opening back up?

The US as a nation is beginning to relax the most severe social distancing measures put in place to make sure a tidal wave of COVID-19-infected people wouldn’t overwhelm the medical care system.

I have no idea what’s going to happen as we recover, but I’m willing to hang my hat on two ideas:

–the key issue is hospital capacity, and

–that reopening will continue, with the throttle being opened or choked back, not by the number of new virus cases, which I think will likely rise, but by the availability of hospital beds.

 

The stock market senses this policy shift and is starting to react.  “Starting” may be a bad word.  The Russell 2000–mid-sized firms with revenues and costs in the US–was down by 40% ytd a month ago.  It has risen by about a third since then, meaning it’s still down by a bit more than 20% ytd.

Banks, hotels, cruise lines, restaurant chains all show similar patterns.

Just as important, secular growth, capital flight tech names, which have been very strong so far this year (MSFT is up by 10%, for example, the ARK Genomics ETF is +20%  (I own both (btw, I really like the ARK people and own several of their ETFs)), are beginning to lose steam.  (This is really a horrible sentence.)

What to do?

This is, of course, mostly an issue of investment philosophy and risk tolerance.  For what it’s worth, I’m very aggressive, have a portfolio I actively manage, where I’m very heavily weighted toward tech.  I’ve begun to shift a tiny bit toward the names that have been crushed by pandemic fears.

So far I’ve bought a Russell 2000 ETF and established a small position in Marriott (MAR).

I’ve thought about the cruise lines, which are the swing for the fences “value” bet, and decided I don’t know enough and don’t want to take the risk.   There should be (I haven’t looked) a ton of very recent information on the SEC EDGAR site about Carnival (CCL) given the company’s recent financing, which should give prospective buyers some comfort.  But at the end of the day I can imagine taking a small-boat river cruise but I’m not a CCL customer.

I also thought about Boeing (BA), but I’m not sure I have any clue about the depth of incompetence and corruption involved in the company’s newest commercial aircraft development.  My experience suggests we’ve only seen the tip of the iceberg.  The counter-argument is that BA has a substantial defense business and that it’s one of only two major aircraft manufacturers in the world.  So it can’t be allowed to fail.  I’m passing, though.

(An aside:  the key to investment success is not to have an opinion about everything;  it’s to know more than most about a few things that you monitor carefully.)

Why MAR?  A simple answer is fewer warts than CCL or BA.  I know something about the company and use its products.  Also, by and large, publicly traded hotel companies don’t own the physical hotels.  They provide branding, property management and reservation system services, in return for taking the lion’s share of profits.  Yes, less upside than with property owner CCL, but also less risk that my ignorance will come into play in a bad way.

Assuming I’m correct about this market shift, is this just a counter-trend rally?  Yes, but…  There may be a quibble about the word “just”;  but this domestic-centric rally could go on for months.

At some point it will be important to have ideas about how the post-pandemic US will be different.  I’m not sure that’s right now, though.  I think it’s better to be trying to figure out which firms will lose their appeal in a post-pandemic world–and use them as a source of funds to play the current rally.

drinking bleach and the S&P

Last Thursday, speaking in his position as President of the United States (ex cathedra, as it were), Donald Trump said that injecting disinfectant into a patient’s body might be a good treatment for coronavirus.  He’s not a doctor, but he has a good mind; implicitly, how hard could it be? He later excused his remarks by saying he was being “sarcastic.”

“Drinking bleach” is an apt metaphor for the Trump presidency, if not for Donald Trump’s career as a whole.  There isn’t the slightest hint that Trump isn’t serious in offering this “advice.”  The message is vintage Trump. It’s pithy; it’s easy to understand.  It’s also loony. And like almost anything Trump is associated with, it’s most damaging to those who trust and support him.

( side notes: even rookie managers know never to use irony on the job, because of the very real risk of being taken literally.  Also, Trump has no clue (consciously, at least) what the word sarcasm means (i.e., “words to wound,” intended to taunt, demean or otherwise injure the addressee).)

This frightening performance comes as domestic coronavirus casualties have exceeded total US deaths from the Vietnam War and are approaching 10x those from Middle East conflicts. The Trump camp is now embarking on a chillingly Stalin-esque attempt to revise history and cast blame for his months-long coronavirus denial on Alex Azar, his Secretary of Health and Human Services.

 

As regular readers will know, my view is that Trump has done a lot to damage the long-term economic prospects of the US–deficit-inducing but useless tax cuts for the ultra-rich, the attack on the Federal Reserve, undermining the domestic auto industry, weaponizing–with the risk of ultimately disenfranchising–the US banking and capital markets systems, halving GDP growth potential by attacks on immigration, pardoning military criminals, punishing loyal officers…

Last Thursday marks a new low, though.  It was like seeing the home team’s ace pitcher taking the mound.  He’s a career minor leaguer with a checkered history.  You fret about his fastball and his control.  But these end up not being issues, because he’s lost so much arm strength that he can’t throw far enough to get the ball to the plate.

 

How can the stock market be going up after this?  Two reasons:

–we saw the man behind the curtain last week, so there probably are no more negative surprises there

–the economy is in the earliest stages of opening up again.  This is not to say COVID-19 is in the rear view mirror.  It’s a judgment that the health care system will be able to manage the level of future infections.  In typical fashion, Wall Street is beginning to sort through the debris of cruise ships, hotels, restaurant chains…to separate potential economic rebound winners from losers.

 

 

 

 

 

 

an ugly day…

…but this sort of stuff happens.

I don’t think today’s decline is about oil or Donald Trump or the pandemic.

The 2020 low (so far) occurred about a month ago.  If we’re going to return to “test” those lows, now would be about the time, based on past occurrences, when the market would flatten out and begin to drop.  This may be the first step down that path.

There is an alternate pattern, which I’ve been thinking about a lot since hearing the double bottom thesis being almost universally accepted.  It’s the somewhat older idea that the market pulls out of a nosedive when policy measures are put in place to address the problem that has been forcing the market down.  There’s an initial anticipatory rally, followed by sideways movement until the market gets hints that corporate earnings are beginning to improve.  That’s when a sustained upward market movement starts.

We’ll have a better idea in the next couple of weeks whether this market is following either of the two patterns.

An aside, sort of:  I read newspapers online from the US, the UK, Germany and Japan every day.  Well, at least the headlines and I catch up on the weekends.  I’ve noticed a significant increase in the number and bluntness of negative press comments about Mr. Trump and those who surround him, on two fronts:  that local leadership may be totally inept, but at least it’s better than Trump; and growing dismay at his white racism and his constant lying.

We’ve already seen the economic damage he is doing to the country reflected in the 15% fall in the Russell 2000 since his inauguration (with the lion’s share of the pain inflicted on his supporters (vintage Trump, in my view)) vs. a 50%+ gain for NASDAQ.  If there were an obvious alternative to Wall Street, I think we would already be seeing multiple contraction as well.

 

If I’m correct, investors like us are facing an unusual conceptual decision:

we’ve already had a short back-from-Chapter 11 rally among domestic firms hurt by the fact of the coronavirus and by the continuing bungling of the Trump administration.  At some point there must be a market move to sell winners in order to pick and choose among this wreckage.  On the other hand, the more Trump we have the more damage to the second group–therefore the shallower and shorter-lived any bounce will be.

Taking a somewhat longer-term view, given that the Democrats have yet to address any of the social issues that caused ordinary citizens in rural America to choose Trump–poor schools, jobs, medical care…–it’s at least thinkable that he will be reelected.  If so, London and Hong Kong may look like better bets than Wall Street.

My instinct at this point is to get ready to buy hotels and maybe restaurants but to wait before acting to see how the overall market will develop over the next couple of weeks, as well as whether the rush to reopen some states will turn into the medical disaster many fear.

 

 

 

most of an email from Wednesday night

 I think we won’t really begin to know how bad things are going to be before we see companies report earnings for 1Q20 over the next few weeks.  And it may not be until we get well into 2Q20 that we’ll have a solid grip on what the situation is.  That’s when we’ll be able to assess whether the market has already discounted all the possible bad news.
We can already figure out stuff that should be avoided–cruise ships, department stores, airlines, the Detroit auto companies…
If a professional manager has to remain close to fully invested, meaning no more than 10% in cash (for a pension manager, the maximum cash percent will typically be stipulated in a contract), just avoiding the losers will probably be enough to do better than the market.
For me, I think the investment focus should be narrower.  I find techy businesses with worldwide appeal and little investment in physical plant and equipment are especially attractive.   This is partly because technological change is very rapid, partly because I think the Trump back-to-the-Fifties economic strategy is already doing huge long-term harm to the US economy.  If he or someone like him continues in office, I think the ability of a company to pick up roots quickly and move to, say, Canada will be a distinct plus.  I also think this flight capital idea is already being factored into stock prices (look at NASDAQ  +50.8% vs Russell 2000 -13.6% since Trump has been in office).  I wouldn’t just distribute money across the board in the -non-losers.  I’d emphasize what I think are the long-term winners.
I’m sure that there are some people buying NVDA, NFLX and ATVI not because they believe in them or even know much about them but purely to defend themselves from the possibility that conventional consumer names will have hugely bad earnings performance over the next couple of quarters.  They may not be table to quantify how bad but they’re convinced that there won’t be any positive surprises, only potential negative ones.
Assuming I’m right in what I’ve written so far, the key question for me is when/how does this market situation reverse itself.
Reversal typically comes in one of two forms: the price difference between the good stocks and the bad stocks will get so extreme that, purely on valuation, the bad stocks will start to catch up with the good ones–this is a “counter-trend rally” and tends to be short; or the economy will begin to improve and there will be a genuine reversal of relative economic momentum toward business cycle recovery stocks.  I agree we’re a long way off from that.  At some point, though, it will be right to shift holdings to more traditional cyclical names in anticipation.
To some degree, the first thing has happened already.   MAR, for example was $150 in mid-December, then $46 a few weeks ago, and is now $80.  So it’s up by almost 75% from the low.  I don’t know what will happen from here but I might be tempted at $60 to buy a little bit.  Generally speaking, though, I think this kind of stock will be lucky to go sideways between now and the time, late this year?, that we get signs that business is recovering.  I’m really not accustomed to thinking about ETFs but a hotel ETF might be the better way to go.

oil below $20 a barrel

The Energy sector of the S&P 500 makes up 2.8% of the index, according to the S&P website.  This is another way of saying that none of us as investors need to have an opinion about oil and gas production, which makes up the lion’s share of the sector.

Last weekend Saudi Arabia and Russia, with a fig leaf provided by the US for Mexico’s non-participation, led an oil producers’ agreement to cut production by around 10 million barrels daily.

Prior to the meeting, crude had rallied from just over $20 to around $23.  Right after, however, the Saudis announced price discounts reported to be around $4 barrel for buyers in Asia.  Prices were reduced by a smaller amount in Europe but went up for US customers–apparently at the Trump administration’s request.  That sent crude prices into the high teens.

Why is this the best strategy for Saudi Arabia?

The commonsense answer is that Riyadh thinks it’s more important to secure sales volumes than it is to be picky on price.  This is at least partly because the world output cuts reduce, but by no means eliminate, the oversupply.  So there are still going to be plenty of barrels looking for a buyer.  Another reason is that since demand has dried up the Russian ruble has dropped by 20%.  That’s like a 25% local currency price increase for Russian crude, meaning lots of room for Moscow to undercut rivals.

investment implications

The most leveraged play to changes in oil prices is oilfield services.  Companies that specialize in exploration–seismic services, drilling rig firms–are the highest beta, firms that service existing wells less so.  During the oil price crash of the early 1980s, however,  drilling rigs were stacked for a decade or so.  On the other hand, oilfield services firms are the ultimate stock market call on rising oil prices.

Given that US hydrocarbon output and usage are roughly equal, the country as a whole should be indifferent to price changes (yes, it’s more complicated, but at this point we want only the general lay of the land) rather than the net winner it was 15 years ago.  However, within the country oil consumers normally come out ahead, while oil producers are losers.

Typically, the resulting low gasoline prices would be a boon to truckers and to commuting drivers.  The first is probably still the case, the second not so much.

The bigger issue, I think, is the fate of the Big Three Detroit auto producers, who are being kept afloat by federal government policies that encourage oil consumption and protect high-profit US-made light trucks from foreign competition.  While nothing can explain the wild gyrations of Tesla (TSLA) shares, one reasonable interpretation of the stock’s resilience is the idea that the current downturn will weaken makers of combustion engines and accelerate the turn toward electric vehicles.

Personally, I’m in no rush to buy TSLA shares–which I do own indirectly through an ARK ETF.  But it’s possible both that Americans won’t buy new cars for a while (if gasoline prices stay low, greater fuel economy won’t be a big motivator).  And the rest of the world is going electric, reducing the attractiveness of Detroit cars abroad, and probably making foreign-made electrics superior products.

If there’s any practical investment question in this, it’s:  if the driving culture in the US remains but the internal combustion engine disappears, who are the winners and losers?

 

 

 

 

 

 

 

 

energy: oil

history

–oil began replacing coal as fuel of choice in the early 20th century, but that loss was mostly offset by substitution of coal for wood, until…

…at the end of WWII, Saudi Arabia, having lost its primary source of revenue, Hajj pilgrims, in the prior decade-plus, opened its oil deposits to foreign development.  

–Third-world producing countries formed OPEC in 1960 as a political organization to battle exploitation by oil-consuming countries.  In the 1970s, OPEC “shocked” the world by raising the price of crude oil in two stages from $1 barrel to $7.  In the panic that ensued after the second increase the price spiked to over $30 before collapsing and staying low for years.

–During the 1970s oil crisis, every major consuming nation other than the US acted decisively to decrease dependence on oil.  If anything, the US did the opposite.  One result of our misguided policy (to protect domestic auto firms) has been that although the US represents 6% of the world’s population it consumes 20% of global oil output.  Another, despite this + trade protection of domestic carmakers, has been loss of half the domestic auto market to better-made, more fuel-efficient imports.  (In most cases this is what happens–protection weakens the protected sector.)

supply/demand

price dynamics

Pre-pandemic, the world was producing about 100 million barrels of oil daily.  It consumed about the same.  Oil supply is relatively inflexible.  In over-simple terms, once a large underground pool of oil start to flow toward a well, it’s difficult to stop without harming its ability to start up again.  Because of this, even small supply excesses and shortfalls can induce sharp price changes.

supply

The biggest oil producers are:

US          19.5 million barrels/day (includes natural gas liquids.  crude alone = 12.7 million)

Saudi Arabia          12 million

Russia          11.5 million

Canada, China, UAE, Iraq, Iran      each 4 – 5 million

demand

The biggest oil consuming countries are:

US          20 million barrels/day

EU          15 million

China          13.5 million

India, Japan, Russia      each about 4 million

my stab at production costs (which is at least directionally correct)

Saudi Arabia        less than $5/barrel

Russia          $30/barrel

US fracking          $40/barrel

where we stand toady

The coronavirus outbreak appears to have reduced world oil demand by about 15 million barrels a day.  Enough surplus oil is building up that global storage capacity will soon be completely full.  Also, a spat broke out between Saudi Arabia and Russia over production cutbacks to support prices.  When the two couldn’t agree, the Saudis began to dump extra oil on the market.

West Texas Intermediate, which closed last year just above $60 a barrel, plunged to just above $20 a barrel in late March.  It goes for about $24 as I’m writing this late Sunday night, despite Moscow and Riyadh seemingly paving patched up their differences last week and agreeing to cut their output by 10 million barrels between them.  The market was not impresses, as the Friday WTI quote shows.

fracking

The US is in a peculiar position:

–the administration in Washington appears to have two conflicting energy goals:  to keep use of fossil fuels as high as possible; and to keep the world oil price high enough to make fracking profitable.  The first argues for lower prices, the second for higher.

–according to the Energy Information Administration, fracking accounted for 7.7 million barrels of daily crude oil liftings in the US last year, or 63% of the national crude total.   If the cost numbers above are anywhere near accurate, domestic frackers are in deep trouble at today’s oil price  

This doesn’t mean production will come to a screeching halt. 

The industry has two problems:  excessive debt and high total costs.  According to the Wall Street Journal, Whiting Petroleum, a fracker who recently declared bankruptcy, prepared for pulling the plug by drawing its full $600 million credit line, swapping stock in the reorganized company to retire $2 billion in junk bonds and paying top executives a total of $14.5 million.  That solves problem number one. 

As to number two, total costs break out into capital costs (leases, drilling…) and operating costs.  I have no idea what the split is for Whiting and I have no interest in trying to figure it out.  My guess is that the company can generate positive cash flow even at today’s prices.  Almost certainly the reorganized company can.  It may choose to shut its existing wells in the hope of higher prices down the road.  But it could equally well opt to continue to operate just to keep experienced crews together.  However, new field development is likely off the table for now.

my take

When I was an oil analyst almost (gulp!) a generation ago, the ground level misunderstanding the investment world had about OPEC was the belief that it was an economic organization, a cartel, not the political entity that it actually was.  The difference?–economic cartels invariably fail as members cheat on quotas; political groups have much more solidarity.  Today’s OPEC, I think, is much more an economic cartel than previously.  In other words, it can no longer control prices.  And despite the fact that Putin and MSB have extraordinary sway over the administration in Washington, my guess is this won’t help, either.

There’s some risk that investing in oil today is like investing in firewood in 1900 or coal in 1960.

Despite this, for experts in smaller US oil exploration companies, I think there will be a lot of money to be made after a possible wave of bankruptcies has crested.  Personally, I’d rather be making videos.

 

 

 

 

 

 

 

 

what Monday’s market action is saying

Over the weekend Governor Cuomo of New York said that new coronavirus hospitalizations (that is new patients admitted minus patients discharged) may be plateauing.  Similar news came from Italy and Spain this morning.

While this doesn’t imply that more negative consequences of the pandemic won’t continue to build up, it suggests that the doomsday scenario of the creaky national health care apparatus imploding won’t occur.

 

Wall Street took this news as the occasion for a rally, which continues to strengthen as I write this.  (Is the worst in stock market terms over?   ,,,I have no idea.)

A day like this is chock full of information, most of it general concept stuff rather than specific buy/sell signals.

Stocks are up by 5% plus.  One should expect that the most heavily beaten down stocks should be rebounding the most and that the relative outperformers should be lagging.  No news there.  But where are the outliers?  For example:

–hotels and resorts seem to be up close to 15%, cruise lines, too, but airlines aren’t moving

–the Russell 2000 is leading the major indices up, but even though the NASDAQ has significantly outperformed on the way down, it’s even with the S&P 500 so far today

–Zoom (ZM) continues to play its contrary role–the worse the virus news, the better ZM has been performing.  But the stock is down today, and way off its high of $160+ a short while ago.  I haven’t paid much attention to ZM but it seems to me a holder (I was one but no longer) should be figuring out how much valuation support there is for it

–oils are flat to down, despite Mr. Trump’s (dubious, in my mind) claim to have brokered a production reduction deal between Russia and Saudi Arabia (more on this tomorrow)

 

What to do?  I look for two things:  individual holdings that aren’t acting the way I think they should, and changes in market leadership, which often come when the market begins to heal itself after a sharp decline.