — so much so that critics may be asking: Is private credit a bubble?

There’s a pretty good reason for the high demand: strong returns. Alternatives investment specialist consultant Cliffwater has been actively involved in private credit since 2004 and oversees the most comprehensive index in the sector, the Cliffwater Direct Lending Index, or CDLI. Comprising $223 billion in assets and 8,000 individual underlying loans, the CDLI is a reasonably good approximation of the sector. And the performance is indeed compelling.

From 2008 to the end of 2021, the CDLI has generated annualized returns of about 9.2 percent. This compares very favorably with the returns put up by traditional fixed-income markets, including investment-grade bonds and levered loans. The CDLI has outperformed the next best sector, high-yield bonds, by nearly 200 basis points per annum.

It’s important to point out that the returns for the CDLI are net of credit losses. Cliffwater estimates that the average coupon to the loans in their index over this horizon has been about 10.2 percent, with about 1 percent of net credit losses per year. This means that, adjusted for risk, private credit investments have historically generated substantial excess return compared with public debt instruments, compensating investors for taking on illiquidity...

Even at $1.2 trillion, private credit is the smallest subsegment of the credit space, accounting for just 2.2 percent of the total $55 trillion-plus in assets in the asset class. Further, with approximately $2.5 trillion in private equity dry powder alone, it doesn’t appear to me that private credit is even close to bubble territory. With 50-50 debt-to-equity ratios, this private equity dry powder will need to find twice as much financing as the entire private credit industry. It’s hard to imagine how such a small corner of the debt market, with such a broad universe of potential investments, can be a real source of systemic concern.

S&P 500

Institutional Investor


A new study found that companies that borrowed from the private markets had better access to capital and survival than those that used banks...

Makes sense to me given that private debt and equity managers sign in blood when they invest their money into a deal. Not usually the case at the big banks once the loan is syndicated.

Young Soo Jang, a PhD student at the University of Chicago, has studied private lenders’ behaviour by examining over 200 deals that fell into distress during Covid.

He found private lenders were twice as likely as the broadly syndicated loan market to ask for borrowers to agree to inject new capital into deals, forestalling restructuring. Five per cent of distressed private deals led to bankruptcies, according to the research, half the rates of bank financed deals.

Financial Times


A new study shows that institutional investors continue to increase their average private equity exposures into 2022...

Foundations and endowments continued to have the largest average exposure to private equity as of 30 June, at 14.4 percent. Private pension funds saw a sharp spike in average exposure over the first half, climbing by 1.35 percentage points to about 7.4 percent.

S&P 500

Private Equity International



Learn more about the Hamilton Lane Strategies

Learn more




DISCLOSURES

The author has current equity ownership in: Walt Disney Co.

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.

Recent Content

insight

Weekly Research Briefing: Chop, Chop, Chop

If the stock market was a fine dining kitchen, it would currently be midday and we would all be busy at the chop block with a knife in hand and tubs of vegetables to prep. Stock prices are waiting for a signal and just biding their time. Up, down. Up, down.

Read the Research Article
insight

Weekly Research Briefing: Caught in a Loop

Just like it used to say on the back of the shampoo bottle: wash, rinse, repeat. The shampoo algorithm. That is what the current market feels like.

Read the Research Article
insight

Weekly Research Briefing: Main Street > Wall Street

If you feel like you are in an episode of the “Twilight Zone,” you are not alone. For those Americans who do not live for every tick of the stock and bond markets, life is good.

Read the Research Article

FPO We use cookies to improve user experience, and analyze web traffic. For those reasons, we may share your site usage with our analytics partners.

Learn More