Penn...After Hours
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Th, 29 Sep 2022
Biotechnology
Biogen was down 18% year to date, then some good news sent shares soaring 40%
We are having a serious case of déjà vu with respect to $40 billion biotech firm Biogen (BIIB $277). Last summer, shares of the firm spiked some 55% on the back of positive news regarding its experimental Alzheimer’s drug, aducanumab. In the ensuing year, shares plunged 50%—from over $400 to under $200—on doubts about the therapy’s efficacy, despite FDA approval. This week it was a new Alzheimer’s drug from the firm, lecanemab, which moved shares of the firm back up some 40% in one session. Lecanemab, which was co-developed with Japanese biotech firm Eisai (ESALY $58), slowed cognitive decline in early-stage sufferers who were enrolled in the companies’ Phase 3 Clarity trials. Unlike the prior drug’s trials, which brought a good dose of skepticism from critics, these most recent results were universally hailed by the medical community. With the drug’s potential blockbuster status over the coming years, analysts were quick to upgrade shares of Biogen, though price targets remained relatively close to the day’s trading range. Among the 32 major houses covering the stock, 18 have Outperform or Buy ratings, while the other 14 have a Hold rating. The median price target on the shares is now $267.
Advances in the field of Alzheimer’s have been few and far between for the past two decades. Lecanemab holds a lot of promise, though we must now wait and see what type of support, via Medicare and insurance coverage, it will receive. We do believe, however, that the drug has the potential to generate over $1 billion in annual sales for Biogen.
We, 28 Sep 2022
Capital Markets
2021 was a banner year for IPOs, but most are not faring so well
There were some 400 companies that went public last year via the traditional route, with capital raised coming close to $300 billion. Add SPACs (special purpose acquisition companies) to the mix, and the number hits 1,000 new listings. So, how have these newly-publicly-traded entities been doing lately? The answer isn’t pretty. The Renaissance IPO Index is a basket of the largest, most liquid, newly-listed US public companies. Names like Snowflake (SNOW), Rivian (RIVN), Roblox (RBLX), and Coinbase Global (COIN) top the list. This index has an exchange traded fund, the Renaissance IPO ETF (IPO $29), which allows investors to buy into this basket with ease. Year to date, the fund’s value has been slashed in half, with the shares dropping from $60 to $30 in price. That represents more than twice the S&P 500’s plunge over the same time period. Here’s another staggering statistic: only about one in ten of the class of 2021 are trading above their IPO price. Market volatility due to inflation, rate hikes, supply chain issues, and fear of recession has pounded this group and dissuaded a lot of would-be players from going public this year. According to StockAnalysis.com, only 159 companies have gone public on US exchanges so far this year, or 79% less than the 767 IPOs which had taken place by the same time in 2021. As could be expected, this group has faced a similar fate. For anyone interested in scanning the list for possible value plays, the companies and their “since-IPO” returns are listed on the page.
What about getting into the IPO ETF with the fund sitting down at $30 per share? We wouldn’t recommend it—there are too many wildcards on the list. Some holdings do look promising going forward, however. Names like Palantir (PLTR), Snowflake (SNOW), Airbnb (ABNB), and DoorDash (DASH) have all seen their share prices pummeled, and these are companies which will still be around when the markets regain lost ground.
Tu, 27 Sep 2022
Food Products
Bucking the trend: Penn member General Mills has rallied 20% this year
Virtually all asset classes, sectors, and industries are in the red this year with the exception of energy stocks, and even they have been tumbling recently as crude oil has dropped back to where it began the year—the mid-$70s-per-barrel range. One consumer defensive name has been bucking the trend, however: General Mills (GIS $79) has rallied 20% so far in 2022—hitting an all-time high price last Thursday—and is up some 34% over the past year. Not only did the century-old food products firm report higher-than-expected profits over the past quarter, management also lifted its forecast for the year. Sales in the fiscal first quarter, which ended 28 August, rose 4% (to $4.72B), while net income jumped 31% from the same period last year—to $820 million.
While inflation has raised input and shipping costs for General Mills, the company has been able to pass along some of those higher prices to a consumer which is suddenly eating out less and cooking more meals at home. The stellar management team, led by 55-year-old Jeff Harmening, has also been making some astute strategic moves recently. In an effort to focus on more profitable units, the company recently sold its “Helper” line and Suddenly Salad packaged food division for $607 million, while acquiring St. Louis-based TNT Crust for $253 million. While consumers have been shifting away from higher-priced labels in favor of generic brands, General Mills products remain in the sweet spot. Harmening’s team also placed some well-timed hedge positions on grain inputs, cushioning the blow of rising agriculture prices. For the fiscal year, the company expects to grow net sales by 6-7%.
One of our favorite moves General Mills made a few years ago was the purchase of the rapidly growing Blue Buffalo line of pet foods. In fact, that was a catalyst for our purchase of GIS shares back in 2018. The company is the only packaged food name within the Penn Global Leaders Club.
Fr, 23 Sep 2022
Market Pulse
Another bruiser: markets have now given up two full years of gains
For the past two weeks in particular, the markets have had a myopic fixation on what the Fed’s next moves will be. The Tuesday before last, the Dow Jones Industrial Average lost 1,276 points after a hot August inflation read all but guaranteed a three-quarter-point rate hike in September. This Wednesday, when the Fed delivered, it dropped another 522 points. With the NASDAQ and Russell (small caps) leading the retreat, the major indexes all dropped around 10% over the past ten trading sessions, falling back to October of 2020 levels. So much for the June lows—those were taken out Friday intraday before bouncing slightly. It wasn’t only the Fed, though that was the big catalyst. The other concern markets seem to be stewing about is the strong US dollar, which is at its highest level in precisely two decades. That makes imports and overseas travel cheaper for Americans, but our exports more expensive for the world. But the strong dollar shouldn’t affect US small-cap companies much, as most rely on the domestic marketplace for the lion’s share of their revenues. It has been a brutal year thus far, but if our economy cannot handle a dollar at parity with the euro and a potential 5% federal funds rate, then that is a sad testament to American exceptionalism.
In reality, the US economy can and will be able to deal with these two conditions—a strong dollar and higher rates; it is investors who seem unable to come to terms with the situation. Great American companies, flush with cash and on strong growth trajectories, have not been spared during this latest selloff, which makes little sense. Until the madness abates, we are taking advantage of the dislocation in short-term rates by buying Treasuries, agencies, and quality corporate bonds.
Fr, 23 Sep 2022
Transportation Infrastructure
FedEx shares just suffered their worst day ever; are they now worth looking at?
When FedEx (FDX $148) shares were trading at $245.63 this past February, we removed the company from the Penn Global Leaders Club to make room for another holding. We had lost a good degree of confidence in the management team, and labor costs were suddenly becoming a major drag on the firm. That move was fortuitous, as FedEx just experienced its worst day as a publicly traded company—losing nearly one-quarter of its market cap—after a disastrous earnings call. After giving a rosy outlook in June, management did a 180-degree turn in September, reducing guidance by 50% and predicting a bruising global recession. Analysts were quick to point out that the major issues were not macro in nature, but directly related to this integrated freight and logistics giant. Q1 earnings per share fell 21% from the year prior, against expectations for an 18% gain; revenues rose 5%, but that number missed estimates as well. The company pulled its 2023 guidance altogether, citing a gloomy and uncertain global outlook. To round out the ugly report, FedEx said it plans to raise shipping rates this coming January by an average of 6.9% across the board. Shares are now down over 42% year to date.
With shares trading where they were back in June of 2020, are they now a buy? While the $2.7 billion in cost-cutting measures will help, and customers will probably just accept the shipping rate hikes, we don’t see the shares worth much more than $200 right now; and the risk to get that possible 33% return is still too high in our opinion.
Fr, 23 Sep 2022
Monetary Policy
Powell’s words left little doubt: rate hikes until inflation is under control
For anyone who still believes the stock market is rational and efficient, consider this: Going into the Fed’s rate decision, the Dow was trading up a few hundred points; within seconds of the fully-expected 75-basis-point rate hike, the Dow was down a few hundred points; during Powell’s post-decision speech, the Dow rallied into the green by several hundred points, only to close the session down 522 points.
No matter how late investors or pundits may believe Powell was to the party, his message has been crystal clear: Rates will go up until inflation is brought down to acceptable levels. While the official “acceptable” level is 2%, he said something very telling in his news conference: “The ultimate goal is to have positive real rates across the yield curve.” To us, that was meaningful. By “real rates” he means inflation adjusted, so if the 2-year Treasury is yielding 4% then inflation must be below that. They say markets don’t like uncertainty; well, we now have full clarity with respect to what the Fed plans on doing next.
Of course, we still don’t know how many rate hikes and other shocks to the system it will take to tame inflation. Furthermore, it will take time for the hikes to have their full effect on economic conditions as Fed actions typically have a lot of lag. The central bank forecasts a funds rate of 4.4% by the end of the year, which would point to one more 75-bps hike in November (there is no October meeting) plus a 50-bps hike in December. From there, we may see a few quarter-point hikes before the Fed pauses. We thought it would take a lot to get the fed funds rate to 4%; odds are now in favor of a 5% terminal point. That’s high, but not disastrous for the economy. For historical perspective, we were sitting at a 6.5% rate in August of 2000 and a 5.25% rate in May of 2008. Despite the market tantrums, the economy will weather these rates just fine.
A combination of two catalysts will fuel the coming market rally: signs that inflation is finally coming down, and the Fed’s indication that a pause in hikes is near. We see both of these indicators appearing within the next four months. In the meantime, own quality equities and load up on fat-yielding, shorter-maturity bonds.
Mo, 19 Sep 2022
Fixed Income Desk
The sudden and unusual opportunity in short-term bonds
Every now and again, bizarre things happen in the bond market which provide unique opportunities for investors. When we buy fixed income vehicles, from CDs to Treasuries to corporate bonds, we expect to get a higher yield for taking on the risk of going further out on the time horizon—assuming parity with respect to issuer safety, of course. For example, we expect a 30-year Treasury bond to have a higher yield than a 10-year Treasury note, and that 10-year should be paying more than a 2-year issue. The benchmark spread is the difference between the 10-year and 2-year yield. When the shorter maturity issue has a higher yield than its longer-maturity counterpart, we get a condition known as a yield curve inversion—generally a sign that a recession is on the way.
Right now, we have a quite rare situation: the 2-year Treasury carries a yield higher than all of the longer-maturity issues. Since the 2-year is considered a proxy for what the Fed will do next and the 30-year gauges investor sentiment about the economy, all bets are now on rates continuing to rise until the Fed hits a wall and is forced to pivot. Considering money markets are still yielding close to nothing, and bond values have been dropping in investors’ portfolios, now is a golden opportunity to pick up higher-yielding bonds with shorter maturities and low duration (duration measures sensitivity to changes in the interest rate).
And this opportunity is not limited to government-issued securities. While the 2-year Treasury is currently yielding just shy of 4%, corporate issuers are forced to offer even higher rates (either through new issues or thanks to discounted prices on current bonds in the secondary market) to compete with the risk-free nature of vehicles backed by the full faith and credit of the US government. It has been hard to get excited about bonds for some time; right now, at least with respect to the lower end of the ladder, that is not the case. Investors should strike before conditions change.
We are loading up on low-duration bonds issued by quality companies to take advantage of current conditions. Even bank-issued CDs with maturities of two years are offering rates around 4%. Due to the unique challenges facing Europe and Asia right now, we are sticking primarily to debt issued by domestic firms and financial institutions.
Tu, 13 Sep 2022
Government Watchdog
California dreaming: burger flippers could soon have a $22 per hour minimum wage
On Labor Day, fittingly, California Governor Gavin Newsom signed a stunningly egregious law into effect. While its official name is the Fast Food Accountability and Standards Recovery Act, that is about as accurate as calling a trillion dollar spending bill an Inflation Reduction Act. We have a more accurate name we would like to propose: The $22 Per Hour Minimum Wage Act for Burger Flippers. There are no cutesy acronyms politicians are so fond of, but it clearly spells out the intent.
The law will create a Fast Food Council in Cali, made up of a 10-person cabal of workers, state officials, and management—the latter to make it look credible. This cabal will set the “living wage” for fast-food workers employed at companies which operate at least 100 locations around the country (not the state). Clearly, the target is McDonald’s, Chick-fil-A (the one they really hate), Burger King, Chipotle, and a number of other “fat cats.” The ruling council will have the power to create a new $22 per hour minimum wage for all fast-food workers, beginning next year. The law was strongly supported by the Service Employees International Union, which has been advocating a nationwide, $15 per hour minimum wage. Since California is already set to raise the minimum wage to $15.50 per hour in 2023, we suppose $22 would be the next common sense target.
Of course, there is nothing common sense about this act or the politburo-like body it has created. Two unintended consequences immediately come to mind: $15 hamburgers and a more automated workforce. One will punish consumers who are already reeling from runaway inflation, and the other will punish the very workers who are supposed to be helped by this act. From California, which had attempted to place a cancer warning on every of coffee sold, this move is par for the course. We just can’t understand why so many companies are heading for the exits.
The brilliance of our Founding Fathers in giving so much power to the states (rather than a central government) is once again on full display. Newsom can deny the fact that companies are fleeing his hammer and sickle mentality, and the Chicago mayor can proclaim that the city’s economy has never been stronger, but the evidence proves otherwise. Maybe the voters who keep them in power will see the light one of these days. But we doubt it.
Tu, 13 Sep 2022
Economics: Supply, Demand, & Prices
A hot August CPI report gives the Fed the green light for another 75-bps hike
The seemingly major contingent of investors who believe the Fed is on the cusp of pivoting—moving from rate hikes to a pause to potential rate cuts due to an economic slowdown—befuddles us. In what realm are they living? What metrics possibly back up such a pivot? It is nonsense. With this contingent in mind, it really shouldn’t come as a surprise that Dow futures swung some 700 points, from up over 200 to down over 500, on the back of a higher-than-expected August inflation report. The consumer price index, or CPI, which tracks the price of a large basket of goods and services, rose 8.3% from last year—despite the sharp decline in gas prices for the month. Food, shelter, and medical care costs drove the spike in prices, while the average price for a gallon of gas fell 10.6%. A couple examples of food inflation: eggs are up 40% from last year, while bread is up over 16%. In the auto space, the average price of a new vehicle rose by 0.8% for the month, or 10% annualized. Medical care costs have risen 5.6% from the same period last year. The two-year Treasury note, a proxy for what the Fed might do next, surged from 3.358% to 3.704%, driving bond values down. We have been expecting the Fed to raise rates by 75 basis points at this month’s FOMC meeting; this report all but guarantees that taking place.
The August CPI report and subsequent market drop created a great opportunity for investors. The responsible behavior of the Fed will ultimately lead to a reduction in the rate of inflation, a healthier economy, and a stronger stock market. And it won’t take long for that theory to play out. The closer the Fed gets to 4%, the closer a major rally is to manifesting.
Mo, 12 Sep 2022
Economics: Housing
Mortgage rates hit highest level since 2008
This past week, the average interest rate for a 30-year mortgage did something it hasn’t done since November of 2008: hit the 6% mark. Considering rates topped out about three times that level back in the 1980s, the current rate may not seem too daunting, but that figure reflects a 130% spike from just over two years ago. As the Fed works to get inflation under control, this is certainly one of the intended consequences of the tightening cycle. As mortgage rates rise, it should cool the housing market and, hence, runaway home prices. Unfortunately for would-be buyers, that has not happened, leaving them at the mercy of higher rates and higher prices. For those putting their homebuying plans on hold, there is another problem: rents are rising just as fast. We did a double take when we saw this figure, but the national average for renting a single-family home in the US rose 13.4% from 2021 to 2022, to $2,495 per month. For apartment dwellers the picture is nearly as bad: the monthly rent for a multifamily dwelling in the US rose 12.6% from July of 2021 to this past July, to $1,717. And occupancy rates remain high for rental housing, hovering around 96%. It may seem warped, but this is precisely why the Fed must continue to raise rates. Ultimately, something must put downward pressure on home prices.
It may seem counterintuitive to look at buying the homebuilders now, but their prices have been so beaten down by the fear of rate hikes and a coming recession that they are beginning to look very attractive. While the builders of lower-end homes will face more difficulty, names like Toll Brothers (TOLL $45) and D.R. Horton (DHI $74, Emerald Homes is its luxury division) look attractive. Both companies have ultra-low P/E ratios—both current and forward—in the 4-6 range, and both have plenty of cash on hand to weather any coming housing storm.
Th, 08 Sep 2022
Global Strategy: Europe
Despite severe recession risks, the European Central Bank raises rates 75 bps
Typically, in the face of a potentially severe economic downturn, a country’s (or region’s) central bank will begin lowering interest rates in response. In an illustration of just how wrongheaded the ECB’s decision was to go negative with interest rates back in 2014, Europe’s central bank has been forced to do just the opposite: raise rates. It began back in July, when the ECB raised its deposit facility interest rate from -0.5% to 0.00%—a 50-basis-point hike. Now, due to runaway inflation (primarily caused by the energy crisis), the bank has been forced to match the Fed’s most recent action and raise rates another 75 basis points, to 0.75%. In addition to putting downward pressure on inflation, this move should also shore up the euro, which recently dipped to parity with the strengthening US dollar.
The irony of the ECB’s needed move is that the European Union is simultaneously pumping hundreds of billions of euros into the economy to help families deal with skyrocketing energy costs. Basic economics says that when a central government pumps money into an economy, inflation naturally increases. Eurozone inflation rose to 9.1% in August and is expected to hit double digits in September. The ECB, like the Fed, has an inflation target rate of 2%. It has a long way to go before getting anywhere near that number, unless a severe recession grinds the European economy to a halt.
It has been a full decade now since the key European rate has been above zero. ECB President Christine Lagarde, meanwhile, has signaled more hikes to come. These hikes are needed, but they will only increase the likelihood of a deep recession hitting the continent this winter.
Fr, 02 Sep 2022
Economics: Work & Pay
Two key positive takeaways from the August jobs report: unemployment and labor force participation
Here was the conventional thinking as investors awaited the August jobs numbers: if the report was strong, the Fed would continue hiking rates and stocks would be punished; if the report was weak, the Fed might start tapping on the brakes and stocks would celebrate. We ended up with something in the middle, and that was the best possible outcome.
First the headline number. There were 315,000 new nonfarm jobs added in the month of August, or slightly fewer than the 318,000 expected. Wages rose 5.2% from a year ago—not a positive sign for inflation, but not as much as expected. There were two key components of the report that helped turn futures from flat to positive. The first was the unemployment rate, which surprised analysts by ticking up from 3.5% to 3.7%. The second was the reason for that jump: the labor force participation rate rose an impressive 0.3%, to 62.4%. That may not seem like much, but it meant another 800,000 Americans began looking for work.
One of the biggest causes of inflation has been the scarcity of workers, forcing employers to pay more to attract new help. That pool of workers just got a lot bigger, which should help dampen the recent wage spikes. The prime-age labor force participation rate—workers between 25 and 54—surged to 82.8%, which is great news on that front. Overall, it is hard to imagine a much better report rolling in right now.
We still want—and expect—to see a 75-basis-point rate hike coming in September, which would bring the upper band of the Fed funds rate up to 3.25%. We still need to see any combination in subsequent months pushing that rate up to 4%. Then, it will be time to pause until inflation moves back down to an acceptable level. The Fed will also be reducing its $9 trillion balance sheet over the coming year. To be clear, this scenario is what needs to happen, not what the market wants to see.
Mo, 29 Aug 2022
Industrial Conglomerates
3M wanted bankruptcy court for one of its subsidiaries; a judge denied the request
Between 2003 and 2015 a 3M (MMM $126) subsidiary by the name of Aearo Technologies manufactured and supplied earplugs to the United States military for troop training and for troops stationed in a combat environment. Production of the earplugs, which were unique in their two-sided design, ceased in 2015. In 2016, a competitor filed a whistleblower lawsuit claiming that 3M knew the plugs were defective, causing hearing loss and tinnitus in scores of soldiers. Two years later, the company agreed to pay over $9 million in a victims’ fund. After that tiny amount was paid, some 230,000 service members began filing lawsuits against the firm; the suits were ultimately consolidated through multidistrict litigation (MDL, somewhat akin to a class action lawsuit but more personalized) and handed off to a bankruptcy court in the Northern District of Florida.
In an effort to limit its own liability, 3M declared bankruptcy for its Aearo Technologies unit and threw a gauntlet down to the judge, arguing that it was not within his power to interfere with the proceedings. The judge did not share that opinion. Shares of the company plunged nearly 10% after Judge Jeffrey Graham denied 3M’s attempt to offload the company’s problems in such a manner, keeping the parent company on the hook for a potentially enormous payout. While the cases which have already gone to trial present a mixed picture, it is easy to imagine the ultimate payout to a large percentage of 230,000 plaintiffs dwarfing the $1 billion amount the company has since set aside for settlement. For example, in ten cases which have already been decided, five were won and five were lost by the company, with the successful plaintiffs being awarded between $1.7 million and $22 million each. Here’s a staggering fact to consider: If one out of every three plaintiffs in the case were awarded $1 million, the dollar amount would be roughly equivalent to 3M’s market cap.
Over the course of the past nine years, 3M shares are flat. They were trading at $126 back in 2013, and they trade at $126 right now. The company is trying to pull a General Electric (GE $76) move by spinning off its healthcare business (the current GE shouldn't be used as a model for anything, except what not to do), arguing that long-term shareholder value will be created. We don’t buy it. As for the stock, we offer the same recommendation—don’t buy it.
Fr, 26 Aug 2022
Market Week in Review
There are well-founded market drops, and then there are the type that happened Friday
Did investors really believe Jerome Powell was about to pivot and become a dove? Perhaps they were expecting him to come out in front of the gorgeous mountain range at Jackson Hole and proclaim, “Inflation is no longer a threat or a problem, we must get rates back to zero!” Complete silliness. Instead, he did what everyone should have fully expected: In front of some wood paneling straight out of the ‘70s (fitting), he said that the Fed will continue to do everything it must to tame inflation. It was short and sweet…and correct. For us, that means the terminal Fed funds rate will be at least 3.5%, but we are hoping for 4%. If the markets can’t handle a 4% rate, then we have really dumbed down our economy.
Think of the trillions of dollars pumped into the economy by the Fed and the US Congress over the past few years. Does anyone other than a full-blooded, card-carrying Keynesian believe that is healthy for a country, an economy, the stock market, or individuals? No! Sure, we had to take extraordinary steps in response to the pandemic from China, but did it need to continue for two years? Furthermore, what about the $23 trillion worth of debt the government had built up before it added $7 trillion more post pandemic?
The market should have cheered a responsible Fed Chair following in Alan Greenspan’s footsteps and telling us he will do whatever it takes to staunch inflation. Instead, the Dow lost 1,008 points on the session, or 3%. In fact, all four major benchmarks (to include the Russell 2000) lost over 3%. Something to worry about? We believe just the opposite. Investors are myopic. Powell gave then exactly what they needed (a responsible policy), not what they wanted (a shiny early Christmas present), and after the temper tantrum we will be back on the upswing. Friday wasn’t a day to worry; it was a day to identify strong companies which have been senselessly beaten down.
Th, 25 Aug 2022
Global Strategy: Europe
Europeans face a harsh winter thanks to skyrocketing energy prices
Americans have certainly noticed their energy bills rising this year, and the problem will be exacerbated this winter when most households switch from their electricity-powered a/c to natural gas-powered heating systems. In fact, one in six American households now have overdue utility bills—the largest percentage on record. But Americans’ problem is nothing compared to that of their European counterparts, who now face an astronomical spike in energy prices.
The long-term average price in US dollars for one million British thermal units (MMBtu) of natural gas imported into Europe is $4.20. Today, that figure has skyrocketed some 718%—to $34.35—from its average. Electricity rates in Germany are now six times higher than they were last year, while the French are facing €900/megawatt-hour energy prices—ten times the cost as last year. France’s issue has been magnified due to its nuclear energy problems—over half of the country’s reactors are offline due to maintenance, repair needs, or river issues (reactors need massive amounts of river water for cooling; water levels are low right now, and temperatures are unusually high). While governments grapple with how to best help their citizenry with out-of-control prices, there are no easy answers. The long, hot summer in Europe will morph into a frigid and painful winter, much to Putin’s delight.
We have been underweighting both developed and emerging markets in Europe due to a host of economic issues. First and foremost is the continent’s massive energy crisis; a problem which came about due to an overreliance on Russia for its needs. Perhaps France and Germany will learn from this, but it will take years for the problem to be resolved.
Th, 25 Aug 2022
Specialty Retail
“Diamond hands” traders just got screwed over by mentor on Bed Bath & Beyond
By now, we all know who and what “diamond hand” traders are: people who follow social media sites like r/wallstreetbets, buy the flailing companies touted in an effort to crush short sellers, and then hang onto the shares no matter what. One of their recent champions has been Ryan Cohen, the activist investor who took a major stake in Bed Bath & Beyond (BBBY $10) back in March through his RC Ventures hedge fund. Shares of the home retailer rocketed from $15 to $30 as diamond hands piled in. Subsequently, however, as it became clear just how bad the financials were for the company, negative headlines and downgrades pushed the shares down to the $4 range. Cohen was sitting on a huge loss (he owned about 10% of the shares at that point). His firm then purchased call options on nearly 1.7 million shares of BBBY, driving the price back up to the $30 range. Then, Cohen did what no self-respecting diamond hands trader would do: he sold his entire position. This caused the shares to tumble 52% over the course of two days, leaving the hedge fund manager with a $68 million profit and his followers with enormous unrealized losses. Cohen’s investment firm had no comment.
Will Cohen’s actions at BBBY make many meme stock traders reconsider their “strategy?” Probably not. For investors who are serious about their portfolios, however, this story buttresses an important tenet: Understand the companies you are buying, what their unique value proposition is, and whether or not they will have the financial wherewithal to navigate any economic environment. And never have diamond hands—never hesitate to take profits and minimize losses.
Tu, 23 Aug 2022
National Debt & Deficit
Your government spent $2.775 trillion more than it collected last year
If we talk about enormous sums of money too often the brain begins to accept them; or, at least, gloss over them. That is not good. We need to understand the fiscal irresponsibility of our elected officials to have any hope of changing their actions. So, instead of simply saying that this country is currently $30.7 trillion in debt, let’s try this fact: If each US taxpayer were directly responsible for their portion of America’s debt, we would owe $244,315 apiece. Want to add your kids and other non-taxpayers into the mix? In that case, every US citizen owes $92,272.
Keeping in mind that 2020—not 2021—was the year we bore the brunt of the pandemic from an economic standpoint, consider how much the US government collected and spent last year. Revenue collected came in at $4.045 trillion. Last year the government spent $6.820 trillion. The difference, or deficit, is how much we grew the national debt last year: $2.775 trillion. At the risk of being redundant, our government spent $2.775 trillion more than it took in last year, in the midst of a rip-roaring economy. What is even more disgusting is that Social Security inflows and outflows are wantonly thrown into the mix rather than being physically separated, as they should have been from the start, from the general funds. Were your company to do that with your 401(k) plan, it would be a criminal act.
Understandably, the largest deficit on record took place in 2020. There is no excuse, however, for 2021’s budget-busting numbers. And as interest rates rise, it is going to take a bigger and bigger portion of revenue to simply service the interest on the national debt each year. Right now, a “paltry” ten cents out of every dollar collected goes toward interest payments. Imagine ten cents out of every dollar you earn going towards the interest on your credit card debt! Madness.
There are two ways this slow-moving (actually, not-so-slow-moving) train wreck can be avoided: the positive way via a balanced budget amendment and term limits added to the US Constitution, or the negative way through a fiscal meltdown. The fallout from the latter is hard to fathom.
Mo, 22 Aug 2022
Work & Pay
A wave of layoffs are probably coming soon; how will that affect unionization efforts?
Consulting firm PwC polled over 700 executives from US firms in all industries and of all sizes, and they found that over half plan to reduce headcount and implement hiring freezes within the coming months. While it may seem counterintuitive, many also said they plan on simultaneously increasing their number of contract workers and freelancers. Dig a bit deeper, however, and that makes perfect sense. With a slowing economy, higher inflation, and supply chain issues, many firms suddenly find themselves dealing with a renewed unionization push. And this time around, it is not just industrial names which are in the crosshairs. Consumer discretionary companies like Starbucks (SBUX $87), which are known for their generous benefits like tuition assistance, are bearing the brunt of the push. That is illogical, and we fully expect the inevitable increase in the 3.5% unemployment rate to help quell the movement.
Technology will also play a role in dampening successful activism, as advances allow firms to be more productive with a smaller headcount. A McDonald’s (MCD $266) restaurant, for example, might add new ordering kiosks, while an Apple (AAPL $169) might reduce its physical footprint in favor of an enhanced online presence. This is not the 1970s: Companies now have levers to pull in order to maintain their productivity levels—tools which were simply not available back then.
Speaking of productivity, it has been going down recently for the first time in a long time, and new studies are indicating that work-from-home is playing a role in the drop. This is one of the reasons why companies such as Apple are now demanding their workers return to the office at least two or three days per week. Right now, that mandate is limited to the area around Apple’s Cupertino headquarters, but we expect the requirement to expand into other areas soon. The back-to-work request has been a hard one to enforce with the low unemployment rate, but now that stimulus funds are depleted—and as the unemployment rate rises—expect more of these policies to come down the pike. We imagine a large percentage of those 700 executives will be watching Apple’s initiative with interest.
There is a natural ebb and flow to the unionization movement in America, with undercurrents such as the political environment and economics (the unemployment rate) affecting the efforts. Right now, corporations appear to be up against the ropes, but time and technology are on their side. This is especially true for the companies who treat their employees as fellow stakeholders rather than simply a line on a balance sheet.
Tu, 16 Aug 2022
Food & Staples Retailing
Walmart shares pop 5% after the company tops estimates and sticks to full-year guidance
It was just under a month ago that Walmart (WMT $140) shares plunged following dire management warnings on crimped profit margins due to inflation and a consumer who was cutting back on discretionary spending. The shock waves from those comments were felt throughout the industry. This week, we received a different story line. Walmart shares gained over 5% on Tuesday’s open following a revenue beat ($153B vs exp. $151B), an earnings beat ($1.77EPS vs exp. $1.63), and an improved outlook for the full year. Same-store sales at its flagship stores rose 6.5% in the quarter, while Sam’s Club saw a 9.5% gain. CEO Doug McMillon said that the company is now effectively working through the inventory problems which were at the heart of July’s lowered guidance. McMillon also said that behavior changes due to inflation are driving higher-income households into Walmart stores. Whatever the reason, the Street remain generally bullish on the company: out of 39 analysts, 20 have a buy rating and none have an underperform or sell rating on the shares.
Walmart is one of the 40 companies within the Penn Global Leaders Club.
Tu, 16 Aug 2022
Global Strategy: East/Southeast Asia
China cuts rates as economy slowing on nearly all fronts
Consider this: The US economy is slowing and layoffs are increasing, but the Fed remains committed (correctly so) to rate hikes; the European Union faces an even more severe economic slowdown and a brutal coming winter due to a Russian-fomented energy crisis, and the ECB is raising rates; China’s economic growth rate is slowing on nearly all fronts, and the People’s Bank of China just cut rates. That unexpected action by China’s central bank highlights the dichotomy between how the West and the East are dealing with an unwelcome mix of high inflation and probable recession.
While China didn’t cut its interest rates by much (the main rate at which it provides liquidity to banks dropped from 2.1% to 2%), the government simultaneously announced it was pumping an additional $60 billion into its financial system to spur lending. The challenge with both of those moves is the fact that Chinese citizens are very reluctant to borrow right now due to angst over lockdowns, an economic slowdown, and a nightmarish real estate market. (The government is placing strict controls over the sale of properties by homeowners, adding to the apprehensiveness of would-be buyers.) For a communist party which bases its very existence on control, the inability to get its people to act in a certain way must be maddening.
As for the economic slowdown in the country, economists are rushing to downgrade expected rates of growth. TD Securities, for example, just lowered its full-year GDP expectations to 2.9%, while UBS admitted to seeing “downside risks” to its 3% full-year growth forecast. Unlike the American consumer, which has been full steam ahead, Chinese consumers have purchased around half of the retail goods economists had expected by this point in the year. And there are scant indications that the situation will get better anytime soon.
Of course, US retailers who became overly reliant on Chinese sales will also be hurt by the country’s economic slowdown. That fact, combined with the strong US dollar, should have investors searching for small- and mid-cap consumer cyclicals which receive the lion’s share of their revenues from domestic sales.
Mo, 15 Aug 2022
Media & Entertainment
Clown company: You couldn’t give us shares of Getty Images Holdings
How fitting that Getty Images Holdings (GETY $31) went public via a SPAC—it certainly would have been a humorous roadshow full of fanciful tales of projected growth had they been forced to use the traditional process. It is also fitting—and sad—that “investors” pumped the value of the shares up from $10 to $31 since this joke of a company went public late last month. Getty, whose shares are worth—in our opinion—about $1 apiece, now has a market cap of $11 billion. Do people literally have money to burn?
As the name implies, Getty Images sells stock images to creative professionals, the media, and corporations. Protecting copyright infringement is serious business, but Getty has turned it into a nefarious source of revenue. Examples of the firm’s abuse of power are too numerous to mention, but here is a rather typical scenario: A photographer uses one of their own digital photographs on a website. Not long after, the photographer receives a demand of payment from Getty for using the photograph; the demand comes with a threat of legal action unless the confiscatory amount requested is paid immediately. The photographer takes legal action to get the threats stopped, as they created the very image in question! The company also uses embedded technology within images to “go fishing” for people who might use the images, thus initiating the demands for payment.
The last thing Getty wants is for people to call their bluff and demand that a court decide an outcome—the company has lost a string of cases, drawing rebukes from the courts. Getty also has a well-documented history of taking images in the public domain (“free use”) and leasing them to unsuspecting customers for up to $5,000 for a six-month term.
For any investors believing they will own a piece of a growing enterprise, consider the fact that this is not the first time Getty has been publicly traded, and that only twelve shareholders own nearly 80% of the company. It may be legal, but it is a scam in our books.
Getty is the sort of company that would love to sue anyone with a disparaging view of their operations. The New York Stock Exchange should have steered clear of this listing, and investors should run the other way.
Th, 11 Aug 2022
Economics: Supply, Demand, & Prices
At long last, the steep inflation trajectory is beginning to moderate
Within seconds of the report’s release, Dow futures soared more than 400 points—led by consumer discretionary names. Finally, after months of ever-growing rates, inflation cooled in July. Following June’s 9.06% YoY rate and 1.32% MoM rate, and against expectations for an 8.7% annual increase, the price of goods and services in the US rose by “only” 8.5% in July. The MoM number, which was expected to rise by 0.2%, actually fell by that precise amount. While the 7.7% drop in gas prices in July helped drive that number down, even when energy and food prices are excluded core CPI still rose less than expected: 5.9% versus the 6.1% expected. Housing costs, which make up around one-third of the CPI, rose 5.7% from a year ago.
The report brought a sigh of relief to investors, as the Fed has indicated it will continue raising rates until it tames inflation. Any number above consensus would have increased the odds for an even greater rate hike at the September FOMC meeting. Another 75-basis-point hike is still expected, followed by two or three smaller hikes before the end of 2022. Buttressing the good news on the consumer side of the inflation front, the producer price index (PPI)—a reflection of what producers of goods and services must pay—also fell in July. Instead of the expected 0.2% jump MoM, prices actually fell 0.5% from June.
One month does not a trend make, but we believe peak inflation is now behind us. Now, the move downward must be gradual enough so as to not create a more dovish Fed before rates get back up to where they should be. We need decent bond yields in order to build well-balanced portfolios.
We, 10 Aug 2022
Consumer Electronics
Amazon is buying iRobot for $1.7 billion
We were early investors in consumer robot company iRobot (IRBT $59), initially buying shares of the company shortly after they went public. It has been a wild, seventeen-year ride for those shares, coming out of the gate around $24, rising all the way to $197.40 in the spring of 2021, and then falling back to $35.41 a few months ago. We actually took our profits around $65 per share (we owned the company in the Penn New Frontier Fund) when a stop loss hit. Now, the maker of those cute little Roomba autonomous vacuums, Braava robot mops, and (coming soon to a backyard near you) Terra robot mowers is being acquired by Penn member Amazon (AMZN $138) for $1.7 billion in cash—around $61 per share. We love the deal.
Amazon’s Alexa already supports iRobot devices (“Alexa, ask Roomba to start vacuuming”), and now the enormous, $1.4 trillion e-commerce company can provide the needed cash inflow for the development of new devices. iRobot has faced a number of headwinds lately, to include tariffs (it is now moving a large portion of its manufacturing operations from China to Malaysia), rising input costs, supply chain issues, and an unanticipated drop in demand due to deteriorating global economic conditions. While the firm has generally operated in the black over the past decade, Amazon’s deep pockets will assure the company is able to weather a recession and come out stronger during the next recovery phase. The deal is expected to be completed by the end of the year.
Talk about a great marketing platform for iRobot: being highlighted by the world’s largest e-commerce company should provide a great catalyst for future sales. As for Amazon, it remains one of our highest-conviction holdings. We added to the position following the stock split (when shares were trading around $100) and have a price target of $200 on the shares. Amazon is one of the 40 holdings within the Penn Global Leaders Club.
Fr, 05 Aug 2022
Market Pulse
At first, the market hated the strong jobs report, but it quickly shrugged it off
We have had a thesis over the past month or so that the stock market in 2022 will resemble that of 1970: down strongly in the first half of the year followed by a rally in the second half. So far, that theory is playing out. While this week was not spectacular for the benchmarks, they were not down—and that is saying something. Actually, the Dow was down 42 points on the week, but considering we had back-to-back weeks in June in which the index lost over 1,500 points, we will take flat. Something we like to see drop—the price of oil—was down to the tune of 10% this week, taking crude back below $90 per barrel. We have a string of something like 50 straight days in which the price of gasoline has dropped. Tech stocks and small caps put together strong gains of around 2% on the week.
The big news of the week came with the Friday jobs report. We are back in the silly “good news is bad news” phase: investors wanted to see slowing jobs growth to assuage their worries that the Fed is going to keep tightening into 2023. In fact, many are baking in rate cuts in 2023 due to a recession. The very strong jobs report—528,000 new positions added against estimates for 250,000—and the drop in the unemployment rate to 3.5% threw some cold water on those hopes. Within minutes of the release, the Dow was off over 400 points. By the end of the trading day, it had clawed its way back into positive territory.
The Fed must continue to raise rates, and a 75-basis-point hike in September now has a two-in-three chance of happening. That would bring the Fed funds rate to 3.25%. We believe the terminal point should be 4%. We also expect to see the inflation rate coming down from the 9.1% reading we got last month; in good measure, that is due to the big drop in oil and gas prices. Of course, anything can upset that apple cart. The short-lived rebound took a breather this week, and that is perfectly fine.
Th, 04 Aug 2022
Pharmaceuticals
Lilly shares sink after earnings miss, but is it sitting on an earth-shattering new drug?
Shares of $290 billion drugmaker Eli Lilly (LLY $305) began Thursday’s trading session off about 3% following a less-than-stellar quarter. Revenues came in at $6.48 billion versus forecasts of $6.8 billion, and earnings came in at $1.25 per share, missing estimates of $1.70 per share. The company also lowered its full-year guidance on foreign exchange (FX) headwinds due to the strong US dollar.
But does this bad news present an opportunity for investors? Next to a breakthrough cancer treatment, there is nothing the medical world is waiting for more than a revolutionary drug for the treatment and prevention of Alzheimer’s. The FDA’s 2021 approval of Biogen’s (BIIB $217) aducanumab, sold under the brand name Aduhelm, is proof of that: shares of that company spiked from $262 to $469 (79%) in June of last year on the news. Sadly, questions over the therapy’s effectiveness in treating the disease have resulted in lackluster sales. Enter Lilly’s donanemab.
Donanemab, which has received Breakthrough Therapy designation from the FDA, is designed to stimulate a patient’s immune system to attack and destroy beta amyloid plaques which are believed to be the root cause of Alzheimer’s. Exciting midstage results have shown a significant slowing of decline in cognition and daily function capabilities for patients in the early stages of the disease. Full results from the confirmatory trial should be ready by early- to mid-2023. Considering the dearth of Alzheimer’s drugs coming to the market over the past few decades, if donanemab meets expectations it could become one of the biggest blockbuster drugs in history. Of course, our excitement is tempered by the travails of Aduhelm.
The only factor keeping shares of Lilly out of the Penn Global Leaders Club is the stock’s multiple. With its 46 P/E and price/sales ratio of 10, those lofty valuations are four and five times higher, respectively, than those of our favorite drug company, Pfizer (PFE $50). Nonetheless, investors need to keep a keen eye on the company’s strong Alzheimer’s focus.
Th, 04 Aug 2022
Semiconductors & Related Equipment
Continuing to disappoint: Intel’s quarterly earnings report was an unmitigated disaster
At first glance, what’s not to love? Here’s an American semiconductor maker with a rich history, a silly-low P/E ratio of 7, a dividend yield of 4%, and the certain recipient of a cash windfall from the just-passed CHIPS Act. This all sounds too good to be true, until the name of the company is revealed: Intel (INTC $37). We have wanted to buy into this former American icon for the past couple of years as its share price has floundered, but it continues to disappoint at every turn. The latest choker: the company just reported its largest revenue miss since 1999.
Bernstein analyst Stacy Rasgon was merciless: “Intel’s Q2 takes the prize for the worst we have seen in our career.” Ouch. Sales for the chipmaker fell a whopping 22% in Q2, to $15.3 billion, far below analysts’ expectations. The company also posted a net loss of $454 million and warned of more pain to come. Guidance for the year was reduced from $76 billion to as low as $65 billion in sales. While CEO Pat Gelsinger took responsibility for the numbers, he also blamed supply chain challenges and a rapid decline in economic activity for the lousy numbers. In response to the quarter, Intel announced a new era of belt-tightening, to include a hiring slowdown, reduced capital expenditures, and a review of nonessential businesses. Not exactly a recipe for dynamic growth.
We have all but given up on Intel, seeing it as a value trap rather than a value play. Bernstein reduced their target price on the shares from $35 to $30; that sounds about right to us. Sadly.
We, 03 Aug 2022
Consumer Finance
Credit card interest rates are nearing record highs
It really belies logic, and certainly underscores the importance of Americans keeping their personal finances in check. The average annual percentage rate (APR) on credit cards in the US has risen to 17.25%, which is not far from the record high 17.87% rate hit in April of 2019. The figure also represents a 1.5% increase from the start of the year. What makes this rate so astonishing is the fact that the Fed funds rate, even after two 75-basis-point hikes, sits at 2.5%. That makes for some “impressive” margins for credit card issuers such as Visa, Mastercard, American Express, JP Morgan Chase, and Capital One. Here’s the real question: what happens when the US enters recession?
Americans have an outstanding credit card balance of $841 billion—down slightly from the all-time high of $927 billion in the quarter before the pandemic hit—and that number is on the rise. Delinquency rates have already begun ticking up, and that is with a 3.6% unemployment rate. As more companies begin to forecast layoffs, the 8.42% delinquency rate will certainly go up, especially with the crushing weight of inflation hitting pocketbooks. More evidence of the trouble brewing can be found in the US personal savings rate, which has dropped from a long-term average of 8.78% to 5.2% in the second quarter of this year. The trendlines are concerning.
While rising rates tend to help financial services firms, we remain neutral to bearish on the credit card issuers. We expect credit card write-offs to rise, and the industry finds itself under intense pressure from the new buy now, pay later (with no interest) firms such as Affirm and Afterpay.
Tu, 02 Aug 2022
Transportation Infrastructure
Uber soars after the company becomes cash-flow positive for the first time
Shares of ride-sharing service Uber (UBER $29) spiked over 17% on Tuesday after reporting revenues of $8.1 billion for the second quarter (versus $3.9B in Q2 of 2021 and $1.9B in Q2 of 2020) and $382 million of free cash flow—the first time that number has been positive. Gross bookings grew by one-third, to $29 billion, from the same quarter last year. While CEO Dara Khosrowshahi said that inflation was not pushing riders away, it was attracting more drivers looking to supplement their income in the face of rising prices.
The day following the earnings release, Raymond James helped the shares maintain their rally by upgrading the stock from market perform to outperform, citing momentum in the company’s mobility business. Uber operates in three reportable segments: Mobility, Delivery, and Freight, and boasts of the most widely utilized app in the industry. The company’s technology is available in 72 countries around the world.
We own Uber in the Penn New Frontier Fund, maintaining a price target of $70 on the shares. We believe the company will continue to be the industry leader in an business with phenomenal growth potential. As autonomous vehicles become more widely accepted, Uber is also poised to lead in that nascent area.
Fr, 29 Jul 2022
Under the Radar
Ryder System Inc. (R $78)
Ryder is a $4 billion Rental & Leasing Services (industry) company within the Industrials sector. The company offers fleet leasing and maintenance, truck rental, freight brokerage, and small business solutions. With over 500 operating locations throughout the US, Canada, Latin America, and Europe, the company manages a fleet of over 500,000 vehicles.
Management recently raised its guidance for full-year 2022 from $11-$12 EPS to $13-$14 EPS on the back of pent-up demand in the freight markets, heightened by a multi-year leasing program the company implemented in 2019. This initiative should help the company navigate any coming recession better than its peers. Ryder earned $734 million from $11 billion in sales over the trailing twelve months and carries a forward P/E of 5. Founded in 1933, the company has approximately 43,000 employees. Shares have held up quite well despite the brutal market downturn, off 3.59% year-to-date as of the end of July.
With a current dividend yield of 3.17%, we would place a conservative fair value on Ryder shares at $110. We do not currently own Ryder shares in any Penn portfolio.
Fr, 29 Jul 2022
Monetary Policy
Powell’s Volcker moment: Fed proves it is serious about reining in inflation
They were the largest back-to-back rate hikes since the early 1980s, when Paul Volcker rode to the rescue of the American economy by raising rates until runaway inflation was defeated. Current Fed Chair Jerome Powell acted—and sounded—a lot like his predecessor of forty years ago this past Wednesday. And investors liked what they heard, sending stocks soaring (the Nasdaq rose 4.06% in one session). The 75-basis-point rate hike took the upper limit of the Fed funds rate to 2.5%, and odds are we will see another three hikes by the end of the year. Let’s assume they manifest as one 50- and two 25-basis point hikes; that would bring the rate up to 3.5% going into 2023. We would like to see an ultimate terminal point of 4%, but considering the economic slowdown, that may be wishful thinking.
Ironically, the market rallied after the big mid-week hike based on more dovish expectations going forward. While Powell certainly didn’t signal that rate cuts might be on the table next year, that is what investors have read into it. Many believe that the tightening cycle will end in 2022, with rates easing back down in 2023. We hope they are wrong. A strong economy can coexist with more normalized rates; rates that allow investors to earn a decent return on their fixed-income portfolio. That is the sweet spot we should be looking for—not a return to zero interest rates.
Unemployment has been the missing piece in the recession narrative, and a good excuse for the Fed to keep hiking. Based on what companies have been telegraphing, that will soon change. As the unemployment rate begins heading up from its current level of 3.6%, we can also expect the widespread unionization efforts to begin fizzling out. No comments on that point.
Biotechnology
Biogen was down 18% year to date, then some good news sent shares soaring 40%
We are having a serious case of déjà vu with respect to $40 billion biotech firm Biogen (BIIB $277). Last summer, shares of the firm spiked some 55% on the back of positive news regarding its experimental Alzheimer’s drug, aducanumab. In the ensuing year, shares plunged 50%—from over $400 to under $200—on doubts about the therapy’s efficacy, despite FDA approval. This week it was a new Alzheimer’s drug from the firm, lecanemab, which moved shares of the firm back up some 40% in one session. Lecanemab, which was co-developed with Japanese biotech firm Eisai (ESALY $58), slowed cognitive decline in early-stage sufferers who were enrolled in the companies’ Phase 3 Clarity trials. Unlike the prior drug’s trials, which brought a good dose of skepticism from critics, these most recent results were universally hailed by the medical community. With the drug’s potential blockbuster status over the coming years, analysts were quick to upgrade shares of Biogen, though price targets remained relatively close to the day’s trading range. Among the 32 major houses covering the stock, 18 have Outperform or Buy ratings, while the other 14 have a Hold rating. The median price target on the shares is now $267.
Advances in the field of Alzheimer’s have been few and far between for the past two decades. Lecanemab holds a lot of promise, though we must now wait and see what type of support, via Medicare and insurance coverage, it will receive. We do believe, however, that the drug has the potential to generate over $1 billion in annual sales for Biogen.
We, 28 Sep 2022
Capital Markets
2021 was a banner year for IPOs, but most are not faring so well
There were some 400 companies that went public last year via the traditional route, with capital raised coming close to $300 billion. Add SPACs (special purpose acquisition companies) to the mix, and the number hits 1,000 new listings. So, how have these newly-publicly-traded entities been doing lately? The answer isn’t pretty. The Renaissance IPO Index is a basket of the largest, most liquid, newly-listed US public companies. Names like Snowflake (SNOW), Rivian (RIVN), Roblox (RBLX), and Coinbase Global (COIN) top the list. This index has an exchange traded fund, the Renaissance IPO ETF (IPO $29), which allows investors to buy into this basket with ease. Year to date, the fund’s value has been slashed in half, with the shares dropping from $60 to $30 in price. That represents more than twice the S&P 500’s plunge over the same time period. Here’s another staggering statistic: only about one in ten of the class of 2021 are trading above their IPO price. Market volatility due to inflation, rate hikes, supply chain issues, and fear of recession has pounded this group and dissuaded a lot of would-be players from going public this year. According to StockAnalysis.com, only 159 companies have gone public on US exchanges so far this year, or 79% less than the 767 IPOs which had taken place by the same time in 2021. As could be expected, this group has faced a similar fate. For anyone interested in scanning the list for possible value plays, the companies and their “since-IPO” returns are listed on the page.
What about getting into the IPO ETF with the fund sitting down at $30 per share? We wouldn’t recommend it—there are too many wildcards on the list. Some holdings do look promising going forward, however. Names like Palantir (PLTR), Snowflake (SNOW), Airbnb (ABNB), and DoorDash (DASH) have all seen their share prices pummeled, and these are companies which will still be around when the markets regain lost ground.
Tu, 27 Sep 2022
Food Products
Bucking the trend: Penn member General Mills has rallied 20% this year
Virtually all asset classes, sectors, and industries are in the red this year with the exception of energy stocks, and even they have been tumbling recently as crude oil has dropped back to where it began the year—the mid-$70s-per-barrel range. One consumer defensive name has been bucking the trend, however: General Mills (GIS $79) has rallied 20% so far in 2022—hitting an all-time high price last Thursday—and is up some 34% over the past year. Not only did the century-old food products firm report higher-than-expected profits over the past quarter, management also lifted its forecast for the year. Sales in the fiscal first quarter, which ended 28 August, rose 4% (to $4.72B), while net income jumped 31% from the same period last year—to $820 million.
While inflation has raised input and shipping costs for General Mills, the company has been able to pass along some of those higher prices to a consumer which is suddenly eating out less and cooking more meals at home. The stellar management team, led by 55-year-old Jeff Harmening, has also been making some astute strategic moves recently. In an effort to focus on more profitable units, the company recently sold its “Helper” line and Suddenly Salad packaged food division for $607 million, while acquiring St. Louis-based TNT Crust for $253 million. While consumers have been shifting away from higher-priced labels in favor of generic brands, General Mills products remain in the sweet spot. Harmening’s team also placed some well-timed hedge positions on grain inputs, cushioning the blow of rising agriculture prices. For the fiscal year, the company expects to grow net sales by 6-7%.
One of our favorite moves General Mills made a few years ago was the purchase of the rapidly growing Blue Buffalo line of pet foods. In fact, that was a catalyst for our purchase of GIS shares back in 2018. The company is the only packaged food name within the Penn Global Leaders Club.
Fr, 23 Sep 2022
Market Pulse
Another bruiser: markets have now given up two full years of gains
For the past two weeks in particular, the markets have had a myopic fixation on what the Fed’s next moves will be. The Tuesday before last, the Dow Jones Industrial Average lost 1,276 points after a hot August inflation read all but guaranteed a three-quarter-point rate hike in September. This Wednesday, when the Fed delivered, it dropped another 522 points. With the NASDAQ and Russell (small caps) leading the retreat, the major indexes all dropped around 10% over the past ten trading sessions, falling back to October of 2020 levels. So much for the June lows—those were taken out Friday intraday before bouncing slightly. It wasn’t only the Fed, though that was the big catalyst. The other concern markets seem to be stewing about is the strong US dollar, which is at its highest level in precisely two decades. That makes imports and overseas travel cheaper for Americans, but our exports more expensive for the world. But the strong dollar shouldn’t affect US small-cap companies much, as most rely on the domestic marketplace for the lion’s share of their revenues. It has been a brutal year thus far, but if our economy cannot handle a dollar at parity with the euro and a potential 5% federal funds rate, then that is a sad testament to American exceptionalism.
In reality, the US economy can and will be able to deal with these two conditions—a strong dollar and higher rates; it is investors who seem unable to come to terms with the situation. Great American companies, flush with cash and on strong growth trajectories, have not been spared during this latest selloff, which makes little sense. Until the madness abates, we are taking advantage of the dislocation in short-term rates by buying Treasuries, agencies, and quality corporate bonds.
Fr, 23 Sep 2022
Transportation Infrastructure
FedEx shares just suffered their worst day ever; are they now worth looking at?
When FedEx (FDX $148) shares were trading at $245.63 this past February, we removed the company from the Penn Global Leaders Club to make room for another holding. We had lost a good degree of confidence in the management team, and labor costs were suddenly becoming a major drag on the firm. That move was fortuitous, as FedEx just experienced its worst day as a publicly traded company—losing nearly one-quarter of its market cap—after a disastrous earnings call. After giving a rosy outlook in June, management did a 180-degree turn in September, reducing guidance by 50% and predicting a bruising global recession. Analysts were quick to point out that the major issues were not macro in nature, but directly related to this integrated freight and logistics giant. Q1 earnings per share fell 21% from the year prior, against expectations for an 18% gain; revenues rose 5%, but that number missed estimates as well. The company pulled its 2023 guidance altogether, citing a gloomy and uncertain global outlook. To round out the ugly report, FedEx said it plans to raise shipping rates this coming January by an average of 6.9% across the board. Shares are now down over 42% year to date.
With shares trading where they were back in June of 2020, are they now a buy? While the $2.7 billion in cost-cutting measures will help, and customers will probably just accept the shipping rate hikes, we don’t see the shares worth much more than $200 right now; and the risk to get that possible 33% return is still too high in our opinion.
Fr, 23 Sep 2022
Monetary Policy
Powell’s words left little doubt: rate hikes until inflation is under control
For anyone who still believes the stock market is rational and efficient, consider this: Going into the Fed’s rate decision, the Dow was trading up a few hundred points; within seconds of the fully-expected 75-basis-point rate hike, the Dow was down a few hundred points; during Powell’s post-decision speech, the Dow rallied into the green by several hundred points, only to close the session down 522 points.
No matter how late investors or pundits may believe Powell was to the party, his message has been crystal clear: Rates will go up until inflation is brought down to acceptable levels. While the official “acceptable” level is 2%, he said something very telling in his news conference: “The ultimate goal is to have positive real rates across the yield curve.” To us, that was meaningful. By “real rates” he means inflation adjusted, so if the 2-year Treasury is yielding 4% then inflation must be below that. They say markets don’t like uncertainty; well, we now have full clarity with respect to what the Fed plans on doing next.
Of course, we still don’t know how many rate hikes and other shocks to the system it will take to tame inflation. Furthermore, it will take time for the hikes to have their full effect on economic conditions as Fed actions typically have a lot of lag. The central bank forecasts a funds rate of 4.4% by the end of the year, which would point to one more 75-bps hike in November (there is no October meeting) plus a 50-bps hike in December. From there, we may see a few quarter-point hikes before the Fed pauses. We thought it would take a lot to get the fed funds rate to 4%; odds are now in favor of a 5% terminal point. That’s high, but not disastrous for the economy. For historical perspective, we were sitting at a 6.5% rate in August of 2000 and a 5.25% rate in May of 2008. Despite the market tantrums, the economy will weather these rates just fine.
A combination of two catalysts will fuel the coming market rally: signs that inflation is finally coming down, and the Fed’s indication that a pause in hikes is near. We see both of these indicators appearing within the next four months. In the meantime, own quality equities and load up on fat-yielding, shorter-maturity bonds.
Mo, 19 Sep 2022
Fixed Income Desk
The sudden and unusual opportunity in short-term bonds
Every now and again, bizarre things happen in the bond market which provide unique opportunities for investors. When we buy fixed income vehicles, from CDs to Treasuries to corporate bonds, we expect to get a higher yield for taking on the risk of going further out on the time horizon—assuming parity with respect to issuer safety, of course. For example, we expect a 30-year Treasury bond to have a higher yield than a 10-year Treasury note, and that 10-year should be paying more than a 2-year issue. The benchmark spread is the difference between the 10-year and 2-year yield. When the shorter maturity issue has a higher yield than its longer-maturity counterpart, we get a condition known as a yield curve inversion—generally a sign that a recession is on the way.
Right now, we have a quite rare situation: the 2-year Treasury carries a yield higher than all of the longer-maturity issues. Since the 2-year is considered a proxy for what the Fed will do next and the 30-year gauges investor sentiment about the economy, all bets are now on rates continuing to rise until the Fed hits a wall and is forced to pivot. Considering money markets are still yielding close to nothing, and bond values have been dropping in investors’ portfolios, now is a golden opportunity to pick up higher-yielding bonds with shorter maturities and low duration (duration measures sensitivity to changes in the interest rate).
And this opportunity is not limited to government-issued securities. While the 2-year Treasury is currently yielding just shy of 4%, corporate issuers are forced to offer even higher rates (either through new issues or thanks to discounted prices on current bonds in the secondary market) to compete with the risk-free nature of vehicles backed by the full faith and credit of the US government. It has been hard to get excited about bonds for some time; right now, at least with respect to the lower end of the ladder, that is not the case. Investors should strike before conditions change.
We are loading up on low-duration bonds issued by quality companies to take advantage of current conditions. Even bank-issued CDs with maturities of two years are offering rates around 4%. Due to the unique challenges facing Europe and Asia right now, we are sticking primarily to debt issued by domestic firms and financial institutions.
Tu, 13 Sep 2022
Government Watchdog
California dreaming: burger flippers could soon have a $22 per hour minimum wage
On Labor Day, fittingly, California Governor Gavin Newsom signed a stunningly egregious law into effect. While its official name is the Fast Food Accountability and Standards Recovery Act, that is about as accurate as calling a trillion dollar spending bill an Inflation Reduction Act. We have a more accurate name we would like to propose: The $22 Per Hour Minimum Wage Act for Burger Flippers. There are no cutesy acronyms politicians are so fond of, but it clearly spells out the intent.
The law will create a Fast Food Council in Cali, made up of a 10-person cabal of workers, state officials, and management—the latter to make it look credible. This cabal will set the “living wage” for fast-food workers employed at companies which operate at least 100 locations around the country (not the state). Clearly, the target is McDonald’s, Chick-fil-A (the one they really hate), Burger King, Chipotle, and a number of other “fat cats.” The ruling council will have the power to create a new $22 per hour minimum wage for all fast-food workers, beginning next year. The law was strongly supported by the Service Employees International Union, which has been advocating a nationwide, $15 per hour minimum wage. Since California is already set to raise the minimum wage to $15.50 per hour in 2023, we suppose $22 would be the next common sense target.
Of course, there is nothing common sense about this act or the politburo-like body it has created. Two unintended consequences immediately come to mind: $15 hamburgers and a more automated workforce. One will punish consumers who are already reeling from runaway inflation, and the other will punish the very workers who are supposed to be helped by this act. From California, which had attempted to place a cancer warning on every of coffee sold, this move is par for the course. We just can’t understand why so many companies are heading for the exits.
The brilliance of our Founding Fathers in giving so much power to the states (rather than a central government) is once again on full display. Newsom can deny the fact that companies are fleeing his hammer and sickle mentality, and the Chicago mayor can proclaim that the city’s economy has never been stronger, but the evidence proves otherwise. Maybe the voters who keep them in power will see the light one of these days. But we doubt it.
Tu, 13 Sep 2022
Economics: Supply, Demand, & Prices
A hot August CPI report gives the Fed the green light for another 75-bps hike
The seemingly major contingent of investors who believe the Fed is on the cusp of pivoting—moving from rate hikes to a pause to potential rate cuts due to an economic slowdown—befuddles us. In what realm are they living? What metrics possibly back up such a pivot? It is nonsense. With this contingent in mind, it really shouldn’t come as a surprise that Dow futures swung some 700 points, from up over 200 to down over 500, on the back of a higher-than-expected August inflation report. The consumer price index, or CPI, which tracks the price of a large basket of goods and services, rose 8.3% from last year—despite the sharp decline in gas prices for the month. Food, shelter, and medical care costs drove the spike in prices, while the average price for a gallon of gas fell 10.6%. A couple examples of food inflation: eggs are up 40% from last year, while bread is up over 16%. In the auto space, the average price of a new vehicle rose by 0.8% for the month, or 10% annualized. Medical care costs have risen 5.6% from the same period last year. The two-year Treasury note, a proxy for what the Fed might do next, surged from 3.358% to 3.704%, driving bond values down. We have been expecting the Fed to raise rates by 75 basis points at this month’s FOMC meeting; this report all but guarantees that taking place.
The August CPI report and subsequent market drop created a great opportunity for investors. The responsible behavior of the Fed will ultimately lead to a reduction in the rate of inflation, a healthier economy, and a stronger stock market. And it won’t take long for that theory to play out. The closer the Fed gets to 4%, the closer a major rally is to manifesting.
Mo, 12 Sep 2022
Economics: Housing
Mortgage rates hit highest level since 2008
This past week, the average interest rate for a 30-year mortgage did something it hasn’t done since November of 2008: hit the 6% mark. Considering rates topped out about three times that level back in the 1980s, the current rate may not seem too daunting, but that figure reflects a 130% spike from just over two years ago. As the Fed works to get inflation under control, this is certainly one of the intended consequences of the tightening cycle. As mortgage rates rise, it should cool the housing market and, hence, runaway home prices. Unfortunately for would-be buyers, that has not happened, leaving them at the mercy of higher rates and higher prices. For those putting their homebuying plans on hold, there is another problem: rents are rising just as fast. We did a double take when we saw this figure, but the national average for renting a single-family home in the US rose 13.4% from 2021 to 2022, to $2,495 per month. For apartment dwellers the picture is nearly as bad: the monthly rent for a multifamily dwelling in the US rose 12.6% from July of 2021 to this past July, to $1,717. And occupancy rates remain high for rental housing, hovering around 96%. It may seem warped, but this is precisely why the Fed must continue to raise rates. Ultimately, something must put downward pressure on home prices.
It may seem counterintuitive to look at buying the homebuilders now, but their prices have been so beaten down by the fear of rate hikes and a coming recession that they are beginning to look very attractive. While the builders of lower-end homes will face more difficulty, names like Toll Brothers (TOLL $45) and D.R. Horton (DHI $74, Emerald Homes is its luxury division) look attractive. Both companies have ultra-low P/E ratios—both current and forward—in the 4-6 range, and both have plenty of cash on hand to weather any coming housing storm.
Th, 08 Sep 2022
Global Strategy: Europe
Despite severe recession risks, the European Central Bank raises rates 75 bps
Typically, in the face of a potentially severe economic downturn, a country’s (or region’s) central bank will begin lowering interest rates in response. In an illustration of just how wrongheaded the ECB’s decision was to go negative with interest rates back in 2014, Europe’s central bank has been forced to do just the opposite: raise rates. It began back in July, when the ECB raised its deposit facility interest rate from -0.5% to 0.00%—a 50-basis-point hike. Now, due to runaway inflation (primarily caused by the energy crisis), the bank has been forced to match the Fed’s most recent action and raise rates another 75 basis points, to 0.75%. In addition to putting downward pressure on inflation, this move should also shore up the euro, which recently dipped to parity with the strengthening US dollar.
The irony of the ECB’s needed move is that the European Union is simultaneously pumping hundreds of billions of euros into the economy to help families deal with skyrocketing energy costs. Basic economics says that when a central government pumps money into an economy, inflation naturally increases. Eurozone inflation rose to 9.1% in August and is expected to hit double digits in September. The ECB, like the Fed, has an inflation target rate of 2%. It has a long way to go before getting anywhere near that number, unless a severe recession grinds the European economy to a halt.
It has been a full decade now since the key European rate has been above zero. ECB President Christine Lagarde, meanwhile, has signaled more hikes to come. These hikes are needed, but they will only increase the likelihood of a deep recession hitting the continent this winter.
Fr, 02 Sep 2022
Economics: Work & Pay
Two key positive takeaways from the August jobs report: unemployment and labor force participation
Here was the conventional thinking as investors awaited the August jobs numbers: if the report was strong, the Fed would continue hiking rates and stocks would be punished; if the report was weak, the Fed might start tapping on the brakes and stocks would celebrate. We ended up with something in the middle, and that was the best possible outcome.
First the headline number. There were 315,000 new nonfarm jobs added in the month of August, or slightly fewer than the 318,000 expected. Wages rose 5.2% from a year ago—not a positive sign for inflation, but not as much as expected. There were two key components of the report that helped turn futures from flat to positive. The first was the unemployment rate, which surprised analysts by ticking up from 3.5% to 3.7%. The second was the reason for that jump: the labor force participation rate rose an impressive 0.3%, to 62.4%. That may not seem like much, but it meant another 800,000 Americans began looking for work.
One of the biggest causes of inflation has been the scarcity of workers, forcing employers to pay more to attract new help. That pool of workers just got a lot bigger, which should help dampen the recent wage spikes. The prime-age labor force participation rate—workers between 25 and 54—surged to 82.8%, which is great news on that front. Overall, it is hard to imagine a much better report rolling in right now.
We still want—and expect—to see a 75-basis-point rate hike coming in September, which would bring the upper band of the Fed funds rate up to 3.25%. We still need to see any combination in subsequent months pushing that rate up to 4%. Then, it will be time to pause until inflation moves back down to an acceptable level. The Fed will also be reducing its $9 trillion balance sheet over the coming year. To be clear, this scenario is what needs to happen, not what the market wants to see.
Mo, 29 Aug 2022
Industrial Conglomerates
3M wanted bankruptcy court for one of its subsidiaries; a judge denied the request
Between 2003 and 2015 a 3M (MMM $126) subsidiary by the name of Aearo Technologies manufactured and supplied earplugs to the United States military for troop training and for troops stationed in a combat environment. Production of the earplugs, which were unique in their two-sided design, ceased in 2015. In 2016, a competitor filed a whistleblower lawsuit claiming that 3M knew the plugs were defective, causing hearing loss and tinnitus in scores of soldiers. Two years later, the company agreed to pay over $9 million in a victims’ fund. After that tiny amount was paid, some 230,000 service members began filing lawsuits against the firm; the suits were ultimately consolidated through multidistrict litigation (MDL, somewhat akin to a class action lawsuit but more personalized) and handed off to a bankruptcy court in the Northern District of Florida.
In an effort to limit its own liability, 3M declared bankruptcy for its Aearo Technologies unit and threw a gauntlet down to the judge, arguing that it was not within his power to interfere with the proceedings. The judge did not share that opinion. Shares of the company plunged nearly 10% after Judge Jeffrey Graham denied 3M’s attempt to offload the company’s problems in such a manner, keeping the parent company on the hook for a potentially enormous payout. While the cases which have already gone to trial present a mixed picture, it is easy to imagine the ultimate payout to a large percentage of 230,000 plaintiffs dwarfing the $1 billion amount the company has since set aside for settlement. For example, in ten cases which have already been decided, five were won and five were lost by the company, with the successful plaintiffs being awarded between $1.7 million and $22 million each. Here’s a staggering fact to consider: If one out of every three plaintiffs in the case were awarded $1 million, the dollar amount would be roughly equivalent to 3M’s market cap.
Over the course of the past nine years, 3M shares are flat. They were trading at $126 back in 2013, and they trade at $126 right now. The company is trying to pull a General Electric (GE $76) move by spinning off its healthcare business (the current GE shouldn't be used as a model for anything, except what not to do), arguing that long-term shareholder value will be created. We don’t buy it. As for the stock, we offer the same recommendation—don’t buy it.
Fr, 26 Aug 2022
Market Week in Review
There are well-founded market drops, and then there are the type that happened Friday
Did investors really believe Jerome Powell was about to pivot and become a dove? Perhaps they were expecting him to come out in front of the gorgeous mountain range at Jackson Hole and proclaim, “Inflation is no longer a threat or a problem, we must get rates back to zero!” Complete silliness. Instead, he did what everyone should have fully expected: In front of some wood paneling straight out of the ‘70s (fitting), he said that the Fed will continue to do everything it must to tame inflation. It was short and sweet…and correct. For us, that means the terminal Fed funds rate will be at least 3.5%, but we are hoping for 4%. If the markets can’t handle a 4% rate, then we have really dumbed down our economy.
Think of the trillions of dollars pumped into the economy by the Fed and the US Congress over the past few years. Does anyone other than a full-blooded, card-carrying Keynesian believe that is healthy for a country, an economy, the stock market, or individuals? No! Sure, we had to take extraordinary steps in response to the pandemic from China, but did it need to continue for two years? Furthermore, what about the $23 trillion worth of debt the government had built up before it added $7 trillion more post pandemic?
The market should have cheered a responsible Fed Chair following in Alan Greenspan’s footsteps and telling us he will do whatever it takes to staunch inflation. Instead, the Dow lost 1,008 points on the session, or 3%. In fact, all four major benchmarks (to include the Russell 2000) lost over 3%. Something to worry about? We believe just the opposite. Investors are myopic. Powell gave then exactly what they needed (a responsible policy), not what they wanted (a shiny early Christmas present), and after the temper tantrum we will be back on the upswing. Friday wasn’t a day to worry; it was a day to identify strong companies which have been senselessly beaten down.
Th, 25 Aug 2022
Global Strategy: Europe
Europeans face a harsh winter thanks to skyrocketing energy prices
Americans have certainly noticed their energy bills rising this year, and the problem will be exacerbated this winter when most households switch from their electricity-powered a/c to natural gas-powered heating systems. In fact, one in six American households now have overdue utility bills—the largest percentage on record. But Americans’ problem is nothing compared to that of their European counterparts, who now face an astronomical spike in energy prices.
The long-term average price in US dollars for one million British thermal units (MMBtu) of natural gas imported into Europe is $4.20. Today, that figure has skyrocketed some 718%—to $34.35—from its average. Electricity rates in Germany are now six times higher than they were last year, while the French are facing €900/megawatt-hour energy prices—ten times the cost as last year. France’s issue has been magnified due to its nuclear energy problems—over half of the country’s reactors are offline due to maintenance, repair needs, or river issues (reactors need massive amounts of river water for cooling; water levels are low right now, and temperatures are unusually high). While governments grapple with how to best help their citizenry with out-of-control prices, there are no easy answers. The long, hot summer in Europe will morph into a frigid and painful winter, much to Putin’s delight.
We have been underweighting both developed and emerging markets in Europe due to a host of economic issues. First and foremost is the continent’s massive energy crisis; a problem which came about due to an overreliance on Russia for its needs. Perhaps France and Germany will learn from this, but it will take years for the problem to be resolved.
Th, 25 Aug 2022
Specialty Retail
“Diamond hands” traders just got screwed over by mentor on Bed Bath & Beyond
By now, we all know who and what “diamond hand” traders are: people who follow social media sites like r/wallstreetbets, buy the flailing companies touted in an effort to crush short sellers, and then hang onto the shares no matter what. One of their recent champions has been Ryan Cohen, the activist investor who took a major stake in Bed Bath & Beyond (BBBY $10) back in March through his RC Ventures hedge fund. Shares of the home retailer rocketed from $15 to $30 as diamond hands piled in. Subsequently, however, as it became clear just how bad the financials were for the company, negative headlines and downgrades pushed the shares down to the $4 range. Cohen was sitting on a huge loss (he owned about 10% of the shares at that point). His firm then purchased call options on nearly 1.7 million shares of BBBY, driving the price back up to the $30 range. Then, Cohen did what no self-respecting diamond hands trader would do: he sold his entire position. This caused the shares to tumble 52% over the course of two days, leaving the hedge fund manager with a $68 million profit and his followers with enormous unrealized losses. Cohen’s investment firm had no comment.
Will Cohen’s actions at BBBY make many meme stock traders reconsider their “strategy?” Probably not. For investors who are serious about their portfolios, however, this story buttresses an important tenet: Understand the companies you are buying, what their unique value proposition is, and whether or not they will have the financial wherewithal to navigate any economic environment. And never have diamond hands—never hesitate to take profits and minimize losses.
Tu, 23 Aug 2022
National Debt & Deficit
Your government spent $2.775 trillion more than it collected last year
If we talk about enormous sums of money too often the brain begins to accept them; or, at least, gloss over them. That is not good. We need to understand the fiscal irresponsibility of our elected officials to have any hope of changing their actions. So, instead of simply saying that this country is currently $30.7 trillion in debt, let’s try this fact: If each US taxpayer were directly responsible for their portion of America’s debt, we would owe $244,315 apiece. Want to add your kids and other non-taxpayers into the mix? In that case, every US citizen owes $92,272.
Keeping in mind that 2020—not 2021—was the year we bore the brunt of the pandemic from an economic standpoint, consider how much the US government collected and spent last year. Revenue collected came in at $4.045 trillion. Last year the government spent $6.820 trillion. The difference, or deficit, is how much we grew the national debt last year: $2.775 trillion. At the risk of being redundant, our government spent $2.775 trillion more than it took in last year, in the midst of a rip-roaring economy. What is even more disgusting is that Social Security inflows and outflows are wantonly thrown into the mix rather than being physically separated, as they should have been from the start, from the general funds. Were your company to do that with your 401(k) plan, it would be a criminal act.
Understandably, the largest deficit on record took place in 2020. There is no excuse, however, for 2021’s budget-busting numbers. And as interest rates rise, it is going to take a bigger and bigger portion of revenue to simply service the interest on the national debt each year. Right now, a “paltry” ten cents out of every dollar collected goes toward interest payments. Imagine ten cents out of every dollar you earn going towards the interest on your credit card debt! Madness.
There are two ways this slow-moving (actually, not-so-slow-moving) train wreck can be avoided: the positive way via a balanced budget amendment and term limits added to the US Constitution, or the negative way through a fiscal meltdown. The fallout from the latter is hard to fathom.
Mo, 22 Aug 2022
Work & Pay
A wave of layoffs are probably coming soon; how will that affect unionization efforts?
Consulting firm PwC polled over 700 executives from US firms in all industries and of all sizes, and they found that over half plan to reduce headcount and implement hiring freezes within the coming months. While it may seem counterintuitive, many also said they plan on simultaneously increasing their number of contract workers and freelancers. Dig a bit deeper, however, and that makes perfect sense. With a slowing economy, higher inflation, and supply chain issues, many firms suddenly find themselves dealing with a renewed unionization push. And this time around, it is not just industrial names which are in the crosshairs. Consumer discretionary companies like Starbucks (SBUX $87), which are known for their generous benefits like tuition assistance, are bearing the brunt of the push. That is illogical, and we fully expect the inevitable increase in the 3.5% unemployment rate to help quell the movement.
Technology will also play a role in dampening successful activism, as advances allow firms to be more productive with a smaller headcount. A McDonald’s (MCD $266) restaurant, for example, might add new ordering kiosks, while an Apple (AAPL $169) might reduce its physical footprint in favor of an enhanced online presence. This is not the 1970s: Companies now have levers to pull in order to maintain their productivity levels—tools which were simply not available back then.
Speaking of productivity, it has been going down recently for the first time in a long time, and new studies are indicating that work-from-home is playing a role in the drop. This is one of the reasons why companies such as Apple are now demanding their workers return to the office at least two or three days per week. Right now, that mandate is limited to the area around Apple’s Cupertino headquarters, but we expect the requirement to expand into other areas soon. The back-to-work request has been a hard one to enforce with the low unemployment rate, but now that stimulus funds are depleted—and as the unemployment rate rises—expect more of these policies to come down the pike. We imagine a large percentage of those 700 executives will be watching Apple’s initiative with interest.
There is a natural ebb and flow to the unionization movement in America, with undercurrents such as the political environment and economics (the unemployment rate) affecting the efforts. Right now, corporations appear to be up against the ropes, but time and technology are on their side. This is especially true for the companies who treat their employees as fellow stakeholders rather than simply a line on a balance sheet.
Tu, 16 Aug 2022
Food & Staples Retailing
Walmart shares pop 5% after the company tops estimates and sticks to full-year guidance
It was just under a month ago that Walmart (WMT $140) shares plunged following dire management warnings on crimped profit margins due to inflation and a consumer who was cutting back on discretionary spending. The shock waves from those comments were felt throughout the industry. This week, we received a different story line. Walmart shares gained over 5% on Tuesday’s open following a revenue beat ($153B vs exp. $151B), an earnings beat ($1.77EPS vs exp. $1.63), and an improved outlook for the full year. Same-store sales at its flagship stores rose 6.5% in the quarter, while Sam’s Club saw a 9.5% gain. CEO Doug McMillon said that the company is now effectively working through the inventory problems which were at the heart of July’s lowered guidance. McMillon also said that behavior changes due to inflation are driving higher-income households into Walmart stores. Whatever the reason, the Street remain generally bullish on the company: out of 39 analysts, 20 have a buy rating and none have an underperform or sell rating on the shares.
Walmart is one of the 40 companies within the Penn Global Leaders Club.
Tu, 16 Aug 2022
Global Strategy: East/Southeast Asia
China cuts rates as economy slowing on nearly all fronts
Consider this: The US economy is slowing and layoffs are increasing, but the Fed remains committed (correctly so) to rate hikes; the European Union faces an even more severe economic slowdown and a brutal coming winter due to a Russian-fomented energy crisis, and the ECB is raising rates; China’s economic growth rate is slowing on nearly all fronts, and the People’s Bank of China just cut rates. That unexpected action by China’s central bank highlights the dichotomy between how the West and the East are dealing with an unwelcome mix of high inflation and probable recession.
While China didn’t cut its interest rates by much (the main rate at which it provides liquidity to banks dropped from 2.1% to 2%), the government simultaneously announced it was pumping an additional $60 billion into its financial system to spur lending. The challenge with both of those moves is the fact that Chinese citizens are very reluctant to borrow right now due to angst over lockdowns, an economic slowdown, and a nightmarish real estate market. (The government is placing strict controls over the sale of properties by homeowners, adding to the apprehensiveness of would-be buyers.) For a communist party which bases its very existence on control, the inability to get its people to act in a certain way must be maddening.
As for the economic slowdown in the country, economists are rushing to downgrade expected rates of growth. TD Securities, for example, just lowered its full-year GDP expectations to 2.9%, while UBS admitted to seeing “downside risks” to its 3% full-year growth forecast. Unlike the American consumer, which has been full steam ahead, Chinese consumers have purchased around half of the retail goods economists had expected by this point in the year. And there are scant indications that the situation will get better anytime soon.
Of course, US retailers who became overly reliant on Chinese sales will also be hurt by the country’s economic slowdown. That fact, combined with the strong US dollar, should have investors searching for small- and mid-cap consumer cyclicals which receive the lion’s share of their revenues from domestic sales.
Mo, 15 Aug 2022
Media & Entertainment
Clown company: You couldn’t give us shares of Getty Images Holdings
How fitting that Getty Images Holdings (GETY $31) went public via a SPAC—it certainly would have been a humorous roadshow full of fanciful tales of projected growth had they been forced to use the traditional process. It is also fitting—and sad—that “investors” pumped the value of the shares up from $10 to $31 since this joke of a company went public late last month. Getty, whose shares are worth—in our opinion—about $1 apiece, now has a market cap of $11 billion. Do people literally have money to burn?
As the name implies, Getty Images sells stock images to creative professionals, the media, and corporations. Protecting copyright infringement is serious business, but Getty has turned it into a nefarious source of revenue. Examples of the firm’s abuse of power are too numerous to mention, but here is a rather typical scenario: A photographer uses one of their own digital photographs on a website. Not long after, the photographer receives a demand of payment from Getty for using the photograph; the demand comes with a threat of legal action unless the confiscatory amount requested is paid immediately. The photographer takes legal action to get the threats stopped, as they created the very image in question! The company also uses embedded technology within images to “go fishing” for people who might use the images, thus initiating the demands for payment.
The last thing Getty wants is for people to call their bluff and demand that a court decide an outcome—the company has lost a string of cases, drawing rebukes from the courts. Getty also has a well-documented history of taking images in the public domain (“free use”) and leasing them to unsuspecting customers for up to $5,000 for a six-month term.
For any investors believing they will own a piece of a growing enterprise, consider the fact that this is not the first time Getty has been publicly traded, and that only twelve shareholders own nearly 80% of the company. It may be legal, but it is a scam in our books.
Getty is the sort of company that would love to sue anyone with a disparaging view of their operations. The New York Stock Exchange should have steered clear of this listing, and investors should run the other way.
Th, 11 Aug 2022
Economics: Supply, Demand, & Prices
At long last, the steep inflation trajectory is beginning to moderate
Within seconds of the report’s release, Dow futures soared more than 400 points—led by consumer discretionary names. Finally, after months of ever-growing rates, inflation cooled in July. Following June’s 9.06% YoY rate and 1.32% MoM rate, and against expectations for an 8.7% annual increase, the price of goods and services in the US rose by “only” 8.5% in July. The MoM number, which was expected to rise by 0.2%, actually fell by that precise amount. While the 7.7% drop in gas prices in July helped drive that number down, even when energy and food prices are excluded core CPI still rose less than expected: 5.9% versus the 6.1% expected. Housing costs, which make up around one-third of the CPI, rose 5.7% from a year ago.
The report brought a sigh of relief to investors, as the Fed has indicated it will continue raising rates until it tames inflation. Any number above consensus would have increased the odds for an even greater rate hike at the September FOMC meeting. Another 75-basis-point hike is still expected, followed by two or three smaller hikes before the end of 2022. Buttressing the good news on the consumer side of the inflation front, the producer price index (PPI)—a reflection of what producers of goods and services must pay—also fell in July. Instead of the expected 0.2% jump MoM, prices actually fell 0.5% from June.
One month does not a trend make, but we believe peak inflation is now behind us. Now, the move downward must be gradual enough so as to not create a more dovish Fed before rates get back up to where they should be. We need decent bond yields in order to build well-balanced portfolios.
We, 10 Aug 2022
Consumer Electronics
Amazon is buying iRobot for $1.7 billion
We were early investors in consumer robot company iRobot (IRBT $59), initially buying shares of the company shortly after they went public. It has been a wild, seventeen-year ride for those shares, coming out of the gate around $24, rising all the way to $197.40 in the spring of 2021, and then falling back to $35.41 a few months ago. We actually took our profits around $65 per share (we owned the company in the Penn New Frontier Fund) when a stop loss hit. Now, the maker of those cute little Roomba autonomous vacuums, Braava robot mops, and (coming soon to a backyard near you) Terra robot mowers is being acquired by Penn member Amazon (AMZN $138) for $1.7 billion in cash—around $61 per share. We love the deal.
Amazon’s Alexa already supports iRobot devices (“Alexa, ask Roomba to start vacuuming”), and now the enormous, $1.4 trillion e-commerce company can provide the needed cash inflow for the development of new devices. iRobot has faced a number of headwinds lately, to include tariffs (it is now moving a large portion of its manufacturing operations from China to Malaysia), rising input costs, supply chain issues, and an unanticipated drop in demand due to deteriorating global economic conditions. While the firm has generally operated in the black over the past decade, Amazon’s deep pockets will assure the company is able to weather a recession and come out stronger during the next recovery phase. The deal is expected to be completed by the end of the year.
Talk about a great marketing platform for iRobot: being highlighted by the world’s largest e-commerce company should provide a great catalyst for future sales. As for Amazon, it remains one of our highest-conviction holdings. We added to the position following the stock split (when shares were trading around $100) and have a price target of $200 on the shares. Amazon is one of the 40 holdings within the Penn Global Leaders Club.
Fr, 05 Aug 2022
Market Pulse
At first, the market hated the strong jobs report, but it quickly shrugged it off
We have had a thesis over the past month or so that the stock market in 2022 will resemble that of 1970: down strongly in the first half of the year followed by a rally in the second half. So far, that theory is playing out. While this week was not spectacular for the benchmarks, they were not down—and that is saying something. Actually, the Dow was down 42 points on the week, but considering we had back-to-back weeks in June in which the index lost over 1,500 points, we will take flat. Something we like to see drop—the price of oil—was down to the tune of 10% this week, taking crude back below $90 per barrel. We have a string of something like 50 straight days in which the price of gasoline has dropped. Tech stocks and small caps put together strong gains of around 2% on the week.
The big news of the week came with the Friday jobs report. We are back in the silly “good news is bad news” phase: investors wanted to see slowing jobs growth to assuage their worries that the Fed is going to keep tightening into 2023. In fact, many are baking in rate cuts in 2023 due to a recession. The very strong jobs report—528,000 new positions added against estimates for 250,000—and the drop in the unemployment rate to 3.5% threw some cold water on those hopes. Within minutes of the release, the Dow was off over 400 points. By the end of the trading day, it had clawed its way back into positive territory.
The Fed must continue to raise rates, and a 75-basis-point hike in September now has a two-in-three chance of happening. That would bring the Fed funds rate to 3.25%. We believe the terminal point should be 4%. We also expect to see the inflation rate coming down from the 9.1% reading we got last month; in good measure, that is due to the big drop in oil and gas prices. Of course, anything can upset that apple cart. The short-lived rebound took a breather this week, and that is perfectly fine.
Th, 04 Aug 2022
Pharmaceuticals
Lilly shares sink after earnings miss, but is it sitting on an earth-shattering new drug?
Shares of $290 billion drugmaker Eli Lilly (LLY $305) began Thursday’s trading session off about 3% following a less-than-stellar quarter. Revenues came in at $6.48 billion versus forecasts of $6.8 billion, and earnings came in at $1.25 per share, missing estimates of $1.70 per share. The company also lowered its full-year guidance on foreign exchange (FX) headwinds due to the strong US dollar.
But does this bad news present an opportunity for investors? Next to a breakthrough cancer treatment, there is nothing the medical world is waiting for more than a revolutionary drug for the treatment and prevention of Alzheimer’s. The FDA’s 2021 approval of Biogen’s (BIIB $217) aducanumab, sold under the brand name Aduhelm, is proof of that: shares of that company spiked from $262 to $469 (79%) in June of last year on the news. Sadly, questions over the therapy’s effectiveness in treating the disease have resulted in lackluster sales. Enter Lilly’s donanemab.
Donanemab, which has received Breakthrough Therapy designation from the FDA, is designed to stimulate a patient’s immune system to attack and destroy beta amyloid plaques which are believed to be the root cause of Alzheimer’s. Exciting midstage results have shown a significant slowing of decline in cognition and daily function capabilities for patients in the early stages of the disease. Full results from the confirmatory trial should be ready by early- to mid-2023. Considering the dearth of Alzheimer’s drugs coming to the market over the past few decades, if donanemab meets expectations it could become one of the biggest blockbuster drugs in history. Of course, our excitement is tempered by the travails of Aduhelm.
The only factor keeping shares of Lilly out of the Penn Global Leaders Club is the stock’s multiple. With its 46 P/E and price/sales ratio of 10, those lofty valuations are four and five times higher, respectively, than those of our favorite drug company, Pfizer (PFE $50). Nonetheless, investors need to keep a keen eye on the company’s strong Alzheimer’s focus.
Th, 04 Aug 2022
Semiconductors & Related Equipment
Continuing to disappoint: Intel’s quarterly earnings report was an unmitigated disaster
At first glance, what’s not to love? Here’s an American semiconductor maker with a rich history, a silly-low P/E ratio of 7, a dividend yield of 4%, and the certain recipient of a cash windfall from the just-passed CHIPS Act. This all sounds too good to be true, until the name of the company is revealed: Intel (INTC $37). We have wanted to buy into this former American icon for the past couple of years as its share price has floundered, but it continues to disappoint at every turn. The latest choker: the company just reported its largest revenue miss since 1999.
Bernstein analyst Stacy Rasgon was merciless: “Intel’s Q2 takes the prize for the worst we have seen in our career.” Ouch. Sales for the chipmaker fell a whopping 22% in Q2, to $15.3 billion, far below analysts’ expectations. The company also posted a net loss of $454 million and warned of more pain to come. Guidance for the year was reduced from $76 billion to as low as $65 billion in sales. While CEO Pat Gelsinger took responsibility for the numbers, he also blamed supply chain challenges and a rapid decline in economic activity for the lousy numbers. In response to the quarter, Intel announced a new era of belt-tightening, to include a hiring slowdown, reduced capital expenditures, and a review of nonessential businesses. Not exactly a recipe for dynamic growth.
We have all but given up on Intel, seeing it as a value trap rather than a value play. Bernstein reduced their target price on the shares from $35 to $30; that sounds about right to us. Sadly.
We, 03 Aug 2022
Consumer Finance
Credit card interest rates are nearing record highs
It really belies logic, and certainly underscores the importance of Americans keeping their personal finances in check. The average annual percentage rate (APR) on credit cards in the US has risen to 17.25%, which is not far from the record high 17.87% rate hit in April of 2019. The figure also represents a 1.5% increase from the start of the year. What makes this rate so astonishing is the fact that the Fed funds rate, even after two 75-basis-point hikes, sits at 2.5%. That makes for some “impressive” margins for credit card issuers such as Visa, Mastercard, American Express, JP Morgan Chase, and Capital One. Here’s the real question: what happens when the US enters recession?
Americans have an outstanding credit card balance of $841 billion—down slightly from the all-time high of $927 billion in the quarter before the pandemic hit—and that number is on the rise. Delinquency rates have already begun ticking up, and that is with a 3.6% unemployment rate. As more companies begin to forecast layoffs, the 8.42% delinquency rate will certainly go up, especially with the crushing weight of inflation hitting pocketbooks. More evidence of the trouble brewing can be found in the US personal savings rate, which has dropped from a long-term average of 8.78% to 5.2% in the second quarter of this year. The trendlines are concerning.
While rising rates tend to help financial services firms, we remain neutral to bearish on the credit card issuers. We expect credit card write-offs to rise, and the industry finds itself under intense pressure from the new buy now, pay later (with no interest) firms such as Affirm and Afterpay.
Tu, 02 Aug 2022
Transportation Infrastructure
Uber soars after the company becomes cash-flow positive for the first time
Shares of ride-sharing service Uber (UBER $29) spiked over 17% on Tuesday after reporting revenues of $8.1 billion for the second quarter (versus $3.9B in Q2 of 2021 and $1.9B in Q2 of 2020) and $382 million of free cash flow—the first time that number has been positive. Gross bookings grew by one-third, to $29 billion, from the same quarter last year. While CEO Dara Khosrowshahi said that inflation was not pushing riders away, it was attracting more drivers looking to supplement their income in the face of rising prices.
The day following the earnings release, Raymond James helped the shares maintain their rally by upgrading the stock from market perform to outperform, citing momentum in the company’s mobility business. Uber operates in three reportable segments: Mobility, Delivery, and Freight, and boasts of the most widely utilized app in the industry. The company’s technology is available in 72 countries around the world.
We own Uber in the Penn New Frontier Fund, maintaining a price target of $70 on the shares. We believe the company will continue to be the industry leader in an business with phenomenal growth potential. As autonomous vehicles become more widely accepted, Uber is also poised to lead in that nascent area.
Fr, 29 Jul 2022
Under the Radar
Ryder System Inc. (R $78)
Ryder is a $4 billion Rental & Leasing Services (industry) company within the Industrials sector. The company offers fleet leasing and maintenance, truck rental, freight brokerage, and small business solutions. With over 500 operating locations throughout the US, Canada, Latin America, and Europe, the company manages a fleet of over 500,000 vehicles.
Management recently raised its guidance for full-year 2022 from $11-$12 EPS to $13-$14 EPS on the back of pent-up demand in the freight markets, heightened by a multi-year leasing program the company implemented in 2019. This initiative should help the company navigate any coming recession better than its peers. Ryder earned $734 million from $11 billion in sales over the trailing twelve months and carries a forward P/E of 5. Founded in 1933, the company has approximately 43,000 employees. Shares have held up quite well despite the brutal market downturn, off 3.59% year-to-date as of the end of July.
With a current dividend yield of 3.17%, we would place a conservative fair value on Ryder shares at $110. We do not currently own Ryder shares in any Penn portfolio.
Fr, 29 Jul 2022
Monetary Policy
Powell’s Volcker moment: Fed proves it is serious about reining in inflation
They were the largest back-to-back rate hikes since the early 1980s, when Paul Volcker rode to the rescue of the American economy by raising rates until runaway inflation was defeated. Current Fed Chair Jerome Powell acted—and sounded—a lot like his predecessor of forty years ago this past Wednesday. And investors liked what they heard, sending stocks soaring (the Nasdaq rose 4.06% in one session). The 75-basis-point rate hike took the upper limit of the Fed funds rate to 2.5%, and odds are we will see another three hikes by the end of the year. Let’s assume they manifest as one 50- and two 25-basis point hikes; that would bring the rate up to 3.5% going into 2023. We would like to see an ultimate terminal point of 4%, but considering the economic slowdown, that may be wishful thinking.
Ironically, the market rallied after the big mid-week hike based on more dovish expectations going forward. While Powell certainly didn’t signal that rate cuts might be on the table next year, that is what investors have read into it. Many believe that the tightening cycle will end in 2022, with rates easing back down in 2023. We hope they are wrong. A strong economy can coexist with more normalized rates; rates that allow investors to earn a decent return on their fixed-income portfolio. That is the sweet spot we should be looking for—not a return to zero interest rates.
Unemployment has been the missing piece in the recession narrative, and a good excuse for the Fed to keep hiking. Based on what companies have been telegraphing, that will soon change. As the unemployment rate begins heading up from its current level of 3.6%, we can also expect the widespread unionization efforts to begin fizzling out. No comments on that point.
Th, 28 Jul 2022
Airlines & Air Freight
Shocker: Spirit terminates Frontier bid, agrees to JetBlue merger
We have written about the ongoing saga between three small-cap airlines, Spirit (SAVE $25), Frontier (ULCC $11), and JetBlue (JBLU $9), each approximately $2.5 billion in size, for the past several months. Despite JetBlue’s hostile takeover push for Spirit, it looked as though a Spirit/Frontier merger was as good as done. In fact, two major shareholder advisory firms were recommending that the deal be approved. The CEO of Spirit, Ted Christie, had argued that the Federal Trade Commission and the Department of Justice would never approve a merger with JetBlue. Suddenly, in a rather shocking reversal, Spirit announced that it was terminating its deal with Frontier—scheduled to be voted on within weeks—and embracing JetBlue’s offer. Something stinks. We will never know what went on behind closed doors, but it would probably be worthy of a book. JetBlue, it should be noted, has the worst on-time record in the industry, with nearly 10,000 canceled or delayed flights (39%!) in the month of June alone. The deal would give Spirit shareholders $33.50 per share in cash, an aggregate equity value of $3.8 billion, and carry with it a breakup fee of $400 million if it is shot down by regulators.
There is a lot of baggage to unpack here. First and foremost, we believe the feds will not approve the merger on anticompetitive grounds. Beyond that, what happens to Frontier, our personal favorite of the three, now that they are left to fend for themselves in an industry dominated by the four large players—United, American, Delta, and Southwest? And what magic panacea will allow JetBlue to improve its horrendous on-time record? Our advice? Don’t touch any of the low-cost carriers. And avoid flying JetBlue.
We, 27 Jul 2022
E-Commerce
Shopify drops another 14% after booting one-tenth of its workforce out the door
At one time we were intrigued with Canadian e-commerce platform Shopify (SHOP $32); now, we find ourselves repelled by the firm. Back in spring, we wrote of two big decisions by the board: the initiation of a ten-for-one stock split, and the creation of a new share class (the Founder share) which would increase CEO Tobi Lutke’s voting power to 40%. Why not just decree him ruler for life? That was an outrageous move, made even more distasteful by the company’s decision on Tuesday to boot 10% of the workforce out the door “by the end of the day.” Lutke admitted to misreading the strength of online shopping post pandemic, but words are cheap. The proper action would have been to join the 10% of fired workers and leave the building with his little brown shipping box.
Since the company’s ten-for-one stock split muddied the waters with respect to just how much the shares have fallen, consider this: In November of 2021 SHOP had a market cap of $212 billion; it is now worth $40 billion, or 81% smaller than it was nine months ago. We often talk about how the Nasdaq fell 78% between 2000 and 2002. Astonishingly, we now have a growing list of companies on that exchange which have dropped further than that in under a year. Certainly, some will come roaring back, but others will flounder for years. We can’t say in which camp Shopify will find itself, but we can say we wouldn’t invest in a firm where one person controls 40% of the voting rights.
Tu, 26 Jul 2022
Food & Staples Retailing
Walmart shares drop 8% after the retailer slashed its profit outlook
The good news: America’s largest retailer, Walmart (WMT $120), said it expects same store sales, ex-fuel, to rise 6% in Q2 over the same time period last year. The bad news: profit margins are being crushed by inflation and a pullback by consumers in discretionary spending. Put another way, the bottom 40% of wage earners, being harder hit by higher fuel costs and grocery bills, have little left over for apparel and other discretionary items. Unfortunately for Walmart, that is where the fattest profit margins reside. Although the retailer won’t formally report Q2 earnings until the 16th of August, management announced that an oversupply of merchandise (inventories rose some 33% in Q1) at both Walmart and its Sam’s Club locations was forcing it to cut prices, thereby reducing net income. The company is projecting an 8% to 9% decrease in EPS for the quarter, and an 11% to 13% drop in earnings for the full year.
Despite the move lower, Walmart is still holding up better than most of its peers. The company’s warning portends rough sailing ahead for lower-priced merchandisers which, unlike Walmart, do not have the luxury of relying on staples to help stabilize sales. Dick’s Sporting Goods (DKS $90), Kohls (KSS $27), and Bed Bath & Beyond (BBBY $5) all moved sharply lower after the announcement. Potential safety plays in the sector? We like well-run, dedicated grocers like The Kroger Company (KR $45) and Grocery Outlet (GO $44).
Mo, 25 Jul 2022
Metals & Mining
Newmont Mining just had its worst day since 2008
Despite gold’s recent drop, we remain quite bullish on the precious metal going forward. If we are in some time-warped 1970s redux, keep this in mind: Gold entered the 1970s around $40 per ounce and exited the decade around $500 per ounce; over that same time period, the Dow Jones Industrial Average grew from 800 to 839 (5%)! While not quite as bullish on the gold miners (due to a host of threats, from rising costs to geopolitical trouble around many of the world’s mines), we did see opportunity among the most well-run players.
On that note, we added Newmont Mining (NEM $44) to the Penn Global Leaders Club last year and it immediately began trading higher. Wishing to maintain our gains, we placed a stop on the shares. Fortunately, the stop price hit and the position was closed when Newmont shares dropped to a recent price of $60. Highlighting the importance of having protection in place on volatile holdings, the company just had its worst day since 2008, falling some 14% on the heels of the Q2 earnings release. While revenue remained steady YoY at $3.06 billion for the quarter, earnings per share (EPS) tumbled to $0.46 from $0.81 in the same quarter last year. Management reported a 23% increase in costs, to $932 per ounce mined. Furthermore, the company had an all-in sustaining cost of $1,150 per ounce due to inflationary pressures. While gold is off just over 5% thus far in 2022, Newmont finds itself down 27% year-to-date and nearly 50% below its April intraday high of $86.37.
Our three favorite gold mining stocks are all presently getting crushed. In addition to Newmont, shares of Barrick Gold Corp (GOLD) have dropped from $26 to $15, while shares of Kinross Gold Corp (KGC) have plunged from $7 to $3. While we are not ready to touch any of them right now, they should all see a nice rebound as costs return to normal. Of course, we can only speculate as to when that might be.
Mo, 25 Jul 2022
Aerospace & Defense
Boeing workers plan to strike; wait till you see what they deem as “inadequate”
(Update: Workers at the three Boeing plants in question approved a sweetened deal by the company, averting the strike) Pretty much every aspect of Boeing (BA $158) makes us uncomfortable right now. This critical American aerospace company, which never should have been allowed to knock out rival McDonnell Douglas, has a completely inept management team. The disgusting way in which two deadly 737-MAX crashes were handled is inexcusable. The chairman, who announced his wholehearted support for the former CEO right before the latter was fired, decided that he was the only person who could fix the company. Um, weren’t you the chairman of the board when the crashes occurred? Seemingly nothing is going right for the company, on either the aircraft or space side of the business. The company tells us that manned spaceflight is tough, and they can’t cut corners. Meanwhile, SpaceX is proving that the job isn’t too tough to get done. It is a Boeing problem.
Now, amidst all the self-inflicted problems at the firm, let’s throw in one for which we don’t really blame the company. Workers at three St. Louis plants, some 2,500 members of the machinists’ union, plan to go on strike in August. The tired old union arguments are really hard to swallow in this case—even more so than normal. They first feigned outrage that Boeing no longer has a pension plan. Who does these days?! They then complained about the “inadequate compensation” to the employees’ 401(k) retirement plans. This is where it gets comical. Right now, Boeing offers a 75% match on the first eight percent that a worker puts into his or her 401(k). Inadequate? That sounds like a gold-plated plan to us. But it gets better. In the negotiations, the company said it would increase the company match to dollar for dollar on the first ten percent. The response? A flat refusal, with the union stating that “the company continues to make billions of dollars each year off the backs of our hardworking members.”
Take a trip to nearly any corner of the world and read that statement to workers making a fraction of what Boeing workers make and gauge the response. As for the silly “billions of dollars” comment, the union had better check the company’s financials: Boeing lost $4.2 billion in 2021, $12 billion in 2020, and $636 million in 2019.
For the better part of 25 years Boeing was a staple holding for our clients. Now, until a complete board overhaul takes place, we couldn’t imagine owning the company. Sad. As we say, virtually every aspect of the company’s business model makes us uncomfortable right now.
Airlines & Air Freight
Shocker: Spirit terminates Frontier bid, agrees to JetBlue merger
We have written about the ongoing saga between three small-cap airlines, Spirit (SAVE $25), Frontier (ULCC $11), and JetBlue (JBLU $9), each approximately $2.5 billion in size, for the past several months. Despite JetBlue’s hostile takeover push for Spirit, it looked as though a Spirit/Frontier merger was as good as done. In fact, two major shareholder advisory firms were recommending that the deal be approved. The CEO of Spirit, Ted Christie, had argued that the Federal Trade Commission and the Department of Justice would never approve a merger with JetBlue. Suddenly, in a rather shocking reversal, Spirit announced that it was terminating its deal with Frontier—scheduled to be voted on within weeks—and embracing JetBlue’s offer. Something stinks. We will never know what went on behind closed doors, but it would probably be worthy of a book. JetBlue, it should be noted, has the worst on-time record in the industry, with nearly 10,000 canceled or delayed flights (39%!) in the month of June alone. The deal would give Spirit shareholders $33.50 per share in cash, an aggregate equity value of $3.8 billion, and carry with it a breakup fee of $400 million if it is shot down by regulators.
There is a lot of baggage to unpack here. First and foremost, we believe the feds will not approve the merger on anticompetitive grounds. Beyond that, what happens to Frontier, our personal favorite of the three, now that they are left to fend for themselves in an industry dominated by the four large players—United, American, Delta, and Southwest? And what magic panacea will allow JetBlue to improve its horrendous on-time record? Our advice? Don’t touch any of the low-cost carriers. And avoid flying JetBlue.
We, 27 Jul 2022
E-Commerce
Shopify drops another 14% after booting one-tenth of its workforce out the door
At one time we were intrigued with Canadian e-commerce platform Shopify (SHOP $32); now, we find ourselves repelled by the firm. Back in spring, we wrote of two big decisions by the board: the initiation of a ten-for-one stock split, and the creation of a new share class (the Founder share) which would increase CEO Tobi Lutke’s voting power to 40%. Why not just decree him ruler for life? That was an outrageous move, made even more distasteful by the company’s decision on Tuesday to boot 10% of the workforce out the door “by the end of the day.” Lutke admitted to misreading the strength of online shopping post pandemic, but words are cheap. The proper action would have been to join the 10% of fired workers and leave the building with his little brown shipping box.
Since the company’s ten-for-one stock split muddied the waters with respect to just how much the shares have fallen, consider this: In November of 2021 SHOP had a market cap of $212 billion; it is now worth $40 billion, or 81% smaller than it was nine months ago. We often talk about how the Nasdaq fell 78% between 2000 and 2002. Astonishingly, we now have a growing list of companies on that exchange which have dropped further than that in under a year. Certainly, some will come roaring back, but others will flounder for years. We can’t say in which camp Shopify will find itself, but we can say we wouldn’t invest in a firm where one person controls 40% of the voting rights.
Tu, 26 Jul 2022
Food & Staples Retailing
Walmart shares drop 8% after the retailer slashed its profit outlook
The good news: America’s largest retailer, Walmart (WMT $120), said it expects same store sales, ex-fuel, to rise 6% in Q2 over the same time period last year. The bad news: profit margins are being crushed by inflation and a pullback by consumers in discretionary spending. Put another way, the bottom 40% of wage earners, being harder hit by higher fuel costs and grocery bills, have little left over for apparel and other discretionary items. Unfortunately for Walmart, that is where the fattest profit margins reside. Although the retailer won’t formally report Q2 earnings until the 16th of August, management announced that an oversupply of merchandise (inventories rose some 33% in Q1) at both Walmart and its Sam’s Club locations was forcing it to cut prices, thereby reducing net income. The company is projecting an 8% to 9% decrease in EPS for the quarter, and an 11% to 13% drop in earnings for the full year.
Despite the move lower, Walmart is still holding up better than most of its peers. The company’s warning portends rough sailing ahead for lower-priced merchandisers which, unlike Walmart, do not have the luxury of relying on staples to help stabilize sales. Dick’s Sporting Goods (DKS $90), Kohls (KSS $27), and Bed Bath & Beyond (BBBY $5) all moved sharply lower after the announcement. Potential safety plays in the sector? We like well-run, dedicated grocers like The Kroger Company (KR $45) and Grocery Outlet (GO $44).
Mo, 25 Jul 2022
Metals & Mining
Newmont Mining just had its worst day since 2008
Despite gold’s recent drop, we remain quite bullish on the precious metal going forward. If we are in some time-warped 1970s redux, keep this in mind: Gold entered the 1970s around $40 per ounce and exited the decade around $500 per ounce; over that same time period, the Dow Jones Industrial Average grew from 800 to 839 (5%)! While not quite as bullish on the gold miners (due to a host of threats, from rising costs to geopolitical trouble around many of the world’s mines), we did see opportunity among the most well-run players.
On that note, we added Newmont Mining (NEM $44) to the Penn Global Leaders Club last year and it immediately began trading higher. Wishing to maintain our gains, we placed a stop on the shares. Fortunately, the stop price hit and the position was closed when Newmont shares dropped to a recent price of $60. Highlighting the importance of having protection in place on volatile holdings, the company just had its worst day since 2008, falling some 14% on the heels of the Q2 earnings release. While revenue remained steady YoY at $3.06 billion for the quarter, earnings per share (EPS) tumbled to $0.46 from $0.81 in the same quarter last year. Management reported a 23% increase in costs, to $932 per ounce mined. Furthermore, the company had an all-in sustaining cost of $1,150 per ounce due to inflationary pressures. While gold is off just over 5% thus far in 2022, Newmont finds itself down 27% year-to-date and nearly 50% below its April intraday high of $86.37.
Our three favorite gold mining stocks are all presently getting crushed. In addition to Newmont, shares of Barrick Gold Corp (GOLD) have dropped from $26 to $15, while shares of Kinross Gold Corp (KGC) have plunged from $7 to $3. While we are not ready to touch any of them right now, they should all see a nice rebound as costs return to normal. Of course, we can only speculate as to when that might be.
Mo, 25 Jul 2022
Aerospace & Defense
Boeing workers plan to strike; wait till you see what they deem as “inadequate”
(Update: Workers at the three Boeing plants in question approved a sweetened deal by the company, averting the strike) Pretty much every aspect of Boeing (BA $158) makes us uncomfortable right now. This critical American aerospace company, which never should have been allowed to knock out rival McDonnell Douglas, has a completely inept management team. The disgusting way in which two deadly 737-MAX crashes were handled is inexcusable. The chairman, who announced his wholehearted support for the former CEO right before the latter was fired, decided that he was the only person who could fix the company. Um, weren’t you the chairman of the board when the crashes occurred? Seemingly nothing is going right for the company, on either the aircraft or space side of the business. The company tells us that manned spaceflight is tough, and they can’t cut corners. Meanwhile, SpaceX is proving that the job isn’t too tough to get done. It is a Boeing problem.
Now, amidst all the self-inflicted problems at the firm, let’s throw in one for which we don’t really blame the company. Workers at three St. Louis plants, some 2,500 members of the machinists’ union, plan to go on strike in August. The tired old union arguments are really hard to swallow in this case—even more so than normal. They first feigned outrage that Boeing no longer has a pension plan. Who does these days?! They then complained about the “inadequate compensation” to the employees’ 401(k) retirement plans. This is where it gets comical. Right now, Boeing offers a 75% match on the first eight percent that a worker puts into his or her 401(k). Inadequate? That sounds like a gold-plated plan to us. But it gets better. In the negotiations, the company said it would increase the company match to dollar for dollar on the first ten percent. The response? A flat refusal, with the union stating that “the company continues to make billions of dollars each year off the backs of our hardworking members.”
Take a trip to nearly any corner of the world and read that statement to workers making a fraction of what Boeing workers make and gauge the response. As for the silly “billions of dollars” comment, the union had better check the company’s financials: Boeing lost $4.2 billion in 2021, $12 billion in 2020, and $636 million in 2019.
For the better part of 25 years Boeing was a staple holding for our clients. Now, until a complete board overhaul takes place, we couldn’t imagine owning the company. Sad. As we say, virtually every aspect of the company’s business model makes us uncomfortable right now.
Fr, 22 Jul 2022
Market Pulse
Despite Friday’s fizzled rally, all of the major benchmarks finished the week strong
Remember the chart of 1970’s wild S&P 500 ride we reviewed in the last issue of After Hours? Obviously, we are still very early in the second half of 2022, but our prediction of mirroring those results have been encouraging thus far. Friday’s shift from rally to fade wasn’t what we were hoping for to finish out a strong week, but it didn’t stop the S&P 500 from posting a 2.56% gain for the five sessions, surpassed only by the Nasdaq (+3.34%) and the small-cap Russell 2000 (+3.61%). There were two classes we wanted to see drop, oil and the 10-year Treasury, and both did precisely that. The gains this past week stemmed largely from the fact that earnings weren’t as bad as feared; well, except for some notable exceptions like Snapchat (SNAP $10), which was punished to the tune of a 40% drop on Friday.
Next week is huge. We know what the Fed is going to do, barring any surprises: raise rates by 75 basis points to an upper limit of 2.5%. We still need to get to a 4% rate (in our opinion), but investors are now banking on the fact that the velocity of hikes will begin to slow after the July FOMC meeting. In fact, many see rate cuts coming in 2023 due to a recession. Yet another reason we had better make it to 4% by then, coupled with a sizeable reduction in the Fed’s $9 trillion balance sheet. Second quarter’s initial GDP read comes out next week, which may show a second straight contraction—signaling a technical recession using an archaic metric. And talk about some critical earnings reports: Apple, Microsoft, and Alphabet all report next week. Our prediction? Except for some poorly run companies, earnings won’t be as bad as feared with the major players. We’re not really going out on the limb with that prediction: 75% of the S&P 500 firms which have already reported beat analysts’ dour estimates. Yes, the economy is cooling, but that is what happens with a normal economic cycle. Based on the bear market we entered with all of the major benchmarks except the least important one (the Dow), we are set up nicely for a second half rally.
We, 20 Jul 2022
Global Strategy: East & Southeast Asia
Latest Chinese reality check: a mortgage boycott sweeps the nation
For decades, the communist-controlled Chinese media has poured forth an endless stream of rosy stories about the country’s growth trajectory and the general happiness of ordinary Chinese citizens. Too often, a sycophantic Western press has “dutifully” regurgitated these propaganda-filled fairy tales. One such yarn revolves around the millions of housing units being built for the rising middle class in the country, and the excited would-be homeowners happily making mortgage payments on properties not yet built—a typical practice in China. Now, despite the iron-clad control over social media in the country, a darker image is coming into focus.
There is a revolt taking place among a large number of Chinese homebuyers who have stopped making mortgage payments—or are threatening to—on their unfinished properties. Despite the censors’ best efforts, online petitions are circulating urging citizens to boycott making payments until they see results. With nearly $7 trillion worth of outstanding mortgage loans, the real estate industry accounts for nearly one quarter of China’s economy; these boycotts threaten to spread like wildfire, further dampening a recovery marred by renewed Covid lockdowns. Rising loan defaults are already spooking investors, which have driven down both bank and developer stocks by double digits over the past few weeks.
How bad is the crisis? Analysts at Nomura Holdings, a Japanese financial holding company, estimate that just 60% of homes pre-sold to Chinese households over the past decade have been delivered. A slowing growth rate in the country’s economy will only exacerbate the problem.
China’s wanton real estate boom was built upon unsustainable projections of forward growth—growth levels which couldn’t possibly be sustained as its economy matured. With Xi Jinping about to become ruler for life, the problem will be exacerbated by the government’s draconian response to economic challenges.
Tu, 19 Jul 2022
Capital Markets
Another black (SPAC) eye: Electric Last Mile Solutions to be delisted
During SPACmania, 2021, companies which couldn’t dream of going public on their own joined with so-called blank check SPACs, or special purpose acquisition companies, to sneak in through the back door. The fact that investors were flocking to these creatures with force was one of the major red flags of the year, along with NFTs and meme stocks (see Feeding Frenzy, Penn Wealth Report, Vol. 9 Issue 03). Electric Last Mile Solutions (ELMSQ $0.14), yet another EV startup, was one such firm. The company became publicly traded in June of last year by joining with blank check firm Forum Merger III, initially trading at $10 per share. Now, after what the company is blaming on an SEC investigation which ultimately forced the CEO and chairman to resign, Electric Last Mile has initiated bankruptcy proceedings. On the company’s investor page, Interim CEO Shauna McIntyre assures all stakeholders that ELMS is “dedicated to the company’s ongoing business and mission.” At $0.14 per share, this “ongoing business” now has a market cap of $15.5 million, down from $1.3 billion. Management has quite the mountain to climb to make good on its current set of promises.
It is a sad testament that so many small investors would see “EV startup” and “$10 per share” and jump in with hard-earned money. No due diligence, not a modicum of research, just pure silliness. It reminds us of the guy featured on a CNBC special who declared that he spent “an entire day researching the stock market before jumping in.” Now, instead of a sober evaluation of mistakes made and an intelligent progression, how many will simply throw in the towel—until the next major rally is long in the tooth?
Tu, 19 Jul 2022
Aerospace & Defense
With shares trading around $9, Embraer looks tempting on heels of new aircraft order
Back in a 2017 article within The Penn Wealth Report, we wrote a rather glowing commentary on Brazilian aircraft maker Embraer (ERJ $9). Purchasing the company within the Intrepid Trading Platform for $20.50 per share at the time, we took a fat short-term profit (the nature of the ITP) just two months later when Boeing (BA $155) agreed to buy the $3.777 billion small-cap industrial. Since then, Boeing has pulled out of the deal and Embraer’s share price has dropped from a five-year high of $27.50 to a recent low of $8. The company, which has been around since 1969, manufactures regional and business jets as well as a host of defense and security products. Through its services and support division, the company generates a solid stream of recurring revenue.
This week, Canada’s Porter Airlines announced that it would be buying an additional 20 E195-E2 aircraft from Embraer on top of the 30 it has already ordered. The carrier also purchased the rights to buy another 50 as needed. Somewhat a slap in the face to Canada’s own business jet manufacturer, Bombardier (BDRAF $20). So, with the shares trading below $10, is it time to buy back into this now $1.645 billion foreign aerospace player? It is tempting. We have no doubt that Embraer will continue to be a viable player in the industry for decades, and it is trading almost 85% below its all-time high share price. Alas, it was a review of the income statement that kept us from pulling the trigger. While several issues jumped out, the fact that the company has not turned a profit since 2017 is certainly one of the biggest red flags. For a riskier portion of an investment portfolio, however, the potential reward might just be worth the risk.
If we did purchase Embraer, we would do so with a tight stop loss in place—probably around $8 per share—to minimize potential losses. It should be noted that every year for the past decade ERJ shares have reached the $20s to $30s range.
Mo, 18 Jul 2022
Automotive
EV maker Canoo spikes on Walmart and US Army interest; don’t be fooled
We can imagine a certain group of investors licking their chops now: EV maker Canoo (GOEV $4) is a dirt-cheap stock in a promising industry with sudden interest from both Walmart (WMT $129) and the US Army. Shares, in fact, were trading around $1.88 when America’s largest retailer said it has plans to buy 4,500 Canoo EVs with an option to buy up to 10,000. The vehicles are to be used for the store’s “last-mile delivery” to customers’ homes. A few days after the Walmart announcement, the US Army selected a Canoo vehicle for analysis and demonstration. Is the company about to have a major breakout?
Before jumping in to buy shares at the “low price” of $4.28 (where they trade as we write this), investors should dig a little deeper into the stories. As for Walmart, which stipulated in its deal that Canoo cannot provide competitor Amazon (AMZN $114) with EVs, the company has similar deals with Nikola, Daimler, and Cummins. Furthermore, Canoo has yet to deliver on any vehicles—to anyone. All of the existing vehicles are prototypes. Another major concern we have is that the company is only publicly traded because it is part of a SPAC deal. It never would have been able to go public (anytime soon) through the traditional IPO route.
On the financial front, it is common for a young company to have negative earnings, but Canoo’s top-line revenue is zero. Something that made us think back to Nikola’s slick founder, Trevor Milton, was the company’s pie-in-the-sky projections. Canoo told investors it could generate over $300 million in revenue in 2022 and produce 3,000 to 6,000 vehicles this year. The assembly lines are not yet rolling. Two years ago, the company offered revenue projections of $4.13 billion in 2026 alongside profits of $1.18 billion. These “creative” projections are raising some eyebrows in the regulatory community. Walmart and the US Army aside, $4 doesn’t seem cheap considering the potential share price of $0.00.
Headlines can spur positive actions by investors, but not always in the way one might imagine. With so many misleading narratives floating around, the ability to think like a contrarian can pay off handsomely. If something doesn’t pass the smell test, a deeper dive might uncover a real opportunity to take advantage of a misguidedly negative sentiment. In the case of the recent Canoo news, a little emotional discipline and some basic research might keep one from joining the lemmings who think they have uncovered a bargain.
Market Pulse
Despite Friday’s fizzled rally, all of the major benchmarks finished the week strong
Remember the chart of 1970’s wild S&P 500 ride we reviewed in the last issue of After Hours? Obviously, we are still very early in the second half of 2022, but our prediction of mirroring those results have been encouraging thus far. Friday’s shift from rally to fade wasn’t what we were hoping for to finish out a strong week, but it didn’t stop the S&P 500 from posting a 2.56% gain for the five sessions, surpassed only by the Nasdaq (+3.34%) and the small-cap Russell 2000 (+3.61%). There were two classes we wanted to see drop, oil and the 10-year Treasury, and both did precisely that. The gains this past week stemmed largely from the fact that earnings weren’t as bad as feared; well, except for some notable exceptions like Snapchat (SNAP $10), which was punished to the tune of a 40% drop on Friday.
Next week is huge. We know what the Fed is going to do, barring any surprises: raise rates by 75 basis points to an upper limit of 2.5%. We still need to get to a 4% rate (in our opinion), but investors are now banking on the fact that the velocity of hikes will begin to slow after the July FOMC meeting. In fact, many see rate cuts coming in 2023 due to a recession. Yet another reason we had better make it to 4% by then, coupled with a sizeable reduction in the Fed’s $9 trillion balance sheet. Second quarter’s initial GDP read comes out next week, which may show a second straight contraction—signaling a technical recession using an archaic metric. And talk about some critical earnings reports: Apple, Microsoft, and Alphabet all report next week. Our prediction? Except for some poorly run companies, earnings won’t be as bad as feared with the major players. We’re not really going out on the limb with that prediction: 75% of the S&P 500 firms which have already reported beat analysts’ dour estimates. Yes, the economy is cooling, but that is what happens with a normal economic cycle. Based on the bear market we entered with all of the major benchmarks except the least important one (the Dow), we are set up nicely for a second half rally.
We, 20 Jul 2022
Global Strategy: East & Southeast Asia
Latest Chinese reality check: a mortgage boycott sweeps the nation
For decades, the communist-controlled Chinese media has poured forth an endless stream of rosy stories about the country’s growth trajectory and the general happiness of ordinary Chinese citizens. Too often, a sycophantic Western press has “dutifully” regurgitated these propaganda-filled fairy tales. One such yarn revolves around the millions of housing units being built for the rising middle class in the country, and the excited would-be homeowners happily making mortgage payments on properties not yet built—a typical practice in China. Now, despite the iron-clad control over social media in the country, a darker image is coming into focus.
There is a revolt taking place among a large number of Chinese homebuyers who have stopped making mortgage payments—or are threatening to—on their unfinished properties. Despite the censors’ best efforts, online petitions are circulating urging citizens to boycott making payments until they see results. With nearly $7 trillion worth of outstanding mortgage loans, the real estate industry accounts for nearly one quarter of China’s economy; these boycotts threaten to spread like wildfire, further dampening a recovery marred by renewed Covid lockdowns. Rising loan defaults are already spooking investors, which have driven down both bank and developer stocks by double digits over the past few weeks.
How bad is the crisis? Analysts at Nomura Holdings, a Japanese financial holding company, estimate that just 60% of homes pre-sold to Chinese households over the past decade have been delivered. A slowing growth rate in the country’s economy will only exacerbate the problem.
China’s wanton real estate boom was built upon unsustainable projections of forward growth—growth levels which couldn’t possibly be sustained as its economy matured. With Xi Jinping about to become ruler for life, the problem will be exacerbated by the government’s draconian response to economic challenges.
Tu, 19 Jul 2022
Capital Markets
Another black (SPAC) eye: Electric Last Mile Solutions to be delisted
During SPACmania, 2021, companies which couldn’t dream of going public on their own joined with so-called blank check SPACs, or special purpose acquisition companies, to sneak in through the back door. The fact that investors were flocking to these creatures with force was one of the major red flags of the year, along with NFTs and meme stocks (see Feeding Frenzy, Penn Wealth Report, Vol. 9 Issue 03). Electric Last Mile Solutions (ELMSQ $0.14), yet another EV startup, was one such firm. The company became publicly traded in June of last year by joining with blank check firm Forum Merger III, initially trading at $10 per share. Now, after what the company is blaming on an SEC investigation which ultimately forced the CEO and chairman to resign, Electric Last Mile has initiated bankruptcy proceedings. On the company’s investor page, Interim CEO Shauna McIntyre assures all stakeholders that ELMS is “dedicated to the company’s ongoing business and mission.” At $0.14 per share, this “ongoing business” now has a market cap of $15.5 million, down from $1.3 billion. Management has quite the mountain to climb to make good on its current set of promises.
It is a sad testament that so many small investors would see “EV startup” and “$10 per share” and jump in with hard-earned money. No due diligence, not a modicum of research, just pure silliness. It reminds us of the guy featured on a CNBC special who declared that he spent “an entire day researching the stock market before jumping in.” Now, instead of a sober evaluation of mistakes made and an intelligent progression, how many will simply throw in the towel—until the next major rally is long in the tooth?
Tu, 19 Jul 2022
Aerospace & Defense
With shares trading around $9, Embraer looks tempting on heels of new aircraft order
Back in a 2017 article within The Penn Wealth Report, we wrote a rather glowing commentary on Brazilian aircraft maker Embraer (ERJ $9). Purchasing the company within the Intrepid Trading Platform for $20.50 per share at the time, we took a fat short-term profit (the nature of the ITP) just two months later when Boeing (BA $155) agreed to buy the $3.777 billion small-cap industrial. Since then, Boeing has pulled out of the deal and Embraer’s share price has dropped from a five-year high of $27.50 to a recent low of $8. The company, which has been around since 1969, manufactures regional and business jets as well as a host of defense and security products. Through its services and support division, the company generates a solid stream of recurring revenue.
This week, Canada’s Porter Airlines announced that it would be buying an additional 20 E195-E2 aircraft from Embraer on top of the 30 it has already ordered. The carrier also purchased the rights to buy another 50 as needed. Somewhat a slap in the face to Canada’s own business jet manufacturer, Bombardier (BDRAF $20). So, with the shares trading below $10, is it time to buy back into this now $1.645 billion foreign aerospace player? It is tempting. We have no doubt that Embraer will continue to be a viable player in the industry for decades, and it is trading almost 85% below its all-time high share price. Alas, it was a review of the income statement that kept us from pulling the trigger. While several issues jumped out, the fact that the company has not turned a profit since 2017 is certainly one of the biggest red flags. For a riskier portion of an investment portfolio, however, the potential reward might just be worth the risk.
If we did purchase Embraer, we would do so with a tight stop loss in place—probably around $8 per share—to minimize potential losses. It should be noted that every year for the past decade ERJ shares have reached the $20s to $30s range.
Mo, 18 Jul 2022
Automotive
EV maker Canoo spikes on Walmart and US Army interest; don’t be fooled
We can imagine a certain group of investors licking their chops now: EV maker Canoo (GOEV $4) is a dirt-cheap stock in a promising industry with sudden interest from both Walmart (WMT $129) and the US Army. Shares, in fact, were trading around $1.88 when America’s largest retailer said it has plans to buy 4,500 Canoo EVs with an option to buy up to 10,000. The vehicles are to be used for the store’s “last-mile delivery” to customers’ homes. A few days after the Walmart announcement, the US Army selected a Canoo vehicle for analysis and demonstration. Is the company about to have a major breakout?
Before jumping in to buy shares at the “low price” of $4.28 (where they trade as we write this), investors should dig a little deeper into the stories. As for Walmart, which stipulated in its deal that Canoo cannot provide competitor Amazon (AMZN $114) with EVs, the company has similar deals with Nikola, Daimler, and Cummins. Furthermore, Canoo has yet to deliver on any vehicles—to anyone. All of the existing vehicles are prototypes. Another major concern we have is that the company is only publicly traded because it is part of a SPAC deal. It never would have been able to go public (anytime soon) through the traditional IPO route.
On the financial front, it is common for a young company to have negative earnings, but Canoo’s top-line revenue is zero. Something that made us think back to Nikola’s slick founder, Trevor Milton, was the company’s pie-in-the-sky projections. Canoo told investors it could generate over $300 million in revenue in 2022 and produce 3,000 to 6,000 vehicles this year. The assembly lines are not yet rolling. Two years ago, the company offered revenue projections of $4.13 billion in 2026 alongside profits of $1.18 billion. These “creative” projections are raising some eyebrows in the regulatory community. Walmart and the US Army aside, $4 doesn’t seem cheap considering the potential share price of $0.00.
Headlines can spur positive actions by investors, but not always in the way one might imagine. With so many misleading narratives floating around, the ability to think like a contrarian can pay off handsomely. If something doesn’t pass the smell test, a deeper dive might uncover a real opportunity to take advantage of a misguidedly negative sentiment. In the case of the recent Canoo news, a little emotional discipline and some basic research might keep one from joining the lemmings who think they have uncovered a bargain.
We, 13 Jul 2022
Economics: Supply, Demand, & Prices
June inflation came in red hot, but the market drop was misguided
On Wednesday the 13th, June’s inflation numbers rolled in. They were expected to be high, but investors discounted the spike and futures were up. Within seconds of the scorching 9.1% year-over-year number being released, futures took a U-turn and tumbled some 400 points on the Dow and 200 points (-1.8%) on the Nasdaq. A 75-basis-point rate hike was already expected for July; after the report, odds of another 75-basis-point hike in September (there is no August FOMC meeting) more than doubled to around 78%. Keeping this in perspective, these two probable hikes would just put the upper limit of the Fed funds rate at 3.25%. For all the comparisons to the 1970s and 1980s, consumers could only dream about such low rates back then. The Fed should—must—make these moves.
As for the market’s immediate reaction, it was misguided. We believe that peak inflation has now hit, and that prices should begin to stabilize. Commodity prices, which have been on a steep trajectory for the past nine months or so, have turned the corner and are now pulling back at a rapid clip. Auto repossessions are exploding as an inordinate number of Americans who purchased vehicles during the pandemic have suddenly stopped making payments. Buyers and renters are pushing back against the high price of homes and 14% increase in leases by holding off on making a move—or, in the case of younger renters, moving back home. Companies of all sizes, expecting a recession, have begun to pull back on capital expenditures. Smaller companies are really feeling the pinch. Forget the American consumer for a moment: if companies start to pull back on spending, inflation will begin to subside.
Copper, a fundamental industrial-use metal, has lost one-third of its value since April. Wheat, corn, and other ag products have also dropped precipitously over the past few months. Even oil has dropped back below the $100 per barrel rate. These are signs that inflation is starting to return to more normal levels. Add a price-wary consumer to the mix, and suddenly the headline narrative begins to deflate, no pun intended. Mild recession or not, the second half of the year could hold some pleasant surprise for investors. At least the ones who resisted the urge to panic.
By “resisting the urge to panic,” we mean sticking to one’s proper portfolio diversification. On that front, we are excited by the Fed’s rate hikes as they signal some great bond issues are on the horizon. In the meantime, investors should remember that cash truly is an asset class, and a 20% allocation to that class is not excessively high right now. Dry powder to take advantage of the coming opportunities.
We, 06 Jul 2022
Airlines & Air Freight
JetBlue just can’t win: FAA awards coveted Newark slots to Spirit alone
Three miles south of downtown Newark and nine short miles from Manhattan lies Newark Liberty International Airport. Serving some 40 million passengers annually prior to the pandemic, the airport remains one of the busiest in the world. Back in 2019, Southwest Airlines (LUV $36) pulled out of the airport due to falling revenue amidst the grounding of Boeing’s (BA $135) 737-MAX fleet. This week, the FAA awarded all sixteen open slots at Newark to low-cost carrier Spirit Airlines (SAVE $25). JetBlue (JBLU $8), which has already been rebuffed twice by Spirit as a takeover target, had also been vying for the slots. A spokesperson for the FAA’s parent organization, the Department of Transportation, said that awarding all slots to Spirit would improve competition and secure more low-cost flights for Newark passengers.
A few weeks ago, JetBlue sweetened its takeover offer for Spirit, offering shareholders $30 at close and $1.50 per share in prepayment (from a raised reverse break-up fee). Spirit’s management team, however, remains committed to Frontier’s (ULCC $10) takeover offer, arguing that the deal will not face the same level of government scrutiny. (They are correct: we don’t see the respective government agencies approving a JetBlue/Spirit merger due to routing and competition issues.) Two major shareholder advisory firms, Glass Lewis and Institutional Shareholder Services (ISS), are now urging approval of the Frontier bid during this month’s shareholder vote.
It is difficult to find any airline we like right now due to inflation, a slow-moving economic slowdown, and chronic flight cancellations. We have one carrier in the Global Leaders Club, United (UAL $37), but we have a tight stop loss order on the shares. As for the airline in the direst straits (in our opinion): we wouldn’t touch shares of JetBlue.
We, 06 Jul 2022
Currencies & Forex
For the first time since 2002, the dollar is reaching parity with the euro
We always found it bizarre that certain politicians and leading economists would express a desire for a weak US dollar. Yes, our lopsided balance of trade can be aided by a weaker domestic currency, as it makes US goods cheaper for the world to buy, but the root causes of this condition are almost always troublesome. Furthermore, it harms the American consumer because their money doesn’t go as far. In essence, it is a signal that “our economy is weaker than yours.” Hardly bragging rights. For example, as the US was in the midst of the Financial Crisis of 2008/09, the euro, which was created in 1999, hit a high of €1.60 to one greenback. Many Europhiles have since predicted that parity would never be reached again. Lo and behold, the two currencies are now skirting near that level right now, with the euro hitting a two-decade low. This is due to the Fed’s willingness to raise rates until inflation is quelled, while the ECB begrudgingly signaled that it would finally raise rates by 25 basis points in July. The responsible actions on the part of the Fed add to the dollar’s strength, as global investors seek safe haven for their lowest-risk assets. While the US will probably have to battle a recession early next year, at least the Fed will have some fresh ammo; not so much the case in Europe, which is facing a deeper economic trough.
US multinational corporations do like a weaker dollar, as it makes their goods cheaper for the world to buy. The best way for an investor to take advantage of a strengthening dollar is through a bullish dollar ETF, such as the Invesco DB US Dollar Bullish fund (UUP $28), or by adjusting their portfolio toward small-cap US companies, most of whom sell overwhelmingly to domestic customers. In this space we use the Invesco S&P SmallCap 600 Revenue ETF (RWJ $103), a value/core fund which owns top revenue-producing smaller US companies.
Fr, 01 Jul 2022
Market Pulse
Worst first half of the year since 1970, but where do we go from here?
There have been a lot of comparisons to the 1970s floating around recently, and for good cause. After all, many of the same antagonists we faced fifty years ago haunt us today: China, Russia, inflation, high oil prices, and general economic malaise. Then there are the market comparisons. Yes, we have just closed out the worst first half of any year for the S&P 500 since 1970, and for the Dow Jones Industrial Average since 1962. Furthermore, the Nasdaq and Russell 2000 (small caps) just had their worst start to a year--ever. Anyone listening to the doom and gloom in the press and among economists certainly don’t feel much like buying. It is as if the all-but-guaranteed recession at our doorstep will mean the end to life as we know it. The negativism is palpable.
As we have recently noted, the entire decade of the 1970s was not kind to the markets; however, it was not just one big ten-year decline for the indexes. After dropping around 25% in the first half of 1970—eerily similar to 2022—the S&P 500 actually gained back nearly all of its losses on the back half, finishing the year down under 1%. While the Nasdaq didn’t come about until 1971, the same could be said of many of its would-be components back then.
At the end of the first half of this year, the S&P, Nasdaq, and Russell 2000 all found themselves in bear market territory, as defined by at least a 20% drop. The Nasdaq got hit the hardest, falling 30%. Bonds, which are supposed to provide a hedge to market losses, dropped 10.7% in aggregate over the past six months. Investors now seem certain on more rate hikes, a recession, terrible corporate earnings, a continuing war in Ukraine, and stubbornly persistent higher oil and gas prices. In other words, the stock market now reflects the worst of all possible outcomes for the second half.
This has created a condition in which large tech names like Microsoft, Apple, Adobe, and Amazon appear as though they are value plays. And large cap core/value names like Dollar General, Target, Pfizer, Home Depot, and Lockheed Martin have multiples that would have made investors drool last summer. All of these companies have rock solid balance sheets and strong fundamentals, it should be noted. The last time we remember solid companies selling off like this was March of 2020. June, it just so happens, was the worst month in the market since (you guessed it) March of 2020. Fear and gloom have taken over. Historically, with respect to equities, that has nearly always been the time to buy; never the time to panic.
Will the second half of the year be an encore to the second half of 1970? While we can’t say for sure, it wouldn’t surprise us a bit. Nonetheless, protection on positions and a larger allocation to cash (as we await higher rates which will lead to better bond values) are certainly prudent measures to maintain right now.
We, 29 Jun 2022
Hotels, Resorts, & Cruise Lines
Morgan Stanley analyst: Carnival Cruise Lines could go to $0 in worst-case scenario
Every time we write about Carnival Corp (CCL $9), we begin with the disclaimer that we have disliked the company and its shares for some time. A year ago, we wrote about members of senior management talking up the company’s great growth prospects while simultaneously offloading their own shares—at a much higher price than they are today, we might add. CCL shares were selling for $19 at the time. Morgan Stanley analysts have apparently had enough as well. The company maintained its “underweight” rating on the stock (why not “sell”?) while lowering the price target to $7. This helped drive the stock down some 15% at the open, to under $9 per share. Even more disconcerting was the analyst’s bear case scenario for the cruise line: the price of the shares could possibly go to $0. The catalyst for that stunningly bearish call is, primarily, the company’s debt load. Carnival holds some $11 billion worth of short-term debt and $32 billion worth of long-term debt. It has a current market cap of $10 billion. Should an upcoming recession trigger another “demand shock,” it could spell the end of the line as the company would find it very difficult to secure even more funding (at higher rates, we might add). Not everyone is so bearish, however. Six of the 24 major analysts covering the stock have a “buy” rating on the shares. Count us in the Morgan Stanley camp.
Both Royal Caribbean (RCL $36) and Norwegian Cruise Lines ($12) fell nearly double digits in sympathy with Carnival on Wednesday. For investors betting on a cruise line comeback, either of those names would offer a much better play on the industry in our opinion. (Penn does not own any cruise lines within the five portfolios.)
We, 29 Jun 2022
Global Organizations & Accords
Obstacle falls: Turkey agrees to full NATO membership for Sweden and Finland
Considering his deranged mental capacity, Vladimir Putin will never admit to the enormous tactical error he made by invading Ukraine, but it is clearly evident to the rest of the world. Based on the false narrative that Ukraine posed a threat to Russia, he invaded with the expectation of killing the country’s leader, Volodymyr Zelenskyy, and installing his own puppet regime. He has obviously failed in that attempt, but the unintended consequences of his barbaric act can be summed up with one stunning development: NATO is coming to Russia’s northwestern doorstep.
The one obstacle holding back Sweden and Finland’s membership into the military alliance was Turkey, which has been in the group since 1952. Based on the group’s bylaws, any expansion required approval by all member-states. Turkey had opposed the Nordic countries’ ambitions to join due to their respective governments’ support for Kurdish “terrorists” allegedly residing within the two nations. Now, according to Turkish President Recep Tayyip Erdogan, those concerns have been assuaged, leaving a clear path toward membership. Erdogan’s announcement came at the alliance’s Madrid Summit, which can now focus on its plan to rebuild forces in Europe to counter the increased Russian threat. That country has threatened to station nuclear weapons along its border with Finland if the nations were admitted to NATO.
Back in the 1990s, following the fall of the Soviet Union, many misguided critics questioned the need for NATO to remain in existence. Today, it is once again as important as it was during the height of the Cold War.
The final straw which ultimately brought about the fall of the Soviet Union was Ronald Reagan’s Strategic Defense Initiative and the communist nation’s attempt to counter the program. History may well repeat itself: Russia is ill-equipped to counter a strengthened NATO on its border, but Putin will spend critical capital trying to do just that.
We, 22 Jun 2022
Municipal Bonds
Alabama finds underwriters for $725 million worth of tax-free prison bonds
Breaking down a rather complicated series of events, here is what is going on in Alabama with respect to the improvement of conditions for prisoners, and the funding of these upgrades. The state faced a lawsuit from the DoJ which alleged that inmates housed in the state’s prisons were being exposed to “cruel and unusual punishment” due to dilapidated conditions. One such building, the Draper Correction Facility, had been in operation since 1939. To answer these concerns, the state contracted with CoreCivic Inc (CXW $12), a specialty REIT, to build and operate newer facilities, leasing them back to the Alabama Department of Corrections.
To fund the projects the state planned to offer municipal bonds, with the debt being backed by annual appropriations to the Department of Corrections. After backlash over the privately built and managed facilities, Barclays Plc and KeyBanc Capital Markets, the primary underwriters, dropped out of the deal. A CoreCivic spokesperson called the activists “reckless and irresponsible” for (apparently) preferring to have inmates remain in the outdated facilities rather than support a public-private enterprise.
Now, the deal has a new set of underwriters: Alabama-based Stephens Inc and The Frazer Lanier Company will co-manage the sale, along with help from Raymond James, Wells Fargo, and several other backers. The bonds will carry an Aa2 rating by Moody’s and a AA- rating by S&P Global. The yield on these tax-free general obligation (GO) bonds has yet to be announced, but they should hit the muni bond marketplace within the next month.
As rates bottomed out and the world was in the midst of the pandemic, there was a dearth of new muni bond issues. While the US faces a probable recession early next year, higher rates and the need to rebuild the American infrastructure should present investors with a huge wave of new tax-free bonds. Who knows, they may even get close to the 5% range many of them offered income-oriented investors back in the early years of the century. We would settle for a 3% tax free rate.
We, 22 Jun 2022
Beverages, Tobacco, & Cannabis
In blow to Altria, the FDA is poised to order Juul e-cigarettes off the market
In a rather stunning turn of events, the Food and Drug Administration is preparing an order that would force Juul Labs to take its popular e-cigarettes off American shelves. This follows a two-year review of the products, specifically the fruit flavored blends. The FDA’s ruling serves as a capstone to the great downfall of Juul, which was flying high back in 2018 as its products soared to the top of a frenzied market. In what turned out to be a critical miscalculation, 2018 also happens to be the year that tobacco giant Altria (MO $41) decided to take a 35% stake in the company. What might have seemed like a reasonable move to diversify away from its traditional cigarette products (Altria owns the popular Marlboro brand, among others), the company bought in at the worst possible time. Shares of MO had been holding up quite well in 2022 thus far, sitting at where they were trading going into the year. As soon as the news was announced, shares fell 10% and remained stuck there. The 2018 deal valued Juul at around $35 billion; just prior to the FDA decision, the company had a valuation of roughly $5 billion. Adding insult to injury, the FDA also indicated that e-cigarettes made by rivals Reynolds American and NJOY Holdings would be allowed to continue selling their tobacco-flavored vaping devices. Juul lost around $259 million on sales of $1.3 billion in 2021.
Somewhat surprisingly, there are still some Altria bulls out there. In addition to a fat 7.88% dividend yield, the company has maintained annual revenues of between $24 billion and $26 billion per year for the past ten years and has generated positive net income in all but one (2019) of those years. We wouldn’t touch the stock, especially considering the firm spun off its international division—Philip Morris International (PM $99)—back in 2008.
Tu, 21 Jun 2022
Currencies & Forex
Japanese yen falls to a 24-year low against the dollar
If you have been considering a Japanese getaway, now might be the time to book that trip. As of this week, one US dollar will buy 135 yen, up from slightly over 100 at the start of the year. Why does the world’s third-most-traded currency continue to plummet? Because the Bank of Japan’s governor, Haruhiko Kuroda, stands firmly by his commitment to maintain a -0.1% short-term interest rate while the rest of the developed world is raising rates to tamp down runaway inflation. Angering the Japanese public with his recent comments that consumers were becoming more tolerant of higher prices, nearly 60% of the country’s residents now find him unfit for the job. A weak currency due to an easy money policy means that goods and services cost a lot more for consumers within that country, and a lot cheaper for foreign visitors thanks to the generous exchange rate. Yes, a weak currency promotes stronger exports because the goods are less expensive for the world to buy, but the tradeoff can be brutal for the family budget. For a country which imports 94% of its energy, soaring prices and a weaker yen have most cheering the fact that Kuroda is in the final year of his second term as governor of the central bank.
For investors, the yen’s weakness also makes the Japanese stock market look more attractive thanks to the currency disparity. One way to potentially take advantage of this weakness is through the WisdomTree Japan Hedged Equity Fund (DXJ $64), which is up 2.35% in value this year against the backdrop of an 18% decline in the MSCI All-Cap World Index, Ex-US. Some of the fund’s top holdings are Toyota Motor Corp, Nintendo, Mitsubishi, and Canon.
Tu, 21 Jun 2022
Food Products
Kellogg to break into three companies; does anybody care?
Five years ago, we wrote a brief piece on Kellogg’s (K $69) hiring of a new CEO after floundering for years under chief executive John Bryant. We expressed doubt that Steven Cahillane would be any different. At the time, K was sitting around $70 per share. Confirming our concerns, the shares have barely budged since.
So, what does a mediocre company do to move the needle on its share price? Announce a plan to split into multiple entities, of course. Sure enough, shares of Kellogg opened the week up nearly 4% after management announced it would break into three pieces: a global snacking company, a North American cereal company, and a plant-based food company, names to be decided at a later date. We are not talking about GM spinning off its financing unit (remember GMAC?) or GE spinning off its jet-leasing unit; we are talking about a food company spinning off…food companies. Aren’t all three units within the core competencies of a packaged food manufacturer?
Right out of the mediocre manager playbook, CEO Cahillane said that the standalone companies will now be able to “direct their resources toward their distinct strategic priorities…and create more value for all stakeholders….” What a bunch of gobbledygook. Milquetoast executives throw out terms like “unlock value” as if a split would magically open corporate treasure chests which the crackerjack team had just been unable to open in the past. Really? All of the talent at your fingertips and you just couldn’t crack the code, but now you will be able to? What will be fun to watch next is how many middling analysts get excited by this move and upgrade the shares. Insert eye roll emoji here.
Full disclosure: We own Kellogg’s chief competitor, General Mills (GIS $68), in the Penn Global Leaders Club.
Th, 09 Jun 2022
Aerospace & Defense
BWX Technologies wins DoD contract to build first advanced microreactor in US
Aerospace & Defense firm BWX Technologies (BWXT $54) has been awarded a contract by the United States Department of Defense to build a first-of-its-kind advanced nuclear microreactor. Under codename Project Pele, these reactors, which can be transported by modules aboard trucks, trains, aircraft, or ship, are designed to be assembled on-site and operational within 72 hours. The reactors can provide a resilient power source for a variety of operational needs, eliminating the need for fossil fuels delivered by often extensive supply lines. The possibilities are endless, from immediate power needs at remote locations, to disaster response and recovery around the world. The prototype will be built under a contract valued at around $300 million and should be completed and delivered by 2024 for multiyear testing at the Idaho National Laboratory.
As we move away from fossil fuels, these advanced concepts are going to come to fruition, and the industry is full of potential going forward. A lack of understanding and a fear of the word “nuclear” may slow the process, but the safety attributes of these devices will eventually allow them to become embraced by politicians and the general population. BWX Technologies is a $5 billion specialty manufacturer and service provider of nuclear components. Additionally, the Lynchburg, Virginia-based firm provides uranium processing, environmental site restoration services, and other solutions to the nuclear power industry. With average annual revenues around $2 billion, the company is perennially profitable.
We, 08 Jun 2022
Renewables
Solar stocks surge on Biden’s decision to hold off on new solar tariffs for two years
Investing in the solar energy movement has always been fraught with danger, with the slightest shift in sentiment or any new legislative (or executive) actions generally causing an oversized reaction by investors in the industry. The latest news on the latter front, however, had solar enthusiasts cheering. The Biden administration announced there would be no new tariffs placed on solar panel imports for the next two years. There had been a major push underway by the US Department of Commerce to investigate whether global solar panel suppliers were using deceptive tactics to avoid getting hit with tariffs on goods emanating from China. That push, along with supply chain constraints, led to a major slowdown in solar panel installation in the US. In a decision we find more impactful on the US economy, the president also signed three executive orders designed to increase domestic production of solar panels. Tesla, which had been in partnership with Panasonic to produce such panels at a Buffalo, New York facility, has since exited the production side of the business and now focuses solely on installation of the systems.
The Invesco Solar ETF (TAN $78) has been on a roller coaster ride this year, dropping 25% before rebounding to flat YTD. The new legislation, along with soaring energy prices, could provide a catalyst for the companies within this fund in the second half of the year. Enphase Energy (ENPH $214) is the largest of the fund’s 42 holdings, with a 12% weighting.
While we do not currently own any direct solar plays in the Penn strategies, we do own Tesla (TSLA $737), a major renewables player and lithium-ion battery manufacturer, in the New Frontier Fund.
We, 01 Jun 2022
Monetary Policy
The Fed will finally start reducing its $9 trillion balance sheet this month
It is hard to imagine, but just nineteen years ago, in 2003, the Federal Reserve had around $700 billion of assets on its balance sheet. That amount, it should be noted, is one component of the national debt. After the financial crisis of 2008-09, the balance sheet more than tripled, hitting $2.25 trillion. At the time, those figures were hard to fathom. Quadruple that amount and we have the current size of the Fed balance sheet. June is the month the figure finally begins going down.
Four large Treasury securities held by the Fed, worth $48.25 billion, are maturing this month. In previous months, the Fed would have reinvested the proceeds, purchasing an equal amount of new securities. Instead, it will let $47.5 billion simply run off the balance sheet, only reinvesting the final $1 billion or so. It will continue this process until September, at which time it will double the amount allowed to mature without reinvestment, reducing the balance sheet by $95 billion per month. This may seem like a rapid pace, but it will only amount to a $522 billion reduction by the end of this year, and an additional $1.1 trillion by the end of 2023. If the downward trajectory continues, the Fed balance sheet will be back to pre-pandemic levels by the summer of 2026.
That date may seem far in the future, but there is something even more unsettling about the entire process: we will probably never get there. The continued reduction is contingent upon the economy humming along between now and June of 2026. Does anyone really believe that yet another “urgent crisis” will fail to manifest? Our best hope is that the balance sheet is reduced by a few trillion dollars before the Fed is forced to go on its next buying spree.
Rarely are two of the Fed’s three main tools used in tandem, at least to this degree: an increase in short-term rates plus a simultaneous reduction of the balance sheet through open market operations. These two actions will undoubtedly have an impact on the housing market specifically, and the overall economy in general. Hence, the doubt expressed by economists that the Fed can execute a “soft landing” as opposed to fomenting a recession. A fascinating case study to watch.
Tu, 31 May 2022
Food & Staples Retailing
The dollar stores provide a much-needed positive catalyst for the markets
Certainly with respect to retailers, it seems all we have been hearing about lately is margin contraction. Consumer Staples companies, which sell the goods people need under all economic conditions, have been maintaining their gross sales levels, but their net profits have shrunk due to higher input, labor, and transportation costs, as well as disruptions in the supply chain. In other words, inflation is killing their bottom line.
Assuming the so-called dollar stores (Dollar General and Dollar Tree primarily) would suffer the same fate at their larger brethren such as Walmart and Target, these companies had their respective share prices hammered in sympathy. All the bad news was priced in before the numbers ever came out. This was true more so for Dollar Tree (DLTR $164), which carries a larger percentage of discretionary items than does Dollar General (DG $228).
Lo and behold, both companies surprised to the upside, sending shares of DG and DLTR up by double digits. Dollar General announced revenue of $8.8 billion, earnings per share of $2.41, and a negligible decline in same-store sales. The company also raised its full year sales guidance and maintained its bottom-line income projections. Dollar Tree posted revenues of $6.9 billion and earnings per share of $2.37, also beating analysts’ predictions, and raised its full year guidance.
How are these low-cost darlings able to withstand inflation better than their larger competitors? Primarily, the answer revolves around management’s effective use of inventory tactics to preserve profits. Dollar General CEO Todd Vasos, for example, explained that the company can shift to substitutes when certain goods go up in price. They have also added self-checkout lanes to over 8,000 stores and have plans to turn another 200 locations into self-checkout only, thus reducing labor costs. For its part, Dollar Tree’s decision to raise the price of its $1 items to $1.25 hasn’t had any detrimental effect on sales. Finally, as could be expected, higher prices are driving more and more Americans to visit these stores; names which they may have shunned in the past. Expect this trend to continue through next year, as the US faces a probable recession.
We have long regarded Dollar General as one of our most defensive plays in the Penn Global Leaders Club. Even after the economy troughs in 2023 or 2024 and begins a new expansion phase, the unique value proposition of the company—such as where the stores are located—means it will probably remain a core holding in the strategy.
We, 25 May 2022
Fintech
AI-powered ETF is facing its first major test, and the results have not been pretty
We recall being intrigued about five years ago when we heard of the AI Powered Equity ETF (AIEQ $32), the so-called robot-managed exchange traded fund. This automated, data-driven fund would “harness the power of IBM Watson to equal a team of 1,000 research analysts, traders, and quants working around the clock.” Using artificial intelligence instead of human brainpower, predictive models would be built on some 6,000 US companies. These models would analyze millions of data points across news, social media, financial statements, and analyst reports to build a more efficient fund. Between 30 and 200 companies with the greatest growth potential over the following twelve months would be purchased, with adjustments being made constantly. Truly a fascinating concept.
It is always a good idea to let concepts prove themselves before jumping in, so we held off on adding AIEQ to the Penn Dynamic Growth Strategy—our ETF portfolio. Watson is certainly an incredibly powerful tool which may enhance a plethora of different industries, but wasn’t it the machine behind our weather app which we were less-than-impressed with? Perhaps Watson could have even predicted how AIEQ would perform in a downturn, but we wanted to find out the old-fashioned way.
Unfortunately, the fund got a chance to prove itself following the worst market start to a year since 1970. Based on the rather impressive breakdown of holdings (roughly an equal representation in Health Care, Industrials, Technology, and Consumer Cyclicals, followed by Financial Services, Consumer Defensives, and Basic Materials companies), the benchmark for the fund would be the S&P 500. While that key market benchmark has given up around 17% year-to-date as of this writing, AIEQ is down 23.84%. We expanded the scope of our comparison to include the Dow Jones Industrial Average (30 holdings), the NASDAQ (primarily tech names), and the Russell 2000 (small-cap proxy). Only the NASDAQ composite, with its 27% loss, underperformed the fund. The narrative was excellent; unfortunately, the results were not. Back to the drawing board.
The Penn Dynamic Growth Strategy (PDGS) is currently comprised of 25 holdings; overwhelmingly ETFs (due to their intraday liquidity, lower general costs, and other factors), and a couple of open-end mutual funds which we rate as exemplary. The Strategy uses a core/satellite approach, with the satellite funds being more tactical in nature (Invesco DBA Agriculture ETF is a great example). The PDGS is actively managed, with changes being made based on the economic, investment, and geopolitical environment.
We, 25 May 2022
Interactive Media & Services
Snap shares just fell 43% in one day; in 2017, we called the company’s share class structure a sham
After social media company Snap (SNAP $13) lowered its outlook for the year—ultimately causing shares of Snapchat’s parent company to fall 43.08% in one day—we immediately began perusing our past notes on the firm. Our first comments came in February of 2017 as the company was about to begin its IPO roadshow. Setting a price target of between $14 and $16 per share, the company would immediately have a $20 billion market cap in what would be the largest US tech offering since Alibaba (BABA $82) went public in 2014. We urged investors not to bite. The roadshow was such a success that the IPO shares were more than ten times oversubscribed. They ultimately priced at $17.
Our next note on Snap came just a month later, in March of 2017. This time we said that investors were getting a raw deal with respect to the share class structure. Get this scheme: The company would sell schmucks like us Class A shares, which came with no voting rights but did “entitle” buyers to attend the annual shareholders’ meeting and “ask questions.” Gee, thanks. Executives of the company could acquire Class B shares, which came with one vote each, while Snap’s founders would own the coveted Class C shares which came with ten votes apiece. Talk about some fancy financial engineering.
The catalysts for our other notes on Snap were earnings reports. In all but one case, shares had plummeted on lower-than-expected numbers or worse-than-expected guidance. The latter was the cause for Tuesday’s 43.08% drop, taking the shares down to $12.79, or 25% lower than the $17 per share initial offering price. What a mess.
SNAP shares now sit 85% off their September 2021 highs. Some might see a bargain; we still see an aristocracy in which the company’s rulers have no idea what they are doing.
Mo, 23 May 2022
Market Pulse
Consumer staples fell dramatically last week, but the Dow is attempting a comeback
If there was one positive sign in this five-month-long anxiety-riddled market tumble, it had been the fact that consumer staples—those stolid, earnings-rich companies that sell goods people need under all economic conditions—were holding their own. That changed last Wednesday after Target (TGT $155) shocked the market with news that profit margins were getting seriously crimped by high inflation—from higher fuel costs to a spike in commodity prices. This exemplary company, which was up around 300% since we added it to the Global Leaders Club, lost one quarter of its value in one day; its worst one-day hit since 1987. And it wasn’t just a Target problem. The prior day, Walmart’s (WMT $122) earnings showed the same challenges, pushing WMT shares down 11%. Ironically (or not), that was also their worst single day since 1987.
We all know what happened in 1987. I was in the US Air Force rather than a cushy chair at an investment firm back then, but I remember the fear being palpable. There really wasn’t a single major catalyst that would explain away the massive market drop, which was part of the problem. Investors feel better if they can point to a viable reason for a system shock, and there wasn’t one in October of 1987 (though there was a confluence of events, much like today). Many investors made the worst possible mistake that month: they began selling even their best positions. Over the course of the next six months or so, the Russell 2000 (small caps) had rallied 37%, the NASDAQ was up 32%, and both the S&P 500 and Dow were up 20%. Those who sold in October missed a remarkable rally right around the corner.
This is not March of 2000. The current bear market much more closely resembles the one which occurred in the fall of 1987. Inflation is real, and the Fed will do what it takes to get it under control (raise rates and reduce the balance sheet), which may push the economy into a mild recession next year. But we wouldn’t be surprised to see the same type of rally occur in the second half of this year that began on 7 December 1987. Friday afternoon and Monday’s follow through may portend that coming rally: the Dow was down over 600 points with a few trading hours left in the week, only to rally into a positive close. That rally continued Monday, with the Dow finishing up 618 points—or more than 1,200 points higher than Friday afternoon’s low. Of course, we have no way of knowing whether the bottom of this current market downturn is in, but it is refreshing to see buyers jumping back in after being pummeled for seven straight weeks.
We, 18 May 2022
Editor's Corner
Don't wave the American flag while watching your cargo ships roll in...
We have preached repeatedly about the irresponsible manner in which so many American companies became overly reliant on a communist nation with respect to trade; how executives became seduced by a massive population for the sale of their goods, and a dirt cheap labor force for the production of those goods. Distressingly, it took a global pandemic originating from that country for many of these companies to (finally) look at reducing their country risk. Still, the narrative these firms weave for public consumption is enough to make us choke.
One major US retailer has a "Made in America" campaign running to proudly proclaim how the goods they sell are made in the US. They use a flower grower as an example. Try finding a flashlight or a can opener at this retailer made anywhere around the globe other than China. You won't.
We are not xenophobes by any stretch, and we still support companies which source from factories in virtually any country outside of China, Russia, North Korea, or Iran. That being said, more can and should be produced domestically. Especially with the Fourth Industrial Revolution at our doorstep, with many American technology firms and universities leading the charge. What can we, as consumers, do to help the process along? We can get in the habit of checking where the goods we buy are actually produced, and providing feedback via direct contact and social media when we don't like what we see.
Tu, 17 May 2022
Construction Materials
Armstrong Flooring paid out $4.8 million in bonuses to execs—then declared bankruptcy
The world of home flooring is one of those murky, opaque realms in which performing due diligence is extremely difficult—often by design. Take, for instance, a home buyer who wants to assure their builder uses wood flooring sourced from anywhere but China. Good luck. The company may be American, and their final products may be designed and even produced in the US, but that doesn’t mean the “cores” of factory-made materials didn’t come from the communist nation. Which leads us to a recent story about Armstrong Flooring (AFI $0.32).
While we couldn’t readily determine what percentage of the company’s wood flooring materials emanated from China, at least they had the courage to admit—clearly on their website—that they do have a flooring plant in the Jiang Su Province of that country—in addition to plants in the US and Australia. We point this out because the company cited supply disruptions and higher transportation costs as two of the reasons it was forced to declare bankruptcy this past week. Never fear, though, as the company fully plans to continue operating while in bankruptcy while it devises plans to emerge. Armstrong told the Delaware court that it owed some $300 million to creditors and has roughly $500 million worth of assets, giving it a debt-to-equity ratio of 61.5%—up from 28.3% in March of 2020 and 17% in September of 2018.
We are happy for the employees of Armstrong, but we must wonder how happy they were to learn that senior executives received some $4.8 million worth of annual incentives just before the company declared bankruptcy; incentives that would have almost certainly been disallowed by the courts. An Armstrong attorney told US Bankruptcy Judge Mary Walrath that these execs (the CEO and at least three others) were key in securing funding, but aren’t the employees key as well? It should be noted that the company’s CEO was the “chief sustainability officer” at Mohawk Industries between 2017 and 2019. It should also be noted that Armstrong had 1,600 employees as of the end of 2021. That $4.8 million would have meant a nice bonus of $3,000 for each, and we will even include the top executives in that package.
We love American free enterprise, which is why we must hold all companies to the highest possible standard. We are not accusing Armstrong of doing anything illegal or even unethical, but companies that wave the American flag and wax eloquent about sustainability had better make sure they are practicing the ethics they preach. The last year Armstrong Flooring turned a profit was 2016, which happens to also be the year that Armstrong World Industries (AWI $84) offloaded the firm as its own publicly traded company, trading in the $19 range. These decisions don’t happen in a vacuum, and it behooves investors to look well beyond the glossy ads and company websites when reviewing a company for possible purchase. Pull up the rug and see what’s underneath, so to speak.
Tu, 17 May 2022
Global Organizations & Accords
Turkey’s objection to Sweden and Finland joining NATO is all about personal gain
Turkey has never been a faithful ally to the West. While desiring to be considered a mainstream Western European country, it has acted in the best interest of the Middle East. While demanding arms from the United States, it gladly accepts a missile defense system from Russia. President Recep Erdogan “massages” the country’s constitution to remain firmly ensconced in power while political opponents are dealt with swiftly and harshly. Now, as two truly European countries, Sweden and Finland, begin their application for formal membership into NATO, Erdogan runs interference, knowing full well that all current members must approve their entry.
Erdogan’s position, as usual, has nothing to do with the common good and everything to do with his own greed and self-enrichment. While claiming that the two Nordic countries need to clamp down on “Kurdish terrorist activities” in the region, he has no problem inciting—or outright approving—terrorist activities at home. Knowing full well that his approval is needed, expect this would-be dictator to successfully milk a host of concessions out of Europe before bestowing his magnanimous blessing on a strengthened NATO. While his good friend Putin won’t be happy with this ultimate decision, Erdogan will have enriched himself, yet again, by playing the dirty merchant of Europe.
On a scale of 1-9 on the democracy meter, Turkey has an abysmal rating of 4.35—more in the proximity of a Russia or a China as opposed to those of its Western neighbors. This won’t change as long as Erdogan is in power, and we don’t see him loosening his grip on that power any time soon.
Tu, 17 May 2022
Airlines
JetBlue is going hostile for Spirit, and it is a complete waste of time
We know how much the big four US-based airlines—American, United, Southwest, and Delta—were financially impacted by the pandemic, and quite understandably so. It follows, then, that the smaller players would be in even rougher shape following the two-year nightmare. Consolidation within the industry among these smaller players makes sense, and we reported this past February of Frontier’s (ULCC $9) plans to acquire Spirit Airlines (SAVE $19) in a deal valued at $2.9 billion ($6.6 billion with debt added in). Another small-cap player, JetBlue (JBLU $10), felt threatened by this move (rightfully so), and made its own offer to buy Spirit for $3.6 billion in an all-cash offer. Interesting, as the market cap of JBLU is just $3 billion. Not seeing a path toward regulatory approval, Spirit said thanks, but no thanks.
Which leads us to JetBlue’s current tactic: going hostile. Denouncing Spirit’s management team for refusing to perform due diligence with its offer, the company said it will actively pressure SAVE shareholders to reject the Frontier bid at a 10 June meeting. Bizarrely, JetBlue said that it would raise its $30 per share offer to $33 per share if management comes back to the table and provides the financial information being requested. That does nothing to alleviate the real problem: we see no circumstances under which the antitrust forces at the Department of Justice and the Federal Trade Commission will allow the JetBlue/Spirit deal to go through. In fact, Spirit CEO Ted Christie has explicitly stated that this may simply be about foiling the Frontier deal. We believe his argument will carry the day with shareholders. A combination of any two of these players would create the country’s fifth-largest airline, leapfrogging over Alaska Air Group (ALK $47).
JetBlue has a host of problems which Spirit wants nothing to do with, to include a worst-in-class, 62% on-time rate. Furthermore, the carrier is already in the Justice Department’s crosshairs, as the agency sued to block the airline’s regional partnership with American Airlines last year. Ultimately, we see the original Frontier acquisition getting approved, which will make JetBlue’s position in the industry even more tenuous.
Mo, 16 May 2022
Aerospace & Defense
Ryanair’s fiery Irish CEO loves Boeing, but “management is a group of headless chickens”
We love CEOs who are true leaders, are interesting characters in their own right, and who don’t feel the need to insert themselves into the political arena to score sycophantic points with super-sensitive stakeholders. Irish low-cost carrier Ryanair’s (RYAAY $81) fiery CEO, Michael “Mick” O’Leary, easily checks all three boxes. When Boeing’s (BA $126) hapless CEO, David Calhoun, is on one of the business networks, we mute the TV to avoid hearing the canned hot air delivered with a strained jumpiness; when we see O’Leary’s face, we always listen with rapt attention. A little background on Ryanair’s history with Boeing: the company has always been one of the aircraft maker’s most loyal customers. A European airliner with a fleet of 471 Boeing aircraft, 145 more on order, and just 29 Airbus (European) aircraft. That made us applaud all the louder when, during a Ryanair earnings call, O’Leary blasted Boeing’s management team and its inability to make good on orders. Saying they need to “bloody well improve on what they’ve been doing…,” he added that, “At the moment, we think the Boeing management (team) is running around like headless chickens.” Hey, that’s just what we have been saying ever since Calhoun anointed himself—with the Board’s blessing—CEO! Hear, hear! How refreshing to have a leader who tells it like it is. We could quickly list a dozen major US companies which could use someone like O’Leary at the helm.
Our minuscule impact on Boeing is limited to not owning it in any of the Penn strategies. We have to believe that the words of a Boeing cheerleader and major customer would have some major sway in the industry. Then again, Boeing has proven itself to be quite tone deaf since Jim McNerney left the firm in 2015, so who knows. It is probably the customer’s fault, right?
Mo, 16 May 2022
East & Southeast Asia
For the US, there was only one direction to go in the Philippines after Duterte
Many of us vividly recall the presidency of Ferdinand Marcos, and the endless stories written by the American press about his wife Imelda’s shoe collection. We thought back to his regime, which ended with a thud in 1986, this past week as his son, Ferdinand “Bongbong” Marcos Jr., notched a landslide election victory to become the next president of the Republic of the Philippines. For the United States, the importance of having a strong ally in this strategically critical region of the world cannot be overstated. Once one of America’s staunchest advocates in Southeast Asia, the country moved decidedly away from its old friend—and toward China—under President Rodrigo Duterte’s six-year rule. Until a last-minute change of heart, in fact, Duterte had all but cut military ties with the US by threatening to end the longstanding Philippines-United States Visiting Forces Agreement (VFA).
Along with the election of Marcos Jr., Filipinos sent a clear message that they do not wish to be subservient to their would-be Chinese masters. Overwhelmingly, voters expressed their unease with Duterte’s cozying up to China’s Xi Jinping. For its part, American military exercises in the South China Sea have enraged China, and the country’s ruling communist party has done everything it could to poison the relationship—not a difficult task with the mercurial Duterte in power. Now, with a huge favorability rating he does not wish to squander, we can expect Marcos to govern in a manner more conducive to overall stability in the region, and that is not what China had been hoping for.
Even though Duterte’s own daughter is the vice president-elect, this election was a clear victory for America’s interests in the region; as much of a victory, in fact, as the March election of Yoon Seok-youl in South Korea. Controlling the South and East China Sea regions are a linchpin to China’s grand ambitions, and the citizens of South Korea and the Philippines have indicated precisely what they think of those plans.
We, 11 May 2022
Automotive
Before a meme stock-like comeback, Carvana shares dropped 92% in nine months
Back in August of last year, used auto platform Carvana (CVNA $30) could do no wrong. Despite a lack of positive net income in any given year over its ten-year history, the company’s sales growth was spectacular, growing from $42 million in 2014 to $11.77 billion in 2021. Investors rewarded the competitor to such names as Carmax (our favorite in the space), Cars.com, and Autotrader by driving CVNA shares up to an intraday high of $376.83 on 10 August 2021. Fast forward precisely nine months, and traders are fleeing the maker of the highly unique Carvana Vending Machines. Shares hit a new 52-week low of $29.13 on the 11th of May after management announced a 12% reduction in its workforce; that price represents a 92% drop from the August highs. Another reason investors soured on the company was news of its acquisition of Adesa US, the wholesale vehicle auction division of KAR Auction Services, for $2.2 billion. Not due the acquisition itself, but the financing scheme: Carvana would be issuing $3.3 billion in junk bonds carrying a yield of 10.25%. In decades gone by, that might seem fine for a junk bond rate; today, it seems too good to be true (for bond buyers). Longtime Carvana investor Apollo Capital Management agreed to secure some $1.6 billion of that paper. As for the layoffs, which equate to roughly 2,500 employees, the company told the SEC that senior management would not collect any salaries for the remainder of the year to help fund the severance packages.
We feel for the investors who bought shares in the company last August. Price targets now range from $40 to $470 among analysts on the Street, but we wouldn’t touch the shares right now—or the 10.25% bonds. The company’s cash burn rate will be hard to sustain, even with the new round of funding.
Fr, 06 May 2022
Week in Review
Despite a hopeful FOMC day, markets suffered their fifth straight week of losses
It would be nice just to focus on Wednesday. Yes, that was the day the FOMC raised rates 50 basis points, the most since May of 2000, but the markets cheered when the Fed Chairman took a 75 basis point rate hike off the table. Between that comment and his belief that the Fed can pull off a “softish” landing, markets took to rallying: the Dow Jones Industrial Average gained 932 points and the NASDAQ rose 3.19%. Unfortunately, there were four other days in the trading week. Like the happy partygoer who wakes up the next day and asks, “what the * was I thinking?” the major benchmarks all made a swift change in directions. The Dow, in fact, shed over 1,000 points for the first time since the spring of 2020. Even a really strong Friday jobs report seemed to irritate the markets. The week’s drop signified the fifth straight down week for the benchmarks, and the worst start to a year since 1970. And that is not a decade we wish to see repeated. We said to expect wild market fluctuations and plenty of volatility during the rate hike cycle, and that certainly manifested itself this past week. The good news? Plenty of great, revenue-generating, industry-dominating American tech giants are now selling at bargain basement valuations. And for the record, we believe investors will be pleased with where the major indexes end the year—especially from the current vantage point.
Fr, 06 May 2022
Under the Radar
Hanesbrands Inc (HBI $12)
I rediscovered Hanes while on a search for socks, t-shirts, and briefs that were actually manufactured somewhere other than China. Sadly, that is a lot harder task that one would assume. In the end, Hanes was the one brand which came shining through. Channeling my inner Peter Lynch, I decided to do a deeper dive into HBI stock. Founded in 1901 and based out of Salem, North Carolina, Hanesbrands includes the Hanes, Champion, Playtex, Maidenform, Bali, and Bonds (Australia) labels. Importantly, this company is vertically integrated: it produces over 70% of its goods in company-controlled factories across some three dozen countries. Unlike a troubling percentage of other American manufacturing firms, it never hitched its wagon to communist-controlled China. In addition to its vertical integration (a major plus considering current supply chain issues), management has successfully created a vibrant omnichannel network. The company sells wholesale to discount, midmarket, department store, and direct to consumer via an impressive online and digital presence. At $12 per share (down from a high of $34.80 and sitting at a 52-week low), this $4.4 billion small-cap value company has a forward P/E of 7.5, a tiny price-to-sales ratio of 0.6520, and a fat dividend yield of 4.72% based on current share price. With a new strategic plan called Full Potential, CEO Steve Bratspies—formerly an Executive Vice President and the Chief Merchandising Officer at Walmart—has a clear vision of where he wants to take the company. We are betting he succeeds. We would conservatively value HBI shares at $24 apiece.
Th, 05 May 2022
Monetary Policy
Fed raises rates most in one meeting since May of 2000; let’s hope the trend continues
In May of 1999, twenty-three years ago this month, the upper limit of the federal funds rate (FFR) was sitting at 4.75%. In an effort to prevent runaway inflation and cool the scorching-hot US economy, the Fed began raising interest rates. It capped that effort one year later, in May of 2000, when it raised rates 50 basis points, from 6% to 6.5%. Why is that history lesson important? Because, to staunch already-runaway inflation, the Fed just made its biggest move since that meeting twenty-two years ago: the Committee spiked rates (upper limit) from 0.50% to 1%. The history lesson also brings home another point. When rates topped out at 6.5%, the central bank had an enormous amount of room to tighten as it worked to avoid recession, which it did (lowering rates) between 2001 and 2003. The accompanying graph provides a wonderful visual for the difference between then and now. Rates must continue to go higher. At the very least, we need to get back to the average FFR of 2.5%. To do so in a timely manner would entail another 50 basis point hike at both the June and July meetings, respectively, and a 25 basis point hike in both September and November. Unless inflation shows real signs of cooling, that is the scenario we can expect to play out. We can also expect a few hikes in 2023, bringing the FFR up to 3% or higher.
In addition to the hike, Fed Chair Jerome Powell also announced a systematic paring back of the Fed balance sheet, which remains just shy of $9 trillion. More perspective: that debt load sat well below $1 trillion back in 2000. Starting in June, that astronomical figure will be reduced by $95 billion per month, equaling a $1.1 trillion reduction by May of 2023. Again, a good start.
With any luck at all, inflation can be tamed without the rate hikes pulling us into a recession until 2024—though the latter scenario may well play out in 2023. The longer we can keep a recession at bay, the more ammo the Fed will have leading into the next tightening cycle.
We, 04 May 2022
Education & Training Services
Textbook company Chegg’s market drop following its earnings release was irrational
Despite the fact that we like Education and Training Services company Chegg (CHGG $17), we knew it was overvalued when the shares were trading north of $100. Now, after falling some 85%—yes, you read that right—the shares are decidedly undervalued. In fact, one would almost have to assume the company were ready to go out of business to still be bearish at this level, and we expect the company to be around for a long time to come. The catalyst for the pummeling wasn’t rotten numbers for the quarter, it was forward guidance. In fact, Chegg’s revenue rose 2% year-over-year, to $202.2 million in the quarter; and adjusted net income rose 8%, to $50.1 million. Earnings per share easily beat the Street’s estimate of $0.24, coming in at $0.32. Finally, subscriber growth—that wonderful, “sticky” revenue stream—rose by 12%. The problems began to appear when management began talking. Claiming that more people were now focusing on “earning over learning,” CEO Dan Rosensweig warned of rough quarters ahead, lowering full-year revenue guidance from the $830M-$850M range to $740M-$770M. Those figures, and a similar reduction in expected earnings, helped the stock crater to a new 52-week low, falling 30% in one day.
Chegg has been aggressively growing its international footprint, offering a direct-to-student learning platform which should continue to increase its market share in a solid industry: education services. While we don’t currently own the company, we believe the shares could easily fetch $35 before long. That would give investors a 100% reward for taking on the risk of owning this small-cap name.
Tu, 04 May 2022
Trading Desk
Opening industrial automation leader within the New Frontier Fund
This current market downturn has been indiscriminate: it has taken some fine companies down to valuations not seen since spring of 2020. We are adding a great but beaten down industrial company to the New Frontier Fund. When you think of automation and the factory of the future, this mid-cap gem should come to mind. Members, log into the Trading Desk for details.
Mo, 01 May 2022
Economics: Goods & Services
Yes, the US economy contracted in the first quarter of the year; but no, it won't become a trend just yet
Technically, a recession is defined as two consecutive quarters of economic contraction within an economy. How concerned should we be, then, that the US economy shrunk by 1.4% in the first quarter? In our opinion, not very. While the headline number is concerning, some comfort can be found by reviewing the internal components of the Commerce Department's report, which was released last week. Government spending actually slowed, which may not be a good thing in the eyes of economists, but in the "real world," it signals at least a modicum of fiscal responsibility. The trade deficit soared in the first quarter on a surge in imports; certainly not a desirable condition, but one which shows the American consumer is still flush with cash and willing to spend. Visualize all of those cargo ships stuck at US ports finally offloading their goods. For all of the concern over inflation, higher prices didn't seem to mute consumer spending last quarter. Fixed investment—economic jargon for the purchase of physical assets such as machinery, land, buildings, and other hard assets—grew a whopping 7.3% in Q1, versus a 2.7% growth rate in the same quarter of last year. Hardly a sign that businesses are buckling down in anticipation of a pending recession. In short, don't expect a consecutive contraction when the Q2 GDP numbers are released in July.
In the past, slowing GDP figures would have certainly played a major role in the Fed's decisions on rates. However, with runaway inflation taking center stage, we still expect a slew of rate hikes this year. By the time the next recession rolls around, probably at some point in 2023, expect more normalized long-term interest rates—which we would anticipate being in the 4.50% range. That is a good thing, as it would give the Fed something to work with should it need to begin loosening once again.
We, 27 Apr 2022
Aerospace & Defense
David Calhoun will never run out of excuses for Boeing's problems; will shareholders ever run out of patience with him?
It was yet another disastrous quarter for formerly-great American aerospace giant Boeing (BA $152). Against underwhelming expectations for $15.9 billion in sales and a $0.15 per share loss, the company brought in just $14 billion in revenue (a 12% decline from the same quarter last year) and had a loss of $2.75 per share (an 80% larger loss than the same quarter last year). Boeing shares proceeded to drop some 14%, to their lowest level since October of 2020, giving the company a smaller market cap than European rival Airbus (EADSY $27) for the first time ever. Even the cash burn was worse than expected, with Boeing blowing through some $3.6 billion versus expectations for a $3 billion cash burn. The company has now missed analysts’ expectations in nine out of the last twelve quarters. Watching hapless CEO David Calhoun being interviewed by CNBC’s Phil LeBeau was painful. With an unsure, shaky voice, he blamed the quarter on everything but the management team—even citing the company’s last Air Force One deal as a reason for the horrible quarter. (If it were so bad, why did you make it?) We knew Calhoun, who was Chairman during the company’s two ill-fated 737-MAX crashes, was the wrong selection for CEO from the start. But he placed himself in the position shortly after telling us how much confidence the board had in then-CEO Dennis Muilenburg. He gave himself the role as the other board members nodded their sycophantic approval like Governor William J. LePetomane’s staff in Blazing Saddles. It should be noted that Calhoun’s compensation last year was $21 million, while the company lost some $4 billion over that time frame. With serious failures on both the aircraft and spacecraft side of the business, when will the madness end?
We sold our BA shares shortly after the second MAX crash—after holding them in one of the Penn portfolios for over a decade. With all the activist investors out there, often going after good management teams, where is the shareholder uprising at Boeing?
Tu, 26 Apr 2022
Random thought: Are we the only ones who find it a bit insincere for investment houses to "adjust" their S&P 500 predictions for the full year? If you are going to change your prediction, why make one in the first place? It is like placing a bet in March on a team to win the Super Bowl, then asking for your money back when October rolls around and your team is 1-4. We made our predictions in December that the S&P 500 would be at 5,100 by the end of the year; wouldn't changing that prediction (which we still stand by) be a bit deceptive?
Tu, 26 Apr 2022
Capital Markets
Fidelity plans to bring cryptocurrencies to your 401(k) plan; we applaud the move
Whatever you may think of Bitcoin, cryptocurrency is now its own asset class and it is here to stay. While this digital money has certainly not shown itself to be a hedge against inflation, nor an inversely correlated (to equities) asset class, it will be of growing importance to the capital markets. That is why we were happy to see Fidelity Investments, a major retirement plan provider, announce plans to include Bitcoin as a core option within its 401(k) plans. It won't be offered as a mutual fund or ETF, such as the Grayscale Bitcoin Trust (GBTC $29), but rather a dedicated asset account just like a plan's money market option. Fidelity would custody the assets on its own digital assets platform, charging between 75 and 90 basis points for administration. Employees' allocation to the crypto portion of their retirement plan would be limited to 20%, though individual employers could place further limitations on that percentage. How big is this move? Of a roughly $8 trillion 401(k) plan market, Fidelity controls approximately $3 trillion of that amount. Expect others to follow the company's lead.
We imagine Jack Bogle, the curmudgeonly old founder of Vanguard, is rolling over in his grave at this news. We recall him once arguing that employees were given too many options in their retirement plans, and that more controls (i.e., limitations) needed to be put in place by the government. Of course, that would have meant more assets under management for his company's less-than-stellar target-date funds.
Mo, 25 Apr 2022
Media & Entertainment
The rise and demise of CNN+ (a 30-day tale)
When we first heard that CNN was going to package a standalone streaming subscription service, our immediate thought was, "subscription overload time." We figured the effort would ultimately fail; we had no idea it would do so in under a month. The Warner Bros. Discovery (WBD $20) creation seemed doomed from the start, based on the fanciful wishes of WarnerMedia's management team to build CNN+ into a digital version of the New York Times. The faulty premise was the (arrogant) notion that millions of cord cutters who had previously viewed CNN as part of their respective cable package would suddenly be willing to subscribe to a standalone CNN news network. They threw out a "conservative" estimate of two million new subscribers by the end of the operation's first year. After all, that was a mere one-third of the six million subscriptions that the Times boasts. (The New York Times actually claims it just passed the ten million paid subscribers mark with its acquisition of The Athletic, but that involves some seriously creative math.) The management team even considered putting a paywall around the entire cnn.com site; as we say, arrogance. When AT&T (T $20) completed its WarnerMedia spin-off more quickly than expected, placing industry veteran David Zaslav at the helm, the end was at hand. We have a lot of respect for Zaslav, who has little tolerance for BS. The dream of milking off of AT&T and its deep pockets (and lack of good financial decision making based on past acquisitions) turned into a nightmare. Immediately after WBD began trading as a standalone, CNN+'s marketing budget was adjusted to zero. Chris Licht, former executive producer of Stephen Colbert's show, had just been brought in to run the new operation. One of his first duties was to tell the staff that the unit was defunct, and that they could try and get reassigned to other departments, but that most would be losing their jobs. Licht, himself, will be looking for other work soon. "This is a uniquely shitty situation," Licht told his stunned audience.
Is AT&T a worthy investment now that they have spun off WarnerMedia? No. Is Warner Bros. Discovery a good investment now that they are a standalone? No.
Fr, 22 Apr 2022
Market Pulse
There are different strains of downturns; investors should not sweat this week's garden variety
Investors are going to have to accept this simple fact: the markets will throw a number of tantrums during the Fed's tightening cycle, despite the irrationality of doing so. Quite often, there are very good reasons for a market selloff. March of 2020's downturn, based on the uncertain nature of a global health threat, was a good reason. When markets are vastly overvalued, like they were in March of 2000, that becomes another good reason for a big drawdown. Sometimes, however, the market sells off for very inane, irrational reasons. Chalk this week's downturn up to the latter. It was another one of those weeks when nothing worked: all of the major equity benchmarks fell, as did gold and oil. Bonds typically go up as equities go down; this past week, headline after headline read: "The Global Bond Market Rout." And it was, indeed, the bond market which drove equities lower. If anyone doesn't expect the Fed to raise rates 50 basis points at the May meeting, they have had their head in the sand. Let's be clear: fear of rate hikes is a really dumb reason for a market selloff. Even if Powell and company raise rates at every single meeting for the next year, we will still be below the historical average. The markets can withstand this course of events, despite the investor fits which will be thrown along the way. Here's why we are actually excited about the coming hikes: we will finally be able to pick up some decent-yielding bonds once again, which will mean stronger portfolio allocations. And at some point in 2023, when the Fed will be forced to reverse course due to a looming recession, those bonds are going to look mighty good sitting in our portfolios.
Tech stocks and small-caps have been hit the hardest this year, with both areas not far away from bear market territory. Scan some of the P/E ratios of strong tech/small-cap holdings; you might be surprised at how cheap they are. Want an example? Coinbase Global (COIN $132), a company we hold in the New Frontier Fund, had a P/E ratio of 172 one year ago; it currently holds a multiple of ten. Bargains abound, just choose wisely.
Fr, 22 Apr 2022
Leisure Equipment, Products, & Facilities
Floundering Peloton has one viable option remaining: get acquired and let the new owner broom the C-suite
We were early investors in Peloton (PTON $20), a company which brought a little life back into the languid fitness products market. We stood by the company when they were being attacked by thin-skinned viewers over a Christmas ad which we found to be highly effective—and not at all offensive. Even with the steep price for its products (the Tread+ was selling for around $5k with warranty), we liked the company's business model. Then, following a tragic accident involving a child as well as scores of other incidents, cracks began to appear in the management team's facade. After briefly trying to go on offense against the feds, Co-Founder and then-CEO John Foley was forced to strike a deal with the Consumer Product Safety Commission (CPSC), agreeing to offer a full refund for the 125,000 or so customers who purchased the pricey tread. Furthermore, the machine could be returned for a full refund at any point in time up until 06 November, 2022.
Since then (the agreement was announced last May), John Foley has stepped down as CEO, but the management missteps continue. As if a $39 monthly fee for the Peloton membership was not enough, the company announced it would be raising prices to $44 this June. Here's the insult to injury part (truly, no pun intended): The company's safety "fix," which was also part of the CPSC agreement, made it virtually impossible to use the tread without a membership! What a stupid move, considering the fact that users now have a full six months to think about that slap-in-the-face before deciding whether or not to get their full refund. Membership prices should have been reduced to $30 per month, and customers who willingly paid out a whopping amount of money should retain the ability to run on their tread without a monthly membership fee. That would have been an easy software fix, but that ship has now sailed.
The only remaining viable option for the company is to court suitors, such as Apple (it would be a great fit), and agree to be acquired. With a market cap of under $7 billion (it was a $50 billion company in January of 2021), that would be a win-win outcome. With an obtuse management team, however, that crystal clear option is probably not even being considered.
When PTON shares fell to $50, we said they may be worth a look—though we did not own them at the time. We obviously underestimated the management team's ability to make dumb decisions. Ultimately, we imagine the company will be backed into a corner and have no choice but to sell—or liquidate. As for us, we will continue paying the confiscatory monthly fees through the summer, then turn that fancy puppy in for a full refund and buy another company's tread. With the leftover dough, maybe we will buy a nice television to hang in front of the device; one that offers more than a single, captive, expensive channel. (For Peloton owners, go here for the CPSC recall info, plus the company's contact info; deadline for full refund is 06 Nov 2022.)
We, 20 Apr 2022
Under the Radar
Lundin Mining Corp (LUN.TO $14)
Lundin Mining Corp is a diversified Canadian base metals miner with operations in the United States, Brazil, Chile, Portugal, and Sweden. Copper production is the company's main source of revenue, with about 70% of last year's sales being generated by the base metal. That being said, gold, zinc, and nickel mining are also important components to the company's continued profitability. Not only do we like the miner's geographic footprint—which steers clear of geopolitical hotspots, we also like its mix of products: copper plays a critical role in electronics, power generation and transmission (especially renewables), industrial machinery, and construction. While the risk level is a bit high (3-year beta 1.750), owning the shares have been worth it (3-year alpha 5.090). Lundin has a strong balance sheet, little debt, and a 3.16% dividend yield for income-oriented investors.
We would place a fair value of $20 on LUN.TO shares; the company is appropriate for investors looking for income, a global commodities play, and a willingness to hold a higher-risk name.
We, 20 Apr 2022
Media & Entertainment
The Netflix nightmare continues: shares plunged 35% in one day
Admittedly, we have never been fans of Netflix (NFLX $218) the stock, which means we have missed out on some stunning growth in the past. It also means, however, that we avoided the 69% plunge in the shares between last November and this week. Unlike activist investor (and someone we like about as much as Netflix stock) Bill Ackman, who made an enormous bet on the company three months ago, buying some 3.1 million shares. A full 35% of the stock's decline occurred on Wednesday, following the release of an awful quarterly earnings report. Instead of gaining subscribers, as the company has done every quarter going back to 2011, Netflix actually lost 200,000 subscribers over the three month period. In guidance which stunned analysts even more than Q1's figures, the company said it now expects to lose two million more subscribers in the second quarter. Analysts had been predicting a pick-up of two million subs in the current quarter. While management pointed to the company's retreat from Russia as one explanation for the drop, we would argue that yet another increase in the subscription rate—to $15.49 per month—certainly drove some customers away. Tesla CEO Elon Musk tweeted his own rationale for the streaming service's troubles: "The woke mind virus is making Netflix unwatchable." As for Ackman, he just sold his 3.1 million shares for a huge short-term loss. At least that should help him at tax time next year.
Following the abysmal results, analysts began lowering their price targets for NFLX shares at breakneck speed. Even after their 69% drop, we still wouldn't touch the shares.
Tu, 19 Apr 2022
Airlines
To the delight of the carriers, federal judge in Florida rules CDC overstepped its bounds with airline mask mandate
On Monday, a federal judge in Florida ruled that the CDC had overstepped its authority when it decreed that masks were required to be worn by all passengers on aircraft and other means of public transportation. Shortly after the judge's ruling, the TSA announced that it would no longer enforce the mandate. By Tuesday, all of the major airlines lifted the requirement. In her ruling, US District Judge Kathryn Kimball Mizelle said that the Centers for Disease Control had failed to adequately give the rationale for its mandate, and did not allow for the normal procedure of public comment before issuing its decree. The United States Department of Justice is reviewing the decision and deciding whether or not it will appeal. In addition to the airlines, Amtrak has officially removed its mask requirement, as has private ride-hailing service Uber (UBER $33).
With vaccines and therapies now available, lifting the mask mandate was the common sense next step in our return to some semblance of normalcy. While many health experts are predicting strains of the disease will re-emerge with force when the weather turns colder this coming fall and winter, we don't see a return of either lockdowns or widespread mask requirements. In other words, the disease has become an endemic which must be managed by the health care system for the foreseeable future. As for the airlines specifically, we expect pent up demand for travel to fuel strong earnings over the coming quarters. We own United Airlines Holdings (UAL $45) in the Penn Global Leaders Club.
Tu, 19 Apr 2022
Capital Markets
Schwab gaps down nearly 9% on earnings miss
Retail financial services firm Charles Schwab (SCHW $76) lost nearly 9% of its value on Monday following a first quarter miss on both revenue and earnings. Analysts were looking for $4.83 billion in revenue and earnings per share of $0.84; instead, they got $4.67 billion in revenue and $0.77 in EPS. While retail activity has surged in recent years on the back of commission-free trading, daily trading volume at the firm actually dropped 22% from the same period last year. Increased volatility, new competition, and a return to normal activities following the pandemic all played a role in the company's challenges for the quarter. As for the earnings miss, the high costs associated with the TD Ameritrade acquisition and higher general expenses helped explain the lackluster quarter. Expenses for the three-month period came in $56 million above what Piper Sandler had projected, and 4% above last year's figures. Monday's drop represents the largest one-day decline in SCHW shares since March of 2020.
The company won't admit it, but the TD Ameritrade acquisition has brought about a good deal of unexpected headaches. These will eventually be worked through, but with its P/E ratio of 27 and its rather high price-to-sales ratio of 8, investors shouldn't be in a hurry to take advantage of this most recent drop in the share price.
Tu, 19 Apr 2022
Latin America
AMLO tried to nationalize Mexico's electrical grid; the lower house of congress short-circuited his plans
The state oil company of Mexico, Pemex, is the most indebted oil company in the world. This makes perfect sense, as it is owned and operated by a government rather than private enterprise. What Mexico accomplished through Pemex, President AMLO had hoped to do for the country's electrical grid: nationalize it. To that end, his allies in the Congress of the Union attempted to push through a bill restoring government control over the electrical sector. Fortunately for the Mexican people, the body's lower house refused to deliver. Needing a two-thirds majority to amend the constitution, only 55% of the lower chamber's members voted for the scheme, handing AMLO a rare legislative defeat. AMLO lashed out, calling critics of the bill betrayers of Mexico and defenders of foreign interests. Considering the bill's passage would have greatly diminished foreign investment in Mexico's energy sector, it sounds like these members were acting in the best interest of the citizenry.
This is yet another example of a country's leadership wishing to have it both ways: they want foreign money but wish to keep full control of the entities. It simply doesn't work that way. One of these days, Mexico will offer a great opportunity for investors. That day won't come, however, until elected officials understand and accept how a free market works. The easiest way to invest in the Mexican economy is through the iShares MSCI Mexico ETF (EWW $53). The fund lost 46% of its value in spring of 2020 during the early days of the pandemic, and has a one-year fund outflow of $518 million, leaving just $900 million in total assets under management.
Economics: Supply, Demand, & Prices
June inflation came in red hot, but the market drop was misguided
On Wednesday the 13th, June’s inflation numbers rolled in. They were expected to be high, but investors discounted the spike and futures were up. Within seconds of the scorching 9.1% year-over-year number being released, futures took a U-turn and tumbled some 400 points on the Dow and 200 points (-1.8%) on the Nasdaq. A 75-basis-point rate hike was already expected for July; after the report, odds of another 75-basis-point hike in September (there is no August FOMC meeting) more than doubled to around 78%. Keeping this in perspective, these two probable hikes would just put the upper limit of the Fed funds rate at 3.25%. For all the comparisons to the 1970s and 1980s, consumers could only dream about such low rates back then. The Fed should—must—make these moves.
As for the market’s immediate reaction, it was misguided. We believe that peak inflation has now hit, and that prices should begin to stabilize. Commodity prices, which have been on a steep trajectory for the past nine months or so, have turned the corner and are now pulling back at a rapid clip. Auto repossessions are exploding as an inordinate number of Americans who purchased vehicles during the pandemic have suddenly stopped making payments. Buyers and renters are pushing back against the high price of homes and 14% increase in leases by holding off on making a move—or, in the case of younger renters, moving back home. Companies of all sizes, expecting a recession, have begun to pull back on capital expenditures. Smaller companies are really feeling the pinch. Forget the American consumer for a moment: if companies start to pull back on spending, inflation will begin to subside.
Copper, a fundamental industrial-use metal, has lost one-third of its value since April. Wheat, corn, and other ag products have also dropped precipitously over the past few months. Even oil has dropped back below the $100 per barrel rate. These are signs that inflation is starting to return to more normal levels. Add a price-wary consumer to the mix, and suddenly the headline narrative begins to deflate, no pun intended. Mild recession or not, the second half of the year could hold some pleasant surprise for investors. At least the ones who resisted the urge to panic.
By “resisting the urge to panic,” we mean sticking to one’s proper portfolio diversification. On that front, we are excited by the Fed’s rate hikes as they signal some great bond issues are on the horizon. In the meantime, investors should remember that cash truly is an asset class, and a 20% allocation to that class is not excessively high right now. Dry powder to take advantage of the coming opportunities.
We, 06 Jul 2022
Airlines & Air Freight
JetBlue just can’t win: FAA awards coveted Newark slots to Spirit alone
Three miles south of downtown Newark and nine short miles from Manhattan lies Newark Liberty International Airport. Serving some 40 million passengers annually prior to the pandemic, the airport remains one of the busiest in the world. Back in 2019, Southwest Airlines (LUV $36) pulled out of the airport due to falling revenue amidst the grounding of Boeing’s (BA $135) 737-MAX fleet. This week, the FAA awarded all sixteen open slots at Newark to low-cost carrier Spirit Airlines (SAVE $25). JetBlue (JBLU $8), which has already been rebuffed twice by Spirit as a takeover target, had also been vying for the slots. A spokesperson for the FAA’s parent organization, the Department of Transportation, said that awarding all slots to Spirit would improve competition and secure more low-cost flights for Newark passengers.
A few weeks ago, JetBlue sweetened its takeover offer for Spirit, offering shareholders $30 at close and $1.50 per share in prepayment (from a raised reverse break-up fee). Spirit’s management team, however, remains committed to Frontier’s (ULCC $10) takeover offer, arguing that the deal will not face the same level of government scrutiny. (They are correct: we don’t see the respective government agencies approving a JetBlue/Spirit merger due to routing and competition issues.) Two major shareholder advisory firms, Glass Lewis and Institutional Shareholder Services (ISS), are now urging approval of the Frontier bid during this month’s shareholder vote.
It is difficult to find any airline we like right now due to inflation, a slow-moving economic slowdown, and chronic flight cancellations. We have one carrier in the Global Leaders Club, United (UAL $37), but we have a tight stop loss order on the shares. As for the airline in the direst straits (in our opinion): we wouldn’t touch shares of JetBlue.
We, 06 Jul 2022
Currencies & Forex
For the first time since 2002, the dollar is reaching parity with the euro
We always found it bizarre that certain politicians and leading economists would express a desire for a weak US dollar. Yes, our lopsided balance of trade can be aided by a weaker domestic currency, as it makes US goods cheaper for the world to buy, but the root causes of this condition are almost always troublesome. Furthermore, it harms the American consumer because their money doesn’t go as far. In essence, it is a signal that “our economy is weaker than yours.” Hardly bragging rights. For example, as the US was in the midst of the Financial Crisis of 2008/09, the euro, which was created in 1999, hit a high of €1.60 to one greenback. Many Europhiles have since predicted that parity would never be reached again. Lo and behold, the two currencies are now skirting near that level right now, with the euro hitting a two-decade low. This is due to the Fed’s willingness to raise rates until inflation is quelled, while the ECB begrudgingly signaled that it would finally raise rates by 25 basis points in July. The responsible actions on the part of the Fed add to the dollar’s strength, as global investors seek safe haven for their lowest-risk assets. While the US will probably have to battle a recession early next year, at least the Fed will have some fresh ammo; not so much the case in Europe, which is facing a deeper economic trough.
US multinational corporations do like a weaker dollar, as it makes their goods cheaper for the world to buy. The best way for an investor to take advantage of a strengthening dollar is through a bullish dollar ETF, such as the Invesco DB US Dollar Bullish fund (UUP $28), or by adjusting their portfolio toward small-cap US companies, most of whom sell overwhelmingly to domestic customers. In this space we use the Invesco S&P SmallCap 600 Revenue ETF (RWJ $103), a value/core fund which owns top revenue-producing smaller US companies.
Fr, 01 Jul 2022
Market Pulse
Worst first half of the year since 1970, but where do we go from here?
There have been a lot of comparisons to the 1970s floating around recently, and for good cause. After all, many of the same antagonists we faced fifty years ago haunt us today: China, Russia, inflation, high oil prices, and general economic malaise. Then there are the market comparisons. Yes, we have just closed out the worst first half of any year for the S&P 500 since 1970, and for the Dow Jones Industrial Average since 1962. Furthermore, the Nasdaq and Russell 2000 (small caps) just had their worst start to a year--ever. Anyone listening to the doom and gloom in the press and among economists certainly don’t feel much like buying. It is as if the all-but-guaranteed recession at our doorstep will mean the end to life as we know it. The negativism is palpable.
As we have recently noted, the entire decade of the 1970s was not kind to the markets; however, it was not just one big ten-year decline for the indexes. After dropping around 25% in the first half of 1970—eerily similar to 2022—the S&P 500 actually gained back nearly all of its losses on the back half, finishing the year down under 1%. While the Nasdaq didn’t come about until 1971, the same could be said of many of its would-be components back then.
At the end of the first half of this year, the S&P, Nasdaq, and Russell 2000 all found themselves in bear market territory, as defined by at least a 20% drop. The Nasdaq got hit the hardest, falling 30%. Bonds, which are supposed to provide a hedge to market losses, dropped 10.7% in aggregate over the past six months. Investors now seem certain on more rate hikes, a recession, terrible corporate earnings, a continuing war in Ukraine, and stubbornly persistent higher oil and gas prices. In other words, the stock market now reflects the worst of all possible outcomes for the second half.
This has created a condition in which large tech names like Microsoft, Apple, Adobe, and Amazon appear as though they are value plays. And large cap core/value names like Dollar General, Target, Pfizer, Home Depot, and Lockheed Martin have multiples that would have made investors drool last summer. All of these companies have rock solid balance sheets and strong fundamentals, it should be noted. The last time we remember solid companies selling off like this was March of 2020. June, it just so happens, was the worst month in the market since (you guessed it) March of 2020. Fear and gloom have taken over. Historically, with respect to equities, that has nearly always been the time to buy; never the time to panic.
Will the second half of the year be an encore to the second half of 1970? While we can’t say for sure, it wouldn’t surprise us a bit. Nonetheless, protection on positions and a larger allocation to cash (as we await higher rates which will lead to better bond values) are certainly prudent measures to maintain right now.
We, 29 Jun 2022
Hotels, Resorts, & Cruise Lines
Morgan Stanley analyst: Carnival Cruise Lines could go to $0 in worst-case scenario
Every time we write about Carnival Corp (CCL $9), we begin with the disclaimer that we have disliked the company and its shares for some time. A year ago, we wrote about members of senior management talking up the company’s great growth prospects while simultaneously offloading their own shares—at a much higher price than they are today, we might add. CCL shares were selling for $19 at the time. Morgan Stanley analysts have apparently had enough as well. The company maintained its “underweight” rating on the stock (why not “sell”?) while lowering the price target to $7. This helped drive the stock down some 15% at the open, to under $9 per share. Even more disconcerting was the analyst’s bear case scenario for the cruise line: the price of the shares could possibly go to $0. The catalyst for that stunningly bearish call is, primarily, the company’s debt load. Carnival holds some $11 billion worth of short-term debt and $32 billion worth of long-term debt. It has a current market cap of $10 billion. Should an upcoming recession trigger another “demand shock,” it could spell the end of the line as the company would find it very difficult to secure even more funding (at higher rates, we might add). Not everyone is so bearish, however. Six of the 24 major analysts covering the stock have a “buy” rating on the shares. Count us in the Morgan Stanley camp.
Both Royal Caribbean (RCL $36) and Norwegian Cruise Lines ($12) fell nearly double digits in sympathy with Carnival on Wednesday. For investors betting on a cruise line comeback, either of those names would offer a much better play on the industry in our opinion. (Penn does not own any cruise lines within the five portfolios.)
We, 29 Jun 2022
Global Organizations & Accords
Obstacle falls: Turkey agrees to full NATO membership for Sweden and Finland
Considering his deranged mental capacity, Vladimir Putin will never admit to the enormous tactical error he made by invading Ukraine, but it is clearly evident to the rest of the world. Based on the false narrative that Ukraine posed a threat to Russia, he invaded with the expectation of killing the country’s leader, Volodymyr Zelenskyy, and installing his own puppet regime. He has obviously failed in that attempt, but the unintended consequences of his barbaric act can be summed up with one stunning development: NATO is coming to Russia’s northwestern doorstep.
The one obstacle holding back Sweden and Finland’s membership into the military alliance was Turkey, which has been in the group since 1952. Based on the group’s bylaws, any expansion required approval by all member-states. Turkey had opposed the Nordic countries’ ambitions to join due to their respective governments’ support for Kurdish “terrorists” allegedly residing within the two nations. Now, according to Turkish President Recep Tayyip Erdogan, those concerns have been assuaged, leaving a clear path toward membership. Erdogan’s announcement came at the alliance’s Madrid Summit, which can now focus on its plan to rebuild forces in Europe to counter the increased Russian threat. That country has threatened to station nuclear weapons along its border with Finland if the nations were admitted to NATO.
Back in the 1990s, following the fall of the Soviet Union, many misguided critics questioned the need for NATO to remain in existence. Today, it is once again as important as it was during the height of the Cold War.
The final straw which ultimately brought about the fall of the Soviet Union was Ronald Reagan’s Strategic Defense Initiative and the communist nation’s attempt to counter the program. History may well repeat itself: Russia is ill-equipped to counter a strengthened NATO on its border, but Putin will spend critical capital trying to do just that.
We, 22 Jun 2022
Municipal Bonds
Alabama finds underwriters for $725 million worth of tax-free prison bonds
Breaking down a rather complicated series of events, here is what is going on in Alabama with respect to the improvement of conditions for prisoners, and the funding of these upgrades. The state faced a lawsuit from the DoJ which alleged that inmates housed in the state’s prisons were being exposed to “cruel and unusual punishment” due to dilapidated conditions. One such building, the Draper Correction Facility, had been in operation since 1939. To answer these concerns, the state contracted with CoreCivic Inc (CXW $12), a specialty REIT, to build and operate newer facilities, leasing them back to the Alabama Department of Corrections.
To fund the projects the state planned to offer municipal bonds, with the debt being backed by annual appropriations to the Department of Corrections. After backlash over the privately built and managed facilities, Barclays Plc and KeyBanc Capital Markets, the primary underwriters, dropped out of the deal. A CoreCivic spokesperson called the activists “reckless and irresponsible” for (apparently) preferring to have inmates remain in the outdated facilities rather than support a public-private enterprise.
Now, the deal has a new set of underwriters: Alabama-based Stephens Inc and The Frazer Lanier Company will co-manage the sale, along with help from Raymond James, Wells Fargo, and several other backers. The bonds will carry an Aa2 rating by Moody’s and a AA- rating by S&P Global. The yield on these tax-free general obligation (GO) bonds has yet to be announced, but they should hit the muni bond marketplace within the next month.
As rates bottomed out and the world was in the midst of the pandemic, there was a dearth of new muni bond issues. While the US faces a probable recession early next year, higher rates and the need to rebuild the American infrastructure should present investors with a huge wave of new tax-free bonds. Who knows, they may even get close to the 5% range many of them offered income-oriented investors back in the early years of the century. We would settle for a 3% tax free rate.
We, 22 Jun 2022
Beverages, Tobacco, & Cannabis
In blow to Altria, the FDA is poised to order Juul e-cigarettes off the market
In a rather stunning turn of events, the Food and Drug Administration is preparing an order that would force Juul Labs to take its popular e-cigarettes off American shelves. This follows a two-year review of the products, specifically the fruit flavored blends. The FDA’s ruling serves as a capstone to the great downfall of Juul, which was flying high back in 2018 as its products soared to the top of a frenzied market. In what turned out to be a critical miscalculation, 2018 also happens to be the year that tobacco giant Altria (MO $41) decided to take a 35% stake in the company. What might have seemed like a reasonable move to diversify away from its traditional cigarette products (Altria owns the popular Marlboro brand, among others), the company bought in at the worst possible time. Shares of MO had been holding up quite well in 2022 thus far, sitting at where they were trading going into the year. As soon as the news was announced, shares fell 10% and remained stuck there. The 2018 deal valued Juul at around $35 billion; just prior to the FDA decision, the company had a valuation of roughly $5 billion. Adding insult to injury, the FDA also indicated that e-cigarettes made by rivals Reynolds American and NJOY Holdings would be allowed to continue selling their tobacco-flavored vaping devices. Juul lost around $259 million on sales of $1.3 billion in 2021.
Somewhat surprisingly, there are still some Altria bulls out there. In addition to a fat 7.88% dividend yield, the company has maintained annual revenues of between $24 billion and $26 billion per year for the past ten years and has generated positive net income in all but one (2019) of those years. We wouldn’t touch the stock, especially considering the firm spun off its international division—Philip Morris International (PM $99)—back in 2008.
Tu, 21 Jun 2022
Currencies & Forex
Japanese yen falls to a 24-year low against the dollar
If you have been considering a Japanese getaway, now might be the time to book that trip. As of this week, one US dollar will buy 135 yen, up from slightly over 100 at the start of the year. Why does the world’s third-most-traded currency continue to plummet? Because the Bank of Japan’s governor, Haruhiko Kuroda, stands firmly by his commitment to maintain a -0.1% short-term interest rate while the rest of the developed world is raising rates to tamp down runaway inflation. Angering the Japanese public with his recent comments that consumers were becoming more tolerant of higher prices, nearly 60% of the country’s residents now find him unfit for the job. A weak currency due to an easy money policy means that goods and services cost a lot more for consumers within that country, and a lot cheaper for foreign visitors thanks to the generous exchange rate. Yes, a weak currency promotes stronger exports because the goods are less expensive for the world to buy, but the tradeoff can be brutal for the family budget. For a country which imports 94% of its energy, soaring prices and a weaker yen have most cheering the fact that Kuroda is in the final year of his second term as governor of the central bank.
For investors, the yen’s weakness also makes the Japanese stock market look more attractive thanks to the currency disparity. One way to potentially take advantage of this weakness is through the WisdomTree Japan Hedged Equity Fund (DXJ $64), which is up 2.35% in value this year against the backdrop of an 18% decline in the MSCI All-Cap World Index, Ex-US. Some of the fund’s top holdings are Toyota Motor Corp, Nintendo, Mitsubishi, and Canon.
Tu, 21 Jun 2022
Food Products
Kellogg to break into three companies; does anybody care?
Five years ago, we wrote a brief piece on Kellogg’s (K $69) hiring of a new CEO after floundering for years under chief executive John Bryant. We expressed doubt that Steven Cahillane would be any different. At the time, K was sitting around $70 per share. Confirming our concerns, the shares have barely budged since.
So, what does a mediocre company do to move the needle on its share price? Announce a plan to split into multiple entities, of course. Sure enough, shares of Kellogg opened the week up nearly 4% after management announced it would break into three pieces: a global snacking company, a North American cereal company, and a plant-based food company, names to be decided at a later date. We are not talking about GM spinning off its financing unit (remember GMAC?) or GE spinning off its jet-leasing unit; we are talking about a food company spinning off…food companies. Aren’t all three units within the core competencies of a packaged food manufacturer?
Right out of the mediocre manager playbook, CEO Cahillane said that the standalone companies will now be able to “direct their resources toward their distinct strategic priorities…and create more value for all stakeholders….” What a bunch of gobbledygook. Milquetoast executives throw out terms like “unlock value” as if a split would magically open corporate treasure chests which the crackerjack team had just been unable to open in the past. Really? All of the talent at your fingertips and you just couldn’t crack the code, but now you will be able to? What will be fun to watch next is how many middling analysts get excited by this move and upgrade the shares. Insert eye roll emoji here.
Full disclosure: We own Kellogg’s chief competitor, General Mills (GIS $68), in the Penn Global Leaders Club.
Th, 09 Jun 2022
Aerospace & Defense
BWX Technologies wins DoD contract to build first advanced microreactor in US
Aerospace & Defense firm BWX Technologies (BWXT $54) has been awarded a contract by the United States Department of Defense to build a first-of-its-kind advanced nuclear microreactor. Under codename Project Pele, these reactors, which can be transported by modules aboard trucks, trains, aircraft, or ship, are designed to be assembled on-site and operational within 72 hours. The reactors can provide a resilient power source for a variety of operational needs, eliminating the need for fossil fuels delivered by often extensive supply lines. The possibilities are endless, from immediate power needs at remote locations, to disaster response and recovery around the world. The prototype will be built under a contract valued at around $300 million and should be completed and delivered by 2024 for multiyear testing at the Idaho National Laboratory.
As we move away from fossil fuels, these advanced concepts are going to come to fruition, and the industry is full of potential going forward. A lack of understanding and a fear of the word “nuclear” may slow the process, but the safety attributes of these devices will eventually allow them to become embraced by politicians and the general population. BWX Technologies is a $5 billion specialty manufacturer and service provider of nuclear components. Additionally, the Lynchburg, Virginia-based firm provides uranium processing, environmental site restoration services, and other solutions to the nuclear power industry. With average annual revenues around $2 billion, the company is perennially profitable.
We, 08 Jun 2022
Renewables
Solar stocks surge on Biden’s decision to hold off on new solar tariffs for two years
Investing in the solar energy movement has always been fraught with danger, with the slightest shift in sentiment or any new legislative (or executive) actions generally causing an oversized reaction by investors in the industry. The latest news on the latter front, however, had solar enthusiasts cheering. The Biden administration announced there would be no new tariffs placed on solar panel imports for the next two years. There had been a major push underway by the US Department of Commerce to investigate whether global solar panel suppliers were using deceptive tactics to avoid getting hit with tariffs on goods emanating from China. That push, along with supply chain constraints, led to a major slowdown in solar panel installation in the US. In a decision we find more impactful on the US economy, the president also signed three executive orders designed to increase domestic production of solar panels. Tesla, which had been in partnership with Panasonic to produce such panels at a Buffalo, New York facility, has since exited the production side of the business and now focuses solely on installation of the systems.
The Invesco Solar ETF (TAN $78) has been on a roller coaster ride this year, dropping 25% before rebounding to flat YTD. The new legislation, along with soaring energy prices, could provide a catalyst for the companies within this fund in the second half of the year. Enphase Energy (ENPH $214) is the largest of the fund’s 42 holdings, with a 12% weighting.
While we do not currently own any direct solar plays in the Penn strategies, we do own Tesla (TSLA $737), a major renewables player and lithium-ion battery manufacturer, in the New Frontier Fund.
We, 01 Jun 2022
Monetary Policy
The Fed will finally start reducing its $9 trillion balance sheet this month
It is hard to imagine, but just nineteen years ago, in 2003, the Federal Reserve had around $700 billion of assets on its balance sheet. That amount, it should be noted, is one component of the national debt. After the financial crisis of 2008-09, the balance sheet more than tripled, hitting $2.25 trillion. At the time, those figures were hard to fathom. Quadruple that amount and we have the current size of the Fed balance sheet. June is the month the figure finally begins going down.
Four large Treasury securities held by the Fed, worth $48.25 billion, are maturing this month. In previous months, the Fed would have reinvested the proceeds, purchasing an equal amount of new securities. Instead, it will let $47.5 billion simply run off the balance sheet, only reinvesting the final $1 billion or so. It will continue this process until September, at which time it will double the amount allowed to mature without reinvestment, reducing the balance sheet by $95 billion per month. This may seem like a rapid pace, but it will only amount to a $522 billion reduction by the end of this year, and an additional $1.1 trillion by the end of 2023. If the downward trajectory continues, the Fed balance sheet will be back to pre-pandemic levels by the summer of 2026.
That date may seem far in the future, but there is something even more unsettling about the entire process: we will probably never get there. The continued reduction is contingent upon the economy humming along between now and June of 2026. Does anyone really believe that yet another “urgent crisis” will fail to manifest? Our best hope is that the balance sheet is reduced by a few trillion dollars before the Fed is forced to go on its next buying spree.
Rarely are two of the Fed’s three main tools used in tandem, at least to this degree: an increase in short-term rates plus a simultaneous reduction of the balance sheet through open market operations. These two actions will undoubtedly have an impact on the housing market specifically, and the overall economy in general. Hence, the doubt expressed by economists that the Fed can execute a “soft landing” as opposed to fomenting a recession. A fascinating case study to watch.
Tu, 31 May 2022
Food & Staples Retailing
The dollar stores provide a much-needed positive catalyst for the markets
Certainly with respect to retailers, it seems all we have been hearing about lately is margin contraction. Consumer Staples companies, which sell the goods people need under all economic conditions, have been maintaining their gross sales levels, but their net profits have shrunk due to higher input, labor, and transportation costs, as well as disruptions in the supply chain. In other words, inflation is killing their bottom line.
Assuming the so-called dollar stores (Dollar General and Dollar Tree primarily) would suffer the same fate at their larger brethren such as Walmart and Target, these companies had their respective share prices hammered in sympathy. All the bad news was priced in before the numbers ever came out. This was true more so for Dollar Tree (DLTR $164), which carries a larger percentage of discretionary items than does Dollar General (DG $228).
Lo and behold, both companies surprised to the upside, sending shares of DG and DLTR up by double digits. Dollar General announced revenue of $8.8 billion, earnings per share of $2.41, and a negligible decline in same-store sales. The company also raised its full year sales guidance and maintained its bottom-line income projections. Dollar Tree posted revenues of $6.9 billion and earnings per share of $2.37, also beating analysts’ predictions, and raised its full year guidance.
How are these low-cost darlings able to withstand inflation better than their larger competitors? Primarily, the answer revolves around management’s effective use of inventory tactics to preserve profits. Dollar General CEO Todd Vasos, for example, explained that the company can shift to substitutes when certain goods go up in price. They have also added self-checkout lanes to over 8,000 stores and have plans to turn another 200 locations into self-checkout only, thus reducing labor costs. For its part, Dollar Tree’s decision to raise the price of its $1 items to $1.25 hasn’t had any detrimental effect on sales. Finally, as could be expected, higher prices are driving more and more Americans to visit these stores; names which they may have shunned in the past. Expect this trend to continue through next year, as the US faces a probable recession.
We have long regarded Dollar General as one of our most defensive plays in the Penn Global Leaders Club. Even after the economy troughs in 2023 or 2024 and begins a new expansion phase, the unique value proposition of the company—such as where the stores are located—means it will probably remain a core holding in the strategy.
We, 25 May 2022
Fintech
AI-powered ETF is facing its first major test, and the results have not been pretty
We recall being intrigued about five years ago when we heard of the AI Powered Equity ETF (AIEQ $32), the so-called robot-managed exchange traded fund. This automated, data-driven fund would “harness the power of IBM Watson to equal a team of 1,000 research analysts, traders, and quants working around the clock.” Using artificial intelligence instead of human brainpower, predictive models would be built on some 6,000 US companies. These models would analyze millions of data points across news, social media, financial statements, and analyst reports to build a more efficient fund. Between 30 and 200 companies with the greatest growth potential over the following twelve months would be purchased, with adjustments being made constantly. Truly a fascinating concept.
It is always a good idea to let concepts prove themselves before jumping in, so we held off on adding AIEQ to the Penn Dynamic Growth Strategy—our ETF portfolio. Watson is certainly an incredibly powerful tool which may enhance a plethora of different industries, but wasn’t it the machine behind our weather app which we were less-than-impressed with? Perhaps Watson could have even predicted how AIEQ would perform in a downturn, but we wanted to find out the old-fashioned way.
Unfortunately, the fund got a chance to prove itself following the worst market start to a year since 1970. Based on the rather impressive breakdown of holdings (roughly an equal representation in Health Care, Industrials, Technology, and Consumer Cyclicals, followed by Financial Services, Consumer Defensives, and Basic Materials companies), the benchmark for the fund would be the S&P 500. While that key market benchmark has given up around 17% year-to-date as of this writing, AIEQ is down 23.84%. We expanded the scope of our comparison to include the Dow Jones Industrial Average (30 holdings), the NASDAQ (primarily tech names), and the Russell 2000 (small-cap proxy). Only the NASDAQ composite, with its 27% loss, underperformed the fund. The narrative was excellent; unfortunately, the results were not. Back to the drawing board.
The Penn Dynamic Growth Strategy (PDGS) is currently comprised of 25 holdings; overwhelmingly ETFs (due to their intraday liquidity, lower general costs, and other factors), and a couple of open-end mutual funds which we rate as exemplary. The Strategy uses a core/satellite approach, with the satellite funds being more tactical in nature (Invesco DBA Agriculture ETF is a great example). The PDGS is actively managed, with changes being made based on the economic, investment, and geopolitical environment.
We, 25 May 2022
Interactive Media & Services
Snap shares just fell 43% in one day; in 2017, we called the company’s share class structure a sham
After social media company Snap (SNAP $13) lowered its outlook for the year—ultimately causing shares of Snapchat’s parent company to fall 43.08% in one day—we immediately began perusing our past notes on the firm. Our first comments came in February of 2017 as the company was about to begin its IPO roadshow. Setting a price target of between $14 and $16 per share, the company would immediately have a $20 billion market cap in what would be the largest US tech offering since Alibaba (BABA $82) went public in 2014. We urged investors not to bite. The roadshow was such a success that the IPO shares were more than ten times oversubscribed. They ultimately priced at $17.
Our next note on Snap came just a month later, in March of 2017. This time we said that investors were getting a raw deal with respect to the share class structure. Get this scheme: The company would sell schmucks like us Class A shares, which came with no voting rights but did “entitle” buyers to attend the annual shareholders’ meeting and “ask questions.” Gee, thanks. Executives of the company could acquire Class B shares, which came with one vote each, while Snap’s founders would own the coveted Class C shares which came with ten votes apiece. Talk about some fancy financial engineering.
The catalysts for our other notes on Snap were earnings reports. In all but one case, shares had plummeted on lower-than-expected numbers or worse-than-expected guidance. The latter was the cause for Tuesday’s 43.08% drop, taking the shares down to $12.79, or 25% lower than the $17 per share initial offering price. What a mess.
SNAP shares now sit 85% off their September 2021 highs. Some might see a bargain; we still see an aristocracy in which the company’s rulers have no idea what they are doing.
Mo, 23 May 2022
Market Pulse
Consumer staples fell dramatically last week, but the Dow is attempting a comeback
If there was one positive sign in this five-month-long anxiety-riddled market tumble, it had been the fact that consumer staples—those stolid, earnings-rich companies that sell goods people need under all economic conditions—were holding their own. That changed last Wednesday after Target (TGT $155) shocked the market with news that profit margins were getting seriously crimped by high inflation—from higher fuel costs to a spike in commodity prices. This exemplary company, which was up around 300% since we added it to the Global Leaders Club, lost one quarter of its value in one day; its worst one-day hit since 1987. And it wasn’t just a Target problem. The prior day, Walmart’s (WMT $122) earnings showed the same challenges, pushing WMT shares down 11%. Ironically (or not), that was also their worst single day since 1987.
We all know what happened in 1987. I was in the US Air Force rather than a cushy chair at an investment firm back then, but I remember the fear being palpable. There really wasn’t a single major catalyst that would explain away the massive market drop, which was part of the problem. Investors feel better if they can point to a viable reason for a system shock, and there wasn’t one in October of 1987 (though there was a confluence of events, much like today). Many investors made the worst possible mistake that month: they began selling even their best positions. Over the course of the next six months or so, the Russell 2000 (small caps) had rallied 37%, the NASDAQ was up 32%, and both the S&P 500 and Dow were up 20%. Those who sold in October missed a remarkable rally right around the corner.
This is not March of 2000. The current bear market much more closely resembles the one which occurred in the fall of 1987. Inflation is real, and the Fed will do what it takes to get it under control (raise rates and reduce the balance sheet), which may push the economy into a mild recession next year. But we wouldn’t be surprised to see the same type of rally occur in the second half of this year that began on 7 December 1987. Friday afternoon and Monday’s follow through may portend that coming rally: the Dow was down over 600 points with a few trading hours left in the week, only to rally into a positive close. That rally continued Monday, with the Dow finishing up 618 points—or more than 1,200 points higher than Friday afternoon’s low. Of course, we have no way of knowing whether the bottom of this current market downturn is in, but it is refreshing to see buyers jumping back in after being pummeled for seven straight weeks.
We, 18 May 2022
Editor's Corner
Don't wave the American flag while watching your cargo ships roll in...
We have preached repeatedly about the irresponsible manner in which so many American companies became overly reliant on a communist nation with respect to trade; how executives became seduced by a massive population for the sale of their goods, and a dirt cheap labor force for the production of those goods. Distressingly, it took a global pandemic originating from that country for many of these companies to (finally) look at reducing their country risk. Still, the narrative these firms weave for public consumption is enough to make us choke.
One major US retailer has a "Made in America" campaign running to proudly proclaim how the goods they sell are made in the US. They use a flower grower as an example. Try finding a flashlight or a can opener at this retailer made anywhere around the globe other than China. You won't.
We are not xenophobes by any stretch, and we still support companies which source from factories in virtually any country outside of China, Russia, North Korea, or Iran. That being said, more can and should be produced domestically. Especially with the Fourth Industrial Revolution at our doorstep, with many American technology firms and universities leading the charge. What can we, as consumers, do to help the process along? We can get in the habit of checking where the goods we buy are actually produced, and providing feedback via direct contact and social media when we don't like what we see.
Tu, 17 May 2022
Construction Materials
Armstrong Flooring paid out $4.8 million in bonuses to execs—then declared bankruptcy
The world of home flooring is one of those murky, opaque realms in which performing due diligence is extremely difficult—often by design. Take, for instance, a home buyer who wants to assure their builder uses wood flooring sourced from anywhere but China. Good luck. The company may be American, and their final products may be designed and even produced in the US, but that doesn’t mean the “cores” of factory-made materials didn’t come from the communist nation. Which leads us to a recent story about Armstrong Flooring (AFI $0.32).
While we couldn’t readily determine what percentage of the company’s wood flooring materials emanated from China, at least they had the courage to admit—clearly on their website—that they do have a flooring plant in the Jiang Su Province of that country—in addition to plants in the US and Australia. We point this out because the company cited supply disruptions and higher transportation costs as two of the reasons it was forced to declare bankruptcy this past week. Never fear, though, as the company fully plans to continue operating while in bankruptcy while it devises plans to emerge. Armstrong told the Delaware court that it owed some $300 million to creditors and has roughly $500 million worth of assets, giving it a debt-to-equity ratio of 61.5%—up from 28.3% in March of 2020 and 17% in September of 2018.
We are happy for the employees of Armstrong, but we must wonder how happy they were to learn that senior executives received some $4.8 million worth of annual incentives just before the company declared bankruptcy; incentives that would have almost certainly been disallowed by the courts. An Armstrong attorney told US Bankruptcy Judge Mary Walrath that these execs (the CEO and at least three others) were key in securing funding, but aren’t the employees key as well? It should be noted that the company’s CEO was the “chief sustainability officer” at Mohawk Industries between 2017 and 2019. It should also be noted that Armstrong had 1,600 employees as of the end of 2021. That $4.8 million would have meant a nice bonus of $3,000 for each, and we will even include the top executives in that package.
We love American free enterprise, which is why we must hold all companies to the highest possible standard. We are not accusing Armstrong of doing anything illegal or even unethical, but companies that wave the American flag and wax eloquent about sustainability had better make sure they are practicing the ethics they preach. The last year Armstrong Flooring turned a profit was 2016, which happens to also be the year that Armstrong World Industries (AWI $84) offloaded the firm as its own publicly traded company, trading in the $19 range. These decisions don’t happen in a vacuum, and it behooves investors to look well beyond the glossy ads and company websites when reviewing a company for possible purchase. Pull up the rug and see what’s underneath, so to speak.
Tu, 17 May 2022
Global Organizations & Accords
Turkey’s objection to Sweden and Finland joining NATO is all about personal gain
Turkey has never been a faithful ally to the West. While desiring to be considered a mainstream Western European country, it has acted in the best interest of the Middle East. While demanding arms from the United States, it gladly accepts a missile defense system from Russia. President Recep Erdogan “massages” the country’s constitution to remain firmly ensconced in power while political opponents are dealt with swiftly and harshly. Now, as two truly European countries, Sweden and Finland, begin their application for formal membership into NATO, Erdogan runs interference, knowing full well that all current members must approve their entry.
Erdogan’s position, as usual, has nothing to do with the common good and everything to do with his own greed and self-enrichment. While claiming that the two Nordic countries need to clamp down on “Kurdish terrorist activities” in the region, he has no problem inciting—or outright approving—terrorist activities at home. Knowing full well that his approval is needed, expect this would-be dictator to successfully milk a host of concessions out of Europe before bestowing his magnanimous blessing on a strengthened NATO. While his good friend Putin won’t be happy with this ultimate decision, Erdogan will have enriched himself, yet again, by playing the dirty merchant of Europe.
On a scale of 1-9 on the democracy meter, Turkey has an abysmal rating of 4.35—more in the proximity of a Russia or a China as opposed to those of its Western neighbors. This won’t change as long as Erdogan is in power, and we don’t see him loosening his grip on that power any time soon.
Tu, 17 May 2022
Airlines
JetBlue is going hostile for Spirit, and it is a complete waste of time
We know how much the big four US-based airlines—American, United, Southwest, and Delta—were financially impacted by the pandemic, and quite understandably so. It follows, then, that the smaller players would be in even rougher shape following the two-year nightmare. Consolidation within the industry among these smaller players makes sense, and we reported this past February of Frontier’s (ULCC $9) plans to acquire Spirit Airlines (SAVE $19) in a deal valued at $2.9 billion ($6.6 billion with debt added in). Another small-cap player, JetBlue (JBLU $10), felt threatened by this move (rightfully so), and made its own offer to buy Spirit for $3.6 billion in an all-cash offer. Interesting, as the market cap of JBLU is just $3 billion. Not seeing a path toward regulatory approval, Spirit said thanks, but no thanks.
Which leads us to JetBlue’s current tactic: going hostile. Denouncing Spirit’s management team for refusing to perform due diligence with its offer, the company said it will actively pressure SAVE shareholders to reject the Frontier bid at a 10 June meeting. Bizarrely, JetBlue said that it would raise its $30 per share offer to $33 per share if management comes back to the table and provides the financial information being requested. That does nothing to alleviate the real problem: we see no circumstances under which the antitrust forces at the Department of Justice and the Federal Trade Commission will allow the JetBlue/Spirit deal to go through. In fact, Spirit CEO Ted Christie has explicitly stated that this may simply be about foiling the Frontier deal. We believe his argument will carry the day with shareholders. A combination of any two of these players would create the country’s fifth-largest airline, leapfrogging over Alaska Air Group (ALK $47).
JetBlue has a host of problems which Spirit wants nothing to do with, to include a worst-in-class, 62% on-time rate. Furthermore, the carrier is already in the Justice Department’s crosshairs, as the agency sued to block the airline’s regional partnership with American Airlines last year. Ultimately, we see the original Frontier acquisition getting approved, which will make JetBlue’s position in the industry even more tenuous.
Mo, 16 May 2022
Aerospace & Defense
Ryanair’s fiery Irish CEO loves Boeing, but “management is a group of headless chickens”
We love CEOs who are true leaders, are interesting characters in their own right, and who don’t feel the need to insert themselves into the political arena to score sycophantic points with super-sensitive stakeholders. Irish low-cost carrier Ryanair’s (RYAAY $81) fiery CEO, Michael “Mick” O’Leary, easily checks all three boxes. When Boeing’s (BA $126) hapless CEO, David Calhoun, is on one of the business networks, we mute the TV to avoid hearing the canned hot air delivered with a strained jumpiness; when we see O’Leary’s face, we always listen with rapt attention. A little background on Ryanair’s history with Boeing: the company has always been one of the aircraft maker’s most loyal customers. A European airliner with a fleet of 471 Boeing aircraft, 145 more on order, and just 29 Airbus (European) aircraft. That made us applaud all the louder when, during a Ryanair earnings call, O’Leary blasted Boeing’s management team and its inability to make good on orders. Saying they need to “bloody well improve on what they’ve been doing…,” he added that, “At the moment, we think the Boeing management (team) is running around like headless chickens.” Hey, that’s just what we have been saying ever since Calhoun anointed himself—with the Board’s blessing—CEO! Hear, hear! How refreshing to have a leader who tells it like it is. We could quickly list a dozen major US companies which could use someone like O’Leary at the helm.
Our minuscule impact on Boeing is limited to not owning it in any of the Penn strategies. We have to believe that the words of a Boeing cheerleader and major customer would have some major sway in the industry. Then again, Boeing has proven itself to be quite tone deaf since Jim McNerney left the firm in 2015, so who knows. It is probably the customer’s fault, right?
Mo, 16 May 2022
East & Southeast Asia
For the US, there was only one direction to go in the Philippines after Duterte
Many of us vividly recall the presidency of Ferdinand Marcos, and the endless stories written by the American press about his wife Imelda’s shoe collection. We thought back to his regime, which ended with a thud in 1986, this past week as his son, Ferdinand “Bongbong” Marcos Jr., notched a landslide election victory to become the next president of the Republic of the Philippines. For the United States, the importance of having a strong ally in this strategically critical region of the world cannot be overstated. Once one of America’s staunchest advocates in Southeast Asia, the country moved decidedly away from its old friend—and toward China—under President Rodrigo Duterte’s six-year rule. Until a last-minute change of heart, in fact, Duterte had all but cut military ties with the US by threatening to end the longstanding Philippines-United States Visiting Forces Agreement (VFA).
Along with the election of Marcos Jr., Filipinos sent a clear message that they do not wish to be subservient to their would-be Chinese masters. Overwhelmingly, voters expressed their unease with Duterte’s cozying up to China’s Xi Jinping. For its part, American military exercises in the South China Sea have enraged China, and the country’s ruling communist party has done everything it could to poison the relationship—not a difficult task with the mercurial Duterte in power. Now, with a huge favorability rating he does not wish to squander, we can expect Marcos to govern in a manner more conducive to overall stability in the region, and that is not what China had been hoping for.
Even though Duterte’s own daughter is the vice president-elect, this election was a clear victory for America’s interests in the region; as much of a victory, in fact, as the March election of Yoon Seok-youl in South Korea. Controlling the South and East China Sea regions are a linchpin to China’s grand ambitions, and the citizens of South Korea and the Philippines have indicated precisely what they think of those plans.
We, 11 May 2022
Automotive
Before a meme stock-like comeback, Carvana shares dropped 92% in nine months
Back in August of last year, used auto platform Carvana (CVNA $30) could do no wrong. Despite a lack of positive net income in any given year over its ten-year history, the company’s sales growth was spectacular, growing from $42 million in 2014 to $11.77 billion in 2021. Investors rewarded the competitor to such names as Carmax (our favorite in the space), Cars.com, and Autotrader by driving CVNA shares up to an intraday high of $376.83 on 10 August 2021. Fast forward precisely nine months, and traders are fleeing the maker of the highly unique Carvana Vending Machines. Shares hit a new 52-week low of $29.13 on the 11th of May after management announced a 12% reduction in its workforce; that price represents a 92% drop from the August highs. Another reason investors soured on the company was news of its acquisition of Adesa US, the wholesale vehicle auction division of KAR Auction Services, for $2.2 billion. Not due the acquisition itself, but the financing scheme: Carvana would be issuing $3.3 billion in junk bonds carrying a yield of 10.25%. In decades gone by, that might seem fine for a junk bond rate; today, it seems too good to be true (for bond buyers). Longtime Carvana investor Apollo Capital Management agreed to secure some $1.6 billion of that paper. As for the layoffs, which equate to roughly 2,500 employees, the company told the SEC that senior management would not collect any salaries for the remainder of the year to help fund the severance packages.
We feel for the investors who bought shares in the company last August. Price targets now range from $40 to $470 among analysts on the Street, but we wouldn’t touch the shares right now—or the 10.25% bonds. The company’s cash burn rate will be hard to sustain, even with the new round of funding.
Fr, 06 May 2022
Week in Review
Despite a hopeful FOMC day, markets suffered their fifth straight week of losses
It would be nice just to focus on Wednesday. Yes, that was the day the FOMC raised rates 50 basis points, the most since May of 2000, but the markets cheered when the Fed Chairman took a 75 basis point rate hike off the table. Between that comment and his belief that the Fed can pull off a “softish” landing, markets took to rallying: the Dow Jones Industrial Average gained 932 points and the NASDAQ rose 3.19%. Unfortunately, there were four other days in the trading week. Like the happy partygoer who wakes up the next day and asks, “what the * was I thinking?” the major benchmarks all made a swift change in directions. The Dow, in fact, shed over 1,000 points for the first time since the spring of 2020. Even a really strong Friday jobs report seemed to irritate the markets. The week’s drop signified the fifth straight down week for the benchmarks, and the worst start to a year since 1970. And that is not a decade we wish to see repeated. We said to expect wild market fluctuations and plenty of volatility during the rate hike cycle, and that certainly manifested itself this past week. The good news? Plenty of great, revenue-generating, industry-dominating American tech giants are now selling at bargain basement valuations. And for the record, we believe investors will be pleased with where the major indexes end the year—especially from the current vantage point.
Fr, 06 May 2022
Under the Radar
Hanesbrands Inc (HBI $12)
I rediscovered Hanes while on a search for socks, t-shirts, and briefs that were actually manufactured somewhere other than China. Sadly, that is a lot harder task that one would assume. In the end, Hanes was the one brand which came shining through. Channeling my inner Peter Lynch, I decided to do a deeper dive into HBI stock. Founded in 1901 and based out of Salem, North Carolina, Hanesbrands includes the Hanes, Champion, Playtex, Maidenform, Bali, and Bonds (Australia) labels. Importantly, this company is vertically integrated: it produces over 70% of its goods in company-controlled factories across some three dozen countries. Unlike a troubling percentage of other American manufacturing firms, it never hitched its wagon to communist-controlled China. In addition to its vertical integration (a major plus considering current supply chain issues), management has successfully created a vibrant omnichannel network. The company sells wholesale to discount, midmarket, department store, and direct to consumer via an impressive online and digital presence. At $12 per share (down from a high of $34.80 and sitting at a 52-week low), this $4.4 billion small-cap value company has a forward P/E of 7.5, a tiny price-to-sales ratio of 0.6520, and a fat dividend yield of 4.72% based on current share price. With a new strategic plan called Full Potential, CEO Steve Bratspies—formerly an Executive Vice President and the Chief Merchandising Officer at Walmart—has a clear vision of where he wants to take the company. We are betting he succeeds. We would conservatively value HBI shares at $24 apiece.
Th, 05 May 2022
Monetary Policy
Fed raises rates most in one meeting since May of 2000; let’s hope the trend continues
In May of 1999, twenty-three years ago this month, the upper limit of the federal funds rate (FFR) was sitting at 4.75%. In an effort to prevent runaway inflation and cool the scorching-hot US economy, the Fed began raising interest rates. It capped that effort one year later, in May of 2000, when it raised rates 50 basis points, from 6% to 6.5%. Why is that history lesson important? Because, to staunch already-runaway inflation, the Fed just made its biggest move since that meeting twenty-two years ago: the Committee spiked rates (upper limit) from 0.50% to 1%. The history lesson also brings home another point. When rates topped out at 6.5%, the central bank had an enormous amount of room to tighten as it worked to avoid recession, which it did (lowering rates) between 2001 and 2003. The accompanying graph provides a wonderful visual for the difference between then and now. Rates must continue to go higher. At the very least, we need to get back to the average FFR of 2.5%. To do so in a timely manner would entail another 50 basis point hike at both the June and July meetings, respectively, and a 25 basis point hike in both September and November. Unless inflation shows real signs of cooling, that is the scenario we can expect to play out. We can also expect a few hikes in 2023, bringing the FFR up to 3% or higher.
In addition to the hike, Fed Chair Jerome Powell also announced a systematic paring back of the Fed balance sheet, which remains just shy of $9 trillion. More perspective: that debt load sat well below $1 trillion back in 2000. Starting in June, that astronomical figure will be reduced by $95 billion per month, equaling a $1.1 trillion reduction by May of 2023. Again, a good start.
With any luck at all, inflation can be tamed without the rate hikes pulling us into a recession until 2024—though the latter scenario may well play out in 2023. The longer we can keep a recession at bay, the more ammo the Fed will have leading into the next tightening cycle.
We, 04 May 2022
Education & Training Services
Textbook company Chegg’s market drop following its earnings release was irrational
Despite the fact that we like Education and Training Services company Chegg (CHGG $17), we knew it was overvalued when the shares were trading north of $100. Now, after falling some 85%—yes, you read that right—the shares are decidedly undervalued. In fact, one would almost have to assume the company were ready to go out of business to still be bearish at this level, and we expect the company to be around for a long time to come. The catalyst for the pummeling wasn’t rotten numbers for the quarter, it was forward guidance. In fact, Chegg’s revenue rose 2% year-over-year, to $202.2 million in the quarter; and adjusted net income rose 8%, to $50.1 million. Earnings per share easily beat the Street’s estimate of $0.24, coming in at $0.32. Finally, subscriber growth—that wonderful, “sticky” revenue stream—rose by 12%. The problems began to appear when management began talking. Claiming that more people were now focusing on “earning over learning,” CEO Dan Rosensweig warned of rough quarters ahead, lowering full-year revenue guidance from the $830M-$850M range to $740M-$770M. Those figures, and a similar reduction in expected earnings, helped the stock crater to a new 52-week low, falling 30% in one day.
Chegg has been aggressively growing its international footprint, offering a direct-to-student learning platform which should continue to increase its market share in a solid industry: education services. While we don’t currently own the company, we believe the shares could easily fetch $35 before long. That would give investors a 100% reward for taking on the risk of owning this small-cap name.
Tu, 04 May 2022
Trading Desk
Opening industrial automation leader within the New Frontier Fund
This current market downturn has been indiscriminate: it has taken some fine companies down to valuations not seen since spring of 2020. We are adding a great but beaten down industrial company to the New Frontier Fund. When you think of automation and the factory of the future, this mid-cap gem should come to mind. Members, log into the Trading Desk for details.
Mo, 01 May 2022
Economics: Goods & Services
Yes, the US economy contracted in the first quarter of the year; but no, it won't become a trend just yet
Technically, a recession is defined as two consecutive quarters of economic contraction within an economy. How concerned should we be, then, that the US economy shrunk by 1.4% in the first quarter? In our opinion, not very. While the headline number is concerning, some comfort can be found by reviewing the internal components of the Commerce Department's report, which was released last week. Government spending actually slowed, which may not be a good thing in the eyes of economists, but in the "real world," it signals at least a modicum of fiscal responsibility. The trade deficit soared in the first quarter on a surge in imports; certainly not a desirable condition, but one which shows the American consumer is still flush with cash and willing to spend. Visualize all of those cargo ships stuck at US ports finally offloading their goods. For all of the concern over inflation, higher prices didn't seem to mute consumer spending last quarter. Fixed investment—economic jargon for the purchase of physical assets such as machinery, land, buildings, and other hard assets—grew a whopping 7.3% in Q1, versus a 2.7% growth rate in the same quarter of last year. Hardly a sign that businesses are buckling down in anticipation of a pending recession. In short, don't expect a consecutive contraction when the Q2 GDP numbers are released in July.
In the past, slowing GDP figures would have certainly played a major role in the Fed's decisions on rates. However, with runaway inflation taking center stage, we still expect a slew of rate hikes this year. By the time the next recession rolls around, probably at some point in 2023, expect more normalized long-term interest rates—which we would anticipate being in the 4.50% range. That is a good thing, as it would give the Fed something to work with should it need to begin loosening once again.
We, 27 Apr 2022
Aerospace & Defense
David Calhoun will never run out of excuses for Boeing's problems; will shareholders ever run out of patience with him?
It was yet another disastrous quarter for formerly-great American aerospace giant Boeing (BA $152). Against underwhelming expectations for $15.9 billion in sales and a $0.15 per share loss, the company brought in just $14 billion in revenue (a 12% decline from the same quarter last year) and had a loss of $2.75 per share (an 80% larger loss than the same quarter last year). Boeing shares proceeded to drop some 14%, to their lowest level since October of 2020, giving the company a smaller market cap than European rival Airbus (EADSY $27) for the first time ever. Even the cash burn was worse than expected, with Boeing blowing through some $3.6 billion versus expectations for a $3 billion cash burn. The company has now missed analysts’ expectations in nine out of the last twelve quarters. Watching hapless CEO David Calhoun being interviewed by CNBC’s Phil LeBeau was painful. With an unsure, shaky voice, he blamed the quarter on everything but the management team—even citing the company’s last Air Force One deal as a reason for the horrible quarter. (If it were so bad, why did you make it?) We knew Calhoun, who was Chairman during the company’s two ill-fated 737-MAX crashes, was the wrong selection for CEO from the start. But he placed himself in the position shortly after telling us how much confidence the board had in then-CEO Dennis Muilenburg. He gave himself the role as the other board members nodded their sycophantic approval like Governor William J. LePetomane’s staff in Blazing Saddles. It should be noted that Calhoun’s compensation last year was $21 million, while the company lost some $4 billion over that time frame. With serious failures on both the aircraft and spacecraft side of the business, when will the madness end?
We sold our BA shares shortly after the second MAX crash—after holding them in one of the Penn portfolios for over a decade. With all the activist investors out there, often going after good management teams, where is the shareholder uprising at Boeing?
Tu, 26 Apr 2022
Random thought: Are we the only ones who find it a bit insincere for investment houses to "adjust" their S&P 500 predictions for the full year? If you are going to change your prediction, why make one in the first place? It is like placing a bet in March on a team to win the Super Bowl, then asking for your money back when October rolls around and your team is 1-4. We made our predictions in December that the S&P 500 would be at 5,100 by the end of the year; wouldn't changing that prediction (which we still stand by) be a bit deceptive?
Tu, 26 Apr 2022
Capital Markets
Fidelity plans to bring cryptocurrencies to your 401(k) plan; we applaud the move
Whatever you may think of Bitcoin, cryptocurrency is now its own asset class and it is here to stay. While this digital money has certainly not shown itself to be a hedge against inflation, nor an inversely correlated (to equities) asset class, it will be of growing importance to the capital markets. That is why we were happy to see Fidelity Investments, a major retirement plan provider, announce plans to include Bitcoin as a core option within its 401(k) plans. It won't be offered as a mutual fund or ETF, such as the Grayscale Bitcoin Trust (GBTC $29), but rather a dedicated asset account just like a plan's money market option. Fidelity would custody the assets on its own digital assets platform, charging between 75 and 90 basis points for administration. Employees' allocation to the crypto portion of their retirement plan would be limited to 20%, though individual employers could place further limitations on that percentage. How big is this move? Of a roughly $8 trillion 401(k) plan market, Fidelity controls approximately $3 trillion of that amount. Expect others to follow the company's lead.
We imagine Jack Bogle, the curmudgeonly old founder of Vanguard, is rolling over in his grave at this news. We recall him once arguing that employees were given too many options in their retirement plans, and that more controls (i.e., limitations) needed to be put in place by the government. Of course, that would have meant more assets under management for his company's less-than-stellar target-date funds.
Mo, 25 Apr 2022
Media & Entertainment
The rise and demise of CNN+ (a 30-day tale)
When we first heard that CNN was going to package a standalone streaming subscription service, our immediate thought was, "subscription overload time." We figured the effort would ultimately fail; we had no idea it would do so in under a month. The Warner Bros. Discovery (WBD $20) creation seemed doomed from the start, based on the fanciful wishes of WarnerMedia's management team to build CNN+ into a digital version of the New York Times. The faulty premise was the (arrogant) notion that millions of cord cutters who had previously viewed CNN as part of their respective cable package would suddenly be willing to subscribe to a standalone CNN news network. They threw out a "conservative" estimate of two million new subscribers by the end of the operation's first year. After all, that was a mere one-third of the six million subscriptions that the Times boasts. (The New York Times actually claims it just passed the ten million paid subscribers mark with its acquisition of The Athletic, but that involves some seriously creative math.) The management team even considered putting a paywall around the entire cnn.com site; as we say, arrogance. When AT&T (T $20) completed its WarnerMedia spin-off more quickly than expected, placing industry veteran David Zaslav at the helm, the end was at hand. We have a lot of respect for Zaslav, who has little tolerance for BS. The dream of milking off of AT&T and its deep pockets (and lack of good financial decision making based on past acquisitions) turned into a nightmare. Immediately after WBD began trading as a standalone, CNN+'s marketing budget was adjusted to zero. Chris Licht, former executive producer of Stephen Colbert's show, had just been brought in to run the new operation. One of his first duties was to tell the staff that the unit was defunct, and that they could try and get reassigned to other departments, but that most would be losing their jobs. Licht, himself, will be looking for other work soon. "This is a uniquely shitty situation," Licht told his stunned audience.
Is AT&T a worthy investment now that they have spun off WarnerMedia? No. Is Warner Bros. Discovery a good investment now that they are a standalone? No.
Fr, 22 Apr 2022
Market Pulse
There are different strains of downturns; investors should not sweat this week's garden variety
Investors are going to have to accept this simple fact: the markets will throw a number of tantrums during the Fed's tightening cycle, despite the irrationality of doing so. Quite often, there are very good reasons for a market selloff. March of 2020's downturn, based on the uncertain nature of a global health threat, was a good reason. When markets are vastly overvalued, like they were in March of 2000, that becomes another good reason for a big drawdown. Sometimes, however, the market sells off for very inane, irrational reasons. Chalk this week's downturn up to the latter. It was another one of those weeks when nothing worked: all of the major equity benchmarks fell, as did gold and oil. Bonds typically go up as equities go down; this past week, headline after headline read: "The Global Bond Market Rout." And it was, indeed, the bond market which drove equities lower. If anyone doesn't expect the Fed to raise rates 50 basis points at the May meeting, they have had their head in the sand. Let's be clear: fear of rate hikes is a really dumb reason for a market selloff. Even if Powell and company raise rates at every single meeting for the next year, we will still be below the historical average. The markets can withstand this course of events, despite the investor fits which will be thrown along the way. Here's why we are actually excited about the coming hikes: we will finally be able to pick up some decent-yielding bonds once again, which will mean stronger portfolio allocations. And at some point in 2023, when the Fed will be forced to reverse course due to a looming recession, those bonds are going to look mighty good sitting in our portfolios.
Tech stocks and small-caps have been hit the hardest this year, with both areas not far away from bear market territory. Scan some of the P/E ratios of strong tech/small-cap holdings; you might be surprised at how cheap they are. Want an example? Coinbase Global (COIN $132), a company we hold in the New Frontier Fund, had a P/E ratio of 172 one year ago; it currently holds a multiple of ten. Bargains abound, just choose wisely.
Fr, 22 Apr 2022
Leisure Equipment, Products, & Facilities
Floundering Peloton has one viable option remaining: get acquired and let the new owner broom the C-suite
We were early investors in Peloton (PTON $20), a company which brought a little life back into the languid fitness products market. We stood by the company when they were being attacked by thin-skinned viewers over a Christmas ad which we found to be highly effective—and not at all offensive. Even with the steep price for its products (the Tread+ was selling for around $5k with warranty), we liked the company's business model. Then, following a tragic accident involving a child as well as scores of other incidents, cracks began to appear in the management team's facade. After briefly trying to go on offense against the feds, Co-Founder and then-CEO John Foley was forced to strike a deal with the Consumer Product Safety Commission (CPSC), agreeing to offer a full refund for the 125,000 or so customers who purchased the pricey tread. Furthermore, the machine could be returned for a full refund at any point in time up until 06 November, 2022.
Since then (the agreement was announced last May), John Foley has stepped down as CEO, but the management missteps continue. As if a $39 monthly fee for the Peloton membership was not enough, the company announced it would be raising prices to $44 this June. Here's the insult to injury part (truly, no pun intended): The company's safety "fix," which was also part of the CPSC agreement, made it virtually impossible to use the tread without a membership! What a stupid move, considering the fact that users now have a full six months to think about that slap-in-the-face before deciding whether or not to get their full refund. Membership prices should have been reduced to $30 per month, and customers who willingly paid out a whopping amount of money should retain the ability to run on their tread without a monthly membership fee. That would have been an easy software fix, but that ship has now sailed.
The only remaining viable option for the company is to court suitors, such as Apple (it would be a great fit), and agree to be acquired. With a market cap of under $7 billion (it was a $50 billion company in January of 2021), that would be a win-win outcome. With an obtuse management team, however, that crystal clear option is probably not even being considered.
When PTON shares fell to $50, we said they may be worth a look—though we did not own them at the time. We obviously underestimated the management team's ability to make dumb decisions. Ultimately, we imagine the company will be backed into a corner and have no choice but to sell—or liquidate. As for us, we will continue paying the confiscatory monthly fees through the summer, then turn that fancy puppy in for a full refund and buy another company's tread. With the leftover dough, maybe we will buy a nice television to hang in front of the device; one that offers more than a single, captive, expensive channel. (For Peloton owners, go here for the CPSC recall info, plus the company's contact info; deadline for full refund is 06 Nov 2022.)
We, 20 Apr 2022
Under the Radar
Lundin Mining Corp (LUN.TO $14)
Lundin Mining Corp is a diversified Canadian base metals miner with operations in the United States, Brazil, Chile, Portugal, and Sweden. Copper production is the company's main source of revenue, with about 70% of last year's sales being generated by the base metal. That being said, gold, zinc, and nickel mining are also important components to the company's continued profitability. Not only do we like the miner's geographic footprint—which steers clear of geopolitical hotspots, we also like its mix of products: copper plays a critical role in electronics, power generation and transmission (especially renewables), industrial machinery, and construction. While the risk level is a bit high (3-year beta 1.750), owning the shares have been worth it (3-year alpha 5.090). Lundin has a strong balance sheet, little debt, and a 3.16% dividend yield for income-oriented investors.
We would place a fair value of $20 on LUN.TO shares; the company is appropriate for investors looking for income, a global commodities play, and a willingness to hold a higher-risk name.
We, 20 Apr 2022
Media & Entertainment
The Netflix nightmare continues: shares plunged 35% in one day
Admittedly, we have never been fans of Netflix (NFLX $218) the stock, which means we have missed out on some stunning growth in the past. It also means, however, that we avoided the 69% plunge in the shares between last November and this week. Unlike activist investor (and someone we like about as much as Netflix stock) Bill Ackman, who made an enormous bet on the company three months ago, buying some 3.1 million shares. A full 35% of the stock's decline occurred on Wednesday, following the release of an awful quarterly earnings report. Instead of gaining subscribers, as the company has done every quarter going back to 2011, Netflix actually lost 200,000 subscribers over the three month period. In guidance which stunned analysts even more than Q1's figures, the company said it now expects to lose two million more subscribers in the second quarter. Analysts had been predicting a pick-up of two million subs in the current quarter. While management pointed to the company's retreat from Russia as one explanation for the drop, we would argue that yet another increase in the subscription rate—to $15.49 per month—certainly drove some customers away. Tesla CEO Elon Musk tweeted his own rationale for the streaming service's troubles: "The woke mind virus is making Netflix unwatchable." As for Ackman, he just sold his 3.1 million shares for a huge short-term loss. At least that should help him at tax time next year.
Following the abysmal results, analysts began lowering their price targets for NFLX shares at breakneck speed. Even after their 69% drop, we still wouldn't touch the shares.
Tu, 19 Apr 2022
Airlines
To the delight of the carriers, federal judge in Florida rules CDC overstepped its bounds with airline mask mandate
On Monday, a federal judge in Florida ruled that the CDC had overstepped its authority when it decreed that masks were required to be worn by all passengers on aircraft and other means of public transportation. Shortly after the judge's ruling, the TSA announced that it would no longer enforce the mandate. By Tuesday, all of the major airlines lifted the requirement. In her ruling, US District Judge Kathryn Kimball Mizelle said that the Centers for Disease Control had failed to adequately give the rationale for its mandate, and did not allow for the normal procedure of public comment before issuing its decree. The United States Department of Justice is reviewing the decision and deciding whether or not it will appeal. In addition to the airlines, Amtrak has officially removed its mask requirement, as has private ride-hailing service Uber (UBER $33).
With vaccines and therapies now available, lifting the mask mandate was the common sense next step in our return to some semblance of normalcy. While many health experts are predicting strains of the disease will re-emerge with force when the weather turns colder this coming fall and winter, we don't see a return of either lockdowns or widespread mask requirements. In other words, the disease has become an endemic which must be managed by the health care system for the foreseeable future. As for the airlines specifically, we expect pent up demand for travel to fuel strong earnings over the coming quarters. We own United Airlines Holdings (UAL $45) in the Penn Global Leaders Club.
Tu, 19 Apr 2022
Capital Markets
Schwab gaps down nearly 9% on earnings miss
Retail financial services firm Charles Schwab (SCHW $76) lost nearly 9% of its value on Monday following a first quarter miss on both revenue and earnings. Analysts were looking for $4.83 billion in revenue and earnings per share of $0.84; instead, they got $4.67 billion in revenue and $0.77 in EPS. While retail activity has surged in recent years on the back of commission-free trading, daily trading volume at the firm actually dropped 22% from the same period last year. Increased volatility, new competition, and a return to normal activities following the pandemic all played a role in the company's challenges for the quarter. As for the earnings miss, the high costs associated with the TD Ameritrade acquisition and higher general expenses helped explain the lackluster quarter. Expenses for the three-month period came in $56 million above what Piper Sandler had projected, and 4% above last year's figures. Monday's drop represents the largest one-day decline in SCHW shares since March of 2020.
The company won't admit it, but the TD Ameritrade acquisition has brought about a good deal of unexpected headaches. These will eventually be worked through, but with its P/E ratio of 27 and its rather high price-to-sales ratio of 8, investors shouldn't be in a hurry to take advantage of this most recent drop in the share price.
Tu, 19 Apr 2022
Latin America
AMLO tried to nationalize Mexico's electrical grid; the lower house of congress short-circuited his plans
The state oil company of Mexico, Pemex, is the most indebted oil company in the world. This makes perfect sense, as it is owned and operated by a government rather than private enterprise. What Mexico accomplished through Pemex, President AMLO had hoped to do for the country's electrical grid: nationalize it. To that end, his allies in the Congress of the Union attempted to push through a bill restoring government control over the electrical sector. Fortunately for the Mexican people, the body's lower house refused to deliver. Needing a two-thirds majority to amend the constitution, only 55% of the lower chamber's members voted for the scheme, handing AMLO a rare legislative defeat. AMLO lashed out, calling critics of the bill betrayers of Mexico and defenders of foreign interests. Considering the bill's passage would have greatly diminished foreign investment in Mexico's energy sector, it sounds like these members were acting in the best interest of the citizenry.
This is yet another example of a country's leadership wishing to have it both ways: they want foreign money but wish to keep full control of the entities. It simply doesn't work that way. One of these days, Mexico will offer a great opportunity for investors. That day won't come, however, until elected officials understand and accept how a free market works. The easiest way to invest in the Mexican economy is through the iShares MSCI Mexico ETF (EWW $53). The fund lost 46% of its value in spring of 2020 during the early days of the pandemic, and has a one-year fund outflow of $518 million, leaving just $900 million in total assets under management.
Th, 14 Apr 2022
Flagship vessel of the Russian Black Sea fleet, the missile cruiser Moskva (Moscow), has been so badly damaged that the crew has been forced to evacuate. At least, it is out of commission; at most, it will sink into the Black Sea. Yet again, Putin has overestimated his military and underestimated the adroitness and resolve of the Ukrainians.
UPDATE: It sunk. Russia (falsely) claims ammo exploded on the vessel; Ukraine (correctly) explains that its Neptune missiles successfully struck and destroyed the Moskva.
Th, 14 Apr 2022
The Twitter board views Musk's takeover offer as a distraction. Distraction from what? Losing money? That seems to be their strongest skillset. As for the prince from Saudi Arabia "rejecting" Musk's offer, his sovereign wealth fund owns roughly half as many TWTR shares as Musk. I would create a competing platform and take my 80 million followers (we are among them) to a better platform. As for Twitter's supposed "poison pill" to keep Musk at bay, considering their debt load and the amount of money they are losing, it appears they have already deployed it.
Th, 14 Apr 2022
Trading Desk
Opening new international semiconductor play in the New Frontier Fund
As the world continues to ween itself off of semiconductors made in China, this European company should benefit nicely. It provides thousands of products to companies in industries such as telecom, automotive, industrials, and consumer products. And yes, Tesla is a customer. See the Trading Desk for details.
Flagship vessel of the Russian Black Sea fleet, the missile cruiser Moskva (Moscow), has been so badly damaged that the crew has been forced to evacuate. At least, it is out of commission; at most, it will sink into the Black Sea. Yet again, Putin has overestimated his military and underestimated the adroitness and resolve of the Ukrainians.
UPDATE: It sunk. Russia (falsely) claims ammo exploded on the vessel; Ukraine (correctly) explains that its Neptune missiles successfully struck and destroyed the Moskva.
Th, 14 Apr 2022
The Twitter board views Musk's takeover offer as a distraction. Distraction from what? Losing money? That seems to be their strongest skillset. As for the prince from Saudi Arabia "rejecting" Musk's offer, his sovereign wealth fund owns roughly half as many TWTR shares as Musk. I would create a competing platform and take my 80 million followers (we are among them) to a better platform. As for Twitter's supposed "poison pill" to keep Musk at bay, considering their debt load and the amount of money they are losing, it appears they have already deployed it.
Th, 14 Apr 2022
Trading Desk
Opening new international semiconductor play in the New Frontier Fund
As the world continues to ween itself off of semiconductors made in China, this European company should benefit nicely. It provides thousands of products to companies in industries such as telecom, automotive, industrials, and consumer products. And yes, Tesla is a customer. See the Trading Desk for details.
Mo, 18 Apr 2022
Global Organizations & Accords
Putin, his own worst enemy, is pushing historically-neutral Finland and Sweden into the arms of a welcoming NATO
While Norway has been a member of NATO since its inception in 1949, neighboring Nordic countries Sweden and Finland have historically and steadfastly remained nonaligned with any military organization or group. It appears that is all about to change. Especially with respect to Finland, which borders Russia to its east, it is easy to understand this geopolitical balancing act. For Finnish Prime Minister Sanna Marin, however, "Everything changed when Russia invaded Ukraine." Prime Minister Magdalena Andersson of Sweden was just as succinct with her analysis: "There is a before and after the 24th of February." Both women lead countries on the verge of deciding whether or not to apply for NATO membership, with its "an invasion of one is an invasion of all" canon. Finland has paved its path toward membership with a new security-policy report clearly outlining the threat posed by its eastern neighbor. For the fiercely-independent citizens of both countries, Putin's aggressive actions have had a clear impact, with majorities now favoring membership. With decisions from both countries imminent, the autocratic leader of Russia has already issued an ultimatum. Dmitry Medvedev, once Putin's puppet president and now the country's prime minister, has said that a nuclear-free Baltic region would no longer be possible if Finland and Sweden become NATO member-states. Lithuanian Prime Minister Ingrida Simonyte dismissed the threats, noting that Russia has already armed the region with nuclear weapons. The death and destruction brought about by the invasion has been a tragedy for Europe and for the civilized world. At least it appears to be crystallizing the resolve of Europe to a rare degree.
We would put money on Finland and Sweden joining the alliance, which will lead to more saber-rattling by Putin. We applaud the leadership being exercised in the region, which will certainly manifest itself through larger defense budgets.
Global Organizations & Accords
Putin, his own worst enemy, is pushing historically-neutral Finland and Sweden into the arms of a welcoming NATO
While Norway has been a member of NATO since its inception in 1949, neighboring Nordic countries Sweden and Finland have historically and steadfastly remained nonaligned with any military organization or group. It appears that is all about to change. Especially with respect to Finland, which borders Russia to its east, it is easy to understand this geopolitical balancing act. For Finnish Prime Minister Sanna Marin, however, "Everything changed when Russia invaded Ukraine." Prime Minister Magdalena Andersson of Sweden was just as succinct with her analysis: "There is a before and after the 24th of February." Both women lead countries on the verge of deciding whether or not to apply for NATO membership, with its "an invasion of one is an invasion of all" canon. Finland has paved its path toward membership with a new security-policy report clearly outlining the threat posed by its eastern neighbor. For the fiercely-independent citizens of both countries, Putin's aggressive actions have had a clear impact, with majorities now favoring membership. With decisions from both countries imminent, the autocratic leader of Russia has already issued an ultimatum. Dmitry Medvedev, once Putin's puppet president and now the country's prime minister, has said that a nuclear-free Baltic region would no longer be possible if Finland and Sweden become NATO member-states. Lithuanian Prime Minister Ingrida Simonyte dismissed the threats, noting that Russia has already armed the region with nuclear weapons. The death and destruction brought about by the invasion has been a tragedy for Europe and for the civilized world. At least it appears to be crystallizing the resolve of Europe to a rare degree.
We would put money on Finland and Sweden joining the alliance, which will lead to more saber-rattling by Putin. We applaud the leadership being exercised in the region, which will certainly manifest itself through larger defense budgets.
Mo, 11 Apr 2022
E-Commerce
We are fine with Shopify's ten-for-one stock split decision; it is the other planned move which has us concerned
Ten-for-one stock splits have been the financial activity du jour for tech companies recently, with the likes of Amazon, Google, and Tesla undertaking such moves. E-commerce platform Shopify (SHOP $601) just joined the pack. We began seriously looking at this e-commerce platform, which is a hugely popular choice for small- and medium-sized businesses wishing to expand their digital footprint, after its share price plunged some 70% in the four-month period between last November and this past March. Around $600 per share, it seems undervalued. The company just announced a move we fully support: it will undergo a ten-for-one stock split, which would bring the current share price to around $60. At first, share futures rallied on the news; but then, another announcement was made which gave investors pause for concern. A new share class would be created, the Founder share, which would be given to founder and CEO Tobi Lutke in order to increase his voting power in excess of 40%. We have made clear our disdain for dual share class structures (or more than dual in many cases), which is little short of financial engineering designed to give elite stakeholders power over us ordinary shlub owners, the hoi polloi who dare to expect some modicum of power simply because we put our hard-earned money into an ownership stake. Granted, Lutke has been a fine—even dynamic—leader for the firm, but he is well compensated for his skills through a generous, $15 million per year pay structure and a 6.27% ownership stake. If he wants so much power over the firm he began, shouldn't he take it private? Shopify really is an excellent platform for small- and mid-sized businesses, but the competition is too keen for the company to turn off would-be investors with this scheme.
We put together the accompanying graph in February, asking if shares were undervalued at $657. If they were then, they certainly are now, with shares floating around the $600 level. Still, we are having trouble accepting this Founder share class maneuver. For investors who have a high risk appetite and are comfortable with the move, we could easily make the argument that the shares are worth between $750 and $1,000. We just can't justify pulling the trigger right now.
E-Commerce
We are fine with Shopify's ten-for-one stock split decision; it is the other planned move which has us concerned
Ten-for-one stock splits have been the financial activity du jour for tech companies recently, with the likes of Amazon, Google, and Tesla undertaking such moves. E-commerce platform Shopify (SHOP $601) just joined the pack. We began seriously looking at this e-commerce platform, which is a hugely popular choice for small- and medium-sized businesses wishing to expand their digital footprint, after its share price plunged some 70% in the four-month period between last November and this past March. Around $600 per share, it seems undervalued. The company just announced a move we fully support: it will undergo a ten-for-one stock split, which would bring the current share price to around $60. At first, share futures rallied on the news; but then, another announcement was made which gave investors pause for concern. A new share class would be created, the Founder share, which would be given to founder and CEO Tobi Lutke in order to increase his voting power in excess of 40%. We have made clear our disdain for dual share class structures (or more than dual in many cases), which is little short of financial engineering designed to give elite stakeholders power over us ordinary shlub owners, the hoi polloi who dare to expect some modicum of power simply because we put our hard-earned money into an ownership stake. Granted, Lutke has been a fine—even dynamic—leader for the firm, but he is well compensated for his skills through a generous, $15 million per year pay structure and a 6.27% ownership stake. If he wants so much power over the firm he began, shouldn't he take it private? Shopify really is an excellent platform for small- and mid-sized businesses, but the competition is too keen for the company to turn off would-be investors with this scheme.
We put together the accompanying graph in February, asking if shares were undervalued at $657. If they were then, they certainly are now, with shares floating around the $600 level. Still, we are having trouble accepting this Founder share class maneuver. For investors who have a high risk appetite and are comfortable with the move, we could easily make the argument that the shares are worth between $750 and $1,000. We just can't justify pulling the trigger right now.
Tu, 05 Apr 2022
Economic Outlook
The yield curve is inverted once again, so does that really mean a recession is rapidly approaching?
The "normal" yield curve makes sense: an investor expects to receive better compensation for longer maturity instruments, as uncertainty understandably increases with time. So, a 5-year Treasury should pay more than a 2-year, a 10-year Treasury should pay more than a 5-year, and so on. This is known as the risk premium—investors expect to be rewarded for taking more risk by going further out on the time horizon. The yield curve inverts when something unusual happens: shorter-maturity instruments begin offering a better yield than their longer-term counterparts, with the difference being known as the spread. The most common comparison economists look at for an indication of economic health is the 2-10 year spread, and it just so happens that the spread in question has inverted.
Why would fixed-income investors be willing to accept a 2.42% rate on a 10-year Treasury right now as opposed to a 2.43% rate on a 2-year? Because they believe that economic conditions will worsen to the point at which the Fed must begin easing in the not-too-distant future. If events unfold in this manner, the value of that 10-year, 2.42% note will rise in value quicker (or at least hold up better) than its shorter-term counterpart. It may seem crazy to be talking about easing when we are just one, 25-basis-point hike into a tightening cycle expected to last a year or so, but that is where we are. As for the time frame, the last five recessions (not counting the one induced by COVID in early 2020) came between 10 and 34 months after the yield curve inverted. This has many economists looking out to mid- to late-2023 for the next one.
Others are splashing cold water on this prognosis, pointing out that foreign demand for 10-year US Treasuries has been elevated and sustained. Per the laws of supply and demand, the issuer—the US government in this case—is able to offer lower rates and still attract buyers. Another factor is duration of the inverted curve. While it has fluttered between negative and positive, there has yet to be a persistent inversion. Throwing a third factor into the mix, the S&P 500 has historically been strong in the period between inversion of the yield curve and the beginning of a recession. In other words, don't panic just yet.
Not counting 2020's mini recession induced by the pandemic, the US has endured twelve recessions since the end of World War II, with the last occurring between 2007 and 2009. It is too simple to say we are "due" a recession, as so many variables conspire to cause the event. Nonetheless, proper asset allocation is paramount when preparing for the next economic downturn—whenever it comes.
Economic Outlook
The yield curve is inverted once again, so does that really mean a recession is rapidly approaching?
The "normal" yield curve makes sense: an investor expects to receive better compensation for longer maturity instruments, as uncertainty understandably increases with time. So, a 5-year Treasury should pay more than a 2-year, a 10-year Treasury should pay more than a 5-year, and so on. This is known as the risk premium—investors expect to be rewarded for taking more risk by going further out on the time horizon. The yield curve inverts when something unusual happens: shorter-maturity instruments begin offering a better yield than their longer-term counterparts, with the difference being known as the spread. The most common comparison economists look at for an indication of economic health is the 2-10 year spread, and it just so happens that the spread in question has inverted.
Why would fixed-income investors be willing to accept a 2.42% rate on a 10-year Treasury right now as opposed to a 2.43% rate on a 2-year? Because they believe that economic conditions will worsen to the point at which the Fed must begin easing in the not-too-distant future. If events unfold in this manner, the value of that 10-year, 2.42% note will rise in value quicker (or at least hold up better) than its shorter-term counterpart. It may seem crazy to be talking about easing when we are just one, 25-basis-point hike into a tightening cycle expected to last a year or so, but that is where we are. As for the time frame, the last five recessions (not counting the one induced by COVID in early 2020) came between 10 and 34 months after the yield curve inverted. This has many economists looking out to mid- to late-2023 for the next one.
Others are splashing cold water on this prognosis, pointing out that foreign demand for 10-year US Treasuries has been elevated and sustained. Per the laws of supply and demand, the issuer—the US government in this case—is able to offer lower rates and still attract buyers. Another factor is duration of the inverted curve. While it has fluttered between negative and positive, there has yet to be a persistent inversion. Throwing a third factor into the mix, the S&P 500 has historically been strong in the period between inversion of the yield curve and the beginning of a recession. In other words, don't panic just yet.
Not counting 2020's mini recession induced by the pandemic, the US has endured twelve recessions since the end of World War II, with the last occurring between 2007 and 2009. It is too simple to say we are "due" a recession, as so many variables conspire to cause the event. Nonetheless, proper asset allocation is paramount when preparing for the next economic downturn—whenever it comes.
Mo, 04 Apr 2022
Interactive Media & Services
Twitter rockets higher after Elon Musk takes 9% stake in the social media platform
A few weeks ago, Elon Musk took to Twitter (TWTR $50) to throw some shade the company's way. After calling the social media platform the "de facto public town square (for the exchange of ideas)," he asked his 80 million followers, "Do you believe Twitter rigorously adheres to this principle (of free speech)?" For the record, the response was 70% to 30% in the negative. Several months before positing this question, Musk tweeted an altered image of CEO Parag Agrawal seemingly doing away with founder and former CEO Jack Dorsey by pushing him into a river. Our opinion is that the tweet was more of a joke than anything (it was funny), but analysts began questioning whether he had it out for Twitter's new boss. On Monday came the news that, around mid March, Musk had made himself the firm's largest shareholder, with a 9% stake worth around $3 billion. News of the stake sent TWTR shares rocketing 27% higher—to $50—in Monday's session. While his position is classified as a passive stake per his 13G filing, it is hard to imagine Musk making his first major investment in a publicly-traded company (outside of one which he controls) without having a say in how the company is managed going forward. Especially given his record of tweeting what is on his mind. The simple fact that he is the largest shareholder gives him more sway over the company than The Vanguard Group or Morgan Stanley Investment Management—the second and third largest shareholders, respectively. The interesting questions become, what will he do with this power, how might (his chronic nemesis) the SEC respond, and what are his larger designs? Stay tuned.
With Twitter shares still down nearly 40% from their highs, even after the Musk bounce, is the platform a buying opportunity? To say we weren't fans of Jack Dorsey would be an understatement, but we have about as much confidence in Agrawal as Musk seems to place in him. Perhaps this new shareholder can be the catalyst the company needs to better monetize its business and actually become the "de facto public town square for the exchange of ideas." Until Musk's plans are a little more clear, we still wouldn't be buyers.
Interactive Media & Services
Twitter rockets higher after Elon Musk takes 9% stake in the social media platform
A few weeks ago, Elon Musk took to Twitter (TWTR $50) to throw some shade the company's way. After calling the social media platform the "de facto public town square (for the exchange of ideas)," he asked his 80 million followers, "Do you believe Twitter rigorously adheres to this principle (of free speech)?" For the record, the response was 70% to 30% in the negative. Several months before positing this question, Musk tweeted an altered image of CEO Parag Agrawal seemingly doing away with founder and former CEO Jack Dorsey by pushing him into a river. Our opinion is that the tweet was more of a joke than anything (it was funny), but analysts began questioning whether he had it out for Twitter's new boss. On Monday came the news that, around mid March, Musk had made himself the firm's largest shareholder, with a 9% stake worth around $3 billion. News of the stake sent TWTR shares rocketing 27% higher—to $50—in Monday's session. While his position is classified as a passive stake per his 13G filing, it is hard to imagine Musk making his first major investment in a publicly-traded company (outside of one which he controls) without having a say in how the company is managed going forward. Especially given his record of tweeting what is on his mind. The simple fact that he is the largest shareholder gives him more sway over the company than The Vanguard Group or Morgan Stanley Investment Management—the second and third largest shareholders, respectively. The interesting questions become, what will he do with this power, how might (his chronic nemesis) the SEC respond, and what are his larger designs? Stay tuned.
With Twitter shares still down nearly 40% from their highs, even after the Musk bounce, is the platform a buying opportunity? To say we weren't fans of Jack Dorsey would be an understatement, but we have about as much confidence in Agrawal as Musk seems to place in him. Perhaps this new shareholder can be the catalyst the company needs to better monetize its business and actually become the "de facto public town square for the exchange of ideas." Until Musk's plans are a little more clear, we still wouldn't be buyers.
Tu, 29 Mar 2022
Real Estate Management & Development
Following a pandemic-driven office exodus, One World Trade Center is bucking the trend with its 95% occupancy rate
Despite what big-city politicians are telling us about the great worker return of 2022, the pandemic—and subsequent advances in telecom technology—helped generate a seismic shift in the corporate real estate environment. Companies which never gave a thought to allowing any of their employees to work remotely have suddenly embraced the hybrid, home/office work model. As financial managers gaze at their leases, which continue to become more costly thanks to inflation, they are even more inclined to change their ways. On top of this transformation, many big financial firms have been fleeing NYC for greener pastures in Florida, despite the fact that the self-proclaimed socialist mayor (DeBlasio) is finally gone. Even as COVID-19 cases continue to subside, the city is still facing 40-year high vacancy rates.
Against that backdrop, we have One World Trade Center, the 104-story "tallest building in the Western Hemisphere." After an existing tenant, Germany's Celonis (data processing), expanded its footprint to the entire 70th floor of the building, the skyscraper is now at 95% occupancy. Considering its 3.1 million square feet of space garners some $75 to $85 per rentable square foot, that is impressive. Breaking that down, and assuming Celonis is paying $80 per square foot, that comes to $3.28 million per year for the 70th floor alone.
With additional space hitting the market, and with financial firms still pulling out, we can expect a dichotomy to form between the high-tech, glass-imbued modern skyscrapers and the clusters of older, less energy efficient buildings in need of constant repair and renovation. The older buildings also lack many of the amenities and features workers are looking for today, including state-of-the-art gyms, plenty of large windows, higher ceiling heights, and outdoor spaces. In many cases, it is structurally impossible to transform a 1970s-era building into one which can compete with its newly-built counterparts. And that will continue to be a major source of consternation for landlords and office property REITs relying on contract renewals and a steady stream of new tenants.
While many office property REITs will struggle with the new hybrid work model, investors should remember that this is an industry full of opportunities in areas outside of office and retail space. Digital Realty Trust (DLR $144), for example, owns and operates 300 data centers worldwide. American Tower Corp (AMT $250) is a specialty REIT which owns a quarter of a million cell towers around the world. Both of these companies are members of the Penn Global Leaders Club.
Real Estate Management & Development
Following a pandemic-driven office exodus, One World Trade Center is bucking the trend with its 95% occupancy rate
Despite what big-city politicians are telling us about the great worker return of 2022, the pandemic—and subsequent advances in telecom technology—helped generate a seismic shift in the corporate real estate environment. Companies which never gave a thought to allowing any of their employees to work remotely have suddenly embraced the hybrid, home/office work model. As financial managers gaze at their leases, which continue to become more costly thanks to inflation, they are even more inclined to change their ways. On top of this transformation, many big financial firms have been fleeing NYC for greener pastures in Florida, despite the fact that the self-proclaimed socialist mayor (DeBlasio) is finally gone. Even as COVID-19 cases continue to subside, the city is still facing 40-year high vacancy rates.
Against that backdrop, we have One World Trade Center, the 104-story "tallest building in the Western Hemisphere." After an existing tenant, Germany's Celonis (data processing), expanded its footprint to the entire 70th floor of the building, the skyscraper is now at 95% occupancy. Considering its 3.1 million square feet of space garners some $75 to $85 per rentable square foot, that is impressive. Breaking that down, and assuming Celonis is paying $80 per square foot, that comes to $3.28 million per year for the 70th floor alone.
With additional space hitting the market, and with financial firms still pulling out, we can expect a dichotomy to form between the high-tech, glass-imbued modern skyscrapers and the clusters of older, less energy efficient buildings in need of constant repair and renovation. The older buildings also lack many of the amenities and features workers are looking for today, including state-of-the-art gyms, plenty of large windows, higher ceiling heights, and outdoor spaces. In many cases, it is structurally impossible to transform a 1970s-era building into one which can compete with its newly-built counterparts. And that will continue to be a major source of consternation for landlords and office property REITs relying on contract renewals and a steady stream of new tenants.
While many office property REITs will struggle with the new hybrid work model, investors should remember that this is an industry full of opportunities in areas outside of office and retail space. Digital Realty Trust (DLR $144), for example, owns and operates 300 data centers worldwide. American Tower Corp (AMT $250) is a specialty REIT which owns a quarter of a million cell towers around the world. Both of these companies are members of the Penn Global Leaders Club.
Tu, 29 Mar 2022
Aerospace & Defense
Lockheed Martin scores two big wins in one month as both Canada and Germany select the company's fighters
Aerospace giant Lockheed Martin (LMT $430) remains one of our strongest conviction holdings for a number of reasons: leadership, geopolitical tensions, style profile, product mix, and growth potential just to name a few. This month we received a couple of other reasons to appreciate this undervalued gem. A few weeks ago Germany, under new Chancellor Olaf Scholz, announced it would be purchasing 35 of the company's F-35 Lightning II "Panther" fighter aircraft to replace its aging fleet of Tornado combat aircraft—a European-built fighter which has been in service since the early 1980s. This was a slap in the face to France, which had argued for a next-generation, European-built fighter to be the focus of the continent's air defenses. This past week, Lockheed beat out yet another European aerospace company as Canada announced it would buy 88 F-35s instead of Saab's (Sweden) Gripen fighters. Boeing had previously been knocked out of the competition. There is some humor in this story, as Saab had complained about a "politically influenced" decision by Finland to buy 64 F-35s, with the company "looking forward to an impartial Canada (to select the Gripen over the Panther)." The Canadian deal alone could equate to an additional $1 billion per year in sales for Lockheed beginning in 2025. The company should consider sending Putin a thank you card for awakening the Western world to the real and present danger of an aggressive Russia and its communist neighbor to the south.
While Boeing flounders under the arrogant leadership of David Calhoun, Lockheed CEO (and former Air Force pilot) Jim Taiclet pushes quietly forward, gaining market share and building bridges to our NATO allies. Leadership matters.
Aerospace & Defense
Lockheed Martin scores two big wins in one month as both Canada and Germany select the company's fighters
Aerospace giant Lockheed Martin (LMT $430) remains one of our strongest conviction holdings for a number of reasons: leadership, geopolitical tensions, style profile, product mix, and growth potential just to name a few. This month we received a couple of other reasons to appreciate this undervalued gem. A few weeks ago Germany, under new Chancellor Olaf Scholz, announced it would be purchasing 35 of the company's F-35 Lightning II "Panther" fighter aircraft to replace its aging fleet of Tornado combat aircraft—a European-built fighter which has been in service since the early 1980s. This was a slap in the face to France, which had argued for a next-generation, European-built fighter to be the focus of the continent's air defenses. This past week, Lockheed beat out yet another European aerospace company as Canada announced it would buy 88 F-35s instead of Saab's (Sweden) Gripen fighters. Boeing had previously been knocked out of the competition. There is some humor in this story, as Saab had complained about a "politically influenced" decision by Finland to buy 64 F-35s, with the company "looking forward to an impartial Canada (to select the Gripen over the Panther)." The Canadian deal alone could equate to an additional $1 billion per year in sales for Lockheed beginning in 2025. The company should consider sending Putin a thank you card for awakening the Western world to the real and present danger of an aggressive Russia and its communist neighbor to the south.
While Boeing flounders under the arrogant leadership of David Calhoun, Lockheed CEO (and former Air Force pilot) Jim Taiclet pushes quietly forward, gaining market share and building bridges to our NATO allies. Leadership matters.
F-35 Lightning II "Panther"; Image courtesy of Lockheed Martin
Mo, 28 Mar 2022
Automotive
With one announcement, and in one session, Tesla gains more in value than Ford Motor Company is worth
Ahh the law of large numbers. It is one thing to say that Tesla (TSLA $1,091) has a market cap of $1.128 trillion versus Ford Motor Company's (F $17) $66 billion, but let's compare their respective sizes with this stunning fact: Tesla's one day change in value is greater than Ford's total value. The reason for the EV maker's 8% gain on the day? The company announced it would perform another stock split to make the shares more accessible to retail investors. Shareholders still need to approve the move, but that is almost a given, and we can assume another 5-1 division is in the works, as was the case with the 2020 split. Speaking of that past event, it led to a 40% rally by Tesla shares and an inclusion in the S&P 500 by year's end.
Just as we liked both Google and Amazon's 20-1 stock split, we like this move as well. Of course, the act of splitting a stock doesn't add or subtract one penny of value in and of itself, but it generally garners excitement by the investment community. This is as opposed to GE's financial engineering in which eight shares suddenly became one share, eight times more expensive. That stunt back in the Summer of 2020 has led to an 11% drop in the almost two years since it happened. We own Tesla in the Penn New Frontier Fund, where it continues to perform as expected. Naysayers point to the flood of EVs about to inundate the market; we point to Tesla's growing lead over the pack, and their massive lead in the world of fuel cell technology.
Automotive
With one announcement, and in one session, Tesla gains more in value than Ford Motor Company is worth
Ahh the law of large numbers. It is one thing to say that Tesla (TSLA $1,091) has a market cap of $1.128 trillion versus Ford Motor Company's (F $17) $66 billion, but let's compare their respective sizes with this stunning fact: Tesla's one day change in value is greater than Ford's total value. The reason for the EV maker's 8% gain on the day? The company announced it would perform another stock split to make the shares more accessible to retail investors. Shareholders still need to approve the move, but that is almost a given, and we can assume another 5-1 division is in the works, as was the case with the 2020 split. Speaking of that past event, it led to a 40% rally by Tesla shares and an inclusion in the S&P 500 by year's end.
Just as we liked both Google and Amazon's 20-1 stock split, we like this move as well. Of course, the act of splitting a stock doesn't add or subtract one penny of value in and of itself, but it generally garners excitement by the investment community. This is as opposed to GE's financial engineering in which eight shares suddenly became one share, eight times more expensive. That stunt back in the Summer of 2020 has led to an 11% drop in the almost two years since it happened. We own Tesla in the Penn New Frontier Fund, where it continues to perform as expected. Naysayers point to the flood of EVs about to inundate the market; we point to Tesla's growing lead over the pack, and their massive lead in the world of fuel cell technology.
Sa, 26 Mar 2022
Beverages, Tobacco, & Cannabis
Tilray Brands gains 55% for the week on positive cannabis news, deal with competitor
A major reason why we added Canadian cannabis player Tilray Brands (TLRY $9) to the Intrepid Trading Platform was its management team: CEO Irwin Simon is the adroit businessman who founded Hain Celestial back in 1993. While the industry's performance has been lacking as of late, to put it mildly, the company had a big turn of luck this past week. First, it announced an alliance with smaller rival Hexo (HEXO $0.74) in which it would help the company straighten out its finances in return for a generous share of the company. Tilray made a similar deal with California-based cannabis player MedMen last year (though the terms of that deal are more convoluted, as a Canadian cannabis firm cannot own a stake in a US-based one as of yet). The market approved of the company's "white knight" approach, pushing shares higher. Then came news that the US House of Representatives would consider a bill to decriminalize marijuana on a national level. Of course, there is no guarantee this one will make it further than previous bills, but it feels as if the movement is getting closer to the finish line. Shares of Tilray rose 55.35% on the week.
We own TLRY in the Intrepid with an initial target price of $14 per share. We expect to see major consolidation in the industry, with Tilray becoming one of the industry leaders. Tilray merged with larger industry player Aphria back in December of 2020.
Beverages, Tobacco, & Cannabis
Tilray Brands gains 55% for the week on positive cannabis news, deal with competitor
A major reason why we added Canadian cannabis player Tilray Brands (TLRY $9) to the Intrepid Trading Platform was its management team: CEO Irwin Simon is the adroit businessman who founded Hain Celestial back in 1993. While the industry's performance has been lacking as of late, to put it mildly, the company had a big turn of luck this past week. First, it announced an alliance with smaller rival Hexo (HEXO $0.74) in which it would help the company straighten out its finances in return for a generous share of the company. Tilray made a similar deal with California-based cannabis player MedMen last year (though the terms of that deal are more convoluted, as a Canadian cannabis firm cannot own a stake in a US-based one as of yet). The market approved of the company's "white knight" approach, pushing shares higher. Then came news that the US House of Representatives would consider a bill to decriminalize marijuana on a national level. Of course, there is no guarantee this one will make it further than previous bills, but it feels as if the movement is getting closer to the finish line. Shares of Tilray rose 55.35% on the week.
We own TLRY in the Intrepid with an initial target price of $14 per share. We expect to see major consolidation in the industry, with Tilray becoming one of the industry leaders. Tilray merged with larger industry player Aphria back in December of 2020.
Sa, 26 Mar 2022
Market Pulse
Thanks to a few good weeks, the ugly quarter is starting to look brighter
When the month hit its midway point, things weren't looking good for the stock market. By session close on Friday the 11th, the S&P 500 had fallen 12% and the NASDAQ was still hanging around bear market territory for the year, down 18%. At that point, investors had little to look forward to: the war in Ukraine was raging—along with inflation in the US—and the Fed was suddenly talking about seven consecutive rate hikes. In the midst of all the worry and few positive catalysts, the major benchmarks strung together two impressive weeks. With just four trading days remaining in Q1, the S&P 500 is off less than 5% for the year, while the NASDAQ and Russell 2000 (small caps) are only off by single digits. This flurry of positive activity took place as bonds continued to lose ground as Treasury yields rose. The 10-year is now yielding just shy of 2.5%—a 15% increase from where it started the week. That spike is understandable considering talk is now swirling around 50-basis-point rate hikes instead of the formerly-baked-in 25 bps. As the real yield on money markets is still deeply in the red thanks to inflation, and as bond values continue to drop due to the tightening cycle we are (finally) in, US equities seem to be the beneficiary. Even cryptos punched their way out of a deep recent funk, with ethereum and bitcoin jumping 10% and 8% on the week, respectively. We are sticking with our year-end target of 5,100 for the S&P 500, which would represent a 12% gain from here. Our year-end target for the upper band of the Fed funds rate is 2%, or 1.5% higher than its current rate. We also expect the Fed to begin substantially lowering its $9T balance sheet by selling some of the $2.6 trillion worth of mortgage-backed securities and Treasuries it holds—or, at least, letting existing ones fall off the balance sheet without reinvesting the proceeds. The market should be able to handle these moves, but expect some tantrums along the way.
Sa, 26 Mar 2022
Under the Radar
Silgan Holdings Inc (SLGN $46)
There are some points in the market cycle at which it pays to be loaded up with boring old defensive plays; the companies that quietly churn out profits, growing their top line revenue and earnings per share quarter after quarter. There is a strong argument being made that the Fed will have to raise rates so rapidly to tame inflation that it will push the US into recession by some point in 2023. If that is the case, now is the time to load up on such companies. For instance: Silgan ("SEAL gun") Holdings (SLGN $46) manufactures roughly half of all metal food containers in North America, with customers such as Campbell Soup, Nestle, and Del Monte. An astute acquirer, the company is currently searching for opportunities to increase its footprint in the European metal and plastic packaging market. Based out of Stamford, Connecticut, this small-cap value gem has a market cap of $5 billion, a forward P/E ratio of 12, and a relative strength rating of 86. We would place a fair value on SLGN shares at $65.
Th, 24 Mar 2022
Media & Entertainment
Trouble in the House of Mouse: Steer clear of Disney due to Iger's ego, Chapek's inability, workers' activism
So many companies we thought would always have a role in the Penn portfolios, so many disappointments. General Electric, Boeing, Starbucks...Disney. The latter, The Walt Disney Company (DIS $138), is now facing a serious crisis of confidence swirling around its leadership team. First we have Bob Iger, the golden CEO who spent fifteen years running the company. Iger was the central figure in the transformation of Disney into the world's largest media company. Unfortunately, the only thing greater than his ability was—and is—his stratospheric ego. After reading his autobiography, The Ride of a Lifetime, the first thing that came to mind was, "Strong leader, complete a**." Perhaps it was Iger's ego—his desire to go out on top—that led him to resign his role as CEO at the worst possible time: just as businesses were shutting down due to the pandemic. It was bad enough that his hand-picked successor, Disney Parks President Bob Chapek, had to receive a baptism by fire, but Iger's refusal to ride off into the sunset compounded the problem. Just a few months after Chapek took the helm, Iger was loudly announcing his plans to help lead Disney through this troubled period. What a punk move. As could be expected, Chapek was furious. That incident caused the couple to become estranged.
To be clear, we were never happy with Iger's pick of Chapek. We felt he was a capable manager, but not the leader Disney would need for its next two decades of growth. That is becoming clear in his handling of what should be a non-issue for the company. As is increasingly the case in America, employees are demanding their companies, the entities which place money in these employees' respective bank accounts, make political stands. Companies should be, by nature, apolitical. That level of corporate maturity doesn't fit into the zeitgeist of today's "pay attention to me!" society, apparently. When the Florida legislature took up a bill which would disallow schools from discussing sexual orientation in grades kindergarten through third, there was a call to arms by certain groups. The fact that Disney would not immediately denounce the bill put them in the crosshairs. In no way, shape, or form did the company come out in support of the bill, it should be noted. Employees were called upon to walk off the job and protest in front of Disney headquarters—iPhone cameras at the ready, no doubt. Chapek quickly did a mea culpa and came out against the bill. The obligatory "listening tour" and "equality task force" quickly manifested.
Before this latest "incident" (which never should have been an incident at all), Chapek made some questionable moves. By picking a fight with Black Widow star Scarlett Johansson—a fight he ultimately lost—he risked alienating the Hollywood community. By centralizing budget control (P&L power) for all movie and TV deals to a key ally, he alienated high level managers in the field who previously held a good deal of such authority. By snubbing Iger instead of stroking his giant ego until he was ultimately out the door, he forced company executives to choose sides. (Iger had remained on as chairman of the board after stepping down as CEO.) None of these were wise moves by a CEO whose contract is up for renewal in eleven months. Disney will weather this latest storm, but something tells us many more are to follow.
In a way we almost feel bad for Chapek, who clearly does not have Iger's charm-on-demand. Furthermore, his strategic vision for the company and its digital future make a lot of sense, but he cannot seem to make the personal connections needed to drive that point home. When Chapek was first announced by Iger as his hand-picked replacement, we sold our Disney stake. That was a wise move, and one we don't plan on reversing until the storm clouds hovering above the Magic Kingdom show signs of subsiding.
Market Pulse
Thanks to a few good weeks, the ugly quarter is starting to look brighter
When the month hit its midway point, things weren't looking good for the stock market. By session close on Friday the 11th, the S&P 500 had fallen 12% and the NASDAQ was still hanging around bear market territory for the year, down 18%. At that point, investors had little to look forward to: the war in Ukraine was raging—along with inflation in the US—and the Fed was suddenly talking about seven consecutive rate hikes. In the midst of all the worry and few positive catalysts, the major benchmarks strung together two impressive weeks. With just four trading days remaining in Q1, the S&P 500 is off less than 5% for the year, while the NASDAQ and Russell 2000 (small caps) are only off by single digits. This flurry of positive activity took place as bonds continued to lose ground as Treasury yields rose. The 10-year is now yielding just shy of 2.5%—a 15% increase from where it started the week. That spike is understandable considering talk is now swirling around 50-basis-point rate hikes instead of the formerly-baked-in 25 bps. As the real yield on money markets is still deeply in the red thanks to inflation, and as bond values continue to drop due to the tightening cycle we are (finally) in, US equities seem to be the beneficiary. Even cryptos punched their way out of a deep recent funk, with ethereum and bitcoin jumping 10% and 8% on the week, respectively. We are sticking with our year-end target of 5,100 for the S&P 500, which would represent a 12% gain from here. Our year-end target for the upper band of the Fed funds rate is 2%, or 1.5% higher than its current rate. We also expect the Fed to begin substantially lowering its $9T balance sheet by selling some of the $2.6 trillion worth of mortgage-backed securities and Treasuries it holds—or, at least, letting existing ones fall off the balance sheet without reinvesting the proceeds. The market should be able to handle these moves, but expect some tantrums along the way.
Sa, 26 Mar 2022
Under the Radar
Silgan Holdings Inc (SLGN $46)
There are some points in the market cycle at which it pays to be loaded up with boring old defensive plays; the companies that quietly churn out profits, growing their top line revenue and earnings per share quarter after quarter. There is a strong argument being made that the Fed will have to raise rates so rapidly to tame inflation that it will push the US into recession by some point in 2023. If that is the case, now is the time to load up on such companies. For instance: Silgan ("SEAL gun") Holdings (SLGN $46) manufactures roughly half of all metal food containers in North America, with customers such as Campbell Soup, Nestle, and Del Monte. An astute acquirer, the company is currently searching for opportunities to increase its footprint in the European metal and plastic packaging market. Based out of Stamford, Connecticut, this small-cap value gem has a market cap of $5 billion, a forward P/E ratio of 12, and a relative strength rating of 86. We would place a fair value on SLGN shares at $65.
Th, 24 Mar 2022
Media & Entertainment
Trouble in the House of Mouse: Steer clear of Disney due to Iger's ego, Chapek's inability, workers' activism
So many companies we thought would always have a role in the Penn portfolios, so many disappointments. General Electric, Boeing, Starbucks...Disney. The latter, The Walt Disney Company (DIS $138), is now facing a serious crisis of confidence swirling around its leadership team. First we have Bob Iger, the golden CEO who spent fifteen years running the company. Iger was the central figure in the transformation of Disney into the world's largest media company. Unfortunately, the only thing greater than his ability was—and is—his stratospheric ego. After reading his autobiography, The Ride of a Lifetime, the first thing that came to mind was, "Strong leader, complete a**." Perhaps it was Iger's ego—his desire to go out on top—that led him to resign his role as CEO at the worst possible time: just as businesses were shutting down due to the pandemic. It was bad enough that his hand-picked successor, Disney Parks President Bob Chapek, had to receive a baptism by fire, but Iger's refusal to ride off into the sunset compounded the problem. Just a few months after Chapek took the helm, Iger was loudly announcing his plans to help lead Disney through this troubled period. What a punk move. As could be expected, Chapek was furious. That incident caused the couple to become estranged.
To be clear, we were never happy with Iger's pick of Chapek. We felt he was a capable manager, but not the leader Disney would need for its next two decades of growth. That is becoming clear in his handling of what should be a non-issue for the company. As is increasingly the case in America, employees are demanding their companies, the entities which place money in these employees' respective bank accounts, make political stands. Companies should be, by nature, apolitical. That level of corporate maturity doesn't fit into the zeitgeist of today's "pay attention to me!" society, apparently. When the Florida legislature took up a bill which would disallow schools from discussing sexual orientation in grades kindergarten through third, there was a call to arms by certain groups. The fact that Disney would not immediately denounce the bill put them in the crosshairs. In no way, shape, or form did the company come out in support of the bill, it should be noted. Employees were called upon to walk off the job and protest in front of Disney headquarters—iPhone cameras at the ready, no doubt. Chapek quickly did a mea culpa and came out against the bill. The obligatory "listening tour" and "equality task force" quickly manifested.
Before this latest "incident" (which never should have been an incident at all), Chapek made some questionable moves. By picking a fight with Black Widow star Scarlett Johansson—a fight he ultimately lost—he risked alienating the Hollywood community. By centralizing budget control (P&L power) for all movie and TV deals to a key ally, he alienated high level managers in the field who previously held a good deal of such authority. By snubbing Iger instead of stroking his giant ego until he was ultimately out the door, he forced company executives to choose sides. (Iger had remained on as chairman of the board after stepping down as CEO.) None of these were wise moves by a CEO whose contract is up for renewal in eleven months. Disney will weather this latest storm, but something tells us many more are to follow.
In a way we almost feel bad for Chapek, who clearly does not have Iger's charm-on-demand. Furthermore, his strategic vision for the company and its digital future make a lot of sense, but he cannot seem to make the personal connections needed to drive that point home. When Chapek was first announced by Iger as his hand-picked replacement, we sold our Disney stake. That was a wise move, and one we don't plan on reversing until the storm clouds hovering above the Magic Kingdom show signs of subsiding.
We, 23 Mar 2022
Fixed Income Desk
Looking to bonds to help protect your portfolio from a market downturn? You may want to take a closer look
We've talked extensively on this subject, but to reiterate: the days of a passive, 60/40 mix of stocks to bonds have passed. Yet another argument for professional money management as opposed to buying a generic mixed basket of Vanguard funds and believing your portfolio is safe. With inflation surging, and with the Fed finally sending in the troops (via rate hikes and a planned balance sheet reduction), the global bond market is in the midst of its largest drawdown on record. How bad is it? The Bloomberg Global Aggregate Index is the benchmark for measuring the universe of fixed income vehicles, to include government, corporate, mortgage-backed, and other debt instruments from both developed and emerging markets. That index is now sitting at a peak-to-trough drawdown of over 11%. In dollar terms, that equates to a loss of over $2.5 trillion. For perspective, during the drawdown brought on by the financial meltdown of 2008-09, the bond market lost roughly $2 trillion of value. With the Fed signaling a total of seven rate hikes this year alone, fixed income investors know full well that they will be able to get a better yield on bonds purchased next year, hence the drop in value of current bond holdings. For further evidence, consider the yield on the 10-year Treasury note, which moves in the opposite direction of bond values. The 10-year now offers a yield of 2.381%, which represents a 57% increase over the 1.514% rate it offered going into 2022. Why wouldn't bond investors keep their money safe and sound in cash until they can get an even better rate? This in spite of the fact that their cash bucket has a current real yield (i.e., adjusted for inflation) of around -7.5%. It's tough being a conservative investor right now.
When selecting fixed income vehicles for our clients, the first metric we look at is duration—a representation of how sensitive the instrument is to changes in interest rates. The lower the duration, the less the vehicle will be affected by rising rates. Right now, we prefer fixed income investments with a duration of five or less. For example, one of our strongest recommendations right now is the SPDR Blackstone Senior Loan ETF (SRLN $45), which has a yield of 4.55% and a tiny duration of 0.301.
Fixed Income Desk
Looking to bonds to help protect your portfolio from a market downturn? You may want to take a closer look
We've talked extensively on this subject, but to reiterate: the days of a passive, 60/40 mix of stocks to bonds have passed. Yet another argument for professional money management as opposed to buying a generic mixed basket of Vanguard funds and believing your portfolio is safe. With inflation surging, and with the Fed finally sending in the troops (via rate hikes and a planned balance sheet reduction), the global bond market is in the midst of its largest drawdown on record. How bad is it? The Bloomberg Global Aggregate Index is the benchmark for measuring the universe of fixed income vehicles, to include government, corporate, mortgage-backed, and other debt instruments from both developed and emerging markets. That index is now sitting at a peak-to-trough drawdown of over 11%. In dollar terms, that equates to a loss of over $2.5 trillion. For perspective, during the drawdown brought on by the financial meltdown of 2008-09, the bond market lost roughly $2 trillion of value. With the Fed signaling a total of seven rate hikes this year alone, fixed income investors know full well that they will be able to get a better yield on bonds purchased next year, hence the drop in value of current bond holdings. For further evidence, consider the yield on the 10-year Treasury note, which moves in the opposite direction of bond values. The 10-year now offers a yield of 2.381%, which represents a 57% increase over the 1.514% rate it offered going into 2022. Why wouldn't bond investors keep their money safe and sound in cash until they can get an even better rate? This in spite of the fact that their cash bucket has a current real yield (i.e., adjusted for inflation) of around -7.5%. It's tough being a conservative investor right now.
When selecting fixed income vehicles for our clients, the first metric we look at is duration—a representation of how sensitive the instrument is to changes in interest rates. The lower the duration, the less the vehicle will be affected by rising rates. Right now, we prefer fixed income investments with a duration of five or less. For example, one of our strongest recommendations right now is the SPDR Blackstone Senior Loan ETF (SRLN $45), which has a yield of 4.55% and a tiny duration of 0.301.
Mo, 21 Mar 2022
Trading Desk
Closed out a big pharma company in Global Leaders to make room for a Materials play
We have a strict rule of only carrying 40 great companies in our Penn Global Leaders Club, so when an addition is made, it must take the place of another. In this case, we let our GlaxoSmithKline (GSK $43) go. Actually, to give it more room for potential growth, we closed it from the strategy and simply placed a $40 stop loss on client positions to preserve double-digit gains. To see our undervalued "Materials: Specialty Chemicals" pick up, clients and members can check out the Penn Trading Desk.
Mo, 21 Mar 2022
East & Southeast Asia
Victory for the US and the Western world: South Korea's surprise election results equal a stronger ally in the region
It was a white-knuckler of a race, but when the dust settled South Korea had a new leader. Few expected Yoon Suk-yeol of the Conservative People Power Party to pull off the upset victory, but his win represents the growing angst in South Korea over Kim Jong-un's incessant saber-rattling and China's growing threat to the stability of the region. It also points to the failure of North Korea's decades-long policy of subterfuge; a policy which involves planting false stories and placing North Korean spies in the country to foment a distrust of the government. It has always been Kim Jong-un's (and his father, Kim Jong-il's) master plan to reunite the peninsula not in the name of peace, but in the name of communist rule. Yoon Suk-yeol's victory has splashed cold water on those plans. Not only has this charismatic leader spoken out against the rampant human rights violations in North Korea and China, he has also made it clear that he wants his country to become a "global pivotal state" on the world stage for the cause of freedom. Such language is anathema to Xi Jingping and his dear friend Kim Jong-un. Yoon's victory means he will lead the fourth-largest economy in Asia for at least the next five years. Over that period of time, we can expect much warmer relations between the US and South Korea, a demand that North Korea give up its nuclear ambitions as a basis for negotiations, and an upgrade to the US THAAD anti-missile system in the country—a system which China vehemently opposes. China and North Korea will seek to undermine his rule in every way imaginable, but something tells us this former prosecutor (of nearly three decades) is up for the task.
The pandemic hit South Korea hard, with the country's GDP shrinking by 1% in 2020 before rebounding to 4% in 2021—an eleven-year high. There are three main ETFs to take advantage of South Korea's explosive potential. The Direxion Daily South Korea Bull 3X ETF (KORU $18) we would steer clear of unless conviction is very strong (due to its triple leverage). The Franklin FTSE South Korea ETF (FLKR $25) is run by—in our opinion—the best global investment team in the world (Franklin). and the iShares MSCI South Korea ETF (EWY $71) is the largest, with $4.5 billion AUM. Our personal choice? Go with the Franklin name, FLKR. In addition to Samsung, Kia, Hyundai, and LG, the fund is full of names which few would recognize—hence the importance of the management team.
Fr, 18 Mar 2022
Media & Entertainment
AMC, the movie we can't pull ourselves away from, just took another odd twist: it bought a debt-laden, floundering gold mine
We have always rooted for underdog AMC Entertainment (AMC $16), although our support began to erode when China's Dalian Wanda Group became controlling owner, and further when CEO Adam Aron remained in his hometown of Philly to run the Leawood, Kansas-based theater chain. We can almost picture the images that popped into the head of the Harvard grad when he found out where it was headquartered. Probably cornfields and rolling tumbleweeds. But, as the likes of Radio Shack, Toys R Us, and Borders (books) began succumbing to the march of time, we really wanted AMC to survive. Of course, we all know what happened next. When the AMC apes first began moving the share price of the stock from $2 to $73, Aron had that deer-in-the-headlights look—he wasn't quite sure what to make of it. As his personal wealth began to grow exponentially thanks to this odd phenomenon, he suddenly got on the bandwagon. Imagine that. Now, he is exhibiting an ape behavior of his very own: his company just took a 22% stake in a floundering, debt-laden gold mining firm. In spite of the obvious connection between a theater chain and a gold mining company, who did the due diligence on this purchase? Shares of the company in question, Hycroft Mining Holding Corp (HYMC), were selling for about $0.30 apiece going into March, which certainly tracks the ape mentality. AMC purchased 23.4 million units, with each unit consisting of one common share of HYMC and one purchase warrant. The units were priced at $1.19 per share, and the warrants are priced around $1.07 and carry a five-year term. Certainly a good deal for Hycroft. If we can say one nice thing about the purchase, it is this: at least the mining company isn't headquartered in the metaverse.
We are ambivalent about virtually every aspect of this story. On the one hand, we want AMC to thrive, as we are not fans of the short sellers, and the Dalian Wanda Group is now out of the picture. On the other hand, the company was never worth anywhere near where the shares were pushed (we still argue they are worth $5 to $10). Likewise, we would like to see Hycroft make it; but Aron is not running a special purpose acquisition company, he is supposed to be running a theater chain. The whole thing seems, as so many analysts have rightly put it, bizarre.
We, 16 Mar 2022
Monetary Policy
Fed's fully-telegraphed move to raise interest rates sent the markets on a crazy afternoon ride
Not only did everyone know an interest rate hike was coming at the Fed's March FOMC meeting, the widely-accepted terminal point—the point at which the hikes would probably cease—was somewhere between 2.5% and 2.75%. That is precisely the script Fed Chair Jerome Powell followed as he announced the 25-basis-point hike and hinted at one more for each of the six remaining meetings for 2022. That would be a total of seven hikes this year, bringing the target band of the Federal funds rate between 1.75% and 2.00%. For no rational reason, the Dow, which had been up as much as 500 points on the day, suddenly went negative. Did the "every meeting will be a live meeting" comment spook the markets? That makes little sense. Powell did seem to calm nerves during his press briefing and Q&A session, and the markets began their second major turnaround of the day. He mentioned the need to begin reducing the Fed's balance sheet beginning "at a coming meeting," which was also expected (The prior $120 billion per month Treasury/MBS buying program finally ended a few weeks ago.) On one hand, we are being told that inflation is out of control due to the Fed's slowness to act; on the other hand, we are being told that too many rate hikes will all but guarantee a recession. Fortunately, Powell and the voting members of the Committee will ignore the chatter and do what they think is right. By the end of the day, the markets applauded the day's events, with the Dow finishing the session up 519 points.
It still amazes us that certain high-ranking individuals (at the time) thought that Powell was too slow to lower rates a few years back, and that rates should essentially stay at zero for the foreseeable future. With the lower band of the FFR at zero, the Fed balance sheet at a stuffed $9 trillion, and inflation at 7.5%, we believe a rate hike at each meeting this year would be a responsible course of action. Now we are being told by a number of high profile economists that a soft landing of the economy will prove to be near impossible, no matter what the Fed does. We don't buy that theory at all, assuming the Ukraine crisis doesn't mushroom into something much larger.
Th, 10 Mar 2022
E-Commerce
Amazon will pursue a 20-for-1 stock split as well as a share buyback program—investors applaud the moves
When I tell people that stock splits are pure financial engineering, and that not one dollar of value is created, I typically hear something like, "But at least the shares will be cheaper for me to buy!" As Charlie Brown says, "Good grief." That being said, I finally heard it put in the perfect way, courtesy of Barron's: "(A stock split) is no different than swapping your $20 bill for 20 singles. Your wallet might be a little fatter, but you aren't any richer." Precisely! Nonetheless, in the case of Amazon (AMZN $2,960), we do support the 20-for-1 stock split they just announced. Why fight the psychology of a $150 share price sounding more appealing to a stock buyer than a $3,000 share price, despite the fact that traders can now buy fractional shares? Another de minimis act was the company's announcement of a $10 billion stock repurchase plan. To you or I, $10B sounds like a lofty sum; to a $1.5 trillion company, it is pocket change. Nonetheless, investors cheered the two moves by pushing Amazon shares up over 6% after the news was released. One tangible benefit the company might receive due to its actions: it is much more likely to be included in the Dow Jones Industrial Average post-split. The DJIA is a price-weighted index, meaning the higher the share price of a member the more its price swings can affect the Dow's swings—not a good thing. Alphabet (GOOG $2,657) announced the exact same stock split plans last month, so the interesting question is which company will get the first invite. Our money is on Google, though we imagine both will eventually earn their way into the rather archaic index.
We said what we thought of Google last month, so what about Amazon shares? They are a bargain, and probably worth in the $4,000 range ($200 post split). Love 'em or hate 'em, this company is only going to get stronger, and the recent tech wreck has the shares trading down about 21% from their recent highs—historically a good sign that it is time to take a position. Amazon is one of the 40 members of the Penn Global Leaders Club.
Trading Desk
Closed out a big pharma company in Global Leaders to make room for a Materials play
We have a strict rule of only carrying 40 great companies in our Penn Global Leaders Club, so when an addition is made, it must take the place of another. In this case, we let our GlaxoSmithKline (GSK $43) go. Actually, to give it more room for potential growth, we closed it from the strategy and simply placed a $40 stop loss on client positions to preserve double-digit gains. To see our undervalued "Materials: Specialty Chemicals" pick up, clients and members can check out the Penn Trading Desk.
Mo, 21 Mar 2022
East & Southeast Asia
Victory for the US and the Western world: South Korea's surprise election results equal a stronger ally in the region
It was a white-knuckler of a race, but when the dust settled South Korea had a new leader. Few expected Yoon Suk-yeol of the Conservative People Power Party to pull off the upset victory, but his win represents the growing angst in South Korea over Kim Jong-un's incessant saber-rattling and China's growing threat to the stability of the region. It also points to the failure of North Korea's decades-long policy of subterfuge; a policy which involves planting false stories and placing North Korean spies in the country to foment a distrust of the government. It has always been Kim Jong-un's (and his father, Kim Jong-il's) master plan to reunite the peninsula not in the name of peace, but in the name of communist rule. Yoon Suk-yeol's victory has splashed cold water on those plans. Not only has this charismatic leader spoken out against the rampant human rights violations in North Korea and China, he has also made it clear that he wants his country to become a "global pivotal state" on the world stage for the cause of freedom. Such language is anathema to Xi Jingping and his dear friend Kim Jong-un. Yoon's victory means he will lead the fourth-largest economy in Asia for at least the next five years. Over that period of time, we can expect much warmer relations between the US and South Korea, a demand that North Korea give up its nuclear ambitions as a basis for negotiations, and an upgrade to the US THAAD anti-missile system in the country—a system which China vehemently opposes. China and North Korea will seek to undermine his rule in every way imaginable, but something tells us this former prosecutor (of nearly three decades) is up for the task.
The pandemic hit South Korea hard, with the country's GDP shrinking by 1% in 2020 before rebounding to 4% in 2021—an eleven-year high. There are three main ETFs to take advantage of South Korea's explosive potential. The Direxion Daily South Korea Bull 3X ETF (KORU $18) we would steer clear of unless conviction is very strong (due to its triple leverage). The Franklin FTSE South Korea ETF (FLKR $25) is run by—in our opinion—the best global investment team in the world (Franklin). and the iShares MSCI South Korea ETF (EWY $71) is the largest, with $4.5 billion AUM. Our personal choice? Go with the Franklin name, FLKR. In addition to Samsung, Kia, Hyundai, and LG, the fund is full of names which few would recognize—hence the importance of the management team.
Fr, 18 Mar 2022
Media & Entertainment
AMC, the movie we can't pull ourselves away from, just took another odd twist: it bought a debt-laden, floundering gold mine
We have always rooted for underdog AMC Entertainment (AMC $16), although our support began to erode when China's Dalian Wanda Group became controlling owner, and further when CEO Adam Aron remained in his hometown of Philly to run the Leawood, Kansas-based theater chain. We can almost picture the images that popped into the head of the Harvard grad when he found out where it was headquartered. Probably cornfields and rolling tumbleweeds. But, as the likes of Radio Shack, Toys R Us, and Borders (books) began succumbing to the march of time, we really wanted AMC to survive. Of course, we all know what happened next. When the AMC apes first began moving the share price of the stock from $2 to $73, Aron had that deer-in-the-headlights look—he wasn't quite sure what to make of it. As his personal wealth began to grow exponentially thanks to this odd phenomenon, he suddenly got on the bandwagon. Imagine that. Now, he is exhibiting an ape behavior of his very own: his company just took a 22% stake in a floundering, debt-laden gold mining firm. In spite of the obvious connection between a theater chain and a gold mining company, who did the due diligence on this purchase? Shares of the company in question, Hycroft Mining Holding Corp (HYMC), were selling for about $0.30 apiece going into March, which certainly tracks the ape mentality. AMC purchased 23.4 million units, with each unit consisting of one common share of HYMC and one purchase warrant. The units were priced at $1.19 per share, and the warrants are priced around $1.07 and carry a five-year term. Certainly a good deal for Hycroft. If we can say one nice thing about the purchase, it is this: at least the mining company isn't headquartered in the metaverse.
We are ambivalent about virtually every aspect of this story. On the one hand, we want AMC to thrive, as we are not fans of the short sellers, and the Dalian Wanda Group is now out of the picture. On the other hand, the company was never worth anywhere near where the shares were pushed (we still argue they are worth $5 to $10). Likewise, we would like to see Hycroft make it; but Aron is not running a special purpose acquisition company, he is supposed to be running a theater chain. The whole thing seems, as so many analysts have rightly put it, bizarre.
We, 16 Mar 2022
Monetary Policy
Fed's fully-telegraphed move to raise interest rates sent the markets on a crazy afternoon ride
Not only did everyone know an interest rate hike was coming at the Fed's March FOMC meeting, the widely-accepted terminal point—the point at which the hikes would probably cease—was somewhere between 2.5% and 2.75%. That is precisely the script Fed Chair Jerome Powell followed as he announced the 25-basis-point hike and hinted at one more for each of the six remaining meetings for 2022. That would be a total of seven hikes this year, bringing the target band of the Federal funds rate between 1.75% and 2.00%. For no rational reason, the Dow, which had been up as much as 500 points on the day, suddenly went negative. Did the "every meeting will be a live meeting" comment spook the markets? That makes little sense. Powell did seem to calm nerves during his press briefing and Q&A session, and the markets began their second major turnaround of the day. He mentioned the need to begin reducing the Fed's balance sheet beginning "at a coming meeting," which was also expected (The prior $120 billion per month Treasury/MBS buying program finally ended a few weeks ago.) On one hand, we are being told that inflation is out of control due to the Fed's slowness to act; on the other hand, we are being told that too many rate hikes will all but guarantee a recession. Fortunately, Powell and the voting members of the Committee will ignore the chatter and do what they think is right. By the end of the day, the markets applauded the day's events, with the Dow finishing the session up 519 points.
It still amazes us that certain high-ranking individuals (at the time) thought that Powell was too slow to lower rates a few years back, and that rates should essentially stay at zero for the foreseeable future. With the lower band of the FFR at zero, the Fed balance sheet at a stuffed $9 trillion, and inflation at 7.5%, we believe a rate hike at each meeting this year would be a responsible course of action. Now we are being told by a number of high profile economists that a soft landing of the economy will prove to be near impossible, no matter what the Fed does. We don't buy that theory at all, assuming the Ukraine crisis doesn't mushroom into something much larger.
Th, 10 Mar 2022
E-Commerce
Amazon will pursue a 20-for-1 stock split as well as a share buyback program—investors applaud the moves
When I tell people that stock splits are pure financial engineering, and that not one dollar of value is created, I typically hear something like, "But at least the shares will be cheaper for me to buy!" As Charlie Brown says, "Good grief." That being said, I finally heard it put in the perfect way, courtesy of Barron's: "(A stock split) is no different than swapping your $20 bill for 20 singles. Your wallet might be a little fatter, but you aren't any richer." Precisely! Nonetheless, in the case of Amazon (AMZN $2,960), we do support the 20-for-1 stock split they just announced. Why fight the psychology of a $150 share price sounding more appealing to a stock buyer than a $3,000 share price, despite the fact that traders can now buy fractional shares? Another de minimis act was the company's announcement of a $10 billion stock repurchase plan. To you or I, $10B sounds like a lofty sum; to a $1.5 trillion company, it is pocket change. Nonetheless, investors cheered the two moves by pushing Amazon shares up over 6% after the news was released. One tangible benefit the company might receive due to its actions: it is much more likely to be included in the Dow Jones Industrial Average post-split. The DJIA is a price-weighted index, meaning the higher the share price of a member the more its price swings can affect the Dow's swings—not a good thing. Alphabet (GOOG $2,657) announced the exact same stock split plans last month, so the interesting question is which company will get the first invite. Our money is on Google, though we imagine both will eventually earn their way into the rather archaic index.
We said what we thought of Google last month, so what about Amazon shares? They are a bargain, and probably worth in the $4,000 range ($200 post split). Love 'em or hate 'em, this company is only going to get stronger, and the recent tech wreck has the shares trading down about 21% from their recent highs—historically a good sign that it is time to take a position. Amazon is one of the 40 members of the Penn Global Leaders Club.
We, 09 Mar 2022
Global Strategy: Latin America
Strange bedfellows: Invasion of Ukraine has opened up a doorway to Venezuela, with Maduro talking capitalism
"Misery acquaints a man with strange bedfellows," as Shakespeare posited in his play, The Tempest, and what is going on between the United States and Venezuela right now underscores that point. President Nicolas Maduro, whose leadership seemed to be hanging from a thread as hyperinflation inundated his country, has to be looking on in satisfaction as Putin's invasion of Ukraine has diverted the world's attention. Now, it appears that the Russian energy embargo in the US has opened up an opportunity for trade to resume between the two nations. Officials from the Biden administration headed into a secret meeting last weekend in Caracas; when it was over, Maduro had agreed to release two political prisoners from the United States in return for discussions over lifting some trade sanctions. Holding some 17.8% of the world's proven oil reserves, and with the Keystone pipeline from Canada having been killed by the administration, the truth is we could sorely use oil from our erstwhile political opponent in South America. For his part, Maduro seems to be almost embracing capitalism in an effort to staunch the mass exodus of citizens and bring a halt to hyperinflation. Most socialists tend to double down on the failed philosophy of Marx when backed into a corner, so this is a hopeful sign.
In its heyday, Venezuela produced around 3 million barrels of oil per day; thanks to sanctions and infrastructure issues, that figure is now down to around 800,000. By comparison, the US produces nearly 12 million barrels of oil per day—more than Russia and more than Saudi Arabia. With its vast store of reserves and some technical support, Venezuela could (relatively) quickly double its output. If Maduro is truly interested in bringing his country back from the brink, he must make a host of pro-free-market moves for this to happen. He just made one: he will allow US dollars to flow freely throughout the country once again, meaning workers can be paid with the greenback instead of the virtually worthless bolivar, and companies will be allowed to issue debt in foreign currencies. In another hopeful sign, a recent poll showed only 38% of Venezuelans wish to flee their country. In a sad commentary, that is a dramatic improvement from a similar poll taken a few years ago. The ball is in Maduro's court.
We are not under any false impression that Venezuela is suddenly going to become a Chile, Colombia, or even Mexico with respect to the country's relationship with the US, but even a small thawing of relations should equate to the open flow of oil once again. And that is something which would benefit both economies—and certainly buttress Maduro's grip on power.
Global Strategy: Latin America
Strange bedfellows: Invasion of Ukraine has opened up a doorway to Venezuela, with Maduro talking capitalism
"Misery acquaints a man with strange bedfellows," as Shakespeare posited in his play, The Tempest, and what is going on between the United States and Venezuela right now underscores that point. President Nicolas Maduro, whose leadership seemed to be hanging from a thread as hyperinflation inundated his country, has to be looking on in satisfaction as Putin's invasion of Ukraine has diverted the world's attention. Now, it appears that the Russian energy embargo in the US has opened up an opportunity for trade to resume between the two nations. Officials from the Biden administration headed into a secret meeting last weekend in Caracas; when it was over, Maduro had agreed to release two political prisoners from the United States in return for discussions over lifting some trade sanctions. Holding some 17.8% of the world's proven oil reserves, and with the Keystone pipeline from Canada having been killed by the administration, the truth is we could sorely use oil from our erstwhile political opponent in South America. For his part, Maduro seems to be almost embracing capitalism in an effort to staunch the mass exodus of citizens and bring a halt to hyperinflation. Most socialists tend to double down on the failed philosophy of Marx when backed into a corner, so this is a hopeful sign.
In its heyday, Venezuela produced around 3 million barrels of oil per day; thanks to sanctions and infrastructure issues, that figure is now down to around 800,000. By comparison, the US produces nearly 12 million barrels of oil per day—more than Russia and more than Saudi Arabia. With its vast store of reserves and some technical support, Venezuela could (relatively) quickly double its output. If Maduro is truly interested in bringing his country back from the brink, he must make a host of pro-free-market moves for this to happen. He just made one: he will allow US dollars to flow freely throughout the country once again, meaning workers can be paid with the greenback instead of the virtually worthless bolivar, and companies will be allowed to issue debt in foreign currencies. In another hopeful sign, a recent poll showed only 38% of Venezuelans wish to flee their country. In a sad commentary, that is a dramatic improvement from a similar poll taken a few years ago. The ball is in Maduro's court.
We are not under any false impression that Venezuela is suddenly going to become a Chile, Colombia, or even Mexico with respect to the country's relationship with the US, but even a small thawing of relations should equate to the open flow of oil once again. And that is something which would benefit both economies—and certainly buttress Maduro's grip on power.
On the bright side, Venezuela's inflation rate is back down below 2,000%; Weimar Republic, anyone?
Tu, 08 Mar 2022
Global Strategy: Eastern Europe
As tech companies from around the world end shipments to Russia, Chinese firms are licking their chops
Last week, Apple (AAPL $159) stopped selling its products in Russia and removed state-controlled RT News from its App Store. Although the company doesn't have a physical footprint in Russia, visitors to the online Apple store would get the message that products are "unavailable for purchase or delivery." No problem, right? Russians can simply turn to the Samsung Galaxy. Not so fast. South Korea's Samsung, which holds a larger market share than Apple in the country, just announced that it, too, would halt all shipments of phones to Russia, in addition to consumer electronics and chips. On the tech front, similar moves have been made by the likes of Microsoft, Electronic Arts, Nintendo, IBM, Intel, and Sony. The united global front against Russia's invasion of Ukraine has been nothing short of remarkable. Sadly, this united front does not extend to that country's neighbor to the south: China. China-based Xiaomi is the second-largest phone seller in Russia, while Hong Kong-based Lenovo holds that distinction in the PC market (behind HP, which is also halting sales). Huawei Technologies, based out of Shenzhen, China, is already Russia's top telecom equipment provider, and the company has been battling Sweden's Ericsson for 5G contracts in the country. The latter announced back on 28 Feb that it would suspend deliveries until Russia ends its war against Ukraine. There is no doubt a stronger economic and even military alliance forming between Communist China and the former communist state of Russia—birds of a feather, but the worldwide condemnation of Russia's military actions will make the new love affair tenuous for Xi Jinping and the ruling CCP. Especially in the year when Xi hopes to cement his role as "ruler for life." And that last factor is really all we need to know about China and Russia to understand the nature of the threat the West faces going forward.
Despite their love affair, both Xi and Putin have undoubtedly been shocked by the level of global cohesiveness against Russian aggression. China has so much as telegraphed that this is all about Taiwan, a nation which will one day face the same fate as Ukraine. The greatest weapon the West has against these leaders is their own hubris. "Leader for life" may look great on paper, but maintaining order and controlling the narrative in this new world of smartphones, communication satellites, and Internet access will be a Herculean task—especially as the civilized world continues to wake up to the threat both pose on the world scene. Two years and two disasters later, no sane mind could argue that those threats aren't clear and present.
Global Strategy: Eastern Europe
As tech companies from around the world end shipments to Russia, Chinese firms are licking their chops
Last week, Apple (AAPL $159) stopped selling its products in Russia and removed state-controlled RT News from its App Store. Although the company doesn't have a physical footprint in Russia, visitors to the online Apple store would get the message that products are "unavailable for purchase or delivery." No problem, right? Russians can simply turn to the Samsung Galaxy. Not so fast. South Korea's Samsung, which holds a larger market share than Apple in the country, just announced that it, too, would halt all shipments of phones to Russia, in addition to consumer electronics and chips. On the tech front, similar moves have been made by the likes of Microsoft, Electronic Arts, Nintendo, IBM, Intel, and Sony. The united global front against Russia's invasion of Ukraine has been nothing short of remarkable. Sadly, this united front does not extend to that country's neighbor to the south: China. China-based Xiaomi is the second-largest phone seller in Russia, while Hong Kong-based Lenovo holds that distinction in the PC market (behind HP, which is also halting sales). Huawei Technologies, based out of Shenzhen, China, is already Russia's top telecom equipment provider, and the company has been battling Sweden's Ericsson for 5G contracts in the country. The latter announced back on 28 Feb that it would suspend deliveries until Russia ends its war against Ukraine. There is no doubt a stronger economic and even military alliance forming between Communist China and the former communist state of Russia—birds of a feather, but the worldwide condemnation of Russia's military actions will make the new love affair tenuous for Xi Jinping and the ruling CCP. Especially in the year when Xi hopes to cement his role as "ruler for life." And that last factor is really all we need to know about China and Russia to understand the nature of the threat the West faces going forward.
Despite their love affair, both Xi and Putin have undoubtedly been shocked by the level of global cohesiveness against Russian aggression. China has so much as telegraphed that this is all about Taiwan, a nation which will one day face the same fate as Ukraine. The greatest weapon the West has against these leaders is their own hubris. "Leader for life" may look great on paper, but maintaining order and controlling the narrative in this new world of smartphones, communication satellites, and Internet access will be a Herculean task—especially as the civilized world continues to wake up to the threat both pose on the world scene. Two years and two disasters later, no sane mind could argue that those threats aren't clear and present.
Mo, 07 Mar 2022
Trading Desk
Adding two Application & Systems Software companies to the Intrepid Trading Platform
Two companies which helped transform their respective industries during the pandemic; two companies which will continue to dominate their respective space and gain market share; two companies whose shares are off roughly 75% from their 2021 highs. We added both to the Intrepid Trading Platform in the midst of the current tech wreck. Great companies are being pilloried, making for great bargains in the market. Members can see the trade by logging into the Trading Desk.
Fr, 04 Mar 2022
Work & Pay
Huge jobs number: 678,000 new positions created in February
The US added a whopping 678,000 new payrolls in the month of February, with the unemployment rate dropping down from 4% to 3.8%. Wall Street had been expecting those figures to come in at 440,000 and 3.9%, respectively. This amounts to the best jobs report since last July, before the Omicron variant of the virus hit US shores. Indications that inflation could be starting to cool a bit came from the wage figures in the report: hourly wages grew just $0.01 per hour, or roughly half of what was expected. Year-over-year wage growth is now 5.13%, also below expectations. In a sign that the economy is back on its reopening path, the leisure and hospitality industries led the gains, with 179,000 new jobs created, with the unemployment rate in those two areas dropping from 8.2% to 6.6%. Other areas showing strong gains for the month include professional and business services, health care, construction, and transportation.
Not that anyone is expecting the Fed to hold off on rate hikes starting this month, but this report certainly adds fuel to the fire for a normalization of rates, with the terminal number floating somewhere around 2.5% (the lower band sits at 0% right now). Unfortunately, the strong jobs numbers were overshadowed by Russia's attack on the nuclear facility in Ukraine. That story continues to be at center stage.
Trading Desk
Adding two Application & Systems Software companies to the Intrepid Trading Platform
Two companies which helped transform their respective industries during the pandemic; two companies which will continue to dominate their respective space and gain market share; two companies whose shares are off roughly 75% from their 2021 highs. We added both to the Intrepid Trading Platform in the midst of the current tech wreck. Great companies are being pilloried, making for great bargains in the market. Members can see the trade by logging into the Trading Desk.
Fr, 04 Mar 2022
Work & Pay
Huge jobs number: 678,000 new positions created in February
The US added a whopping 678,000 new payrolls in the month of February, with the unemployment rate dropping down from 4% to 3.8%. Wall Street had been expecting those figures to come in at 440,000 and 3.9%, respectively. This amounts to the best jobs report since last July, before the Omicron variant of the virus hit US shores. Indications that inflation could be starting to cool a bit came from the wage figures in the report: hourly wages grew just $0.01 per hour, or roughly half of what was expected. Year-over-year wage growth is now 5.13%, also below expectations. In a sign that the economy is back on its reopening path, the leisure and hospitality industries led the gains, with 179,000 new jobs created, with the unemployment rate in those two areas dropping from 8.2% to 6.6%. Other areas showing strong gains for the month include professional and business services, health care, construction, and transportation.
Not that anyone is expecting the Fed to hold off on rate hikes starting this month, but this report certainly adds fuel to the fire for a normalization of rates, with the terminal number floating somewhere around 2.5% (the lower band sits at 0% right now). Unfortunately, the strong jobs numbers were overshadowed by Russia's attack on the nuclear facility in Ukraine. That story continues to be at center stage.
Headlines for the Week of 20 Feb 2022 — 26 Feb 2022
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The Incredible National Gift of Mount Rushmore...
America boasts some incredible national monuments, but few hold the natural beauty and grandeur of Mount Rushmore. While South Dakota historian Doane Robinson dreamed up the concept, it was Danish-American sculptor Gutzon Borglum, a good friend of the French sculptor Rodin, who brought the glorious monument to life. Borglum and his son, Lincoln, thought that the monument should have a national focus around four cornerstone concepts of American freedom. We all know the presidents represented in the carving, but what are the concepts each represent?
Penn Trading Desk:
Penn: Swap Aerospace & Defense funds within Dynamic Growth Strategy
We are overweighting Industrials in 2022, especially within the Aerospace & Defense industries. Within our ETF-based Penn Dynamic Growth Strategy we are replacing our long-term iShares US Aerospace & Defense ETF (ITA $108) holding with another specialty player in the category. ITA has remained faithful to Boeing (BA $201) for far too long, and the company's 17.5% representation in the fund is unacceptable. The top two holdings in the fund—one of which is Boeing—account for a 40% weighting. We have replaced ITA with a more well-balanced fund comprised of 52 strong holdings in the aerospace and defense arenas.
Penn: Open agriculture play in Dynamic Growth Strategy
A confluence of events has created a very favorable environment for commodities, particularly agriculture products. Within the Penn Dynamics Growth Strategy, we have replaced our 4% position in ROBO—a robotics and automation ETF—with a well-managed commodities vehicle focused on agriculture. Investors are seeking instruments with a low to inverse correlation to stocks and bonds right now, and commodities have historically filled the bill.
Penn: Close BCE and Open Premium Income Fund Within the Strategic Income Portfolio
It is a nightmare scenario for fixed-income investors: rates are at historic lows (meaning you're getting paltry income from your bonds), and the Fed is signaling at least six rate hikes (meaning the value of your bonds will probably go down). We have added one potential solution within the Strategic Income Portfolio: We have replaced Canadian telecom company BCE with a premium income ETF which provides a 7% income stream to investors. Members can read about this unique strategy in the upcoming Penn Wealth Report, and see the trade details now at the Penn Trading Desk.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Market Pulse
Invasion Day: What we can learn from the Dow's near-1,000 point swing last Thursday
Considering the headline, "Russia invades Ukraine," last Thursday's early session bloodbath certainly seemed to make sense. The Dow was in the red by 859 points in short order, causing us to have flashbacks to the multiple 2,000-point-drop days in March of 2020, almost two years ago to the month. All of the major indexes were off by 2.5% or more. Then, something remarkable happened: the markets staged their great comeback. Led by the NASDAQ, then followed by the S&P 500 and—grudgingly—the Dow, all of the indexes ended the day in the green. For the Dow, that represented a 963-point swing from bottom to close. The S&P 500 ended the day up 1.56% while the NASDAQ was in the green by 3.34%, with many recent "opening trade punching bags" moving higher by double digits.
The knee-jerk reaction coming from analysts was that the market liked President Biden's new round of measured sanctions—just enough to potentially make Putin think twice about his course of action, but not so draconian as to hurt Western allies (like limiting the flow of Russian gas and oil, or cutting Russia out of the Swift global payment system). But the rebound, we believe, goes a bit deeper than that. In the first place, it all but assured a more measured pace of Fed rate hikes and balance sheet reduction, as opposed to the 50-basis-point March hike and seven rate hikes that the likes of Bank of America had been calling for (we never believed that would happen). Additionally, we felt a real sense that many investors who had been waiting for the bottoming of the recent market trough decided that this was the moment to get back in. That notion was buttressed by Friday's 835-point Dow follow through. Time will tell whether or not this represented a turnaround from the brutal past few months, but the rapid shift in market sentiment was heartening. CNBC's Bob Pisani perhaps put it best when he said, "I've been on the (trading) floor for twenty-five years; you don't see many weeks like this."
If we are on the happy side of a bottoming out, here is a tempting morsel for would-be buyers: 51% of S&P 500 stocks and 76% of NASDAQ stocks are still in bear market territory. Many quality NASDAQ names (strong revenues, needed products and services) remain 50% or more below their 52-week highs.
Textiles, Apparel, & Luxury Goods
Foot Locker gaps down by a third as management gives sobering guidance, outlines Nike problems
Shares of retailer Foot Locker (FL $29) plunged over 30% last Friday after management said it expects weaker sales and earnings this year due to supply chain issues and economic factors such as raging inflation. Furthermore, the company admitted that Nike's (NKE $137) decision to focus on direct-to-consumer sales at the expense of its third-party sellers (such as Foot Locker) will have a deleterious effect on the company, at least in the short term. To put that statement in perspective, nearly 70% of Foot Locker sales in 2021 were of Nike products. How much of a hit does management expect to take in 2022? The company is projecting a sales decline of between 8% and 10% this year. As for the quarterly earnings, the numbers were a mixed bag: Sales grew from $2.19 billion in the same quarter of the previous year to $2.34 billion this past quarter; however, thanks to higher supply-chain costs, net income for the quarter fell 16% from the previous year, to $103 million. Foot locker has nearly 3,000 retail stores around the world, with management expecting to trim that figure by roughly 3% this year.
We could easily make a convincing argument for a $50 fair value on FL shares, which would equate to a 67% gain in the share price. The company's financial health is strong, it has a tiny P/E ratio of 3.4, and a price-to-sales ratio of 0.36. A $3 billion small cap in the specialty retail space is not for the faint of heart at this moment in time, but it has a nice risk/reward profile for more "aggressive money." We would recommend a stop loss around $27.60 on any purchase of the shares.
Europe
Trump couldn't get Germany to raise its defense spending; Putin just did
Just how mentally stable Vladimir Putin is right now is open for debate, but one component of his unprovoked invasion of neighboring Ukraine is crystal clear: he is taken aback by the cohesion of the Western world against his actions; specifically, Germany. Germany has become irresponsibly reliant on Russia, a condition going back at least as far as Angela Merkel's ascension to power in 2005. This has always seemed strange to us, as she was raised in East Germany under the thumb of the Soviet empire. She is also highly intelligent, earning her doctorate in quantum chemistry and working as a research scientist before the fall of the Berlin Wall. It is hard to imagine anyone more acutely aware of Russia's tactics than Merkel. Nonetheless, as the country phased out coal and nuclear energy, Germany's leadership allowed itself to become more and more reliant on Russian commodities, especially in the energy sector.
Chancellor Merkel's party recently suffered its worst defeat since it was founded in the aftermath of World War II in 1945. The country's new leader is Olaf Scholz, head of the center-left Social Democratic Party (SPD). His party, and the Greens who have formed an alliance with the SPD, have never been fond of the already-built Nord Stream 2 pipeline, but Putin was angered (and surprised, we would argue) when Germany actually halted approval of the pipeline for operational status due to the invasion. Now, they are taking steps which have surprised even us: they are planning on a massive boost in defense spending.
That is something Germany is not known for doing, to put it mildly. Just ask former President Donald Trump, who vociferously and unsuccessfully argued that our European allies needed to at least hit NATO's 2% of GDP target for defense spending. Now, thanks to Putin's aggression on the continent, Scholz has announced that his government will funnel 100 billion euros ($113B USD) into a modernization fund for Germany's military. Additionally, he announced that the country would allot at least the 2% target on defense spending by 2024. On a related note, Germany even said it would supply weapons to Ukrainian fighters—a dramatic change in posture for the nation, and certainly the SPD, which has a history of warm ties to Moscow.
Germany's moves are great news for the cause of freedom. The wild card, however, remains Putin's state of mind. It is rather disturbing to consider just how far this mercurial autocrat will go to prevent his image from being damaged or ego from being bruised. Sadly, we cannot rely on the Chinese government to coerce its ally into pulling back. Winnie the Pooh's evil doppelganger is trying to portray an image of China being above the fray, but it is evident which side his country supports. Birds of a feather....
Interactive Media and Services
More trouble for Facebook: Google just pulled an Apple
Last year, Apple (AAPL $171) made changes to its operating system, iOS, which had a dramatic effect on Meta Platform's (FB $214) Facebook unit. Specifically, thanks to Apple's App Tracking Transparency feature, iPhone users could essentially cut off the wealth of data previously shared with Facebook advertisers to help them reach their target audience. For example, if an iPhone user happened to make regular shoe purchases through various apps, a footwear advertiser on Facebook could reach this potential customer with targeted ads. Now, iPhone users must opt in to having their activities on any given app tracked in such a manner. As could be expected, this is already having an effect on ad spends within the platform. In a stark admission, Facebook said that the changes would be responsible for a roughly $10 billion decrease in revenue this year. That equates to nearly a 10% hit.
Now, the second shoe has dropped. Alphabet's (GOOG $2,703) Google unit just announced that it will be rolling out its "Privacy Sandbox" for Android-based devices which will limit cross-site and cross-app tracking. While not quite as draconian as Apple's forced "opt in" measures, these steps will certainly have a negative impact on Facebook's ad business. This move follows a previous Google decision to phase out third-party tracking cookies on its Google Chrome browser. This gives Google Ads, the company's online advertising platform formerly known as Google AdWords, a definitive leg up in the battle for ad dollars. After all, the simple act of searching for goods or services via the browser gives the company user information in an "organic" manner (i.e., no third-party tracking apps required). As if Meta didn't have enough on its plate already.
After its shares fell sharply, we re-added Meta Platforms to the Penn Global Leaders Club. Despite its perpetual headwinds, keep in mind that it still controls the world's largest online social network, with nearly 3 billion monthly active users. We also believe the metaverse will be a transformational movement which will reshape both entertainment and business as we know it (we recall many rolling their eyes at the Internet as well), and that Meta Platforms will be a major player. We retain our $442 initial price target on the shares.
Media & Entertainment
Roku didn't miss revenue expectations by all that much, but investors fled; we've seen this movie before
Back in September of 2019, we wrote of streaming device maker Roku's (ROKU $112) really bad day. Shares had just fallen 20%, to $108, on the back of a scathing analyst call arguing that the company wouldn't be able to stand up to new competition from the likes of Apple, Comcast, Facebook (Portal), and the slew of new smart TVs; the latter of which which would ultimately make its device obsolete. Eighteen months after that drop, the pandemic came along and helped Roku shares skyrocket, topping out at $491. We have missed out on every one of the company's meteoric price spikes because we simply can't explain its long-term growth story. It was September of 2019 all over again this week, as Roku shares fell 22.3% in one day—closing the week at $112—after a slight revenue miss led to a slew of price target downgrades. Shares have now fallen 76.55% since the summer of 2021. There is some comedy to inject in this story. Our 2019 commentary mentioned that a major catalyst for the price drop (to $108) was Pivotal Research initiating coverage with a "Sell" rating and a $60 per share price target. What makes this so humorous is that Pivotal, following this past Friday's drop, once again lowered their rating to "Sell." This time they moved their price target on Roku shares down from $350 to $95. Now that's funny. Wouldn't it have been better to just not say anything after their 2019 commentary? Yet another reason we have never pulled the trigger on adding this company to one of our strategies—its price gyrations tend to make analysts look silly. As for the earnings report which sparked this latest price drop, Roku reported Q4 revenues of $865 million (+33% YoY), which fell short of analysts' expectations for $894 million in sales. On the bright side, the company reported net earnings of $23.7 million, representing its sixth-straight quarter of profitability.
Bulls argue that Roku is no longer just a one-trick (the Roku Stick) pony. The company now has its own ad-sponsored channel to supplement a service-neutral platform which allows customers to access Netflix, Disney+, Hulu, and a host of others providers. They also argue that enormous growth potential outside of a saturated US market should provide 30%+ annual revenue growth for years to come. We remain skeptical, just as we did the last time it sat near $100 per share.
Industrial Machinery
We added Generac to the Global Leaders Club this month; its earnings and guidance support our Strong Buy thesis
Companies listed on the NASDAQ have, overwhelmingly, seen their share prices crushed over the past few months, with some big names falling 50% or more from their 52-week highs. For many, based on their nonexistent earnings, the drop is understandable. For others, the pullback has been irrational. Power generation equipment maker Generac Holdings (GNRC $295) certainly falls in the latter camp. After falling 50% from its November high of $524, we added shares of this great American company to the Penn Global Leaders Club on the fourth of this month. The company just reported earnings and gave guidance for 2022: both sides of the coin were stellar. Revenues for the fourth quarter came in at just over $1 billion, representing a 40% spike from the same quarter of the previous year. Earnings per share (EPS) was $2.51 versus expectations for $2.42. For the fiscal year, sales hit a record $3.75 billion, a 50% increase over the previous year. As for guidance, management expects net sales in 2022 to increase somewhere in the 35% range, based on strong global demand—especially in clean energy markets—and increased home standby production capacity. The team also cited recent acquisitions as a catalyst. Shares spiked 16% on the report, and then proceeded to fall back down with the rest of the index. Generac is in an incredible position right now: the company is generating huge profits from its existing business line, but is also poised to be an industry leader in the renewable energy market. Investors seem to be missing that point.
We removed FedEx (FDX $222) from the Penn Global Leaders Club to make room for Generac, picking up shares of the company at $280. Our target price is $550.
E-Commerce
Another e-commerce company plummets on earnings, sentiment
While we have never owned e-commerce platform Shopify (SHOP $657), it was certainly one of the investor darlings during the pandemic. Furthermore, we love the story. Consider the company an Amazon for the rest of us. It provides everything a small- or mid-sized business needs to set up shop on the Internet, make sales, ship goods (fast), and help with bookkeeping and marketing. All for a quite reasonable price, we might add. If that wasn't enough of a sales pitch, consider this: you can now pick up shares at a 63% discount to their 52-week high of $1,763. But should you? This is yet another case of a company reporting strong earnings, but issuing guidance which spooked the market. Against expectations for $1.34 billion in sales for the quarter, the company reported revenue of $1.38 billion. Earnings also beat, with the company netting a profit of $1.36 per share (yes, they are actually operating in the black). For the full year, Shopify generated $4.6 billion in revenue, improving on 2020's sales by 57%. Impressive. Two concerns weighed on investor sentiment, however. First, can the company possibly keep up the impressive rate of growth it enjoyed during the pandemic? Secondly, investors are concerned about how much it is going to cost to build the company's massive American distribution system, known as the Shopify Fulfillment Network. The ultimate goal is to deliver good from its merchants to their respective customers within two days, competing head-to-head with Amazon Prime. The company is expected to spend around $1 billion over the next two years to build out key warehouse hubs in the United States (Shopify is a Canadian company). The key question is whether or not management can effectively deploy the capital needed to complete the project. Dour investors voted with their capital this past week, sending the shares reeling.
Again, we don't currently own the company right now. That being said, we do believe in the management team, and we could see the shares doubling in price if 2022 shapes up like we expect it to. The financials look exceptional, and the company is sitting on a war chest of nearly $8 billion. A conservative fair value of $1,000 per share seems appropriate.
Strategies & Tactics: Behavioral Finance
The Russia/Ukraine brouhaha is a rallying cry for Ukrainians, a wake-up call to Europeans, and an opportunity for investors
Will they? Won't they? That is the question being asked incessantly on the news channels. The question is missing the point: Russia has, in essence, already invaded Ukraine. After all, the country forcefully took the almost-island (it is connected to Ukraine by a tiny isthmus) of Crimea back in 2014, annexing it as Russian territory; it is fomenting constant fighting in the Donbas region of southeastern Ukraine; and it has unleashed a cyberwar on its western neighbor. Yes, a ground invasion would bring about a multitude of deaths (14,000 have already died in the Donbas region of Donetsk and Luhansk, where Russian-speaking separatists—provided with Russian arms—have been fighting government forces), but the real threat is to Putin himself, not the markets. The dictator has painted himself into a corner, despite his belief that he holds all the cards.
Germany, thanks to Merkel's full-throated and myopic cheerleading for Russian gas flowing into the country (roughly 50% of demand), is certainly in a precarious situation as it scrambles for new suppliers. And the sanctions which would follow a ground invasion would send oil above $100 per barrel. But from a US market perspective, this threat is far less ominous than the one posed by a global pandemic we knew little about back in March of 2020. That spring turned out to be one of the best buying opportunities since the fall and winter of 1987. The press is doing its best to keep anxiety high, but Putin will be the real loser in this game of chicken, not the US stock market.
The major indexes finished the week down—their fifth losing week of the last seven, and the downturn has created some real opportunities to pick up some of those wish list stocks on the cheap. Granted, many tech names were strongly overvalued, but the likes of Adobe (ADBE), Uber (UBER), PayPal (PYPL), and Generac (GNRC) fell to levels investors would have drooled over last fall. Now is the time to discount the headlines and search for some premium names to buy.
Just as we did in March and April of 2020, we pulled out our own wish list of stocks which have dropped below our target buy price. Take a look at portfolio allocations and see which promising sectors and industries have become underweighted and plug in some good names. Let the headlines rattle others into wanton selling; the crisis in Eastern Europe does not pose a major threat to fundamentally sound, cash-flow-generating American companies—it has created a tactical opportunity which will become clear to others over the coming months.
Under the Radar Investment
Rogers Sugar (RSI.TO $6)
We were not picky, we just wanted a: small-cap defensive stock with a great dividend yield and low risk level (as measured by beta) to add to our international opportunities fund. Simple, right? We actually found what we were looking for in Vancover-based Rogers Sugar Inc. This $607 million company was established in 1890 by B.T. Rogers, who was trying to solve the problem of the high cost of transporting refined sugar by rail from Montreal to Vancouver. Strategically located to access raw sugar shipments from the Pacific and send refined sugar to Canada's western population centers, the company was the first major non-logging or fishing industry in the region. Today, the company refines, packages, and markets sugar and maple products to industrial customers and consumers throughout Canada and the United States. Rogers has a P/E ratio of 12, a tiny price-to-sales ratio of 0.761, and a dividend yield of 6.15%. Shares closed the week at $5.85.
Answer
The four presidents were chosen for their significant contribution to the founding, expansion, preservation, and unification of the United States:
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The Incredible National Gift of Mount Rushmore...
America boasts some incredible national monuments, but few hold the natural beauty and grandeur of Mount Rushmore. While South Dakota historian Doane Robinson dreamed up the concept, it was Danish-American sculptor Gutzon Borglum, a good friend of the French sculptor Rodin, who brought the glorious monument to life. Borglum and his son, Lincoln, thought that the monument should have a national focus around four cornerstone concepts of American freedom. We all know the presidents represented in the carving, but what are the concepts each represent?
Penn Trading Desk:
Penn: Swap Aerospace & Defense funds within Dynamic Growth Strategy
We are overweighting Industrials in 2022, especially within the Aerospace & Defense industries. Within our ETF-based Penn Dynamic Growth Strategy we are replacing our long-term iShares US Aerospace & Defense ETF (ITA $108) holding with another specialty player in the category. ITA has remained faithful to Boeing (BA $201) for far too long, and the company's 17.5% representation in the fund is unacceptable. The top two holdings in the fund—one of which is Boeing—account for a 40% weighting. We have replaced ITA with a more well-balanced fund comprised of 52 strong holdings in the aerospace and defense arenas.
Penn: Open agriculture play in Dynamic Growth Strategy
A confluence of events has created a very favorable environment for commodities, particularly agriculture products. Within the Penn Dynamics Growth Strategy, we have replaced our 4% position in ROBO—a robotics and automation ETF—with a well-managed commodities vehicle focused on agriculture. Investors are seeking instruments with a low to inverse correlation to stocks and bonds right now, and commodities have historically filled the bill.
Penn: Close BCE and Open Premium Income Fund Within the Strategic Income Portfolio
It is a nightmare scenario for fixed-income investors: rates are at historic lows (meaning you're getting paltry income from your bonds), and the Fed is signaling at least six rate hikes (meaning the value of your bonds will probably go down). We have added one potential solution within the Strategic Income Portfolio: We have replaced Canadian telecom company BCE with a premium income ETF which provides a 7% income stream to investors. Members can read about this unique strategy in the upcoming Penn Wealth Report, and see the trade details now at the Penn Trading Desk.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Market Pulse
Invasion Day: What we can learn from the Dow's near-1,000 point swing last Thursday
Considering the headline, "Russia invades Ukraine," last Thursday's early session bloodbath certainly seemed to make sense. The Dow was in the red by 859 points in short order, causing us to have flashbacks to the multiple 2,000-point-drop days in March of 2020, almost two years ago to the month. All of the major indexes were off by 2.5% or more. Then, something remarkable happened: the markets staged their great comeback. Led by the NASDAQ, then followed by the S&P 500 and—grudgingly—the Dow, all of the indexes ended the day in the green. For the Dow, that represented a 963-point swing from bottom to close. The S&P 500 ended the day up 1.56% while the NASDAQ was in the green by 3.34%, with many recent "opening trade punching bags" moving higher by double digits.
The knee-jerk reaction coming from analysts was that the market liked President Biden's new round of measured sanctions—just enough to potentially make Putin think twice about his course of action, but not so draconian as to hurt Western allies (like limiting the flow of Russian gas and oil, or cutting Russia out of the Swift global payment system). But the rebound, we believe, goes a bit deeper than that. In the first place, it all but assured a more measured pace of Fed rate hikes and balance sheet reduction, as opposed to the 50-basis-point March hike and seven rate hikes that the likes of Bank of America had been calling for (we never believed that would happen). Additionally, we felt a real sense that many investors who had been waiting for the bottoming of the recent market trough decided that this was the moment to get back in. That notion was buttressed by Friday's 835-point Dow follow through. Time will tell whether or not this represented a turnaround from the brutal past few months, but the rapid shift in market sentiment was heartening. CNBC's Bob Pisani perhaps put it best when he said, "I've been on the (trading) floor for twenty-five years; you don't see many weeks like this."
If we are on the happy side of a bottoming out, here is a tempting morsel for would-be buyers: 51% of S&P 500 stocks and 76% of NASDAQ stocks are still in bear market territory. Many quality NASDAQ names (strong revenues, needed products and services) remain 50% or more below their 52-week highs.
Textiles, Apparel, & Luxury Goods
Foot Locker gaps down by a third as management gives sobering guidance, outlines Nike problems
Shares of retailer Foot Locker (FL $29) plunged over 30% last Friday after management said it expects weaker sales and earnings this year due to supply chain issues and economic factors such as raging inflation. Furthermore, the company admitted that Nike's (NKE $137) decision to focus on direct-to-consumer sales at the expense of its third-party sellers (such as Foot Locker) will have a deleterious effect on the company, at least in the short term. To put that statement in perspective, nearly 70% of Foot Locker sales in 2021 were of Nike products. How much of a hit does management expect to take in 2022? The company is projecting a sales decline of between 8% and 10% this year. As for the quarterly earnings, the numbers were a mixed bag: Sales grew from $2.19 billion in the same quarter of the previous year to $2.34 billion this past quarter; however, thanks to higher supply-chain costs, net income for the quarter fell 16% from the previous year, to $103 million. Foot locker has nearly 3,000 retail stores around the world, with management expecting to trim that figure by roughly 3% this year.
We could easily make a convincing argument for a $50 fair value on FL shares, which would equate to a 67% gain in the share price. The company's financial health is strong, it has a tiny P/E ratio of 3.4, and a price-to-sales ratio of 0.36. A $3 billion small cap in the specialty retail space is not for the faint of heart at this moment in time, but it has a nice risk/reward profile for more "aggressive money." We would recommend a stop loss around $27.60 on any purchase of the shares.
Europe
Trump couldn't get Germany to raise its defense spending; Putin just did
Just how mentally stable Vladimir Putin is right now is open for debate, but one component of his unprovoked invasion of neighboring Ukraine is crystal clear: he is taken aback by the cohesion of the Western world against his actions; specifically, Germany. Germany has become irresponsibly reliant on Russia, a condition going back at least as far as Angela Merkel's ascension to power in 2005. This has always seemed strange to us, as she was raised in East Germany under the thumb of the Soviet empire. She is also highly intelligent, earning her doctorate in quantum chemistry and working as a research scientist before the fall of the Berlin Wall. It is hard to imagine anyone more acutely aware of Russia's tactics than Merkel. Nonetheless, as the country phased out coal and nuclear energy, Germany's leadership allowed itself to become more and more reliant on Russian commodities, especially in the energy sector.
Chancellor Merkel's party recently suffered its worst defeat since it was founded in the aftermath of World War II in 1945. The country's new leader is Olaf Scholz, head of the center-left Social Democratic Party (SPD). His party, and the Greens who have formed an alliance with the SPD, have never been fond of the already-built Nord Stream 2 pipeline, but Putin was angered (and surprised, we would argue) when Germany actually halted approval of the pipeline for operational status due to the invasion. Now, they are taking steps which have surprised even us: they are planning on a massive boost in defense spending.
That is something Germany is not known for doing, to put it mildly. Just ask former President Donald Trump, who vociferously and unsuccessfully argued that our European allies needed to at least hit NATO's 2% of GDP target for defense spending. Now, thanks to Putin's aggression on the continent, Scholz has announced that his government will funnel 100 billion euros ($113B USD) into a modernization fund for Germany's military. Additionally, he announced that the country would allot at least the 2% target on defense spending by 2024. On a related note, Germany even said it would supply weapons to Ukrainian fighters—a dramatic change in posture for the nation, and certainly the SPD, which has a history of warm ties to Moscow.
Germany's moves are great news for the cause of freedom. The wild card, however, remains Putin's state of mind. It is rather disturbing to consider just how far this mercurial autocrat will go to prevent his image from being damaged or ego from being bruised. Sadly, we cannot rely on the Chinese government to coerce its ally into pulling back. Winnie the Pooh's evil doppelganger is trying to portray an image of China being above the fray, but it is evident which side his country supports. Birds of a feather....
Interactive Media and Services
More trouble for Facebook: Google just pulled an Apple
Last year, Apple (AAPL $171) made changes to its operating system, iOS, which had a dramatic effect on Meta Platform's (FB $214) Facebook unit. Specifically, thanks to Apple's App Tracking Transparency feature, iPhone users could essentially cut off the wealth of data previously shared with Facebook advertisers to help them reach their target audience. For example, if an iPhone user happened to make regular shoe purchases through various apps, a footwear advertiser on Facebook could reach this potential customer with targeted ads. Now, iPhone users must opt in to having their activities on any given app tracked in such a manner. As could be expected, this is already having an effect on ad spends within the platform. In a stark admission, Facebook said that the changes would be responsible for a roughly $10 billion decrease in revenue this year. That equates to nearly a 10% hit.
Now, the second shoe has dropped. Alphabet's (GOOG $2,703) Google unit just announced that it will be rolling out its "Privacy Sandbox" for Android-based devices which will limit cross-site and cross-app tracking. While not quite as draconian as Apple's forced "opt in" measures, these steps will certainly have a negative impact on Facebook's ad business. This move follows a previous Google decision to phase out third-party tracking cookies on its Google Chrome browser. This gives Google Ads, the company's online advertising platform formerly known as Google AdWords, a definitive leg up in the battle for ad dollars. After all, the simple act of searching for goods or services via the browser gives the company user information in an "organic" manner (i.e., no third-party tracking apps required). As if Meta didn't have enough on its plate already.
After its shares fell sharply, we re-added Meta Platforms to the Penn Global Leaders Club. Despite its perpetual headwinds, keep in mind that it still controls the world's largest online social network, with nearly 3 billion monthly active users. We also believe the metaverse will be a transformational movement which will reshape both entertainment and business as we know it (we recall many rolling their eyes at the Internet as well), and that Meta Platforms will be a major player. We retain our $442 initial price target on the shares.
Media & Entertainment
Roku didn't miss revenue expectations by all that much, but investors fled; we've seen this movie before
Back in September of 2019, we wrote of streaming device maker Roku's (ROKU $112) really bad day. Shares had just fallen 20%, to $108, on the back of a scathing analyst call arguing that the company wouldn't be able to stand up to new competition from the likes of Apple, Comcast, Facebook (Portal), and the slew of new smart TVs; the latter of which which would ultimately make its device obsolete. Eighteen months after that drop, the pandemic came along and helped Roku shares skyrocket, topping out at $491. We have missed out on every one of the company's meteoric price spikes because we simply can't explain its long-term growth story. It was September of 2019 all over again this week, as Roku shares fell 22.3% in one day—closing the week at $112—after a slight revenue miss led to a slew of price target downgrades. Shares have now fallen 76.55% since the summer of 2021. There is some comedy to inject in this story. Our 2019 commentary mentioned that a major catalyst for the price drop (to $108) was Pivotal Research initiating coverage with a "Sell" rating and a $60 per share price target. What makes this so humorous is that Pivotal, following this past Friday's drop, once again lowered their rating to "Sell." This time they moved their price target on Roku shares down from $350 to $95. Now that's funny. Wouldn't it have been better to just not say anything after their 2019 commentary? Yet another reason we have never pulled the trigger on adding this company to one of our strategies—its price gyrations tend to make analysts look silly. As for the earnings report which sparked this latest price drop, Roku reported Q4 revenues of $865 million (+33% YoY), which fell short of analysts' expectations for $894 million in sales. On the bright side, the company reported net earnings of $23.7 million, representing its sixth-straight quarter of profitability.
Bulls argue that Roku is no longer just a one-trick (the Roku Stick) pony. The company now has its own ad-sponsored channel to supplement a service-neutral platform which allows customers to access Netflix, Disney+, Hulu, and a host of others providers. They also argue that enormous growth potential outside of a saturated US market should provide 30%+ annual revenue growth for years to come. We remain skeptical, just as we did the last time it sat near $100 per share.
Industrial Machinery
We added Generac to the Global Leaders Club this month; its earnings and guidance support our Strong Buy thesis
Companies listed on the NASDAQ have, overwhelmingly, seen their share prices crushed over the past few months, with some big names falling 50% or more from their 52-week highs. For many, based on their nonexistent earnings, the drop is understandable. For others, the pullback has been irrational. Power generation equipment maker Generac Holdings (GNRC $295) certainly falls in the latter camp. After falling 50% from its November high of $524, we added shares of this great American company to the Penn Global Leaders Club on the fourth of this month. The company just reported earnings and gave guidance for 2022: both sides of the coin were stellar. Revenues for the fourth quarter came in at just over $1 billion, representing a 40% spike from the same quarter of the previous year. Earnings per share (EPS) was $2.51 versus expectations for $2.42. For the fiscal year, sales hit a record $3.75 billion, a 50% increase over the previous year. As for guidance, management expects net sales in 2022 to increase somewhere in the 35% range, based on strong global demand—especially in clean energy markets—and increased home standby production capacity. The team also cited recent acquisitions as a catalyst. Shares spiked 16% on the report, and then proceeded to fall back down with the rest of the index. Generac is in an incredible position right now: the company is generating huge profits from its existing business line, but is also poised to be an industry leader in the renewable energy market. Investors seem to be missing that point.
We removed FedEx (FDX $222) from the Penn Global Leaders Club to make room for Generac, picking up shares of the company at $280. Our target price is $550.
E-Commerce
Another e-commerce company plummets on earnings, sentiment
While we have never owned e-commerce platform Shopify (SHOP $657), it was certainly one of the investor darlings during the pandemic. Furthermore, we love the story. Consider the company an Amazon for the rest of us. It provides everything a small- or mid-sized business needs to set up shop on the Internet, make sales, ship goods (fast), and help with bookkeeping and marketing. All for a quite reasonable price, we might add. If that wasn't enough of a sales pitch, consider this: you can now pick up shares at a 63% discount to their 52-week high of $1,763. But should you? This is yet another case of a company reporting strong earnings, but issuing guidance which spooked the market. Against expectations for $1.34 billion in sales for the quarter, the company reported revenue of $1.38 billion. Earnings also beat, with the company netting a profit of $1.36 per share (yes, they are actually operating in the black). For the full year, Shopify generated $4.6 billion in revenue, improving on 2020's sales by 57%. Impressive. Two concerns weighed on investor sentiment, however. First, can the company possibly keep up the impressive rate of growth it enjoyed during the pandemic? Secondly, investors are concerned about how much it is going to cost to build the company's massive American distribution system, known as the Shopify Fulfillment Network. The ultimate goal is to deliver good from its merchants to their respective customers within two days, competing head-to-head with Amazon Prime. The company is expected to spend around $1 billion over the next two years to build out key warehouse hubs in the United States (Shopify is a Canadian company). The key question is whether or not management can effectively deploy the capital needed to complete the project. Dour investors voted with their capital this past week, sending the shares reeling.
Again, we don't currently own the company right now. That being said, we do believe in the management team, and we could see the shares doubling in price if 2022 shapes up like we expect it to. The financials look exceptional, and the company is sitting on a war chest of nearly $8 billion. A conservative fair value of $1,000 per share seems appropriate.
Strategies & Tactics: Behavioral Finance
The Russia/Ukraine brouhaha is a rallying cry for Ukrainians, a wake-up call to Europeans, and an opportunity for investors
Will they? Won't they? That is the question being asked incessantly on the news channels. The question is missing the point: Russia has, in essence, already invaded Ukraine. After all, the country forcefully took the almost-island (it is connected to Ukraine by a tiny isthmus) of Crimea back in 2014, annexing it as Russian territory; it is fomenting constant fighting in the Donbas region of southeastern Ukraine; and it has unleashed a cyberwar on its western neighbor. Yes, a ground invasion would bring about a multitude of deaths (14,000 have already died in the Donbas region of Donetsk and Luhansk, where Russian-speaking separatists—provided with Russian arms—have been fighting government forces), but the real threat is to Putin himself, not the markets. The dictator has painted himself into a corner, despite his belief that he holds all the cards.
Germany, thanks to Merkel's full-throated and myopic cheerleading for Russian gas flowing into the country (roughly 50% of demand), is certainly in a precarious situation as it scrambles for new suppliers. And the sanctions which would follow a ground invasion would send oil above $100 per barrel. But from a US market perspective, this threat is far less ominous than the one posed by a global pandemic we knew little about back in March of 2020. That spring turned out to be one of the best buying opportunities since the fall and winter of 1987. The press is doing its best to keep anxiety high, but Putin will be the real loser in this game of chicken, not the US stock market.
The major indexes finished the week down—their fifth losing week of the last seven, and the downturn has created some real opportunities to pick up some of those wish list stocks on the cheap. Granted, many tech names were strongly overvalued, but the likes of Adobe (ADBE), Uber (UBER), PayPal (PYPL), and Generac (GNRC) fell to levels investors would have drooled over last fall. Now is the time to discount the headlines and search for some premium names to buy.
Just as we did in March and April of 2020, we pulled out our own wish list of stocks which have dropped below our target buy price. Take a look at portfolio allocations and see which promising sectors and industries have become underweighted and plug in some good names. Let the headlines rattle others into wanton selling; the crisis in Eastern Europe does not pose a major threat to fundamentally sound, cash-flow-generating American companies—it has created a tactical opportunity which will become clear to others over the coming months.
Under the Radar Investment
Rogers Sugar (RSI.TO $6)
We were not picky, we just wanted a: small-cap defensive stock with a great dividend yield and low risk level (as measured by beta) to add to our international opportunities fund. Simple, right? We actually found what we were looking for in Vancover-based Rogers Sugar Inc. This $607 million company was established in 1890 by B.T. Rogers, who was trying to solve the problem of the high cost of transporting refined sugar by rail from Montreal to Vancouver. Strategically located to access raw sugar shipments from the Pacific and send refined sugar to Canada's western population centers, the company was the first major non-logging or fishing industry in the region. Today, the company refines, packages, and markets sugar and maple products to industrial customers and consumers throughout Canada and the United States. Rogers has a P/E ratio of 12, a tiny price-to-sales ratio of 0.761, and a dividend yield of 6.15%. Shares closed the week at $5.85.
Answer
The four presidents were chosen for their significant contribution to the founding, expansion, preservation, and unification of the United States:
- George Washington was chosen as he was the Founding Father of the nation
- Thomas Jefferson was chosen to represent expansion, as the author of the Declaration of Independence and the promoter/signer of the Louisiana Purchase (which doubled the size of the US)
- Theodore Roosevelt was chosen because he represented conservation (he established 150 national forests, 50 federal bird reserves, 4 national game preserves, 5 national parks, and 18 national monuments on over 230 million acres of newly-protected land)
- Abraham Lincoln was chosen for leading the United States through the bloody Civil War and his belief that the nation "must be preserved at any cost."
Headlines for the Week of 13 Feb 2022 — 19 Feb 2022
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The Incredible National Gift of Mount Rushmore...
America boasts some incredible national monuments, but few hold the natural beauty and grandeur of Mount Rushmore. While South Dakota historian Doane Robinson dreamed up the concept, it was Danish-American sculptor Gutzon Borglum, a good friend of the French sculptor Rodin, who brought the glorious monument to life. Borglum and his son, Lincoln, thought that the monument should have a national focus around four cornerstone concepts of American freedom. We all know the presidents represented in the carving, but what are the concepts each represent?
Penn Trading Desk:
Penn: Open immersive gaming platform in New Frontier Fund
We have been waiting for a catalyst to bring shares of this forward-looking media and entertainment company down within our price range; we got it in the form of Market reaction to an earnings report. Added to the Penn New Frontier Fund with an initial price target 79% higher than our purchase price, though we have no plans to sell it when that first target is hit.
Penn: Open Application Software company in the New Frontier Fund
When you see the name, you may scratch your head as to why it is listed as an Application & Systems Software company, but it is. We added this industry leader to the New Frontier Fund with a target price 101% above our purchase price. We believe the market has grossly misjudged this company.
Penn: Close BCE and Open Premium Income Fund Within the Strategic Income Portfolio
It is a nightmare scenario for fixed-income investors: rates are at historic lows (meaning you're getting paltry income from your bonds), and the Fed is signaling at least six rate hikes (meaning the value of your bonds will probably go down). We have added one potential solution within the Strategic Income Portfolio: We have replaced Canadian telecom company BCE with a premium income ETF which provides a 7% income stream to investors. Members can read about this unique strategy in the upcoming Penn Wealth Report, and see the trade details now at the Penn Trading Desk.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Airlines
Merger of the low-cost carriers: Frontier to buy Spirit Airlines in $6.6 billion deal
Denver-based Frontier (ULCC $12) is a $2.6 billion ultra-low-cost carrier serving 90 destinations with a fleet of 60 single-aisle Airbus aircraft. Florida-based Spirit Airlines (SAVE $24) is a $2.3 billion ultra-low-cost carrier serving 78 destinations with a fleet of 157 single-aisle Airbus aircraft. Both small cap airlines have lost money since the pandemic. With so much in common, it makes sense that these two airlines, both focused on leisure travel, would join forces. Our only question is the price-tag: Frontier has agreed to buy Spirit in a deal valued at $6.6 billion—or around $1.7 billion more than the combined companies' market cap at the end of last week. If the merger is approved (it should be, but with the current DoJ, who knows), it would create the country's fifth-largest airline, behind American, Delta, Southwest, and United. We know that Frontier would control 51.5% of the merged company, with Spirit shareholders owning the other 48.5%. What has yet to be determined is who will be the CEO, what the entity will be called, and where it will be headquartered. Bill Franke, the current chair of Frontier and managing partner of parent company Indigo Parters, will remain in his role, however. Although its IPO was delayed due to the pandemic, Frontier finally went public on the NASDAQ last April, opening around $19 per share.
We like this deal a lot. In fact, it is fair to say that it needed to be done for the long-term viability of both companies. Both carriers have aggressive growth plans, and the combined entity should begin operations before the end of this year, just as leisure travel begins to take off once again. We wouldn't touch shares of either company, however, before the DoT/DoJ appear ready to give the green light to the merger. We own United Airlines Holdings (UAL $44) in the Penn Global Leaders Club.
Bear Market Chatter
The economy—and the markets—should be able to withstand the coming tightening cycle
Want an idea of how the markets might react to a multi-year series of rate hikes? Look no further than 2015 through 2018. In the three-year period between December of 2015 and December of 2018, the Fed initiated a total of nine, 25-basis-point hikes, taking the lower band of the Fed funds rate from 0% to 2.25%. That same scenario seems completely plausible this time around. Common sense test: It is rather difficult to imagine would-be home buyers proclaiming, "A 6% mortgage rate? That's it, we're out!" (6% is probably the max rates would spike to; they peaked at 4.94% during the last tightening cycle.)
Just as the last series of hikes didn't chase away buyers, it also didn't run off investors. Sure, we had that ugly fourth-quarter downturn in 2018 which culminated in a negative year, but that was the result of trade tensions, D.C.'s battle with big tech, and a host of other concerning headlines. By April of 2019, the Q4 losses had been erased, and the markets were off to the races once again—at least until a global pandemic entered the field.
Yes, piloting a so-called "soft landing" of the economy is going to require some finesse by the Fed, but we don't buy the current narrative that inflation is so out of control that it cannot be subdued. Supply chain issues will abate this year, higher rates will help dampen the unbridled enthusiasm which has pushed up the cost of new and used vehicles and homes, and technology will continue to put downward pressure on prices. Add needed tightening to the mix and we can make a good argument for a decent year ahead, especially after the market's recent pullback. We retain our 5,100 target price for the S&P 500 (which is suddenly sounding a lot better), with the caveat that we are due a negative year—much like the one we had in 2018.
Quantitative tightening will probably continue into 2023 and then end at some point in the year. The Fed should be able to whittle its balance sheet down to a more manageable (yet still unacceptable) $7 trillion or so. We do see a recession on the horizon, but that will most likely come to pass in the second half of 2023 or in the election year of 2024.
Monetary Policy
The Bank of America analyst who predicted seven rate hikes this year isn't too concerned about the tightening yield curve
We just explained why investors shouldn't be overly concerned with a series of rate hikes, but what about concern over the flattening yield curve? Many economists are wringing their hands over the tightening spread between the 2-year Treasury and the 10-year Treasury, with some seemingly wired to believe that an inverted curve (the blue line on the chart going below 0.00%) signals a recession is all but guaranteed. Ironically, we turn to someone whose rate hike predictions we don't buy to explain why this is not necessarily the case. There's an old joke—at the expense of economists—which says, "The yield curve has predicted eight out of the last four recessions." Funny. Bank of America's head of global economics, who is calling for seven hikes in 2022 and another four in 2023, made an interesting observation about the tightening curve. He argues that foreign investors are flooding in to buy 10-year US Treasuries because they are faced with zero—or even negative—rates back home. That is a great point. As demand goes up for the longer notes, the law of supply and demand says prices will naturally go up. In Bond World, high demand and higher prices means yields will naturally fall. Picture the teeter-totter rule of bonds. The longer the maturity, the further out on the teeter-totter the bonds sit. On the opposite side of price for any given maturity sits yield. In other words, as prices go up, yields come down, and the longer the duration or maturity, the faster this takes place. Yes, the Fed will raise rates, but they can only affect the short end, sitting nearest the fulcrum on our imaginary piece of playground equipment. This is certainly one strong explanation for the tightening curve. For the record, the B of A analyst, Ethan Harris, also believes that inflation will come down naturally to the 3% range or so in the not-too-distant future as a result of supply constraints easing and the economy getting back to more normal levels. So, we agree with everything he is espousing except for the eleven rate hikes.
We are sticking with our prediction of four, 25-basis-point hikes this year, and four more in 2023; this would place the Fed funds rate at a quite accommodative 2%. If that rate freaks the market out, we have bigger concerns about the psyche of investors.
Interactive Media and Services
More trouble for Facebook: Google just pulled an Apple
Last year, Apple (AAPL $171) made changes to its operating system, iOS, which had a dramatic effect on Meta Platform's (FB $214) Facebook unit. Specifically, thanks to Apple's App Tracking Transparency feature, iPhone users could essentially cut off the wealth of data previously shared with Facebook advertisers to help them reach their target audience. For example, if an iPhone user happened to make regular shoe purchases through various apps, a footwear advertiser on Facebook could reach this potential customer with targeted ads. Now, iPhone users must opt in to having their activities on any given app tracked in such a manner. As could be expected, this is already having an effect on ad spends within the platform. In a stark admission, Facebook said that the changes would be responsible for a roughly $10 billion decrease in revenue this year. That equates to nearly a 10% hit.
Now, the second shoe has dropped. Alphabet's (GOOG $2,703) Google unit just announced that it will be rolling out its "Privacy Sandbox" for Android-based devices which will limit cross-site and cross-app tracking. While not quite as draconian as Apple's forced "opt in" measures, these steps will certainly have a negative impact on Facebook's ad business. This move follows a previous Google decision to phase out third-party tracking cookies on its Google Chrome browser. This gives Google Ads, the company's online advertising platform formerly known as Google AdWords, a definitive leg up in the battle for ad dollars. After all, the simple act of searching for goods or services via the browser gives the company user information in an "organic" manner (i.e., no third-party tracking apps required). As if Meta didn't have enough on its plate already.
After its shares fell sharply, we re-added Meta Platforms to the Penn Global Leaders Club. Despite its perpetual headwinds, keep in mind that it still controls the world's largest online social network, with nearly 3 billion monthly active users. We also believe the metaverse will be a transformational movement which will reshape both entertainment and business as we know it (we recall many rolling their eyes at the Internet as well), and that Meta Platforms will be a major player. We retain our $442 initial price target on the shares.
Media & Entertainment
Roku didn't miss revenue expectations by all that much, but investors fled; we've seen this movie before
Back in September of 2019, we wrote of streaming device maker Roku's (ROKU $112) really bad day. Shares had just fallen 20%, to $108, on the back of a scathing analyst call arguing that the company wouldn't be able to stand up to new competition from the likes of Apple, Comcast, Facebook (Portal), and the slew of new smart TVs; the latter of which which would ultimately make its device obsolete. Eighteen months after that drop, the pandemic came along and helped Roku shares skyrocket, topping out at $491. We have missed out on every one of the company's meteoric price spikes because we simply can't explain its long-term growth story. It was September of 2019 all over again this week, as Roku shares fell 22.3% in one day—closing the week at $112—after a slight revenue miss led to a slew of price target downgrades. Shares have now fallen 76.55% since the summer of 2021. There is some comedy to inject in this story. Our 2019 commentary mentioned that a major catalyst for the price drop (to $108) was Pivotal Research initiating coverage with a "Sell" rating and a $60 per share price target. What makes this so humorous is that Pivotal, following this past Friday's drop, once again lowered their rating to "Sell." This time they moved their price target on Roku shares down from $350 to $95. Now that's funny. Wouldn't it have been better to just not say anything after their 2019 commentary? Yet another reason we have never pulled the trigger on adding this company to one of our strategies—its price gyrations tend to make analysts look silly. As for the earnings report which sparked this latest price drop, Roku reported Q4 revenues of $865 million (+33% YoY), which fell short of analysts' expectations for $894 million in sales. On the bright side, the company reported net earnings of $23.7 million, representing its sixth-straight quarter of profitability.
Bulls argue that Roku is no longer just a one-trick (the Roku Stick) pony. The company now has its own ad-sponsored channel to supplement a service-neutral platform which allows customers to access Netflix, Disney+, Hulu, and a host of others providers. They also argue that enormous growth potential outside of a saturated US market should provide 30%+ annual revenue growth for years to come. We remain skeptical, just as we did the last time it sat near $100 per share.
Industrial Machinery
We added Generac to the Global Leaders Club this month; its earnings and guidance support our Strong Buy thesis
Companies listed on the NASDAQ have, overwhelmingly, seen their share prices crushed over the past few months, with some big names falling 50% or more from their 52-week highs. For many, based on their nonexistent earnings, the drop is understandable. For others, the pullback has been irrational. Power generation equipment maker Generac Holdings (GNRC $295) certainly falls in the latter camp. After falling 50% from its November high of $524, we added shares of this great American company to the Penn Global Leaders Club on the fourth of this month. The company just reported earnings and gave guidance for 2022: both sides of the coin were stellar. Revenues for the fourth quarter came in at just over $1 billion, representing a 40% spike from the same quarter of the previous year. Earnings per share (EPS) was $2.51 versus expectations for $2.42. For the fiscal year, sales hit a record $3.75 billion, a 50% increase over the previous year. As for guidance, management expects net sales in 2022 to increase somewhere in the 35% range, based on strong global demand—especially in clean energy markets—and increased home standby production capacity. The team also cited recent acquisitions as a catalyst. Shares spiked 16% on the report, and then proceeded to fall back down with the rest of the index. Generac is in an incredible position right now: the company is generating huge profits from its existing business line, but is also poised to be an industry leader in the renewable energy market. Investors seem to be missing that point.
We removed FedEx (FDX $222) from the Penn Global Leaders Club to make room for Generac, picking up shares of the company at $280. Our target price is $550.
E-Commerce
Another e-commerce company plummets on earnings, sentiment
While we have never owned e-commerce platform Shopify (SHOP $657), it was certainly one of the investor darlings during the pandemic. Furthermore, we love the story. Consider the company an Amazon for the rest of us. It provides everything a small- or mid-sized business needs to set up shop on the Internet, make sales, ship goods (fast), and help with bookkeeping and marketing. All for a quite reasonable price, we might add. If that wasn't enough of a sales pitch, consider this: you can now pick up shares at a 63% discount to their 52-week high of $1,763. But should you? This is yet another case of a company reporting strong earnings, but issuing guidance which spooked the market. Against expectations for $1.34 billion in sales for the quarter, the company reported revenue of $1.38 billion. Earnings also beat, with the company netting a profit of $1.36 per share (yes, they are actually operating in the black). For the full year, Shopify generated $4.6 billion in revenue, improving on 2020's sales by 57%. Impressive. Two concerns weighed on investor sentiment, however. First, can the company possibly keep up the impressive rate of growth it enjoyed during the pandemic? Secondly, investors are concerned about how much it is going to cost to build the company's massive American distribution system, known as the Shopify Fulfillment Network. The ultimate goal is to deliver good from its merchants to their respective customers within two days, competing head-to-head with Amazon Prime. The company is expected to spend around $1 billion over the next two years to build out key warehouse hubs in the United States (Shopify is a Canadian company). The key question is whether or not management can effectively deploy the capital needed to complete the project. Dour investors voted with their capital this past week, sending the shares reeling.
Again, we don't currently own the company right now. That being said, we do believe in the management team, and we could see the shares doubling in price if 2022 shapes up like we expect it to. The financials look exceptional, and the company is sitting on a war chest of nearly $8 billion. A conservative fair value of $1,000 per share seems appropriate.
Strategies & Tactics: Behavioral Finance
The Russia/Ukraine brouhaha is a rallying cry for Ukrainians, a wake-up call to Europeans, and an opportunity for investors
Will they? Won't they? That is the question being asked incessantly on the news channels. The question is missing the point: Russia has, in essence, already invaded Ukraine. After all, the country forcefully took the almost-island (it is connected to Ukraine by a tiny isthmus) of Crimea back in 2014, annexing it as Russian territory; it is fomenting constant fighting in the Donbas region of southeastern Ukraine; and it has unleashed a cyberwar on its western neighbor. Yes, a ground invasion would bring about a multitude of deaths (14,000 have already died in the Donbas region of Donetsk and Luhansk, where Russian-speaking separatists—provided with Russian arms—have been fighting government forces), but the real threat is to Putin himself, not the markets. The dictator has painted himself into a corner, despite his belief that he holds all the cards.
Germany, thanks to Merkel's full-throated and myopic cheerleading for Russian gas flowing into the country (roughly 50% of demand), is certainly in a precarious situation as it scrambles for new suppliers. And the sanctions which would follow a ground invasion would send oil above $100 per barrel. But from a US market perspective, this threat is far less ominous than the one posed by a global pandemic we knew little about back in March of 2020. That spring turned out to be one of the best buying opportunities since the fall and winter of 1987. The press is doing its best to keep anxiety high, but Putin will be the real loser in this game of chicken, not the US stock market.
The major indexes finished the week down—their fifth losing week of the last seven, and the downturn has created some real opportunities to pick up some of those wish list stocks on the cheap. Granted, many tech names were strongly overvalued, but the likes of Adobe (ADBE), Uber (UBER), PayPal (PYPL), and Generac (GNRC) fell to levels investors would have drooled over last fall. Now is the time to discount the headlines and search for some premium names to buy.
Just as we did in March and April of 2020, we pulled out our own wish list of stocks which have dropped below our target buy price. Take a look at portfolio allocations and see which promising sectors and industries have become underweighted and plug in some good names. Let the headlines rattle others into wanton selling; the crisis in Eastern Europe does not pose a major threat to fundamentally sound, cash-flow-generating American companies—it has created a tactical opportunity which will become clear to others over the coming months.
Under the Radar Investment
Rogers Sugar (RSI.TO $6)
We were not picky, we just wanted a: small-cap defensive stock with a great dividend yield and low risk level (as measured by beta) to add to our international opportunities fund. Simple, right? We actually found what we were looking for in Vancover-based Rogers Sugar Inc. This $607 million company was established in 1890 by B.T. Rogers, who was trying to solve the problem of the high cost of transporting refined sugar by rail from Montreal to Vancouver. Strategically located to access raw sugar shipments from the Pacific and send refined sugar to Canada's western population centers, the company was the first major non-logging or fishing industry in the region. Today, the company refines, packages, and markets sugar and maple products to industrial customers and consumers throughout Canada and the United States. Rogers has a P/E ratio of 12, a tiny price-to-sales ratio of 0.761, and a dividend yield of 6.15%. Shares closed the week at $5.85.
Answer
The four presidents were chosen for their significant contribution to the founding, expansion, preservation, and unification of the United States:
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The Incredible National Gift of Mount Rushmore...
America boasts some incredible national monuments, but few hold the natural beauty and grandeur of Mount Rushmore. While South Dakota historian Doane Robinson dreamed up the concept, it was Danish-American sculptor Gutzon Borglum, a good friend of the French sculptor Rodin, who brought the glorious monument to life. Borglum and his son, Lincoln, thought that the monument should have a national focus around four cornerstone concepts of American freedom. We all know the presidents represented in the carving, but what are the concepts each represent?
Penn Trading Desk:
Penn: Open immersive gaming platform in New Frontier Fund
We have been waiting for a catalyst to bring shares of this forward-looking media and entertainment company down within our price range; we got it in the form of Market reaction to an earnings report. Added to the Penn New Frontier Fund with an initial price target 79% higher than our purchase price, though we have no plans to sell it when that first target is hit.
Penn: Open Application Software company in the New Frontier Fund
When you see the name, you may scratch your head as to why it is listed as an Application & Systems Software company, but it is. We added this industry leader to the New Frontier Fund with a target price 101% above our purchase price. We believe the market has grossly misjudged this company.
Penn: Close BCE and Open Premium Income Fund Within the Strategic Income Portfolio
It is a nightmare scenario for fixed-income investors: rates are at historic lows (meaning you're getting paltry income from your bonds), and the Fed is signaling at least six rate hikes (meaning the value of your bonds will probably go down). We have added one potential solution within the Strategic Income Portfolio: We have replaced Canadian telecom company BCE with a premium income ETF which provides a 7% income stream to investors. Members can read about this unique strategy in the upcoming Penn Wealth Report, and see the trade details now at the Penn Trading Desk.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Airlines
Merger of the low-cost carriers: Frontier to buy Spirit Airlines in $6.6 billion deal
Denver-based Frontier (ULCC $12) is a $2.6 billion ultra-low-cost carrier serving 90 destinations with a fleet of 60 single-aisle Airbus aircraft. Florida-based Spirit Airlines (SAVE $24) is a $2.3 billion ultra-low-cost carrier serving 78 destinations with a fleet of 157 single-aisle Airbus aircraft. Both small cap airlines have lost money since the pandemic. With so much in common, it makes sense that these two airlines, both focused on leisure travel, would join forces. Our only question is the price-tag: Frontier has agreed to buy Spirit in a deal valued at $6.6 billion—or around $1.7 billion more than the combined companies' market cap at the end of last week. If the merger is approved (it should be, but with the current DoJ, who knows), it would create the country's fifth-largest airline, behind American, Delta, Southwest, and United. We know that Frontier would control 51.5% of the merged company, with Spirit shareholders owning the other 48.5%. What has yet to be determined is who will be the CEO, what the entity will be called, and where it will be headquartered. Bill Franke, the current chair of Frontier and managing partner of parent company Indigo Parters, will remain in his role, however. Although its IPO was delayed due to the pandemic, Frontier finally went public on the NASDAQ last April, opening around $19 per share.
We like this deal a lot. In fact, it is fair to say that it needed to be done for the long-term viability of both companies. Both carriers have aggressive growth plans, and the combined entity should begin operations before the end of this year, just as leisure travel begins to take off once again. We wouldn't touch shares of either company, however, before the DoT/DoJ appear ready to give the green light to the merger. We own United Airlines Holdings (UAL $44) in the Penn Global Leaders Club.
Bear Market Chatter
The economy—and the markets—should be able to withstand the coming tightening cycle
Want an idea of how the markets might react to a multi-year series of rate hikes? Look no further than 2015 through 2018. In the three-year period between December of 2015 and December of 2018, the Fed initiated a total of nine, 25-basis-point hikes, taking the lower band of the Fed funds rate from 0% to 2.25%. That same scenario seems completely plausible this time around. Common sense test: It is rather difficult to imagine would-be home buyers proclaiming, "A 6% mortgage rate? That's it, we're out!" (6% is probably the max rates would spike to; they peaked at 4.94% during the last tightening cycle.)
Just as the last series of hikes didn't chase away buyers, it also didn't run off investors. Sure, we had that ugly fourth-quarter downturn in 2018 which culminated in a negative year, but that was the result of trade tensions, D.C.'s battle with big tech, and a host of other concerning headlines. By April of 2019, the Q4 losses had been erased, and the markets were off to the races once again—at least until a global pandemic entered the field.
Yes, piloting a so-called "soft landing" of the economy is going to require some finesse by the Fed, but we don't buy the current narrative that inflation is so out of control that it cannot be subdued. Supply chain issues will abate this year, higher rates will help dampen the unbridled enthusiasm which has pushed up the cost of new and used vehicles and homes, and technology will continue to put downward pressure on prices. Add needed tightening to the mix and we can make a good argument for a decent year ahead, especially after the market's recent pullback. We retain our 5,100 target price for the S&P 500 (which is suddenly sounding a lot better), with the caveat that we are due a negative year—much like the one we had in 2018.
Quantitative tightening will probably continue into 2023 and then end at some point in the year. The Fed should be able to whittle its balance sheet down to a more manageable (yet still unacceptable) $7 trillion or so. We do see a recession on the horizon, but that will most likely come to pass in the second half of 2023 or in the election year of 2024.
Monetary Policy
The Bank of America analyst who predicted seven rate hikes this year isn't too concerned about the tightening yield curve
We just explained why investors shouldn't be overly concerned with a series of rate hikes, but what about concern over the flattening yield curve? Many economists are wringing their hands over the tightening spread between the 2-year Treasury and the 10-year Treasury, with some seemingly wired to believe that an inverted curve (the blue line on the chart going below 0.00%) signals a recession is all but guaranteed. Ironically, we turn to someone whose rate hike predictions we don't buy to explain why this is not necessarily the case. There's an old joke—at the expense of economists—which says, "The yield curve has predicted eight out of the last four recessions." Funny. Bank of America's head of global economics, who is calling for seven hikes in 2022 and another four in 2023, made an interesting observation about the tightening curve. He argues that foreign investors are flooding in to buy 10-year US Treasuries because they are faced with zero—or even negative—rates back home. That is a great point. As demand goes up for the longer notes, the law of supply and demand says prices will naturally go up. In Bond World, high demand and higher prices means yields will naturally fall. Picture the teeter-totter rule of bonds. The longer the maturity, the further out on the teeter-totter the bonds sit. On the opposite side of price for any given maturity sits yield. In other words, as prices go up, yields come down, and the longer the duration or maturity, the faster this takes place. Yes, the Fed will raise rates, but they can only affect the short end, sitting nearest the fulcrum on our imaginary piece of playground equipment. This is certainly one strong explanation for the tightening curve. For the record, the B of A analyst, Ethan Harris, also believes that inflation will come down naturally to the 3% range or so in the not-too-distant future as a result of supply constraints easing and the economy getting back to more normal levels. So, we agree with everything he is espousing except for the eleven rate hikes.
We are sticking with our prediction of four, 25-basis-point hikes this year, and four more in 2023; this would place the Fed funds rate at a quite accommodative 2%. If that rate freaks the market out, we have bigger concerns about the psyche of investors.
Interactive Media and Services
More trouble for Facebook: Google just pulled an Apple
Last year, Apple (AAPL $171) made changes to its operating system, iOS, which had a dramatic effect on Meta Platform's (FB $214) Facebook unit. Specifically, thanks to Apple's App Tracking Transparency feature, iPhone users could essentially cut off the wealth of data previously shared with Facebook advertisers to help them reach their target audience. For example, if an iPhone user happened to make regular shoe purchases through various apps, a footwear advertiser on Facebook could reach this potential customer with targeted ads. Now, iPhone users must opt in to having their activities on any given app tracked in such a manner. As could be expected, this is already having an effect on ad spends within the platform. In a stark admission, Facebook said that the changes would be responsible for a roughly $10 billion decrease in revenue this year. That equates to nearly a 10% hit.
Now, the second shoe has dropped. Alphabet's (GOOG $2,703) Google unit just announced that it will be rolling out its "Privacy Sandbox" for Android-based devices which will limit cross-site and cross-app tracking. While not quite as draconian as Apple's forced "opt in" measures, these steps will certainly have a negative impact on Facebook's ad business. This move follows a previous Google decision to phase out third-party tracking cookies on its Google Chrome browser. This gives Google Ads, the company's online advertising platform formerly known as Google AdWords, a definitive leg up in the battle for ad dollars. After all, the simple act of searching for goods or services via the browser gives the company user information in an "organic" manner (i.e., no third-party tracking apps required). As if Meta didn't have enough on its plate already.
After its shares fell sharply, we re-added Meta Platforms to the Penn Global Leaders Club. Despite its perpetual headwinds, keep in mind that it still controls the world's largest online social network, with nearly 3 billion monthly active users. We also believe the metaverse will be a transformational movement which will reshape both entertainment and business as we know it (we recall many rolling their eyes at the Internet as well), and that Meta Platforms will be a major player. We retain our $442 initial price target on the shares.
Media & Entertainment
Roku didn't miss revenue expectations by all that much, but investors fled; we've seen this movie before
Back in September of 2019, we wrote of streaming device maker Roku's (ROKU $112) really bad day. Shares had just fallen 20%, to $108, on the back of a scathing analyst call arguing that the company wouldn't be able to stand up to new competition from the likes of Apple, Comcast, Facebook (Portal), and the slew of new smart TVs; the latter of which which would ultimately make its device obsolete. Eighteen months after that drop, the pandemic came along and helped Roku shares skyrocket, topping out at $491. We have missed out on every one of the company's meteoric price spikes because we simply can't explain its long-term growth story. It was September of 2019 all over again this week, as Roku shares fell 22.3% in one day—closing the week at $112—after a slight revenue miss led to a slew of price target downgrades. Shares have now fallen 76.55% since the summer of 2021. There is some comedy to inject in this story. Our 2019 commentary mentioned that a major catalyst for the price drop (to $108) was Pivotal Research initiating coverage with a "Sell" rating and a $60 per share price target. What makes this so humorous is that Pivotal, following this past Friday's drop, once again lowered their rating to "Sell." This time they moved their price target on Roku shares down from $350 to $95. Now that's funny. Wouldn't it have been better to just not say anything after their 2019 commentary? Yet another reason we have never pulled the trigger on adding this company to one of our strategies—its price gyrations tend to make analysts look silly. As for the earnings report which sparked this latest price drop, Roku reported Q4 revenues of $865 million (+33% YoY), which fell short of analysts' expectations for $894 million in sales. On the bright side, the company reported net earnings of $23.7 million, representing its sixth-straight quarter of profitability.
Bulls argue that Roku is no longer just a one-trick (the Roku Stick) pony. The company now has its own ad-sponsored channel to supplement a service-neutral platform which allows customers to access Netflix, Disney+, Hulu, and a host of others providers. They also argue that enormous growth potential outside of a saturated US market should provide 30%+ annual revenue growth for years to come. We remain skeptical, just as we did the last time it sat near $100 per share.
Industrial Machinery
We added Generac to the Global Leaders Club this month; its earnings and guidance support our Strong Buy thesis
Companies listed on the NASDAQ have, overwhelmingly, seen their share prices crushed over the past few months, with some big names falling 50% or more from their 52-week highs. For many, based on their nonexistent earnings, the drop is understandable. For others, the pullback has been irrational. Power generation equipment maker Generac Holdings (GNRC $295) certainly falls in the latter camp. After falling 50% from its November high of $524, we added shares of this great American company to the Penn Global Leaders Club on the fourth of this month. The company just reported earnings and gave guidance for 2022: both sides of the coin were stellar. Revenues for the fourth quarter came in at just over $1 billion, representing a 40% spike from the same quarter of the previous year. Earnings per share (EPS) was $2.51 versus expectations for $2.42. For the fiscal year, sales hit a record $3.75 billion, a 50% increase over the previous year. As for guidance, management expects net sales in 2022 to increase somewhere in the 35% range, based on strong global demand—especially in clean energy markets—and increased home standby production capacity. The team also cited recent acquisitions as a catalyst. Shares spiked 16% on the report, and then proceeded to fall back down with the rest of the index. Generac is in an incredible position right now: the company is generating huge profits from its existing business line, but is also poised to be an industry leader in the renewable energy market. Investors seem to be missing that point.
We removed FedEx (FDX $222) from the Penn Global Leaders Club to make room for Generac, picking up shares of the company at $280. Our target price is $550.
E-Commerce
Another e-commerce company plummets on earnings, sentiment
While we have never owned e-commerce platform Shopify (SHOP $657), it was certainly one of the investor darlings during the pandemic. Furthermore, we love the story. Consider the company an Amazon for the rest of us. It provides everything a small- or mid-sized business needs to set up shop on the Internet, make sales, ship goods (fast), and help with bookkeeping and marketing. All for a quite reasonable price, we might add. If that wasn't enough of a sales pitch, consider this: you can now pick up shares at a 63% discount to their 52-week high of $1,763. But should you? This is yet another case of a company reporting strong earnings, but issuing guidance which spooked the market. Against expectations for $1.34 billion in sales for the quarter, the company reported revenue of $1.38 billion. Earnings also beat, with the company netting a profit of $1.36 per share (yes, they are actually operating in the black). For the full year, Shopify generated $4.6 billion in revenue, improving on 2020's sales by 57%. Impressive. Two concerns weighed on investor sentiment, however. First, can the company possibly keep up the impressive rate of growth it enjoyed during the pandemic? Secondly, investors are concerned about how much it is going to cost to build the company's massive American distribution system, known as the Shopify Fulfillment Network. The ultimate goal is to deliver good from its merchants to their respective customers within two days, competing head-to-head with Amazon Prime. The company is expected to spend around $1 billion over the next two years to build out key warehouse hubs in the United States (Shopify is a Canadian company). The key question is whether or not management can effectively deploy the capital needed to complete the project. Dour investors voted with their capital this past week, sending the shares reeling.
Again, we don't currently own the company right now. That being said, we do believe in the management team, and we could see the shares doubling in price if 2022 shapes up like we expect it to. The financials look exceptional, and the company is sitting on a war chest of nearly $8 billion. A conservative fair value of $1,000 per share seems appropriate.
Strategies & Tactics: Behavioral Finance
The Russia/Ukraine brouhaha is a rallying cry for Ukrainians, a wake-up call to Europeans, and an opportunity for investors
Will they? Won't they? That is the question being asked incessantly on the news channels. The question is missing the point: Russia has, in essence, already invaded Ukraine. After all, the country forcefully took the almost-island (it is connected to Ukraine by a tiny isthmus) of Crimea back in 2014, annexing it as Russian territory; it is fomenting constant fighting in the Donbas region of southeastern Ukraine; and it has unleashed a cyberwar on its western neighbor. Yes, a ground invasion would bring about a multitude of deaths (14,000 have already died in the Donbas region of Donetsk and Luhansk, where Russian-speaking separatists—provided with Russian arms—have been fighting government forces), but the real threat is to Putin himself, not the markets. The dictator has painted himself into a corner, despite his belief that he holds all the cards.
Germany, thanks to Merkel's full-throated and myopic cheerleading for Russian gas flowing into the country (roughly 50% of demand), is certainly in a precarious situation as it scrambles for new suppliers. And the sanctions which would follow a ground invasion would send oil above $100 per barrel. But from a US market perspective, this threat is far less ominous than the one posed by a global pandemic we knew little about back in March of 2020. That spring turned out to be one of the best buying opportunities since the fall and winter of 1987. The press is doing its best to keep anxiety high, but Putin will be the real loser in this game of chicken, not the US stock market.
The major indexes finished the week down—their fifth losing week of the last seven, and the downturn has created some real opportunities to pick up some of those wish list stocks on the cheap. Granted, many tech names were strongly overvalued, but the likes of Adobe (ADBE), Uber (UBER), PayPal (PYPL), and Generac (GNRC) fell to levels investors would have drooled over last fall. Now is the time to discount the headlines and search for some premium names to buy.
Just as we did in March and April of 2020, we pulled out our own wish list of stocks which have dropped below our target buy price. Take a look at portfolio allocations and see which promising sectors and industries have become underweighted and plug in some good names. Let the headlines rattle others into wanton selling; the crisis in Eastern Europe does not pose a major threat to fundamentally sound, cash-flow-generating American companies—it has created a tactical opportunity which will become clear to others over the coming months.
Under the Radar Investment
Rogers Sugar (RSI.TO $6)
We were not picky, we just wanted a: small-cap defensive stock with a great dividend yield and low risk level (as measured by beta) to add to our international opportunities fund. Simple, right? We actually found what we were looking for in Vancover-based Rogers Sugar Inc. This $607 million company was established in 1890 by B.T. Rogers, who was trying to solve the problem of the high cost of transporting refined sugar by rail from Montreal to Vancouver. Strategically located to access raw sugar shipments from the Pacific and send refined sugar to Canada's western population centers, the company was the first major non-logging or fishing industry in the region. Today, the company refines, packages, and markets sugar and maple products to industrial customers and consumers throughout Canada and the United States. Rogers has a P/E ratio of 12, a tiny price-to-sales ratio of 0.761, and a dividend yield of 6.15%. Shares closed the week at $5.85.
Answer
The four presidents were chosen for their significant contribution to the founding, expansion, preservation, and unification of the United States:
- George Washington was chosen as he was the Founding Father of the nation
- Thomas Jefferson was chosen to represent expansion, as the author of the Declaration of Independence and the promoter/signer of the Louisiana Purchase (which doubled the size of the US)
- Theodore Roosevelt was chosen because he represented conservation (he established 150 national forests, 50 federal bird reserves, 4 national game preserves, 5 national parks, and 18 national monuments on over 230 million acres of newly-protected land)
- Abraham Lincoln was chosen for leading the United States through the bloody Civil War and his belief that the nation "must be preserved at any cost."
Headlines for the Week of 30 Jan 2022 — 05 Feb 2022
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
Whose GDP is this anyway?..
America has, far and away, the world's largest GDP, currently at $23 trillion. China comes in second, at $17 trillion. But there is an interesting aspect to a nation's gross domestic product which we seldom take into consideration. Consider this question: If an American firm has $100 billion in revenue in one year, but $50 billion worth of that firm's products were sourced, assembled, and packaged in China, is the full $100 billion still added to US GDP? Hint: it doesn't matter where the products were sold.
Penn Trading Desk:
Penn: Power generation: The past meets the future in one company
We have removed FedEx (FDX $246) from the Penn Global Leaders Club and added a legacy power generation company which is embracing the future of the industry. We are very bullish on this well-known mid-cap stalwart, and have placed a price target on the shares 96% above our purchase price.
Penn: Add lower beta telecom player to the Strategic Income Portfolio
We continue to make moves in preparation for six to eight inevitable rate hikes over the next two years. To that end, we have replaced a bond fund in the Strategic Income Portfolio with a fat-yielding and undervalued equity position. Guard your fixed income holdings carefully in this environment.
Penn: Close Baird Aggregate Bond Fund in Strategic Income Portfolio
The Baird Aggregate Bond Fund (BAGSX $12) is the fund referenced above which we have liquidated. With around 1,500 securities, allocated about equally between government, corporate, and securitized notes, it is well diversified; however, its intermediate nature and effective duration of seven concerns us as we move into an interest rate hike cycle. Closed to purchase new position.
Penn: Add Natural Resources Fund to Dynamic Growth Strategy
Executing on one of our themes for 2022, the need to own "real assets" in the face of growing inflation, we have added a global upstream natural resources ETF to the Dynamic Growth Strategy. This investment focuses on real assets within five upstream industries: Energy, Metals, Agriculture, Timber, and Water.
Penn: Close XLC in Dynamic Growth Strategy
To make room for our natural resources holding, we closed our 3% position in XLC, the Communication Services Select Sector SPDR, and shaved 1% from each of our two health care positions, placing 5% in the new holding.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Media & Entertainment
10. Microsoft is making an enormous bet on the future of gaming, and it aims to be the dominant player*
We are not sure how many times the world’s second largest company (by market cap), Microsoft (MSFT $295), can successfully reinvent itself, but all we can say is thank goodness Satya Nadella is at the helm rather than the “scholarly” Bill Gates. Not one to rest on its laurels or legacy products and services, the $2.3 trillion company just made its biggest purchase ever, and signaled its intent to embrace the future of gaming and the metaverse. With its $95 per share ($68.7B) purchase of Activision Blizzard (ATVI $81), Microsoft will leapfrog over a number of players to become the third-largest gaming company in the world by revenue, behind only Tencent Holdings and Sony (SONY $112). Once the deal is complete, Microsoft plans to fold as many of Activision's hugely-popular games into its Game Pass subscription, which boasts some 25 million paying subscribers. These include: World of Warcraft, Call of Duty, and Candy Crush. While the Game Pass numbers are impressive, they pale in comparison to Activision Blizzard's 400 million monthly active users; talk about a lucrative prospect list. Yes, the deal is going to face headwinds via a suddenly hostile FTC and DoJ, not to mention the always-hostile (against US firms) EU regulators, but we expect it to ultimately be approved.
Sony may end up being the odd player out, as the company's main console competitor will take ownership of PlayStation's most popular content, like Call of Duty. Accordingly, Sony shares plunged double digits following the announcement. Microsoft is a longstanding member of the Penn Global Leaders Club. (Update: Sony has subsequently announced its plans to acquire Halo and Destiny creator Bungie in a $3.6 billion deal. It should be noted that the Halo franchise itself is owned by Microsoft and is not available on the PlayStation.)
Media & Entertainment
09. Take-Two Interactive Software to buy Zynga in a $12.7 billion deal
Take-Two Interactive Software (TTWO $143), the $16 billion maker of such online games as "Grand Theft Auto" and "Red Dead Redemption," announced plans to buy mobile gaming developer Zynga (ZNGA $8) in a $12.7 billion deal. Zynga shareholders will receive $3.50 in cash and $6.36 in stock, or just shy of $10 per share. Not bad, considering Zynga shares were trading at $6 prior to the deal's announcement. The acquisition is part of a major push by Take-Two's outstanding CEO, Strauss Zelnick, to increase the company's footprint in the lucrative world of mobile gaming. According to WedBush analyst Michael Pachter, the deal should move the company's product mix from 10% mobile (gaming) to over 50% mobile, making it a major player in the space for the first time. Zynga generated $2 billion in revenue in 2020 and $2.7 billion in revenue over the trailing twelve months, yet it recorded a net loss of $90 million TTM.
With the deal, Take-Two should find itself in a better position to compete with larger rivals like Electronic Arts (EA $129). While we like the move, opinions on the Street are quite mixed. We would value TTWO shares at $200, or 40% higher from here, while our favorite player was Activision Blizzard, which we will soon own (pending approval) via our Microsoft holding.
Bear Market Chatter
08. Permabear Jeremy Grantham says stocks are in a superbubble, sees benchmark falling nearly 50%*
We are not a fan of permabears—individuals who chronically predict that the stock market sky is falling. We liken them to the man who had engraved on his tombstone, “I told you I was sick.” When major corrections do manifest, they are always there to take credit for “bravely” making the calls while the world fiddled. This leads us to Jeremy Grantham, the British billionaire investor and co-founder of GMO, a Boston-based asset management firm. Grantham has reissued his proclamation, first expressed before last year’s massive market run-up, that we are in the fourth superbubble of the past 100 years—the last three being the Stock Market Crash of 1929, the dot-com bubble of 2000, and the financial meltdown of 2008. Just how much does Grantham predict the markets will fall? For the S&P 500, on which we have a year-end price target of 5,100, he is calling for a level around 2,500. That would represent just shy of a 50% drop from its early January peak. As was the case with the tech bubble burst, he believes the drop could be substantially greater for the NASDAQ. In dollars and cents, Grantham notes, this could equate to the loss of some $35 trillion worth of wealth. While we actually agree with some of the rationale for his doomsday call (irresponsible fiscal and investor behavior, for the most part), we don't agree with his conclusion. Corrections have a way of sobering investor sentiment, and the lack of pullbacks since March of 2020 have led to overconfidence in high-flying equities with little to show in the way of earnings. We are due a normal, natural, garden variety downturn—the kind we used to get quadrennially; but nothing to the extent which Grantham is predicting.
America’s $30 trillion national debt and annual budget-busting deficits are another story. In that respect, we do believe the piper will have to be paid one of these days; just not in 2022.
National Debt
07. The national debt, Fed balance sheet, budget deficit, and GDP: a quick and dirty guide
When the terms national debt, budget deficit, Fed balance sheet, and GDP are thrown around, we suspect that many Americans' eyes tend to gloss over. However, just as every American family should know its financial position at any point in time, it is our duty to understand the basics of how the government is spending our money. Spoiler alert: it is not pretty. Let's start with the national debt, the most eye-popping of figures. As of right now, per USDebtClock.org, the United States is indebted to the tune of $30 trillion. We have been hearing a lot about the Fed's balance sheet lately, which currently adds up to just shy of $9 trillion. The "good news" is that this amount, which is a combination of mostly Treasuries and mortgage-backed securities, is included in the $30 trillion national debt. The Fed has already begun tapering its massive spending program, and aims to actually begin reducing that $9 trillion this year. Per a recent CNBC business survey, the general consensus is that the Fed should be able to reduce its balance sheet by $2.8 trillion over three years, which would bring the total down to roughly $6 trillion. Sadly, that is still well ahead of the $4.3 trillion on its books just prior to the pandemic.
So, this means that our federal debt should be reduced by $3 trillion as well, right? Not exactly. The government has estimated that it will receive $4.2 trillion in revenue in fiscal 2022. Unfortunately, the nonpartisan Congressional Budget Office predicts that, out of the $4.2 trillion in revenue, the government will actually spend approximately $6 trillion. This is fully legal, as there is no "balanced budget" amendment in the US Constitution. This means that, in one single year, the United States will have a budget deficit of $1.8 trillion, more that offsetting the Fed's planned balance sheet reduction. Of course, interest must be paid on any debt load ("servicing the debt"). A full 7.3% of all revenue collected by the US government, or some $305 billion, will be needed to service the national debt this year. And that is with historically-low interest rates. As interest rates rise, that 7.3% will grow, and grow, and grow.
Gross Domestic Product, or GDP, measures the total value of goods and services produced in a country in a single year. For the United States, that figure is sitting right at $23 trillion—far ahead of second place you-know-who, and certainly the envy of the world. The debt-to-GDP ratio is easily determined by dividing the amount of debt a country owes by the amount of its GDP in a given year. For historical perspective, America's debt-to-GDP ratio at the time of the Stock Market Crash of 1929 was 16%; upon entering World War II it was 44%; during the 1973 oil embargo it was 33%; and during the 9/11 attacks it was 55%. In 2012, something ominous happened; an economic "death cross," if you will. That is the year our national debt overtook—chronically and perennially—our GDP. Right now, America's debt-to-GDP ratio sits at 130%, and projections have that figure steadily rising over the coming years. For comparison, Venezuela's ratio is 214% and the United Kingdom's is 85%. China's debt-to-GDP ratio in 2021, according to the IMF, was roughly 70%. That country has responded by growing its spending by the weakest rate (0.3% y/y) in nearly two decades—a feat much more easily accomplished in a one-party communist dictatorship than in a representative republic.
And there we have it: a quick and dirty guide to federal debt, balance sheets, budget deficits, and GDP. Understanding these numbers and ratios is the first step in solving the problem. The next step is actually admitting that these numbers represent an unacceptable condition and will ultimately lead to an existential national threat. The third and fourth steps involve brainstorming for solutions and then implementing actions which will increase income and reduce expenditures. It is time to hold those in charge of the national credit cards accountable for their actions, and to demand more responsible behavior. But that would take yet another "stick" (in addition to a balanced budget amendment) in the form of mandatory term limits.
Consumer Electronics
06. A shot in the arm to a battered market: Apple delivers a blowout quarter
It has certainly been an ugly month for stocks, especially the formerly high-flying NASDAQ. That benchmark suddenly finds itself in correction territory and just three percentage points away from a bear market—down 17% from its November, 2021 highs. Fortunately, the index's top holding, Apple (AAPL $168), just came riding to the rescue. Despite facing severe parts shortages which have hampered production, the company shattered its old record by generating $123.9 billion in revenue in the last quarter of 2021, with $34.6 billion of that flowing down as pure profit. Analysts had lofty goals for the company's quarter; those estimates were easily surpassed. Apple's leading revenue generator, the iPhone, accounted for $71.6 billion of revenue—up 9.2% from the same period last year, while services revenue rose 23.8%, to $19.5 billion. Perhaps the biggest surprise came from Mac sales, which grew 25% from a year ago. While Mac accounts for just 10% of revenue, the move to an internally-produced M1 chip (dumping Intel's products) seems to have been a brilliant move. Geographically, sales grew robustly in every region. Despite America's ongoing trade disputes with China, Apple's $25.8 billion in sales from that country represented a 21% jump from last year. Morningstar analysts must have been impressed, as they raised their fair value on AAPL shares from $124 to $130 (insert eye rolling emoji here).
There are very few remaining "buy and hold" companies out there, as lackluster "managers" have taken over many of the offices where visionaries once sat. (Boeing, McDonald's, and Disney immediately come to mind.) Granted, were Steve Jobs still around we might have a few more super-cool gadgets to play with right now, but Tim Cook has been masterful at the helm. While Jobs wouldn't be happy with the Apple TV in its current form (he claimed to have "broken the TV code" shortly before his demise), the company is working on a number of exciting projects—like AR/VR hardware—which will help fuel future growth. A recurring stream of revenue from the company's 785 million subscribers (up 165 million from a year ago) doesn't hurt, either. Don't listen to the vacillating analysts—hold your Apple shares.
Application & Systems Software
05. Bakkt Holdings: Talk about a really, really bad time to go public
In August of 2018, the Intercontinental Exchange (ICE $124) formed a new company called Bakkt (pron. "backed," as in asset-backed securities) designed to give consumers, businesses, and institutions the ability to make transactions with digital assets such as cryptos, airline miles, and gift cards. The idea made sense: one simple digital wallet to securely transact with and store one's digital assets on an advanced app. ICE decided to take its creation public via a SPAC (uh oh, first sign of trouble) back in October of last year under the symbol BKKT. Before the month was up, a deal was announced between Mastercard (MA $383) and Bakkt Holdings which would allow the second-largest payments processor in the world to offer and accept crypto payments using the tech company's platform. BKKT shares skyrocketed over 500% virtually overnight, from around $8 to an intraday high of $50.80 on the first day of November. Investors should have taken that insane spike as an excuse to put a stop-loss on their position, if not selling it outright and waiting for it to fall back to earth. And fall back it did, riding the tech correction all the way down. The $2 billion company is now worth $195 million, and its shares have "rallied" back up to $3.61 as of Friday's close. The chart, quite frankly, looks like something out of the 1999 to 2001 timeframe. One difference: we do expect this tech company to stick around, unlike so many from that era.
For anyone just discovering this micro-cap tech infrastructure play, is it worth nibbling at after its massive fall? Only with money that wouldn't be missed, and certainly with a stop-loss order in place. Morningstar has a fair value of $6.41 on the shares.
Goods & Services
04. Another argument for rate hikes and Fed balance sheet reduction: Q4's strong GDP figures
Much of January's market correction could be placed at the feet of the Fed's well-telegraphed pending rate hikes, but does the American economy really need near-zero interest rates any longer to sustain growth? Not according to one very important economic metric. Fourth quarter GDP numbers are in, and they easily surpassed all expectations. Against economists' predictions calling for a growth rate of 5.5% annualized in Q4, the aggregate of all goods and services produced in the US for the last three months of the year actually grew by 6.9%. With four quarters now in the books, we have our preliminary read on 2021's US GDP: 5.7%. How good is that? The figure is over double the ten-year average growth rate of 2.47%, and represents the strongest full year growth since 1984. Impressively, the gains were brought about by a dual springboard of higher consumer activity and increased business spending—all while government spending decreased. Considering the supply chain issues which hampered growth in the fourth quarter, we see economic growth remaining strong throughout 2022 as these issues slowly abate.
The United States accounts for 25% of the world's $95 trillion economy, with China coming in second place at 17% (See graph). It is interesting to note that we have passed the date by which many economists and business journalists told us that China would surpass America as the world's largest economy. Of course, they made these projections based on the faulty logic that an emerging market economy could sustain a double-digit growth rate as its economy grew. Additionally, with global companies finally diversifying their country risk away from China, that imaginary no-later-than date has been moved out even further.
Aerospace & Defense
03. Now that the heavy hand of the government has come down on the deal, what happens to Aerojet Rocketdyne?
We are invested in this story, literally. Lockheed Martin (LMT $387) is a longstanding member of the Penn Global Leaders Club and one of our top picks for 2022; Aerojet Rocketdyne (AJRD $38) is a member of the Penn New Frontier Fund and a key US supplier of aerospace and defense systems—to include highly-advanced hypersonic propulsion technology. In a move that made brilliant sense, the former agreed to buy the latter back in December of 2020 for the equivalent of $56 per share, or $4.4 billion. Now, the Darth Vader of American business, the Federal Trade Commission's Lina Khan, is suing to block the deal. (Well, the FTC is suing, but this was obviously spearheaded by the anti-business—in our opinion—new chair of the Commission). Khan, who received her J.D. from Yale just five years ago and was a law professor at Columbia University before accepting the FTC position, has clearly signaled her disdain for large American corporations. The FTC claims that Lockheed would use its control of Aerojet to hurt its rivals, but can the purchase of one small-cap rocket maker really put the industry in tumult? Of course not. Furthermore, it is highly likely that a European firm would swoop in and buy AJRD without the FTC lifting a finger. If Lockheed's ownership of the company would affect the competitive landscape for the defense industry, wouldn't foreign ownership be even worse? We knew Khan would do her best to wreak havoc on the American business landscape; consider this the first shot of many more to come.
We would like to say that the combination of Aerojet Rocketdyne's critical technology and recent share price plummet equates to a unique opportunity for investors, but something else is going on within the company which concerns us. There is a battle forming between the company's innovative leadership team, led by CEO Eileen Drake, and an activist movement spearheaded by private equity investor and Executive Chairman Warren Lichtenstein. We believe that Drake, a distinguished graduate of the US Army Aviation Officer School, is intent on maintaining industry leadership for a standalone Aerojet, while Lichtenstein, true to his nature, is intent on engineering a takeover of the firm by another player. Our hopes are that Drake prevails, but the internecine battle could cause further damage to the share price.
Interactive Media & Services
02. Alphabet's blowout quarter and a 20-for-1 stock split makes the company look even more attractive
The $2 trillion holding company of Google, Alphabet (GOOG $2,961), just announced its best quarter ever, easily blowing away pretty hefty expectations for the period. Analysts had predicted revenues of $72.3 billion and earnings of $27.68 per share; instead, the company reported Q4 revenues of $75.3 billion and EPS of $30.69. As if that weren't enough, CFO Ruth Porat announced plans for a 20-for-1 stock split, making the company more attractive to a wider swath of investors and raising the odds that it will soon be included in the Dow Jones Industrial Average. The revenue windfall amounted to a 32% increase from the same quarter last year, and was buoyed by advertising sales of $61 billion. The company's YouTube business, which boasts some 15 billion views per day, accounted for $8.63 billion in sales. The company is far and away the hottest destination for digital advertising dollars, which accounts for some 80% of total revenue, but it also wants to diversify its offerings. Although it barely makes a mark in the lucrative cloud computing business, an area dominated by Amazon Web Services and Microsoft Azure, the company is investing heavily to grow its 6% stake. Google has tapped into its over $140 billion stash of cash, for example, to buy an equity stake in Chicago-based exchange CME Group (CME $241) in return for the company's long-term cloud contracts. This seems like a natural arena for the Internet media giant, and the cloud services pie is only getting bigger. As for other opportunities to widen its scope, recall that Google changed its name to Alphabet for a reason. From the metaverse to self-driving vehicles (it bought autonomous driving tech company Waymo in 2016), we expect the skilled team of CEO Sundar Pichai and CFO Ruth Porat to continue generating stunning quarterly results for investors.
We have figuratively banged our heads against the wall trying to explain to certain clients over the years that just because a stock is priced at $10 per share, it is no more undervalued (all other facets being equal) than if the shares were selling for $10,000 apiece. Nonetheless, while the stock split will not add one cent of value, we do applaud the move. Psychology is a powerful tool to use when analyzing investor behavior. Based on the company's current share price, it would be trading around $150 per share were the split completed today. Rather than saying Google shares are worth $6,000 each, let's just say we could see them growing from $150 to $300 in a reasonable amount of time post split.
Market Pulse
01. As goes January, so goes the year? Hopefully not
Even with a nice rally on the final trading day of the month, January was messy. In fact, it turned out to be the worst start to a year since the global financial crisis. For tech stocks, as benchmarked by the NASDAQ, it was even worse: the index had its second-poorest opening month of the year since its inception. But even the NASDAQ performed better than the small caps, which briefly entered bear market territory with their 20.94% drop from November highs. (The NASDAQ skirted a bear market, missing by three percentage points.) It was not quite as bad for the Dow and S&P 500, which fell as much as 7% and 10% from their highs, respectively. Was the month just a blip following a strong year, or do we believe the old "as goes January, so goes the month" adage?
Let's begin by analyzing the catalysts—other than a strong preceding year—for the downturn. Overwhelmingly, it was the Fed (rate hikes), the Russians (potential invasion of the Ukraine), and concerns over weakening earnings. For the tech stocks which were pandemic darlings, sky-high valuations are being reevaluated as the global workforce moves back, albeit slowly, into the office environment. We know what has happened to the Peloton's of the market, but consider this: shares of DocuSign (DOCU $125) fell 60% from their high price, while Zoom Video (ZM $151) fell 76% from October highs. It was the worst overall month for the markets since March of 2020, which investors recall all too well. That period, however, turned out to be one of the best buying opportunities in the past decade. Time will tell whether or not January will have provided a similar opportunity.
While our buying spree is nothing like that of late spring/early summer of 2020, we have been picking up some deeply undervalued names. The selling was relatively indiscriminate, as witnessed by drops in the likes of Microsoft and Apple. While scouring for deals, look for companies with fat earnings, pricing and staying power, and nice dividend yields. Also, scan small-cap equities which are domestically focused; the drop in the Russell 2000 has presented some excellent buying opportunities. Finally, don't be afraid to put stop-loss orders on positions to protect gains or limit losses—there will be other chances to pick these companies back up at lower levels if warranted. And remember, cash is an asset class in which every investor should be allocated.
Under the Radar Investment
Mitsubishi Electric (MIELY $24)
We are bullish on Japanese equities in 2022, and have begun a top-down review of sectors, industries, and—subsequently—individual names based out of that country which we find attractive. One clear opportunity presents itself in $25 billion industrial firm Mitsubishi Electric. Think of the firm as the Japanese version of General Electric, without the milquetoast leadership (well, lack thereof) of the American firm. Founded 101 years ago, Mitsubishi is an electrical industrials conglomerate that develops, manufactures, distributes, and sells electrical equipment worldwide. With a low P/E ratio and beta, the company has annual sales of around $40 billion and perennially yields a fat net income. Going forward, we especially like the company's industrial automation systems division, which should play a major role in the global automation renaissance picking up steam. Mitsubishi also offers investors a decent dividend yield of 3%. We would give MIELY shares a fair value of $30.
Answer
Gross domestic product is the value of all goods and services produced in a country during one year. Therefore, if an American company produces goods at a foreign factory, the value of those goods adds to that country's GDP, not America's. Of course, the global supply chain is a complicated matter, as is clearly evident right now. An iPhone, for example, might be assembled in China, but with parts from around the world. Nonetheless, here is the point: Consider China's $17 trillion economy, and then consider what China's GDP would look like without foreign companies manufacturing their products within the country. The number is somewhat of an illusion.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
Whose GDP is this anyway?..
America has, far and away, the world's largest GDP, currently at $23 trillion. China comes in second, at $17 trillion. But there is an interesting aspect to a nation's gross domestic product which we seldom take into consideration. Consider this question: If an American firm has $100 billion in revenue in one year, but $50 billion worth of that firm's products were sourced, assembled, and packaged in China, is the full $100 billion still added to US GDP? Hint: it doesn't matter where the products were sold.
Penn Trading Desk:
Penn: Power generation: The past meets the future in one company
We have removed FedEx (FDX $246) from the Penn Global Leaders Club and added a legacy power generation company which is embracing the future of the industry. We are very bullish on this well-known mid-cap stalwart, and have placed a price target on the shares 96% above our purchase price.
Penn: Add lower beta telecom player to the Strategic Income Portfolio
We continue to make moves in preparation for six to eight inevitable rate hikes over the next two years. To that end, we have replaced a bond fund in the Strategic Income Portfolio with a fat-yielding and undervalued equity position. Guard your fixed income holdings carefully in this environment.
Penn: Close Baird Aggregate Bond Fund in Strategic Income Portfolio
The Baird Aggregate Bond Fund (BAGSX $12) is the fund referenced above which we have liquidated. With around 1,500 securities, allocated about equally between government, corporate, and securitized notes, it is well diversified; however, its intermediate nature and effective duration of seven concerns us as we move into an interest rate hike cycle. Closed to purchase new position.
Penn: Add Natural Resources Fund to Dynamic Growth Strategy
Executing on one of our themes for 2022, the need to own "real assets" in the face of growing inflation, we have added a global upstream natural resources ETF to the Dynamic Growth Strategy. This investment focuses on real assets within five upstream industries: Energy, Metals, Agriculture, Timber, and Water.
Penn: Close XLC in Dynamic Growth Strategy
To make room for our natural resources holding, we closed our 3% position in XLC, the Communication Services Select Sector SPDR, and shaved 1% from each of our two health care positions, placing 5% in the new holding.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Media & Entertainment
10. Microsoft is making an enormous bet on the future of gaming, and it aims to be the dominant player*
We are not sure how many times the world’s second largest company (by market cap), Microsoft (MSFT $295), can successfully reinvent itself, but all we can say is thank goodness Satya Nadella is at the helm rather than the “scholarly” Bill Gates. Not one to rest on its laurels or legacy products and services, the $2.3 trillion company just made its biggest purchase ever, and signaled its intent to embrace the future of gaming and the metaverse. With its $95 per share ($68.7B) purchase of Activision Blizzard (ATVI $81), Microsoft will leapfrog over a number of players to become the third-largest gaming company in the world by revenue, behind only Tencent Holdings and Sony (SONY $112). Once the deal is complete, Microsoft plans to fold as many of Activision's hugely-popular games into its Game Pass subscription, which boasts some 25 million paying subscribers. These include: World of Warcraft, Call of Duty, and Candy Crush. While the Game Pass numbers are impressive, they pale in comparison to Activision Blizzard's 400 million monthly active users; talk about a lucrative prospect list. Yes, the deal is going to face headwinds via a suddenly hostile FTC and DoJ, not to mention the always-hostile (against US firms) EU regulators, but we expect it to ultimately be approved.
Sony may end up being the odd player out, as the company's main console competitor will take ownership of PlayStation's most popular content, like Call of Duty. Accordingly, Sony shares plunged double digits following the announcement. Microsoft is a longstanding member of the Penn Global Leaders Club. (Update: Sony has subsequently announced its plans to acquire Halo and Destiny creator Bungie in a $3.6 billion deal. It should be noted that the Halo franchise itself is owned by Microsoft and is not available on the PlayStation.)
Media & Entertainment
09. Take-Two Interactive Software to buy Zynga in a $12.7 billion deal
Take-Two Interactive Software (TTWO $143), the $16 billion maker of such online games as "Grand Theft Auto" and "Red Dead Redemption," announced plans to buy mobile gaming developer Zynga (ZNGA $8) in a $12.7 billion deal. Zynga shareholders will receive $3.50 in cash and $6.36 in stock, or just shy of $10 per share. Not bad, considering Zynga shares were trading at $6 prior to the deal's announcement. The acquisition is part of a major push by Take-Two's outstanding CEO, Strauss Zelnick, to increase the company's footprint in the lucrative world of mobile gaming. According to WedBush analyst Michael Pachter, the deal should move the company's product mix from 10% mobile (gaming) to over 50% mobile, making it a major player in the space for the first time. Zynga generated $2 billion in revenue in 2020 and $2.7 billion in revenue over the trailing twelve months, yet it recorded a net loss of $90 million TTM.
With the deal, Take-Two should find itself in a better position to compete with larger rivals like Electronic Arts (EA $129). While we like the move, opinions on the Street are quite mixed. We would value TTWO shares at $200, or 40% higher from here, while our favorite player was Activision Blizzard, which we will soon own (pending approval) via our Microsoft holding.
Bear Market Chatter
08. Permabear Jeremy Grantham says stocks are in a superbubble, sees benchmark falling nearly 50%*
We are not a fan of permabears—individuals who chronically predict that the stock market sky is falling. We liken them to the man who had engraved on his tombstone, “I told you I was sick.” When major corrections do manifest, they are always there to take credit for “bravely” making the calls while the world fiddled. This leads us to Jeremy Grantham, the British billionaire investor and co-founder of GMO, a Boston-based asset management firm. Grantham has reissued his proclamation, first expressed before last year’s massive market run-up, that we are in the fourth superbubble of the past 100 years—the last three being the Stock Market Crash of 1929, the dot-com bubble of 2000, and the financial meltdown of 2008. Just how much does Grantham predict the markets will fall? For the S&P 500, on which we have a year-end price target of 5,100, he is calling for a level around 2,500. That would represent just shy of a 50% drop from its early January peak. As was the case with the tech bubble burst, he believes the drop could be substantially greater for the NASDAQ. In dollars and cents, Grantham notes, this could equate to the loss of some $35 trillion worth of wealth. While we actually agree with some of the rationale for his doomsday call (irresponsible fiscal and investor behavior, for the most part), we don't agree with his conclusion. Corrections have a way of sobering investor sentiment, and the lack of pullbacks since March of 2020 have led to overconfidence in high-flying equities with little to show in the way of earnings. We are due a normal, natural, garden variety downturn—the kind we used to get quadrennially; but nothing to the extent which Grantham is predicting.
America’s $30 trillion national debt and annual budget-busting deficits are another story. In that respect, we do believe the piper will have to be paid one of these days; just not in 2022.
National Debt
07. The national debt, Fed balance sheet, budget deficit, and GDP: a quick and dirty guide
When the terms national debt, budget deficit, Fed balance sheet, and GDP are thrown around, we suspect that many Americans' eyes tend to gloss over. However, just as every American family should know its financial position at any point in time, it is our duty to understand the basics of how the government is spending our money. Spoiler alert: it is not pretty. Let's start with the national debt, the most eye-popping of figures. As of right now, per USDebtClock.org, the United States is indebted to the tune of $30 trillion. We have been hearing a lot about the Fed's balance sheet lately, which currently adds up to just shy of $9 trillion. The "good news" is that this amount, which is a combination of mostly Treasuries and mortgage-backed securities, is included in the $30 trillion national debt. The Fed has already begun tapering its massive spending program, and aims to actually begin reducing that $9 trillion this year. Per a recent CNBC business survey, the general consensus is that the Fed should be able to reduce its balance sheet by $2.8 trillion over three years, which would bring the total down to roughly $6 trillion. Sadly, that is still well ahead of the $4.3 trillion on its books just prior to the pandemic.
So, this means that our federal debt should be reduced by $3 trillion as well, right? Not exactly. The government has estimated that it will receive $4.2 trillion in revenue in fiscal 2022. Unfortunately, the nonpartisan Congressional Budget Office predicts that, out of the $4.2 trillion in revenue, the government will actually spend approximately $6 trillion. This is fully legal, as there is no "balanced budget" amendment in the US Constitution. This means that, in one single year, the United States will have a budget deficit of $1.8 trillion, more that offsetting the Fed's planned balance sheet reduction. Of course, interest must be paid on any debt load ("servicing the debt"). A full 7.3% of all revenue collected by the US government, or some $305 billion, will be needed to service the national debt this year. And that is with historically-low interest rates. As interest rates rise, that 7.3% will grow, and grow, and grow.
Gross Domestic Product, or GDP, measures the total value of goods and services produced in a country in a single year. For the United States, that figure is sitting right at $23 trillion—far ahead of second place you-know-who, and certainly the envy of the world. The debt-to-GDP ratio is easily determined by dividing the amount of debt a country owes by the amount of its GDP in a given year. For historical perspective, America's debt-to-GDP ratio at the time of the Stock Market Crash of 1929 was 16%; upon entering World War II it was 44%; during the 1973 oil embargo it was 33%; and during the 9/11 attacks it was 55%. In 2012, something ominous happened; an economic "death cross," if you will. That is the year our national debt overtook—chronically and perennially—our GDP. Right now, America's debt-to-GDP ratio sits at 130%, and projections have that figure steadily rising over the coming years. For comparison, Venezuela's ratio is 214% and the United Kingdom's is 85%. China's debt-to-GDP ratio in 2021, according to the IMF, was roughly 70%. That country has responded by growing its spending by the weakest rate (0.3% y/y) in nearly two decades—a feat much more easily accomplished in a one-party communist dictatorship than in a representative republic.
And there we have it: a quick and dirty guide to federal debt, balance sheets, budget deficits, and GDP. Understanding these numbers and ratios is the first step in solving the problem. The next step is actually admitting that these numbers represent an unacceptable condition and will ultimately lead to an existential national threat. The third and fourth steps involve brainstorming for solutions and then implementing actions which will increase income and reduce expenditures. It is time to hold those in charge of the national credit cards accountable for their actions, and to demand more responsible behavior. But that would take yet another "stick" (in addition to a balanced budget amendment) in the form of mandatory term limits.
Consumer Electronics
06. A shot in the arm to a battered market: Apple delivers a blowout quarter
It has certainly been an ugly month for stocks, especially the formerly high-flying NASDAQ. That benchmark suddenly finds itself in correction territory and just three percentage points away from a bear market—down 17% from its November, 2021 highs. Fortunately, the index's top holding, Apple (AAPL $168), just came riding to the rescue. Despite facing severe parts shortages which have hampered production, the company shattered its old record by generating $123.9 billion in revenue in the last quarter of 2021, with $34.6 billion of that flowing down as pure profit. Analysts had lofty goals for the company's quarter; those estimates were easily surpassed. Apple's leading revenue generator, the iPhone, accounted for $71.6 billion of revenue—up 9.2% from the same period last year, while services revenue rose 23.8%, to $19.5 billion. Perhaps the biggest surprise came from Mac sales, which grew 25% from a year ago. While Mac accounts for just 10% of revenue, the move to an internally-produced M1 chip (dumping Intel's products) seems to have been a brilliant move. Geographically, sales grew robustly in every region. Despite America's ongoing trade disputes with China, Apple's $25.8 billion in sales from that country represented a 21% jump from last year. Morningstar analysts must have been impressed, as they raised their fair value on AAPL shares from $124 to $130 (insert eye rolling emoji here).
There are very few remaining "buy and hold" companies out there, as lackluster "managers" have taken over many of the offices where visionaries once sat. (Boeing, McDonald's, and Disney immediately come to mind.) Granted, were Steve Jobs still around we might have a few more super-cool gadgets to play with right now, but Tim Cook has been masterful at the helm. While Jobs wouldn't be happy with the Apple TV in its current form (he claimed to have "broken the TV code" shortly before his demise), the company is working on a number of exciting projects—like AR/VR hardware—which will help fuel future growth. A recurring stream of revenue from the company's 785 million subscribers (up 165 million from a year ago) doesn't hurt, either. Don't listen to the vacillating analysts—hold your Apple shares.
Application & Systems Software
05. Bakkt Holdings: Talk about a really, really bad time to go public
In August of 2018, the Intercontinental Exchange (ICE $124) formed a new company called Bakkt (pron. "backed," as in asset-backed securities) designed to give consumers, businesses, and institutions the ability to make transactions with digital assets such as cryptos, airline miles, and gift cards. The idea made sense: one simple digital wallet to securely transact with and store one's digital assets on an advanced app. ICE decided to take its creation public via a SPAC (uh oh, first sign of trouble) back in October of last year under the symbol BKKT. Before the month was up, a deal was announced between Mastercard (MA $383) and Bakkt Holdings which would allow the second-largest payments processor in the world to offer and accept crypto payments using the tech company's platform. BKKT shares skyrocketed over 500% virtually overnight, from around $8 to an intraday high of $50.80 on the first day of November. Investors should have taken that insane spike as an excuse to put a stop-loss on their position, if not selling it outright and waiting for it to fall back to earth. And fall back it did, riding the tech correction all the way down. The $2 billion company is now worth $195 million, and its shares have "rallied" back up to $3.61 as of Friday's close. The chart, quite frankly, looks like something out of the 1999 to 2001 timeframe. One difference: we do expect this tech company to stick around, unlike so many from that era.
For anyone just discovering this micro-cap tech infrastructure play, is it worth nibbling at after its massive fall? Only with money that wouldn't be missed, and certainly with a stop-loss order in place. Morningstar has a fair value of $6.41 on the shares.
Goods & Services
04. Another argument for rate hikes and Fed balance sheet reduction: Q4's strong GDP figures
Much of January's market correction could be placed at the feet of the Fed's well-telegraphed pending rate hikes, but does the American economy really need near-zero interest rates any longer to sustain growth? Not according to one very important economic metric. Fourth quarter GDP numbers are in, and they easily surpassed all expectations. Against economists' predictions calling for a growth rate of 5.5% annualized in Q4, the aggregate of all goods and services produced in the US for the last three months of the year actually grew by 6.9%. With four quarters now in the books, we have our preliminary read on 2021's US GDP: 5.7%. How good is that? The figure is over double the ten-year average growth rate of 2.47%, and represents the strongest full year growth since 1984. Impressively, the gains were brought about by a dual springboard of higher consumer activity and increased business spending—all while government spending decreased. Considering the supply chain issues which hampered growth in the fourth quarter, we see economic growth remaining strong throughout 2022 as these issues slowly abate.
The United States accounts for 25% of the world's $95 trillion economy, with China coming in second place at 17% (See graph). It is interesting to note that we have passed the date by which many economists and business journalists told us that China would surpass America as the world's largest economy. Of course, they made these projections based on the faulty logic that an emerging market economy could sustain a double-digit growth rate as its economy grew. Additionally, with global companies finally diversifying their country risk away from China, that imaginary no-later-than date has been moved out even further.
Aerospace & Defense
03. Now that the heavy hand of the government has come down on the deal, what happens to Aerojet Rocketdyne?
We are invested in this story, literally. Lockheed Martin (LMT $387) is a longstanding member of the Penn Global Leaders Club and one of our top picks for 2022; Aerojet Rocketdyne (AJRD $38) is a member of the Penn New Frontier Fund and a key US supplier of aerospace and defense systems—to include highly-advanced hypersonic propulsion technology. In a move that made brilliant sense, the former agreed to buy the latter back in December of 2020 for the equivalent of $56 per share, or $4.4 billion. Now, the Darth Vader of American business, the Federal Trade Commission's Lina Khan, is suing to block the deal. (Well, the FTC is suing, but this was obviously spearheaded by the anti-business—in our opinion—new chair of the Commission). Khan, who received her J.D. from Yale just five years ago and was a law professor at Columbia University before accepting the FTC position, has clearly signaled her disdain for large American corporations. The FTC claims that Lockheed would use its control of Aerojet to hurt its rivals, but can the purchase of one small-cap rocket maker really put the industry in tumult? Of course not. Furthermore, it is highly likely that a European firm would swoop in and buy AJRD without the FTC lifting a finger. If Lockheed's ownership of the company would affect the competitive landscape for the defense industry, wouldn't foreign ownership be even worse? We knew Khan would do her best to wreak havoc on the American business landscape; consider this the first shot of many more to come.
We would like to say that the combination of Aerojet Rocketdyne's critical technology and recent share price plummet equates to a unique opportunity for investors, but something else is going on within the company which concerns us. There is a battle forming between the company's innovative leadership team, led by CEO Eileen Drake, and an activist movement spearheaded by private equity investor and Executive Chairman Warren Lichtenstein. We believe that Drake, a distinguished graduate of the US Army Aviation Officer School, is intent on maintaining industry leadership for a standalone Aerojet, while Lichtenstein, true to his nature, is intent on engineering a takeover of the firm by another player. Our hopes are that Drake prevails, but the internecine battle could cause further damage to the share price.
Interactive Media & Services
02. Alphabet's blowout quarter and a 20-for-1 stock split makes the company look even more attractive
The $2 trillion holding company of Google, Alphabet (GOOG $2,961), just announced its best quarter ever, easily blowing away pretty hefty expectations for the period. Analysts had predicted revenues of $72.3 billion and earnings of $27.68 per share; instead, the company reported Q4 revenues of $75.3 billion and EPS of $30.69. As if that weren't enough, CFO Ruth Porat announced plans for a 20-for-1 stock split, making the company more attractive to a wider swath of investors and raising the odds that it will soon be included in the Dow Jones Industrial Average. The revenue windfall amounted to a 32% increase from the same quarter last year, and was buoyed by advertising sales of $61 billion. The company's YouTube business, which boasts some 15 billion views per day, accounted for $8.63 billion in sales. The company is far and away the hottest destination for digital advertising dollars, which accounts for some 80% of total revenue, but it also wants to diversify its offerings. Although it barely makes a mark in the lucrative cloud computing business, an area dominated by Amazon Web Services and Microsoft Azure, the company is investing heavily to grow its 6% stake. Google has tapped into its over $140 billion stash of cash, for example, to buy an equity stake in Chicago-based exchange CME Group (CME $241) in return for the company's long-term cloud contracts. This seems like a natural arena for the Internet media giant, and the cloud services pie is only getting bigger. As for other opportunities to widen its scope, recall that Google changed its name to Alphabet for a reason. From the metaverse to self-driving vehicles (it bought autonomous driving tech company Waymo in 2016), we expect the skilled team of CEO Sundar Pichai and CFO Ruth Porat to continue generating stunning quarterly results for investors.
We have figuratively banged our heads against the wall trying to explain to certain clients over the years that just because a stock is priced at $10 per share, it is no more undervalued (all other facets being equal) than if the shares were selling for $10,000 apiece. Nonetheless, while the stock split will not add one cent of value, we do applaud the move. Psychology is a powerful tool to use when analyzing investor behavior. Based on the company's current share price, it would be trading around $150 per share were the split completed today. Rather than saying Google shares are worth $6,000 each, let's just say we could see them growing from $150 to $300 in a reasonable amount of time post split.
Market Pulse
01. As goes January, so goes the year? Hopefully not
Even with a nice rally on the final trading day of the month, January was messy. In fact, it turned out to be the worst start to a year since the global financial crisis. For tech stocks, as benchmarked by the NASDAQ, it was even worse: the index had its second-poorest opening month of the year since its inception. But even the NASDAQ performed better than the small caps, which briefly entered bear market territory with their 20.94% drop from November highs. (The NASDAQ skirted a bear market, missing by three percentage points.) It was not quite as bad for the Dow and S&P 500, which fell as much as 7% and 10% from their highs, respectively. Was the month just a blip following a strong year, or do we believe the old "as goes January, so goes the month" adage?
Let's begin by analyzing the catalysts—other than a strong preceding year—for the downturn. Overwhelmingly, it was the Fed (rate hikes), the Russians (potential invasion of the Ukraine), and concerns over weakening earnings. For the tech stocks which were pandemic darlings, sky-high valuations are being reevaluated as the global workforce moves back, albeit slowly, into the office environment. We know what has happened to the Peloton's of the market, but consider this: shares of DocuSign (DOCU $125) fell 60% from their high price, while Zoom Video (ZM $151) fell 76% from October highs. It was the worst overall month for the markets since March of 2020, which investors recall all too well. That period, however, turned out to be one of the best buying opportunities in the past decade. Time will tell whether or not January will have provided a similar opportunity.
While our buying spree is nothing like that of late spring/early summer of 2020, we have been picking up some deeply undervalued names. The selling was relatively indiscriminate, as witnessed by drops in the likes of Microsoft and Apple. While scouring for deals, look for companies with fat earnings, pricing and staying power, and nice dividend yields. Also, scan small-cap equities which are domestically focused; the drop in the Russell 2000 has presented some excellent buying opportunities. Finally, don't be afraid to put stop-loss orders on positions to protect gains or limit losses—there will be other chances to pick these companies back up at lower levels if warranted. And remember, cash is an asset class in which every investor should be allocated.
Under the Radar Investment
Mitsubishi Electric (MIELY $24)
We are bullish on Japanese equities in 2022, and have begun a top-down review of sectors, industries, and—subsequently—individual names based out of that country which we find attractive. One clear opportunity presents itself in $25 billion industrial firm Mitsubishi Electric. Think of the firm as the Japanese version of General Electric, without the milquetoast leadership (well, lack thereof) of the American firm. Founded 101 years ago, Mitsubishi is an electrical industrials conglomerate that develops, manufactures, distributes, and sells electrical equipment worldwide. With a low P/E ratio and beta, the company has annual sales of around $40 billion and perennially yields a fat net income. Going forward, we especially like the company's industrial automation systems division, which should play a major role in the global automation renaissance picking up steam. Mitsubishi also offers investors a decent dividend yield of 3%. We would give MIELY shares a fair value of $30.
Answer
Gross domestic product is the value of all goods and services produced in a country during one year. Therefore, if an American company produces goods at a foreign factory, the value of those goods adds to that country's GDP, not America's. Of course, the global supply chain is a complicated matter, as is clearly evident right now. An iPhone, for example, might be assembled in China, but with parts from around the world. Nonetheless, here is the point: Consider China's $17 trillion economy, and then consider what China's GDP would look like without foreign companies manufacturing their products within the country. The number is somewhat of an illusion.
Headlines for the Week of 19 Dec — 25 Dec 2021
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
Best stock of 1999...
In some ways, 2021 reminds us of 1999. High-tech companies with a lack of profitability as far as the eye can see, speculative investments which seem impervious to fundamental analysis, new platforms bringing trading to the masses. Looking back to 1999, what would have been the best investment (outside of some goofy answer, like the Puerto Rican Cement Company—a high-flying penny stock back in the day) of that year? Hint: it not only still exists, but we own it within our strategies.
Penn Trading Desk:
Oppenheimer: Coinbase listed as a top stock pick for 2022
Oppenheimer has named Penn strategies member Coinbase (COIN $250) as one of its top picks for 2022. The company cited continued and widespread adoption of digital assets as a form of payment, both by retailers and institutions, as rationale for their rating. Coinbase, which is a member of the Penn Intrepid Trading Platform, is a major cryptocurrency exchange allowing for the purchase of hundreds of different cryptocurrencies, as well as the ability to make transactions with these currencies directly from the platform's digital wallet. Oppenheimer has an Outperform rating on the company with a price target of $444 on COIN shares—or 77% higher from here.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Telecommunication Services
10. US recommends approval of a massive Meta/Google undersea cable project in Asia; China is not amused
The Biden administration has recommended that the FCC grant Meta (FB $334) and Alphabet (GOOG $2,856) licenses to build a 12,000-kilometer-long (7,500 miles) network of undersea fiber optic cables spanning a number of Asian countries—sans China. The effort, known as Project Apricot, will connect Singapore, Japan, Guam, the Philippines, Taiwan, and Indonesia in an effort to bring reliable, high-speed Internet access to portions of the world both underserved and over-reliant on Communist China for their connectivity. The Apricot project will compliment Project Echo, connecting the US with Singapore, Guam, and Indonesia. The ultimate goal, according to Google VP of Global Networking Bikash Koley, is to create multiple (digital) paths in and out of Asia, and "increased resilience in connectivity between Southeast Asia, North Asia, and the United States." A previous joint project to build an undersea cable connecting California and Hong Kong was scrapped by Google and Meta—upon a US Department of Justice recommendation—due to US/Sino tensions. Technology, coupled with gutsy leadership, is making it harder for repressive regimes to constrict the free flow of information, thus controlling the narrative. Needless to say, Beijing is not happy with this project, which is slated to be completed by 2023.
The more China is backed into a corner, the more evident it will become to the free world precisely what the CCP's long-term goals are, and how incompatible they are with the pursuit of human freedom. The West may have a short memory, but we can count on China's ruling communist elites to keep stoking the fire. In the end, freedom always wins.
Renewables
09. Solar stocks are getting crushed on the back of new California proposals
Interesting, coming from the state which claims to be on the vanguard of societal evolution (smirk). The once-darling solar stocks, names like Sunrun (RUN $32), First Solar (FSLR $86), EnPhase Energy (ENPH $180), and SolarEdge Technologies (SEDG $263), have been plummeting since California proposed new rules which would make it more costly for families to put solar panels on their roofs. At the heart of the issue are the California utilities, which don't like the competition from the bourgeois middle class of the state who dare to generate their own household power. These utility concerns, working through the California Public Utilities Commission, wish to extort a monthly "grid fee" from anyone with the panels on their roofs, and they want to reduce the amount of payout for the power coming back to the grid from solar sources. While these recommendations must still be codified by state legislators, the threat was enough to sink the shares of major players. California-based Sunrun, for example, has seen its share price drop by two-thirds since January. One hopeful sign: the commissioner who penned the proposal will be leaving his post soon and won't be around to help bring it to fruition.
Here is the solution for homeowners: get off the grid by storing the solar power your panels collect in your own storage system. True, the needed efficiencies are not quite there yet, but we believe power storage will be the golden ticket for investors in this industry, and the nightmare for utility companies. In the energy storage space, Tesla's (TSLA $900) systems are hard to beat. We also like Johnson Controls (JCI $76), Enphase Energy, and Generac (GNRC $346). To take advantage of the industry without placing a big bet on any one player, the Invesco Solar ETF (TAN $74) may be the way to go. The ETF holds an eclectic group of 49 companies engaged in solar power production, storage, and infrastructure.
Semiconductors & Related Equipment
08. Our Micron position spikes nearly double digits on strong earnings report
We added leading US semiconductor and component maker Micron Technology (MU $90) to the Penn New Frontier Fund just under two months ago at $69.35, with an initial price target of $90. It didn't take long to reach that mark: shares of MU spiked nearly double digits on the morning following a stellar quarterly earnings report. Revenues rose 33% from a year ago, to $7.69 billion, while net income rose from $803 million in the fiscal first quarter of last year to $2.31 billion in the same quarter of this year. The company reported that revenue from dynamic random access memory chips, or DRAM, was up 38% from last year. DRAM chips, which provide low-cost and high-capacity memory, accounted for 73% of total revenue in the quarter; these are the critical chips which will power devices in the world of 5G and the Internet of Things. Chief Business Officer Sumit Sadana was highly bullish on Micron's future in the metaverse, which he said should provide the company with a "tremendous potential demand" going forward. Founded in 1978, Micron employs 43,000 workers and is headquartered in Boise, Idaho.
While it reached our target price much quicker than we expected, we are not considering trimming our position. With the global chip shortage, unprecedented demand on the horizon, and a domestic manufacturing capability, we expect Micron to be a shining star in the portfolio going forward.
Media & Entertainment
07. "Spider-Man: No Way Home" just had a blockbuster weekend; now, who will take home the profits?
When the dust settled, it was the second-largest opening weekend for a movie in cinematic history: "Spider-Man: Now Way Home" brought in $260 million in North American ticket sales alone, placing it behind only "Avengers: Endgame" in the record books. Globally, the news was equally good, with the film grossing $601 million in ticket sales around the world. Industry experts are now expecting the film to hit the $1 billion mark by the end of Christmas weekend. As for who gets the profits, recall that Sony (SONY $121) struck a deal with Marvel back in 1998 to buy the rights to the Spider-Man character, over a decade before Disney (DIS $151) paid $4 billion for the Marvel Cinematic Universe. Through a contorted series of moves since that deal, Sony and Disney came to the agreement—at least for this film—that the latter would provide 25% of the financing in return for 25% of the film's profits, in addition to the merchandising rights. To further muddy the waters, Sony has a previous deal with Netflix (NFLX $606) still in effect, meaning "No Way Home"—or any other Spider-Man movie—probably won't be coming to Disney+ until 2023. Nonetheless, both Sony and Disney should be pleased with their respective share of the profits on this third installment of the latest trilogy. And despite the word "trilogy," a fourth "Spider-Man" is already being planned.
Trying to sift through all of the legal wrangling between Sony and Disney over the years is enough to bring on a headache. Sadly, Disney is now being led by a CEO who is not, shall we say, a world-class negotiator. From an investment standpoint, we would rather own Sony, with its 18 P/E. As lovers of all things Disney, we await regime change at the firm.
Application & Systems Software
06. The Street was generally negative on Oracle's $28 billion purchase of Cerner, but we see potential
From a personal perspective, we hate to see another home-grown company get gobbled up by a much bigger competitor, but from an investment standpoint, does Oracle's (ORCL $92) $28.3 billion acquisition of Kansas City-based Cerner Corp (CERN $90) make sense? At first blush, the integration seems to have plenty of potential synergies. Cerner is a leading electronic health records company, operating in an industry—health information systems—which needs a serious dose of technology. We need look no further than our little white vaccination cards to figure that one out. (At least technology would have made it more difficult for Aaron Rodgers to "alter" his medical history.) Oracle is a $245 billion enterprise software company which developed the first commercial SQL-based relational database management system. It would make perfect sense that this pioneering company would want to buy the established leader in an industry with enormous growth potential. Investors may agree with that premise, but they apparently balked at the $95 per share price-tag, which represents a 25% premium to Cerner's recent trading range. In fact, prior to the announcement Cerner shares were trading around the same price they sat at four years ago, in October of 2017, when we sold them from the Global Leaders Club. Larry Ellison, the brilliant co-founder of Oracle and the company's chief technology officer, is clearly excited about the deal, which makes us feel even stronger about the potential for growth. "With this acquisition," Ellison said, "Oracle's corporate mission expands to...providing our overworked medical professionals with a new generation of easier-to-use digital tools...lowering the administrative workload, improving patient privacy and outcomes, and lowering overall health care costs." Noble goals, indeed.
With Oracle off nearly 10% on news of the acquisition, they are worth a look. We would place a fair value of $100 on the shares, but they should easily grow north of that if the company's plans for Cerner pan out. And for the record, we believe they will.
Capital Markets
05. Blackstone continues to collect real estate assets with purchase of Bluerock Group
There may a Flintstones joke somewhere in the headline, "Blackstone to buy Bluerock," but the $93 billion alternative asset manager has been on a serious mission to increase its real estate holdings recently, and few understand valuations better than Steve Schwarzman and his team. The company's latest acquisition involves a $3.6 billion deal to buy apartment REIT Bluerock Residential Growth, which owns some 30 multifamily rental communities with 11,000 units throughout the Sun Belt—hot growth areas such as Austin, Orlando, and Phoenix. It should be noted that Bluerock also has a portfolio of single-family rentals, which it will spin off to shareholders in the form of the Bluerock Homes Trust. In addition to this deal, Blackstone has already made three other buys thus far in 2021, all in areas we love going forward: industrial REIT WPT, data center REIT QTS Realty Trust, and a collection of student housing properties. Blackstone is one of the world's largest alternative asset managers, with $730 billion in assets under management, including $530 billion in fee-earning assets. The company has a reasonable P/E ratio of 18, and a nice yield of 2.89%—or 100 basis points higher than the current 30-year US Treasury yield.
The sale of Blackstone from the Strategic Income Portfolio several years ago turned out to be one of our most frustrating moves. We liquidated the position due to its status as a limited partnership, meaning it generated K-1s that clients often shy away from. Within months of our selling the position, Blackstone announced that it was converting from a partnership to a corporation. Perhaps we should have re-purchased at that time, but we didn't. At $130, BX shares seem fairly valued, and we expect them to hold up relatively well in what we predict will be a very choppy 2022.
Pharmaceuticals
04. Huge news in the fight against the pandemic: FDA clears two at-home Covid treatments
First it was Pfizer's (PFE $59) Paxlovid, then it was Merck's (MRK $76) molnupiravir, developed in partnership with Ridgeback Biotherapeutics. In the same week, the FDA gave us the news we have been waiting for: two at-home, anti-Covid therapies have been given emergency use authorization for use by Americans who have tested positive for the disease. In clinical trials, Pfizer's Paxlovid reduced the risk of Covid-related hospitalization or death by an impressive 89% if taken within the first three days of symptoms appearing; that percentage is reduced just one point—to 88%—if taken within the first five days. Despite lackluster results on Merck's antiviral treatment, which has been show to reduce hospitalizations and deaths by 30%, the FDA narrowly granted authorization to that treatment as well. Pfizer's treatment consists of three pills twice daily for five days (30 pills), while Merck's therapy consists of four pills twice daily for five days (40 pills). In a related story, France has cancelled a pre-order it had in for Merck's drug based on the disappointing trial results. While it will take time to ramp up production of Pfizer's Paxlovid, the Biden administration has already placed an order for ten million courses of the treatment.
Pfizer is a member of the Penn Global Leaders Club and one of our strongest-conviction stocks for 2022.
Global GDP & Debt
03. The world's $94 trillion economy, in one stunning graphic
Few things paint the story like a good visual, and this stunning graphic from Visual Capitalist proves that point. Here, in one snapshot, is a breakdown of which countries are most responsible for the world's production of goods and offering of services. Note that, despite the fact that we are several years beyond the forecast date (from the press) of China's economy surpassing that of America's, the United States still enjoys an economy that is one-third larger than its second-place rival. Pretty amazing, considering that virtually every item we pick up in the store has "Made in China" stamped somewhere on the packaging. In fact, the US accounts for nearly one-quarter of the world's GDP. While the US dominates the North American, China, to a lesser degree, dominates Asia. There are a number of factors we find of interest in the red section. Note how small India's GDP appears in relation to that of China's, despite the fact that both countries have approximately equal natural resources and populations (1.3 billion Indians vs 1.4 billion Chinese). It was just eleven years ago, in 2010, that China's economic might surpassed Japan's, despite the fact that the latter has a much smaller land mass and one-tenth the population of the former. China claims it controls the nation in the lower left portion of the red, Taiwan, and its $790 billion economy; it is a matter of time before they make a move on that country, forcing some type of American/global response. In the green section of the graphic, one notes how small Russia's economy looks, despite Putin's saber-rattling. Furthermore, around one-third of Russia's economy is energy based (and 60% of its exports), making it vulnerable to price fluctuations in related commodities such as gas and oil. Germany has the continent's largest economy, at $4.23 trillion, followed closely by the UK, France, and Italy. As geopolitical events occur around the world, it is useful to think back to this visual, as what it represents almost certainly plays the major role in the action taking place.
The world is slowly beginning to wake up to the danger of a Communist China playing such a major role in the world, both economically and militarily (though American military might—and Russian, for that matter—still dwarfs that country's arsenal). China's growth rate is already slowing, and we expect that to continue as the world's companies continue to mitigate country risk by building their factories in other Asian countries. Internal issues are the only reason that the world's largest democracy, India, cannot seem to gain more economic traction, but that is slowly changing. We also expect Latin America to have an expanded economic role in the world over the coming decades.
Market Pulse
02. Six companies which played an outsized role in the headlines this past year
To break the year down by headlines in the business media, six companies dominated the news. It is hard to believe, but the meme stock craze just started back in January of this year when the reddit brigade drove the price of GameStop (GME $152) up from around $20 per share to a stratospheric $483 per share on the 28th of the month. In a coordinated effort to attack the shorts, AMC Entertainment (AMC $29) and several other heavily-shorted names became meme stocks shortly thereafter. The beneficiary of this craze, at least initially, was a new trading platform for the masses: Robinhood (HOOD $19), which went public in late July and attained an $85 share price a week later. The company has since lost three-quarters of its market cap. The crypto craze hit full stride by late spring when the Coinbase (COIN $268) platform went public. Nearly 100 cryptos can be easily traded on the platform, and users can make payments from the app using the coin of their choosing—or the US dollar. Coinbase is in the Penn Intrepid Trading Platform and remains one of our favorite plays going into 2022. Pfizer (PFE $59) has been the corporate hero of the pandemic, providing the world's best vaccine to prevent Covid, and the first approved therapy to treat the disease. Tesla (TSLA $1,067), which is in the Penn New Frontier Fund, has been in the headlines throughout the year for a number of reasons, from Elon Musk's entertaining tweets to the company's remarkable production levels to the fact that it became a $1 trillion company this year—one of only a handful. Meta Platforms, yet another Penn name, has been in the headlines for mostly negative reasons this year (via incessant attacks by elected officials), though investors have largely brushed off these headlines. The company, which changed its name from Facebook in October, is up 25% year-to-date. Finally, we have TikTok. We have nothing to say about TikTok.
Several of these companies will remain solidly in the headlines throughout 2022, but new and unexpected additions will certainly arise. For a number of tech darlings which have yet to turn a profit, many of the headlines will be anything but positive. Investors need to watch their high-beta positions diligently, as volatility will rule the year.
Market Pulse
01. A true Santa Claus began to take shape in the markets this week
After an "uh oh" sort of Monday, it was all "ho ho ho" in the markets this Christmas-shortened trading week. Virtually every asset class other than cryptos gained ground, from stocks to commodities to bond yields. The tech-heavy NASDAQ led the charge this week, finishing up 3.19%; followed by the small-cap Russell 2000 (+3.11%), the S&P 500 (+2.28%), and the Dow (+1.65%). Oil closed the week at $73.76, or 5% higher, while gold regained the $1,800 mark, closing at $1,810. With investors now fully bracing for two to three rate hikes next year, the 10-year Treasury hit a yield of 1.495%, meaning that bond values fell. AGG, the iShares Core Aggregate Bond ETF, was off 0.26%.
A Santa Claus rally happens when stocks climb higher in the final seven trading days of a year plus the first two trading days of the new year. So far, so good.
Under the Radar Investment
International Paper (IP $46)
Have you ever stopped to wonder who makes all of those cardboard boxes being dropped off at your front door each week? Odds are good that they were produced by Tennessee-based International Paper. The company accounts for nearly one-third of all corrugated packaging in North America, though it also has major operations in Brazil, Russia, India, and China. This industry could be considered an oligopoly, as it is dominated by three major players: International Paper, WestRock (WR $43), and Packaging Corp. of America (PKG $131). While we actually find all three companies nice value plays, we especially like the new efficiencies IP has put in place over the past several years, its low multiple (10), and the company's growth potential in emerging markets. We would place a fair value of $65 on the shares, which would bring them back up to their summer levels. Oh, and the 4% dividend could be considered the icing on the cake.
Answer
John and Henry Churchill leased 80 acres of land in Louisville, Kentucky to their nephew, Colonel Meriwether Lewis Clark Jr., grandson of explorer William Clark, in 1874. Clark happened to be president of the Louisville Jockey Club and Driving Park Association, and proceeded to build Churchill Downs, which opened in 1875. The first Kentucky Derby was held that same year at the field. With the infield open for the race, capacity at Churchill Downs is roughly 170,000.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
Best stock of 1999...
In some ways, 2021 reminds us of 1999. High-tech companies with a lack of profitability as far as the eye can see, speculative investments which seem impervious to fundamental analysis, new platforms bringing trading to the masses. Looking back to 1999, what would have been the best investment (outside of some goofy answer, like the Puerto Rican Cement Company—a high-flying penny stock back in the day) of that year? Hint: it not only still exists, but we own it within our strategies.
Penn Trading Desk:
Oppenheimer: Coinbase listed as a top stock pick for 2022
Oppenheimer has named Penn strategies member Coinbase (COIN $250) as one of its top picks for 2022. The company cited continued and widespread adoption of digital assets as a form of payment, both by retailers and institutions, as rationale for their rating. Coinbase, which is a member of the Penn Intrepid Trading Platform, is a major cryptocurrency exchange allowing for the purchase of hundreds of different cryptocurrencies, as well as the ability to make transactions with these currencies directly from the platform's digital wallet. Oppenheimer has an Outperform rating on the company with a price target of $444 on COIN shares—or 77% higher from here.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Telecommunication Services
10. US recommends approval of a massive Meta/Google undersea cable project in Asia; China is not amused
The Biden administration has recommended that the FCC grant Meta (FB $334) and Alphabet (GOOG $2,856) licenses to build a 12,000-kilometer-long (7,500 miles) network of undersea fiber optic cables spanning a number of Asian countries—sans China. The effort, known as Project Apricot, will connect Singapore, Japan, Guam, the Philippines, Taiwan, and Indonesia in an effort to bring reliable, high-speed Internet access to portions of the world both underserved and over-reliant on Communist China for their connectivity. The Apricot project will compliment Project Echo, connecting the US with Singapore, Guam, and Indonesia. The ultimate goal, according to Google VP of Global Networking Bikash Koley, is to create multiple (digital) paths in and out of Asia, and "increased resilience in connectivity between Southeast Asia, North Asia, and the United States." A previous joint project to build an undersea cable connecting California and Hong Kong was scrapped by Google and Meta—upon a US Department of Justice recommendation—due to US/Sino tensions. Technology, coupled with gutsy leadership, is making it harder for repressive regimes to constrict the free flow of information, thus controlling the narrative. Needless to say, Beijing is not happy with this project, which is slated to be completed by 2023.
The more China is backed into a corner, the more evident it will become to the free world precisely what the CCP's long-term goals are, and how incompatible they are with the pursuit of human freedom. The West may have a short memory, but we can count on China's ruling communist elites to keep stoking the fire. In the end, freedom always wins.
Renewables
09. Solar stocks are getting crushed on the back of new California proposals
Interesting, coming from the state which claims to be on the vanguard of societal evolution (smirk). The once-darling solar stocks, names like Sunrun (RUN $32), First Solar (FSLR $86), EnPhase Energy (ENPH $180), and SolarEdge Technologies (SEDG $263), have been plummeting since California proposed new rules which would make it more costly for families to put solar panels on their roofs. At the heart of the issue are the California utilities, which don't like the competition from the bourgeois middle class of the state who dare to generate their own household power. These utility concerns, working through the California Public Utilities Commission, wish to extort a monthly "grid fee" from anyone with the panels on their roofs, and they want to reduce the amount of payout for the power coming back to the grid from solar sources. While these recommendations must still be codified by state legislators, the threat was enough to sink the shares of major players. California-based Sunrun, for example, has seen its share price drop by two-thirds since January. One hopeful sign: the commissioner who penned the proposal will be leaving his post soon and won't be around to help bring it to fruition.
Here is the solution for homeowners: get off the grid by storing the solar power your panels collect in your own storage system. True, the needed efficiencies are not quite there yet, but we believe power storage will be the golden ticket for investors in this industry, and the nightmare for utility companies. In the energy storage space, Tesla's (TSLA $900) systems are hard to beat. We also like Johnson Controls (JCI $76), Enphase Energy, and Generac (GNRC $346). To take advantage of the industry without placing a big bet on any one player, the Invesco Solar ETF (TAN $74) may be the way to go. The ETF holds an eclectic group of 49 companies engaged in solar power production, storage, and infrastructure.
Semiconductors & Related Equipment
08. Our Micron position spikes nearly double digits on strong earnings report
We added leading US semiconductor and component maker Micron Technology (MU $90) to the Penn New Frontier Fund just under two months ago at $69.35, with an initial price target of $90. It didn't take long to reach that mark: shares of MU spiked nearly double digits on the morning following a stellar quarterly earnings report. Revenues rose 33% from a year ago, to $7.69 billion, while net income rose from $803 million in the fiscal first quarter of last year to $2.31 billion in the same quarter of this year. The company reported that revenue from dynamic random access memory chips, or DRAM, was up 38% from last year. DRAM chips, which provide low-cost and high-capacity memory, accounted for 73% of total revenue in the quarter; these are the critical chips which will power devices in the world of 5G and the Internet of Things. Chief Business Officer Sumit Sadana was highly bullish on Micron's future in the metaverse, which he said should provide the company with a "tremendous potential demand" going forward. Founded in 1978, Micron employs 43,000 workers and is headquartered in Boise, Idaho.
While it reached our target price much quicker than we expected, we are not considering trimming our position. With the global chip shortage, unprecedented demand on the horizon, and a domestic manufacturing capability, we expect Micron to be a shining star in the portfolio going forward.
Media & Entertainment
07. "Spider-Man: No Way Home" just had a blockbuster weekend; now, who will take home the profits?
When the dust settled, it was the second-largest opening weekend for a movie in cinematic history: "Spider-Man: Now Way Home" brought in $260 million in North American ticket sales alone, placing it behind only "Avengers: Endgame" in the record books. Globally, the news was equally good, with the film grossing $601 million in ticket sales around the world. Industry experts are now expecting the film to hit the $1 billion mark by the end of Christmas weekend. As for who gets the profits, recall that Sony (SONY $121) struck a deal with Marvel back in 1998 to buy the rights to the Spider-Man character, over a decade before Disney (DIS $151) paid $4 billion for the Marvel Cinematic Universe. Through a contorted series of moves since that deal, Sony and Disney came to the agreement—at least for this film—that the latter would provide 25% of the financing in return for 25% of the film's profits, in addition to the merchandising rights. To further muddy the waters, Sony has a previous deal with Netflix (NFLX $606) still in effect, meaning "No Way Home"—or any other Spider-Man movie—probably won't be coming to Disney+ until 2023. Nonetheless, both Sony and Disney should be pleased with their respective share of the profits on this third installment of the latest trilogy. And despite the word "trilogy," a fourth "Spider-Man" is already being planned.
Trying to sift through all of the legal wrangling between Sony and Disney over the years is enough to bring on a headache. Sadly, Disney is now being led by a CEO who is not, shall we say, a world-class negotiator. From an investment standpoint, we would rather own Sony, with its 18 P/E. As lovers of all things Disney, we await regime change at the firm.
Application & Systems Software
06. The Street was generally negative on Oracle's $28 billion purchase of Cerner, but we see potential
From a personal perspective, we hate to see another home-grown company get gobbled up by a much bigger competitor, but from an investment standpoint, does Oracle's (ORCL $92) $28.3 billion acquisition of Kansas City-based Cerner Corp (CERN $90) make sense? At first blush, the integration seems to have plenty of potential synergies. Cerner is a leading electronic health records company, operating in an industry—health information systems—which needs a serious dose of technology. We need look no further than our little white vaccination cards to figure that one out. (At least technology would have made it more difficult for Aaron Rodgers to "alter" his medical history.) Oracle is a $245 billion enterprise software company which developed the first commercial SQL-based relational database management system. It would make perfect sense that this pioneering company would want to buy the established leader in an industry with enormous growth potential. Investors may agree with that premise, but they apparently balked at the $95 per share price-tag, which represents a 25% premium to Cerner's recent trading range. In fact, prior to the announcement Cerner shares were trading around the same price they sat at four years ago, in October of 2017, when we sold them from the Global Leaders Club. Larry Ellison, the brilliant co-founder of Oracle and the company's chief technology officer, is clearly excited about the deal, which makes us feel even stronger about the potential for growth. "With this acquisition," Ellison said, "Oracle's corporate mission expands to...providing our overworked medical professionals with a new generation of easier-to-use digital tools...lowering the administrative workload, improving patient privacy and outcomes, and lowering overall health care costs." Noble goals, indeed.
With Oracle off nearly 10% on news of the acquisition, they are worth a look. We would place a fair value of $100 on the shares, but they should easily grow north of that if the company's plans for Cerner pan out. And for the record, we believe they will.
Capital Markets
05. Blackstone continues to collect real estate assets with purchase of Bluerock Group
There may a Flintstones joke somewhere in the headline, "Blackstone to buy Bluerock," but the $93 billion alternative asset manager has been on a serious mission to increase its real estate holdings recently, and few understand valuations better than Steve Schwarzman and his team. The company's latest acquisition involves a $3.6 billion deal to buy apartment REIT Bluerock Residential Growth, which owns some 30 multifamily rental communities with 11,000 units throughout the Sun Belt—hot growth areas such as Austin, Orlando, and Phoenix. It should be noted that Bluerock also has a portfolio of single-family rentals, which it will spin off to shareholders in the form of the Bluerock Homes Trust. In addition to this deal, Blackstone has already made three other buys thus far in 2021, all in areas we love going forward: industrial REIT WPT, data center REIT QTS Realty Trust, and a collection of student housing properties. Blackstone is one of the world's largest alternative asset managers, with $730 billion in assets under management, including $530 billion in fee-earning assets. The company has a reasonable P/E ratio of 18, and a nice yield of 2.89%—or 100 basis points higher than the current 30-year US Treasury yield.
The sale of Blackstone from the Strategic Income Portfolio several years ago turned out to be one of our most frustrating moves. We liquidated the position due to its status as a limited partnership, meaning it generated K-1s that clients often shy away from. Within months of our selling the position, Blackstone announced that it was converting from a partnership to a corporation. Perhaps we should have re-purchased at that time, but we didn't. At $130, BX shares seem fairly valued, and we expect them to hold up relatively well in what we predict will be a very choppy 2022.
Pharmaceuticals
04. Huge news in the fight against the pandemic: FDA clears two at-home Covid treatments
First it was Pfizer's (PFE $59) Paxlovid, then it was Merck's (MRK $76) molnupiravir, developed in partnership with Ridgeback Biotherapeutics. In the same week, the FDA gave us the news we have been waiting for: two at-home, anti-Covid therapies have been given emergency use authorization for use by Americans who have tested positive for the disease. In clinical trials, Pfizer's Paxlovid reduced the risk of Covid-related hospitalization or death by an impressive 89% if taken within the first three days of symptoms appearing; that percentage is reduced just one point—to 88%—if taken within the first five days. Despite lackluster results on Merck's antiviral treatment, which has been show to reduce hospitalizations and deaths by 30%, the FDA narrowly granted authorization to that treatment as well. Pfizer's treatment consists of three pills twice daily for five days (30 pills), while Merck's therapy consists of four pills twice daily for five days (40 pills). In a related story, France has cancelled a pre-order it had in for Merck's drug based on the disappointing trial results. While it will take time to ramp up production of Pfizer's Paxlovid, the Biden administration has already placed an order for ten million courses of the treatment.
Pfizer is a member of the Penn Global Leaders Club and one of our strongest-conviction stocks for 2022.
Global GDP & Debt
03. The world's $94 trillion economy, in one stunning graphic
Few things paint the story like a good visual, and this stunning graphic from Visual Capitalist proves that point. Here, in one snapshot, is a breakdown of which countries are most responsible for the world's production of goods and offering of services. Note that, despite the fact that we are several years beyond the forecast date (from the press) of China's economy surpassing that of America's, the United States still enjoys an economy that is one-third larger than its second-place rival. Pretty amazing, considering that virtually every item we pick up in the store has "Made in China" stamped somewhere on the packaging. In fact, the US accounts for nearly one-quarter of the world's GDP. While the US dominates the North American, China, to a lesser degree, dominates Asia. There are a number of factors we find of interest in the red section. Note how small India's GDP appears in relation to that of China's, despite the fact that both countries have approximately equal natural resources and populations (1.3 billion Indians vs 1.4 billion Chinese). It was just eleven years ago, in 2010, that China's economic might surpassed Japan's, despite the fact that the latter has a much smaller land mass and one-tenth the population of the former. China claims it controls the nation in the lower left portion of the red, Taiwan, and its $790 billion economy; it is a matter of time before they make a move on that country, forcing some type of American/global response. In the green section of the graphic, one notes how small Russia's economy looks, despite Putin's saber-rattling. Furthermore, around one-third of Russia's economy is energy based (and 60% of its exports), making it vulnerable to price fluctuations in related commodities such as gas and oil. Germany has the continent's largest economy, at $4.23 trillion, followed closely by the UK, France, and Italy. As geopolitical events occur around the world, it is useful to think back to this visual, as what it represents almost certainly plays the major role in the action taking place.
The world is slowly beginning to wake up to the danger of a Communist China playing such a major role in the world, both economically and militarily (though American military might—and Russian, for that matter—still dwarfs that country's arsenal). China's growth rate is already slowing, and we expect that to continue as the world's companies continue to mitigate country risk by building their factories in other Asian countries. Internal issues are the only reason that the world's largest democracy, India, cannot seem to gain more economic traction, but that is slowly changing. We also expect Latin America to have an expanded economic role in the world over the coming decades.
Market Pulse
02. Six companies which played an outsized role in the headlines this past year
To break the year down by headlines in the business media, six companies dominated the news. It is hard to believe, but the meme stock craze just started back in January of this year when the reddit brigade drove the price of GameStop (GME $152) up from around $20 per share to a stratospheric $483 per share on the 28th of the month. In a coordinated effort to attack the shorts, AMC Entertainment (AMC $29) and several other heavily-shorted names became meme stocks shortly thereafter. The beneficiary of this craze, at least initially, was a new trading platform for the masses: Robinhood (HOOD $19), which went public in late July and attained an $85 share price a week later. The company has since lost three-quarters of its market cap. The crypto craze hit full stride by late spring when the Coinbase (COIN $268) platform went public. Nearly 100 cryptos can be easily traded on the platform, and users can make payments from the app using the coin of their choosing—or the US dollar. Coinbase is in the Penn Intrepid Trading Platform and remains one of our favorite plays going into 2022. Pfizer (PFE $59) has been the corporate hero of the pandemic, providing the world's best vaccine to prevent Covid, and the first approved therapy to treat the disease. Tesla (TSLA $1,067), which is in the Penn New Frontier Fund, has been in the headlines throughout the year for a number of reasons, from Elon Musk's entertaining tweets to the company's remarkable production levels to the fact that it became a $1 trillion company this year—one of only a handful. Meta Platforms, yet another Penn name, has been in the headlines for mostly negative reasons this year (via incessant attacks by elected officials), though investors have largely brushed off these headlines. The company, which changed its name from Facebook in October, is up 25% year-to-date. Finally, we have TikTok. We have nothing to say about TikTok.
Several of these companies will remain solidly in the headlines throughout 2022, but new and unexpected additions will certainly arise. For a number of tech darlings which have yet to turn a profit, many of the headlines will be anything but positive. Investors need to watch their high-beta positions diligently, as volatility will rule the year.
Market Pulse
01. A true Santa Claus began to take shape in the markets this week
After an "uh oh" sort of Monday, it was all "ho ho ho" in the markets this Christmas-shortened trading week. Virtually every asset class other than cryptos gained ground, from stocks to commodities to bond yields. The tech-heavy NASDAQ led the charge this week, finishing up 3.19%; followed by the small-cap Russell 2000 (+3.11%), the S&P 500 (+2.28%), and the Dow (+1.65%). Oil closed the week at $73.76, or 5% higher, while gold regained the $1,800 mark, closing at $1,810. With investors now fully bracing for two to three rate hikes next year, the 10-year Treasury hit a yield of 1.495%, meaning that bond values fell. AGG, the iShares Core Aggregate Bond ETF, was off 0.26%.
A Santa Claus rally happens when stocks climb higher in the final seven trading days of a year plus the first two trading days of the new year. So far, so good.
Under the Radar Investment
International Paper (IP $46)
Have you ever stopped to wonder who makes all of those cardboard boxes being dropped off at your front door each week? Odds are good that they were produced by Tennessee-based International Paper. The company accounts for nearly one-third of all corrugated packaging in North America, though it also has major operations in Brazil, Russia, India, and China. This industry could be considered an oligopoly, as it is dominated by three major players: International Paper, WestRock (WR $43), and Packaging Corp. of America (PKG $131). While we actually find all three companies nice value plays, we especially like the new efficiencies IP has put in place over the past several years, its low multiple (10), and the company's growth potential in emerging markets. We would place a fair value of $65 on the shares, which would bring them back up to their summer levels. Oh, and the 4% dividend could be considered the icing on the cake.
Answer
John and Henry Churchill leased 80 acres of land in Louisville, Kentucky to their nephew, Colonel Meriwether Lewis Clark Jr., grandson of explorer William Clark, in 1874. Clark happened to be president of the Louisville Jockey Club and Driving Park Association, and proceeded to build Churchill Downs, which opened in 1875. The first Kentucky Derby was held that same year at the field. With the infield open for the race, capacity at Churchill Downs is roughly 170,000.
Headlines for the Week of 05 Dec — 11 Dec 2021
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
Talk about paying for yourself many times over...
On Christmas Day, the Staples Center in Los Angeles, which was built in 1999, will become the Crypto.com Arena. Twenty-two years old may seem "seasoned," but it can't hold a candle to another arena in the country. What is the oldest sports stadium/arena still in use in the United States, and when was it established?
Penn Trading Desk:
Penn: Open Canadian cannabis player in the Intrepid
We believe that one Canadian cannabis firm is well poised to be the industry leader in the US once the drug is legalized at the federal level. Exemplary management, a just-announced acquisition which we love, and a discounted price (to our fair value) led to our decision to add the mid-cap growth company to the Intrepid Trading Platform. Our first price target is 50% above current price, while our second target is nearly double current price.
Penn: Open airline in the Global Leaders Club
Having written glowingly about one particular airline in a recent issue of The Penn Wealth Report, it is only fitting that we would pick it up as one of the 40 positions within the Penn Global Leaders Club, especially after the Omicron scare drove shares down near a 52-week low. Our initial price target is 57% above our purchase price, but we expect to own this forward-looking company well beyond its shares hitting our first target.
Penn: Open fintech giant in Global Leaders Club
Using some contorted logic (proving that efficient market hypothesis is bunk), investors have decided to place a dynamic fintech company in the "old financials" category. The Street's disinterest—or sheer disdain—has driven the price down on this excellent credit services company to the golden ticket range. Additionally, we have been actively searching for strong financial services firms at a reasonable price now that we are overweighting the sector. To see this latest addition to the Penn Global Leaders Club, which carries just 40 members, sign into the Penn Trading Desk.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Cryptocurrencies
10. Come watch the Lakers play at the...Crypto.com Arena?
The meteoric rise of the nascent cryptocurrency market, already $2 trillion in size, has been remarkable. With each passing day, fewer experts seem willing to write the movement off as some sort of fad which will eventually implode. The latest evidence of which comes from California, where the crypto world is about to get some serious signage: Effective Christmas Day, the Staples Center will be renamed Crypto.com Arena. The marketing coup comes at a steep price for the privately-held company. We recall naming rights for stadiums in the $3 million per year price range, which always seemed a bit steep to us. Crypto.com will reportedly pay $700 million for a 20-year contract, which equates to $35 million per year. If those numbers are correct, this would be the second-largest naming rights deal in history, behind 2017's Scotiabank Arena deal in Toronto, which was valued at $800 million for 20 years. Keeping it closer to home, Staples paid $116 million for the previous 20-year deal with The Anschutz Entertainment Group, owner of the arena which has carried its name since 1999. Crypto.com is a low-cost cryptocurrency exchange, much like publicly-traded Coinbase Global (COIN $255), a member of the Penn Intrepid Trading Platform.
Yes, cryptocurrencies are here to stay, but it can be very difficult to separate the long-term winners from the inevitable multitude of losers. We purchased shares in the Coinbase exchange in June at $230 per share—well off of their $429.54 near-IPO price and below their current trading range. We can see why the Coinbase wallet is so attractive to crypto traders, and believe in the company's fundamental story. Our biggest concern about privately-held Crypto.com, despite the pretty cool Matt Damon advertisements, is country risk: it is headquartered in Hong Kong, which is now under the full control of the Communist Party of China.
Consumer Staples
09. Penn member Dollar General announces plans to open 1,000 new Popshelf stores to attract a wealthier clientele
We added Dollar General (DG $222) to the Penn Global Leaders Club—the home for holdings we expect to own for years—when shares of the discount retailer were discount priced themselves, at $71.06. It has been a relatively straight trajectory up from there: shares of the $51 billion Tennessee-based retailer are now trading north of $220. With more than 18,000 stores across the United States, the company's bread-and-butter customer base has been households with annual incomes of 40,000 or less, and we consider the investment an excellent defensive play for any economic downturn. Now, Dollar General has an interesting plan to widen its total addressable market. The company has been testing a concept store called Popshelf which is designed to attract a younger, wealthier group of shoppers. The roughly 9,000 square foot stores have been so popular that management has announced an aggressive plan to open 1,000 Popshelf locations by the end of fiscal 2025. Targeting suburban women with household incomes of between $50,000 and $125,000, the stores will present a bright and lively image, with the mix of goods changing frequently to create a "treasure hunt" vibe. Shoppers searching for unique gifts, holiday decorations, or party supplies should be able to find what they are looking for, all at a reasonable price. We applaud the move, and look forward to checking out one of the new locations. For the first time in its 80-year history, Dollar General also announced it would be delving into the international market, opening ten stores in Mexico by the end of FY 2022.
Despite our success in the position, Dollar General continues to be an overlooked gem by so many retail analysts. That is simply a mistake on their part. For all of its tremendous growth within the Club, it carries a tiny price-to-earnings ratio of seven and an enviable financial position. While others chase multiples that don't exist (because they won't turn a profit for years—if ever), give us an income-generating machine like DG any day.
Multiline Retail
08. Our favorite retailer, Target, gives an early Christmas gift to both customers and employees
Retail juggernaut Target (TGT $248), whose shares have risen 295% in value since we added it as a Consumer Defensive play within the Penn Global Leaders Club under three years ago, has faced two catalysts over the past week which have sent shares lower. Ironically, we love both of them. The first came in the statement following last Wednesday's earnings release. Masterful CEO Brian Cornell, such a different leader than the hapless Gregg Steinhafel, said that the $120 billion retailer was in a "strong inventory position heading into the peak of the holiday season...." Investors were fine with that statement, but when Cornell warned of higher expenses and trimmed gross margins due to inflation and supply constraints, and asserted that Target could "tolerate lower margins if it meant keeping prices (lower for consumers)," which would be fine with him, that was simply too much. A retailer putting customers above fatter margins when those costs could quite easily be passed along? That simply did not compute for investors, which sent the shares down 4% in the pre-market, despite healthy year-on-year revenue and earnings growth. The second share drop within a week came after the company announced that not only was it going to be closed this Thanksgiving, it will remain closed on the holiday in future years as well. What century does Cornell think he is living in? That shaved another 4% or so off of the share price. Two excellent decisions met with derision. That sounds about right.
Some days we watch and listen to an endless stream of malleable, weak, milquetoast CEOs as they contort themselves into odd shapes to prove how enlightened they are. And other days we come in and see something refreshing: true leadership. Cornell's skill at the helm is a major reason why Target remains a shining star in the Penn Global Leaders Club.
Global Strategy: Middle East
07. "Insanity" is how Erdogan's demanded rate cuts in the face of 20% Turkish inflation is being described
To set the stage: Turkey is not a US ally, despite that country's longstanding NATO membership. Under the mercurial leadership of President Recep Tayyip Erdogan, Russia seems to have more influence than does the West, despite Turkey's desire to be seen as part of the EU rather than the Middle East. Under that backdrop comes the bizarre economic situation going on in the country of 85 million people. The main reason that the central bank in the US will probably raise rates at least twice next year is to dampen the rate of inflation, which is currently well above the 2% target range. In Turkey, inflation is running at a nightmarish (for consumers) pace of 20%, so what does Erdogan do? He orders the country's central bank to lower rates. Hence the claims of insanity. And for anyone who believes that the president didn't order the cuts consider this: he has fired three central bank chiefs in the past two years for daring to question his monetary views. Erdogan's defense is that he is waging "an economic war of independence." His strange war has had quite the impact on the Turkish lira, which is now trading at 13:1 versus the US dollar. So, for the unfortunate Turkish worker, this means that their paycheck is being watered down on a daily basis while prices at the local bazar or supermarket are simultaneously going up on a daily basis. A recipe for disaster. Somehow, despite the economic nightmare, Erdogan has still managed to finance the expensive purchase of a Russian-made S-400 missile defense system—a system designed to thwart the most advanced US fighters. To counter the move, the US has removed Turkey from the F-35 joint strike fighter program at a cost of half a billion dollars. The only good news about the economic situation Erdogan is causing within his country is that he will be forced to play defense, taking time away from his mental musings on how to foment more trouble in the region.
It is going to take an uprising by the Turkish people to remove Recep Tayyip Erdogan from power. Despite the fact that his second five-year term, which will end in 2023, should make him ineligible for running again, any bets on who will still be the Turkish president in 2024 and beyond? While that country's constitution prohibits a third term, when has a legal document ever stopped a dictator? Look no further than Vlad Putin. As for a Turkish uprising, sadly, look no further than Venezuela for evidence that those odds, despite the human suffering, are slim to none.
Economics: Work & Pay
06. Trying to dissect the Rorschach test that was the November jobs report
It is always difficult to gauge how investors will react to any given monthly jobs release: a positive report often results in a market downturn, while a lousy one can be a catalyst for gains. Go figure. Even by those standards, November's results and subsequent investor response was a bit strange. Immediately after the release of the jobs survey, which showed a paltry 210,000 new jobs being created in the country against expectations for gains of 550,000, futures rose. This was based on the assumption that the Fed would back off of their threat to end their bond buying program quicker than the current reduction of $15 billion per month. Within the details of the report, however, came some good news: the labor force participation rate—the percentage of Americans of working age either already employed or looking for work—rose to 61.80%, which is the highest level since pre-pandemic. That equates to 600,000 or so Americans re-entering the workforce. Buttressing that point was the household survey section of the report showing that payrolls actually rose by 1.1 million in November. Why the discrepancy? The headline figure represents employers reporting how many hires they had in the month, while the household survey includes individuals moving to self-employed status. In other words, a record number of Americans just started working for themselves. This would also explain why the unemployment rate fell more than expected, to 4.2%. The internals were enough to bring back investors' fear of the Fed tightening quicker than expected to help quell inflation, leading to a 500-point intra-day swing in the Dow. But the Dow's reversal was nothing compared to the NASDAQ and Russell 2000 small-cap index, with each benchmark losing around 2% on the day. It was one of those odd weeks where everything fell in tandem: stocks, bonds, gold, cryptos, and the 10-year Treasury all ended the week in the red.
Following a negative third quarter of the year, a down November for the markets, and a rough start to December, we revisited our January 1st prediction for the year-end S&P 500: 4,300. That would have represented a healthy 14.5% gain on the year. On the Friday of the jobs report, the S&P 500 closed at 4,538, or 238 points above our projection for the year. Granted, anything can happen in any given market week, but we are still looking at a quite strong 2021. The big question for next year will be how investors digest the end of tapering and two to three probable rate hikes.
Interactive Media & Services
05. A visual of the world's largest social media networks and who owns them
Thanks to Visual Capitalist for providing this rather stunning graphic of who actually dominates the explosive world of social media. Shortly before they changed their name to Meta (FB $317), we added shares of $900 billion Facebook back into the Penn Global Leaders Club after a hiatus. Looking beyond the ceaseless attacks by politicians on both sides of the aisle, we believe this company's embrace of the metaverse will lead to a long-term growth trajectory beyond the scope of most analysts' imagination. From a social media usage standpoint, nobody comes close: Meta companies (Facebook, Instagram, WhatsApp, and Messenger) have an aggregate 7.5 billion monthly active users (MAUs), which equates to advertising pricing power miles ahead of the competition. (To be clear, if one person uses all four platforms, as we do, they would be counted four times; still, those numbers are remarkable.) From an individual platform standpoint, Alphabet's (GOOG $2,882) YouTube comes in second to Facebook, with 2.3 billion MAUs. We already own the third largest controlling company on the list, Microsoft (MSFT $326; Skype, LinkedIn, Teams), which continues to be one of our highest conviction names. Skipping over Snap (SNAP $48), which we have never been fond of from an investment standpoint, we come to Twitter (TWTR $45) and its 463M MAUs. Now that Dorsey is gone, we are actually considering picking up some shares of TWTR for the Intrepid Trading Platform. We believe the promotion of Chief Technology Officer Parag Agrawal to the CEO role makes sense for a company which hasn't been able to effectively monetize its business model. Then again, we also thought it made sense for JC Penney to hire Ron Johnson—the guy who created the Apple store model—as CEO, so it is always prudent to wait for evidence of leadership abilities before jumping in. As for the red balls on the list, the Asian names, we wouldn't touch any of them.
At the risk of being labeled a metaverse fanatic, most truly don't understand how the two-dimensional world of social media will morph over the coming years into something truly interactive. Facebook is proven it is all in, which is why it is our number one play in the interactive media and services space.
Application & Systems Software
04. DocuSign shares plunged over 40% in a day; are they a screaming buy right now?
For obvious reasons, shares of DocuSign (DOCU $144), the benchmark in remote document signing technology, skyrocketed during the pandemic-forced lockdown, climbing from $90 in February of last year to $314.76 per share by summer. After a billings miss and a guide-down in the latest quarter, however, the company is now valued at less than half of what is was last year. So, at $144, should investors buy into the story? Although DocuSign has yet to turn a profit, and competing products such as Adobe Sign are gaining traction, the company still posted an impressive revenue growth rate of 50% last quarter. Subscriptions, which give the company a recurring income stream, rose 44% year over year, and over one million customers are now using the e-Signature suite of products. With mass adoption of electronic signatures in virtually every industry, from financial services to health care to government agencies, we tend to agree with management's assessment of a $50 billion total addressable market (TAM), meaning there is still enormous growth potential ahead. Will DocuSign continue to be the company eating away at most of that TAM? Despite so many throwing in the towel after the latest earnings report, we believe they will.
While we do not currently own DocuSign in any of the Penn Portfolios (we do own competitor Adobe in the Global Leaders Club), we do believe the shares will rise back to the $250 range before long. That would signify a 70% jump from the current share price.
Textiles, Apparel, & Luxury Goods
03. Allbirds was overpriced from the start, which is one reason its shares have been slashed in half
We are constantly scanning the IPO calendar, looking for under-the-radar names that won't be devoured by investors at the initial open, driving prices to outrageous levels. Allbirds (BIRD $16) seemed like it had potential; after all, who would get too excited about an athletic footwear maker going public? After pricing 20 million shares at $15 apiece the night before the big debut, we decided to buy in if they fell to the $10-$12 range after trading began. Instead, retail investors gobbled BIRD shares up right out of the gate, driving the price up to an intraday high of $32.44 on the third of November. So much for that trade. One month later, on the 3rd of December, shares had dropped to $13.91 intraday—a 57% course correction. So, are we entertaining the trade once again? Not really. Allbirds shoes are pretty cool, and sales continue to be strong despite the fact they don't believe in discounting the price. The company's self-proclaimed raison d'être is to bring the world eco-friendly and environmentally-sourced shoes. It is hard to go a paragraph deep into any of their ads or press releases without reading the word "sustainability." While management's efforts in this area may be commendable, their words might carry more weight if such a large percentage of Allbirds products weren't made in China—not exactly the ESG capital of the world. In the company's first earnings report since going public, sales came in at $63 million for the quarter funneling down to a net loss of $14 million. For comparison's sake, in its latest quarter $1.1 billion footwear retailer Designer Brands (DBI $16) notched sales of $817 million and had a positive net income of $43 million. Despite its current "discount" from highs, Allbirds seems ripe for another turn downward in the next general market correction.
IPO days for companies we are interested in can be stressful. Trading volatility is high, and the stock price can literally double on the first tick out of the gate. Patience is paramount; if you are priced out (based on your mental buy price) immediately, be patient, as you will have another chance to buy in at a lower price. Even with companies such as Facebook and Tesla, this has always been the case. Use the emotions of others to create wealth in the markets rather than letting your own cloud your judgment.
Pharmaceuticals
02. Pfizer lab studies show third dose of vaccine (the booster) effectively neutralizes the omicron variant of disease
Futures went from negative to positive on Wednesday after pharma giant Pfizer (PFE $51) announced that its lab studies have shown a third dose of the company's Covid-19 vaccine, otherwise known as the booster shot, effectively neutralizes the highly-transmissible omicron strain of the disease. Uncertainty about and fear over the strain helped wreak havoc on markets over the prior two weeks. Researchers at the New Jersey-based firm observed a massive drop in effectiveness of just two doses of the vaccine against this latest strain, yet those who received the booster showed a restored level of protection. Nonetheless, Pfizer continues work on an omicron-targeted shot which may be ready as soon as early spring. More good news: it now appears that the current variant spreading throughout the world, despite its rate of transmission, is less virulent than prior strains, meaning fewer deaths and hospitalizations. On the heels of the Pfizer test results, Cantor Fitzgerald reiterated its Overweight rating on the company and $61 price target on the shares, noting that "...Pfizer's vaccine sales for Covid-19 remain underappreciated by the Street." We couldn't agree more.
Presently, there are some real bargains in the pharmaceutical and biotech space. It is as though investors believe that the entire industry rests on what happens next with respect to Covid-19. Meanwhile, the pipeline of therapies being developed for other life-threatening diseases and maladies has never been deeper. IBB, a cap-weighted ETF of biotech companies, is down 1% on the year, while XBI, an equal-weighted basket of 188 biotechs (and our preferred vehicle in the space) is down over 17% year-to-date. That smells like opportunity.
Economics: Supply, Demand, & Prices
01. The highest inflation rate in forty years didn't dampen the markets
We expected the CPI numbers for November to be bad, and they were. Hitting a rate not seen since 1982, the US Department of Labor announced that the consumer price index (CPI), which measures what consumers pay for a wide swath of goods and services, rose 6.8% annualized in November—the sixth-straight month in which the inflation rate was above 5%. For reference, the Fed's inflation target sits at 2%, and we all recall how "stubbornly low," to use Powell's own words, it was not that long ago. Even stripping food and energy out of the mix, the rate still climbed to 4.9%. What is leading the inflationary charge? Homes are up nearly 20% year-on-year, new vehicles 11%, used vehicles 27%, and fast food prices 8%—just to give a few examples. Unfortunately, while wages have climbed, they are not matching the jump in the price of goods. The Atlanta Fed reported that wage growth was 4.3% in November, annualized.
Oddly enough, the markets largely ignored Friday's CPI release, with the three major indexes (the small caps did not participate) gaining ground on the day. For the week, even the beaten-down Russell 2000 pulled out a gain of 0.76%. Meanwhile, the S&P 500, the DJIA, and the NASDAQ all reclaimed ground not seen since before the prior two week market downturn. We have three weeks left in the month, but December is suddenly looking like it might bring its usual dose of holiday cheer to investors. Of course, next week's Fed meeting could throw a monkey wrench into the works: Fed Chair Powell is highly expected to speed up the rate of taper, perhaps from $15 billion per month to $30 billion per month, which would end the bond buying program by March. Stay tuned.
With the taper now expected to end by next March, economists are raising their expectations for rate hikes next year. The general consensus is one hike by early summer, and two beyond that in 2022. Where will it end? When the target Fed funds rate gets to 2% to 2.5% (the upper band is at 0.25% now), we expect the Fed to halt. Of course, anything can happen between now and that point in time.
Under the Radar Investment
Zimmer Biomet Holdings (ZBH $124)
Zimmer Biomet designs, manufactures, and markets orthopedic reconstructive implants, as well as needed supplies and surgical equipment for orthopedic surgery. The hands-down leader in the field, not only in the United States, but also in Europe and Japan, Zimmer owns some 4,500 patents and applications worldwide. With a highly motivated salesforce and under the strong leadership of CEO Bryan Hanson, we believe the company will continue to solidify its benchmark position. Over the trailing twelve months, Zimmer had sales of $7.9 billion and a net profit of $819 million. We believe the shares of this recession-resistant company are worth $200, or 61% more than their current trading price.
Answer
John and Henry Churchill leased 80 acres of land in Louisville, Kentucky to their nephew, Colonel Meriwether Lewis Clark Jr., grandson of explorer William Clark, in 1874. Clark happened to be president of the Louisville Jockey Club and Driving Park Association, and proceeded to build Churchill Downs, which opened in 1875. The first Kentucky Derby was held that same year at the field. With the infield open for the race, capacity at Churchill Downs is roughly 170,000.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
Talk about paying for yourself many times over...
On Christmas Day, the Staples Center in Los Angeles, which was built in 1999, will become the Crypto.com Arena. Twenty-two years old may seem "seasoned," but it can't hold a candle to another arena in the country. What is the oldest sports stadium/arena still in use in the United States, and when was it established?
Penn Trading Desk:
Penn: Open Canadian cannabis player in the Intrepid
We believe that one Canadian cannabis firm is well poised to be the industry leader in the US once the drug is legalized at the federal level. Exemplary management, a just-announced acquisition which we love, and a discounted price (to our fair value) led to our decision to add the mid-cap growth company to the Intrepid Trading Platform. Our first price target is 50% above current price, while our second target is nearly double current price.
Penn: Open airline in the Global Leaders Club
Having written glowingly about one particular airline in a recent issue of The Penn Wealth Report, it is only fitting that we would pick it up as one of the 40 positions within the Penn Global Leaders Club, especially after the Omicron scare drove shares down near a 52-week low. Our initial price target is 57% above our purchase price, but we expect to own this forward-looking company well beyond its shares hitting our first target.
Penn: Open fintech giant in Global Leaders Club
Using some contorted logic (proving that efficient market hypothesis is bunk), investors have decided to place a dynamic fintech company in the "old financials" category. The Street's disinterest—or sheer disdain—has driven the price down on this excellent credit services company to the golden ticket range. Additionally, we have been actively searching for strong financial services firms at a reasonable price now that we are overweighting the sector. To see this latest addition to the Penn Global Leaders Club, which carries just 40 members, sign into the Penn Trading Desk.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Cryptocurrencies
10. Come watch the Lakers play at the...Crypto.com Arena?
The meteoric rise of the nascent cryptocurrency market, already $2 trillion in size, has been remarkable. With each passing day, fewer experts seem willing to write the movement off as some sort of fad which will eventually implode. The latest evidence of which comes from California, where the crypto world is about to get some serious signage: Effective Christmas Day, the Staples Center will be renamed Crypto.com Arena. The marketing coup comes at a steep price for the privately-held company. We recall naming rights for stadiums in the $3 million per year price range, which always seemed a bit steep to us. Crypto.com will reportedly pay $700 million for a 20-year contract, which equates to $35 million per year. If those numbers are correct, this would be the second-largest naming rights deal in history, behind 2017's Scotiabank Arena deal in Toronto, which was valued at $800 million for 20 years. Keeping it closer to home, Staples paid $116 million for the previous 20-year deal with The Anschutz Entertainment Group, owner of the arena which has carried its name since 1999. Crypto.com is a low-cost cryptocurrency exchange, much like publicly-traded Coinbase Global (COIN $255), a member of the Penn Intrepid Trading Platform.
Yes, cryptocurrencies are here to stay, but it can be very difficult to separate the long-term winners from the inevitable multitude of losers. We purchased shares in the Coinbase exchange in June at $230 per share—well off of their $429.54 near-IPO price and below their current trading range. We can see why the Coinbase wallet is so attractive to crypto traders, and believe in the company's fundamental story. Our biggest concern about privately-held Crypto.com, despite the pretty cool Matt Damon advertisements, is country risk: it is headquartered in Hong Kong, which is now under the full control of the Communist Party of China.
Consumer Staples
09. Penn member Dollar General announces plans to open 1,000 new Popshelf stores to attract a wealthier clientele
We added Dollar General (DG $222) to the Penn Global Leaders Club—the home for holdings we expect to own for years—when shares of the discount retailer were discount priced themselves, at $71.06. It has been a relatively straight trajectory up from there: shares of the $51 billion Tennessee-based retailer are now trading north of $220. With more than 18,000 stores across the United States, the company's bread-and-butter customer base has been households with annual incomes of 40,000 or less, and we consider the investment an excellent defensive play for any economic downturn. Now, Dollar General has an interesting plan to widen its total addressable market. The company has been testing a concept store called Popshelf which is designed to attract a younger, wealthier group of shoppers. The roughly 9,000 square foot stores have been so popular that management has announced an aggressive plan to open 1,000 Popshelf locations by the end of fiscal 2025. Targeting suburban women with household incomes of between $50,000 and $125,000, the stores will present a bright and lively image, with the mix of goods changing frequently to create a "treasure hunt" vibe. Shoppers searching for unique gifts, holiday decorations, or party supplies should be able to find what they are looking for, all at a reasonable price. We applaud the move, and look forward to checking out one of the new locations. For the first time in its 80-year history, Dollar General also announced it would be delving into the international market, opening ten stores in Mexico by the end of FY 2022.
Despite our success in the position, Dollar General continues to be an overlooked gem by so many retail analysts. That is simply a mistake on their part. For all of its tremendous growth within the Club, it carries a tiny price-to-earnings ratio of seven and an enviable financial position. While others chase multiples that don't exist (because they won't turn a profit for years—if ever), give us an income-generating machine like DG any day.
Multiline Retail
08. Our favorite retailer, Target, gives an early Christmas gift to both customers and employees
Retail juggernaut Target (TGT $248), whose shares have risen 295% in value since we added it as a Consumer Defensive play within the Penn Global Leaders Club under three years ago, has faced two catalysts over the past week which have sent shares lower. Ironically, we love both of them. The first came in the statement following last Wednesday's earnings release. Masterful CEO Brian Cornell, such a different leader than the hapless Gregg Steinhafel, said that the $120 billion retailer was in a "strong inventory position heading into the peak of the holiday season...." Investors were fine with that statement, but when Cornell warned of higher expenses and trimmed gross margins due to inflation and supply constraints, and asserted that Target could "tolerate lower margins if it meant keeping prices (lower for consumers)," which would be fine with him, that was simply too much. A retailer putting customers above fatter margins when those costs could quite easily be passed along? That simply did not compute for investors, which sent the shares down 4% in the pre-market, despite healthy year-on-year revenue and earnings growth. The second share drop within a week came after the company announced that not only was it going to be closed this Thanksgiving, it will remain closed on the holiday in future years as well. What century does Cornell think he is living in? That shaved another 4% or so off of the share price. Two excellent decisions met with derision. That sounds about right.
Some days we watch and listen to an endless stream of malleable, weak, milquetoast CEOs as they contort themselves into odd shapes to prove how enlightened they are. And other days we come in and see something refreshing: true leadership. Cornell's skill at the helm is a major reason why Target remains a shining star in the Penn Global Leaders Club.
Global Strategy: Middle East
07. "Insanity" is how Erdogan's demanded rate cuts in the face of 20% Turkish inflation is being described
To set the stage: Turkey is not a US ally, despite that country's longstanding NATO membership. Under the mercurial leadership of President Recep Tayyip Erdogan, Russia seems to have more influence than does the West, despite Turkey's desire to be seen as part of the EU rather than the Middle East. Under that backdrop comes the bizarre economic situation going on in the country of 85 million people. The main reason that the central bank in the US will probably raise rates at least twice next year is to dampen the rate of inflation, which is currently well above the 2% target range. In Turkey, inflation is running at a nightmarish (for consumers) pace of 20%, so what does Erdogan do? He orders the country's central bank to lower rates. Hence the claims of insanity. And for anyone who believes that the president didn't order the cuts consider this: he has fired three central bank chiefs in the past two years for daring to question his monetary views. Erdogan's defense is that he is waging "an economic war of independence." His strange war has had quite the impact on the Turkish lira, which is now trading at 13:1 versus the US dollar. So, for the unfortunate Turkish worker, this means that their paycheck is being watered down on a daily basis while prices at the local bazar or supermarket are simultaneously going up on a daily basis. A recipe for disaster. Somehow, despite the economic nightmare, Erdogan has still managed to finance the expensive purchase of a Russian-made S-400 missile defense system—a system designed to thwart the most advanced US fighters. To counter the move, the US has removed Turkey from the F-35 joint strike fighter program at a cost of half a billion dollars. The only good news about the economic situation Erdogan is causing within his country is that he will be forced to play defense, taking time away from his mental musings on how to foment more trouble in the region.
It is going to take an uprising by the Turkish people to remove Recep Tayyip Erdogan from power. Despite the fact that his second five-year term, which will end in 2023, should make him ineligible for running again, any bets on who will still be the Turkish president in 2024 and beyond? While that country's constitution prohibits a third term, when has a legal document ever stopped a dictator? Look no further than Vlad Putin. As for a Turkish uprising, sadly, look no further than Venezuela for evidence that those odds, despite the human suffering, are slim to none.
Economics: Work & Pay
06. Trying to dissect the Rorschach test that was the November jobs report
It is always difficult to gauge how investors will react to any given monthly jobs release: a positive report often results in a market downturn, while a lousy one can be a catalyst for gains. Go figure. Even by those standards, November's results and subsequent investor response was a bit strange. Immediately after the release of the jobs survey, which showed a paltry 210,000 new jobs being created in the country against expectations for gains of 550,000, futures rose. This was based on the assumption that the Fed would back off of their threat to end their bond buying program quicker than the current reduction of $15 billion per month. Within the details of the report, however, came some good news: the labor force participation rate—the percentage of Americans of working age either already employed or looking for work—rose to 61.80%, which is the highest level since pre-pandemic. That equates to 600,000 or so Americans re-entering the workforce. Buttressing that point was the household survey section of the report showing that payrolls actually rose by 1.1 million in November. Why the discrepancy? The headline figure represents employers reporting how many hires they had in the month, while the household survey includes individuals moving to self-employed status. In other words, a record number of Americans just started working for themselves. This would also explain why the unemployment rate fell more than expected, to 4.2%. The internals were enough to bring back investors' fear of the Fed tightening quicker than expected to help quell inflation, leading to a 500-point intra-day swing in the Dow. But the Dow's reversal was nothing compared to the NASDAQ and Russell 2000 small-cap index, with each benchmark losing around 2% on the day. It was one of those odd weeks where everything fell in tandem: stocks, bonds, gold, cryptos, and the 10-year Treasury all ended the week in the red.
Following a negative third quarter of the year, a down November for the markets, and a rough start to December, we revisited our January 1st prediction for the year-end S&P 500: 4,300. That would have represented a healthy 14.5% gain on the year. On the Friday of the jobs report, the S&P 500 closed at 4,538, or 238 points above our projection for the year. Granted, anything can happen in any given market week, but we are still looking at a quite strong 2021. The big question for next year will be how investors digest the end of tapering and two to three probable rate hikes.
Interactive Media & Services
05. A visual of the world's largest social media networks and who owns them
Thanks to Visual Capitalist for providing this rather stunning graphic of who actually dominates the explosive world of social media. Shortly before they changed their name to Meta (FB $317), we added shares of $900 billion Facebook back into the Penn Global Leaders Club after a hiatus. Looking beyond the ceaseless attacks by politicians on both sides of the aisle, we believe this company's embrace of the metaverse will lead to a long-term growth trajectory beyond the scope of most analysts' imagination. From a social media usage standpoint, nobody comes close: Meta companies (Facebook, Instagram, WhatsApp, and Messenger) have an aggregate 7.5 billion monthly active users (MAUs), which equates to advertising pricing power miles ahead of the competition. (To be clear, if one person uses all four platforms, as we do, they would be counted four times; still, those numbers are remarkable.) From an individual platform standpoint, Alphabet's (GOOG $2,882) YouTube comes in second to Facebook, with 2.3 billion MAUs. We already own the third largest controlling company on the list, Microsoft (MSFT $326; Skype, LinkedIn, Teams), which continues to be one of our highest conviction names. Skipping over Snap (SNAP $48), which we have never been fond of from an investment standpoint, we come to Twitter (TWTR $45) and its 463M MAUs. Now that Dorsey is gone, we are actually considering picking up some shares of TWTR for the Intrepid Trading Platform. We believe the promotion of Chief Technology Officer Parag Agrawal to the CEO role makes sense for a company which hasn't been able to effectively monetize its business model. Then again, we also thought it made sense for JC Penney to hire Ron Johnson—the guy who created the Apple store model—as CEO, so it is always prudent to wait for evidence of leadership abilities before jumping in. As for the red balls on the list, the Asian names, we wouldn't touch any of them.
At the risk of being labeled a metaverse fanatic, most truly don't understand how the two-dimensional world of social media will morph over the coming years into something truly interactive. Facebook is proven it is all in, which is why it is our number one play in the interactive media and services space.
Application & Systems Software
04. DocuSign shares plunged over 40% in a day; are they a screaming buy right now?
For obvious reasons, shares of DocuSign (DOCU $144), the benchmark in remote document signing technology, skyrocketed during the pandemic-forced lockdown, climbing from $90 in February of last year to $314.76 per share by summer. After a billings miss and a guide-down in the latest quarter, however, the company is now valued at less than half of what is was last year. So, at $144, should investors buy into the story? Although DocuSign has yet to turn a profit, and competing products such as Adobe Sign are gaining traction, the company still posted an impressive revenue growth rate of 50% last quarter. Subscriptions, which give the company a recurring income stream, rose 44% year over year, and over one million customers are now using the e-Signature suite of products. With mass adoption of electronic signatures in virtually every industry, from financial services to health care to government agencies, we tend to agree with management's assessment of a $50 billion total addressable market (TAM), meaning there is still enormous growth potential ahead. Will DocuSign continue to be the company eating away at most of that TAM? Despite so many throwing in the towel after the latest earnings report, we believe they will.
While we do not currently own DocuSign in any of the Penn Portfolios (we do own competitor Adobe in the Global Leaders Club), we do believe the shares will rise back to the $250 range before long. That would signify a 70% jump from the current share price.
Textiles, Apparel, & Luxury Goods
03. Allbirds was overpriced from the start, which is one reason its shares have been slashed in half
We are constantly scanning the IPO calendar, looking for under-the-radar names that won't be devoured by investors at the initial open, driving prices to outrageous levels. Allbirds (BIRD $16) seemed like it had potential; after all, who would get too excited about an athletic footwear maker going public? After pricing 20 million shares at $15 apiece the night before the big debut, we decided to buy in if they fell to the $10-$12 range after trading began. Instead, retail investors gobbled BIRD shares up right out of the gate, driving the price up to an intraday high of $32.44 on the third of November. So much for that trade. One month later, on the 3rd of December, shares had dropped to $13.91 intraday—a 57% course correction. So, are we entertaining the trade once again? Not really. Allbirds shoes are pretty cool, and sales continue to be strong despite the fact they don't believe in discounting the price. The company's self-proclaimed raison d'être is to bring the world eco-friendly and environmentally-sourced shoes. It is hard to go a paragraph deep into any of their ads or press releases without reading the word "sustainability." While management's efforts in this area may be commendable, their words might carry more weight if such a large percentage of Allbirds products weren't made in China—not exactly the ESG capital of the world. In the company's first earnings report since going public, sales came in at $63 million for the quarter funneling down to a net loss of $14 million. For comparison's sake, in its latest quarter $1.1 billion footwear retailer Designer Brands (DBI $16) notched sales of $817 million and had a positive net income of $43 million. Despite its current "discount" from highs, Allbirds seems ripe for another turn downward in the next general market correction.
IPO days for companies we are interested in can be stressful. Trading volatility is high, and the stock price can literally double on the first tick out of the gate. Patience is paramount; if you are priced out (based on your mental buy price) immediately, be patient, as you will have another chance to buy in at a lower price. Even with companies such as Facebook and Tesla, this has always been the case. Use the emotions of others to create wealth in the markets rather than letting your own cloud your judgment.
Pharmaceuticals
02. Pfizer lab studies show third dose of vaccine (the booster) effectively neutralizes the omicron variant of disease
Futures went from negative to positive on Wednesday after pharma giant Pfizer (PFE $51) announced that its lab studies have shown a third dose of the company's Covid-19 vaccine, otherwise known as the booster shot, effectively neutralizes the highly-transmissible omicron strain of the disease. Uncertainty about and fear over the strain helped wreak havoc on markets over the prior two weeks. Researchers at the New Jersey-based firm observed a massive drop in effectiveness of just two doses of the vaccine against this latest strain, yet those who received the booster showed a restored level of protection. Nonetheless, Pfizer continues work on an omicron-targeted shot which may be ready as soon as early spring. More good news: it now appears that the current variant spreading throughout the world, despite its rate of transmission, is less virulent than prior strains, meaning fewer deaths and hospitalizations. On the heels of the Pfizer test results, Cantor Fitzgerald reiterated its Overweight rating on the company and $61 price target on the shares, noting that "...Pfizer's vaccine sales for Covid-19 remain underappreciated by the Street." We couldn't agree more.
Presently, there are some real bargains in the pharmaceutical and biotech space. It is as though investors believe that the entire industry rests on what happens next with respect to Covid-19. Meanwhile, the pipeline of therapies being developed for other life-threatening diseases and maladies has never been deeper. IBB, a cap-weighted ETF of biotech companies, is down 1% on the year, while XBI, an equal-weighted basket of 188 biotechs (and our preferred vehicle in the space) is down over 17% year-to-date. That smells like opportunity.
Economics: Supply, Demand, & Prices
01. The highest inflation rate in forty years didn't dampen the markets
We expected the CPI numbers for November to be bad, and they were. Hitting a rate not seen since 1982, the US Department of Labor announced that the consumer price index (CPI), which measures what consumers pay for a wide swath of goods and services, rose 6.8% annualized in November—the sixth-straight month in which the inflation rate was above 5%. For reference, the Fed's inflation target sits at 2%, and we all recall how "stubbornly low," to use Powell's own words, it was not that long ago. Even stripping food and energy out of the mix, the rate still climbed to 4.9%. What is leading the inflationary charge? Homes are up nearly 20% year-on-year, new vehicles 11%, used vehicles 27%, and fast food prices 8%—just to give a few examples. Unfortunately, while wages have climbed, they are not matching the jump in the price of goods. The Atlanta Fed reported that wage growth was 4.3% in November, annualized.
Oddly enough, the markets largely ignored Friday's CPI release, with the three major indexes (the small caps did not participate) gaining ground on the day. For the week, even the beaten-down Russell 2000 pulled out a gain of 0.76%. Meanwhile, the S&P 500, the DJIA, and the NASDAQ all reclaimed ground not seen since before the prior two week market downturn. We have three weeks left in the month, but December is suddenly looking like it might bring its usual dose of holiday cheer to investors. Of course, next week's Fed meeting could throw a monkey wrench into the works: Fed Chair Powell is highly expected to speed up the rate of taper, perhaps from $15 billion per month to $30 billion per month, which would end the bond buying program by March. Stay tuned.
With the taper now expected to end by next March, economists are raising their expectations for rate hikes next year. The general consensus is one hike by early summer, and two beyond that in 2022. Where will it end? When the target Fed funds rate gets to 2% to 2.5% (the upper band is at 0.25% now), we expect the Fed to halt. Of course, anything can happen between now and that point in time.
Under the Radar Investment
Zimmer Biomet Holdings (ZBH $124)
Zimmer Biomet designs, manufactures, and markets orthopedic reconstructive implants, as well as needed supplies and surgical equipment for orthopedic surgery. The hands-down leader in the field, not only in the United States, but also in Europe and Japan, Zimmer owns some 4,500 patents and applications worldwide. With a highly motivated salesforce and under the strong leadership of CEO Bryan Hanson, we believe the company will continue to solidify its benchmark position. Over the trailing twelve months, Zimmer had sales of $7.9 billion and a net profit of $819 million. We believe the shares of this recession-resistant company are worth $200, or 61% more than their current trading price.
Answer
John and Henry Churchill leased 80 acres of land in Louisville, Kentucky to their nephew, Colonel Meriwether Lewis Clark Jr., grandson of explorer William Clark, in 1874. Clark happened to be president of the Louisville Jockey Club and Driving Park Association, and proceeded to build Churchill Downs, which opened in 1875. The first Kentucky Derby was held that same year at the field. With the infield open for the race, capacity at Churchill Downs is roughly 170,000.
Headlines for the Week of 07 Nov — 13 Nov 2021
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The last time inflation was this hot...
With inflation at its highest level since December of 1990, let's take a trip down memory lane. What was the top-grossing movie in that month, 31 years ago? Hint: It had somewhat of a Christmas-related theme.
Penn Trading Desk:
Penn: Close American Campus Communities in the Strategic Income Portfolio
In the summer of 2020, rumors of kids not returning to dorm rooms in fall began circulating throughout the financial press. These concerns hammered our favorite student housing REIT, American Campus Communities (ACC $54). We never bought into the hype, and added ACC to the Strategic Income Portfolio (it had a dividend around 5%) at $34.43 per share. Now, with shares sitting near their 52-week high and carrying a lofty valuation, we took our 57% profit off the table. We still believe in the company, but the shares seem a bit rich to us at this level. Additionally, we are building our cash position.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Leisure Equipment, Products, & Facilities
10. If you were upset that you missed Peloton's massive share price run-up, you have been given a second chance
We added exercise equipment company Peloton (PTON $50) to the Intrepid Trading Platform way back in February of 2020 (which seems like a lifetime ago) at $29.11 per share. While we had a nice gain in the position, we certainly missed the majority of the run-up as it rocketed all the way to $167.42 in the early days of the pandemic. The company makes the best-selling treads and stationary bikes on the market, but we have had misgivings about its rather mandatory subscription service—it costs $39 per month and the hardware/software interface makes it difficult to do without. As could be expected, the return to some semblance of normalcy has led to a resurgence in gym memberships and a slew of lowered price targets for this "stay-at-home" play. The company has also dealt with recalls following the well-publicized safety issues of its pricey Tread+ and an ongoing battle with the Consumer Product Safety Commission. The company's problems hit a crescendo last week when Peloton's management team lowered full-year guidance and reported a net loss of $376 million for the latest quarter. With most analysts slashing their price targets nearly in half, and the shares falling 70% from their intraday highs of 14 Jan 2021, is the damage done or does this portend more pain ahead? That will depend on how management responds to its three imminent threats: increased competition in the space, safety issues, and a consumer base ready to get back out into the world.
As we write this, PTON shares have fallen to the $50 range. The company, for all of its challenges, is not going anywhere, and we believe it will effectively deal with its issues. It should be noted that the company sells a large percentage of its equipment to health clubs, universities, and hotels—though it doesn't give investors a breakout of its commercial sales. Additionally, Peloton just completed its $$420 million acquisition of Precor, an exercise equipment manufacturer which primarily sells to commercial entities such as hotel chains, picking up 625,000 square feet of manufacturing space in the process. While we don't currently own PTON in any Penn strategy, $50 seems like a tempting buy point.
Fintech
09. PayPal's Venmo unit strikes deal with Amazon to become a payment option at checkout; we remain bullish
Just last month we were talking about PayPal's (PYPL $229) supposed $40 billion acquisition of Pinterest (PINS $47). While the company quickly quelled those rumors, we do believe they were actually interested in buying the social media platform. Feeling the heat from competitors such as Square (SQ $237), which recently paid $29 billion for buy now-pay later firm Afterpay, the company desperately wants to expand its fintech offerings. While that transaction never happened, the company's Venmo unit did just notch a big victory: it inked a deal with online behemoth Amazon (AMZN $3,489) to become a checkout option for customers at Amazon.com. Considering Amazon is responsible for over 40% of online purchases, that is a pretty big deal. PayPal made the announcement during its mixed-quarter earnings report. While revenues in Q3 rose from $5.46 billion to $6.18 billion year-on-year, that 13% increase fell slightly below analyst expectations. Profits, however, did beat expectations of $1.07/share, with net revenue actually jumping to $1.11/share. Shares were little changed after hours following the earnings report and the announcement. PayPal was spun off from eBay six years ago and has 377 million active accounts, including 29 million merchant accounts.
For some reason, PayPal has been portrayed by many as "old school" fintech. That is simply inaccurate. It is a $270 billion fintech giant, and the leader in the secure online payment space. While we were sorry to see the Pinterest deal fail to manifest, management is not done searching for a good fit. CEO Dan Schulman will not sit idly by while new upstarts eat into his company's market share. We place a fair value on PYPL shares at $300, but investors may want to see if continued Wall Street pessimism pushes them down to the $200 range before considering a purchase.
Industrial Conglomerates
08. Following 1-8 reverse split, GE now says it will split into three firms
Just three months ago, storied industrial giant General Electric (GE $116) performed a 1-8 reverse split, making its shares magically go from $13 to $105 in an instant. Now, GE's management team has announced another split: the company itself will be divided into three parts. The GE name will live on in the new aviation company, while the healthcare and energy units will become separate entities. All of these moves, however, won't allow the disparate companies to escape from the aggregate debt racked up by years of mismanagement; debt which could not be erased by the continual fire-sale of units, such as the 2016 sale of GE Appliances to Chinese conglomerate Haier for $5.6 billion, or the sale of GE lighting to Savant Systems in 2020 for an undisclosed amount. At least Savant is manufacturing the light bulbs in the US (as evidenced by an old package of GE bulbs which reads, "Made in China," versus a newer package we found which reads, "Made in USA"). While the spinoff of the healthcare unit won't take place until the end of 2023, and the energy spinoff won't happen until the end of 2024, investors cheered the move by driving GE shares up 6% in the pre-market following the announcement. CEO Larry Culp told Barron's, "It is a wow sort of day." That is about the response we would have expected. At least we didn't have to listen to Jeffrey Immelt bloviating some long-winded response from the cabin of one of his two personal corporate jets.
What would we do if we still held GE shares in any of the Penn strategies? Take the spike in price as an opportunity to exit the position. We certainly wouldn't wait around three years for the completion of the spinoffs. As for GE, with Culp running one company, perhaps the board should invite the other two post-Jack Welch CEOs—Immelt and Flannery—to take the respective helm of the other firms.
Hotels, Resorts, & Cruise Lines
07. Airbnb prepares for "golden age of travel" with new tools built around the hybrid work environment
We fully planned to add shares of Airbnb (ABNB $195) to one of the Penn strategies on its long-anticipated IPO day. Alas, it shot out of the gate so quickly that we could not justify the rich valuation. The company has inarguably changed the travel landscape, with its platform boasting some 5.6 million active accommodation listings worldwide. While the major hotel chains have effectively fought back to avoid losing market share, and a number of competitors have since tried to replicate their business model, we remain bullish on the company's long-term strategy. To that end, the $124 billion travel/tech firm has announced the rollout of some 50 new features designed to take advantage of the new, post-covid world; a world in which remote work is no longer the exception, and a large percentage of travel has morphed into a business/leisure affair. The company is placing a greater focus on its customers who book long-term stays of four weeks or longer, as that is now its fastest-growing segment. The suite of new tools will include the ability to verify wi-fi speeds to assure an effective work environment, and a listings search which will now go out a year into the future. For hosts, Airbnb is rolling out AirCover, an insurance program which offers $1 million in both damage protection and liability coverage, as well as "deep-cleaning" protection. As for the company's third-quarter earnings, they were off the charts. Revenues came in at $2.24 billion versus $1.34 billion in the same quarter of 2020 (+67%), and profits rose 280% y/y for the quarter, to $834 million. The company gave bullish guidance for Q4, with expectations that the rosy projections will carry into 2022.
Morningstar places the fair value of ABNB shares at $102. While we don't buy into that valuation, a price floating around $200 per share is still too rich for us. Looking elsewhere in the industry, our favorite hotel chain—Hilton Worldwide (HLT)—also seems richly priced at $147 per share (1,200 P/E). Ditto online travel agency Booking Holdings (BKNG $2,641), with its 288 multiple. Our advice? Wait for the inevitable pullback in these travel names.
Economics: Supply, Demand, & Prices
06. Inflation on the price of consumer goods just came in scorchingly hot; is it a blip or cause for serious concern?
Anyone who fills their tank, shops for groceries, pays their rent, or—gulp—needs a new or used car knows that inflation is a reality. Forget the anecdotal stories, here is the data: the US Department of Labor just announced that consumer prices surged 0.9% from September to October, driving the y/y rate up to 6.2%. That marks the highest rate since December of 1990, and the fastest pace of inflation since the summer of 1982. The rate even exceeded the 5.4% spike economists had projected. As for the ten million missing workers in the US, expect the price of goods to drive them back to their well-paying jobs soon. Serious supply chain issues certainly play a major role in the price spike, but the upward pressure on wages is another major factor; industries across all sectors are being forced to pay their workers more. While the supply chain issues should begin to subside by early next year, the higher wages are probably here to stay, which is good news in itself, but tempered by the fact that inflation is eating away at those wages. Management teams have been echoing the same sentiment: price increases must be passed along to the consumer, and the pricing power is in place to allow those increases without facing much pushback. In other words, Americans seem willing to pay more for lumber, autos, travel, and Christmas gifts this year. The Fed has already implemented its plan to reduce bond buying by $15 billion per month until it hits zero, and telegraphed plans to begin raising interest rates by late next year. If inflation reports keep coming in hot, however, they may need to quicken their pace. And that is a specter investors may not be prepared to handle with aplomb.
Products such as gasoline may be inelastic, but we believe inflation across the board will cause shoppers to become more sensitive to higher prices on easily-substituted goods and services. And the online shopping genie is out of the bottle, meaning consumers can perform their due diligence with ease. While the days of the Fed worrying about sub-2% inflation may be gone, the fears of long-lasting and severe price jumps have been overblown. This is not the 1970s all over again. From an investment standpoint, we have increased our allocation to the financial sector, which will be one of the areas poised to gain by higher interest rates.
Automotive
05. Making sense of Elon Musk's tweet asking followers whether or not he should sell 10% of his Tesla shares
Last Saturday, Elon Musk posed the following question to his 63.3 million Twitter followers: "Much is made lately of unrealized gains being a means of tax avoidance, so I propose selling 10% of my Tesla stock. Do you support this?" In a roughly 60/40 split, with 3.5 million voters (including us, we voted in the affirmative), the answer was "yes." While we wouldn't label the tweet as a gimmick, as many business journalists have, it is true that Musk really has no choice but to sell a good portion of his shares. Due to Tesla's achievement of some remarkably high targets, Musk has around 23 million vested stock options from 2012 with a strike price of roughly $6 per share. These options will expire next year, so he must exercise them and take the ordinary income (not realized gain) tax hit on the difference between $6 and the share price when he sells. Considering the shares are currently trading around $1,082, that tax bill we be enormous. In fact, it will probably be the largest single tax bill paid by an individual in history. (Though we doubt he will get a thank you card from the IRS or any politicians on the Hill.) Tesla also hit challenging targets which gave Musk options to purchase another 101 million shares at around $70 per share. These were issued in 2018, and represent about 5% of all outstanding shares.
In trading action this week, Musk sold approximately 5 million of his Tesla shares, grossing him around $5 billion. Between the federal government and the state of California, and between ordinary income tax and capital gains, about 54% of that amount will disappear in the form of taxes. Musk, who has never taken a salary from Tesla, once famously quipped to his brother Kimbal, who had asked him for a loan, "You do know that I don't actually have any cash, right? I have to borrow." While his trades this week will certainly put some cash in his pocket, we fully expect him to make good on his promise to live by the results of the twitter poll; if for no other reason than to pay the $7 billion or so the IRS will soon come calling for due to his remaining options. Even after all of the sales are complete, Musk will still own around 15% of outstanding TSLA shares, or more than double the amount of the next largest shareholder, Vanguard Group. Last month, Elon Musk became the first person in the world to achieve a net worth in excess of $300 billion, eclipsing that of the second-place Jeff Bezos, who is worth around $200 billion.
Even at $1,085 per share, we still consider Tesla, which we own in the Penn New Frontier Fund, a buy. All of the critics who argue that Ford, GM, Volkswagen, and a slew of startups will end up dooming the company seem to assume that Tesla will simply stand still. As usual, they will be proven grossly wrong. We would place the current fair value of TSLA shares at $1,800.
Media & Entertainment
04. Disney shares hit a ten-month low following an unexpectedly-rough quarter
Our lack of confidence in Disney's (DIS $162) new management team has been well articulated. It has been clear in our writings that we have little confidence in the company's new CEO, former parks head Bob Chapek, to lead the American icon going forward. Perhaps we received the first hard evidence of that view via the company's fiscal Q4 earnings report. The company missed on both the top and bottom lines, and it was downhill from there. While revenues grew 26% y/y for the quarter, to $18.5 billion, analysts were expecting more, especially considering the park restrictions due to covid in the same quarter of last year. Earnings per share came in a whopping 73% below estimates, at $0.37 adjusted. But the worst news, perhaps, came in the subs figure for the Disney+ streaming service. After adding 12 million new subscribers in the previous quarter, the company added just 2.1 million new subs in fiscal Q4. That is around 9.4 million fewer than analysts were expecting. The average monthly revenue per subscriber (ARPS) for Disney+ also dropped year-on-year, to $4.12, thanks to special bundle pricing for the Indonesia and India markets. Certainly, the return to the office for millions of Americans had an impact on the muted numbers, and park activity will continue to pick up, but investors gave a thumbs-down to the earnings report: Disney shares fell 7% in the following session, hitting a new ten-month low.
Disney was a company we never wanted to remove from the Penn Global Leaders Club; but, like Boeing, General Electric, and McDonald's, concerns over management forced us to make the move. After the big drop, are the shares undervalued? We don't believe so. Perhaps we will take another look if they get down below their 52-week low of $134.
Global Strategy: Eastern Europe
03. The US has warned Europe to be prepared for a potential Russian invasion of Ukraine
Russia's mercurial de facto dictator, Vladimir Putin, doesn't need an excuse to cause problems and wreak havoc, but he currently has two: a migrant issue and a pipeline issue. And, according to the Biden administration, Ukraine might be the battleground. The US has warned its Western allies in Europe that Russia is building up its forces near the Ukrainian border, and some level of military operations in the country—to include a possible invasion, may be in the cards. On the energy front, tensions have been heated between Western Europe and Russia, which provides nearly half of the natural gas to countries such as Germany. (Poland, it should be noted, receives most of its natural gas from the United States, after shunning Russia's Gazprom.) Putin is demanding that European regulators immediately approve the already-built Nord Stream 2 gas pipeline which runs between Russia and Germany. Despite Europe's severe gas crunch and skyrocketing LNG prices, the pipeline is in limbo due to Germany's new left-leaning government which is currently being formed. The US and Ukraine have vehemently opposed the pipeline. On the migrant front, thousands of Belarus refugees have flocked to that Russian ally's border with Poland in an attempt to get into Western Europe. Poland, a staunch US ally, has held firm on the issue, with full backing from the EU. This has enraged the president of Belarus, Alexander Lukashenko, who is now threatening to cut off LNG supples from another pipeline which travels from Russia to the West. All of this comes at a time when energy prices are at multi-year highs, meaning Russia, which has an energy-based economy, is suddenly feeling even more emboldened than usual.
For all of America's challenges, Europe is currently getting hit with crises on all sides of the economic spectrum, from a new wave of the pandemic to the severe energy problems. Granted, many of these challenges are from self-inflicted wounds, but the best course of action they could take right now is to make Putin understand that military action on his western front will not be tolerated. Sadly, the historical record of Europe standing up to bullies is spotty, at best.
Specialty REITs
02. Penn member American Tower to buy data center REIT CoreSite Realty in $10 billion deal
We purchased specialty REIT American Tower Corp (AMT $261), owner and operator of over 185,000 cell towers around the world, back in March of this year. The addition took advantage of two of our favorite themes: real estate and 5G technology. After hitting our initial target price within eight months, the company made a move we fully embrace: it will acquire data center REIT CoreSite Realty for $170 per share in cash—roughly $8.3 billion—plus the assumption of its $2 billion or so of debt. We believe it was a smart move by a skilled management team, led by AMT CEO Tom Bartlett. With the bolt-on acquisition of CoreSite, AMT will add data and cloud management capabilities to its offering mix, fully complimenting its wireless communications business. We suddenly find ourselves with two of our favorite growth drivers in the REIT world—5G towers and data centers—morphed into one position within the Penn Global Leaders Club. Furthermore, the company's reach is truly global, with 75,000 towers in Asia/Pacific, 43,000 in North America, 42,000 in Latin America, 20,000 in Africa, and 5,000 in Europe. For its part, CoreSite operates 24 data centers in major urban hubs such as Boston, New York, Miami, Chicago, and Los Angeles.
AMT shares are down about 4% on the news, as is typical for an acquiring company immediately after a deal has been announced. For investors who have missed the run-up to this point, we believe the shares remain in an attractive buy range. REITs are an important part of a portfolio, but we are highly concerned about the rapidly-changing landscape for retail and office REITs. Data centers and towers, as mentioned, will be two of the strongest growth drivers for the industry going forward.
Food Products
01. Oatly shares just plummeted another 21% in one session, now down 68% from their high
We first wrote about oat milk products company Oatly Group AB (OTLY $9) when the Swedish firm went public back in May. After the IPO priced at $17, shares rose 37% almost immediately. By the 16th of June, they had topped out at an intra-day high of $29 per share. We believed they were overvalued from day one, and reminded investors of the competition in the space. Just because a company appears to be in the stream of a fast moving theme—like plant-based products, they are not automatically good investment candidates. That is a story we have seen in constant reruns for the past 25 years. Alas, reality just hit OTLY shares after the company reported a revenue miss, greater losses than expected, and a warning from management with respect to the full-year's guidance. On top of the dismal financials, it was also reported that a quality issue in one of Oatly's production facilities will result in destroyed product and lost sales in the EMEA (Europe, Middle East, Africa) region. Perhaps the worst news of all: arch-competitor Chobani has officially filed to go public, and Danone, owner of the Silk brand of plant-based "milks," announced it is doubling-down on its "Oat-Yeah" product line. Oatly had a rough summer; it appears that the company is headed for an ugly winter.
When we first wrote of Oatly's debut, we said the shares were overvalued but might be worth a look if they dropped below $20. They are now sitting at $9.36 and still don't seem like a bargain. We can't figure out what the company's unique value proposition is, and even its commitment to the ESG (the most overused acronym in the global corporate environment) movement is being questioned by the environment police. Shares may seem cheap, but we wouldn't touch them.
Under the Radar Investment
Callaway Golf (ELY $29)
Callaway Golf Company is a mid-cap ($5.5B) leisure products firm dedicated to the game of golf. The company's golf equipment segment manufactures golf balls and clubs, while its apparel and gear segment manufactures golf shoes, clothing, bags, and practice aids. Just a few years ago, articles were written of the sport's imminent demise in the United States, and advice was given on how to extend its lifespan by silly actions such as doubling the size of the hole to make the game easier for inexperienced players. What nonsense. As is so often the case, the self-proclaimed experts were dead wrong, and the 270-year-old sport is going through a renaissance in this country—thanks in part to the pandemic. Another reason for the game's resurgence and popularity among a younger demographic base is a company called Topgolf, a global sports entertainment venue headquartered in Dallas, Texas. With seventy locations throughout the world, these tech-driven operations have created a new generation of golf enthusiasts. Imagine morphing a video game, nightclub, and personal sports experience into one, and you get an idea of why the facilities are so popular. This year, Callaway Golf completed its acquisition of Topgolf for $2.6 billion in stock and announced aggressive—but methodical—expansion plans. At $29 per share, Callaway has a near-single-digit multiple, a strong balance sheet, and a viable growth strategy. Not many leisure companies can boast those attributes. We would put a fair value on ELY shares at $40.
Answer
In December of 1990, America was still in the midst of Operation Desert Shield—it wouldn't turn into a "Storm" until the following month. The top grossing film in December was Home Alone, which grossed $90 million throughout 2,173 theaters, followed by Dances with Wolves, Misery, and Kindergarten Cop.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The last time inflation was this hot...
With inflation at its highest level since December of 1990, let's take a trip down memory lane. What was the top-grossing movie in that month, 31 years ago? Hint: It had somewhat of a Christmas-related theme.
Penn Trading Desk:
Penn: Close American Campus Communities in the Strategic Income Portfolio
In the summer of 2020, rumors of kids not returning to dorm rooms in fall began circulating throughout the financial press. These concerns hammered our favorite student housing REIT, American Campus Communities (ACC $54). We never bought into the hype, and added ACC to the Strategic Income Portfolio (it had a dividend around 5%) at $34.43 per share. Now, with shares sitting near their 52-week high and carrying a lofty valuation, we took our 57% profit off the table. We still believe in the company, but the shares seem a bit rich to us at this level. Additionally, we are building our cash position.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Leisure Equipment, Products, & Facilities
10. If you were upset that you missed Peloton's massive share price run-up, you have been given a second chance
We added exercise equipment company Peloton (PTON $50) to the Intrepid Trading Platform way back in February of 2020 (which seems like a lifetime ago) at $29.11 per share. While we had a nice gain in the position, we certainly missed the majority of the run-up as it rocketed all the way to $167.42 in the early days of the pandemic. The company makes the best-selling treads and stationary bikes on the market, but we have had misgivings about its rather mandatory subscription service—it costs $39 per month and the hardware/software interface makes it difficult to do without. As could be expected, the return to some semblance of normalcy has led to a resurgence in gym memberships and a slew of lowered price targets for this "stay-at-home" play. The company has also dealt with recalls following the well-publicized safety issues of its pricey Tread+ and an ongoing battle with the Consumer Product Safety Commission. The company's problems hit a crescendo last week when Peloton's management team lowered full-year guidance and reported a net loss of $376 million for the latest quarter. With most analysts slashing their price targets nearly in half, and the shares falling 70% from their intraday highs of 14 Jan 2021, is the damage done or does this portend more pain ahead? That will depend on how management responds to its three imminent threats: increased competition in the space, safety issues, and a consumer base ready to get back out into the world.
As we write this, PTON shares have fallen to the $50 range. The company, for all of its challenges, is not going anywhere, and we believe it will effectively deal with its issues. It should be noted that the company sells a large percentage of its equipment to health clubs, universities, and hotels—though it doesn't give investors a breakout of its commercial sales. Additionally, Peloton just completed its $$420 million acquisition of Precor, an exercise equipment manufacturer which primarily sells to commercial entities such as hotel chains, picking up 625,000 square feet of manufacturing space in the process. While we don't currently own PTON in any Penn strategy, $50 seems like a tempting buy point.
Fintech
09. PayPal's Venmo unit strikes deal with Amazon to become a payment option at checkout; we remain bullish
Just last month we were talking about PayPal's (PYPL $229) supposed $40 billion acquisition of Pinterest (PINS $47). While the company quickly quelled those rumors, we do believe they were actually interested in buying the social media platform. Feeling the heat from competitors such as Square (SQ $237), which recently paid $29 billion for buy now-pay later firm Afterpay, the company desperately wants to expand its fintech offerings. While that transaction never happened, the company's Venmo unit did just notch a big victory: it inked a deal with online behemoth Amazon (AMZN $3,489) to become a checkout option for customers at Amazon.com. Considering Amazon is responsible for over 40% of online purchases, that is a pretty big deal. PayPal made the announcement during its mixed-quarter earnings report. While revenues in Q3 rose from $5.46 billion to $6.18 billion year-on-year, that 13% increase fell slightly below analyst expectations. Profits, however, did beat expectations of $1.07/share, with net revenue actually jumping to $1.11/share. Shares were little changed after hours following the earnings report and the announcement. PayPal was spun off from eBay six years ago and has 377 million active accounts, including 29 million merchant accounts.
For some reason, PayPal has been portrayed by many as "old school" fintech. That is simply inaccurate. It is a $270 billion fintech giant, and the leader in the secure online payment space. While we were sorry to see the Pinterest deal fail to manifest, management is not done searching for a good fit. CEO Dan Schulman will not sit idly by while new upstarts eat into his company's market share. We place a fair value on PYPL shares at $300, but investors may want to see if continued Wall Street pessimism pushes them down to the $200 range before considering a purchase.
Industrial Conglomerates
08. Following 1-8 reverse split, GE now says it will split into three firms
Just three months ago, storied industrial giant General Electric (GE $116) performed a 1-8 reverse split, making its shares magically go from $13 to $105 in an instant. Now, GE's management team has announced another split: the company itself will be divided into three parts. The GE name will live on in the new aviation company, while the healthcare and energy units will become separate entities. All of these moves, however, won't allow the disparate companies to escape from the aggregate debt racked up by years of mismanagement; debt which could not be erased by the continual fire-sale of units, such as the 2016 sale of GE Appliances to Chinese conglomerate Haier for $5.6 billion, or the sale of GE lighting to Savant Systems in 2020 for an undisclosed amount. At least Savant is manufacturing the light bulbs in the US (as evidenced by an old package of GE bulbs which reads, "Made in China," versus a newer package we found which reads, "Made in USA"). While the spinoff of the healthcare unit won't take place until the end of 2023, and the energy spinoff won't happen until the end of 2024, investors cheered the move by driving GE shares up 6% in the pre-market following the announcement. CEO Larry Culp told Barron's, "It is a wow sort of day." That is about the response we would have expected. At least we didn't have to listen to Jeffrey Immelt bloviating some long-winded response from the cabin of one of his two personal corporate jets.
What would we do if we still held GE shares in any of the Penn strategies? Take the spike in price as an opportunity to exit the position. We certainly wouldn't wait around three years for the completion of the spinoffs. As for GE, with Culp running one company, perhaps the board should invite the other two post-Jack Welch CEOs—Immelt and Flannery—to take the respective helm of the other firms.
Hotels, Resorts, & Cruise Lines
07. Airbnb prepares for "golden age of travel" with new tools built around the hybrid work environment
We fully planned to add shares of Airbnb (ABNB $195) to one of the Penn strategies on its long-anticipated IPO day. Alas, it shot out of the gate so quickly that we could not justify the rich valuation. The company has inarguably changed the travel landscape, with its platform boasting some 5.6 million active accommodation listings worldwide. While the major hotel chains have effectively fought back to avoid losing market share, and a number of competitors have since tried to replicate their business model, we remain bullish on the company's long-term strategy. To that end, the $124 billion travel/tech firm has announced the rollout of some 50 new features designed to take advantage of the new, post-covid world; a world in which remote work is no longer the exception, and a large percentage of travel has morphed into a business/leisure affair. The company is placing a greater focus on its customers who book long-term stays of four weeks or longer, as that is now its fastest-growing segment. The suite of new tools will include the ability to verify wi-fi speeds to assure an effective work environment, and a listings search which will now go out a year into the future. For hosts, Airbnb is rolling out AirCover, an insurance program which offers $1 million in both damage protection and liability coverage, as well as "deep-cleaning" protection. As for the company's third-quarter earnings, they were off the charts. Revenues came in at $2.24 billion versus $1.34 billion in the same quarter of 2020 (+67%), and profits rose 280% y/y for the quarter, to $834 million. The company gave bullish guidance for Q4, with expectations that the rosy projections will carry into 2022.
Morningstar places the fair value of ABNB shares at $102. While we don't buy into that valuation, a price floating around $200 per share is still too rich for us. Looking elsewhere in the industry, our favorite hotel chain—Hilton Worldwide (HLT)—also seems richly priced at $147 per share (1,200 P/E). Ditto online travel agency Booking Holdings (BKNG $2,641), with its 288 multiple. Our advice? Wait for the inevitable pullback in these travel names.
Economics: Supply, Demand, & Prices
06. Inflation on the price of consumer goods just came in scorchingly hot; is it a blip or cause for serious concern?
Anyone who fills their tank, shops for groceries, pays their rent, or—gulp—needs a new or used car knows that inflation is a reality. Forget the anecdotal stories, here is the data: the US Department of Labor just announced that consumer prices surged 0.9% from September to October, driving the y/y rate up to 6.2%. That marks the highest rate since December of 1990, and the fastest pace of inflation since the summer of 1982. The rate even exceeded the 5.4% spike economists had projected. As for the ten million missing workers in the US, expect the price of goods to drive them back to their well-paying jobs soon. Serious supply chain issues certainly play a major role in the price spike, but the upward pressure on wages is another major factor; industries across all sectors are being forced to pay their workers more. While the supply chain issues should begin to subside by early next year, the higher wages are probably here to stay, which is good news in itself, but tempered by the fact that inflation is eating away at those wages. Management teams have been echoing the same sentiment: price increases must be passed along to the consumer, and the pricing power is in place to allow those increases without facing much pushback. In other words, Americans seem willing to pay more for lumber, autos, travel, and Christmas gifts this year. The Fed has already implemented its plan to reduce bond buying by $15 billion per month until it hits zero, and telegraphed plans to begin raising interest rates by late next year. If inflation reports keep coming in hot, however, they may need to quicken their pace. And that is a specter investors may not be prepared to handle with aplomb.
Products such as gasoline may be inelastic, but we believe inflation across the board will cause shoppers to become more sensitive to higher prices on easily-substituted goods and services. And the online shopping genie is out of the bottle, meaning consumers can perform their due diligence with ease. While the days of the Fed worrying about sub-2% inflation may be gone, the fears of long-lasting and severe price jumps have been overblown. This is not the 1970s all over again. From an investment standpoint, we have increased our allocation to the financial sector, which will be one of the areas poised to gain by higher interest rates.
Automotive
05. Making sense of Elon Musk's tweet asking followers whether or not he should sell 10% of his Tesla shares
Last Saturday, Elon Musk posed the following question to his 63.3 million Twitter followers: "Much is made lately of unrealized gains being a means of tax avoidance, so I propose selling 10% of my Tesla stock. Do you support this?" In a roughly 60/40 split, with 3.5 million voters (including us, we voted in the affirmative), the answer was "yes." While we wouldn't label the tweet as a gimmick, as many business journalists have, it is true that Musk really has no choice but to sell a good portion of his shares. Due to Tesla's achievement of some remarkably high targets, Musk has around 23 million vested stock options from 2012 with a strike price of roughly $6 per share. These options will expire next year, so he must exercise them and take the ordinary income (not realized gain) tax hit on the difference between $6 and the share price when he sells. Considering the shares are currently trading around $1,082, that tax bill we be enormous. In fact, it will probably be the largest single tax bill paid by an individual in history. (Though we doubt he will get a thank you card from the IRS or any politicians on the Hill.) Tesla also hit challenging targets which gave Musk options to purchase another 101 million shares at around $70 per share. These were issued in 2018, and represent about 5% of all outstanding shares.
In trading action this week, Musk sold approximately 5 million of his Tesla shares, grossing him around $5 billion. Between the federal government and the state of California, and between ordinary income tax and capital gains, about 54% of that amount will disappear in the form of taxes. Musk, who has never taken a salary from Tesla, once famously quipped to his brother Kimbal, who had asked him for a loan, "You do know that I don't actually have any cash, right? I have to borrow." While his trades this week will certainly put some cash in his pocket, we fully expect him to make good on his promise to live by the results of the twitter poll; if for no other reason than to pay the $7 billion or so the IRS will soon come calling for due to his remaining options. Even after all of the sales are complete, Musk will still own around 15% of outstanding TSLA shares, or more than double the amount of the next largest shareholder, Vanguard Group. Last month, Elon Musk became the first person in the world to achieve a net worth in excess of $300 billion, eclipsing that of the second-place Jeff Bezos, who is worth around $200 billion.
Even at $1,085 per share, we still consider Tesla, which we own in the Penn New Frontier Fund, a buy. All of the critics who argue that Ford, GM, Volkswagen, and a slew of startups will end up dooming the company seem to assume that Tesla will simply stand still. As usual, they will be proven grossly wrong. We would place the current fair value of TSLA shares at $1,800.
Media & Entertainment
04. Disney shares hit a ten-month low following an unexpectedly-rough quarter
Our lack of confidence in Disney's (DIS $162) new management team has been well articulated. It has been clear in our writings that we have little confidence in the company's new CEO, former parks head Bob Chapek, to lead the American icon going forward. Perhaps we received the first hard evidence of that view via the company's fiscal Q4 earnings report. The company missed on both the top and bottom lines, and it was downhill from there. While revenues grew 26% y/y for the quarter, to $18.5 billion, analysts were expecting more, especially considering the park restrictions due to covid in the same quarter of last year. Earnings per share came in a whopping 73% below estimates, at $0.37 adjusted. But the worst news, perhaps, came in the subs figure for the Disney+ streaming service. After adding 12 million new subscribers in the previous quarter, the company added just 2.1 million new subs in fiscal Q4. That is around 9.4 million fewer than analysts were expecting. The average monthly revenue per subscriber (ARPS) for Disney+ also dropped year-on-year, to $4.12, thanks to special bundle pricing for the Indonesia and India markets. Certainly, the return to the office for millions of Americans had an impact on the muted numbers, and park activity will continue to pick up, but investors gave a thumbs-down to the earnings report: Disney shares fell 7% in the following session, hitting a new ten-month low.
Disney was a company we never wanted to remove from the Penn Global Leaders Club; but, like Boeing, General Electric, and McDonald's, concerns over management forced us to make the move. After the big drop, are the shares undervalued? We don't believe so. Perhaps we will take another look if they get down below their 52-week low of $134.
Global Strategy: Eastern Europe
03. The US has warned Europe to be prepared for a potential Russian invasion of Ukraine
Russia's mercurial de facto dictator, Vladimir Putin, doesn't need an excuse to cause problems and wreak havoc, but he currently has two: a migrant issue and a pipeline issue. And, according to the Biden administration, Ukraine might be the battleground. The US has warned its Western allies in Europe that Russia is building up its forces near the Ukrainian border, and some level of military operations in the country—to include a possible invasion, may be in the cards. On the energy front, tensions have been heated between Western Europe and Russia, which provides nearly half of the natural gas to countries such as Germany. (Poland, it should be noted, receives most of its natural gas from the United States, after shunning Russia's Gazprom.) Putin is demanding that European regulators immediately approve the already-built Nord Stream 2 gas pipeline which runs between Russia and Germany. Despite Europe's severe gas crunch and skyrocketing LNG prices, the pipeline is in limbo due to Germany's new left-leaning government which is currently being formed. The US and Ukraine have vehemently opposed the pipeline. On the migrant front, thousands of Belarus refugees have flocked to that Russian ally's border with Poland in an attempt to get into Western Europe. Poland, a staunch US ally, has held firm on the issue, with full backing from the EU. This has enraged the president of Belarus, Alexander Lukashenko, who is now threatening to cut off LNG supples from another pipeline which travels from Russia to the West. All of this comes at a time when energy prices are at multi-year highs, meaning Russia, which has an energy-based economy, is suddenly feeling even more emboldened than usual.
For all of America's challenges, Europe is currently getting hit with crises on all sides of the economic spectrum, from a new wave of the pandemic to the severe energy problems. Granted, many of these challenges are from self-inflicted wounds, but the best course of action they could take right now is to make Putin understand that military action on his western front will not be tolerated. Sadly, the historical record of Europe standing up to bullies is spotty, at best.
Specialty REITs
02. Penn member American Tower to buy data center REIT CoreSite Realty in $10 billion deal
We purchased specialty REIT American Tower Corp (AMT $261), owner and operator of over 185,000 cell towers around the world, back in March of this year. The addition took advantage of two of our favorite themes: real estate and 5G technology. After hitting our initial target price within eight months, the company made a move we fully embrace: it will acquire data center REIT CoreSite Realty for $170 per share in cash—roughly $8.3 billion—plus the assumption of its $2 billion or so of debt. We believe it was a smart move by a skilled management team, led by AMT CEO Tom Bartlett. With the bolt-on acquisition of CoreSite, AMT will add data and cloud management capabilities to its offering mix, fully complimenting its wireless communications business. We suddenly find ourselves with two of our favorite growth drivers in the REIT world—5G towers and data centers—morphed into one position within the Penn Global Leaders Club. Furthermore, the company's reach is truly global, with 75,000 towers in Asia/Pacific, 43,000 in North America, 42,000 in Latin America, 20,000 in Africa, and 5,000 in Europe. For its part, CoreSite operates 24 data centers in major urban hubs such as Boston, New York, Miami, Chicago, and Los Angeles.
AMT shares are down about 4% on the news, as is typical for an acquiring company immediately after a deal has been announced. For investors who have missed the run-up to this point, we believe the shares remain in an attractive buy range. REITs are an important part of a portfolio, but we are highly concerned about the rapidly-changing landscape for retail and office REITs. Data centers and towers, as mentioned, will be two of the strongest growth drivers for the industry going forward.
Food Products
01. Oatly shares just plummeted another 21% in one session, now down 68% from their high
We first wrote about oat milk products company Oatly Group AB (OTLY $9) when the Swedish firm went public back in May. After the IPO priced at $17, shares rose 37% almost immediately. By the 16th of June, they had topped out at an intra-day high of $29 per share. We believed they were overvalued from day one, and reminded investors of the competition in the space. Just because a company appears to be in the stream of a fast moving theme—like plant-based products, they are not automatically good investment candidates. That is a story we have seen in constant reruns for the past 25 years. Alas, reality just hit OTLY shares after the company reported a revenue miss, greater losses than expected, and a warning from management with respect to the full-year's guidance. On top of the dismal financials, it was also reported that a quality issue in one of Oatly's production facilities will result in destroyed product and lost sales in the EMEA (Europe, Middle East, Africa) region. Perhaps the worst news of all: arch-competitor Chobani has officially filed to go public, and Danone, owner of the Silk brand of plant-based "milks," announced it is doubling-down on its "Oat-Yeah" product line. Oatly had a rough summer; it appears that the company is headed for an ugly winter.
When we first wrote of Oatly's debut, we said the shares were overvalued but might be worth a look if they dropped below $20. They are now sitting at $9.36 and still don't seem like a bargain. We can't figure out what the company's unique value proposition is, and even its commitment to the ESG (the most overused acronym in the global corporate environment) movement is being questioned by the environment police. Shares may seem cheap, but we wouldn't touch them.
Under the Radar Investment
Callaway Golf (ELY $29)
Callaway Golf Company is a mid-cap ($5.5B) leisure products firm dedicated to the game of golf. The company's golf equipment segment manufactures golf balls and clubs, while its apparel and gear segment manufactures golf shoes, clothing, bags, and practice aids. Just a few years ago, articles were written of the sport's imminent demise in the United States, and advice was given on how to extend its lifespan by silly actions such as doubling the size of the hole to make the game easier for inexperienced players. What nonsense. As is so often the case, the self-proclaimed experts were dead wrong, and the 270-year-old sport is going through a renaissance in this country—thanks in part to the pandemic. Another reason for the game's resurgence and popularity among a younger demographic base is a company called Topgolf, a global sports entertainment venue headquartered in Dallas, Texas. With seventy locations throughout the world, these tech-driven operations have created a new generation of golf enthusiasts. Imagine morphing a video game, nightclub, and personal sports experience into one, and you get an idea of why the facilities are so popular. This year, Callaway Golf completed its acquisition of Topgolf for $2.6 billion in stock and announced aggressive—but methodical—expansion plans. At $29 per share, Callaway has a near-single-digit multiple, a strong balance sheet, and a viable growth strategy. Not many leisure companies can boast those attributes. We would put a fair value on ELY shares at $40.
Answer
In December of 1990, America was still in the midst of Operation Desert Shield—it wouldn't turn into a "Storm" until the following month. The top grossing film in December was Home Alone, which grossed $90 million throughout 2,173 theaters, followed by Dances with Wolves, Misery, and Kindergarten Cop.
Headlines for the Week of 31 Oct — 06 Nov 2021
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
Purpose-driven spending...
You just purchased a new home and need to select the appliances—refrigerator, washer and dryer, range, dishwasher, microwave—for the joint. You would like to buy products made in North America, Europe, Japan, or South Korea; four regions known for making quality consumer durables. You decide upon the GE Appliances line based on their century-old reputation. Did you meet your objective?
Penn Trading Desk:
Penn: Open educational services company in the Intrepid
We have followed this major American educational services company for the past five years and, while we found it overvalued at recent levels, found it irresistible after lowered guidance and an analyst cut sent shares plummeting. We added this mid-cap growth company to the Intrepid Trading Platform with an initial price target 53% higher than our purchase price, and a secondary price target double our purchase price.
Penn: Open communication services firm in the Global Leaders Club
Oddly enough, we haven't recently held any firms from the Communication Services sector in the Penn Global Leaders Club—a rare condition. We rectified that with a pickup of one of the most controversial companies in America. Here's the way we see it: this behemoth is an income-generating machine, dominates its segment, and has a bold strategic plan for its future. Political correctness be damned, we added this juggernaut to the portfolio with high expectations for future growth.
Penn: Open a US semiconductor powerhouse (not Intel) to the New Frontier Fund
There is a major (and much needed) push underway for increased domestic production of high-tech semiconductor devices and components. We added a US-based manufacturer which will play a major role in the Internet of Things (IoT), 5G, autonomous vehicles, and AI/VR to the New Frontier Fund.
Penn: Open a hammered booze company in the Intrepid
We have watched investors analyze booze companies incorrectly more times than we can count, and our most recent addition to the Penn Intrepid Trading Program is a glaring example. Making a few poor decisions, one on hard seltzer and another on a new beer launch, made investors lose faith; but management matters, and we fully expect this company's exemplary chairman of the board to right his ship.
Penn: Open a regional bank in the Strategic Income Portfolio
Based on the specter of rising rates and not-so-transitory inflation, we have increased our allocation within the Financials sector. To that end, we added a regional bank (Northeastern US) with a clean balance sheet and a hefty dividend yield to our income portfolio. Members, see the Trading Desk.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
eCommerce
10. Netflix is teaming up with Walmart to create a dedicated digital storefront on the retailing giant's website
As Netflix's (NFLX $624) subscriber growth cools, it continues to search for new revenue streams in an effort to become less reliant on the one metric analysts focus on each quarter. To that end, the company has announced a new deal with Walmart (WMT $141) which will result in a dedicated 'Netflix Hub' on the giant retailer's website. The shop will include themed merchandise from its wildly-successful "Squid Game" as well as other recent hits on the streaming service, such as "Stranger Things." Right now, Netflix receives the vast majority of its revenue from the $13.99 paid monthly (more or less, depending on subscription plan) by its 200 million subscribers around the world. The growth of that subscriber base has been leveling out, however, due to saturation and a host of new entrants in the space, from Disney+ to Amazon Prime Video. While CEO Reed Hastings said he doesn't expect the new venture to have a major impact on the company's top line, he believes the real value comes in building user engagement with and excitement for the provider's Netflix Originals, for which it currently spends over $5 billion per year developing. Netflix licenses its intellectual property to select manufacturers in exchange for a cut of the profit. As for Walmart, this deal is part of an overall strategy to increase its online Walmart Marketplace presence by teaming up with brands held in high esteem by consumers. Like the recent deal with Gap, the company hopes to broaden its customer base by attracting a new generation of consumers; primarily younger customers who might have avoided the company's site in the past.
Based on valuations and our current tilt toward more conservative names, we believe Walmart shares look more attractive right now than those of its new marketing partner, Netflix. When another downturn hits the market, we could see NFLX shares falling back into the $400s—at which time they would be worthy of another look.
Communication Services
09. Over the course of twenty years, AT&T shares have dropped 43%; is it time to buy?
Our stop-loss order on AT&T (T $26) shares finally hit this past May at $32, ending a miserable period of holding the once-great telecom company. That stop was fortuitous, as shares have dropped to $26 since we dumped them. At least we had the fat dividend yield (now at 8% based on the share price, though it will be adjusted down after spinoffs), but that is about the only positive aspect of owning the shares since we picked them up. Our super-long-term 26% gain was not worth the wait; the opportunity cost was tremendous. In fact, an investment in the S&P 500 twenty years ago would have given investors just shy of a 500% return, while the same investment in T shares would have lost nearly 50% after two decades, sans the dividend.
Enormous missteps by management—like overpaying for acquisitions they could never quite make fit into the T puzzle, and ignoring serious problems with customer service due to sheer arrogance—have brought us to this point. Other telecom companies have proven that industry flux is not the issue; poor management is the root cause. So, with the shares "dirt cheap," as some analysts have called them, is it time to bet on the storied company? The argument for purchase revolves around the company's plan to slim down and focus its efforts exclusively on telecom services, mainly its 5G wireless network. It already ditched its wildly-expensive DirecTV unit and is about to spinoff its WarnerMedia division, which will become Warner Bros. Discovery. But we have three major arguments against the bull case. First, the company still has a massive debt load of $180 billion, which will only be negligibly alleviated by the Warner spinoff. Second, the company's area of focus going forward is going to be hyper-competitive thanks to new technologies and entrants. Finally, we have about as much faith in the management team at T as we do in the team at Boeing.
It is certainly tempting to pick up shares of T at $26, but we have seen the stock languish for too long to get excited here. It may end up being a multiyear low price, but there are simply too many obstacles facing the lackluster leadership team.
Homes & Durables
08. Zillow falls double digits as it presses pause on its home buying program; competitor Opendoor Technologies jumps*
(UPDATE: Zillow has announced it has exited the home flipping business altogether, sending shares tumbling another 25% on Wednesday. Considering the percentage of revenues generated by the unit, we are even more concerned now than when we wrote this piece on Monday.)
It didn't strike us as a viable reason for the company's shares to fall over 10%, but Zillow's (Z $65) announcement that it would hold off on buying any more homes while it works through a backlog of properties caused the shares to tumble on Monday. Zillow Offers, the company's high-tech buying and flipping unit, purchased nearly 4,000 homes in the second quarter of the year. And the unit is hardly an afterthought: it produced $772 million of the $1.31 billion—or 60%—in total revenue generated over the three-month period. With that in mind, why would management bring buying to a screeching halt? The answer, according to management, revolves around what the company does after purchasing the properties.
One of the biggest headaches for sellers involves evaluating what needs to be repaired or replaced in a home before it is listed. Using its proprietary home value algorithms, Zillow will make homeowners an offer on the spot—no repair or staging required. This means that the company must perform the repairs and prepare the house for sale. While it won't invest in homes with extensive damage or with major needed repairs, COO Jeremy Wacksman told investors that labor and supply constraints have been the major issue. At the end of Q2, the company still had over 3,100 unsold homes with an aggregate value north of $1 billion in its inventory. Competitor Opendoor Technologies (OPEN $24), meanwhile, purchased over 8,000 homes in Q2 and has contracts on another 8,000 or so. It should be noted that Opendoor just went public last December, and is using the infusion of cash from its IPO to help purchase the large number of homes.
There are a number of different aspects to this story (to include how these iBuyers get paid), which we will delve into deeper in the next Penn Wealth Report. In short, we don't necessarily believe the pullback presents a good buying opportunity. Investors clearly thought the pause was a negative, shedding Z shares and buying OPEN shares on the news. Opendoor, which has yet to turn a profit, suddenly finds itself with a market cap of nearly $15 billion. It takes some creative math to justify that valuation, especially if the specter of higher rates coupled with skyrocketing home prices begin to keep would-be buyers at bay.
Cryptocurrencies
07. You may love bitcoin, but that doesn't mean you should buy into BITO, the first bitcoin-focused ETF
Crypto enthusiasts may be thrilled that a bitcoin-centric exchange traded fund has finally arrived, but there are a few things to consider about the ProShares Bitcoin Strategy ETF (BITO $43) before taking a bite. First and foremost, this is not an investment in the crypto itself; rather, it is a derivative which makes a bet on bitcoin futures. Each month, the futures contracts held by the ETF will expire, forcing them to roll into the following month's contracts. This gets into a potentially disastrous situation known as contango—a condition in which the future price of a commodity is higher than the spot (current) price. That is exactly where we sit right now with respect to bitcoin. Of course, the opposite condition, known as backwardation, could also come into play; this is where the spot price of the asset is higher than the its futures price. Another reason crypto investors may want to steer clear is the fact that crypto bears will be able to short BITO, dragging down its price despite the current value of the underlying asset. For sure, the ETF's successful first day (it rose 5% from its $40 initial NAV) helped bitcoin prices rise to new highs, but don't expect the crypto to return the favor for investors in this volatile new vehicle.
The cleanest way to buy bitcoin is to open a digital wallet via an app such as Coinbase. Or, better yet in our opinion, buy some Coinbase (COIN $314) itself, and take advantage of the moves in other cryptos. While the Grayscale Bitcoin Trust (GBTC $52) may seem like a common sense solution, this is also a derivative tracking vehicle for the coin, not a direct investment. That being said, Grayscale has filed to turn the biggest bitcoin fund into an ETF, but that is dependent upon the good graces of one of the biggest crypto critics out there: Gary Gensler's SEC. Once again, we would steer would-be crypto bugs to Coinbase.
Automotive
06. After landing enormous Hertz deal, Tesla officially reaches the rarified air of the $1T market cap club
Our favorite graph of EV leader Tesla (TSLA $1,025), surprisingly, isn't the company's share price; rather, it is the percentage of shares held short. In other words, a visual of the percentage of investors betting against the company. We can almost hear the ghost of CNBC's Mark Haines blathering, "Why the hell would anyone want to own this company?" Back in May of 2019, one out of every four shares of Tesla were held short; today, that number is under 3%. You can lose only so many hands before you are forced to walk away from the table. The latest news, which made Musk's vehicle technology firm one of only five American companies with a market cap exceeding $1 trillion (Apple, Microsoft, Alphabet, and Amazon are the others), was the announcement that car rental company Hertz (HTZZ $27) would buy a staggering 100,000 Teslas for nearly full price. Putting that in some perspective, that order would account for one out of every five vehicles the company sold in 2020. The news drove Tesla's share price up 12.66% on Monday, to a new high of $1,024.86, and brought its market cap up to $1.029 trillion. For Hertz, the deal represents a major strategic push to electrify its rental car fleet, to include building out its own charging infrastructure. The order, which will transpire over the next fourteen months, will add roughly $4.2 billion to Tesla's top line, meaning Hertz will pay around $42,000 for each vehicle. Tesla Model 3 sedans should be available to Hertz customers in the US and areas of Western Europe as soon as next month. Ironically, the interim CEO of Hertz is Mark Fields, the former CEO of Ford Motor Company (F $16).
For investors, this massive deal represents yet another reason to own shares of Tesla. The news also drove Hertz shares up 10% on the day, but recall that the firm was driven into bankruptcy during the height of the pandemic, just recently emerging. We love the company's strategic push to electrify its fleet, but the $27 share price seems a bit rich. They may be worth another look should they fall back into the teens.
Capital Markets
05. After quickly doubling in price, Robinhood shares come tumbling back to earth on earnings, forward guidance
The "trading platform for the masses," Robinhood (HOOD $34), has been on quite the ride since its summer IPO. After immediately falling 12% from its $38 IPO price, it ended up hitting an intra-day high (not reflected in the graph, which represents closing prices) of $85 per share on the 4th of August. It has been pretty much been of a downhill slide since then. The latest negative catalyst, which resulted in shares once again falling below their IPO price, was a brutal Q3 earnings report and dark forward guidance from management. Consider these headline numbers representing the difference between Q2 and Q3: Revenues fell from $565M to $365M; crypto-based revenues fell from $233M to $51M; net losses were $2.06/sh versus estimates of -$1.37/sh; monthly active users (MAU) fell from 21.3M to 18.9M. The icing on this rather ugly cake came in the form of forward guidance from management: "...factors may result in quarterly revenues no greater than $325M in the fourth quarter." As if the numbers weren't bad enough, there are other potential negative surprises waiting in the wings. A full 73% of the company's revenues emanated from payment for order flow (PFOF) in Q3, something the SEC is seriously considering placing a ban on. Only seven cryptos are available on the platform, as opposed to 50+ (and growing) on the Coinbase platform. On the first of December the lock-up period will expire for all shares, meaning insiders will be able to sell at will. At least management took a conservative approach on the conference call, giving a refreshingly sober review of the company's outlook—as opposed to using the typical hyperbole so common in many quarterly earnings releases.
Management freely admitted that two major events, the meme stock craze and the explosion in cryptos, helped fuel the company's success in the first two quarters of the year, and that it is virtually impossible to predict the next big event that will drive trading. Again, points for being honest, but we would stick with Coinbase (COIN $319) for anyone wishing to invest in a new exchange platform. Shares of the company are up 40% since we added it to the Intrepid Trading Platform—with a target price of $300.
Interactive Media & Services
04. What's in a name? Perhaps we are in the minority, but we are thrilled about Facebook morphing to Meta
Listening to David Faber (Little Lord Fauntleroy) of CNBC talk about Facebook's (FB $323) push into the metaverse reminded us of his mentor, the late Mark Haines, bashing Apple's new iPad back in 2014. There are creative souls who design and build the future, and then there are the naysayers telling us—every step along the way—all of the reasons failure is inevitable. As for Facebook's grand plans for its future, it all begins with a name change. On the 1st of December, the company Meta, formerly known as Facebook, will begin trading under the symbol MVRS. Predictably, the jeers began immediately after Zuckerberg announced the change, with many (if not most) claiming this was just an attempt to distract the focus away from the endless political attacks on the firm. We simply don't buy that. Already an owner of Oculus, the leading maker of virtual reality hardware, Facebook is ready to embrace the "next evolution of social technology," as the firm labels the metaverse. Imagine communicating and interacting with others not in the 2D environment of a Facebook app, but in a computer-generated digital environment. A "face-to-face" game of golf, a board meeting, "visiting" a digital clothing store—it will all be possible in this new virtual world. While a Faber or a Haines (were he still alive) could never generate the sparks of creativity required to envision such a place, the opportunities will be endless—for participants, involved companies, and investors. Zuckerberg said that the company will now be a "metaverse-first, not a Facebook-first, firm." To that end, Meta has already committed $10 billion to its Reality Labs division, and will begin breaking out the financial results for the two sides of the company. Our bet? As profitable and dominant a player Facebook has become, its metaverse division will, ultimately, eclipse its traditional business. There will be plenty of competition along the way, and we expect Apple (AAPL $150) to roll out its own metaverse hardware soon, but Facebook will be a major player in this nascent industry.
We vividly recall the ascent of the personal computer and, subsequently, the Internet. Both of these massive disruptors began as something of a gimmick in the minds of journalists and the business community. Consider how these two "gimmicks" have changed the way we live. Consider living and working through the pandemic without them. The potential of the metaverse is enormous; now is the time for astute investors to begin understanding what it is, and how it will weave its way into the fabric of society. As for MVRS, we can officially say we owned while it was still just a social media platform.
Supply, Demand, & Prices
03. Twitter's Jack Dorsey says hyperinflation is coming; we say he is not playing with a full deck
For anyone who hasn't seen a recent picture of Twitter (TWTR $54) and Square (SQ $255) CEO Jack Dorsey, picture a younger version of Howard Hughes shortly before his death. This brilliant economic mind has been studying the US and global landscape and has issued an edict from on high: "Hyperinflation is going to change everything. It's happening." Really? Yes, inflation is here, and for some very specific reasons—from a seemingly endless supply of new money to the temporarily-broken global supply chain; but hyperinflation? The textbook definition of the term is the persistent, rapidly-rising cost of goods and services, to the tune of over 50% per month. A textbook example of hyperinflation would be the conditions in the Weimar Republic in the 1920s, when the German government ran their printing presses nonstop. A loaf of bread that cost a shopper 250 marks in January of 1923 had risen to a price of 200 billion marks by November of that same year (a US dollar was worth roughly 1 trillion marks going into the month). Wages for German workers were renegotiated daily, as their pay was typically worthless by the following day. We doubt it is still taught in school, but many of us remember seeing the photos of German homeowners wallpapering their houses with worthless currency. That, Mr. Dorsey, is hyperinflation. What you are spewing is called hyperbole. To be sure, the Fed—and the Treasury Department and the politicians—should be concerned about the 5% inflation rate we have witnessed for the past three months. Instead of making silly claims, Mr. Dorsey (leave that to the real economists), focus on how you can better monetize your social media platform.
Speaking of Germany, inflation in that country just hit its highest mark in three decades: 4%. Perhaps the specter of inflation, which Germans are hypersensitive to considering past events, is the reason the 10-year German Bund is nearing 0%—on the way up, that is. Monetary policy around the world is in a state of wanton madness. Tightening needs to occur, but the markets won't like it when it finally happens. While the first rate hike may still be a year away, we could see the Fed tapering its $120B per month spending spree within the next three months. It will be fascinating to gauge how the markets react when it does.
Consumer Durables
02. Whirlpool is getting squeezed by higher input costs and supply chain troubles; is it time to buy?
"Elevated supply constraints" was the term management used during Whirlpool's (WHR $214) Q3 earnings conference call. Shares of America's largest consumer appliance maker fell more than 4% on the heels of the release, or about 22% off of their May highs. While revenues for the quarter ($5.5B) missed analyst expectations by 2%, they were still up 4% from the same quarter in 2020, and the company is still on pace to exceed—or at least match—its pre-pandemic annual revenues of $21 billion. As for net income, which was constricted due to higher wages and input costs, the company still made $471 in profit versus $392 million in Q3 of 2020. So, with its tiny multiple of 6.8, is the domestic maker of Whirlpool, KitchenAid, and Maytag appliances a buy? Arguably, yes. The housing market is still hot, and the strong demand for appliances has allowed the company to raise prices between 5% and 12% across the board to make up for the higher cost of raw materials. The company has also increased its stock repurchase program—a sign that management believes the shares are cheap—and maintained its healthy $1.40 per share dividend. Additionally, the Whirlpool name is highly respected throughout much of Latin America, a region which should be a nice driver for increased sales for years to come. The company's largest competitor in the Americas is GE Appliances, but that unit continues to struggle since General Electric (GE $106) sold it to a Chinese conglomerate five years ago. Despite investors' reaction to the Q3 earnings report, the future looks pretty bright for this 110-year-old Michigan-based company.
With its $13 billion market cap, Whirlpool is nestled snugly in the mid-cap value space—an area we are enamored with right now. Furthermore, we believe the company will retain its pricing power even as the supply chain issues abate, meaning expanded margins. We would place a fair value of WHR shares at $300, or 40% higher than where they trade right now.
Monetary Policy
01. The Fed just announced a refreshing move; even more refreshing was the market's muted reaction to the news
In June of 2020, we wrote of the Fed's announcement to continue buying $120 billion in bonds ($80 billion in Treasuries and $40 billion in mortgage-backed securities, or MBS) until the economic situation had stabilized to the point at which they could begin tapering those purchases. At the time, the Fed's balance sheet—which is part of our $28.9 trillion national debt—had already mushroomed from $4 trillion to $7 trillion. Today, as the Fed's balance sheet sits at $8.6 trillion, the big moment has arrived: Fed Chair Jerome Powell announced on Wednesday that the purchase program would be reduced by $15 billion ($10B Treasuries, $5B MBS) per month, beginning immediately. At this clip, the program would end entirely by June of 2022. Investors breathlessly awaited the market's reaction. Impressively, neither the stock market nor the bond market did much of anything in response. In fact, the major indexes actually began to strengthen into the close as Powell conducted his press briefing. It is refreshing to see that the move did not cause any type of "taper tantrum," as a similar move did back in 2013. Credit to the Fed for masterfully telegraphing the inevitability of this action. Now, let's see how the market reacts when rates begin to inch up, probably in the second half of next year.
It is depressing to look at America's national debt, especially knowing full well that it will ultimately have an enormous negative impact on this country's economy. While the Fed's move won't help reduce that load (at least until the program ends and some of the bonds begin to "fall off" of the balance sheet), it is somewhat comforting to know that it won't grow it at a guaranteed rate of $120 billion per month. Just as every family should be able to rattle off their total debt in an instant, every American should know how much debt their government holds. After all, we are all ultimately responsible for outstanding bill and its ever-accruing interest.
Under the Radar Investment
BorgWarner Inc (BWA $46)
BorgWarner is a mid-cap value company operating in the auto parts supply chain. It is a Tier 1 supplier, meaning it provides parts directly to the OEMs (original equipment manufacturers) such as Ford, Volkswagen, and Hyundai—its three main customers. The company has a masterful geographic diversification, with about one third of revenues coming from each: North America, Europe, and Asia. Due to its mix of products, innovative design team, and recent acquisition of Delphi Automotive, BorgWarner is very well positioned to take advantage of the industry trends toward lower emissions and a "greener" environment. It makes a number of parts and components for hybrid and electric vehicles. With its low multiple of 14 and excellent financial health, we find the company as attractive now as we did when we added it to the Penn Global Leaders Club precisely one year ago, 03 Nov 2020, at $36.57 per share.
Answer
Not only didn't you meet your objective, you didn't even buy from an American company which happens to produce its goods outside of the US. In 2016, General Electric sold their GE Appliances unit to Haier, a Chinese company. (Sidebar: We once purchased a Haier mini-fridge which failed to operate immediately upon removal from the shipping container.) A consumer visiting geappliances.com would be hard pressed to determine that these were not American-made goods.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
Purpose-driven spending...
You just purchased a new home and need to select the appliances—refrigerator, washer and dryer, range, dishwasher, microwave—for the joint. You would like to buy products made in North America, Europe, Japan, or South Korea; four regions known for making quality consumer durables. You decide upon the GE Appliances line based on their century-old reputation. Did you meet your objective?
Penn Trading Desk:
Penn: Open educational services company in the Intrepid
We have followed this major American educational services company for the past five years and, while we found it overvalued at recent levels, found it irresistible after lowered guidance and an analyst cut sent shares plummeting. We added this mid-cap growth company to the Intrepid Trading Platform with an initial price target 53% higher than our purchase price, and a secondary price target double our purchase price.
Penn: Open communication services firm in the Global Leaders Club
Oddly enough, we haven't recently held any firms from the Communication Services sector in the Penn Global Leaders Club—a rare condition. We rectified that with a pickup of one of the most controversial companies in America. Here's the way we see it: this behemoth is an income-generating machine, dominates its segment, and has a bold strategic plan for its future. Political correctness be damned, we added this juggernaut to the portfolio with high expectations for future growth.
Penn: Open a US semiconductor powerhouse (not Intel) to the New Frontier Fund
There is a major (and much needed) push underway for increased domestic production of high-tech semiconductor devices and components. We added a US-based manufacturer which will play a major role in the Internet of Things (IoT), 5G, autonomous vehicles, and AI/VR to the New Frontier Fund.
Penn: Open a hammered booze company in the Intrepid
We have watched investors analyze booze companies incorrectly more times than we can count, and our most recent addition to the Penn Intrepid Trading Program is a glaring example. Making a few poor decisions, one on hard seltzer and another on a new beer launch, made investors lose faith; but management matters, and we fully expect this company's exemplary chairman of the board to right his ship.
Penn: Open a regional bank in the Strategic Income Portfolio
Based on the specter of rising rates and not-so-transitory inflation, we have increased our allocation within the Financials sector. To that end, we added a regional bank (Northeastern US) with a clean balance sheet and a hefty dividend yield to our income portfolio. Members, see the Trading Desk.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
eCommerce
10. Netflix is teaming up with Walmart to create a dedicated digital storefront on the retailing giant's website
As Netflix's (NFLX $624) subscriber growth cools, it continues to search for new revenue streams in an effort to become less reliant on the one metric analysts focus on each quarter. To that end, the company has announced a new deal with Walmart (WMT $141) which will result in a dedicated 'Netflix Hub' on the giant retailer's website. The shop will include themed merchandise from its wildly-successful "Squid Game" as well as other recent hits on the streaming service, such as "Stranger Things." Right now, Netflix receives the vast majority of its revenue from the $13.99 paid monthly (more or less, depending on subscription plan) by its 200 million subscribers around the world. The growth of that subscriber base has been leveling out, however, due to saturation and a host of new entrants in the space, from Disney+ to Amazon Prime Video. While CEO Reed Hastings said he doesn't expect the new venture to have a major impact on the company's top line, he believes the real value comes in building user engagement with and excitement for the provider's Netflix Originals, for which it currently spends over $5 billion per year developing. Netflix licenses its intellectual property to select manufacturers in exchange for a cut of the profit. As for Walmart, this deal is part of an overall strategy to increase its online Walmart Marketplace presence by teaming up with brands held in high esteem by consumers. Like the recent deal with Gap, the company hopes to broaden its customer base by attracting a new generation of consumers; primarily younger customers who might have avoided the company's site in the past.
Based on valuations and our current tilt toward more conservative names, we believe Walmart shares look more attractive right now than those of its new marketing partner, Netflix. When another downturn hits the market, we could see NFLX shares falling back into the $400s—at which time they would be worthy of another look.
Communication Services
09. Over the course of twenty years, AT&T shares have dropped 43%; is it time to buy?
Our stop-loss order on AT&T (T $26) shares finally hit this past May at $32, ending a miserable period of holding the once-great telecom company. That stop was fortuitous, as shares have dropped to $26 since we dumped them. At least we had the fat dividend yield (now at 8% based on the share price, though it will be adjusted down after spinoffs), but that is about the only positive aspect of owning the shares since we picked them up. Our super-long-term 26% gain was not worth the wait; the opportunity cost was tremendous. In fact, an investment in the S&P 500 twenty years ago would have given investors just shy of a 500% return, while the same investment in T shares would have lost nearly 50% after two decades, sans the dividend.
Enormous missteps by management—like overpaying for acquisitions they could never quite make fit into the T puzzle, and ignoring serious problems with customer service due to sheer arrogance—have brought us to this point. Other telecom companies have proven that industry flux is not the issue; poor management is the root cause. So, with the shares "dirt cheap," as some analysts have called them, is it time to bet on the storied company? The argument for purchase revolves around the company's plan to slim down and focus its efforts exclusively on telecom services, mainly its 5G wireless network. It already ditched its wildly-expensive DirecTV unit and is about to spinoff its WarnerMedia division, which will become Warner Bros. Discovery. But we have three major arguments against the bull case. First, the company still has a massive debt load of $180 billion, which will only be negligibly alleviated by the Warner spinoff. Second, the company's area of focus going forward is going to be hyper-competitive thanks to new technologies and entrants. Finally, we have about as much faith in the management team at T as we do in the team at Boeing.
It is certainly tempting to pick up shares of T at $26, but we have seen the stock languish for too long to get excited here. It may end up being a multiyear low price, but there are simply too many obstacles facing the lackluster leadership team.
Homes & Durables
08. Zillow falls double digits as it presses pause on its home buying program; competitor Opendoor Technologies jumps*
(UPDATE: Zillow has announced it has exited the home flipping business altogether, sending shares tumbling another 25% on Wednesday. Considering the percentage of revenues generated by the unit, we are even more concerned now than when we wrote this piece on Monday.)
It didn't strike us as a viable reason for the company's shares to fall over 10%, but Zillow's (Z $65) announcement that it would hold off on buying any more homes while it works through a backlog of properties caused the shares to tumble on Monday. Zillow Offers, the company's high-tech buying and flipping unit, purchased nearly 4,000 homes in the second quarter of the year. And the unit is hardly an afterthought: it produced $772 million of the $1.31 billion—or 60%—in total revenue generated over the three-month period. With that in mind, why would management bring buying to a screeching halt? The answer, according to management, revolves around what the company does after purchasing the properties.
One of the biggest headaches for sellers involves evaluating what needs to be repaired or replaced in a home before it is listed. Using its proprietary home value algorithms, Zillow will make homeowners an offer on the spot—no repair or staging required. This means that the company must perform the repairs and prepare the house for sale. While it won't invest in homes with extensive damage or with major needed repairs, COO Jeremy Wacksman told investors that labor and supply constraints have been the major issue. At the end of Q2, the company still had over 3,100 unsold homes with an aggregate value north of $1 billion in its inventory. Competitor Opendoor Technologies (OPEN $24), meanwhile, purchased over 8,000 homes in Q2 and has contracts on another 8,000 or so. It should be noted that Opendoor just went public last December, and is using the infusion of cash from its IPO to help purchase the large number of homes.
There are a number of different aspects to this story (to include how these iBuyers get paid), which we will delve into deeper in the next Penn Wealth Report. In short, we don't necessarily believe the pullback presents a good buying opportunity. Investors clearly thought the pause was a negative, shedding Z shares and buying OPEN shares on the news. Opendoor, which has yet to turn a profit, suddenly finds itself with a market cap of nearly $15 billion. It takes some creative math to justify that valuation, especially if the specter of higher rates coupled with skyrocketing home prices begin to keep would-be buyers at bay.
Cryptocurrencies
07. You may love bitcoin, but that doesn't mean you should buy into BITO, the first bitcoin-focused ETF
Crypto enthusiasts may be thrilled that a bitcoin-centric exchange traded fund has finally arrived, but there are a few things to consider about the ProShares Bitcoin Strategy ETF (BITO $43) before taking a bite. First and foremost, this is not an investment in the crypto itself; rather, it is a derivative which makes a bet on bitcoin futures. Each month, the futures contracts held by the ETF will expire, forcing them to roll into the following month's contracts. This gets into a potentially disastrous situation known as contango—a condition in which the future price of a commodity is higher than the spot (current) price. That is exactly where we sit right now with respect to bitcoin. Of course, the opposite condition, known as backwardation, could also come into play; this is where the spot price of the asset is higher than the its futures price. Another reason crypto investors may want to steer clear is the fact that crypto bears will be able to short BITO, dragging down its price despite the current value of the underlying asset. For sure, the ETF's successful first day (it rose 5% from its $40 initial NAV) helped bitcoin prices rise to new highs, but don't expect the crypto to return the favor for investors in this volatile new vehicle.
The cleanest way to buy bitcoin is to open a digital wallet via an app such as Coinbase. Or, better yet in our opinion, buy some Coinbase (COIN $314) itself, and take advantage of the moves in other cryptos. While the Grayscale Bitcoin Trust (GBTC $52) may seem like a common sense solution, this is also a derivative tracking vehicle for the coin, not a direct investment. That being said, Grayscale has filed to turn the biggest bitcoin fund into an ETF, but that is dependent upon the good graces of one of the biggest crypto critics out there: Gary Gensler's SEC. Once again, we would steer would-be crypto bugs to Coinbase.
Automotive
06. After landing enormous Hertz deal, Tesla officially reaches the rarified air of the $1T market cap club
Our favorite graph of EV leader Tesla (TSLA $1,025), surprisingly, isn't the company's share price; rather, it is the percentage of shares held short. In other words, a visual of the percentage of investors betting against the company. We can almost hear the ghost of CNBC's Mark Haines blathering, "Why the hell would anyone want to own this company?" Back in May of 2019, one out of every four shares of Tesla were held short; today, that number is under 3%. You can lose only so many hands before you are forced to walk away from the table. The latest news, which made Musk's vehicle technology firm one of only five American companies with a market cap exceeding $1 trillion (Apple, Microsoft, Alphabet, and Amazon are the others), was the announcement that car rental company Hertz (HTZZ $27) would buy a staggering 100,000 Teslas for nearly full price. Putting that in some perspective, that order would account for one out of every five vehicles the company sold in 2020. The news drove Tesla's share price up 12.66% on Monday, to a new high of $1,024.86, and brought its market cap up to $1.029 trillion. For Hertz, the deal represents a major strategic push to electrify its rental car fleet, to include building out its own charging infrastructure. The order, which will transpire over the next fourteen months, will add roughly $4.2 billion to Tesla's top line, meaning Hertz will pay around $42,000 for each vehicle. Tesla Model 3 sedans should be available to Hertz customers in the US and areas of Western Europe as soon as next month. Ironically, the interim CEO of Hertz is Mark Fields, the former CEO of Ford Motor Company (F $16).
For investors, this massive deal represents yet another reason to own shares of Tesla. The news also drove Hertz shares up 10% on the day, but recall that the firm was driven into bankruptcy during the height of the pandemic, just recently emerging. We love the company's strategic push to electrify its fleet, but the $27 share price seems a bit rich. They may be worth another look should they fall back into the teens.
Capital Markets
05. After quickly doubling in price, Robinhood shares come tumbling back to earth on earnings, forward guidance
The "trading platform for the masses," Robinhood (HOOD $34), has been on quite the ride since its summer IPO. After immediately falling 12% from its $38 IPO price, it ended up hitting an intra-day high (not reflected in the graph, which represents closing prices) of $85 per share on the 4th of August. It has been pretty much been of a downhill slide since then. The latest negative catalyst, which resulted in shares once again falling below their IPO price, was a brutal Q3 earnings report and dark forward guidance from management. Consider these headline numbers representing the difference between Q2 and Q3: Revenues fell from $565M to $365M; crypto-based revenues fell from $233M to $51M; net losses were $2.06/sh versus estimates of -$1.37/sh; monthly active users (MAU) fell from 21.3M to 18.9M. The icing on this rather ugly cake came in the form of forward guidance from management: "...factors may result in quarterly revenues no greater than $325M in the fourth quarter." As if the numbers weren't bad enough, there are other potential negative surprises waiting in the wings. A full 73% of the company's revenues emanated from payment for order flow (PFOF) in Q3, something the SEC is seriously considering placing a ban on. Only seven cryptos are available on the platform, as opposed to 50+ (and growing) on the Coinbase platform. On the first of December the lock-up period will expire for all shares, meaning insiders will be able to sell at will. At least management took a conservative approach on the conference call, giving a refreshingly sober review of the company's outlook—as opposed to using the typical hyperbole so common in many quarterly earnings releases.
Management freely admitted that two major events, the meme stock craze and the explosion in cryptos, helped fuel the company's success in the first two quarters of the year, and that it is virtually impossible to predict the next big event that will drive trading. Again, points for being honest, but we would stick with Coinbase (COIN $319) for anyone wishing to invest in a new exchange platform. Shares of the company are up 40% since we added it to the Intrepid Trading Platform—with a target price of $300.
Interactive Media & Services
04. What's in a name? Perhaps we are in the minority, but we are thrilled about Facebook morphing to Meta
Listening to David Faber (Little Lord Fauntleroy) of CNBC talk about Facebook's (FB $323) push into the metaverse reminded us of his mentor, the late Mark Haines, bashing Apple's new iPad back in 2014. There are creative souls who design and build the future, and then there are the naysayers telling us—every step along the way—all of the reasons failure is inevitable. As for Facebook's grand plans for its future, it all begins with a name change. On the 1st of December, the company Meta, formerly known as Facebook, will begin trading under the symbol MVRS. Predictably, the jeers began immediately after Zuckerberg announced the change, with many (if not most) claiming this was just an attempt to distract the focus away from the endless political attacks on the firm. We simply don't buy that. Already an owner of Oculus, the leading maker of virtual reality hardware, Facebook is ready to embrace the "next evolution of social technology," as the firm labels the metaverse. Imagine communicating and interacting with others not in the 2D environment of a Facebook app, but in a computer-generated digital environment. A "face-to-face" game of golf, a board meeting, "visiting" a digital clothing store—it will all be possible in this new virtual world. While a Faber or a Haines (were he still alive) could never generate the sparks of creativity required to envision such a place, the opportunities will be endless—for participants, involved companies, and investors. Zuckerberg said that the company will now be a "metaverse-first, not a Facebook-first, firm." To that end, Meta has already committed $10 billion to its Reality Labs division, and will begin breaking out the financial results for the two sides of the company. Our bet? As profitable and dominant a player Facebook has become, its metaverse division will, ultimately, eclipse its traditional business. There will be plenty of competition along the way, and we expect Apple (AAPL $150) to roll out its own metaverse hardware soon, but Facebook will be a major player in this nascent industry.
We vividly recall the ascent of the personal computer and, subsequently, the Internet. Both of these massive disruptors began as something of a gimmick in the minds of journalists and the business community. Consider how these two "gimmicks" have changed the way we live. Consider living and working through the pandemic without them. The potential of the metaverse is enormous; now is the time for astute investors to begin understanding what it is, and how it will weave its way into the fabric of society. As for MVRS, we can officially say we owned while it was still just a social media platform.
Supply, Demand, & Prices
03. Twitter's Jack Dorsey says hyperinflation is coming; we say he is not playing with a full deck
For anyone who hasn't seen a recent picture of Twitter (TWTR $54) and Square (SQ $255) CEO Jack Dorsey, picture a younger version of Howard Hughes shortly before his death. This brilliant economic mind has been studying the US and global landscape and has issued an edict from on high: "Hyperinflation is going to change everything. It's happening." Really? Yes, inflation is here, and for some very specific reasons—from a seemingly endless supply of new money to the temporarily-broken global supply chain; but hyperinflation? The textbook definition of the term is the persistent, rapidly-rising cost of goods and services, to the tune of over 50% per month. A textbook example of hyperinflation would be the conditions in the Weimar Republic in the 1920s, when the German government ran their printing presses nonstop. A loaf of bread that cost a shopper 250 marks in January of 1923 had risen to a price of 200 billion marks by November of that same year (a US dollar was worth roughly 1 trillion marks going into the month). Wages for German workers were renegotiated daily, as their pay was typically worthless by the following day. We doubt it is still taught in school, but many of us remember seeing the photos of German homeowners wallpapering their houses with worthless currency. That, Mr. Dorsey, is hyperinflation. What you are spewing is called hyperbole. To be sure, the Fed—and the Treasury Department and the politicians—should be concerned about the 5% inflation rate we have witnessed for the past three months. Instead of making silly claims, Mr. Dorsey (leave that to the real economists), focus on how you can better monetize your social media platform.
Speaking of Germany, inflation in that country just hit its highest mark in three decades: 4%. Perhaps the specter of inflation, which Germans are hypersensitive to considering past events, is the reason the 10-year German Bund is nearing 0%—on the way up, that is. Monetary policy around the world is in a state of wanton madness. Tightening needs to occur, but the markets won't like it when it finally happens. While the first rate hike may still be a year away, we could see the Fed tapering its $120B per month spending spree within the next three months. It will be fascinating to gauge how the markets react when it does.
Consumer Durables
02. Whirlpool is getting squeezed by higher input costs and supply chain troubles; is it time to buy?
"Elevated supply constraints" was the term management used during Whirlpool's (WHR $214) Q3 earnings conference call. Shares of America's largest consumer appliance maker fell more than 4% on the heels of the release, or about 22% off of their May highs. While revenues for the quarter ($5.5B) missed analyst expectations by 2%, they were still up 4% from the same quarter in 2020, and the company is still on pace to exceed—or at least match—its pre-pandemic annual revenues of $21 billion. As for net income, which was constricted due to higher wages and input costs, the company still made $471 in profit versus $392 million in Q3 of 2020. So, with its tiny multiple of 6.8, is the domestic maker of Whirlpool, KitchenAid, and Maytag appliances a buy? Arguably, yes. The housing market is still hot, and the strong demand for appliances has allowed the company to raise prices between 5% and 12% across the board to make up for the higher cost of raw materials. The company has also increased its stock repurchase program—a sign that management believes the shares are cheap—and maintained its healthy $1.40 per share dividend. Additionally, the Whirlpool name is highly respected throughout much of Latin America, a region which should be a nice driver for increased sales for years to come. The company's largest competitor in the Americas is GE Appliances, but that unit continues to struggle since General Electric (GE $106) sold it to a Chinese conglomerate five years ago. Despite investors' reaction to the Q3 earnings report, the future looks pretty bright for this 110-year-old Michigan-based company.
With its $13 billion market cap, Whirlpool is nestled snugly in the mid-cap value space—an area we are enamored with right now. Furthermore, we believe the company will retain its pricing power even as the supply chain issues abate, meaning expanded margins. We would place a fair value of WHR shares at $300, or 40% higher than where they trade right now.
Monetary Policy
01. The Fed just announced a refreshing move; even more refreshing was the market's muted reaction to the news
In June of 2020, we wrote of the Fed's announcement to continue buying $120 billion in bonds ($80 billion in Treasuries and $40 billion in mortgage-backed securities, or MBS) until the economic situation had stabilized to the point at which they could begin tapering those purchases. At the time, the Fed's balance sheet—which is part of our $28.9 trillion national debt—had already mushroomed from $4 trillion to $7 trillion. Today, as the Fed's balance sheet sits at $8.6 trillion, the big moment has arrived: Fed Chair Jerome Powell announced on Wednesday that the purchase program would be reduced by $15 billion ($10B Treasuries, $5B MBS) per month, beginning immediately. At this clip, the program would end entirely by June of 2022. Investors breathlessly awaited the market's reaction. Impressively, neither the stock market nor the bond market did much of anything in response. In fact, the major indexes actually began to strengthen into the close as Powell conducted his press briefing. It is refreshing to see that the move did not cause any type of "taper tantrum," as a similar move did back in 2013. Credit to the Fed for masterfully telegraphing the inevitability of this action. Now, let's see how the market reacts when rates begin to inch up, probably in the second half of next year.
It is depressing to look at America's national debt, especially knowing full well that it will ultimately have an enormous negative impact on this country's economy. While the Fed's move won't help reduce that load (at least until the program ends and some of the bonds begin to "fall off" of the balance sheet), it is somewhat comforting to know that it won't grow it at a guaranteed rate of $120 billion per month. Just as every family should be able to rattle off their total debt in an instant, every American should know how much debt their government holds. After all, we are all ultimately responsible for outstanding bill and its ever-accruing interest.
Under the Radar Investment
BorgWarner Inc (BWA $46)
BorgWarner is a mid-cap value company operating in the auto parts supply chain. It is a Tier 1 supplier, meaning it provides parts directly to the OEMs (original equipment manufacturers) such as Ford, Volkswagen, and Hyundai—its three main customers. The company has a masterful geographic diversification, with about one third of revenues coming from each: North America, Europe, and Asia. Due to its mix of products, innovative design team, and recent acquisition of Delphi Automotive, BorgWarner is very well positioned to take advantage of the industry trends toward lower emissions and a "greener" environment. It makes a number of parts and components for hybrid and electric vehicles. With its low multiple of 14 and excellent financial health, we find the company as attractive now as we did when we added it to the Penn Global Leaders Club precisely one year ago, 03 Nov 2020, at $36.57 per share.
Answer
Not only didn't you meet your objective, you didn't even buy from an American company which happens to produce its goods outside of the US. In 2016, General Electric sold their GE Appliances unit to Haier, a Chinese company. (Sidebar: We once purchased a Haier mini-fridge which failed to operate immediately upon removal from the shipping container.) A consumer visiting geappliances.com would be hard pressed to determine that these were not American-made goods.
Headlines for the Week of 29 Aug—04 Sep 2021
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
Turning point of the American Revolution...
Despite Washington's impressive Revolutionary War victory against the German Hessians on December 26th, 1776 in the town of Trenton, there wasn't much to celebrate during the brutal months to come. What stunning victory began to turn the tide in favor of the Americans and convinced the French to join the fight against their longstanding nemesis, Great Britain?
Penn Trading Desk:
Penn: Changes to mining companies within the Global Leaders Club
After performing a review of the Metals & Mining industry, we are removing the two gold miners currently in the Penn Global Leaders Club and replacing them with an alternate name. Instead of an outright sell order, we recommend placing stops on the current positions slightly below their current respective prices. Members, see the Trading Desk for specific instructions. As always, clients of Penn Wealth Management, our Registered Investment Advisory service and a separate entity, will automatically have these actions taken.
JP Morgan: Add Sunrun to "U.S. Analyst Focus List"
JP Morgan just added $10 billion solar energy and storage company Sunrun (RUN $47) to its highest conviction group of names, the U.S. Analyst Focus List. Analyst Mark Strouse likes the fundamentals for the industry over the medium and long term, and believes supply constraints will ease in the second half of the year. While the risk, as measured by beta, is a quite large 2.089, the median target share price among analysts covering the stock is $76.53, or 62% higher from here. We listed some of our favorite clean energy plays in a recent Penn Wealth Report.
Cowen: Raise rating and price target on Textron
Citing a strong comeback in the demand for business jets and the nascent civilian VTOL (vertical take-off and landing) movement, Cowen has raised its rating on aviation firm Textron from Market Perform to Outperform, and has adjusted its target price for TXT shares from $75 to $95. That is a street high, with Morningstar taking the opposite side of the bet with its one-star rating and $42 per share target price. The average price target among the eleven analysts weighing in on the Rhode Island-based firm is $78 per share.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Cryptocurrencies
10. In a refreshing twist, Coinbase's CEO fires back at SEC
We are ambivalent with respect to cryptos: their future as a means of exchange feels certain, but the industry is going through its Wild West phase right now, with plenty of risks and opportunities for investors. We are equally ambivalent about the SEC (and most other government agencies as well): they enforce needed guardrails, yet they too often create more problems than they resolve. Which leads to the brouhaha going on right now between the SEC and Coinbase (COIN $257), the leading crypto exchange platform in the United States and a current member of the Penn Intrepid Trading Platform. Shares of the exchange fell sharply this week as the SEC warned that it planned to sue if the company forged ahead with plans to allow its users—of which it currently boasts some 68 million—to earn interest by lending crypto assets. Apparently the SEC believes that privilege should rest solely in the hands of the banks. It is crystal clear that current SEC Chairman Gary Gensler plans on doing battle with a host of financial services companies during his reign, with cryptos, perhaps, being his number one target.
When a company receives a Wells Notice, a formal notice from the SEC informing the recipient that the agency is preparing enforcement actions, it is traditional to stay relatively mum; certainly not to stir the pot. Apparently, Coinbase CEO Brian Armstrong is taking a page from Elon Musk's playbook, as he remained anything but mum following the announcement. In what Bloomberg described as "a rant" and "a fit" (it was neither, Bloomberg), Armstrong unloaded on the commission. In one tweet, the dynamic CEO noted "Some really sketchy behavior coming out of the SEC recently. Story time...." Ironically, it was Coinbase's willingness to share its plans for the new lending platform with the SEC—instead of pushing ahead and implementing the plan—which instigated the threats from the government body. Instead of a few polite questions to delve further into how the process would work, the SEC, i.e. Gensler, took the very public action of issuing the Wells Notice. Not cool, SEC. Jesse Powell, co-founder of the crypto exchange Kraken, came to Armstrong's defense in his own series of tweets: "We won't tell you why we think your product is illegal but we will tell you that there is no path to making it legal. Disagree? Go ahead and see what happens." CEOs daring to fight back against government regulators? Brilliant! While the zeitgeist seems to consist of corporate heads cowardly genuflecting to any and all social movements looking their way, it is refreshing to see a little gutsy pushback against the tactics of bullies. That used to be called The American Spirit.
Despite the SEC-caused downturn in the stock, our COIN position is still up 10% since purchase. We fully expect the firm to weather this storm. We doubt the SEC fully understands how the crypto exchanges even work, so it will buy some time while the government attorneys attempt to get up to speed. After that, let the lengthy court battles begin.
Beverages & Tobacco
09. Tilray's convoluted effort to get its foot in the door of the US cannabis market
We have mentioned before our deep respect for Irwin Simon, founder of Hain Celestial (HAIN $40) and current CEO of Canadian cannabis company Tilray (TLRY $14). That being said, we do not currently own any specific cannabis names within any of the Penn portfolios. It's not that we don't believe in the future of the industry from an investment standpoint; we are simply waiting for the winners to break free from the inevitable losers. We expect Tilray to be a long-term player, but it doesn't yet have the ability to crack the lucrative US market. The company is trying to change that. As a Canadian cannabis company dual listed on the Toronto Exchange and the Nasdaq, the fact that cannabis is still illegal in the US at the federal level precludes Tilray from setting up operations south of their current border. So, in a complex, circuitous route, management just made a very interesting move. They acquired around $170 million of convertible MedMen (MMNFF $0.29) debt through a new limited partnership, with the debt's maturity date being extended out through August of 2028. MedMen is the preeminent cannabis player in the US, with access to roughly 50% of the total addressable (legal) market. The firm has major operations in California, Nevada, and New York. What does this mean for Tilray? The company's CEO made it pretty clear in recent comments: he believes that his Canadian entity will be able to acquire control of MedMen once cannabis is legalized at the federal level. Acquiring $170 million in debt for a micro-cap player in the US may not seem that big of a deal, but we fully expect the adroit Simon to leverage it into a major piece of the action as the domestic market for cannabis expands.
While we have played with positions in Tilray as well as Canopy Growth Corp (CGC $18), another major Canadian player, we have yet to add a cannabis company to a portfolio. MedMen may look attractive to some investors, but its current $0.29 share price represents a dramatic fall from the high of $1.47 it hit in February of this year. All of these firms remain huge money losers, though the space is worth keeping an eye on.
Aerospace & Defense
08. The last major aviation market refusing to lift ban on 737 MAX should come as no surprise
We have certainly given aircraft maker Boeing (BA $218) a lot of grief over the past two years, but this is a story more about politics than aviation prowess. Most other major aviation markets lifted the ban on the Boeing 737 MAX late last year or early in 2021, with two notable exceptions: India and China. This week, India's Directorate General of Civil Aviation announced that the model has received the green light to resume operations in that country, leaving only China's ban in place. Boeing's management team clearly believes the Chinese market is crucial for the company's growth story going forward, with one-fifth of the firm's aircraft deliveries since 2017 heading to the communist nation. But the trade war, the pandemic, and China's own economic ambitions have strongly constricted sales, leaving primarily Airbus (EADSY $34) to pick up the slack. China wants that situation to change as well, touting its own manufacturer, the Commercial Aircraft Corporation of China, or Comac. The company's nascent efforts, the ARJ21 and the C919—the latter of which it hopes can go head to head with the 737 MAX and the Airbus A320, have been riddled with defects and delays. The problems have kept would-be buyers at bay, despite the C919 selling for about half as much ($50 million) as the Airbus A320neo. Nonetheless, China, through its Belt and Road infrastructure initiative, will pump as much money as needed into Comac until it shows signs of life. As for the MAX, China would love to have Comac's C919 step in to fill the void, but it is unlikely that will happen anytime soon. Expect a lift on the ban to come—out of pure necessity—by the end of the year.
Boeing is facing a host of serious problems; a new competitor in the form of a state-sponsored Chinese aircraft manufacturer is one we haven't even touched on before. CEO David Calhoun is actively pushing the Biden administration to urge China to lift its ban on the MAX, but what really needs to be taking place is more activism in the ranks of BA shareholders to force an overhaul of Boeing's board of directors—including its president and CEO—Calhoun.
Demographics & Lifestyle
07. China limits videogame usage to three hours per week for minors, no play Monday through Thursday
Our first thought was, "Imagine trying to implement such a law in the U.S." China, as part of its latest salvo against industries it deems harmful to the collective cause, has issued a rather remarkable decree: minors—we are assuming that means youth under the age of eighteen—are hereby forbidden from playing videogames Monday through Thursday, and will limit their play to a maximum of one hour per day on Fridays, weekends, and public holidays, between the hours of 8 p.m. and 9 p.m. The ruling communist party claims that the "youth videogame addiction" is distracting young people from their responsibilities to school and family. How on earth does the government plan on enforcing this new dictate? Since the government controls the tech companies which operate in China, and these companies can control users via login credentials, the task isn't as herculean as it may seem. Just how granular is the government willing to get with respect to controlling its population? A few years back, videogame players between the ages of 16 and 18 were told that they could not spend over 400 yuan (about $60) per month on the purchase of new games.
At first blush, we imagine many Americans applaud such a move to restrict the brain-numbing play of videogames by a country's youth. However, a government which can and will control such a mundane aspect of life will never reach a level of satisfaction; lines in the sand will be just that, and they will be redrawn at the whim of the ruling members of the party. Personal freedoms will continue to wither away until an inevitable clash occurs between the masses being controlled and the elites who are imposing the draconian standards. China believes it can simultaneously control and feast off of the golden goose of economic prosperity. That faulty logic stems from the incredible level of arrogance and hubris which communism foments among its ruling class. The short-term pain we so often experience in a democracy is allowed to mushroom out of control within a closed society. Despite the lessons of the past, this is a condition lost on many within the financial media; journalists who eagerly regurgitate what the state-controlled media in China feeds them. As for the Chinese Internet companies which so many investors have been wantonly rushing into, many are now sitting 50% below their February highs on the heels of this latest government crackdown.
Application & Systems Software
06. Skittish investors drive Zoom Video shares down 25% in August
It is hard to believe, but it was just one year ago that investors were betting the farm on the future of Zoom Video Communications (ZM $289), driving shares up to astronomical valuations. After all, the company just happened to offer the exact right services at precisely the right time: a way for teachers to connect with students and for management to collaborate with workers in a world where schools and offices had been shut down due to the pandemic. It's not as though the company won't continue to excel, or that the health threat is behind us; it's more a case of investors' euphoria giving way to the reality of kids and workers going back to their respective schools and offices. Tuesday accounted for the second-largest one-day drop in Zoom's short history, with shares falling 17%, but August has been particularly brutal as the company lost about one-quarter of its market cap. But was it ever really deserving of the $160 billion market cap it held in October of last year, and does $86 billion signal a golden buying opportunity? The answer to both questions is, in our opinion, "no." Putting its size in perspective, ZM is nestled between banking stalwart US Bancorp (USB) and aerospace giant Lockheed Martin (LMT). That's hard to justify; but, then again, it makes more sense that AMC Entertainment (AMC) having a $24 billion market cap. (The latter was a $450 million company teetering on the brink of bankruptcy going into this year.)
Ironically, Zoom's big drop came after the company reported revenue of over $1 billion in the second quarter of the year, handily topping estimates. That figure represents a 54% gain over the same quarter last year, and a 700% gain over the same quarter in 2019. It was the guidance, however, that spooked investors. Subscribers are dropping off at an unexpected rate, and management warned that revenues would probably remain flat through the end of the year. Even after the August drop, Zoom's P/E ratio is still a lofty 100, but at least it has a multiple—unlike AMC.
We have a lot of respect for Zoom and its management team, and the company's long-term viability is not in question. However, there are so many other massive competitors getting into the space—from Microsoft to Google to Cisco—that it will be a street fight going forward. As the firm rolls out new services, such as Zoom Phone, it will grow into its multiple, but that would indicate it is rather fairly valued right around where it sits today.
Capital Markets
05. Robinhood investors should be concerned about recent comments made by the new SEC chairman
I recall would-be clients, early in my career, telling me that "we own American Century no-load mutual funds, so we don't pay any fees." My retort was always the same: "I wonder how they paid for those two beautiful towers where their headquarters is located, or how they pay their staff?" In reality, despite the flowery ads designed to make us think that a company's sole existence is to help others, it's always about the money. I thought of those comments, made to me in the late 1990s, as I read about the latest threat to newly-public Robinhood Markets (HOOD $44). As the financial services platform offers customers commission-free trading, where does the revenue come from? Overwhelmingly, the answer lies in something called payments for order flow (PFOF).
When a customer wishes to buy or sell shares of a company or to trade options, the broker—be it Robinhood, Schwab, or a host of others—forwards the trade to a market maker. Historically, these intermediaries were at the major exchanges, such as the New York Stock Exchange. More recently, however, a slew of off-exchange market makers have popped up and are now responsible for over half of all retail trades placed. They make their money off of the difference between what they pay to buy the requested shares and what they sell them for seconds later—the spread. Understandably, the higher the volume of orders flowing through a market maker, the more profit to be made. Since companies like Robinhood can choose who handles a given trade, these third-party market makers have been offering to share a percentage of the spread with the brokers; hence, payments for order flow. In one month alone, Robinhood reportedly generated $100 million in revenue via this practice.
Many of the larger brokerages, such as Fidelity and Interactive Brokers, generally refuse to accept PFOF. In fact, countries like Canada, Australia, and the U.K. have gone so far as to ban the practice altogether. Enter SEC Chairman Gary Gensler. In a Barron's interview, Gensler said that a ban on PFOF is "on the table." Transparency seems to be the term du jour in the financial services world, which means an ultimate U.S. ban is quite possible. For Robinhood, which makes a majority of its revenue from PFOF, this would be a disastrous course of events.
With HOOD shares trading nearly 50% off of their August high of $85, investors might be tempted to jump in. We are sticking by our previous comments, however, and would wait to see a price in the mid-$20s range before considering a new stake.
Media & Entertainment
04. Joke of the Week: GameStop headed back to the S&P 500?
It doesn't take much news, if any, to make a meme stock gyrate wildly in price, but the reason behind the most recent leg up in shares of GameStop (GME $214) is rather humorous. It seems a rumor began circulating that the reddit darling may be headed back to the S&P 500, the index which gave the company the boot back in 2016 due to deteriorating fundamentals. Granted, five years ago the videogame consumer retailer had dropped in size to $2.5 billion (it is now comically valued at $15 billion), but it was also generating over $9 billion in revenue and was operating in the black. Now, the company's sales are about half that amount and it hasn't turned a profit in over three years. That in itself should keep it out of the index, which requires an entrant to have positive earnings for not only the most recent quarter (GME lost $67 million), but also for the most recent four quarters in aggregate (GME lost $116 million TTM). Membership into the S&P 500 is not a matter of quant calculations; ultimately, an index committee made up of staffers at S&P Dow Jones Indices decide a company's fate. Bloggers and reddit users can speculate all they want, generally driving the price up as they do, but the odds of seeing ticker GME in the S&P 500 ever again are slim to none.
Forget the term "new paradigm" or the theory that new, young investors will keep the meme stocks supported; we heard the same false narratives back in 1999. Fundamentals always matter in the long run, and the correction to these money-burning companies will eventually arrive. Diamonds may be forged by fire and high pressure, but it will be entertaining to watch how "diamond hands" hold up when these two conditions come calling.
Economics: Work & Pay
03. Payroll growth hit the skids in August, coming up half-a-million jobs short
It's always thrilling to watch the monthly US Nonfarm Payrolls report roll in, as we never know what kind of surprises it has in store. Take August's figures, released by the US Labor Department Friday morning: Against economists' estimates for 720,000 new jobs, just 235,000 were created over the course of the month. That miss of nearly half-a-million jobs immediately sent the major indexes from positive to negative territory in the pre-market. The only thing that tempered investors' concern was the "bad news equals good news" phenomenon: they calculated that this report will force the Fed to hold off on any potential September tapering of the $120 billion per month T-bill/MBS spending spree. The Delta variant was, most believe, behind the anemic jobs growth for the month, but few believe we are heading back to lockdowns or other draconian measures. In other words, the business world is learning to adapt to a new era in which these variants are, sadly, always going to be around. Buttressing the Delta argument were the internals of the report, showing the biggest misses in industries directly affected by a pandemic resurgence, such as leisure and hospitality. On the bright side, the unemployment rate did drop 20 basis points, to 5.2%. The last time the US economy hit that number—on the way down, that is—was July of 2015.
We're not overly concerned about the August jobs report, as it truly does seem to be a direct result of the latest major variant of the disease. Infection rates and hospitalizations have generally peaked in the US and are coming back down, so we expect the robust hiring to pick back up through the remainder of the year. As the extra unemployment benefits fall off, more Americans will be incentivized into going back to work. The major push to create more in-home test kits and, more importantly, develop Covid therapies which can be administered at home should continue to mitigate the economic damage to the economy.
Capital Markets
02. Renaissance Capital: Get ready for a cascade of new IPOs this fall
If a new report issued by Renaissance Capital is correct, investors are going to have a dream autumn as the IPO market will see its busiest season since the peak of the Internet craze of 2000. Around 100 public offerings are expected to take place over the coming months, to include the likes of: Warby Parker, Allbirds, Authentic Brands (Nautica, Eddie Bauer), Impossible Foods, Chobani, Flipkart, Instacart, mobile payments processor Stripe, and social media darling Reddit. When the dust settles on 2021, Renaissance believes we will be looking back on 375 deals raising roughly $125 billion. There is no doubt the appetite is there, with new investors on the Robinhood platform willing to buy into companies not showing even a modicum of profits and, in a number of instances, scant revenue. As opposed to most of the names brought to market via the recent SPAC craze, however, we do like most of the companies anticipated to go public this fall. One, Warby Parker, will go the direct listing route due to its name recognition. While SPACs have been on a horrendous downturn throughout the summer due to their excessively-overpriced debuts (just because an IPO launches at $10 per share doesn't make it a good deal), expect some relatively reasonable valuations with this new crop. In fact, investors will be chasing so many new tickers that a few golden opportunities are bound to present themselves in a number of these new issues. Get ready for a whirlwind season.
Our advice? Prepare to make a few additions to the portfolio by looking at current sector weightings to identify underweight sectors and industries. Other than Stripe and Reddit, the names mentioned above are outside of the recent new-tech-stock craze. And that is a good thing.
Energy Commodities
01. As we head into sweater weather and beyond, beware the trajectory of natural gas prices
For anyone paying the family bills and living in a home which utilizes both gas and electric utilities, the cooler months generally meant a nice cost savings as the AC was turned off and the gas-powered heat came on. It always boggled our minds that homeowners would willingly go to an all-electric house, considering the spread between the price of the two commodities. That spread hasn't completely vanished, but the natural gas advantage is being rapidly diminished. In fact, the Henry Hub Natural Gas Spot Price has risen a remarkable 78%, from $2.43 to $4.33 per million British thermal units (MMBtu), just since this past April. A confluence of events have led to the dramatic price increase, from Europe's war on fossil fuels to an especially cold winter last year to a mysterious supply shortage in Russia. Whatever the mix of reasons, over which we have little to no control, expect higher gas bills this winter. Ironically, the spike in LNG prices has led to a semi-resurgence in the "dirtiest" of all fossil fuels, coal, as the price of the latter is substantially less than the former. Adding insult to injury is the fact that the hybrid work-from-home model means that families, not the companies they work for, will shoulder a higher percentage of the burden as they tap into more energy for their domestic work requirements.
Our pocketbooks may be hurting this winter, but the vilified fossil fuel producers have provided a nice opportunity for high-risk-tolerance investors. Cheniere Energy (LNG $89), a major exporter of liquified natural gas (no easy task, by the way), is up 50% ytd; while the hated coal company, Peabody Energy Corp (BTU $19), is up a whopping 670%. For a basket of LNG holdings, investors can consider the United States 12 Month Natural Gas ETF (UNL $12), the United States Natural Gas ETF (UNG $16), and the iPath Bloomberg Natural Gas ETN (GAZ $25).
Under the Radar Investment
Agnico Eagle Mines Ltd (AEM $57)
We have a strong thesis with respect to the current price of gold: it is undervalued. While the SPDR® Gold Shares ETF (GLD $168) is certainly one good method for playing the coming price increase of the precious metal, don't forget the gold miners as well. One of our perennial favorites—or at least a historical favorite when the price of gold has appeared undervalued—is Agnico Eagle Mines (AEM $57). The company is on pace to produce two million ounces of gold this year through its cornerstone mines in Canada, Mexico, and Finland. AEM is continually working to make its mining processes more efficient, reducing its all-in sustaining costs (AISC) by 10% this year, to $1,021 per ounce. The company believes it is on pace to reduce that figure to $950 per ounce in the very near future. The AISC is an industry-specific standard which portrays the true cost of mining an ounce of a given metal. With gold currently sitting at $1,789 per ounce, AEM shares are sitting near their 52-week low. With a market cap of $14B, the company has an eighteen multiple and a solid balance sheet (L/T assets/liabilities=$8.6B/$3.35B). Conservatively, we place AEM's fair value at $75/share, or 32% above where they currently trade.
Answer
The Battle of Saratoga consisted of two crucial battles, eighteen days apart. The Battle of Freeman's Farm, which took place 19 September 1777 on the abandoned farm of loyalist John Freeman, ended up being a pyrrhic victory for General John Burgoyne, as the British forced the Americans to retreat, but lost twice as many men in the process. This prevented the British from continuing their drive to Albany. Then, on 17 October 1777, two American officers, Major General Benedict Arnold and Brigadier General Daniel Morgan, fought savagely to deal Burgoyne a humiliating defeat. Their commanding officer, Major General Horatio "Granny" Gates, took credit for the victory, despite remaining safely in his tent during the battle and excoriating Arnold for his "reckless" actions. This incident, among others, would ultimately push Benedict Arnold, whose leg was severely mangled during the fighting, to become a traitor to the cause and a spy for the British.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
Turning point of the American Revolution...
Despite Washington's impressive Revolutionary War victory against the German Hessians on December 26th, 1776 in the town of Trenton, there wasn't much to celebrate during the brutal months to come. What stunning victory began to turn the tide in favor of the Americans and convinced the French to join the fight against their longstanding nemesis, Great Britain?
Penn Trading Desk:
Penn: Changes to mining companies within the Global Leaders Club
After performing a review of the Metals & Mining industry, we are removing the two gold miners currently in the Penn Global Leaders Club and replacing them with an alternate name. Instead of an outright sell order, we recommend placing stops on the current positions slightly below their current respective prices. Members, see the Trading Desk for specific instructions. As always, clients of Penn Wealth Management, our Registered Investment Advisory service and a separate entity, will automatically have these actions taken.
JP Morgan: Add Sunrun to "U.S. Analyst Focus List"
JP Morgan just added $10 billion solar energy and storage company Sunrun (RUN $47) to its highest conviction group of names, the U.S. Analyst Focus List. Analyst Mark Strouse likes the fundamentals for the industry over the medium and long term, and believes supply constraints will ease in the second half of the year. While the risk, as measured by beta, is a quite large 2.089, the median target share price among analysts covering the stock is $76.53, or 62% higher from here. We listed some of our favorite clean energy plays in a recent Penn Wealth Report.
Cowen: Raise rating and price target on Textron
Citing a strong comeback in the demand for business jets and the nascent civilian VTOL (vertical take-off and landing) movement, Cowen has raised its rating on aviation firm Textron from Market Perform to Outperform, and has adjusted its target price for TXT shares from $75 to $95. That is a street high, with Morningstar taking the opposite side of the bet with its one-star rating and $42 per share target price. The average price target among the eleven analysts weighing in on the Rhode Island-based firm is $78 per share.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Cryptocurrencies
10. In a refreshing twist, Coinbase's CEO fires back at SEC
We are ambivalent with respect to cryptos: their future as a means of exchange feels certain, but the industry is going through its Wild West phase right now, with plenty of risks and opportunities for investors. We are equally ambivalent about the SEC (and most other government agencies as well): they enforce needed guardrails, yet they too often create more problems than they resolve. Which leads to the brouhaha going on right now between the SEC and Coinbase (COIN $257), the leading crypto exchange platform in the United States and a current member of the Penn Intrepid Trading Platform. Shares of the exchange fell sharply this week as the SEC warned that it planned to sue if the company forged ahead with plans to allow its users—of which it currently boasts some 68 million—to earn interest by lending crypto assets. Apparently the SEC believes that privilege should rest solely in the hands of the banks. It is crystal clear that current SEC Chairman Gary Gensler plans on doing battle with a host of financial services companies during his reign, with cryptos, perhaps, being his number one target.
When a company receives a Wells Notice, a formal notice from the SEC informing the recipient that the agency is preparing enforcement actions, it is traditional to stay relatively mum; certainly not to stir the pot. Apparently, Coinbase CEO Brian Armstrong is taking a page from Elon Musk's playbook, as he remained anything but mum following the announcement. In what Bloomberg described as "a rant" and "a fit" (it was neither, Bloomberg), Armstrong unloaded on the commission. In one tweet, the dynamic CEO noted "Some really sketchy behavior coming out of the SEC recently. Story time...." Ironically, it was Coinbase's willingness to share its plans for the new lending platform with the SEC—instead of pushing ahead and implementing the plan—which instigated the threats from the government body. Instead of a few polite questions to delve further into how the process would work, the SEC, i.e. Gensler, took the very public action of issuing the Wells Notice. Not cool, SEC. Jesse Powell, co-founder of the crypto exchange Kraken, came to Armstrong's defense in his own series of tweets: "We won't tell you why we think your product is illegal but we will tell you that there is no path to making it legal. Disagree? Go ahead and see what happens." CEOs daring to fight back against government regulators? Brilliant! While the zeitgeist seems to consist of corporate heads cowardly genuflecting to any and all social movements looking their way, it is refreshing to see a little gutsy pushback against the tactics of bullies. That used to be called The American Spirit.
Despite the SEC-caused downturn in the stock, our COIN position is still up 10% since purchase. We fully expect the firm to weather this storm. We doubt the SEC fully understands how the crypto exchanges even work, so it will buy some time while the government attorneys attempt to get up to speed. After that, let the lengthy court battles begin.
Beverages & Tobacco
09. Tilray's convoluted effort to get its foot in the door of the US cannabis market
We have mentioned before our deep respect for Irwin Simon, founder of Hain Celestial (HAIN $40) and current CEO of Canadian cannabis company Tilray (TLRY $14). That being said, we do not currently own any specific cannabis names within any of the Penn portfolios. It's not that we don't believe in the future of the industry from an investment standpoint; we are simply waiting for the winners to break free from the inevitable losers. We expect Tilray to be a long-term player, but it doesn't yet have the ability to crack the lucrative US market. The company is trying to change that. As a Canadian cannabis company dual listed on the Toronto Exchange and the Nasdaq, the fact that cannabis is still illegal in the US at the federal level precludes Tilray from setting up operations south of their current border. So, in a complex, circuitous route, management just made a very interesting move. They acquired around $170 million of convertible MedMen (MMNFF $0.29) debt through a new limited partnership, with the debt's maturity date being extended out through August of 2028. MedMen is the preeminent cannabis player in the US, with access to roughly 50% of the total addressable (legal) market. The firm has major operations in California, Nevada, and New York. What does this mean for Tilray? The company's CEO made it pretty clear in recent comments: he believes that his Canadian entity will be able to acquire control of MedMen once cannabis is legalized at the federal level. Acquiring $170 million in debt for a micro-cap player in the US may not seem that big of a deal, but we fully expect the adroit Simon to leverage it into a major piece of the action as the domestic market for cannabis expands.
While we have played with positions in Tilray as well as Canopy Growth Corp (CGC $18), another major Canadian player, we have yet to add a cannabis company to a portfolio. MedMen may look attractive to some investors, but its current $0.29 share price represents a dramatic fall from the high of $1.47 it hit in February of this year. All of these firms remain huge money losers, though the space is worth keeping an eye on.
Aerospace & Defense
08. The last major aviation market refusing to lift ban on 737 MAX should come as no surprise
We have certainly given aircraft maker Boeing (BA $218) a lot of grief over the past two years, but this is a story more about politics than aviation prowess. Most other major aviation markets lifted the ban on the Boeing 737 MAX late last year or early in 2021, with two notable exceptions: India and China. This week, India's Directorate General of Civil Aviation announced that the model has received the green light to resume operations in that country, leaving only China's ban in place. Boeing's management team clearly believes the Chinese market is crucial for the company's growth story going forward, with one-fifth of the firm's aircraft deliveries since 2017 heading to the communist nation. But the trade war, the pandemic, and China's own economic ambitions have strongly constricted sales, leaving primarily Airbus (EADSY $34) to pick up the slack. China wants that situation to change as well, touting its own manufacturer, the Commercial Aircraft Corporation of China, or Comac. The company's nascent efforts, the ARJ21 and the C919—the latter of which it hopes can go head to head with the 737 MAX and the Airbus A320, have been riddled with defects and delays. The problems have kept would-be buyers at bay, despite the C919 selling for about half as much ($50 million) as the Airbus A320neo. Nonetheless, China, through its Belt and Road infrastructure initiative, will pump as much money as needed into Comac until it shows signs of life. As for the MAX, China would love to have Comac's C919 step in to fill the void, but it is unlikely that will happen anytime soon. Expect a lift on the ban to come—out of pure necessity—by the end of the year.
Boeing is facing a host of serious problems; a new competitor in the form of a state-sponsored Chinese aircraft manufacturer is one we haven't even touched on before. CEO David Calhoun is actively pushing the Biden administration to urge China to lift its ban on the MAX, but what really needs to be taking place is more activism in the ranks of BA shareholders to force an overhaul of Boeing's board of directors—including its president and CEO—Calhoun.
Demographics & Lifestyle
07. China limits videogame usage to three hours per week for minors, no play Monday through Thursday
Our first thought was, "Imagine trying to implement such a law in the U.S." China, as part of its latest salvo against industries it deems harmful to the collective cause, has issued a rather remarkable decree: minors—we are assuming that means youth under the age of eighteen—are hereby forbidden from playing videogames Monday through Thursday, and will limit their play to a maximum of one hour per day on Fridays, weekends, and public holidays, between the hours of 8 p.m. and 9 p.m. The ruling communist party claims that the "youth videogame addiction" is distracting young people from their responsibilities to school and family. How on earth does the government plan on enforcing this new dictate? Since the government controls the tech companies which operate in China, and these companies can control users via login credentials, the task isn't as herculean as it may seem. Just how granular is the government willing to get with respect to controlling its population? A few years back, videogame players between the ages of 16 and 18 were told that they could not spend over 400 yuan (about $60) per month on the purchase of new games.
At first blush, we imagine many Americans applaud such a move to restrict the brain-numbing play of videogames by a country's youth. However, a government which can and will control such a mundane aspect of life will never reach a level of satisfaction; lines in the sand will be just that, and they will be redrawn at the whim of the ruling members of the party. Personal freedoms will continue to wither away until an inevitable clash occurs between the masses being controlled and the elites who are imposing the draconian standards. China believes it can simultaneously control and feast off of the golden goose of economic prosperity. That faulty logic stems from the incredible level of arrogance and hubris which communism foments among its ruling class. The short-term pain we so often experience in a democracy is allowed to mushroom out of control within a closed society. Despite the lessons of the past, this is a condition lost on many within the financial media; journalists who eagerly regurgitate what the state-controlled media in China feeds them. As for the Chinese Internet companies which so many investors have been wantonly rushing into, many are now sitting 50% below their February highs on the heels of this latest government crackdown.
Application & Systems Software
06. Skittish investors drive Zoom Video shares down 25% in August
It is hard to believe, but it was just one year ago that investors were betting the farm on the future of Zoom Video Communications (ZM $289), driving shares up to astronomical valuations. After all, the company just happened to offer the exact right services at precisely the right time: a way for teachers to connect with students and for management to collaborate with workers in a world where schools and offices had been shut down due to the pandemic. It's not as though the company won't continue to excel, or that the health threat is behind us; it's more a case of investors' euphoria giving way to the reality of kids and workers going back to their respective schools and offices. Tuesday accounted for the second-largest one-day drop in Zoom's short history, with shares falling 17%, but August has been particularly brutal as the company lost about one-quarter of its market cap. But was it ever really deserving of the $160 billion market cap it held in October of last year, and does $86 billion signal a golden buying opportunity? The answer to both questions is, in our opinion, "no." Putting its size in perspective, ZM is nestled between banking stalwart US Bancorp (USB) and aerospace giant Lockheed Martin (LMT). That's hard to justify; but, then again, it makes more sense that AMC Entertainment (AMC) having a $24 billion market cap. (The latter was a $450 million company teetering on the brink of bankruptcy going into this year.)
Ironically, Zoom's big drop came after the company reported revenue of over $1 billion in the second quarter of the year, handily topping estimates. That figure represents a 54% gain over the same quarter last year, and a 700% gain over the same quarter in 2019. It was the guidance, however, that spooked investors. Subscribers are dropping off at an unexpected rate, and management warned that revenues would probably remain flat through the end of the year. Even after the August drop, Zoom's P/E ratio is still a lofty 100, but at least it has a multiple—unlike AMC.
We have a lot of respect for Zoom and its management team, and the company's long-term viability is not in question. However, there are so many other massive competitors getting into the space—from Microsoft to Google to Cisco—that it will be a street fight going forward. As the firm rolls out new services, such as Zoom Phone, it will grow into its multiple, but that would indicate it is rather fairly valued right around where it sits today.
Capital Markets
05. Robinhood investors should be concerned about recent comments made by the new SEC chairman
I recall would-be clients, early in my career, telling me that "we own American Century no-load mutual funds, so we don't pay any fees." My retort was always the same: "I wonder how they paid for those two beautiful towers where their headquarters is located, or how they pay their staff?" In reality, despite the flowery ads designed to make us think that a company's sole existence is to help others, it's always about the money. I thought of those comments, made to me in the late 1990s, as I read about the latest threat to newly-public Robinhood Markets (HOOD $44). As the financial services platform offers customers commission-free trading, where does the revenue come from? Overwhelmingly, the answer lies in something called payments for order flow (PFOF).
When a customer wishes to buy or sell shares of a company or to trade options, the broker—be it Robinhood, Schwab, or a host of others—forwards the trade to a market maker. Historically, these intermediaries were at the major exchanges, such as the New York Stock Exchange. More recently, however, a slew of off-exchange market makers have popped up and are now responsible for over half of all retail trades placed. They make their money off of the difference between what they pay to buy the requested shares and what they sell them for seconds later—the spread. Understandably, the higher the volume of orders flowing through a market maker, the more profit to be made. Since companies like Robinhood can choose who handles a given trade, these third-party market makers have been offering to share a percentage of the spread with the brokers; hence, payments for order flow. In one month alone, Robinhood reportedly generated $100 million in revenue via this practice.
Many of the larger brokerages, such as Fidelity and Interactive Brokers, generally refuse to accept PFOF. In fact, countries like Canada, Australia, and the U.K. have gone so far as to ban the practice altogether. Enter SEC Chairman Gary Gensler. In a Barron's interview, Gensler said that a ban on PFOF is "on the table." Transparency seems to be the term du jour in the financial services world, which means an ultimate U.S. ban is quite possible. For Robinhood, which makes a majority of its revenue from PFOF, this would be a disastrous course of events.
With HOOD shares trading nearly 50% off of their August high of $85, investors might be tempted to jump in. We are sticking by our previous comments, however, and would wait to see a price in the mid-$20s range before considering a new stake.
Media & Entertainment
04. Joke of the Week: GameStop headed back to the S&P 500?
It doesn't take much news, if any, to make a meme stock gyrate wildly in price, but the reason behind the most recent leg up in shares of GameStop (GME $214) is rather humorous. It seems a rumor began circulating that the reddit darling may be headed back to the S&P 500, the index which gave the company the boot back in 2016 due to deteriorating fundamentals. Granted, five years ago the videogame consumer retailer had dropped in size to $2.5 billion (it is now comically valued at $15 billion), but it was also generating over $9 billion in revenue and was operating in the black. Now, the company's sales are about half that amount and it hasn't turned a profit in over three years. That in itself should keep it out of the index, which requires an entrant to have positive earnings for not only the most recent quarter (GME lost $67 million), but also for the most recent four quarters in aggregate (GME lost $116 million TTM). Membership into the S&P 500 is not a matter of quant calculations; ultimately, an index committee made up of staffers at S&P Dow Jones Indices decide a company's fate. Bloggers and reddit users can speculate all they want, generally driving the price up as they do, but the odds of seeing ticker GME in the S&P 500 ever again are slim to none.
Forget the term "new paradigm" or the theory that new, young investors will keep the meme stocks supported; we heard the same false narratives back in 1999. Fundamentals always matter in the long run, and the correction to these money-burning companies will eventually arrive. Diamonds may be forged by fire and high pressure, but it will be entertaining to watch how "diamond hands" hold up when these two conditions come calling.
Economics: Work & Pay
03. Payroll growth hit the skids in August, coming up half-a-million jobs short
It's always thrilling to watch the monthly US Nonfarm Payrolls report roll in, as we never know what kind of surprises it has in store. Take August's figures, released by the US Labor Department Friday morning: Against economists' estimates for 720,000 new jobs, just 235,000 were created over the course of the month. That miss of nearly half-a-million jobs immediately sent the major indexes from positive to negative territory in the pre-market. The only thing that tempered investors' concern was the "bad news equals good news" phenomenon: they calculated that this report will force the Fed to hold off on any potential September tapering of the $120 billion per month T-bill/MBS spending spree. The Delta variant was, most believe, behind the anemic jobs growth for the month, but few believe we are heading back to lockdowns or other draconian measures. In other words, the business world is learning to adapt to a new era in which these variants are, sadly, always going to be around. Buttressing the Delta argument were the internals of the report, showing the biggest misses in industries directly affected by a pandemic resurgence, such as leisure and hospitality. On the bright side, the unemployment rate did drop 20 basis points, to 5.2%. The last time the US economy hit that number—on the way down, that is—was July of 2015.
We're not overly concerned about the August jobs report, as it truly does seem to be a direct result of the latest major variant of the disease. Infection rates and hospitalizations have generally peaked in the US and are coming back down, so we expect the robust hiring to pick back up through the remainder of the year. As the extra unemployment benefits fall off, more Americans will be incentivized into going back to work. The major push to create more in-home test kits and, more importantly, develop Covid therapies which can be administered at home should continue to mitigate the economic damage to the economy.
Capital Markets
02. Renaissance Capital: Get ready for a cascade of new IPOs this fall
If a new report issued by Renaissance Capital is correct, investors are going to have a dream autumn as the IPO market will see its busiest season since the peak of the Internet craze of 2000. Around 100 public offerings are expected to take place over the coming months, to include the likes of: Warby Parker, Allbirds, Authentic Brands (Nautica, Eddie Bauer), Impossible Foods, Chobani, Flipkart, Instacart, mobile payments processor Stripe, and social media darling Reddit. When the dust settles on 2021, Renaissance believes we will be looking back on 375 deals raising roughly $125 billion. There is no doubt the appetite is there, with new investors on the Robinhood platform willing to buy into companies not showing even a modicum of profits and, in a number of instances, scant revenue. As opposed to most of the names brought to market via the recent SPAC craze, however, we do like most of the companies anticipated to go public this fall. One, Warby Parker, will go the direct listing route due to its name recognition. While SPACs have been on a horrendous downturn throughout the summer due to their excessively-overpriced debuts (just because an IPO launches at $10 per share doesn't make it a good deal), expect some relatively reasonable valuations with this new crop. In fact, investors will be chasing so many new tickers that a few golden opportunities are bound to present themselves in a number of these new issues. Get ready for a whirlwind season.
Our advice? Prepare to make a few additions to the portfolio by looking at current sector weightings to identify underweight sectors and industries. Other than Stripe and Reddit, the names mentioned above are outside of the recent new-tech-stock craze. And that is a good thing.
Energy Commodities
01. As we head into sweater weather and beyond, beware the trajectory of natural gas prices
For anyone paying the family bills and living in a home which utilizes both gas and electric utilities, the cooler months generally meant a nice cost savings as the AC was turned off and the gas-powered heat came on. It always boggled our minds that homeowners would willingly go to an all-electric house, considering the spread between the price of the two commodities. That spread hasn't completely vanished, but the natural gas advantage is being rapidly diminished. In fact, the Henry Hub Natural Gas Spot Price has risen a remarkable 78%, from $2.43 to $4.33 per million British thermal units (MMBtu), just since this past April. A confluence of events have led to the dramatic price increase, from Europe's war on fossil fuels to an especially cold winter last year to a mysterious supply shortage in Russia. Whatever the mix of reasons, over which we have little to no control, expect higher gas bills this winter. Ironically, the spike in LNG prices has led to a semi-resurgence in the "dirtiest" of all fossil fuels, coal, as the price of the latter is substantially less than the former. Adding insult to injury is the fact that the hybrid work-from-home model means that families, not the companies they work for, will shoulder a higher percentage of the burden as they tap into more energy for their domestic work requirements.
Our pocketbooks may be hurting this winter, but the vilified fossil fuel producers have provided a nice opportunity for high-risk-tolerance investors. Cheniere Energy (LNG $89), a major exporter of liquified natural gas (no easy task, by the way), is up 50% ytd; while the hated coal company, Peabody Energy Corp (BTU $19), is up a whopping 670%. For a basket of LNG holdings, investors can consider the United States 12 Month Natural Gas ETF (UNL $12), the United States Natural Gas ETF (UNG $16), and the iPath Bloomberg Natural Gas ETN (GAZ $25).
Under the Radar Investment
Agnico Eagle Mines Ltd (AEM $57)
We have a strong thesis with respect to the current price of gold: it is undervalued. While the SPDR® Gold Shares ETF (GLD $168) is certainly one good method for playing the coming price increase of the precious metal, don't forget the gold miners as well. One of our perennial favorites—or at least a historical favorite when the price of gold has appeared undervalued—is Agnico Eagle Mines (AEM $57). The company is on pace to produce two million ounces of gold this year through its cornerstone mines in Canada, Mexico, and Finland. AEM is continually working to make its mining processes more efficient, reducing its all-in sustaining costs (AISC) by 10% this year, to $1,021 per ounce. The company believes it is on pace to reduce that figure to $950 per ounce in the very near future. The AISC is an industry-specific standard which portrays the true cost of mining an ounce of a given metal. With gold currently sitting at $1,789 per ounce, AEM shares are sitting near their 52-week low. With a market cap of $14B, the company has an eighteen multiple and a solid balance sheet (L/T assets/liabilities=$8.6B/$3.35B). Conservatively, we place AEM's fair value at $75/share, or 32% above where they currently trade.
Answer
The Battle of Saratoga consisted of two crucial battles, eighteen days apart. The Battle of Freeman's Farm, which took place 19 September 1777 on the abandoned farm of loyalist John Freeman, ended up being a pyrrhic victory for General John Burgoyne, as the British forced the Americans to retreat, but lost twice as many men in the process. This prevented the British from continuing their drive to Albany. Then, on 17 October 1777, two American officers, Major General Benedict Arnold and Brigadier General Daniel Morgan, fought savagely to deal Burgoyne a humiliating defeat. Their commanding officer, Major General Horatio "Granny" Gates, took credit for the victory, despite remaining safely in his tent during the battle and excoriating Arnold for his "reckless" actions. This incident, among others, would ultimately push Benedict Arnold, whose leg was severely mangled during the fighting, to become a traitor to the cause and a spy for the British.
Headlines for the Week of 01 Aug—07 Aug 2021
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The communist party declares open season on domestic Internet companies...
Since February, when China began ramping up its attack on Net-based companies under its domain, the affected stocks have been plummeting. Since that time, what percentage have they, as a group, dropped in price?
Penn Trading Desk:
Penn: Purchased a play on the surging demand for outdoor recreational activities
Americans want to get out and explore their country to an extent not seen in a century. We added an undervalued name to the Intrepid Trading Platform which is well poised to take advantage of this trend, and one which happens to be on an aggressive acquisition spree to increase its breadth in the arena.
Penn: Placing a stop loss to protect our American Campus Communities gains
We purchased student housing REIT American Campus Communities right as analysts were predicting a dire situation for students returning to their respective colleges in the fall of 2020. We never bought into the "mass closings of dormitories" thesis and saw a great opportunity in the shares. In addition to strong growth potential, we were drawn to the company's 5.41% dividend yield. ACC has blown past our $40 initial price target and we are protecting our gains with a $47 stop loss on the shares.
Penn: Placing a stop loss to protect our MGM gains
We added the Las Vegas Strip's largest resort casino operator, MGM Resorts International, to the Penn Global Leaders Club last year as the industry was reeling from the pandemic. MGM shares surpassed our target price, are now up 130% from our purchase price, and have been falling back recently due to the Delta variant. We still believe in the company's long-term vision, but are not willing to fall below a triple-digit gain. We have placed a stop on the shares at $34, or $2 above our target price.
Penn: Placing a stop loss to protect our AVB gains
We opened our position in AvalonBay Communities (AVB $227) within the Strategic Income Portfolio in July of 2020, and this owner of 275 apartment communities—with 74,000 units—has seen its share price rise well above our initial price target of $182. Valuations seem a bit stretched, and with the share price hovering near an all-time high, we are putting protection on our position with a $218 stop loss.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Cybersecurity
10. Use diligence before clicking on that "unsubscribe" button at the bottom of spam emails
Remember when it was actually fun to find new emails waiting to be opened in your inbox? A few of us even remember AOL's iconic "you've got mail" notification. How times have changed. Americans are now inundated with mountains of new emails each and every day, and trying to cull the weeds from the garden can be challenging, to say the least. Instead of just whacking away by deleting them, knowing they are destined to return, many of us have tried to eradicate them using the mandatory (at least we thought it was) "Unsubscribe" button located in microscopic print somewhere near the bottom of each piece. We recently began to wonder, though, if the sage advice of not clicking on any link we're not extremely familiar with also held true for this innocuous little "opt out" key.
In fact, it turns out that malicious emails can, indeed, have unsubscribe links that lead to dangerous sites which can compromise or even infect your system with a virus. According to cybersecurity firm McAfee, following a few simple rules can help keep your system—and the treasure trove of data it probably holds—safe(r) from the dark web. If the email is from a legitimate company with which you are familiar, it should be safe to take a minute of your valuable time and go through the unsubscribe process. (Most are simple, others are purposefully irritating, making you put in the email address where they sent their junk!) If the email is from a company you don't recognize or one that seems a bit fishy, do not hit the unsubscribe link, just delete the email. For nefarious individuals and the algorithms they devise, this verifies that they have made a successful hit on a "validated" email address. If this is the case, the best scenario is more unwanted email heading your way. An uglier possibility is that the simple act of clicking on an unsubscribe button or link can lead to a virus being downloaded to your system. Another reason it pays to have good antivirus software protecting your system at all times.
Bottom line: simply delete or move to spam/junk any email that appears suspicious. In addition to having a strong web protection system installed on all of your devices, be sure and have it run scans on your system on a regular basis. Always keep your operating system up-to-date as well, as new malicious efforts are constantly being identified by software developers.
Beverages & Tobacco
09. Boston Beer's big bet on seltzer hits a wall, shares plummet
Boston Beer (SAM $716), maker of Sam Adams, has been our favorite name in booze/brewers for a number of years. Fiercely independent (as opposed to the big three, which are all now owned by foreign entities), the company simply makes an excellent product and has an exemplary management team, led by founder and Chairman of the Board Jim Koch. The sheen began to come off the name, however, when SAM started pushing a mediocre beer called Sam 76. That misstep was followed by another: the company bet big on hard seltzers—the modern version of Zima or Bartles & Jaymes wine coolers—at the expense (in our opinion) of their staple beer business. Hopefully they received the message investors sent them last week. After missing Q2 earnings badly ($4.75/sh vs the $6.60/sh expected), management admitted to increasing production of Truly hard seltzer to meet a summer demand which never fully manifested. For the quarter, SAM generated $602.8M in revenue versus expectations for $675.7M. To make matters worse, the firm cut its guidance for the remainder of the year. All of this was enough to pound SAM shares down 26% in one day and 31% from the week's peak to trough price.
We haven't owned SAM shares within the Penn portfolios since our disappointment over the capital expended on the ill-fated Sam 76 campaign, and the hard push into hard seltzers only reinforced our decision. Even if the company does pivot back to its staple, high-end beer business, the field is now crowded with new competitors. Analysts seem to be gravitating toward an average price target of $1,000, but we are waiting to see evidence that management fully understands the problem and is willing to make a mea culpa on their recent moves.
Automotive
08. Tesla earned over $1 billion this past quarter, ten times more than it made in the second quarter of 2020
EV maker Tesla (TSLA $658) just achieved its eighth-straight quarter with positive cash flow, earning $1.14 billion in profit between April and June. As if that wasn't impressive enough, the figure represents a ten-fold increase over the $104 million it earned in the same quarter last year. Revenue in Q2 doubled from last year, from $6.04 billion to $11.96 billion. It is difficult to find any flaws in the earnings report, but that didn't stop the chronic naysayers from pointing out why this level of growth is unsustainable. Those comments are rather ironic, considering the company had to weather recalls, a backlash from Chinese consumers, and a chip shortage over the course of the quarter. As for Musk, he hinted that this may be the last earnings conference call he would be taking part in, let alone leading. We can fully understand that decision.
Too many analysts continue to view Tesla as just another car company. Granted, were that the case, the multiples for the company are excessively high. We don't buy the premise, however. Tesla earned nearly $1 billion from its energy business last quarter, installing 60% more energy storage systems in homes than it did the previous quarter. Furthermore, we are most excited about the FSD (full self-driving) subscription service that should mushroom after future system upgrades make the company's vehicles fully autonomous. Then there is the company's advanced battery production facilities and its benchmark Supercharger DC fast-charting stations, which it will soon open to non-Tesla vehicles. We believe the Tesla growth story remains fully intact.
Global Exchanges & Indexes
07. The high risks associated with investing in Chinese tech companies
There have always been outsized risks associated with investing in Internet companies; when those companies happen to be based out of Communist China, those risks are compounded. For evidence, consider the popular KraneShares CSI China Internet ETF (KWEB $52). This fund holds fifty of the largest Chinese Internet companies listed on exchanges outside of Mainland China (presumably to mitigate risk). Alibaba and Tencent Holdings are the two largest positions within the fund. On 17 February, shares of KWEB hit $104.94; now, just five months later, they have been sliced precisely in half. Put another way, a $10,000 investment in the fund five months ago would now be worth $5,000.
China's general crackdown on publicly-traded companies and the more recent rules handed down to rein in for-profit education companies—such as the $4 billion New Oriental Education & Technology Group (EDU $2)—have been the major catalyst for the plummet. EDU has been a popular bet for investors looking to ring up profits in Chinese companies, with the shares jumping from $5 in 2019 to a peak of $20 this past February, before settling back down to their current $2 range. Why would China, which is bent on becoming the world's largest economy in short order, create a host of new rules designed to stifle the growth of their own companies? Note that KWEB focuses on shares of companies listed outside of the country; China wants to promote those listing on domestic exchanges—the largest being the Shanghai Stock Exchange. These rules are a shot across the bow to home-grown companies daring to list outside of the country. As has always been the case, investors are at the mercy of the all-powerful Chinese Communist Party.
There are so many wonderful opportunities right now across the globe, both in frontier/emerging and developed markets, that we urge investors to focus on areas which promote democratic values and offer citizens a high level of personal freedom. We don't believe it is worth the risk to have direct exposure to individual Chinese companies. The KWEB example shows how much risk is involved even in owning a basket of the largest publicly-traded companies based out of Mainland China.
Aerospace & Defense
06. Brain drain at Boeing: engineers and technicians are leaving the firm at an alarming rate
Bloomberg recently published an interesting and rather in-depth story on the flight of disillusioned engineers and technicians out of the exits at Boeing (BA $233). Certainly, the dual tragedies of recent 737 MAX crashes have impacted morale at the firm, but the problem has more to do with a management team wandering aimlessly in search of a strategic mission than it does with any specific events. When a former Boeing CEO announced, "no more 'moon shots,' it might as well have become the new company slogan. For young engineers, the excitement which once swirled around working for the world's largest aerospace and defense company has been replaced by, "well, at least it will look good on my résumé." Those workers have been taking their résumés to competing firms in droves as of late. And the recipients of this talent pool are not just the usual suspects such as SpaceX, Blue Origin, and Virgin Galactic.
Since the beginning of last year, over 3,200 engineers and technicians have bolted from the firm—a figure which accounts for nearly one-fifth of the 18,000 Boeing workers represented by the Society of Professional Engineering Employees in Aerospace (SPEEA) union. While many have been attracted to SpaceX's stunning recent successes and Elon Musk's bold vision for the future of humanity in space, Amazon has also been a major destination for these skilled workers. The idea of remaining in the Seattle area with a nice pay bump has been the major selling point for the latter. Amazon employs these specialists to increase the efficiency at their warehouses, much like they did with the Boeing factory floors.
The airliner catastrophes and a lack of a new generation passenger aircraft on the drawing boards at Boeing have not been the only forces driving workers away. On the space side of the equation, the company's recent Starliner failures stand in stark comparison to the stunning SpaceX successes. The company will have another chance to prove itself with the upcoming crew capsule test slated for this weekend, but even with a glaring success the firm has a long way to go. Meanwhile, European nemesis Airbus is increasingly outpacing Boeing with respect to both orders and deliveries. In the first quarter of 2021, Boeing delivered 77 aircraft versus 125 jets for Airbus—a 62% differential. By the end of Q1, Airbus reported a backlog of nearly 6,000 jets, while Boeing's backlog amounted to just shy of 5,000 aircraft. Furthermore, with no exciting new designs to show potential buyers, we are not sure what will be the catalyst for a comeback.
In our opinion, there is a horrendous vacuum leadership at Boeing, and the company's great turnaround cannot occur until a nearly clean sweep is made at the top. Unfortunately, the entire leadership team would disagree with that assessment. It will take major activist investor push to force the change required, but there hasn't been much action on that front either. At least we have SpaceX around to spearhead America's great return to manned spaceflight.
Media & Entertainment
05. Scarlett Johansson sues Disney over streaming release of Black Widow, Disney fires back with scathing retort
Our immediate thought was, "poor Scarlett, $20 million for one movie wasn't enough?" However, the more we delved into the story, the more it appears this will be one heck of a court battle. Actor Scarlett Johansson, number seven on the list of IMDb's hottest female actors of 2021, is suing Disney (DIS $ 176) for simultaneously releasing Black Widow, in which she plays the eponymous lead role, in theaters and on the Disney+ streaming service for a fee. Johansson's beef is this: the better the movie does at the box office, the more she will stand to make for her role. According to her attorney, the streaming release was done primarily for Disney to add subscribers, and a large number of viewers decided to forego the theater and stream instead. The figures show that Disney did, indeed, fatten its wallet by charging $30 for Disney+ members to stream the movie. Over the course of its opening weekend, Black Widow raked in $80 million at the US box office, $78 million at the worldwide box office, and a whopping $60 million from its Disney+ platform.
Disney shot back directly at Johansson, saying that "the lawsuit is especially sad and distressing in its callous disregard for the horrific and prolonged global effects of the COVID-19 pandemic." Yes, Disney, we are sure you released the movie on your streaming service as a public service, which is why you charged paying subscribers an additional $30 a pop. Actually, the more we mull the situation over, the more we tend to side with Johansson. Based on other movies released during the pandemic and the way in which other studios compensated their talent, she probably would have made around $25 million more for the movie than she did. In addition to a probable loss in the courts, Disney will suffer a real black eye in Hollywood over this one.
When Bob Chapek took over at Disney, we cashed out—despite having owned the company in the Penn Global Leaders Club for years. It appears we made the right call. Nothing matters like management.
Capital Markets
04. HOOD's wild ride: platform for the meme stocks turns into one itself
By most accounts, it was a lackluster debut. The much-anticipated IPO of financial services platform Robinhood (HOOD $55) finally occurred last week, but shares ended up tumbling 12% from their $38 initial offering price almost immediately. Considering the platform boasts some 20 million accounts, one would have expected fireworks out of the gate, akin to an Airbnb ($145) or a DoorDash (DASH $176). But, alas, the WallStreetBets/reddit monster ended up harming the very company which fomented the movement, with some on the social media sites even calling on members to short the stock on day one. That is rich, considering users' raison d'être seemed to be destroying the shorts. ARK Investment's Cathie Wood, someone whom we respect a lot, may have played a part in the turnaround which occurred after day one by buying 1.85 million shares below the IPO price. Despite Wood's buy, we tend to agree with Morningstar's fair value of $30 on the shares, meaning they have some additional falling to do before we are interested.
When the reckoning does hit the markets, and it will, expect HOOD to get pounded. The world where an AMC, which is worth $5 per share, trades at $38 per share will eventually come crumbling down, and some semblance of sanity will return. At that point, there will be a lot of formerly-overvalued stocks worth picking up, and plenty we still wouldn't touch. As for HOOD, if the $30 fair value is accurate that means $25 per share might be a good point to jump in.
Automotive
03. We called it: Nikola's founder, Trevor Milton indicted on fraud charges
We have been calling EV maker Nikola (NKLA $11) little short of a sham for a couple of years now. Our opinion was cemented after we saw the company's founder, Trevor Milton, in several interviews. Based on decades of CEO-watching, we got a really bad feeling about the founder and his alleged product lineup. While the company was spared in the indictment, the US government has just charged the founder with three counts of fraud, stating that he lied to investors "about nearly all aspects of the business." We may have had a bad feeling about the firm, but investors certainly didn't: NKLA shares went from $10 in March of 2020 to $80 three months later, since dropping back to the $12 range. While at their high, Milton had a paper net worth of roughly $9 billion; that figure is now floating around $1 billion, but we imagine there is plenty more pain ahead. The wheels became to come off the cart last September after Hindenburg Research published a scathing article on the EV firm, pretty much echoing the government case—or vice versa. Shortly after the report was released, Milton was out at the firm he started and a deal the company cobbled together with General Motors fell apart (we excoriated GM when it made the deal). If we want to ignore the company's financials (basically zero revenue) and focus on production, try this on for size: the company has produced zero vehicles for public sale.
Tesla was enormously successful, so we should just jump into an EV maker that sounds like the next Tesla, right? Heck, this company even took the famous inventor's first name! Madness. It is understandable that the financials wouldn't look stellar on a nascent company trying to break into an industry with a pretty tall barrier to entry, but we are talking about a company that went public without having one vehicle roll off of an assembly line. NKLA may not have been a meme stock, but the same level of (ir)rational thought went into the purchase of the shares.
Industrial Conglomerates
02. A sure sign of desperation: financial engineering has replaced cutting-edge engineering at General Electric
I feel bad for General Electric (GE $105); embarrassed for this once-great American powerhouse. Has Edison's firm really been reduced to this? Some companies have a "move fast and break things" mentality. GE's grand strategic vision is "let's do a reverse stock split at just the right level to move our share price into triple digits like our competition." I mean, that's simply embarrassing. The move is tantamount to an admission that the company can't get its stock price to triple digits the old fashioned way, through hard work, relentless creativity, and a stellar sales force. Instead, management performed the corporate version of breaking into the school's server to change a grade from a C- to an A+. Here's a question: name the last company that regained a leadership role in an industry after performing a reverse stock split? Good luck—we couldn't think of any. General Electric, once a "move fast and break things" company, now makes most of its profits from servicing the equipment it had previously sold to customers. Unlike an Apple, however, the firm isn't introducing the new products necessary to feed an ever-growing services business. When it finds itself in need of a new supply of cash, it simply sells one of its legacy businesses. Jeffrey Immelt, who spent too much time flying around on one of his two corporate jets (the other would travel behind in case of mechanical problems), started the great downturn at General Electric; unfortunately, Larry Culp doesn't seem to be the dynamic disruptor so desperately needed at the firm. Maybe he and Boeing's David Calhoun can have a few adult beverages one of these days and reminisce about the good old days at their respective firms.
General Electric was one of those global leaders which always had a place in our portfolios. No longer. GE is a case study in the importance of understanding what you own and why. We have a neighbor who had a gorgeous and enormous white pine in his back yard. One day we noticed that the needles at the top of the tree began turning brown. Instead of calling in a tree expert at the first sign of trouble, he figured the problem would take care of itself. Needless to say, the problem rapidly spread and the tree met its demise. A company used to be able to rest on its laurels and simply weather some boneheaded tactical or even strategic errors by upper management. Those days are gone, but the entrenched members of the board at a company like GE seem content to collect their pay and stay the course. Good luck. Pardon us if we choose not to board your next flight.
Market Week in Review
01. Yet another solid jobs report helps cobble together a positive week for the markets
It was difficult to find much wrong with the employment situation in America for the month of July, except for the fact that employers couldn't find enough workers to fill the open slots. Against expectations for 862,500 new nonfarm jobs for the month, companies actually hired 943,000 workers; June's 850,000 figure was also revised higher, to 938,000. The unemployment rate was, perhaps, the most pleasant surprise of all: it ticked down a whopping 50 basis points, from 5.9% to 5.4%. We are slowly but steadily getting back to the pre-pandemic unemployment rate of 3.5%, recorded in the halcyon days of February, 2020. The jobs report helped sway two market conditions: the 10-year Treasury rose from 1.228% to 1.303%, and all of the major indexes recorded gains for the week. Another five days of strong earnings releases also helped strengthen the stock market—especially the small caps. The Russell 2000 rose 1.46% on the week. On Monday, an interesting figure from the Bureau of Labor Statistics will be released: the Job Openings and Labor Turnover Survey, or JOLTS. Economists are predicting a near-record 9.1 million new job openings for the last business day of June. Quite a different story from a year ago.
Under the Radar Investment
Afry AB
Afry AB (AFXXF $17) is a $1.9 billion Swedish-Finnish engineering and consulting firm with projects in the energy, industrial, and infrastructure markets. On the infrastructure front, Afry provides sustainable technology solutions for railways, roads, and other transportation networks. In the energy sector, the firm constructs plants and provides market analysis for power generation, manufacturing facilities, and chemical refining plants. This is a play on a European recovery, as the overwhelming percentage of sales emanate from that continent. With a 15 P/E ratio and a 3.57% dividend yield, the company generated revenues of $2.07 billion in 2020 and $2.238 billion TTM, signaling a nice growth trajectory. Afry was founded in 1895 and trades on the Nasdaq Stockholm AB, formerly known as the Stockholm Stock Exchange.
Answer
Since February 16th, the Dow Jones Internet ETF hasn't been too impressive, with the aggregate shares down 0.47%. Those results appear stellar, however, when compared to a group of Chinese Internet stocks, which are down 53% in the same period. Alibaba, Tencent, and JD.com are the top three holdings in the group.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The communist party declares open season on domestic Internet companies...
Since February, when China began ramping up its attack on Net-based companies under its domain, the affected stocks have been plummeting. Since that time, what percentage have they, as a group, dropped in price?
Penn Trading Desk:
Penn: Purchased a play on the surging demand for outdoor recreational activities
Americans want to get out and explore their country to an extent not seen in a century. We added an undervalued name to the Intrepid Trading Platform which is well poised to take advantage of this trend, and one which happens to be on an aggressive acquisition spree to increase its breadth in the arena.
Penn: Placing a stop loss to protect our American Campus Communities gains
We purchased student housing REIT American Campus Communities right as analysts were predicting a dire situation for students returning to their respective colleges in the fall of 2020. We never bought into the "mass closings of dormitories" thesis and saw a great opportunity in the shares. In addition to strong growth potential, we were drawn to the company's 5.41% dividend yield. ACC has blown past our $40 initial price target and we are protecting our gains with a $47 stop loss on the shares.
Penn: Placing a stop loss to protect our MGM gains
We added the Las Vegas Strip's largest resort casino operator, MGM Resorts International, to the Penn Global Leaders Club last year as the industry was reeling from the pandemic. MGM shares surpassed our target price, are now up 130% from our purchase price, and have been falling back recently due to the Delta variant. We still believe in the company's long-term vision, but are not willing to fall below a triple-digit gain. We have placed a stop on the shares at $34, or $2 above our target price.
Penn: Placing a stop loss to protect our AVB gains
We opened our position in AvalonBay Communities (AVB $227) within the Strategic Income Portfolio in July of 2020, and this owner of 275 apartment communities—with 74,000 units—has seen its share price rise well above our initial price target of $182. Valuations seem a bit stretched, and with the share price hovering near an all-time high, we are putting protection on our position with a $218 stop loss.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Cybersecurity
10. Use diligence before clicking on that "unsubscribe" button at the bottom of spam emails
Remember when it was actually fun to find new emails waiting to be opened in your inbox? A few of us even remember AOL's iconic "you've got mail" notification. How times have changed. Americans are now inundated with mountains of new emails each and every day, and trying to cull the weeds from the garden can be challenging, to say the least. Instead of just whacking away by deleting them, knowing they are destined to return, many of us have tried to eradicate them using the mandatory (at least we thought it was) "Unsubscribe" button located in microscopic print somewhere near the bottom of each piece. We recently began to wonder, though, if the sage advice of not clicking on any link we're not extremely familiar with also held true for this innocuous little "opt out" key.
In fact, it turns out that malicious emails can, indeed, have unsubscribe links that lead to dangerous sites which can compromise or even infect your system with a virus. According to cybersecurity firm McAfee, following a few simple rules can help keep your system—and the treasure trove of data it probably holds—safe(r) from the dark web. If the email is from a legitimate company with which you are familiar, it should be safe to take a minute of your valuable time and go through the unsubscribe process. (Most are simple, others are purposefully irritating, making you put in the email address where they sent their junk!) If the email is from a company you don't recognize or one that seems a bit fishy, do not hit the unsubscribe link, just delete the email. For nefarious individuals and the algorithms they devise, this verifies that they have made a successful hit on a "validated" email address. If this is the case, the best scenario is more unwanted email heading your way. An uglier possibility is that the simple act of clicking on an unsubscribe button or link can lead to a virus being downloaded to your system. Another reason it pays to have good antivirus software protecting your system at all times.
Bottom line: simply delete or move to spam/junk any email that appears suspicious. In addition to having a strong web protection system installed on all of your devices, be sure and have it run scans on your system on a regular basis. Always keep your operating system up-to-date as well, as new malicious efforts are constantly being identified by software developers.
Beverages & Tobacco
09. Boston Beer's big bet on seltzer hits a wall, shares plummet
Boston Beer (SAM $716), maker of Sam Adams, has been our favorite name in booze/brewers for a number of years. Fiercely independent (as opposed to the big three, which are all now owned by foreign entities), the company simply makes an excellent product and has an exemplary management team, led by founder and Chairman of the Board Jim Koch. The sheen began to come off the name, however, when SAM started pushing a mediocre beer called Sam 76. That misstep was followed by another: the company bet big on hard seltzers—the modern version of Zima or Bartles & Jaymes wine coolers—at the expense (in our opinion) of their staple beer business. Hopefully they received the message investors sent them last week. After missing Q2 earnings badly ($4.75/sh vs the $6.60/sh expected), management admitted to increasing production of Truly hard seltzer to meet a summer demand which never fully manifested. For the quarter, SAM generated $602.8M in revenue versus expectations for $675.7M. To make matters worse, the firm cut its guidance for the remainder of the year. All of this was enough to pound SAM shares down 26% in one day and 31% from the week's peak to trough price.
We haven't owned SAM shares within the Penn portfolios since our disappointment over the capital expended on the ill-fated Sam 76 campaign, and the hard push into hard seltzers only reinforced our decision. Even if the company does pivot back to its staple, high-end beer business, the field is now crowded with new competitors. Analysts seem to be gravitating toward an average price target of $1,000, but we are waiting to see evidence that management fully understands the problem and is willing to make a mea culpa on their recent moves.
Automotive
08. Tesla earned over $1 billion this past quarter, ten times more than it made in the second quarter of 2020
EV maker Tesla (TSLA $658) just achieved its eighth-straight quarter with positive cash flow, earning $1.14 billion in profit between April and June. As if that wasn't impressive enough, the figure represents a ten-fold increase over the $104 million it earned in the same quarter last year. Revenue in Q2 doubled from last year, from $6.04 billion to $11.96 billion. It is difficult to find any flaws in the earnings report, but that didn't stop the chronic naysayers from pointing out why this level of growth is unsustainable. Those comments are rather ironic, considering the company had to weather recalls, a backlash from Chinese consumers, and a chip shortage over the course of the quarter. As for Musk, he hinted that this may be the last earnings conference call he would be taking part in, let alone leading. We can fully understand that decision.
Too many analysts continue to view Tesla as just another car company. Granted, were that the case, the multiples for the company are excessively high. We don't buy the premise, however. Tesla earned nearly $1 billion from its energy business last quarter, installing 60% more energy storage systems in homes than it did the previous quarter. Furthermore, we are most excited about the FSD (full self-driving) subscription service that should mushroom after future system upgrades make the company's vehicles fully autonomous. Then there is the company's advanced battery production facilities and its benchmark Supercharger DC fast-charting stations, which it will soon open to non-Tesla vehicles. We believe the Tesla growth story remains fully intact.
Global Exchanges & Indexes
07. The high risks associated with investing in Chinese tech companies
There have always been outsized risks associated with investing in Internet companies; when those companies happen to be based out of Communist China, those risks are compounded. For evidence, consider the popular KraneShares CSI China Internet ETF (KWEB $52). This fund holds fifty of the largest Chinese Internet companies listed on exchanges outside of Mainland China (presumably to mitigate risk). Alibaba and Tencent Holdings are the two largest positions within the fund. On 17 February, shares of KWEB hit $104.94; now, just five months later, they have been sliced precisely in half. Put another way, a $10,000 investment in the fund five months ago would now be worth $5,000.
China's general crackdown on publicly-traded companies and the more recent rules handed down to rein in for-profit education companies—such as the $4 billion New Oriental Education & Technology Group (EDU $2)—have been the major catalyst for the plummet. EDU has been a popular bet for investors looking to ring up profits in Chinese companies, with the shares jumping from $5 in 2019 to a peak of $20 this past February, before settling back down to their current $2 range. Why would China, which is bent on becoming the world's largest economy in short order, create a host of new rules designed to stifle the growth of their own companies? Note that KWEB focuses on shares of companies listed outside of the country; China wants to promote those listing on domestic exchanges—the largest being the Shanghai Stock Exchange. These rules are a shot across the bow to home-grown companies daring to list outside of the country. As has always been the case, investors are at the mercy of the all-powerful Chinese Communist Party.
There are so many wonderful opportunities right now across the globe, both in frontier/emerging and developed markets, that we urge investors to focus on areas which promote democratic values and offer citizens a high level of personal freedom. We don't believe it is worth the risk to have direct exposure to individual Chinese companies. The KWEB example shows how much risk is involved even in owning a basket of the largest publicly-traded companies based out of Mainland China.
Aerospace & Defense
06. Brain drain at Boeing: engineers and technicians are leaving the firm at an alarming rate
Bloomberg recently published an interesting and rather in-depth story on the flight of disillusioned engineers and technicians out of the exits at Boeing (BA $233). Certainly, the dual tragedies of recent 737 MAX crashes have impacted morale at the firm, but the problem has more to do with a management team wandering aimlessly in search of a strategic mission than it does with any specific events. When a former Boeing CEO announced, "no more 'moon shots,' it might as well have become the new company slogan. For young engineers, the excitement which once swirled around working for the world's largest aerospace and defense company has been replaced by, "well, at least it will look good on my résumé." Those workers have been taking their résumés to competing firms in droves as of late. And the recipients of this talent pool are not just the usual suspects such as SpaceX, Blue Origin, and Virgin Galactic.
Since the beginning of last year, over 3,200 engineers and technicians have bolted from the firm—a figure which accounts for nearly one-fifth of the 18,000 Boeing workers represented by the Society of Professional Engineering Employees in Aerospace (SPEEA) union. While many have been attracted to SpaceX's stunning recent successes and Elon Musk's bold vision for the future of humanity in space, Amazon has also been a major destination for these skilled workers. The idea of remaining in the Seattle area with a nice pay bump has been the major selling point for the latter. Amazon employs these specialists to increase the efficiency at their warehouses, much like they did with the Boeing factory floors.
The airliner catastrophes and a lack of a new generation passenger aircraft on the drawing boards at Boeing have not been the only forces driving workers away. On the space side of the equation, the company's recent Starliner failures stand in stark comparison to the stunning SpaceX successes. The company will have another chance to prove itself with the upcoming crew capsule test slated for this weekend, but even with a glaring success the firm has a long way to go. Meanwhile, European nemesis Airbus is increasingly outpacing Boeing with respect to both orders and deliveries. In the first quarter of 2021, Boeing delivered 77 aircraft versus 125 jets for Airbus—a 62% differential. By the end of Q1, Airbus reported a backlog of nearly 6,000 jets, while Boeing's backlog amounted to just shy of 5,000 aircraft. Furthermore, with no exciting new designs to show potential buyers, we are not sure what will be the catalyst for a comeback.
In our opinion, there is a horrendous vacuum leadership at Boeing, and the company's great turnaround cannot occur until a nearly clean sweep is made at the top. Unfortunately, the entire leadership team would disagree with that assessment. It will take major activist investor push to force the change required, but there hasn't been much action on that front either. At least we have SpaceX around to spearhead America's great return to manned spaceflight.
Media & Entertainment
05. Scarlett Johansson sues Disney over streaming release of Black Widow, Disney fires back with scathing retort
Our immediate thought was, "poor Scarlett, $20 million for one movie wasn't enough?" However, the more we delved into the story, the more it appears this will be one heck of a court battle. Actor Scarlett Johansson, number seven on the list of IMDb's hottest female actors of 2021, is suing Disney (DIS $ 176) for simultaneously releasing Black Widow, in which she plays the eponymous lead role, in theaters and on the Disney+ streaming service for a fee. Johansson's beef is this: the better the movie does at the box office, the more she will stand to make for her role. According to her attorney, the streaming release was done primarily for Disney to add subscribers, and a large number of viewers decided to forego the theater and stream instead. The figures show that Disney did, indeed, fatten its wallet by charging $30 for Disney+ members to stream the movie. Over the course of its opening weekend, Black Widow raked in $80 million at the US box office, $78 million at the worldwide box office, and a whopping $60 million from its Disney+ platform.
Disney shot back directly at Johansson, saying that "the lawsuit is especially sad and distressing in its callous disregard for the horrific and prolonged global effects of the COVID-19 pandemic." Yes, Disney, we are sure you released the movie on your streaming service as a public service, which is why you charged paying subscribers an additional $30 a pop. Actually, the more we mull the situation over, the more we tend to side with Johansson. Based on other movies released during the pandemic and the way in which other studios compensated their talent, she probably would have made around $25 million more for the movie than she did. In addition to a probable loss in the courts, Disney will suffer a real black eye in Hollywood over this one.
When Bob Chapek took over at Disney, we cashed out—despite having owned the company in the Penn Global Leaders Club for years. It appears we made the right call. Nothing matters like management.
Capital Markets
04. HOOD's wild ride: platform for the meme stocks turns into one itself
By most accounts, it was a lackluster debut. The much-anticipated IPO of financial services platform Robinhood (HOOD $55) finally occurred last week, but shares ended up tumbling 12% from their $38 initial offering price almost immediately. Considering the platform boasts some 20 million accounts, one would have expected fireworks out of the gate, akin to an Airbnb ($145) or a DoorDash (DASH $176). But, alas, the WallStreetBets/reddit monster ended up harming the very company which fomented the movement, with some on the social media sites even calling on members to short the stock on day one. That is rich, considering users' raison d'être seemed to be destroying the shorts. ARK Investment's Cathie Wood, someone whom we respect a lot, may have played a part in the turnaround which occurred after day one by buying 1.85 million shares below the IPO price. Despite Wood's buy, we tend to agree with Morningstar's fair value of $30 on the shares, meaning they have some additional falling to do before we are interested.
When the reckoning does hit the markets, and it will, expect HOOD to get pounded. The world where an AMC, which is worth $5 per share, trades at $38 per share will eventually come crumbling down, and some semblance of sanity will return. At that point, there will be a lot of formerly-overvalued stocks worth picking up, and plenty we still wouldn't touch. As for HOOD, if the $30 fair value is accurate that means $25 per share might be a good point to jump in.
Automotive
03. We called it: Nikola's founder, Trevor Milton indicted on fraud charges
We have been calling EV maker Nikola (NKLA $11) little short of a sham for a couple of years now. Our opinion was cemented after we saw the company's founder, Trevor Milton, in several interviews. Based on decades of CEO-watching, we got a really bad feeling about the founder and his alleged product lineup. While the company was spared in the indictment, the US government has just charged the founder with three counts of fraud, stating that he lied to investors "about nearly all aspects of the business." We may have had a bad feeling about the firm, but investors certainly didn't: NKLA shares went from $10 in March of 2020 to $80 three months later, since dropping back to the $12 range. While at their high, Milton had a paper net worth of roughly $9 billion; that figure is now floating around $1 billion, but we imagine there is plenty more pain ahead. The wheels became to come off the cart last September after Hindenburg Research published a scathing article on the EV firm, pretty much echoing the government case—or vice versa. Shortly after the report was released, Milton was out at the firm he started and a deal the company cobbled together with General Motors fell apart (we excoriated GM when it made the deal). If we want to ignore the company's financials (basically zero revenue) and focus on production, try this on for size: the company has produced zero vehicles for public sale.
Tesla was enormously successful, so we should just jump into an EV maker that sounds like the next Tesla, right? Heck, this company even took the famous inventor's first name! Madness. It is understandable that the financials wouldn't look stellar on a nascent company trying to break into an industry with a pretty tall barrier to entry, but we are talking about a company that went public without having one vehicle roll off of an assembly line. NKLA may not have been a meme stock, but the same level of (ir)rational thought went into the purchase of the shares.
Industrial Conglomerates
02. A sure sign of desperation: financial engineering has replaced cutting-edge engineering at General Electric
I feel bad for General Electric (GE $105); embarrassed for this once-great American powerhouse. Has Edison's firm really been reduced to this? Some companies have a "move fast and break things" mentality. GE's grand strategic vision is "let's do a reverse stock split at just the right level to move our share price into triple digits like our competition." I mean, that's simply embarrassing. The move is tantamount to an admission that the company can't get its stock price to triple digits the old fashioned way, through hard work, relentless creativity, and a stellar sales force. Instead, management performed the corporate version of breaking into the school's server to change a grade from a C- to an A+. Here's a question: name the last company that regained a leadership role in an industry after performing a reverse stock split? Good luck—we couldn't think of any. General Electric, once a "move fast and break things" company, now makes most of its profits from servicing the equipment it had previously sold to customers. Unlike an Apple, however, the firm isn't introducing the new products necessary to feed an ever-growing services business. When it finds itself in need of a new supply of cash, it simply sells one of its legacy businesses. Jeffrey Immelt, who spent too much time flying around on one of his two corporate jets (the other would travel behind in case of mechanical problems), started the great downturn at General Electric; unfortunately, Larry Culp doesn't seem to be the dynamic disruptor so desperately needed at the firm. Maybe he and Boeing's David Calhoun can have a few adult beverages one of these days and reminisce about the good old days at their respective firms.
General Electric was one of those global leaders which always had a place in our portfolios. No longer. GE is a case study in the importance of understanding what you own and why. We have a neighbor who had a gorgeous and enormous white pine in his back yard. One day we noticed that the needles at the top of the tree began turning brown. Instead of calling in a tree expert at the first sign of trouble, he figured the problem would take care of itself. Needless to say, the problem rapidly spread and the tree met its demise. A company used to be able to rest on its laurels and simply weather some boneheaded tactical or even strategic errors by upper management. Those days are gone, but the entrenched members of the board at a company like GE seem content to collect their pay and stay the course. Good luck. Pardon us if we choose not to board your next flight.
Market Week in Review
01. Yet another solid jobs report helps cobble together a positive week for the markets
It was difficult to find much wrong with the employment situation in America for the month of July, except for the fact that employers couldn't find enough workers to fill the open slots. Against expectations for 862,500 new nonfarm jobs for the month, companies actually hired 943,000 workers; June's 850,000 figure was also revised higher, to 938,000. The unemployment rate was, perhaps, the most pleasant surprise of all: it ticked down a whopping 50 basis points, from 5.9% to 5.4%. We are slowly but steadily getting back to the pre-pandemic unemployment rate of 3.5%, recorded in the halcyon days of February, 2020. The jobs report helped sway two market conditions: the 10-year Treasury rose from 1.228% to 1.303%, and all of the major indexes recorded gains for the week. Another five days of strong earnings releases also helped strengthen the stock market—especially the small caps. The Russell 2000 rose 1.46% on the week. On Monday, an interesting figure from the Bureau of Labor Statistics will be released: the Job Openings and Labor Turnover Survey, or JOLTS. Economists are predicting a near-record 9.1 million new job openings for the last business day of June. Quite a different story from a year ago.
Under the Radar Investment
Afry AB
Afry AB (AFXXF $17) is a $1.9 billion Swedish-Finnish engineering and consulting firm with projects in the energy, industrial, and infrastructure markets. On the infrastructure front, Afry provides sustainable technology solutions for railways, roads, and other transportation networks. In the energy sector, the firm constructs plants and provides market analysis for power generation, manufacturing facilities, and chemical refining plants. This is a play on a European recovery, as the overwhelming percentage of sales emanate from that continent. With a 15 P/E ratio and a 3.57% dividend yield, the company generated revenues of $2.07 billion in 2020 and $2.238 billion TTM, signaling a nice growth trajectory. Afry was founded in 1895 and trades on the Nasdaq Stockholm AB, formerly known as the Stockholm Stock Exchange.
Answer
Since February 16th, the Dow Jones Internet ETF hasn't been too impressive, with the aggregate shares down 0.47%. Those results appear stellar, however, when compared to a group of Chinese Internet stocks, which are down 53% in the same period. Alibaba, Tencent, and JD.com are the top three holdings in the group.
Headlines for the Week of 27 Jun—03 Jul 2021
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The movement was set in motion well before the Declaration of Independence...
While the final wording of the American Declaration of Independence was approved by the Second Continental Congress on 04 July 1776, the die had already been cast. What battle served as the demarcation point, the event from which there was no turning back?
Penn Trading Desk:
Cowen: Under Armour is "best idea"
Shares of sports apparel manufacturer Under Armour (UA $19, UAA $21) shot up around 4% following an upgrade by investment research firm Cowen, which put it on its "best idea" list. Analysts at the firm believe that UA is well poised to take advantage of the return of team sports and a back to school season which will be largely free from mask requirements. Cowen has an overweight rating on the company with a price target of $31 per share. We are not as bullish, as Under Armour is heavily dependent on sales in the Asia Pacific region, and tensions remain high (rightfully so) between China and the US. We also don't like the multi-share-class gimmick. An investor can buy Class A shares under the ticker UA and have one vote per share. The same investor could buy Class C shares under the ticker UAA and have no voting rights. Of course, the anointed company insiders like Kevin Plank own Class B shares, which the hoi polloi cannot touch—and which carry around ten votes per share. Gimmickry. For the record, six years ago UAA was trading above $51 per share.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Business & Professional Services
10. DoorDash is ramping up its grocery delivery business with Albertsons partnership
With over 450,000 merchants, 20 million consumer/customers, and one million dashers on its platform, DoorDash (DASH $175) is already the largest food delivery service in the United States—despite just going public late last year. How far the company has come in seven years, from back when it was known as Palo Alto Delivery, Inc. Now, the San Fran-based firm is entering the competitive grocery delivery business, inking a deal with grocer Albertsons (ACI $20) to offer delivery of the chain's goods on its marketplace app. DashPass customers will be able to order grocery and household items from nearly 2,000 Albertsons-owned stores, which include Safeway, Jewel-Osco, and Vons. For a monthly subscription fee of $9.99, members receive free deliveries and reduced fees from thousands of restaurants, grocery stores, and convenience stores, according to the DoorDash website. Over 40,000 grocery items will be available on the marketplace app. DoorDash has also recently entered into delivery agreements with PetSmart and Bed Bath & Beyond, in addition to making a major international move into Japan. In 2020, DASH generated revenues of $2.9 billion, an increase of 229% over 2019 revenues (which, themselves, were up 310% from the prior year).
There are going to be a handful of big, long-term winners in this new niche industry. In addition to the obvious mega-cap players (Amazon, Walmart), we see DoorDash and Uber increasing their market share for years to come. Actually, it would be relatively safe to bet on any of these four names going forward, assuming the fit is right for the respective portfolio.
Cryptocurrencies
09. The real reason China is cracking down on cryptos
Oh, the naive press. If only they would give esteemed American establishments the same deference they show to the Chinese Communist Party. The big price drop in cryptos at the start of the week came on the heels of a major Chinese crackdown; the press got that part of the story right, but what they missed was the real catalyst behind the move. Absurdly, one major business publication said, "Concerns about the environmental impact (of the computers that mine Bitcoin) continue to swirl." Yep, they nailed it. The greatest polluter in the world is suddenly concerned that Bitcoin mining might make the air over Xinjiang a little bit browner.
The real reason the CCP ordered the People's Bank of China to warn lenders to cease using cryptocurrencies, and for the major provinces where mining takes place to crack down on production, is two-fold. First, by their very nature, digital coins are hard to control, and the CCP is all about control. Once the coins have been mined they can travel freely through the ether, generally untouchable by a central power. The second reason has to do with China's own ambitions in the arena. As we have mentioned before, the country wants to create a digital yuan that will ultimately (in the eyes of the party) become the world's leading currency, supplanting the dollar. The incredible amount of hydropower used for mining should be reserved for the state's own coinage, not the free market's. Don't believe anything you hear about the government's sudden concern over the environment, or the need to preserve electricity for the Chinese people—only journalists are gullible enough to fall for that straw man.
When Bitcoin rose above $64,000, the experts were pointing to $100,000 as the next major stop. On Tuesday, the coins broke below $29,000 and there isn't much clarity on where prices are headed from here. The China-induced drop is interesting; if Chinese mining goes offline, shouldn't that bode well for the price of the commodity? For those with FOMO, we recommend opening a Coinbase account and buying a few of the fifty or so cryptos available on the platform.
Consumer Finance
08. And the world's dumbest new idea goes to...drumroll, please...the credit card designed to pay your rent*
I love history. Reading about the brilliant successes and colorful failures of the past and considering how their lessons can be applied to current, real-world situations. This can be an effective tool in separating the right course of action from the wrong, or the smart from incredibly stupid. In the latter camp, fintech startup Kairos just launched a new loyalty program, Bilt Rewards, tied to its co-branded Bilt Mastercard which is being affectionately labeled "the renter's credit card." Kairos founder and CEO Ankur Jain said it's not fair that credit card users gain rewards for traveling or shopping (paraphrasing), but that renters haven't been able to earn rewards on their largest expenditure, their rent payment. That is some stunningly convoluted thinking.
The concept is straightforward: pay your rent using your Bilt Mastercard and start earning 250 rewards points per rent payment, along with any other perks your landlord wants to throw in. And don't worry about checking whether or not your apartment is a qualifying property; if it is, you should automatically receive an email within the next six months informing you of your eligibility. And the more you use your card, the higher you can climb in the membership levels of Blue, Silver, Gold, and Platinum status. Bilt Rewards can be redeemed for such things as travel, fitness classes, even art purchases through the Bilt Collection. When pressed on the credit card's interest rate, Jain said that it should be in the "14-22% range...it's standard."
Remember when it was a sign of prestige to carry an American Express card that had to be paid off each month? This card is not that. The idea of putting rent on a credit card is one of the most irresponsible concepts to manifest as of late, and that is saying a lot. Rewarding people for doing the wrong thing, encouraging them to put their rent on a credit card when odds are strong they don't even have an IRA set up, is sickening. Shame on the founder of this company, and on Mastercard for going along with the deal. And the same goes for the Bilt Rewards Alliance of property owners participating in this scheme.
Global Strategy: East & Southeast Asia
07. Communist China forces shutdown of Hong Kong's last remaining pro-democracy newspaper
We recall, back in the late 1990s, how silly the argument seemed: although sovereignty over the British colony of Hong Kong was being passed to China, many so-called experts were telling us that the communist nation wouldn't dare kill their golden goose. Granted, it took a few decades to quell the basic hallmarks of a free society, but this week pretty much sealed the deal. Apple Daily, the wealthy island's last remaining pro-democracy newspaper, has been killed. It began with the (second) jailing of the paper's majority owner, Jimmy Lai. Then, Hong Kong's puppet regime froze the company's assets and seized its journalists' computers. The final straw was the arrest of two top executives under a new national security law Beijing imposed on the island to stifle dissent. Following that move, Apple Daily reported that both its print edition and website would cease operations. It is the beginning of a full-scale collapse of freedom in Hong Kong, which begs the question: how much longer can Taiwan remain a free country? Furthermore, what will the United States, which is bound by agreement to protect the nation from Chinese attack, do when the inevitable begins to unfold.
America wouldn't have dreamed of accepting wave after wave of goods-laden shipping containers from the Soviet Union during the Cold War, yet we are funding the insatiable appetite of Communist China, and its dreams of global domination, by welcoming in some $500 billion per year of goods from that country, even though China only imports around $130 billion per year of US goods. This situation must change. If US companies are unwilling to break the deadly cycle and search elsewhere around the world for imports, they must be strongly coerced by the federal government to do so. Better yet, they should consider saving on the shipping costs by manufacturing domestically—or at least within the USMCA region.
Pharmaceuticals
06. More exciting news on the Alzheimer's front
For such a horrible and deadly disease which hasn't seen much progress on the therapies front over the past two decades, researchers may finally be rounding the corner with respect to Alzheimer's. Last week was the exciting news that Biogen's (BIIB $351) aducanumab (trade name Aduhelm) had been given the green light by the FDA; now, the organization has granted breakthrough therapy designation to Eli Lilly's (LLY $234) Alzheimer's therapy donanemab. This designation will speed along the drug's approval process, the application for which Lilly plans to submit later this year. Despite the naysayers' multi-faceted complaints about these drugs, the FDA is doing the right thing by allowing them to go forward. These positive rulings will help speed along the development of other drugs to treat the disease, and ultimately the exorbitant prices for the therapies will fall. The FDA has smoothed the way for pharma and biotech companies to pump increased R&D spending into the category, giving hope to the families of the six million Americans suffering with this horrendous condition.
We continue to overweight the Health Care sector and a number of industries within the space. On the back of stunning advances in medical technology, we can expect to see a biotech and pharma boom over the next decade, with new therapies for diseases which have stymied researchers for decades. The greatest threat to this boom would be increased government regulatory control over the industry, but we see that as an unlikely scenario. We hold a number of health care companies and ETFs in the Dynamic Growth Strategy, Penn Global Leaders Club, and Penn New Frontier Fund.
Space Tourism
05. Virgin Galactic gets OK from FAA to fly passengers into space
Virgin Galactic (SPCE $54) shares were soaring 34% higher on Friday following news that the FAA granted approval for the company to begin sending people into space aboard its spaceplanes. The full commercial space-launch license opens the door for space tourism, the firm's only immediate source of revenues. It is interesting to note that Blue Origin, which is owned by Jeff Bezos, has yet to receive this FAA stamp of approval, despite Bezos recently announcing that he would be a part of the company's first manned flight scheduled for July. When pressed about the Blue Origin certification, an FAA spokesperson said that the agency would "make a decision when and if all regulatory requirements are met." As for Virgin, the company said it has already sold over 600 tickets for rides aboard its SpaceShipTwo spaceplanes, with each one going for around $250,000. The company plans to have a fleet of five craft launching from its Spaceport America launch site in New Mexico. Ultimately, the plans call for launches taking place from multiple sites around the country, with destinations ranging from major cities around the world, to space-based hotels in orbit. Regarding the FAA certification, it is interesting to note that the agency has no authority over spacecraft operating above the atmosphere, but they do control the safety of the airways traversed by the spacecraft between launch and orbit.
At $54 per share, SPCE seems to have a pretty lofty valuation—even though we are excited about the company's strategic plans. It is normal for a nascent growth company to have no P/E ratio, as they often have no earnings. What is unique about Virgin Galactic is its $13 billion market cap on a foundation of virtually zero revenues as well—other than the 250-large they collected for each ticket sold for the promise of a future flight.
Textiles, Apparel, & Luxury Goods
04. PVH is selling its legacy clothing lines to Authentic Brands
Apparel manufacturing firm PVH (PVH $109) is selling four of its legacy brands, or what they call their Heritage Brands, to Authentic for $220 million. Why would the company want to part ways with prominent names Izod, Van Heusen, Arrow, and Geoffrey Beene? Management says it is doing so to "drive the next chapter of sustainable, profitable, growth," which will be built on a foundation of the Calvin Kline and Tommy Hilfiger brands. The company also said it plans on "supercharging" its e-commerce channel. That actually makes sense in this new world of hybrid workers buying fewer suits and more work-casual clothing. It is also interesting to note that this is the first major move by new CEO (Feb, 2021) Stefan Larsson—though longtime CEO and well-respected industry insider Manny Chirico did take on the role of Chairman of the Board. Not counting Chirico, the average tenure of PVH's management team is just 1.5 years. As for the buyer of these brands, privately-held Authentic is collecting quite the portfolio. In addition to these four names, the company owns Forever 21, Lucky Brand, Nine West, and part of Brooks Brothers—which it helped buy out of bankruptcy last year. Before the pandemic, PVH had an annual revenue of approximately $10 billion and a net income which was perennially in the black. Last year, the firm notched $7 billion in sales and lost $1.16 billion.
We actually like the move by $7.7 billion PVH to sell off these legacy brands, but is the stock a buy? We don't think so. It is estimated that the company will generate $6.73 in earnings per share in FY2022, which is about what it generated in FY2017. The share price ranged from $84 to $139 that year, and we wouldn't touch it above $75 per share. Perhaps the fledgling management team will impress, but this single move is really all we have to go on thus far.
Interactive Media & Services
03. Facebook joins the Trillion Dollar Club after judge throws out the FTC's complaint
Talk about some rarified air: Facebook (FB $356) joined an elite group of companies carrying a market cap of over one trillion dollars after a US District Court judge threw out the antitrust complaints against the company filed by the Federal Trade Commission and virtually all states' attorneys general. That dismissal led to a 4.25% pop in the company's share price, giving it a $1.009 trillion valuation. Facebook joins Apple (AAPL), Microsoft (MSFT), Amazon (AMZN), and Alphabet (GOOGL) in the tiny group of companies which can boast of a $1 trillion size. While Judge James Boasberg disputed the FTC's claim that Facebook was a monopoly, he did leave the door open for the agency to amend its complaint and submit a revised filing. Had it been successful, the complaint could have forced Facebook to divest itself of both the WhatsApp and Instagram platforms. The court seemed to excoriate the plaintiffs' lack of effort, at one point in the ruling saying that the allegations "do not even provide an estimated figure or range for Facebook's market share at any point over the past ten years...." Ouch. It seems as though the judge felt there was some hubris involved in the suit, with an "expectation" that the court would find fault in Facebook's business practices. Arrogance and hubris among government officials? Shocking.
Despite all the bluster among elected officials about cutting these big social media companies down to size, we think very little gets accomplished (to that end) in the near future. As a matter of fact, a 20% investment in each of these five behemoths—beginning today—would probably yield some impressive results if we were to go forward five years in time and gauge the investment bucket's return.
Restaurants
02. Krispy Kreme: Love the doughnuts, hate the stock
More technically, love the doughnuts, hate the financial engineering firm that is bringing the company public...again. Krispy Kreme, former symbol KKD, used to be one of our favorite trading stocks. We actually had a client at A.G. Edwards who would only trade two stocks, KKD and WMT, based on whether the economy was in an expansionary period or a contraction phase. Fast forward to 2016, when KKD was taken private by the powerful German Reimann family, via their JAB Holding Company. JAB had also gobbled up the likes of Peet's Coffee, Panera Bread, Keurig Dr. Pepper, Einstein Bros. Bagels, and a host of other fast food and consumer goods companies. As with all financial engineering firms, the strategy is to make as much money as possible with as little effort as possible, and one popular tactic is the repackaging of companies to bring public once again under a shiny new symbol. That is precisely what JAB did with Krispy Kreme, which now trades under the new—admittedly catchier—symbol DNUT ($19). Perhaps the most insulting aspect of this game of smoke and mirrors is the fact that JAB will retain 78% control of the firm, so suckers...er, investors...beware. Investors did appear to be leery of the game: after planning to offer $26.7 million shares in the range of $21 to $24, soft demand led to the holding company selling 29.4 million shares at $17. While they did rocket up 24% from the offering price on IPO day, the shares steadily declined from there. DNUT shares closed out their first week at $19.12.
We have to wonder how many DNUT investors were aware of the company's back story as opposed to just thinking, "cool, Krispy Kreme is going public and the shares are cheap." They are actually not cheap. In fact, Amazon shares at $3,510 are "cheaper" than DNUT at $19. But none of that seems to matter in these days of meme stocks and SPACs. If shares are $25 or less, it must be a good deal, so let's buy in and watch the confetti fall on our iPhone screen.
Market Week in Review
01. Strong June jobs report leads to weekly gains across the board
All of the major indexes—along with the price of crude—rose over 1% this week on the back of a solid June jobs report. The economy added 850,000 new jobs for the month, and while the unemployment rate ticked up 10 basis points (to 5.9%), that was simply due to more Americans re-entering the job market. Investors actually liked the small uptick, as it lessens the odds of the Fed tightening sooner than expected. In a sign that employers are having a difficult time filling open spots, hourly wages in the private sector rose a robust 3.6% from a year ago. Among the sectors and market caps, big tech names led the week's rally, with the NASDAQ jumping 1.94%. Crude oil rose 1.62% on the week, trading a whopping 55% higher on the year. The first two months of the "worst six months of the year" have come and gone, and we are impressed at how well the markets have held up thus far.
Under the Radar Investment
Kratos Defense & Security Solutions
Kratos Defense & Security Solutions Inc (KTOS $28), despite its small size ($3.7B), is a key player in America's defense and aerospace infrastructure. The company develops and fields advanced systems and platforms for national security and communications needs. Its Skyborg program is focused on expanding the envelope of unmanned aircraft use, especially as related to artificial intelligence; while its Defense and Rocket Support Services (DRSS) division develops hypersonic test vehicles for America's missile defense initiative. Civilian and government satellite operators, meanwhile, rely on Kratos as their strategic supplier of end-to-end enterprise products. We especially like the company's size and financial health, and believe the company will continue along its strong growth trajectory.
Answer
While the battles of Lexington and Concord, which were fought on 19 April 1775, technically kicked off the American Revolution, it was the Battle of Bunker Hill, which was actually fought on Breed's Hill on 17 June 1775, that made both sides in the fight realize there was no turning back. While the British won the battle, it was a Pyrrhic victory: the number of British killed or wounded (1,054, including 89 officers) was over twice that suffered on the American side. The King's troops and their loyalist allies in Boston were left stunned and shocked, while the "loss" served as a rallying cry for the patriots' cause. George Washington, who had been appointed commander of the Continental Army just three days prior, arrived shortly after the conclusion of the battle. Soon, the disparate militias of the various colonies would be forged into one American force.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The movement was set in motion well before the Declaration of Independence...
While the final wording of the American Declaration of Independence was approved by the Second Continental Congress on 04 July 1776, the die had already been cast. What battle served as the demarcation point, the event from which there was no turning back?
Penn Trading Desk:
Cowen: Under Armour is "best idea"
Shares of sports apparel manufacturer Under Armour (UA $19, UAA $21) shot up around 4% following an upgrade by investment research firm Cowen, which put it on its "best idea" list. Analysts at the firm believe that UA is well poised to take advantage of the return of team sports and a back to school season which will be largely free from mask requirements. Cowen has an overweight rating on the company with a price target of $31 per share. We are not as bullish, as Under Armour is heavily dependent on sales in the Asia Pacific region, and tensions remain high (rightfully so) between China and the US. We also don't like the multi-share-class gimmick. An investor can buy Class A shares under the ticker UA and have one vote per share. The same investor could buy Class C shares under the ticker UAA and have no voting rights. Of course, the anointed company insiders like Kevin Plank own Class B shares, which the hoi polloi cannot touch—and which carry around ten votes per share. Gimmickry. For the record, six years ago UAA was trading above $51 per share.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Business & Professional Services
10. DoorDash is ramping up its grocery delivery business with Albertsons partnership
With over 450,000 merchants, 20 million consumer/customers, and one million dashers on its platform, DoorDash (DASH $175) is already the largest food delivery service in the United States—despite just going public late last year. How far the company has come in seven years, from back when it was known as Palo Alto Delivery, Inc. Now, the San Fran-based firm is entering the competitive grocery delivery business, inking a deal with grocer Albertsons (ACI $20) to offer delivery of the chain's goods on its marketplace app. DashPass customers will be able to order grocery and household items from nearly 2,000 Albertsons-owned stores, which include Safeway, Jewel-Osco, and Vons. For a monthly subscription fee of $9.99, members receive free deliveries and reduced fees from thousands of restaurants, grocery stores, and convenience stores, according to the DoorDash website. Over 40,000 grocery items will be available on the marketplace app. DoorDash has also recently entered into delivery agreements with PetSmart and Bed Bath & Beyond, in addition to making a major international move into Japan. In 2020, DASH generated revenues of $2.9 billion, an increase of 229% over 2019 revenues (which, themselves, were up 310% from the prior year).
There are going to be a handful of big, long-term winners in this new niche industry. In addition to the obvious mega-cap players (Amazon, Walmart), we see DoorDash and Uber increasing their market share for years to come. Actually, it would be relatively safe to bet on any of these four names going forward, assuming the fit is right for the respective portfolio.
Cryptocurrencies
09. The real reason China is cracking down on cryptos
Oh, the naive press. If only they would give esteemed American establishments the same deference they show to the Chinese Communist Party. The big price drop in cryptos at the start of the week came on the heels of a major Chinese crackdown; the press got that part of the story right, but what they missed was the real catalyst behind the move. Absurdly, one major business publication said, "Concerns about the environmental impact (of the computers that mine Bitcoin) continue to swirl." Yep, they nailed it. The greatest polluter in the world is suddenly concerned that Bitcoin mining might make the air over Xinjiang a little bit browner.
The real reason the CCP ordered the People's Bank of China to warn lenders to cease using cryptocurrencies, and for the major provinces where mining takes place to crack down on production, is two-fold. First, by their very nature, digital coins are hard to control, and the CCP is all about control. Once the coins have been mined they can travel freely through the ether, generally untouchable by a central power. The second reason has to do with China's own ambitions in the arena. As we have mentioned before, the country wants to create a digital yuan that will ultimately (in the eyes of the party) become the world's leading currency, supplanting the dollar. The incredible amount of hydropower used for mining should be reserved for the state's own coinage, not the free market's. Don't believe anything you hear about the government's sudden concern over the environment, or the need to preserve electricity for the Chinese people—only journalists are gullible enough to fall for that straw man.
When Bitcoin rose above $64,000, the experts were pointing to $100,000 as the next major stop. On Tuesday, the coins broke below $29,000 and there isn't much clarity on where prices are headed from here. The China-induced drop is interesting; if Chinese mining goes offline, shouldn't that bode well for the price of the commodity? For those with FOMO, we recommend opening a Coinbase account and buying a few of the fifty or so cryptos available on the platform.
Consumer Finance
08. And the world's dumbest new idea goes to...drumroll, please...the credit card designed to pay your rent*
I love history. Reading about the brilliant successes and colorful failures of the past and considering how their lessons can be applied to current, real-world situations. This can be an effective tool in separating the right course of action from the wrong, or the smart from incredibly stupid. In the latter camp, fintech startup Kairos just launched a new loyalty program, Bilt Rewards, tied to its co-branded Bilt Mastercard which is being affectionately labeled "the renter's credit card." Kairos founder and CEO Ankur Jain said it's not fair that credit card users gain rewards for traveling or shopping (paraphrasing), but that renters haven't been able to earn rewards on their largest expenditure, their rent payment. That is some stunningly convoluted thinking.
The concept is straightforward: pay your rent using your Bilt Mastercard and start earning 250 rewards points per rent payment, along with any other perks your landlord wants to throw in. And don't worry about checking whether or not your apartment is a qualifying property; if it is, you should automatically receive an email within the next six months informing you of your eligibility. And the more you use your card, the higher you can climb in the membership levels of Blue, Silver, Gold, and Platinum status. Bilt Rewards can be redeemed for such things as travel, fitness classes, even art purchases through the Bilt Collection. When pressed on the credit card's interest rate, Jain said that it should be in the "14-22% range...it's standard."
Remember when it was a sign of prestige to carry an American Express card that had to be paid off each month? This card is not that. The idea of putting rent on a credit card is one of the most irresponsible concepts to manifest as of late, and that is saying a lot. Rewarding people for doing the wrong thing, encouraging them to put their rent on a credit card when odds are strong they don't even have an IRA set up, is sickening. Shame on the founder of this company, and on Mastercard for going along with the deal. And the same goes for the Bilt Rewards Alliance of property owners participating in this scheme.
Global Strategy: East & Southeast Asia
07. Communist China forces shutdown of Hong Kong's last remaining pro-democracy newspaper
We recall, back in the late 1990s, how silly the argument seemed: although sovereignty over the British colony of Hong Kong was being passed to China, many so-called experts were telling us that the communist nation wouldn't dare kill their golden goose. Granted, it took a few decades to quell the basic hallmarks of a free society, but this week pretty much sealed the deal. Apple Daily, the wealthy island's last remaining pro-democracy newspaper, has been killed. It began with the (second) jailing of the paper's majority owner, Jimmy Lai. Then, Hong Kong's puppet regime froze the company's assets and seized its journalists' computers. The final straw was the arrest of two top executives under a new national security law Beijing imposed on the island to stifle dissent. Following that move, Apple Daily reported that both its print edition and website would cease operations. It is the beginning of a full-scale collapse of freedom in Hong Kong, which begs the question: how much longer can Taiwan remain a free country? Furthermore, what will the United States, which is bound by agreement to protect the nation from Chinese attack, do when the inevitable begins to unfold.
America wouldn't have dreamed of accepting wave after wave of goods-laden shipping containers from the Soviet Union during the Cold War, yet we are funding the insatiable appetite of Communist China, and its dreams of global domination, by welcoming in some $500 billion per year of goods from that country, even though China only imports around $130 billion per year of US goods. This situation must change. If US companies are unwilling to break the deadly cycle and search elsewhere around the world for imports, they must be strongly coerced by the federal government to do so. Better yet, they should consider saving on the shipping costs by manufacturing domestically—or at least within the USMCA region.
Pharmaceuticals
06. More exciting news on the Alzheimer's front
For such a horrible and deadly disease which hasn't seen much progress on the therapies front over the past two decades, researchers may finally be rounding the corner with respect to Alzheimer's. Last week was the exciting news that Biogen's (BIIB $351) aducanumab (trade name Aduhelm) had been given the green light by the FDA; now, the organization has granted breakthrough therapy designation to Eli Lilly's (LLY $234) Alzheimer's therapy donanemab. This designation will speed along the drug's approval process, the application for which Lilly plans to submit later this year. Despite the naysayers' multi-faceted complaints about these drugs, the FDA is doing the right thing by allowing them to go forward. These positive rulings will help speed along the development of other drugs to treat the disease, and ultimately the exorbitant prices for the therapies will fall. The FDA has smoothed the way for pharma and biotech companies to pump increased R&D spending into the category, giving hope to the families of the six million Americans suffering with this horrendous condition.
We continue to overweight the Health Care sector and a number of industries within the space. On the back of stunning advances in medical technology, we can expect to see a biotech and pharma boom over the next decade, with new therapies for diseases which have stymied researchers for decades. The greatest threat to this boom would be increased government regulatory control over the industry, but we see that as an unlikely scenario. We hold a number of health care companies and ETFs in the Dynamic Growth Strategy, Penn Global Leaders Club, and Penn New Frontier Fund.
Space Tourism
05. Virgin Galactic gets OK from FAA to fly passengers into space
Virgin Galactic (SPCE $54) shares were soaring 34% higher on Friday following news that the FAA granted approval for the company to begin sending people into space aboard its spaceplanes. The full commercial space-launch license opens the door for space tourism, the firm's only immediate source of revenues. It is interesting to note that Blue Origin, which is owned by Jeff Bezos, has yet to receive this FAA stamp of approval, despite Bezos recently announcing that he would be a part of the company's first manned flight scheduled for July. When pressed about the Blue Origin certification, an FAA spokesperson said that the agency would "make a decision when and if all regulatory requirements are met." As for Virgin, the company said it has already sold over 600 tickets for rides aboard its SpaceShipTwo spaceplanes, with each one going for around $250,000. The company plans to have a fleet of five craft launching from its Spaceport America launch site in New Mexico. Ultimately, the plans call for launches taking place from multiple sites around the country, with destinations ranging from major cities around the world, to space-based hotels in orbit. Regarding the FAA certification, it is interesting to note that the agency has no authority over spacecraft operating above the atmosphere, but they do control the safety of the airways traversed by the spacecraft between launch and orbit.
At $54 per share, SPCE seems to have a pretty lofty valuation—even though we are excited about the company's strategic plans. It is normal for a nascent growth company to have no P/E ratio, as they often have no earnings. What is unique about Virgin Galactic is its $13 billion market cap on a foundation of virtually zero revenues as well—other than the 250-large they collected for each ticket sold for the promise of a future flight.
Textiles, Apparel, & Luxury Goods
04. PVH is selling its legacy clothing lines to Authentic Brands
Apparel manufacturing firm PVH (PVH $109) is selling four of its legacy brands, or what they call their Heritage Brands, to Authentic for $220 million. Why would the company want to part ways with prominent names Izod, Van Heusen, Arrow, and Geoffrey Beene? Management says it is doing so to "drive the next chapter of sustainable, profitable, growth," which will be built on a foundation of the Calvin Kline and Tommy Hilfiger brands. The company also said it plans on "supercharging" its e-commerce channel. That actually makes sense in this new world of hybrid workers buying fewer suits and more work-casual clothing. It is also interesting to note that this is the first major move by new CEO (Feb, 2021) Stefan Larsson—though longtime CEO and well-respected industry insider Manny Chirico did take on the role of Chairman of the Board. Not counting Chirico, the average tenure of PVH's management team is just 1.5 years. As for the buyer of these brands, privately-held Authentic is collecting quite the portfolio. In addition to these four names, the company owns Forever 21, Lucky Brand, Nine West, and part of Brooks Brothers—which it helped buy out of bankruptcy last year. Before the pandemic, PVH had an annual revenue of approximately $10 billion and a net income which was perennially in the black. Last year, the firm notched $7 billion in sales and lost $1.16 billion.
We actually like the move by $7.7 billion PVH to sell off these legacy brands, but is the stock a buy? We don't think so. It is estimated that the company will generate $6.73 in earnings per share in FY2022, which is about what it generated in FY2017. The share price ranged from $84 to $139 that year, and we wouldn't touch it above $75 per share. Perhaps the fledgling management team will impress, but this single move is really all we have to go on thus far.
Interactive Media & Services
03. Facebook joins the Trillion Dollar Club after judge throws out the FTC's complaint
Talk about some rarified air: Facebook (FB $356) joined an elite group of companies carrying a market cap of over one trillion dollars after a US District Court judge threw out the antitrust complaints against the company filed by the Federal Trade Commission and virtually all states' attorneys general. That dismissal led to a 4.25% pop in the company's share price, giving it a $1.009 trillion valuation. Facebook joins Apple (AAPL), Microsoft (MSFT), Amazon (AMZN), and Alphabet (GOOGL) in the tiny group of companies which can boast of a $1 trillion size. While Judge James Boasberg disputed the FTC's claim that Facebook was a monopoly, he did leave the door open for the agency to amend its complaint and submit a revised filing. Had it been successful, the complaint could have forced Facebook to divest itself of both the WhatsApp and Instagram platforms. The court seemed to excoriate the plaintiffs' lack of effort, at one point in the ruling saying that the allegations "do not even provide an estimated figure or range for Facebook's market share at any point over the past ten years...." Ouch. It seems as though the judge felt there was some hubris involved in the suit, with an "expectation" that the court would find fault in Facebook's business practices. Arrogance and hubris among government officials? Shocking.
Despite all the bluster among elected officials about cutting these big social media companies down to size, we think very little gets accomplished (to that end) in the near future. As a matter of fact, a 20% investment in each of these five behemoths—beginning today—would probably yield some impressive results if we were to go forward five years in time and gauge the investment bucket's return.
Restaurants
02. Krispy Kreme: Love the doughnuts, hate the stock
More technically, love the doughnuts, hate the financial engineering firm that is bringing the company public...again. Krispy Kreme, former symbol KKD, used to be one of our favorite trading stocks. We actually had a client at A.G. Edwards who would only trade two stocks, KKD and WMT, based on whether the economy was in an expansionary period or a contraction phase. Fast forward to 2016, when KKD was taken private by the powerful German Reimann family, via their JAB Holding Company. JAB had also gobbled up the likes of Peet's Coffee, Panera Bread, Keurig Dr. Pepper, Einstein Bros. Bagels, and a host of other fast food and consumer goods companies. As with all financial engineering firms, the strategy is to make as much money as possible with as little effort as possible, and one popular tactic is the repackaging of companies to bring public once again under a shiny new symbol. That is precisely what JAB did with Krispy Kreme, which now trades under the new—admittedly catchier—symbol DNUT ($19). Perhaps the most insulting aspect of this game of smoke and mirrors is the fact that JAB will retain 78% control of the firm, so suckers...er, investors...beware. Investors did appear to be leery of the game: after planning to offer $26.7 million shares in the range of $21 to $24, soft demand led to the holding company selling 29.4 million shares at $17. While they did rocket up 24% from the offering price on IPO day, the shares steadily declined from there. DNUT shares closed out their first week at $19.12.
We have to wonder how many DNUT investors were aware of the company's back story as opposed to just thinking, "cool, Krispy Kreme is going public and the shares are cheap." They are actually not cheap. In fact, Amazon shares at $3,510 are "cheaper" than DNUT at $19. But none of that seems to matter in these days of meme stocks and SPACs. If shares are $25 or less, it must be a good deal, so let's buy in and watch the confetti fall on our iPhone screen.
Market Week in Review
01. Strong June jobs report leads to weekly gains across the board
All of the major indexes—along with the price of crude—rose over 1% this week on the back of a solid June jobs report. The economy added 850,000 new jobs for the month, and while the unemployment rate ticked up 10 basis points (to 5.9%), that was simply due to more Americans re-entering the job market. Investors actually liked the small uptick, as it lessens the odds of the Fed tightening sooner than expected. In a sign that employers are having a difficult time filling open spots, hourly wages in the private sector rose a robust 3.6% from a year ago. Among the sectors and market caps, big tech names led the week's rally, with the NASDAQ jumping 1.94%. Crude oil rose 1.62% on the week, trading a whopping 55% higher on the year. The first two months of the "worst six months of the year" have come and gone, and we are impressed at how well the markets have held up thus far.
Under the Radar Investment
Kratos Defense & Security Solutions
Kratos Defense & Security Solutions Inc (KTOS $28), despite its small size ($3.7B), is a key player in America's defense and aerospace infrastructure. The company develops and fields advanced systems and platforms for national security and communications needs. Its Skyborg program is focused on expanding the envelope of unmanned aircraft use, especially as related to artificial intelligence; while its Defense and Rocket Support Services (DRSS) division develops hypersonic test vehicles for America's missile defense initiative. Civilian and government satellite operators, meanwhile, rely on Kratos as their strategic supplier of end-to-end enterprise products. We especially like the company's size and financial health, and believe the company will continue along its strong growth trajectory.
Answer
While the battles of Lexington and Concord, which were fought on 19 April 1775, technically kicked off the American Revolution, it was the Battle of Bunker Hill, which was actually fought on Breed's Hill on 17 June 1775, that made both sides in the fight realize there was no turning back. While the British won the battle, it was a Pyrrhic victory: the number of British killed or wounded (1,054, including 89 officers) was over twice that suffered on the American side. The King's troops and their loyalist allies in Boston were left stunned and shocked, while the "loss" served as a rallying cry for the patriots' cause. George Washington, who had been appointed commander of the Continental Army just three days prior, arrived shortly after the conclusion of the battle. Soon, the disparate militias of the various colonies would be forged into one American force.
Headlines for the Week of 13 Jun—19 Jun 2021
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The mighty American economy...
At $22 trillion, the US has—by far—the largest economy in the world. The great growth trajectory began at the end of the Second World War, when the US had an economy of around $240 billion. How long did it take the country's economy to reach $1 trillion in size?
Penn Trading Desk:
Penn: Add a crypto play to the Intrepid
We have made the comparison between the Gold Rush of the mid-19th century and the crypto craze unfolding right now. We have urged investors to "invest in the companies supplying the tools rather than in the miners themselves." Taking our own advice, we just added a cryptocurrency infrastructure play to the Intrepid Trading Platform. Members, sign into the Penn Trading Desk for details.
Goldman: Double downgrade Ferrari
At $205 per share ($210 before the downgrade) and a price-to-earnings ratio of 50, Italian automaker Ferrari (RACE) does seem a bit expensive. Furthermore, its reliance on Formula One racing and its recent drought in that arena could be damaging the brand's reputation. At least that is what Goldman Sachs analyst George Galliers said as part of the rationale for his double downgrade of the company's shares, from Buy to Sell. Galliers, who reduced the Goldman target price on RACE from $227 to $207, also said that the firm is facing higher capital spending as it invests in EV battery technology, with little assurance of its success in that arena.
Penn: Added foreign telecom play to Strategic Income Portfolio
One never knows for certain how any given individual stock will perform going forward, but we found a telecom services company that checks three of our boxes for the Strategic Income Portfolio: a great yield, a foreign play (which we are chronically short on), and a smart strategic vision which embraces the future of the industry. Added to the SIP. Members, sign into the Penn Trading Desk for details.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Industrials: Airlines
10. America is entering a new era of supersonic air travel—and Boeing is not building the aircraft
When I was growing up in the 1970s, with an avid fascination in all things air and space, there were dozens of major, publicly-traded, aerospace and defense contractors. Sadly, due to mergers and acquisitions (the largest being Boeing's 1997 purchase of McDonnell Douglas), the numbers dwindled to a few. As competition helps assure that companies continue to operate at peak performance, we knew that the seemingly-endless acquisitions would lead to complacency. And indeed, based on Boeing's (BA $ 250) string of recent high-profile failures, it did. Fortunately, a new breed of young upstarts has entered the industry, and they are fearless when it comes to putting bold plans into action. While SpaceX is the first name that comes to mind, another, lesser-known company is about to make a major splash.
United Airlines Holdings (UAL $57) just announced plans to buy a fleet of 15 supersonic passenger aircraft, capable of traveling at Mach 1.7, from Denver-based Boom Technology. The Boom Overture, which can carry up to 88 passengers and will have a cruising altitude of 60,000 feet, is slated to begin ferrying United passengers by the end of the decade. Using sustainable aviation fuel (SAF), the aircraft is made with advanced composite materials and will be propelled by much quieter—by supersonic standards—Rolls Royce twin engines. It is interesting to note that Boeing CEO, David Calhoun, said that an investment in supersonic travel didn't make sense for his company's business right now.
Currently, United is the only US carrier which has signed an agreement with Boom for the Overture, but Japan Airlines (JAPSY $12) has been a major backer of the US firm, investing $10 million in the company and signing a nonbinding option to buy 20 of the aircraft. Putting the speed of the craft in some context, a flight from New York to London will be reduced in travel time by roughly half: from 6:30H to 3:30H. United CEO Scott Kirby stated that "United continues on its trajectory to build a more innovative, sustainable airline and today's advancements in technology are making it more viable for that to include supersonic planes." Well said.
In the zeitgeist of too many CEOs focused more on "not offending" than on their own strategic visions, we salute Kirby and his leadership. We also salute yet another startup boldly going where the old, established players fear to tread. Perhaps the latter group needs a little history lesson in what made their respective companies great in the first place.
Cryptocurrencies
09. Bitcoin drops following FBI's successful clawback of ransom
It always struck us as odd that so many cryptophiles—the unabashed cheerleaders of all digital "currencies"—consider these creatures completely secure from outside forces. Granted, we have heard stories of Bitcoin owners forgetting their digital wallet passcodes, thus losing their coins forever, but we are talking about something which exists purely in the digital realm. Perhaps that realization hit home for some this week following the FBI's successful recovery of $2.3 million worth of bitcoins paid to the Russian-backed hacker group DarkSide by Colonial Pipeline. The ransom was apparently retrieved after investigators either uncovered the complex key code for the hackers' digital wallet, or somehow took control of the server which held the coins. However it was done, the specter of a third party being able to reach in and take bitcoins out lacking the permission of the wallet's owner sent the price of Bitcoin down around 8%. The FBI recently launched its Ransomware and Digital Extortion Task Force, which was responsible for the recovery. The price of Bitcoin has been reeling as of late, falling from its high of $64,000 in the middle of April to $32,800 following news of the ransom recovery.
As we've mentioned before, anyone wishing to get in on the crypto craze would be better off buying into the underlying blockchain technology rather than amassing the actual coins. Coinbase (COIN $227), the platform on which a number of major cryptos trade, might be a good place to start.
Automotive
08. Two words investors never want to see in an SEC filing
Looking at a company's actual financials can be a great way to spot trends, but we love a more nebulous measure as well: watching a CEO in live interviews. That is how we first got an inkling that the likes of bumbling Ron Johnson (JCP), Bernie Ebbers (WCOM), and Jeffrey Immelt (GE) were either blowing smoke or out of their league—to put it nicely. As we watched interviews of EV startup Lordstown Motors' (RIDE $10) CEO Steve Burns on the business networks, we had an uneasy feeling. He came across as a super-nice guy, but one who was banking on hope, not facts. As the meme stock groupies drove RIDE shares up from the $10 range—where they had languished for years—to $31.40, we shook our heads. Here is a company offering a ton of promises and not one vehicle in production. CNBC's Phil Lebeau pressed Burns on the massive number of pre-orders supposedly on the books, and the response was an embarrassing shuffle that made us grimace.
Fast forward to this week and the company's required quarterly filing; a filing which was submitted late, and only after the threat of a delisting notice from the Nasdaq. There was a lot of disconcerting language in the filing, but investors' jaws dropped on two words nestled in one ugly sentence: "These conditions raise substantial doubt regarding our ability to continue as a going concern for a period of at least one year...." Going concern. That means staying in business. The company came out and admitted that, failing to raise massive new amounts of capital, it would simply cease to be. RIDE shares plunged after hours on the report. At $10 per share once again, and with a major short interest, isn't it time for the WallStreetBets crowd to pile back in and stick it to "the man" yet again?
Such a joke. And emblematic of the ugliness that will soon unfold before our very eyes with a number of other profitless companies. Meme groupie money may staunch the bleeding for awhile, but the inflows only prolong the inevitable. As for Lordstown, we would be surprised if one unit of one product ever leaves the actual assembly line.
Economics
07. Inflation just hit its highest rate since 2008; here's why the Fed isn't worried
The average price of goods purchased by Americans rose 0.6% month-over-month in May, following a 0.8% jump in April. That may not sound like much, but May's Consumer Price Index number equates to a 7.2% annualized rate. The MoM figures represent the fastest rate of inflation since August of 2008. Leading the charge was the price of used cars and trucks, which rose a whopping 7.2% in May on the heels of a double-digit price jump in April.
Why doesn't Jerome Powell's Fed, which has a 2% target inflation range, seem worried by these numbers? One major reason is a phenomenon known as the base effect. Simply put, this condition argues that if inflation was too low in the same period a year earlier, even a small rise in CPI will mathematically show a high current rate of inflation. Indeed, the pandemic put a short-term clamp on economic activity, so it is understandable that the rate of inflation would appear worrisome at the moment. Here's the real question on the mind of economists, however: as we work through this blip, will the rate stabilize or continue to grow?
Another factor to consider is wage growth. Wage push inflation is an overall jump in inflation as a result of companies needing to pay more to their workforce. Evidence of wage push inflation is everywhere, with the latest example coming from Chipotle. The fast casual chain said it must hike menu prices by around 4% to cover the higher cost of paying its employees. By the end of the month, the average hourly wage for employees at the restaurant will hit $15. With a record number of job openings, this condition will certainly gain momentum as companies struggle to find the workers they need to handle the growing demand for their products and services.
While the Fed has indicated it probably won't raise rates until 2023, we expect the central bank to begin signaling a slowdown in its bond buying program at some point in the second half of the year—a very important step to help staunch the unsustainable level of federal spending. The Fed has been buying $120 billion per month worth of treasuries and mortgage-backed securities, leading to its bloated $8 trillion balance sheet. The market should be prepared for this step, but expect at least a short-term fit when the tapering is announced.
Media & Entertainment
06. Yet another reason to avoid GameStop shares: Microsoft is about to make a major gaming push
Not that true investors needed yet another reason to avoid a stock that is overvalued by 90%, but Microsoft's (MSFT $259) announcement that it will bring its Xbox games directly to smart TVs reveals just how antiquated bricks and mortar video game retailers—namely, GameStop (GME $235)—are becoming. Microsoft CEO Satya Nadella's strategy is straightforward: he wants gamers to be able to go from device to device and enjoy an incredible gaming experience, without the need to buy the latest—often outrageously-priced and sold out—gaming equipment. That means developing the cloud-based infrastructure required to efficiently stream Xbox games on computers, hand-held devices, and TVs. The company is already in talks with smart TV makers and streaming device providers like Roku (ROKU $347) to bring the strategy to fruition. The ultimate goal for Microsoft is to increase its Game Pass subscription business, which currently has about 23 million users, giving the company another steady stream of monthly income. If Nadella can replicate the incredible success of Microsoft 365, a subscription-based service for the company's software suite, it will continue to gobble up market share in the world of online gaming. And that spells trouble for an old video game retailer trying to transform itself into a digital player.
We may be dedicated Apple users, but Microsoft remains one of our strongest conviction holdings in the Penn Global Leaders Club. We also happen to be one of the 240 million or so users of Microsoft Office 365, paying the company a steady stream of recurring monthly income so we can operate Microsoft software on our MacBook Pros. We may curse our lonely PC on a weekly basis (some software still doesn't play nice with macOS), but Satya Nadella is one of the best CEOs in corporate America. As for GameStop, we are still waiting for incoming chairman Ryan Cohen's great strategic turnaround plan for GameStop (not).
Aerospace & Defense
05. Northrop Grumman just successfully launched a US Space Force satellite into orbit aboard its Pegasus XL launch vehicle
At 1:11 in the morning, a Northrop Grumman (NOC $371) L-1011 "Stargazer" took off from the newly renamed Vandenberg Space Force Base in California. After achieving 40,000 feet over the Pacific Ocean, its special cargo launched from the underbelly: a solid fuel Pegasus XL rocket carrying a secretive United States Space Force satellite. Last Sunday's launch represented the 45th deployment for the Pegasus, which Northrop Grumman was able to design, integrate, test, and place into service within a whirlwind four month period following the contract award. The rocket, which was built under the USSF's tactically responsive launch concept, is the world's first privately-developed commercial space launch vehicle. It has the ability to launch payloads from virtually anywhere on Earth at a moment's notice and with minimal ground support. The rocket is quickly becoming a favorite tool of the nascent US Space Force.
While Lockheed Martin (LMT $390) is the primary defense contractor within our Penn Global Leaders Club, Northrop Grumman is high on our list of the most respected industry players—easily ahead of Boeing. The $60 billion company (what a great size—well poised to become a $100 billion firm) netted a $3.2 billion profit on $37 billion in revenues last year.
Cryptocurrencies
04. Finally, a crypto that acts like a currency: Tether now the third-largest digital coin in the world
We have laughed off any comparison of cryptocurrencies such as Bitcoin to actual currencies; they are actually commodities with wild volatility. Well, that is true for most of them. All of a sudden, a digital currency known as a stablecoin has roared into third place—behind Bitcoin and Ether—on the list of the world's largest cryptocurrencies. Tether, which was originally known as Realcoin, is—as the name implies—tethered to an actual currency. Tether USDT is tied to the price of a US dollar, EURT to the euro, CHNT to the Chinese yuan, and XAUT to the price of an ounce of gold. So, at least in theory, one Tether USDT will always be worth one US dollar. As one could imagine, that makes it a lot easier for owners to buy goods with their USDTs, as they won't be worried that they could buy the same goods for a lot less in the future (due to fluctuation). The cryptocurrency got a big boost in May when the largest US digital exchange, Coinbase (COIN $232), announced that Tether USDT would be available on its platform. Tether is not without its share of controversy, however. It got in some hot water a few years back by implying that it was fully backed by the dollar. In actuality, a breakdown of the coin's reserves shows that it is 75%-backed by cash and cash equivalents; 13%-backed by secured loans; and 12%-backed by corporate bonds, precious metals, and other digital tokens. Nonetheless, it has traded at or near $1 throughout its seven year history. Another thing we like about this coin: For foreign nationals who don't have access to US bank accounts but want the stability of the US dollar, Tether has proved to be a popular solution.
Tether's market cap surpassed $60 billion last month, and we expect it to maintain its steep growth trajectory. Considering the Communist Party of China is hell-bent on creating a digital currency to supplant the US dollar as the world's reserve currency, perhaps the United States Treasury should study Tether as it slowly prepares to roll out its own fiat digital currency. In the meantime, Tether is one of the only digital coins whose future value we can confidently predict.
Financial Services
03. American Express has a new hybrid work model we can get behind
We have all witnessed how the pandemic has uprooted the traditional work/office relationship in a dramatic fashion. Companies which would never would have considered allowing a meaningful percentage of their workforce to perform their duties at home are suddenly rethinking those policies—and discovering just how much they can save in overhead through a reduced real estate footprint. One of our favorite new hybrid models comes to us from American Express (AXP $158), a global financial services firm operating in 130 countries. Most of the company's US and UK workers will be required to show up at the office just three days a week, Tuesday through Thursday, with the choice to work from home every Monday and Friday. Thinking back on some past jobs, that seems like a dream scenario to us. The new AmEx policy, which will begin this fall, stands in stark contrast to Goldman Sachs' (GS $349) demand that all employees return to the office by the 14th of July. Goldman Sachs CEO David Solomon (of which we have never been a fan) went so far as to call remote work "an aberration," and harmful to productivity. Based on some rather ugly employee feedback over the past few years, neither the company's policy nor the CEO's imperious comments surprise us. In a memo to employees, AmEx CEO Steve Squeri said that the new hybrid model will allow for both in-office collaboration and an increased work-life balance. Between the two firms, we know who we would rather work for.
Goldman Sachs has a notorious history of corporate arrogance. Thanks to technology and a shifting demographic landscape, the company is facing increased competition in areas it used to dominate, such as mergers and acquisition and securities underwriting. Counter that with American Express (granted, not exactly an apples-to-apples comparison), whose strong position within the small business community should provide a nice tailwind going forward.
Pharmaceuticals
02. AstraZeneca has another fail
Precisely one quarter ago we were writing of AstraZeneca's (AZN $58) vaccine fail—due to blood clot complications among some recipients—and management's unswerving denial that there was anything wrong with the drug; even hinting that a political hit job was in play. European countries went from halting the vaccine's use, to (under pressure) resuming its use, to halting it once again. This quarter the Swedish/UK conglomerate is facing yet another setback: its antibody drug is proving to be just 33% effective in preventing symptomatic Covid-19 in those exposed to the virus. Meanwhile, both Regeneron and Eli Lilly each have successful antibody cocktails already in use under emergency authorization. The US had already ordered 700,000 doses of the AstraZeneca therapy for delivery this year, while the UK had ordered one million doses. Odds are strong that the US will ultimately cancel the order, and it will be fascinating to watch what the company's home country ends up doing with respect to the one-million-dose order.
We are constantly on the lookout for strong pharmaceutical stocks and sound international companies in which to invest. Unfortunately, AZN doesn't fit the bill—in our opinion—for either category. Meanwhile, AZN shares are trading as if both therapies were a rousing success.
Market Week in Review
01. In a week to be expected—both based on the calendar and an FOMC meeting—stocks retreat
It wasn't a pretty week for the markets. After all, the Dow lost over 1,000 points (down 3.45%) and the S&P gave up nearly 2%. If there was a "bright spot" it was the tech-laden NASDAQ, which just gave back 28 basis points over the five-day period. We have no problem with the pullback: nothing makes us more nervous than built-in investor expectations for weekly gains. What bothers us is the rationale for the pullback. Investors (apparently) got spooked by the Fed's "more hawkish" tone after the week's FOMC meeting. Hawkish tone? You've got to be kidding. Did Chairman Powell even talk about ending the $120 billion monthly purchase of Treasuries and mortgage-backed securities? Nope. Did the Fed signal an imminent interest rate hike? Nope. St Louis Fed President James Bullard, who will be a voting member of the FOMC next year, said he could see a rate hike coming before 2022 is done. Katy, bar the door! You mean, we might actually move off of a target fed funds rate of zero?! Sure, there is also the fear of inflation running hotter than Powell expects, but we had to hear the word "transitory" at least one hundred times over the course of the week with respect to that particular market threat. In fact, the anemic yield of the 10-year Treasury actually fell this week, showing how little bond investors are worried about inflation forcing the Fed's hand. In all, this was simply a rather welcome pressure relief for a stock market that seemed to forget what a downturn was—despite the nightmare it was emerging from precisely one year ago. We went into the week with the Dow sitting above 34,000; we can handle an 1,190-point giveback. In fact, investors need to be mentally prepared for more summer volatility ahead.
Under the Radar Investment
POSCO
POSCO (PKX $73) is the largest steel producer in South Korea and one of the top steel producers in the world. The company is exposed to the auto, shipbuilding, home appliance, engineering, and machinery industries. The firm controls 40% of the domestic market share and exports roughly 50% of its steel products overseas, primarily to Asian countries. POSCO netted $1.3 billion in profit on $48 billion in revenues last year, and we expect the firm to play a major role in Asia's post-pandemic rebound. We believe the shares, which carry a 3% dividend yield and a P/E ratio of 12, could fetch $100 relatively soon.
Answer
It took just one generation, from the end of World War II to approximately the time we were landing astronauts on the lunar surface in 1969, for the American economy to grow from around $240 billion to $1 trillion—a fourfold increase.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The mighty American economy...
At $22 trillion, the US has—by far—the largest economy in the world. The great growth trajectory began at the end of the Second World War, when the US had an economy of around $240 billion. How long did it take the country's economy to reach $1 trillion in size?
Penn Trading Desk:
Penn: Add a crypto play to the Intrepid
We have made the comparison between the Gold Rush of the mid-19th century and the crypto craze unfolding right now. We have urged investors to "invest in the companies supplying the tools rather than in the miners themselves." Taking our own advice, we just added a cryptocurrency infrastructure play to the Intrepid Trading Platform. Members, sign into the Penn Trading Desk for details.
Goldman: Double downgrade Ferrari
At $205 per share ($210 before the downgrade) and a price-to-earnings ratio of 50, Italian automaker Ferrari (RACE) does seem a bit expensive. Furthermore, its reliance on Formula One racing and its recent drought in that arena could be damaging the brand's reputation. At least that is what Goldman Sachs analyst George Galliers said as part of the rationale for his double downgrade of the company's shares, from Buy to Sell. Galliers, who reduced the Goldman target price on RACE from $227 to $207, also said that the firm is facing higher capital spending as it invests in EV battery technology, with little assurance of its success in that arena.
Penn: Added foreign telecom play to Strategic Income Portfolio
One never knows for certain how any given individual stock will perform going forward, but we found a telecom services company that checks three of our boxes for the Strategic Income Portfolio: a great yield, a foreign play (which we are chronically short on), and a smart strategic vision which embraces the future of the industry. Added to the SIP. Members, sign into the Penn Trading Desk for details.
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Industrials: Airlines
10. America is entering a new era of supersonic air travel—and Boeing is not building the aircraft
When I was growing up in the 1970s, with an avid fascination in all things air and space, there were dozens of major, publicly-traded, aerospace and defense contractors. Sadly, due to mergers and acquisitions (the largest being Boeing's 1997 purchase of McDonnell Douglas), the numbers dwindled to a few. As competition helps assure that companies continue to operate at peak performance, we knew that the seemingly-endless acquisitions would lead to complacency. And indeed, based on Boeing's (BA $ 250) string of recent high-profile failures, it did. Fortunately, a new breed of young upstarts has entered the industry, and they are fearless when it comes to putting bold plans into action. While SpaceX is the first name that comes to mind, another, lesser-known company is about to make a major splash.
United Airlines Holdings (UAL $57) just announced plans to buy a fleet of 15 supersonic passenger aircraft, capable of traveling at Mach 1.7, from Denver-based Boom Technology. The Boom Overture, which can carry up to 88 passengers and will have a cruising altitude of 60,000 feet, is slated to begin ferrying United passengers by the end of the decade. Using sustainable aviation fuel (SAF), the aircraft is made with advanced composite materials and will be propelled by much quieter—by supersonic standards—Rolls Royce twin engines. It is interesting to note that Boeing CEO, David Calhoun, said that an investment in supersonic travel didn't make sense for his company's business right now.
Currently, United is the only US carrier which has signed an agreement with Boom for the Overture, but Japan Airlines (JAPSY $12) has been a major backer of the US firm, investing $10 million in the company and signing a nonbinding option to buy 20 of the aircraft. Putting the speed of the craft in some context, a flight from New York to London will be reduced in travel time by roughly half: from 6:30H to 3:30H. United CEO Scott Kirby stated that "United continues on its trajectory to build a more innovative, sustainable airline and today's advancements in technology are making it more viable for that to include supersonic planes." Well said.
In the zeitgeist of too many CEOs focused more on "not offending" than on their own strategic visions, we salute Kirby and his leadership. We also salute yet another startup boldly going where the old, established players fear to tread. Perhaps the latter group needs a little history lesson in what made their respective companies great in the first place.
Cryptocurrencies
09. Bitcoin drops following FBI's successful clawback of ransom
It always struck us as odd that so many cryptophiles—the unabashed cheerleaders of all digital "currencies"—consider these creatures completely secure from outside forces. Granted, we have heard stories of Bitcoin owners forgetting their digital wallet passcodes, thus losing their coins forever, but we are talking about something which exists purely in the digital realm. Perhaps that realization hit home for some this week following the FBI's successful recovery of $2.3 million worth of bitcoins paid to the Russian-backed hacker group DarkSide by Colonial Pipeline. The ransom was apparently retrieved after investigators either uncovered the complex key code for the hackers' digital wallet, or somehow took control of the server which held the coins. However it was done, the specter of a third party being able to reach in and take bitcoins out lacking the permission of the wallet's owner sent the price of Bitcoin down around 8%. The FBI recently launched its Ransomware and Digital Extortion Task Force, which was responsible for the recovery. The price of Bitcoin has been reeling as of late, falling from its high of $64,000 in the middle of April to $32,800 following news of the ransom recovery.
As we've mentioned before, anyone wishing to get in on the crypto craze would be better off buying into the underlying blockchain technology rather than amassing the actual coins. Coinbase (COIN $227), the platform on which a number of major cryptos trade, might be a good place to start.
Automotive
08. Two words investors never want to see in an SEC filing
Looking at a company's actual financials can be a great way to spot trends, but we love a more nebulous measure as well: watching a CEO in live interviews. That is how we first got an inkling that the likes of bumbling Ron Johnson (JCP), Bernie Ebbers (WCOM), and Jeffrey Immelt (GE) were either blowing smoke or out of their league—to put it nicely. As we watched interviews of EV startup Lordstown Motors' (RIDE $10) CEO Steve Burns on the business networks, we had an uneasy feeling. He came across as a super-nice guy, but one who was banking on hope, not facts. As the meme stock groupies drove RIDE shares up from the $10 range—where they had languished for years—to $31.40, we shook our heads. Here is a company offering a ton of promises and not one vehicle in production. CNBC's Phil Lebeau pressed Burns on the massive number of pre-orders supposedly on the books, and the response was an embarrassing shuffle that made us grimace.
Fast forward to this week and the company's required quarterly filing; a filing which was submitted late, and only after the threat of a delisting notice from the Nasdaq. There was a lot of disconcerting language in the filing, but investors' jaws dropped on two words nestled in one ugly sentence: "These conditions raise substantial doubt regarding our ability to continue as a going concern for a period of at least one year...." Going concern. That means staying in business. The company came out and admitted that, failing to raise massive new amounts of capital, it would simply cease to be. RIDE shares plunged after hours on the report. At $10 per share once again, and with a major short interest, isn't it time for the WallStreetBets crowd to pile back in and stick it to "the man" yet again?
Such a joke. And emblematic of the ugliness that will soon unfold before our very eyes with a number of other profitless companies. Meme groupie money may staunch the bleeding for awhile, but the inflows only prolong the inevitable. As for Lordstown, we would be surprised if one unit of one product ever leaves the actual assembly line.
Economics
07. Inflation just hit its highest rate since 2008; here's why the Fed isn't worried
The average price of goods purchased by Americans rose 0.6% month-over-month in May, following a 0.8% jump in April. That may not sound like much, but May's Consumer Price Index number equates to a 7.2% annualized rate. The MoM figures represent the fastest rate of inflation since August of 2008. Leading the charge was the price of used cars and trucks, which rose a whopping 7.2% in May on the heels of a double-digit price jump in April.
Why doesn't Jerome Powell's Fed, which has a 2% target inflation range, seem worried by these numbers? One major reason is a phenomenon known as the base effect. Simply put, this condition argues that if inflation was too low in the same period a year earlier, even a small rise in CPI will mathematically show a high current rate of inflation. Indeed, the pandemic put a short-term clamp on economic activity, so it is understandable that the rate of inflation would appear worrisome at the moment. Here's the real question on the mind of economists, however: as we work through this blip, will the rate stabilize or continue to grow?
Another factor to consider is wage growth. Wage push inflation is an overall jump in inflation as a result of companies needing to pay more to their workforce. Evidence of wage push inflation is everywhere, with the latest example coming from Chipotle. The fast casual chain said it must hike menu prices by around 4% to cover the higher cost of paying its employees. By the end of the month, the average hourly wage for employees at the restaurant will hit $15. With a record number of job openings, this condition will certainly gain momentum as companies struggle to find the workers they need to handle the growing demand for their products and services.
While the Fed has indicated it probably won't raise rates until 2023, we expect the central bank to begin signaling a slowdown in its bond buying program at some point in the second half of the year—a very important step to help staunch the unsustainable level of federal spending. The Fed has been buying $120 billion per month worth of treasuries and mortgage-backed securities, leading to its bloated $8 trillion balance sheet. The market should be prepared for this step, but expect at least a short-term fit when the tapering is announced.
Media & Entertainment
06. Yet another reason to avoid GameStop shares: Microsoft is about to make a major gaming push
Not that true investors needed yet another reason to avoid a stock that is overvalued by 90%, but Microsoft's (MSFT $259) announcement that it will bring its Xbox games directly to smart TVs reveals just how antiquated bricks and mortar video game retailers—namely, GameStop (GME $235)—are becoming. Microsoft CEO Satya Nadella's strategy is straightforward: he wants gamers to be able to go from device to device and enjoy an incredible gaming experience, without the need to buy the latest—often outrageously-priced and sold out—gaming equipment. That means developing the cloud-based infrastructure required to efficiently stream Xbox games on computers, hand-held devices, and TVs. The company is already in talks with smart TV makers and streaming device providers like Roku (ROKU $347) to bring the strategy to fruition. The ultimate goal for Microsoft is to increase its Game Pass subscription business, which currently has about 23 million users, giving the company another steady stream of monthly income. If Nadella can replicate the incredible success of Microsoft 365, a subscription-based service for the company's software suite, it will continue to gobble up market share in the world of online gaming. And that spells trouble for an old video game retailer trying to transform itself into a digital player.
We may be dedicated Apple users, but Microsoft remains one of our strongest conviction holdings in the Penn Global Leaders Club. We also happen to be one of the 240 million or so users of Microsoft Office 365, paying the company a steady stream of recurring monthly income so we can operate Microsoft software on our MacBook Pros. We may curse our lonely PC on a weekly basis (some software still doesn't play nice with macOS), but Satya Nadella is one of the best CEOs in corporate America. As for GameStop, we are still waiting for incoming chairman Ryan Cohen's great strategic turnaround plan for GameStop (not).
Aerospace & Defense
05. Northrop Grumman just successfully launched a US Space Force satellite into orbit aboard its Pegasus XL launch vehicle
At 1:11 in the morning, a Northrop Grumman (NOC $371) L-1011 "Stargazer" took off from the newly renamed Vandenberg Space Force Base in California. After achieving 40,000 feet over the Pacific Ocean, its special cargo launched from the underbelly: a solid fuel Pegasus XL rocket carrying a secretive United States Space Force satellite. Last Sunday's launch represented the 45th deployment for the Pegasus, which Northrop Grumman was able to design, integrate, test, and place into service within a whirlwind four month period following the contract award. The rocket, which was built under the USSF's tactically responsive launch concept, is the world's first privately-developed commercial space launch vehicle. It has the ability to launch payloads from virtually anywhere on Earth at a moment's notice and with minimal ground support. The rocket is quickly becoming a favorite tool of the nascent US Space Force.
While Lockheed Martin (LMT $390) is the primary defense contractor within our Penn Global Leaders Club, Northrop Grumman is high on our list of the most respected industry players—easily ahead of Boeing. The $60 billion company (what a great size—well poised to become a $100 billion firm) netted a $3.2 billion profit on $37 billion in revenues last year.
Cryptocurrencies
04. Finally, a crypto that acts like a currency: Tether now the third-largest digital coin in the world
We have laughed off any comparison of cryptocurrencies such as Bitcoin to actual currencies; they are actually commodities with wild volatility. Well, that is true for most of them. All of a sudden, a digital currency known as a stablecoin has roared into third place—behind Bitcoin and Ether—on the list of the world's largest cryptocurrencies. Tether, which was originally known as Realcoin, is—as the name implies—tethered to an actual currency. Tether USDT is tied to the price of a US dollar, EURT to the euro, CHNT to the Chinese yuan, and XAUT to the price of an ounce of gold. So, at least in theory, one Tether USDT will always be worth one US dollar. As one could imagine, that makes it a lot easier for owners to buy goods with their USDTs, as they won't be worried that they could buy the same goods for a lot less in the future (due to fluctuation). The cryptocurrency got a big boost in May when the largest US digital exchange, Coinbase (COIN $232), announced that Tether USDT would be available on its platform. Tether is not without its share of controversy, however. It got in some hot water a few years back by implying that it was fully backed by the dollar. In actuality, a breakdown of the coin's reserves shows that it is 75%-backed by cash and cash equivalents; 13%-backed by secured loans; and 12%-backed by corporate bonds, precious metals, and other digital tokens. Nonetheless, it has traded at or near $1 throughout its seven year history. Another thing we like about this coin: For foreign nationals who don't have access to US bank accounts but want the stability of the US dollar, Tether has proved to be a popular solution.
Tether's market cap surpassed $60 billion last month, and we expect it to maintain its steep growth trajectory. Considering the Communist Party of China is hell-bent on creating a digital currency to supplant the US dollar as the world's reserve currency, perhaps the United States Treasury should study Tether as it slowly prepares to roll out its own fiat digital currency. In the meantime, Tether is one of the only digital coins whose future value we can confidently predict.
Financial Services
03. American Express has a new hybrid work model we can get behind
We have all witnessed how the pandemic has uprooted the traditional work/office relationship in a dramatic fashion. Companies which would never would have considered allowing a meaningful percentage of their workforce to perform their duties at home are suddenly rethinking those policies—and discovering just how much they can save in overhead through a reduced real estate footprint. One of our favorite new hybrid models comes to us from American Express (AXP $158), a global financial services firm operating in 130 countries. Most of the company's US and UK workers will be required to show up at the office just three days a week, Tuesday through Thursday, with the choice to work from home every Monday and Friday. Thinking back on some past jobs, that seems like a dream scenario to us. The new AmEx policy, which will begin this fall, stands in stark contrast to Goldman Sachs' (GS $349) demand that all employees return to the office by the 14th of July. Goldman Sachs CEO David Solomon (of which we have never been a fan) went so far as to call remote work "an aberration," and harmful to productivity. Based on some rather ugly employee feedback over the past few years, neither the company's policy nor the CEO's imperious comments surprise us. In a memo to employees, AmEx CEO Steve Squeri said that the new hybrid model will allow for both in-office collaboration and an increased work-life balance. Between the two firms, we know who we would rather work for.
Goldman Sachs has a notorious history of corporate arrogance. Thanks to technology and a shifting demographic landscape, the company is facing increased competition in areas it used to dominate, such as mergers and acquisition and securities underwriting. Counter that with American Express (granted, not exactly an apples-to-apples comparison), whose strong position within the small business community should provide a nice tailwind going forward.
Pharmaceuticals
02. AstraZeneca has another fail
Precisely one quarter ago we were writing of AstraZeneca's (AZN $58) vaccine fail—due to blood clot complications among some recipients—and management's unswerving denial that there was anything wrong with the drug; even hinting that a political hit job was in play. European countries went from halting the vaccine's use, to (under pressure) resuming its use, to halting it once again. This quarter the Swedish/UK conglomerate is facing yet another setback: its antibody drug is proving to be just 33% effective in preventing symptomatic Covid-19 in those exposed to the virus. Meanwhile, both Regeneron and Eli Lilly each have successful antibody cocktails already in use under emergency authorization. The US had already ordered 700,000 doses of the AstraZeneca therapy for delivery this year, while the UK had ordered one million doses. Odds are strong that the US will ultimately cancel the order, and it will be fascinating to watch what the company's home country ends up doing with respect to the one-million-dose order.
We are constantly on the lookout for strong pharmaceutical stocks and sound international companies in which to invest. Unfortunately, AZN doesn't fit the bill—in our opinion—for either category. Meanwhile, AZN shares are trading as if both therapies were a rousing success.
Market Week in Review
01. In a week to be expected—both based on the calendar and an FOMC meeting—stocks retreat
It wasn't a pretty week for the markets. After all, the Dow lost over 1,000 points (down 3.45%) and the S&P gave up nearly 2%. If there was a "bright spot" it was the tech-laden NASDAQ, which just gave back 28 basis points over the five-day period. We have no problem with the pullback: nothing makes us more nervous than built-in investor expectations for weekly gains. What bothers us is the rationale for the pullback. Investors (apparently) got spooked by the Fed's "more hawkish" tone after the week's FOMC meeting. Hawkish tone? You've got to be kidding. Did Chairman Powell even talk about ending the $120 billion monthly purchase of Treasuries and mortgage-backed securities? Nope. Did the Fed signal an imminent interest rate hike? Nope. St Louis Fed President James Bullard, who will be a voting member of the FOMC next year, said he could see a rate hike coming before 2022 is done. Katy, bar the door! You mean, we might actually move off of a target fed funds rate of zero?! Sure, there is also the fear of inflation running hotter than Powell expects, but we had to hear the word "transitory" at least one hundred times over the course of the week with respect to that particular market threat. In fact, the anemic yield of the 10-year Treasury actually fell this week, showing how little bond investors are worried about inflation forcing the Fed's hand. In all, this was simply a rather welcome pressure relief for a stock market that seemed to forget what a downturn was—despite the nightmare it was emerging from precisely one year ago. We went into the week with the Dow sitting above 34,000; we can handle an 1,190-point giveback. In fact, investors need to be mentally prepared for more summer volatility ahead.
Under the Radar Investment
POSCO
POSCO (PKX $73) is the largest steel producer in South Korea and one of the top steel producers in the world. The company is exposed to the auto, shipbuilding, home appliance, engineering, and machinery industries. The firm controls 40% of the domestic market share and exports roughly 50% of its steel products overseas, primarily to Asian countries. POSCO netted $1.3 billion in profit on $48 billion in revenues last year, and we expect the firm to play a major role in Asia's post-pandemic rebound. We believe the shares, which carry a 3% dividend yield and a P/E ratio of 12, could fetch $100 relatively soon.
Answer
It took just one generation, from the end of World War II to approximately the time we were landing astronauts on the lunar surface in 1969, for the American economy to grow from around $240 billion to $1 trillion—a fourfold increase.
Headlines for the Week of 23 May—29 May 2021
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The growing power of the plant-based food industry...
The plant-based food business is red-hot, and don't expect it to cool anytime soon. It is not a novelty or a niche corner of the market; it is quickly becoming a mainstream staple. For evidence of that, just look at the growing space dedicated to the products in your local supermarket. What is the size of this industry, based on revenue, and how rapidly did it grow last year over 2019?
Penn Trading Desk:
Penn: AT&T Stopped Out in Strategic Income Portfolio
AT&T CEO John Stankey, earlier this spring: "HBO Max is a pillar of the company's long-term strategy." This week: HBO Max is being spun-off so the company can focus on its "core competencies" of wireless and broadband. What a joke. We placed a stop on T @ $32, and it filled the same day, 17 May, at $31.98. A position we have held since 2010 is officially gone.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Media & Entertainment
10. AT&T and Discovery to combine media assets, creating a new entertainment behemoth (i.e., AT&T admits defeat)
While we have owned telecom services giant AT&T (T $33) for years, either in the Penn Global Leaders Club or—most recently—in the Strategic Income Portfolio (it carries a 6.5% dividend yield), we've had a strong sense as of late that the company is not quite sure of its own strategic vision. After all, T bought DirecTV in 2015 for $67 billion (with debt) only to spin it off six years later for one-fourth of that value; and it paid $85 billion to acquire Time Warner a few years after the DirecTV deal only, now, to spin that company off for $43 billion. Someone needs to explain the concept of "buy low and sell high" to the AT&T board.
With respect to the latter, AT&T and Discovery (DISCA $38) have announced plans to combine their media assets, which include the likes of HBO Max, CNN, TBS, Warner Brothers, TLC, and HGTV, into a new publicly-traded company—name to be determined. T shareholders will own 71% of the new entity, with Discovery shareholders getting the remaining 29%. Well-known media executive David Zaslav, current CEO of Discovery, will lead the new business. While Zaslav envisions the new firm becoming the dominant streaming service in the world (Netflix might disagree with that boast), here's what won't be said: this move represents a 180-degree turn for AT&T, which is now throwing in the towel on its lofty media aspirations. Going forward, the company will focus on its 5G buildout and its broadband service. The $43 billion will certainly help the firm pay for the $23 billion worth of 5G spectrum it committed to buying in its bidding war with Verizon (VZ $59). As for that 6.5% dividend yield which has kept many investors around, it will almost certainly be cut when this deal closes.
AT&T popped over 4% on news of this spinoff, jumping to over $33 per share. We know the dividend is going to get cut, and we question how much growth can be squeezed out of the wireless and broadband businesses—considering the fierce competition—over the coming years. We also feel like we got suckered into believing the company's line about creating a new media empire. We are placing a stop on our T position at $32. In short, we have lost almost all confidence in T's management team. Update: T changed direction on the day the deal was announced and went below $32, triggering our stop loss. Update: T changed direction on the day the deal was announced and went below $32, triggering our stop loss.
Restaurants
09. Dine Brands' restaurant IHOP to launch fast-casual spinoff Flip'd this summer
It was a plan put on hold due to the pandemic, but Dine Brands' (DIN $95) restaurant IHOP is finally ready to unveil its new fast-casual chain known as Flip'd. The concept is simple: lure on-the-go customers who want to grab some good food fast. Visitors will be able to order the likes of signature pancake bowls, made-to-order egg sandwiches, and a host of other pastry, drink, and food items at either a digital kiosk or the counter, generally taking their food to go. Picture a Chipotle, but breakfast-based. All of the Flip'd locations will be franchise-owned, with IHOP offering $150,000 to each of the first ten franchisees to get them up and running. A few of the very first Flip'd restaurants will be located in Manhattan; Lawrence, Kansas; and several cities in Ohio. A number of restaurants have tried to launch spin-off versions of themselves with a unique twist, but most have had limited success. We will go ahead and predict it: Flip'd will be an overwhelming success.
IHOP is owned by Dine Brands, which also owns Applebee's. Dine was under an enormous amount of financial stress during the pandemic, as could be imagined. While we picked up hotel chains, retail stores, an airline, and even a major gambling resort precisely twelve months ago during the heat of the market free-fall, we didn't pick up any restaurants. That was a mistake: Dine Brands is up 132% since then. Fair value would probably be in the $125 per share range.
Media & Entertainment
08. Amazon poised to make its second-largest acquisition ever: a storied movie studio
Formed in 1924, MGM dominated Hollywood for over a generation. While the studio has had a number of interesting owners over the past century, none have been quite like its next probable owner: Internet retailer Amazon (AMZN $3,245). Back in 2017, when reports surfaced that Amazon was about to buy food retailer Whole Foods for $13.7 billion, there were many of doubters. We believed the move was brilliant, and that opinion has been borne out in an impressively short period of time (Whole Foods now delivers food to the doorstep of Prime members with Amazon-like efficiency). The Whole Foods acquisition remains the company's largest to date; but, with its reported $8.45 billion price tag, MGM will easily hold the second position.
Amazon has been investing heavily in its streaming service, recently inking a deal with the NFL to stream Thursday night games for around $1.2 billion per year. The recent merger of AT&T's Warner Media with Discovery may well have been the catalyst for MGM and the retailer to get this deal inked. It is interesting to note that MGM's former CEO, Gary Barber, was fired by the board after he reportedly engaged in talks with Apple surrounding a possible $6 billion deal. So, with a cost 40% higher than the purported range during the Apple talks, is Amazon overpaying for this asset? Probably. But in the end, they will make the premium look like chump change.
Amazon is a long-standing member of the Penn Global Leaders Club, and we have a fair value on the shares of around $4,250. The most concerning aspect of the company's growth trajectory revolves around government intervention. The company already had a target on its back from an antitrust standpoint; this will only add fuel to the fire of those who wish to see it forcibly broken up.
Food Products
07. Swedish oat milk company Oatly comes out of the gate hot, but established food players are stepping up the pressure
It's an age old story: established players bash a new concept, consumers embrace the new products, and the established players suddenly enter the fray, claiming they were always on board. EVs are perhaps the best example of this, and we remember the Fords and GMs of the world impugning Tesla on a chronic basis...until they suddenly embraced EVs as if it were their idea in the first place. The same is true in the plant-based foods business. Oatly Group AB (OTLY $21), maker of the happy little cartons of "milk" you have probably seen in the dairy section of the grocery store, went public last week. Despite the IPO price of $17, shares shot out of the gate, jumping 37%—to $23.25—within a day. While they have cooled off a bit since, their $21 price still values the company at $12.5 billion—about 50% larger than our favorite plant-based company, Beyond Meat (BYND $123). At $21, are the new shares worth picking up? Plant-based food sales rose an impressive 27%—to $7 billion—in 2020, and the upward trajectory will continue. Silk, which is now owned by Danone (DANOY $15), will probably be the company's chief competitor going forward, but we see Oatly growing its rather faithful consumer base. While it will be a few years before the company is profitable (it lost $60 million in 2020), its revenues doubled last year from the previous year. If shares go below $20, they are worth looking at for investors needing an international play in the consumer staples sector (which you probably do).
We believe a lot of investors are not fully grasping just how big the plant-based food movement will become over the next decade. Consider this frontier investing: there will be massive gains to be had, but choose your vehicles carefully. Oatly is a pretty safe bet.
Pharmaceuticals
06. Just another example of why this company is underrated: Pfizer's Covid pill should be out by year's end
By definition, we believe in all 100 or so investments within the five Penn Wealth strategies; put another way, if we lose faith, we have no qualms jettisoning any of them. That said, at any particular point in time we have our favorites. Typically, these are companies in which we see something dynamic going on, but ones that seem to be flying under the radar of the Street. Penn Global Leaders Club member Pfizer (PFE $38) is a perfect example. We believe this company, which also happens to have a fat 4% dividend yield, is the global benchmark for the pharmaceuticals industry. As if it weren't enough that Pfizer has the most effective vaccine for Covid on the market (which it developed in record time), it now plans to have a pill for the treatment of the deadly virus on the market before the end of the year. Currently in a phase 1 clinical trial, this protease inhibitor (a protease is an enzyme which allows the virus to break down proteins so it can make copies of itself and multiply) could be taken at home by those having positive test results, effectively treating the disease and helping to keep patients out of the hospital. The first protease inhibitor was approved by the FDA a generation ago to treat HIV. As for the various strains of the disease, Pfizer believes the therapy, currently known simply as PF-07321332, should effectively tackle all of them with strong efficacy.
Pfizer has a healthy balance sheet, a strong drug pipeline, a top-tier sales force, and a simply great R&D team. Let others follow meme stocks that are infinitesimally overvalued (i.e., really worth nothing), we will stick with beautiful workhorses like Pfizer. When the next correction comes, washing the silliness away, this 172-year-old stalwart will still be standing.
Global Trade
05. Parity must be the US goal with respect to trade with China
The press keeps telling us that China is about to reach economic parity with the United States, so here's our question to the collective press: why are we importing over four times as much from China as we export to China? If the economies are of equal scale, shouldn't our trade deficit with the communist nation be relatively balanced? In reality, the United States has a $22 trillion economy compared to China's $15 trillion or so, meaning we could even accept a 50% differential in the transfer of goods; but 400%? Something doesn't smell right.
In March, the most recent month on record, we exported $11.27 billion worth of goods to China and imported $48.21 billion worth of goods from China. While those figures are both depressing and outrageous, there is some good news: the US tariffs on Chinese goods are finally forcing US companies to look elsewhere for their purchases. One of the biggest beneficiaries in this shift has been Vietnam, which is now the eighth-largest exporter to the US, moving ahead of India. Vietnam, as we have noted in the past, is no friend to China, with the ongoing South China Sea dispute just the latest bone of contention between the two. The peak in our level of imports from China was $539 billion in 2018; as of the trailing twelve months (TTM) ended 31 March, that figure has dropped to $472 billion. A 12% drop doesn't sound like much, and the pandemic certainly skewed the results to some extent, but at least the needle is moving in the right direction.
Fortunately, the Biden administration has shown little inclination toward removing the tariffs on Chinese goods, much to the consternation of the CPC. Americans must keep up the pressure on companies to persuade them to look elsewhere for the wholesale purchase of products and building of new plants. If that pressure continues, China's five-year plan to overtake the US economically will face a much larger hurdle—despite the cheerleading from much of the press.
Technology is going to be, far and away, our greatest ally in the fight to curb Chinese imports. From 3D printing to vastly increased efficiency for manufacturing firms, technology is the great disruptor with respect to the balance of trade. Investors should keep a close eye on opportunities in the small- and mid-cap industrials space, those tech-heavy firms which almost always travel under the radar. We will continue to highlight individual names for readers.
Global Strategy: Europe
04. America is roaring out of the pandemic; that is not so much the case in Europe
Over the course of the last two quarters, covering the end of 2020 and the beginning of 2021, the US economy grew at an impressive clip of 4.3% and 6.4%, respectively, thanks to a herculean vaccination effort and a subsequent loosening of Covid restrictions. Sadly, this has not been the case across the pond. The latest metric comes from France, which just re-entered a recession. The French economy shrank by 0.1% in the first quarter of 2021, following a 1.5% contraction in Q4 of 2020. But Europe's second-largest economy has some good company: Germany, the eurozone's largest economy, has seen its economy shrink for five straight quarters, with Q1 GDP coming in at -3.10%. To be sure, the pandemic and a chaotic subsequent vaccine rollout have been the catalysts for the recession that Europe can't seem to shake, but there were other factors which prepared the field for these conditions.
While US deficit spending has been a sad, running joke for a number of years, Europe's fiscal policy almost makes America's economic house look enviable. After the Great Recession, Brussels, led by the erudite wonks primarily from France and Germany, spent with reckless abandon to help the poorer nations in the southern region shake off record levels of unemployment—like 28% in Greece and 26% in Spain. Austerity measures were then forced upon these borrowers which only served to exacerbate the problem and create resentment among the citizens of these beleaguered southern nations. Going into the pandemic, unemployment levels remained stubbornly high in Portugal, Italy, Greece, and Spain. In essence, the eurozone never shook off the effects of the 2008-2009 crisis when the global pandemic hit. The ECB's only answer seems to be throwing more money at the problem until it goes away. Eventually, Europe's vaccination rate will subdue the nightmarish pandemic and growth will return to the region. But the economic scars caused by the handling of two massive crises will remain, as will the bitter divide between the northern and southern regions of the continent.
We continue to underweight the eurozone—with the exception of a few emerging markets in Eastern Europe—as the region grapples with its reopening efforts. The UK is the wild card, as the 2017 Brexit outcome appears more and more prescient with each passing month. Goldman Sachs recently issued a glowing outlook for the British economy, anticipating a "striking" 7.8% GDP growth rate for the year. One way to play the anticipated rebound is with the iShares MSCI United Kingdom ETF (EWU $34), which holds 88 large-cap positions; names such as Unilever PLC and London Stock Exchange Group PLC. For investors looking for more growth potential there is the iShares MSCI United Kingdom Small-Cap ETF (EWUS $50), which holds several hundred small- and mid-cap names.
Road & Rail
03. The latest developments in the Kansas City Southern saga
When Canadian National Railway (CNI $113) stunned the industry with its $30 billion bid for Kansas City Southern (KSU $298), we fully expected rival Canadian Pacific Railway (CP $81) to up its prior $25 billion bid. Instead, the rail—which arguably needs the American north-south tracks of KSC more than Canadian National—stuck by its original offer. It also sent a message to Kansas City Southern: take our deal or lose the regulatory battle in the US. The Kansas City-based rail responded by telling Canadian Pacific to take a hike—and eat the $700 million deal breakup fee. At the heart of the issue are overlapping routes (Canadian National Railway has more) and stricter merger standards adopted in 2001 by the Surface Transportation Board (STB). The agency, which must approve or deny the merger, now states that railway mergers must be in the public interest; the older standard simply stated that a deal must not hinder competition. Canadian Pacific's plans? Wait out the ruling, which it expects to be negative, then swoop back in with its original deal.
This is a really tough call, as we see a 50/50 chance for ultimate approval by the STB. In the meantime, KSC seems too expensive (its price has risen to within 9% of the acquisition offer price), we don't like Canadian Pacific's tactics (and it seems fairly valued), and Canadian National will probably take a share price hit if the deal is shot down. That being said, we do like Canadian National's reach, which extends throughout Canada and all the way south to the Mexican border. It agreed to sell some of its southern-most lines to acquire KSC, but that would be a moot point if the deal fails. Of the major rails, CNI at $112.57 seems like the best bet right now for investors.
Biotechnology
02. In the war against Alzheimer's, a momentous day is coming
After a 12-month span in which most well-known health care stocks notched some impressive gains, one well-respected drug manufacturer seems to have been left behind. Biogen (BIIB $267), which has a solid bench of proven performers—like Tysabri for MS and Rituxan for cancer—and a decent pipeline of new therapies, is down 12.90% over the course of the past year. Something big is about to happen, however, that will (probably) move the shares sharply one way or the other, and send a critically-important signal on where we stand in the fight against Alzheimer's. Next Monday, the 7th of June, the US Food and Drug Administration will decide whether or not to approve the use of Biogen's Alzheimer's therapy, aducanumab. It is not just Biogen which will be watching the decision closely, it is also the families of the over six million sufferers of this terrible disease. Considering it has been nearly twenty years since an Alzheimer's therapy has been approved, a positive ruling would be an enormous win against what has been a very elusive disease.
There have been some oddly positive indicators that this drug will finally win approval, such as the very unique step of the FDA preparing a briefing document alongside Biogen on aducanumab. The stakes are high: generics have been slowly eating away at the company's anchor drugs, while approval of this Alzheimer's therapy would add immensely to the company's sales outlook for years to come. Our best guess? Investors should consider buying some shares at their current price of $267 in anticipation of a huge win.
Market Week in Review
01. In a stunning turnaround, two of the three major indexes actually cobbled together a positive May
It wasn't looking very good a few weeks into the new month. In fact, the "Sell in May..." adage seemed destined to, once again, prove true. However, after hammering out a solid second half of the month, both the S&P 500 and the Dow Jones Industrial Average ended May in the green—though not by much. While the NASDAQ couldn't make that happen, it did end up paring its earlier losses, finishing down just 1.53% on the month. Inflation fears seemed to grip the stock market in the first two weeks of May, while plenty of expert witnesses helped to effectively allay those fears during the second half of the month. For crypto investors, the story was more dour. Bitcoin lost one-third of its value in May. Bring on the dog days of summer, and strap in for a wild ride.
Under the Radar Investment
Kongsberg Gruppen ASA (NSKFF $25)
Kongsberg Gruppen ASA is a $4.5 billion Norwegian mid-cap industrials firm (try and find one of those in your portfolio). The company operates primarily in the Maritime and the Aerospace & Defense industries. The company's maritime unit makes navigation, automation, and positioning products for commercial ships and offshore industries. The aerospace unit provides an array of defense- and space-related products and services. Kongsberg has perennially-positive cash flow and a sound balance sheet. The company, which was founded in 1814, is based out of the Buskerud region of Norway.
Answer
According to the food industry publication Supermarket News, in 2018 US plant-based food sales sat at an impressive $4.5 billion. A year later, that figure grew to $5 billion—an 11% YoY growth rate compared to the 2.2% growth rate in total US retail food sales. In 2020, sales in the industry surged a whopping 27%, to $7 billion. Granted, overall retail food sales rose 15% (to $760 billion) due to closed restaurants and lockdowns, but to nearly double that rate says a lot about shifting dietary habits in the country. (And no, we are not knocking the summer delight that is a sizzling T-bone on the grill; it will be some time before that experience can be replicated.) 2021's figures, when they come out next April, will be a fascinating dot to add to the chart, as the lockdowns are essentially over in this country. What do we expect? Another surprisingly-high growth rate.*
*Granted, at 0.92% of overall food sales, the plant-based industry may seem like an afterthought from a sales standpoint. However, to us it simply portrays how much room the industry has to grow. Food products used to be a relatively boring corner of the consumer staples sector; thanks to visionaries like Beyond Meat's Ethan Brown, that is no longer the case...and we love it.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The growing power of the plant-based food industry...
The plant-based food business is red-hot, and don't expect it to cool anytime soon. It is not a novelty or a niche corner of the market; it is quickly becoming a mainstream staple. For evidence of that, just look at the growing space dedicated to the products in your local supermarket. What is the size of this industry, based on revenue, and how rapidly did it grow last year over 2019?
Penn Trading Desk:
Penn: AT&T Stopped Out in Strategic Income Portfolio
AT&T CEO John Stankey, earlier this spring: "HBO Max is a pillar of the company's long-term strategy." This week: HBO Max is being spun-off so the company can focus on its "core competencies" of wireless and broadband. What a joke. We placed a stop on T @ $32, and it filled the same day, 17 May, at $31.98. A position we have held since 2010 is officially gone.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Media & Entertainment
10. AT&T and Discovery to combine media assets, creating a new entertainment behemoth (i.e., AT&T admits defeat)
While we have owned telecom services giant AT&T (T $33) for years, either in the Penn Global Leaders Club or—most recently—in the Strategic Income Portfolio (it carries a 6.5% dividend yield), we've had a strong sense as of late that the company is not quite sure of its own strategic vision. After all, T bought DirecTV in 2015 for $67 billion (with debt) only to spin it off six years later for one-fourth of that value; and it paid $85 billion to acquire Time Warner a few years after the DirecTV deal only, now, to spin that company off for $43 billion. Someone needs to explain the concept of "buy low and sell high" to the AT&T board.
With respect to the latter, AT&T and Discovery (DISCA $38) have announced plans to combine their media assets, which include the likes of HBO Max, CNN, TBS, Warner Brothers, TLC, and HGTV, into a new publicly-traded company—name to be determined. T shareholders will own 71% of the new entity, with Discovery shareholders getting the remaining 29%. Well-known media executive David Zaslav, current CEO of Discovery, will lead the new business. While Zaslav envisions the new firm becoming the dominant streaming service in the world (Netflix might disagree with that boast), here's what won't be said: this move represents a 180-degree turn for AT&T, which is now throwing in the towel on its lofty media aspirations. Going forward, the company will focus on its 5G buildout and its broadband service. The $43 billion will certainly help the firm pay for the $23 billion worth of 5G spectrum it committed to buying in its bidding war with Verizon (VZ $59). As for that 6.5% dividend yield which has kept many investors around, it will almost certainly be cut when this deal closes.
AT&T popped over 4% on news of this spinoff, jumping to over $33 per share. We know the dividend is going to get cut, and we question how much growth can be squeezed out of the wireless and broadband businesses—considering the fierce competition—over the coming years. We also feel like we got suckered into believing the company's line about creating a new media empire. We are placing a stop on our T position at $32. In short, we have lost almost all confidence in T's management team. Update: T changed direction on the day the deal was announced and went below $32, triggering our stop loss. Update: T changed direction on the day the deal was announced and went below $32, triggering our stop loss.
Restaurants
09. Dine Brands' restaurant IHOP to launch fast-casual spinoff Flip'd this summer
It was a plan put on hold due to the pandemic, but Dine Brands' (DIN $95) restaurant IHOP is finally ready to unveil its new fast-casual chain known as Flip'd. The concept is simple: lure on-the-go customers who want to grab some good food fast. Visitors will be able to order the likes of signature pancake bowls, made-to-order egg sandwiches, and a host of other pastry, drink, and food items at either a digital kiosk or the counter, generally taking their food to go. Picture a Chipotle, but breakfast-based. All of the Flip'd locations will be franchise-owned, with IHOP offering $150,000 to each of the first ten franchisees to get them up and running. A few of the very first Flip'd restaurants will be located in Manhattan; Lawrence, Kansas; and several cities in Ohio. A number of restaurants have tried to launch spin-off versions of themselves with a unique twist, but most have had limited success. We will go ahead and predict it: Flip'd will be an overwhelming success.
IHOP is owned by Dine Brands, which also owns Applebee's. Dine was under an enormous amount of financial stress during the pandemic, as could be imagined. While we picked up hotel chains, retail stores, an airline, and even a major gambling resort precisely twelve months ago during the heat of the market free-fall, we didn't pick up any restaurants. That was a mistake: Dine Brands is up 132% since then. Fair value would probably be in the $125 per share range.
Media & Entertainment
08. Amazon poised to make its second-largest acquisition ever: a storied movie studio
Formed in 1924, MGM dominated Hollywood for over a generation. While the studio has had a number of interesting owners over the past century, none have been quite like its next probable owner: Internet retailer Amazon (AMZN $3,245). Back in 2017, when reports surfaced that Amazon was about to buy food retailer Whole Foods for $13.7 billion, there were many of doubters. We believed the move was brilliant, and that opinion has been borne out in an impressively short period of time (Whole Foods now delivers food to the doorstep of Prime members with Amazon-like efficiency). The Whole Foods acquisition remains the company's largest to date; but, with its reported $8.45 billion price tag, MGM will easily hold the second position.
Amazon has been investing heavily in its streaming service, recently inking a deal with the NFL to stream Thursday night games for around $1.2 billion per year. The recent merger of AT&T's Warner Media with Discovery may well have been the catalyst for MGM and the retailer to get this deal inked. It is interesting to note that MGM's former CEO, Gary Barber, was fired by the board after he reportedly engaged in talks with Apple surrounding a possible $6 billion deal. So, with a cost 40% higher than the purported range during the Apple talks, is Amazon overpaying for this asset? Probably. But in the end, they will make the premium look like chump change.
Amazon is a long-standing member of the Penn Global Leaders Club, and we have a fair value on the shares of around $4,250. The most concerning aspect of the company's growth trajectory revolves around government intervention. The company already had a target on its back from an antitrust standpoint; this will only add fuel to the fire of those who wish to see it forcibly broken up.
Food Products
07. Swedish oat milk company Oatly comes out of the gate hot, but established food players are stepping up the pressure
It's an age old story: established players bash a new concept, consumers embrace the new products, and the established players suddenly enter the fray, claiming they were always on board. EVs are perhaps the best example of this, and we remember the Fords and GMs of the world impugning Tesla on a chronic basis...until they suddenly embraced EVs as if it were their idea in the first place. The same is true in the plant-based foods business. Oatly Group AB (OTLY $21), maker of the happy little cartons of "milk" you have probably seen in the dairy section of the grocery store, went public last week. Despite the IPO price of $17, shares shot out of the gate, jumping 37%—to $23.25—within a day. While they have cooled off a bit since, their $21 price still values the company at $12.5 billion—about 50% larger than our favorite plant-based company, Beyond Meat (BYND $123). At $21, are the new shares worth picking up? Plant-based food sales rose an impressive 27%—to $7 billion—in 2020, and the upward trajectory will continue. Silk, which is now owned by Danone (DANOY $15), will probably be the company's chief competitor going forward, but we see Oatly growing its rather faithful consumer base. While it will be a few years before the company is profitable (it lost $60 million in 2020), its revenues doubled last year from the previous year. If shares go below $20, they are worth looking at for investors needing an international play in the consumer staples sector (which you probably do).
We believe a lot of investors are not fully grasping just how big the plant-based food movement will become over the next decade. Consider this frontier investing: there will be massive gains to be had, but choose your vehicles carefully. Oatly is a pretty safe bet.
Pharmaceuticals
06. Just another example of why this company is underrated: Pfizer's Covid pill should be out by year's end
By definition, we believe in all 100 or so investments within the five Penn Wealth strategies; put another way, if we lose faith, we have no qualms jettisoning any of them. That said, at any particular point in time we have our favorites. Typically, these are companies in which we see something dynamic going on, but ones that seem to be flying under the radar of the Street. Penn Global Leaders Club member Pfizer (PFE $38) is a perfect example. We believe this company, which also happens to have a fat 4% dividend yield, is the global benchmark for the pharmaceuticals industry. As if it weren't enough that Pfizer has the most effective vaccine for Covid on the market (which it developed in record time), it now plans to have a pill for the treatment of the deadly virus on the market before the end of the year. Currently in a phase 1 clinical trial, this protease inhibitor (a protease is an enzyme which allows the virus to break down proteins so it can make copies of itself and multiply) could be taken at home by those having positive test results, effectively treating the disease and helping to keep patients out of the hospital. The first protease inhibitor was approved by the FDA a generation ago to treat HIV. As for the various strains of the disease, Pfizer believes the therapy, currently known simply as PF-07321332, should effectively tackle all of them with strong efficacy.
Pfizer has a healthy balance sheet, a strong drug pipeline, a top-tier sales force, and a simply great R&D team. Let others follow meme stocks that are infinitesimally overvalued (i.e., really worth nothing), we will stick with beautiful workhorses like Pfizer. When the next correction comes, washing the silliness away, this 172-year-old stalwart will still be standing.
Global Trade
05. Parity must be the US goal with respect to trade with China
The press keeps telling us that China is about to reach economic parity with the United States, so here's our question to the collective press: why are we importing over four times as much from China as we export to China? If the economies are of equal scale, shouldn't our trade deficit with the communist nation be relatively balanced? In reality, the United States has a $22 trillion economy compared to China's $15 trillion or so, meaning we could even accept a 50% differential in the transfer of goods; but 400%? Something doesn't smell right.
In March, the most recent month on record, we exported $11.27 billion worth of goods to China and imported $48.21 billion worth of goods from China. While those figures are both depressing and outrageous, there is some good news: the US tariffs on Chinese goods are finally forcing US companies to look elsewhere for their purchases. One of the biggest beneficiaries in this shift has been Vietnam, which is now the eighth-largest exporter to the US, moving ahead of India. Vietnam, as we have noted in the past, is no friend to China, with the ongoing South China Sea dispute just the latest bone of contention between the two. The peak in our level of imports from China was $539 billion in 2018; as of the trailing twelve months (TTM) ended 31 March, that figure has dropped to $472 billion. A 12% drop doesn't sound like much, and the pandemic certainly skewed the results to some extent, but at least the needle is moving in the right direction.
Fortunately, the Biden administration has shown little inclination toward removing the tariffs on Chinese goods, much to the consternation of the CPC. Americans must keep up the pressure on companies to persuade them to look elsewhere for the wholesale purchase of products and building of new plants. If that pressure continues, China's five-year plan to overtake the US economically will face a much larger hurdle—despite the cheerleading from much of the press.
Technology is going to be, far and away, our greatest ally in the fight to curb Chinese imports. From 3D printing to vastly increased efficiency for manufacturing firms, technology is the great disruptor with respect to the balance of trade. Investors should keep a close eye on opportunities in the small- and mid-cap industrials space, those tech-heavy firms which almost always travel under the radar. We will continue to highlight individual names for readers.
Global Strategy: Europe
04. America is roaring out of the pandemic; that is not so much the case in Europe
Over the course of the last two quarters, covering the end of 2020 and the beginning of 2021, the US economy grew at an impressive clip of 4.3% and 6.4%, respectively, thanks to a herculean vaccination effort and a subsequent loosening of Covid restrictions. Sadly, this has not been the case across the pond. The latest metric comes from France, which just re-entered a recession. The French economy shrank by 0.1% in the first quarter of 2021, following a 1.5% contraction in Q4 of 2020. But Europe's second-largest economy has some good company: Germany, the eurozone's largest economy, has seen its economy shrink for five straight quarters, with Q1 GDP coming in at -3.10%. To be sure, the pandemic and a chaotic subsequent vaccine rollout have been the catalysts for the recession that Europe can't seem to shake, but there were other factors which prepared the field for these conditions.
While US deficit spending has been a sad, running joke for a number of years, Europe's fiscal policy almost makes America's economic house look enviable. After the Great Recession, Brussels, led by the erudite wonks primarily from France and Germany, spent with reckless abandon to help the poorer nations in the southern region shake off record levels of unemployment—like 28% in Greece and 26% in Spain. Austerity measures were then forced upon these borrowers which only served to exacerbate the problem and create resentment among the citizens of these beleaguered southern nations. Going into the pandemic, unemployment levels remained stubbornly high in Portugal, Italy, Greece, and Spain. In essence, the eurozone never shook off the effects of the 2008-2009 crisis when the global pandemic hit. The ECB's only answer seems to be throwing more money at the problem until it goes away. Eventually, Europe's vaccination rate will subdue the nightmarish pandemic and growth will return to the region. But the economic scars caused by the handling of two massive crises will remain, as will the bitter divide between the northern and southern regions of the continent.
We continue to underweight the eurozone—with the exception of a few emerging markets in Eastern Europe—as the region grapples with its reopening efforts. The UK is the wild card, as the 2017 Brexit outcome appears more and more prescient with each passing month. Goldman Sachs recently issued a glowing outlook for the British economy, anticipating a "striking" 7.8% GDP growth rate for the year. One way to play the anticipated rebound is with the iShares MSCI United Kingdom ETF (EWU $34), which holds 88 large-cap positions; names such as Unilever PLC and London Stock Exchange Group PLC. For investors looking for more growth potential there is the iShares MSCI United Kingdom Small-Cap ETF (EWUS $50), which holds several hundred small- and mid-cap names.
Road & Rail
03. The latest developments in the Kansas City Southern saga
When Canadian National Railway (CNI $113) stunned the industry with its $30 billion bid for Kansas City Southern (KSU $298), we fully expected rival Canadian Pacific Railway (CP $81) to up its prior $25 billion bid. Instead, the rail—which arguably needs the American north-south tracks of KSC more than Canadian National—stuck by its original offer. It also sent a message to Kansas City Southern: take our deal or lose the regulatory battle in the US. The Kansas City-based rail responded by telling Canadian Pacific to take a hike—and eat the $700 million deal breakup fee. At the heart of the issue are overlapping routes (Canadian National Railway has more) and stricter merger standards adopted in 2001 by the Surface Transportation Board (STB). The agency, which must approve or deny the merger, now states that railway mergers must be in the public interest; the older standard simply stated that a deal must not hinder competition. Canadian Pacific's plans? Wait out the ruling, which it expects to be negative, then swoop back in with its original deal.
This is a really tough call, as we see a 50/50 chance for ultimate approval by the STB. In the meantime, KSC seems too expensive (its price has risen to within 9% of the acquisition offer price), we don't like Canadian Pacific's tactics (and it seems fairly valued), and Canadian National will probably take a share price hit if the deal is shot down. That being said, we do like Canadian National's reach, which extends throughout Canada and all the way south to the Mexican border. It agreed to sell some of its southern-most lines to acquire KSC, but that would be a moot point if the deal fails. Of the major rails, CNI at $112.57 seems like the best bet right now for investors.
Biotechnology
02. In the war against Alzheimer's, a momentous day is coming
After a 12-month span in which most well-known health care stocks notched some impressive gains, one well-respected drug manufacturer seems to have been left behind. Biogen (BIIB $267), which has a solid bench of proven performers—like Tysabri for MS and Rituxan for cancer—and a decent pipeline of new therapies, is down 12.90% over the course of the past year. Something big is about to happen, however, that will (probably) move the shares sharply one way or the other, and send a critically-important signal on where we stand in the fight against Alzheimer's. Next Monday, the 7th of June, the US Food and Drug Administration will decide whether or not to approve the use of Biogen's Alzheimer's therapy, aducanumab. It is not just Biogen which will be watching the decision closely, it is also the families of the over six million sufferers of this terrible disease. Considering it has been nearly twenty years since an Alzheimer's therapy has been approved, a positive ruling would be an enormous win against what has been a very elusive disease.
There have been some oddly positive indicators that this drug will finally win approval, such as the very unique step of the FDA preparing a briefing document alongside Biogen on aducanumab. The stakes are high: generics have been slowly eating away at the company's anchor drugs, while approval of this Alzheimer's therapy would add immensely to the company's sales outlook for years to come. Our best guess? Investors should consider buying some shares at their current price of $267 in anticipation of a huge win.
Market Week in Review
01. In a stunning turnaround, two of the three major indexes actually cobbled together a positive May
It wasn't looking very good a few weeks into the new month. In fact, the "Sell in May..." adage seemed destined to, once again, prove true. However, after hammering out a solid second half of the month, both the S&P 500 and the Dow Jones Industrial Average ended May in the green—though not by much. While the NASDAQ couldn't make that happen, it did end up paring its earlier losses, finishing down just 1.53% on the month. Inflation fears seemed to grip the stock market in the first two weeks of May, while plenty of expert witnesses helped to effectively allay those fears during the second half of the month. For crypto investors, the story was more dour. Bitcoin lost one-third of its value in May. Bring on the dog days of summer, and strap in for a wild ride.
Under the Radar Investment
Kongsberg Gruppen ASA (NSKFF $25)
Kongsberg Gruppen ASA is a $4.5 billion Norwegian mid-cap industrials firm (try and find one of those in your portfolio). The company operates primarily in the Maritime and the Aerospace & Defense industries. The company's maritime unit makes navigation, automation, and positioning products for commercial ships and offshore industries. The aerospace unit provides an array of defense- and space-related products and services. Kongsberg has perennially-positive cash flow and a sound balance sheet. The company, which was founded in 1814, is based out of the Buskerud region of Norway.
Answer
According to the food industry publication Supermarket News, in 2018 US plant-based food sales sat at an impressive $4.5 billion. A year later, that figure grew to $5 billion—an 11% YoY growth rate compared to the 2.2% growth rate in total US retail food sales. In 2020, sales in the industry surged a whopping 27%, to $7 billion. Granted, overall retail food sales rose 15% (to $760 billion) due to closed restaurants and lockdowns, but to nearly double that rate says a lot about shifting dietary habits in the country. (And no, we are not knocking the summer delight that is a sizzling T-bone on the grill; it will be some time before that experience can be replicated.) 2021's figures, when they come out next April, will be a fascinating dot to add to the chart, as the lockdowns are essentially over in this country. What do we expect? Another surprisingly-high growth rate.*
*Granted, at 0.92% of overall food sales, the plant-based industry may seem like an afterthought from a sales standpoint. However, to us it simply portrays how much room the industry has to grow. Food products used to be a relatively boring corner of the consumer staples sector; thanks to visionaries like Beyond Meat's Ethan Brown, that is no longer the case...and we love it.
Headlines for the Week of 09 May—15 May 2021
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
No putting that genie back in its bottle...
While Bank of America issued the first card using the concept of "revolving credit" back in 1958, what was the first credit card that could boast of widespread use?
Penn Trading Desk:
Penn: Add potential inflation hedge to the Dynamic Growth Strategy
It used to be so easy to hedge against inflation, just like it was easy to reduce beta in a portfolio by increasing the percentage of bonds in a portfolio. Ah, the good old days. We don't believe the current line that "inflation is transitory," and we are continually searching for creative hedges against this condition. To that end, we have added a position to the Penn Dynamic Growth Strategy, our ETF portfolio, which invests in companies that are expected to benefit from rising prices of real assets, i.e., inflation. Looking down the list of 40 or so holdings was like looking down one of our equity wish lists. A quite creative mix. Members can see the new addition by visiting the Penn Trading Desk and signing in.
Evercore ISI: Upgrade Simon Property Group to Outperform
We've talked relatively disparagingly about retail REIT Simon Property Group (SPG $120) in the past, but Evercore ISI has become a believer. The analyst firm upgraded their rating on SPG to Outperform, lifting their target price on the shares from $121 to $128. The analyst gave relatively generic rationale for the upgrade, to include a post-pandemic return to normalcy, improved rent collections, lower tenant fallout, and potential upside surprises to net operating income by the likes of JC Penney, Brooks Brothers, and other mall anchors.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Cybersecurity
10. Private equity firm Thoma Bravo makes bid for cybersecurity firm Proofpoint, sending shares soaring
Going into last week, Proofpoint (PFPT $173) was a $7.5 billion cloud-based cybersecurity firm with a suite of offerings for mid- to large-sized companies. After the following Monday's open, the company's offerings remained the same but its market cap was suddenly sitting near $11 billion thanks to an unsolicited bid by private equity firm Thoma Bravo. The deal, which would take the firm private, is worth $12.3 billion, or $176 per share, and comes with a 45-day "go-shop" provision which would allow other bids to be reviewed. Thoma Bravo, which specializes in software and cybersecurity acquisitions, just completed a $10 billion deal to buy RealPage, a provider of property management software for the commercial, single-family, and vacation rental housing industries. Barring any other offers, the Proofpoint deal should close in the third quarter.
Proofpoint is one of the top holdings in the First Trust NASDAQ Cybersecurity ETF (CIBR $45), a satellite holding within the Penn Dynamic Growth Strategy. While selecting individual cybersecurity names can be challenging for investors, we maintain that the best way to take part in this ever-growing industry is through a strong exchange traded fund, such as CIBR.
Automotive
09. Tesla's revenues surged 74% in the first quarter, leading to a record net income for the global EV leader
We remember listening to CNBC's David Faber ad nauseam: "Yes, Jim, but you do realize the company has never turned a profit, right?" We've never considered Mr. Brooks Brothers a lofty thinker, but his stale comments do make it all the more enjoyable to report that Tesla (TSLA $723) just notched its seventh-straight profitable quarter on the back of blowout numbers. For Q1 of 2021, Tesla generated $10.39 billion in revenue, with a record $438 million of that flowing down as net income. Addressing the new greatest threat to the automakers, the chip shortage, management said it has addressed the issue by moving to new microcontrollers for its vehicles and by developing the firmware required to work with the new chips made by different suppliers. Granted (we can hear Faber now), the company did make over $100 million by selling roughly 10% of its bitcoin stash at a profit, and another $500 million by the sale of tax credits, but the ever-increasing efficiency within their plants is undeniable. Tesla delivered a record 184,800 Model 3 and Model Y vehicles in Q1, and expects a 50% delivery growth rate this year over 2020. On the technical side of the business, Musk sees cameras replacing radar on its full self-driving (FSD) vehicles when they roll out, and expects to completely eliminate the old (radar-based) systems soon. In the earnings conference call, Musk also reiterated his aggressive plans to put more Tesla solar roofs on homes across America, supported by the company's home energy storage system known as Powerwall. The goal is to create a "giant distributed utility" which will ultimately make one's house energy self-sufficient.
There are always going to be naysaying journalists and analysts chronically pointing out why Tesla will ultimately fail. Their latest narrative is that increased competition within the EV and autonomous-driving space, along with the end of tax subsidies, will doom the company. Tesla is doing everything right to remain in the pole position going forward, however, and we consider its nationwide Supercharger network to be an enormous advantage over the competition. It should be noted that Tesla offered this technology to other automakers several years ago, but the offer was flatly declined.
Investment Vehicles: ETFs
08. Talk of raising the capital gains tax rate points to yet another reason we prefer ETFs over mutual funds
There are a number of reasons we migrated away from mutual funds in favor of exchange traded funds (ETFs) some years back, but the current tax rate discussion emanating from D.C. points to one specific benefit of the latter: their tax efficiency. As a young broker, one perennial pain came from the collection of mutual fund capital gains distribution figures for clients. Even if a client held a mutual fund throughout the entire year, they still had to pay taxes on the capital gains generated by the internal trades of the portfolio managers (PMs)—assuming the funds weren't held in an IRA, of course. For example, in the late 1990s the largest position held in client accounts was the venerable Growth Fund of America (AGTHX). The estimated capital gains distribution at year-end 2020 for AGTHX is 9-11%. Counter that with the 2020 capital gains distribution on the largest equity ETF, the SPDR S&P 500 ETF Trust (SPY): 0.00%. By law, open-end mutual funds must pass along capital gains to shareholders each year; there is no such requirement for ETFs. While the Biden administration is discussing a 39.6% capital gains tax rate on only the wealthiest of shareholders, does anyone really believe that the current rates for the rest of us will stay where they are now (0% to 20%, depending on the shareholder's tax bracket)? Yet another reason to favor ETFs in the taxable portion of your investment portfolio.
In the Penn Dynamic Growth Strategy, our ETF portfolio, we own a number of core funds designed to be held for the long haul, and satellite positions, designed to take advantage of current market and economic conditions. This is an excellent strategy for taxable accounts due to its relative tax efficiency. There are currently 23 funds (yes, one is an open-end fund we consider to be a stellar performer) in the Strategy.
Technology Hardware, Storage, & Peripherals
07. Apple vows to invest $430 billion and hire 20,000 new workers in the US over the next five years
Claiming that the company blew past its 2018 promise to invest $350 billion in the US, Apple's (AAPL $135) Tim Cook just announced bold new plans that would have the Cupertino-based firm adding another 20,000 US workers to the rolls (a 21% increase) and investing $430 billion in projects around the country. One of those projects will be a brand new campus and engineering hub in North Carolina which will create at least 3,000 AI, machine learning, software engineering, and other technical positions. Recall that the company just spent $1 billion on a new campus in Austin, Texas, which will be move-in ready next year. The new expenditures will focus on American suppliers, data center growth and enhancements, and Apple TV productions. Cook also added some very interesting comments following the investment announcements: he said that Apple was the largest taxpayer in the US, having paid over $45 billion in corporate income taxes over the past five years. That was a not-so-subtle message to D.C. that the big growth engines of the country—the large companies which each employ tens of thousands of American workers—are paying their fair share. We would like to add to the inference: the small- and medium-sized American companies which employ 65% of the US workforce are also paying their fair share.
Apple remains one of our strongest conviction stocks within the Penn Global Leaders Club. When a short seller or analyst comes along and attempts to besmirch the bright future of this company, investors should be prepared to pounce on any negative reaction within the share price.
Metals & Mining
06. Outcome of Peruvian national election highlights the country risk associated with precious metals and mining stocks
Trying to root out socialism from Latin America is a monumental challenge at best, an exercise in futility at worst. For evidence of this, just look to Venezuela. Despite the nightmarish economic situation for Venezuelans (like five hours in line for a few rolls of toilet paper), Hugo Chavez wannabe Nicolas Maduro remains in power, despite having the personality of a single-ply square of...Venezuelan toilet paper. Heading further down the South American continent we have the Republic of Peru: a relative bastion of free trade in the region—at least up until this point. The rather shocking results of the national elections held earlier this month set up socialist candidate Pedro Castillo to coast into the presidency following a June runoff (he holds a 20-point lead over his opponent, the market-friendly Keiko Fujimori). Which leads us to mining companies in general, and Southern Copper (SCCO $72) specifically.
Thanks to the global rebound, the outlook for metals—especially those with heavy industrial usage such as copper—is bright. Peru is the world's second-largest source of copper, and a majority of Southern Copper's mining operations reside within that country. While Castillo is trying to temper the harshness of his message leading into the runoff, his talk of nationalizing private companies operating inside the country has spooked investors. His party's platform, in fact, talks of "taking control" of the nation's natural resources. For $57 billion Souther Copper, which recently announced $8 billion in new Peruvian projects, there should be cause for concern. In fact, considering the remainder of their operations are in Mexico, which has been methodically moving left, there should be cause for extreme concern.
We remain very bullish on both precious metals/minerals as well as those used for industrial purposes. In fact, if the new Peruvian government were to nationalize the miners (not beyond the realms of possibility), copper prices would shoot even higher than they already are. Great for commodity investors; not so much for those who took a chance on individual miners like Southern Copper. While we do own two gold miners in the Penn Global Leaders Club, it is a safer bet to own sector or thematic ETFs to take advantage of anticipated growth. A few worth looking at are the US Global GO Gold and Precious Metal Miners ETF (GOAU $20), and the SPDR Gold Shares ETF (GLD $165). We own the latter in the Penn Dynamic Growth Strategy as a satellite position, and the current price of gold $1,777) makes it an attractive opportunity right now—in our opinion.
There are some excellent mining stocks in which to invest, and they are often in the small- to mid-cap sweet spot. However, investors need to perform their due diligence and understand exactly where the respective company's mines are located, and what the geopolitical risks are within that country or region.
Household & Personal Products
05. Jessica Alba's Honest Company is open for trading, but can it compete with the likes of Procter & Gamble and Kimberly-Clark?
Hollywood star Jessica Alba was plagued by asthma and allergies as a child to the point of being hospitalized on several occasions due to her maladies. Those experiences helped shape her thoughts on personal health, ultimately leading to her decision to launch The Honest Company (HNST $15) a decade ago. The Honest Company is a consumer products firm which offers a growing line of eco-friendly baby supplies (primarily diapers), bath and skincare products, and home cleaning solutions. There are over 2,500 chemicals and materials the company excludes from its products due to their potentially harmful effects on either the body or the environment.
How has Alba's concept resonated with consumers? Overall, pretty well. The company's products are now available at 32,000 various retailers throughout the US and Canada, including big players like Target (TGT) and Walgreens Boots Alliance (WBA). While still operating in the red, the company's revenues rose from $235M in 2019 to $300M in 2020 (+28%) and losses were stanched from -$31M to -$14M (a 55% improvement) over the same time frame. Leading into Wednesday's IPO, HNST shares were priced in the $14 to $17 range. They shot out of the gate at $23 per share and have fallen precipitously ever since. The company's valuation now sits at $1.4 billion, but is it worth even that much?
There is a mountain of competition in this space—both the personal care products industry in general and the eco-friendly corner specifically. Having Jessica Alba's sway certainly helps, but facing down the market caps of Procter ($330B), Unilever PLC ($155B), Kimberly-Clark ($46B), and an army of "green" players will be a herculean task. Furthermore, the aforementioned stocks all come with nice dividend yields, while HNST will need to plow its capital back into its strategic growth efforts.
Nonetheless, we do see a faithful and growing customer base. Honest estimates it currently holds about 5% market share in its space, and 55% of revenues are generated online. We believe it could easily double its market share in the short term, generating in excess of $500 million in revenues by 2023; maybe even becoming profitable by that point. The company is worth keeping an eye on, and the products are also worth a look.
HNST shares have now lost about one-third of their value since IPO day. If they drop to the $10/share range, we believe they will be undervalued and worth looking at for a potential purchase.
Global Strategy: East & Southeast Asia
04. Why do we care what Covid vaccine Philippine President Rodrigo Duterte chose to receive?
Roughly 20,000 American soldiers died defending the Philippines during World War II; about half were lost in battle while the other half succumbed to disease. The United States has enjoyed—actually, earned—an incredibly good relationship with the Southeast Asian country ever since General Douglas MacArthur uttered the infamous words in 1942: "I came through...and I shall return." To say that the Philippines sits in an important region of the world is an understatement. About one-fifth of global trade passes through the South China Sea, and trillions of dollars’ worth of oil and gas resources reside beneath its waves. The US military regularly patrols the region, with the Theodore Roosevelt and Nimitz Carrier Strike Groups conducting joint exercises in the waters this past February.
China has continued to make outrageous claims on enormous swaths of the South China Sea—as shown by the red dashed line on the accompanying map—much to the consternation of its neighbors in the region. Now, the communist nation seems to be strongly wooing the mercurial and dictatorial leader of the Philippines, Rodrigo Duterte. The latest sign of the love affair came with Duterte’s decision to receive the underwhelming Chinese Covid vaccine known as Sinovac. Recent results from Brazil show a 50% effectiveness rate for the Chinese product. The Philippines’ Covid rate is the second highest in Southeast Asia, behind only Indonesia.
While the choice of a vaccine is certainly anecdotal (though he did also praise Russia’s near-comical vaccine, Sputnik V), there is little doubt that Duterte is an iron-fisted leader who is on the outs with the United States right now, and that China would love to count on him as an ally in the region. The South China Sea seems to be quickly replacing the Persian Gulf as the most troublesome hot spot in the world.
Outside of the Philippines, all other nations in the region have serious disagreements with China. That nation’s ham-handed approach to diplomacy will not serve them well over the coming years, but more countries need to follow Australia’s lead and refuse to be bullied by the ruling Communist Party of China. America, through its military presence in the region, must make it clear that a massive land grab by fiat is unacceptable.
Demographics & Lifestyle
03. A most excellent problem: credit card issuers concerned as Americans continue to pay down their debt
We've often wondered what the overall economic health of the typical American household would look like if revolving debt did not exist. After all, it wasn't until Bank of America (BAC $42) issued the first credit card with a "revolving credit" feature in 1958 that Americans began racking up debt not backed by any tangible property, such as a home or an auto. Before then, money borrowed on a card had to be paid off at the end of each month. And despite the near-zero Fed funds rate, many cardholders are still being charged confiscatory interest rates of 16.99% to 19.99% on their balances, or even higher.
Now for the good news. Much to the chagrin of the card-issuing banks, which toughen their standards when people need the money the most and loosen them when they don't, borrowers are paying down their debt at impressive levels. During the company's most recent earnings call, card issuer Discover Financial Services (DFS $115) said that balances paid off recently have hit levels not seen since 2000. All of the top card issuers, in fact, have reported significant declines in the aggregate balance of revolving debt owed. While Americans put nearly $4 trillion on their cards in 2020, the total US credit card debt outstanding now sits at $819 billion--a significant decrease from pre-pandemic levels. It's hard to say whether this will turn into a healthy, long-term trend, but more and more people are becoming cognizant of just how much they owe, and what they have been paying for the "privilege" of buying on credit.
Once Americans get their own fiscal house in order, perhaps they will look at the $28.3 trillion of outstanding debt their government has racked up and demand accountability. The current rationale for spending trillions more than what is brought in via taxation is the pandemic. But what's the excuse for the reckless and wanton spending before the crippling disaster hit?
Cybersecurity
02. Despite the company's original denials, Colonial Pipeline reportedly paid hackers $5 million in ransom
A few months ago, we reported about a hack on a municipal water treatment plant in Florida. The hacker was attempting to adjust the chlorine level in the city’s water supply to toxic levels. That attack was thwarted by an attentive city worker who noticed a mouse cursor mysteriously moving on his computer screen. This past week brought us news of a successful hack on the Colonial Pipeline, the largest pipeline for refined oil products in the US. The 5,500-mile-long system, which carries 3 million barrels of fuel per day between Texas and New York, was shut down for days, causing massive gas lines along the East Coast.
While the company initially denied paying ransom to the hackers, it now appears that $5 million was, indeed, paid to a group known as DarkSide shortly after the attack occurred. DarkSide is a highly sophisticated criminal organization based out of Eastern Europe, with definite Russian connections. The cybercriminals use ransomware to lock a victim’s system, promising to provide the digital “keys” to unlock the system once the monetary demands are met. Experts are surprised that the amount demanded in this case was so low; normally, with a company of this size and services with such a broad scope, a $30 million demand would not be out of the ordinary.
Ransomware attacks on firms of all sizes more than tripled in 2020, with victims ponying up over $350 million in crypto ransoms. As is typical following such an attack, the US government said it would be setting up a task force to counter these threats. Sadly, these promises always seem to come along after the damage is done. This is yet another sobering reminder of just how vulnerable American companies and individuals are to cybercriminals, and how disruptive a simple digital act of aggression can become, literally overnight. While it is up to the government to go after the bad actors and nation-states involved in these crimes, it is up to each American to take all possible measures to assure their own system’s security profile is as robust as possible.
On the personal defense front, we have found Bitdefender to be one of the best cybersecurity suites on the market, for both PCs and MacBooks. Kaspersky ranks highly on most lists, but it is headquartered in Russia, which makes us immediately suspicious. From an investment standpoint, we believe the First Trust NASDAQ Cybersecurity ETF (CIBR $43) is an effective way to invest in the growing need for digital protection. We own CIBR as a satellite position within the Penn Dynamic Growth Strategy.
Market Week in Review
01. Inflation fears brought an ugly first half to the week for the markets, followed by an impressive comeback effort
The extent to which investors have been indifferent about inflation concerns is rather remarkable, considering the grand economic reopening which is in its nascent stage and the mounting evidence that the concern is real—as evidenced by the price of everything from used cars to commodities. Perhaps they were taking solace in Jerome Powell's nonchalant attitude, with the Fed Chair almost daring inflation to try and stir trouble. That changed this past Wednesday when, following two previous down days, the major indexes threw a major fit over the latest Consumer Price Index (CPI) report. The CPI, which measures the rate of change in the price of a basket of consumer goods, spiked 4.2% YoY, above the lofty expectations for a 3.6% reading. That jump represents the sharpest spike since September of 2008. By Wednesday's close, the major indexes were off between 2% and 2.67%, with the NASDAQ getting hit the hardest. Fears that the Fed would have to act sooner rather than later to rein in inflation seemed to abate after the mid-week bloodbath, with the Dow gaining nearly 1,000 points during the last two sessions, and the S&P gaining 110 points. Stocks typically face a higher level of volatility in May, as investors seem intent on proving the "Sell in May..." adage. What is the right course of action after such a volatile week? Take a good look at your portfolio's allocation to assure the fast-growing tech positions didn't knock it out of whack; also, position more toward the value side of the equation. On that note, take a look at our latest addition to the Dynamic Growth Strategy by visiting the Penn Trading Desk.
Under the Radar Investment
Masimo Corp (MASI $220)
Masimo is a US-based medical device company which focuses on noninvasive patient monitoring. For individuals, the firm offers state-of-the-art pulse oximeters for measuring oxygen saturation levels and pulse rates, wearable "smart" thermometers which allow parents to keep a constant eye on a sick child's temperature level, and sleep improvement devices. For medical facilities, Masimo offers a comprehensive patient monitoring and connectivity platform. Sadly, due to the global pandemic millions of people are now familiar with the company's products. Demand and name recognition helped drive MASI shares up to $285 this past January, but they have since pulled back into a nice buying range. While we don't currently own the company within the Penn strategies, we believe a fair value for the shares is around $300.
Answer
The Diners Club Card was created in 1950 after businessman Frank McNamara forgot his wallet while attending a business dinner in New York. By 1951, there were 20,000 Diners Club members. For its part, American Express introduced the first plastic credit card in 1959, with over one million in use by the mid 1960s.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
No putting that genie back in its bottle...
While Bank of America issued the first card using the concept of "revolving credit" back in 1958, what was the first credit card that could boast of widespread use?
Penn Trading Desk:
Penn: Add potential inflation hedge to the Dynamic Growth Strategy
It used to be so easy to hedge against inflation, just like it was easy to reduce beta in a portfolio by increasing the percentage of bonds in a portfolio. Ah, the good old days. We don't believe the current line that "inflation is transitory," and we are continually searching for creative hedges against this condition. To that end, we have added a position to the Penn Dynamic Growth Strategy, our ETF portfolio, which invests in companies that are expected to benefit from rising prices of real assets, i.e., inflation. Looking down the list of 40 or so holdings was like looking down one of our equity wish lists. A quite creative mix. Members can see the new addition by visiting the Penn Trading Desk and signing in.
Evercore ISI: Upgrade Simon Property Group to Outperform
We've talked relatively disparagingly about retail REIT Simon Property Group (SPG $120) in the past, but Evercore ISI has become a believer. The analyst firm upgraded their rating on SPG to Outperform, lifting their target price on the shares from $121 to $128. The analyst gave relatively generic rationale for the upgrade, to include a post-pandemic return to normalcy, improved rent collections, lower tenant fallout, and potential upside surprises to net operating income by the likes of JC Penney, Brooks Brothers, and other mall anchors.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Cybersecurity
10. Private equity firm Thoma Bravo makes bid for cybersecurity firm Proofpoint, sending shares soaring
Going into last week, Proofpoint (PFPT $173) was a $7.5 billion cloud-based cybersecurity firm with a suite of offerings for mid- to large-sized companies. After the following Monday's open, the company's offerings remained the same but its market cap was suddenly sitting near $11 billion thanks to an unsolicited bid by private equity firm Thoma Bravo. The deal, which would take the firm private, is worth $12.3 billion, or $176 per share, and comes with a 45-day "go-shop" provision which would allow other bids to be reviewed. Thoma Bravo, which specializes in software and cybersecurity acquisitions, just completed a $10 billion deal to buy RealPage, a provider of property management software for the commercial, single-family, and vacation rental housing industries. Barring any other offers, the Proofpoint deal should close in the third quarter.
Proofpoint is one of the top holdings in the First Trust NASDAQ Cybersecurity ETF (CIBR $45), a satellite holding within the Penn Dynamic Growth Strategy. While selecting individual cybersecurity names can be challenging for investors, we maintain that the best way to take part in this ever-growing industry is through a strong exchange traded fund, such as CIBR.
Automotive
09. Tesla's revenues surged 74% in the first quarter, leading to a record net income for the global EV leader
We remember listening to CNBC's David Faber ad nauseam: "Yes, Jim, but you do realize the company has never turned a profit, right?" We've never considered Mr. Brooks Brothers a lofty thinker, but his stale comments do make it all the more enjoyable to report that Tesla (TSLA $723) just notched its seventh-straight profitable quarter on the back of blowout numbers. For Q1 of 2021, Tesla generated $10.39 billion in revenue, with a record $438 million of that flowing down as net income. Addressing the new greatest threat to the automakers, the chip shortage, management said it has addressed the issue by moving to new microcontrollers for its vehicles and by developing the firmware required to work with the new chips made by different suppliers. Granted (we can hear Faber now), the company did make over $100 million by selling roughly 10% of its bitcoin stash at a profit, and another $500 million by the sale of tax credits, but the ever-increasing efficiency within their plants is undeniable. Tesla delivered a record 184,800 Model 3 and Model Y vehicles in Q1, and expects a 50% delivery growth rate this year over 2020. On the technical side of the business, Musk sees cameras replacing radar on its full self-driving (FSD) vehicles when they roll out, and expects to completely eliminate the old (radar-based) systems soon. In the earnings conference call, Musk also reiterated his aggressive plans to put more Tesla solar roofs on homes across America, supported by the company's home energy storage system known as Powerwall. The goal is to create a "giant distributed utility" which will ultimately make one's house energy self-sufficient.
There are always going to be naysaying journalists and analysts chronically pointing out why Tesla will ultimately fail. Their latest narrative is that increased competition within the EV and autonomous-driving space, along with the end of tax subsidies, will doom the company. Tesla is doing everything right to remain in the pole position going forward, however, and we consider its nationwide Supercharger network to be an enormous advantage over the competition. It should be noted that Tesla offered this technology to other automakers several years ago, but the offer was flatly declined.
Investment Vehicles: ETFs
08. Talk of raising the capital gains tax rate points to yet another reason we prefer ETFs over mutual funds
There are a number of reasons we migrated away from mutual funds in favor of exchange traded funds (ETFs) some years back, but the current tax rate discussion emanating from D.C. points to one specific benefit of the latter: their tax efficiency. As a young broker, one perennial pain came from the collection of mutual fund capital gains distribution figures for clients. Even if a client held a mutual fund throughout the entire year, they still had to pay taxes on the capital gains generated by the internal trades of the portfolio managers (PMs)—assuming the funds weren't held in an IRA, of course. For example, in the late 1990s the largest position held in client accounts was the venerable Growth Fund of America (AGTHX). The estimated capital gains distribution at year-end 2020 for AGTHX is 9-11%. Counter that with the 2020 capital gains distribution on the largest equity ETF, the SPDR S&P 500 ETF Trust (SPY): 0.00%. By law, open-end mutual funds must pass along capital gains to shareholders each year; there is no such requirement for ETFs. While the Biden administration is discussing a 39.6% capital gains tax rate on only the wealthiest of shareholders, does anyone really believe that the current rates for the rest of us will stay where they are now (0% to 20%, depending on the shareholder's tax bracket)? Yet another reason to favor ETFs in the taxable portion of your investment portfolio.
In the Penn Dynamic Growth Strategy, our ETF portfolio, we own a number of core funds designed to be held for the long haul, and satellite positions, designed to take advantage of current market and economic conditions. This is an excellent strategy for taxable accounts due to its relative tax efficiency. There are currently 23 funds (yes, one is an open-end fund we consider to be a stellar performer) in the Strategy.
Technology Hardware, Storage, & Peripherals
07. Apple vows to invest $430 billion and hire 20,000 new workers in the US over the next five years
Claiming that the company blew past its 2018 promise to invest $350 billion in the US, Apple's (AAPL $135) Tim Cook just announced bold new plans that would have the Cupertino-based firm adding another 20,000 US workers to the rolls (a 21% increase) and investing $430 billion in projects around the country. One of those projects will be a brand new campus and engineering hub in North Carolina which will create at least 3,000 AI, machine learning, software engineering, and other technical positions. Recall that the company just spent $1 billion on a new campus in Austin, Texas, which will be move-in ready next year. The new expenditures will focus on American suppliers, data center growth and enhancements, and Apple TV productions. Cook also added some very interesting comments following the investment announcements: he said that Apple was the largest taxpayer in the US, having paid over $45 billion in corporate income taxes over the past five years. That was a not-so-subtle message to D.C. that the big growth engines of the country—the large companies which each employ tens of thousands of American workers—are paying their fair share. We would like to add to the inference: the small- and medium-sized American companies which employ 65% of the US workforce are also paying their fair share.
Apple remains one of our strongest conviction stocks within the Penn Global Leaders Club. When a short seller or analyst comes along and attempts to besmirch the bright future of this company, investors should be prepared to pounce on any negative reaction within the share price.
Metals & Mining
06. Outcome of Peruvian national election highlights the country risk associated with precious metals and mining stocks
Trying to root out socialism from Latin America is a monumental challenge at best, an exercise in futility at worst. For evidence of this, just look to Venezuela. Despite the nightmarish economic situation for Venezuelans (like five hours in line for a few rolls of toilet paper), Hugo Chavez wannabe Nicolas Maduro remains in power, despite having the personality of a single-ply square of...Venezuelan toilet paper. Heading further down the South American continent we have the Republic of Peru: a relative bastion of free trade in the region—at least up until this point. The rather shocking results of the national elections held earlier this month set up socialist candidate Pedro Castillo to coast into the presidency following a June runoff (he holds a 20-point lead over his opponent, the market-friendly Keiko Fujimori). Which leads us to mining companies in general, and Southern Copper (SCCO $72) specifically.
Thanks to the global rebound, the outlook for metals—especially those with heavy industrial usage such as copper—is bright. Peru is the world's second-largest source of copper, and a majority of Southern Copper's mining operations reside within that country. While Castillo is trying to temper the harshness of his message leading into the runoff, his talk of nationalizing private companies operating inside the country has spooked investors. His party's platform, in fact, talks of "taking control" of the nation's natural resources. For $57 billion Souther Copper, which recently announced $8 billion in new Peruvian projects, there should be cause for concern. In fact, considering the remainder of their operations are in Mexico, which has been methodically moving left, there should be cause for extreme concern.
We remain very bullish on both precious metals/minerals as well as those used for industrial purposes. In fact, if the new Peruvian government were to nationalize the miners (not beyond the realms of possibility), copper prices would shoot even higher than they already are. Great for commodity investors; not so much for those who took a chance on individual miners like Southern Copper. While we do own two gold miners in the Penn Global Leaders Club, it is a safer bet to own sector or thematic ETFs to take advantage of anticipated growth. A few worth looking at are the US Global GO Gold and Precious Metal Miners ETF (GOAU $20), and the SPDR Gold Shares ETF (GLD $165). We own the latter in the Penn Dynamic Growth Strategy as a satellite position, and the current price of gold $1,777) makes it an attractive opportunity right now—in our opinion.
There are some excellent mining stocks in which to invest, and they are often in the small- to mid-cap sweet spot. However, investors need to perform their due diligence and understand exactly where the respective company's mines are located, and what the geopolitical risks are within that country or region.
Household & Personal Products
05. Jessica Alba's Honest Company is open for trading, but can it compete with the likes of Procter & Gamble and Kimberly-Clark?
Hollywood star Jessica Alba was plagued by asthma and allergies as a child to the point of being hospitalized on several occasions due to her maladies. Those experiences helped shape her thoughts on personal health, ultimately leading to her decision to launch The Honest Company (HNST $15) a decade ago. The Honest Company is a consumer products firm which offers a growing line of eco-friendly baby supplies (primarily diapers), bath and skincare products, and home cleaning solutions. There are over 2,500 chemicals and materials the company excludes from its products due to their potentially harmful effects on either the body or the environment.
How has Alba's concept resonated with consumers? Overall, pretty well. The company's products are now available at 32,000 various retailers throughout the US and Canada, including big players like Target (TGT) and Walgreens Boots Alliance (WBA). While still operating in the red, the company's revenues rose from $235M in 2019 to $300M in 2020 (+28%) and losses were stanched from -$31M to -$14M (a 55% improvement) over the same time frame. Leading into Wednesday's IPO, HNST shares were priced in the $14 to $17 range. They shot out of the gate at $23 per share and have fallen precipitously ever since. The company's valuation now sits at $1.4 billion, but is it worth even that much?
There is a mountain of competition in this space—both the personal care products industry in general and the eco-friendly corner specifically. Having Jessica Alba's sway certainly helps, but facing down the market caps of Procter ($330B), Unilever PLC ($155B), Kimberly-Clark ($46B), and an army of "green" players will be a herculean task. Furthermore, the aforementioned stocks all come with nice dividend yields, while HNST will need to plow its capital back into its strategic growth efforts.
Nonetheless, we do see a faithful and growing customer base. Honest estimates it currently holds about 5% market share in its space, and 55% of revenues are generated online. We believe it could easily double its market share in the short term, generating in excess of $500 million in revenues by 2023; maybe even becoming profitable by that point. The company is worth keeping an eye on, and the products are also worth a look.
HNST shares have now lost about one-third of their value since IPO day. If they drop to the $10/share range, we believe they will be undervalued and worth looking at for a potential purchase.
Global Strategy: East & Southeast Asia
04. Why do we care what Covid vaccine Philippine President Rodrigo Duterte chose to receive?
Roughly 20,000 American soldiers died defending the Philippines during World War II; about half were lost in battle while the other half succumbed to disease. The United States has enjoyed—actually, earned—an incredibly good relationship with the Southeast Asian country ever since General Douglas MacArthur uttered the infamous words in 1942: "I came through...and I shall return." To say that the Philippines sits in an important region of the world is an understatement. About one-fifth of global trade passes through the South China Sea, and trillions of dollars’ worth of oil and gas resources reside beneath its waves. The US military regularly patrols the region, with the Theodore Roosevelt and Nimitz Carrier Strike Groups conducting joint exercises in the waters this past February.
China has continued to make outrageous claims on enormous swaths of the South China Sea—as shown by the red dashed line on the accompanying map—much to the consternation of its neighbors in the region. Now, the communist nation seems to be strongly wooing the mercurial and dictatorial leader of the Philippines, Rodrigo Duterte. The latest sign of the love affair came with Duterte’s decision to receive the underwhelming Chinese Covid vaccine known as Sinovac. Recent results from Brazil show a 50% effectiveness rate for the Chinese product. The Philippines’ Covid rate is the second highest in Southeast Asia, behind only Indonesia.
While the choice of a vaccine is certainly anecdotal (though he did also praise Russia’s near-comical vaccine, Sputnik V), there is little doubt that Duterte is an iron-fisted leader who is on the outs with the United States right now, and that China would love to count on him as an ally in the region. The South China Sea seems to be quickly replacing the Persian Gulf as the most troublesome hot spot in the world.
Outside of the Philippines, all other nations in the region have serious disagreements with China. That nation’s ham-handed approach to diplomacy will not serve them well over the coming years, but more countries need to follow Australia’s lead and refuse to be bullied by the ruling Communist Party of China. America, through its military presence in the region, must make it clear that a massive land grab by fiat is unacceptable.
Demographics & Lifestyle
03. A most excellent problem: credit card issuers concerned as Americans continue to pay down their debt
We've often wondered what the overall economic health of the typical American household would look like if revolving debt did not exist. After all, it wasn't until Bank of America (BAC $42) issued the first credit card with a "revolving credit" feature in 1958 that Americans began racking up debt not backed by any tangible property, such as a home or an auto. Before then, money borrowed on a card had to be paid off at the end of each month. And despite the near-zero Fed funds rate, many cardholders are still being charged confiscatory interest rates of 16.99% to 19.99% on their balances, or even higher.
Now for the good news. Much to the chagrin of the card-issuing banks, which toughen their standards when people need the money the most and loosen them when they don't, borrowers are paying down their debt at impressive levels. During the company's most recent earnings call, card issuer Discover Financial Services (DFS $115) said that balances paid off recently have hit levels not seen since 2000. All of the top card issuers, in fact, have reported significant declines in the aggregate balance of revolving debt owed. While Americans put nearly $4 trillion on their cards in 2020, the total US credit card debt outstanding now sits at $819 billion--a significant decrease from pre-pandemic levels. It's hard to say whether this will turn into a healthy, long-term trend, but more and more people are becoming cognizant of just how much they owe, and what they have been paying for the "privilege" of buying on credit.
Once Americans get their own fiscal house in order, perhaps they will look at the $28.3 trillion of outstanding debt their government has racked up and demand accountability. The current rationale for spending trillions more than what is brought in via taxation is the pandemic. But what's the excuse for the reckless and wanton spending before the crippling disaster hit?
Cybersecurity
02. Despite the company's original denials, Colonial Pipeline reportedly paid hackers $5 million in ransom
A few months ago, we reported about a hack on a municipal water treatment plant in Florida. The hacker was attempting to adjust the chlorine level in the city’s water supply to toxic levels. That attack was thwarted by an attentive city worker who noticed a mouse cursor mysteriously moving on his computer screen. This past week brought us news of a successful hack on the Colonial Pipeline, the largest pipeline for refined oil products in the US. The 5,500-mile-long system, which carries 3 million barrels of fuel per day between Texas and New York, was shut down for days, causing massive gas lines along the East Coast.
While the company initially denied paying ransom to the hackers, it now appears that $5 million was, indeed, paid to a group known as DarkSide shortly after the attack occurred. DarkSide is a highly sophisticated criminal organization based out of Eastern Europe, with definite Russian connections. The cybercriminals use ransomware to lock a victim’s system, promising to provide the digital “keys” to unlock the system once the monetary demands are met. Experts are surprised that the amount demanded in this case was so low; normally, with a company of this size and services with such a broad scope, a $30 million demand would not be out of the ordinary.
Ransomware attacks on firms of all sizes more than tripled in 2020, with victims ponying up over $350 million in crypto ransoms. As is typical following such an attack, the US government said it would be setting up a task force to counter these threats. Sadly, these promises always seem to come along after the damage is done. This is yet another sobering reminder of just how vulnerable American companies and individuals are to cybercriminals, and how disruptive a simple digital act of aggression can become, literally overnight. While it is up to the government to go after the bad actors and nation-states involved in these crimes, it is up to each American to take all possible measures to assure their own system’s security profile is as robust as possible.
On the personal defense front, we have found Bitdefender to be one of the best cybersecurity suites on the market, for both PCs and MacBooks. Kaspersky ranks highly on most lists, but it is headquartered in Russia, which makes us immediately suspicious. From an investment standpoint, we believe the First Trust NASDAQ Cybersecurity ETF (CIBR $43) is an effective way to invest in the growing need for digital protection. We own CIBR as a satellite position within the Penn Dynamic Growth Strategy.
Market Week in Review
01. Inflation fears brought an ugly first half to the week for the markets, followed by an impressive comeback effort
The extent to which investors have been indifferent about inflation concerns is rather remarkable, considering the grand economic reopening which is in its nascent stage and the mounting evidence that the concern is real—as evidenced by the price of everything from used cars to commodities. Perhaps they were taking solace in Jerome Powell's nonchalant attitude, with the Fed Chair almost daring inflation to try and stir trouble. That changed this past Wednesday when, following two previous down days, the major indexes threw a major fit over the latest Consumer Price Index (CPI) report. The CPI, which measures the rate of change in the price of a basket of consumer goods, spiked 4.2% YoY, above the lofty expectations for a 3.6% reading. That jump represents the sharpest spike since September of 2008. By Wednesday's close, the major indexes were off between 2% and 2.67%, with the NASDAQ getting hit the hardest. Fears that the Fed would have to act sooner rather than later to rein in inflation seemed to abate after the mid-week bloodbath, with the Dow gaining nearly 1,000 points during the last two sessions, and the S&P gaining 110 points. Stocks typically face a higher level of volatility in May, as investors seem intent on proving the "Sell in May..." adage. What is the right course of action after such a volatile week? Take a good look at your portfolio's allocation to assure the fast-growing tech positions didn't knock it out of whack; also, position more toward the value side of the equation. On that note, take a look at our latest addition to the Dynamic Growth Strategy by visiting the Penn Trading Desk.
Under the Radar Investment
Masimo Corp (MASI $220)
Masimo is a US-based medical device company which focuses on noninvasive patient monitoring. For individuals, the firm offers state-of-the-art pulse oximeters for measuring oxygen saturation levels and pulse rates, wearable "smart" thermometers which allow parents to keep a constant eye on a sick child's temperature level, and sleep improvement devices. For medical facilities, Masimo offers a comprehensive patient monitoring and connectivity platform. Sadly, due to the global pandemic millions of people are now familiar with the company's products. Demand and name recognition helped drive MASI shares up to $285 this past January, but they have since pulled back into a nice buying range. While we don't currently own the company within the Penn strategies, we believe a fair value for the shares is around $300.
Answer
The Diners Club Card was created in 1950 after businessman Frank McNamara forgot his wallet while attending a business dinner in New York. By 1951, there were 20,000 Diners Club members. For its part, American Express introduced the first plastic credit card in 1959, with over one million in use by the mid 1960s.
Headlines for the Week of 18 Apr—24 Apr 2021
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
American leadership in human spaceflight is back. Thank you Elon...
America willingly—and disgustingly—gave up its ability to launch astronauts into orbit back in 2011. After a decade of no manned launches from American soil, how many astronauts have been launched into space since last June aboard SpaceX rockets?
Penn Trading Desk:
Bank of America/Citi: Upgrade First Solar
One of our favorite renewable energy companies, First Solar (FSLR $84), popped over 5% following an upgrade at both Bank of America and Citi. The BofA analyst cited a green infrastructure plan coming from Washington and accelerated near-term bookings momentum as catalysts for the upgrade. Citi, which upgraded FSLR shares from Hold to Buy, cited tailwinds from US tax and trade policies. We place the fair value of FSLR shares at $100.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Cryptocurrencies
10. As expected, Coinbase shot out of the gate in its debut trading day; then something interesting happened
Despite an initial pricing range of around $250 per share, cryptocurrency exchange Coinbase (COIN $288) opened on the Nasdaq at $381 then quickly rocketed to nearly $430 per share. That mark put a sky-high valuation on the firm at $112 billion, but woe to the investors who wantonly bought in within the first few minutes of trading. Unlike many other recent IPOs with similar levels of rabid interest, shares of COIN began faltering almost immediately, falling all the way back to $311 within two hours of the company's first trade. Shares closed the day at $335.90, or 22% off of their high. While the closing price gave the exchange a more reasonable market cap, we believe it is still overvalued. We do like the fact that Coinbase is a play not on one particular cyrpto, but on a number of reasonably solid players. In fact, it acts as something of a gatekeeper, keeping more questionable digital currencies from being traded on the platform. Bitcoin and Ethereum trading generated nearly 60% of the firm's revenue in 2020. One clear winner on the day was the Nasdaq exchange, with Coinbase representing its first direct listing. At its size, in fact, COIN became the largest company to ever take the direct listing route. There was a heated competition between the NYSE and the Nasdaq to land the deal, but Coinbase's CFO said the fact that the latter had the symbol "COIN" played a part in the company's decision to go with that exchange. Here's what worries us most about Coinbase: there are few barriers to entry for would-be competitors. In fact, the fat fees the exchange charges almost begs the competition to come flooding in with the promise of lower costs to the customer. Nonetheless, the company has grand strategic plans of building out a complete suite of financial services over the coming years. They will, more than likely, succeed with those plans.
So, we are relatively bullish on Coinbase, but believe COIN shares are overvalued and that the industry has few barriers to entry. With all of that in the mix, what's an intriguing price point for a buying opportunity? We would say anywhere around $250 per share, which is where we set our own price alert.
Space Sciences & Exploration
09. NASA awards SpaceX contract to build the spacecraft which will take astronauts back to the moon
It was initially whittled down to three companies—Musk's SpaceX, Bezos' Blue Origin, and Dynetics—but we had our hunch as to who would walk away with the prize; the prize being a coveted NASA contract to develop the craft which will take astronauts back to the moon. Blue Origin tried to stack the deck in their favor by teaming up with the likes of Lockheed Martin (LMT) and Northrop Grumman (NOC) and by calling their group a "national team." In the end, however, SpaceX was awarded the $2.9 billion contract. And why not? While other companies have fiddled or floundered, SpaceX has been busy sending astronauts and cargo to the International Space Station (ISS). Real feats, funded with real revenue. Most importantly, in the extreme-risk arena of human spaceflight, SpaceX has won the trust of America's space agency. The United States launched the Artemis program back in 2017 with the express goal of landing men and women on the moon by 2024, fifty-two years after Gene Cernan and Harrison Schmitt crawled back into their lunar module and gently lifted off from the moon's surface as part of their Apollo 17 mission. Who could have imagined back in 1972 that it would take us so long to return. While the 2024 target might have to be pushed out, by nominating former astronaut and US Senator Bill Nelson to head up the space agency, President Biden has signaled his support for a strong US manned space program; quite a different story from his Democratic predecessor, Barrack Obama.
SpaceX's Crew Dragon Endeavour spacecraft is slated to launch on its next mission to the ISS this coming Thursday. On board will be mission commander Shane Kimbrough, pilot Megan McArthur, Japanese astronaut Akihiko Hoshide, and European Space Agency mission specialist Thomas Pesquet.
Internet Retail
08. Amazon set to test furniture and appliance assembly service
Amazon (AMZN $3,411) appears poised to encroach on more turf, and this time the likes of Home Depot, Lowe's, and Wayfair could be affected. The $1.7 trillion Internet retailer will begin testing a product assembly service in several markets this summer, with drivers delivering, unpacking, and assembling everything from beds to treadmills, taking away all of the packing material when done. Customers will even have the option of sending the items back on the spot if dissatisfied with a product once assembled. While the furniture assembly service would most affect the likes of a Wayfair (W $324), moving into the setup of appliances such as washing machines, dishwashers, and ceiling fans would impact the likes of Home Depot (HD $328) and Lowe's (LOW $206). Taking it a step further, ordering big-screen televisions through Amazon and having the price include mounting and setup would affect electronics retailers such as Best Buy (BBY $120). Behind the scenes, however, Amazon is already facing pushback from drivers and delivery workers who fear getting bogged down by the inevitable in-home challenges. Concerns include having customers hover over them during the assembly process, and the company not taking into account any delays caused by unique in-home circumstances such as space constraints.
Our first inclination was to disregard any employee grumblings—Amazon tends to get its way in such matters. However, there are so many unique challenges bound to arise for a non-specialty company such as Amazon trying to train its delivery specialists on the assembly of a multitude of products that the success of this program is far from given. We will keep an eye out for the anecdotal—yet highly entertaining—stories which are sure to make their rounds on social media.
Industrials: Road & Rail
07. A new twist—and a new Canadian player—in the Kansas City Southern saga
Last month we reported on the probable loss of one of America's storied railroads—Kansas City Southern (KSU $298)—as it agreed to be acquired by larger rival to the north, Canadian Pacific (CP $357). The plan called for the $47 billion Canadian rail to buy the north/south American rail for $25 billion plus the assumption of another $4 billion in debt (equivalent to roughly $275/sh). We also noted that last fall KSU rejected a bid by the Blackstone Group (BX $80) to pay shareholders $208/sh to take the firm private. We thought the CP deal was a fait accompli until this week's shocker from an even larger Canadian rail.
Canadian National Railway (CNI $110), which has a market cap of nearly $80 billion, has made a $30 billion bid for KSU, valuing the deal at $325/share and promising to keep KSU's headquarters in Kansas City. While the terms are more favorable for KSU shareholders, there is another factor which will almost certainly come into play: due to a bit more overlap, Canadian National will face a higher regulatory hurdle, with no guarantee of ultimate approval on either side of the border. Despite its smaller size, Kansas City Southern is a coveted jewel of the industry, operating as the only rail going into both Canada to the north and Mexico to the south. As USMCA picks up steam, the importance of one company's ability to transport raw materials from Canada, American farm goods to Mexico, and autos and industrial products back from Mexico cannot be overstated. It even operates a rail link along one side of the Panama Canal. Executives at KSU said they are reviewing the deal and would respond to CP in due course, but shareholders are already cheering the offer: KSU shares were trading up 16% after terms of the deal were announced.
While we would like to see KSU remain independent, odds are very high that one of these deals will ultimately be approved. And, quite frankly, the powerhouse which would be created from a merger is exciting to ponder. Our gut instinct, based on over two decades of following the rail stocks, tells us that the Canadian National Railway merger would offer the best comprehensive outcome—except for Canadian Pacific, of course.
Furnishings, Fixtures, & Appliances
06. Herman Miller and Knoll to merge, creating office furnishings powerhouse
We first highlighted office furnishings company Knoll (KNL $24) in our June, 2015 issue of The Penn Wealth Report. At the time, we were fully engrossed in the final season of the hit AMC television series Mad Men. Knoll, which epitomized the modernist design movement stemming from Munich in the early 20th century, could have easily been responsible for every office scene from the fictional Sterling Cooper ad agency. Quite understandably, the company took a huge hit as offices around the world began shutting their doors last March, with KNL shares falling from nearly $30 going into the year to $9.05 by that terrible week in late March. The same was true for one of Knoll's prime competitors, 116-year-old interior furnishings company Herman Miller (MLHR $41), whose shares fell from near $50 to $15.15 in March of 2020. While both of these small-cap cyclicals rode out the storm and have witnessed a strong comeback in their respective share price, they have made the very intelligent decision to join forces. In a cash-and-stock deal valued at $1.8 billion, the two companies plan to morph into a global leader of modern design not only for the corporate office world, but also to serve the needs of the growing throng of workers who will operate either full- or part-time within their homes. In a joint statement issued by the firms, a strategic plan for "transforming the home and office sectors at a time of unprecedented disruption" was outlined. As Herman Miller was the larger of the two companies, each Knoll shareholder will receive $11 in cash and 0.32 shares of Herman Miller for each share owned, while current MLHR shareholders will end up owning around 78% of the combined entity. The two companies have, in aggregate, a presence in over 100 countries, and both have developed strong e-commerce platforms. Heading into the pandemic, the two had combined annual revenues of $4 billion.
We love the deal, and we expect to see these two American companies pull off a relatively smooth integration. It is not easy to be an American manufacturing firm making high-quality products in a world of cheaper imports, but we fully believe the combined entity will skillfully carry out its bold new strategy. The deal should close by the end of the third quarter.
Government Watchdog
05. So you desire to have a home in New Jersey? Be prepared to pay confiscatory property taxes
We have long espoused the view that property taxes assessed on single-family homes should be capped at 1% per year. After all, in addition to every other tax Americans must pay, isn't $5,000 per year on a $500,000 home enough income for a homeowner's state and local government, on top of the other tax revenues generated? But in many states, the effective property tax rate is much higher than our proposed cap. Take New Jersey, for example, which happens to have the highest property tax rate in the nation. While the state's marginal rate is a sky-high 2.2%, the effective real estate tax rate is 2.47%. That equates to a $5,064 tax bill on a very modest $205,000 home. The effective taxes on a home priced at $327,900, the state's median home value, is $8,104. Perhaps what shocked us the most as we looked at each state's 2020 property tax figures was California's number: the Golden State actually capped the rate at 1% of assessed value, with a 2% annual cap on value increases. Of course, Californians must also contend with a 9.3% income tax rate (on income between $58.6k and $299.5k—it goes up from there) and a 7.25% tax on goods purchased. The opposite end of the spectrum from New Jersey, at least with respect to property taxes, is Hawaii with its 0.28% rate. That would equate to just a $1,715 tax bill on a home valued at $615,300, the median home value in the state.
While moving isn't always an option—for any number of reasons—all Americans should be aware of their individual state's property tax rate, income tax rate, and sales tax rate (the last will fluctuate within various parts of the state). Combined, these three figures represent one's overall tax burden for living where they do. Of interest: Alaska has the lowest overall tax burden of any state in the union, at roughly 5.8% (the state has no sales tax); while Illinois comes in with the most burdensome rate in the country, at 15%.
Global Strategy: Europe
04. The weaker candidate won the primary battle in Germany; may now lose the war to the Greens
Last week we outlined the internal struggles going on behind the scenes among the two leading center-right political parties in Germany, Merkel's Christian Democratic Union and Markus Söder's Christian Social Union of Bavaria. The wildly popular Söder agreed to step aside if the CDU voted to support Merkel's candidate, the unpopular Armin Laschet. Despite the latter's weakness in the polls, that is exactly what her party did, and Söder, true to his word, stepped aside. While we said that the bloc's main competition would come from the center-left Social Democratic Party of Germany (SPD), a new frontrunner has emerged: the far-left Green party's Annalena Baerbock. The 40-year-old former champion trampolinist is promising Germans a "new start" for the country, with a focus on green energy and increased spending on eduction. A poll of German business leaders (a poll we highly question, it should be noted) favors Baerbock over Laschet by a comfortable margin. Clouding the outlook—and probably fracturing the vote in the general elections—are the two candidates from the SPD and the pro-business Free Democrats Party (FDP), Olaf Scholz and Christian Lindner, respectively. The general elections are precisely five months away.
With the best candidate for Germany's future (in our opinion) officially out of the race, the outcome is a flip of the coin. Our instincts tell us that Armin Laschet will come out on top, which will lead to a ho-hum period for the German economy. In a tantalizing twist of fate, that would probably tip the economic scales in Europe in favor of the breakaway "troublemaker," Great Britain. While it is brutally painful going through a domestic election, we have a deep sense of schadenfreude watching the "wise and sapient" Europeans squirm through theirs.
Semiconductors & Related Equipment
03. For true believers, Intel shares seem to be sitting at a decent buy-in point; we remain cautious
While we have talked glowingly about Intel's (INTC $59) new wonkish CEO, Pat Gelsinger, we still haven't pulled the trigger on re-adding the semiconductor maker to any of our portfolios. Management is saying the right things, and we applaud the company's decision to expand their own US manufacturing footprint, but we want to see some results first. A new data point did just roll in; unfortunately, it was not on the bullish side of the scatter plot. Shares of the $242 billion firm were off over 5% on Friday after announcing a strong drop in data center revenue—its most profitable segment—and a decline in gross profit margin. Sales from the Data Center Group fell 20% in the first quarter, year-over-year, well below what analysts were expecting. One anecdotal yet disturbing sign for the group came last month from tech giant Amazon (AMZN $3,370): the company announced that it would begin designing its own data center chips in-house.
Intel has made a string of very smart acquisitions over the past several years to take market share in the AI and EV segments, but it is going to take precision execution on management's part for the company to become a vibrant player in those nascent areas. If played correctly, the severe supply chain disruptions which led to the global chip shortage could provide Intel a nice tailwind. We will remain on the sideline while a few more chapters are written.
Market Pulse
02. Some rather volatile moves, but a flat week in the end; except for the cryptos
There were some wild gyrations in the markets this week, to include a tantrum over the specter of a doubling (for some) of the capital gains tax rate, but when the dust settled we ended up pretty close to where we began. All of the major indexes finished the five session period down, but not by much. Gold finished the week precisely where it started—$1,777 per ounce—and crude futures were off just a buck, to $62.04. The big story of the week was in cryptocurrencies. After prices began tumbling over the weekend, JP Morgan issued a rather dire warning that Bitcoin was due for some further weakness. After topping out at nearly $65,000 on the 14th of April, the digital currency had a steep decline over the weekend. When massively-leveraged bets are made on an investment vehicle, it doesn't take much of a catalyst to begin a massive selloff. As of Friday's close, Bitcoin was trading just shy of $52,000—a 20% drop from its high. The highly-touted Coinbase exchange (COIN $292) didn't fare much better; it was down 14% on the week. For those not willing to do the basic work (some Robinhood customers are claiming they didn't understand the concept of margin, though they had been using it in their accounts), it may be a long year indeed.
Cryptos are here to stay, but that doesn't mean a lack of extreme pullbacks in their respective prices on a regular basis. Some of them, in fact, won't survive. A wanton, meme-driven "strategy" for investing is a dangerous game to play. And that is not even taking margin into account.
Under the Radar Investment
01. Asseco Poland SA (ASOZY $18)
You know the international slice of your portfolio is sorely lacking, as is—more than likely—your small-cap allocation. Take a look at this financially sound, small-cap systems software company from one of our favorite countries in Europe. Asseco Poland SA is a $1.5 billion developer of sector-specific software for banking and finance, and manager of large IT projects in the fields of healthcare, telecom, and security services. With 27,000 employees, the company has a major presence in Europe and Israel, and generates the majority of its (nicely recurring) revenue from proprietary software licenses. With a tiny beta of 0.4181, a very reasonable P/E ratio of 14, and positive net income for the past decade, the company could be a nice play on the economic comeback in Europe. It also comes with a fat, 4.18% dividend yield. We believe that Poland, a staunchly-democratic, anti-communist country, has enormous economic potential over the coming years. It was recently upgraded from an emerging market to a developed market within the FTSE Country Classification framework. Asseco Poland was founded in 1989 and is headquartered in the southeastern Polish city of Rzeszów.
Answer
After the first manned test flight of the Dragon capsule last June with two astronauts onboard, two operational crew launches have taken place—each with a four-person crew. So, ten astronauts have now made the trip from American soil to the International Space Station within the past year.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
American leadership in human spaceflight is back. Thank you Elon...
America willingly—and disgustingly—gave up its ability to launch astronauts into orbit back in 2011. After a decade of no manned launches from American soil, how many astronauts have been launched into space since last June aboard SpaceX rockets?
Penn Trading Desk:
Bank of America/Citi: Upgrade First Solar
One of our favorite renewable energy companies, First Solar (FSLR $84), popped over 5% following an upgrade at both Bank of America and Citi. The BofA analyst cited a green infrastructure plan coming from Washington and accelerated near-term bookings momentum as catalysts for the upgrade. Citi, which upgraded FSLR shares from Hold to Buy, cited tailwinds from US tax and trade policies. We place the fair value of FSLR shares at $100.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Cryptocurrencies
10. As expected, Coinbase shot out of the gate in its debut trading day; then something interesting happened
Despite an initial pricing range of around $250 per share, cryptocurrency exchange Coinbase (COIN $288) opened on the Nasdaq at $381 then quickly rocketed to nearly $430 per share. That mark put a sky-high valuation on the firm at $112 billion, but woe to the investors who wantonly bought in within the first few minutes of trading. Unlike many other recent IPOs with similar levels of rabid interest, shares of COIN began faltering almost immediately, falling all the way back to $311 within two hours of the company's first trade. Shares closed the day at $335.90, or 22% off of their high. While the closing price gave the exchange a more reasonable market cap, we believe it is still overvalued. We do like the fact that Coinbase is a play not on one particular cyrpto, but on a number of reasonably solid players. In fact, it acts as something of a gatekeeper, keeping more questionable digital currencies from being traded on the platform. Bitcoin and Ethereum trading generated nearly 60% of the firm's revenue in 2020. One clear winner on the day was the Nasdaq exchange, with Coinbase representing its first direct listing. At its size, in fact, COIN became the largest company to ever take the direct listing route. There was a heated competition between the NYSE and the Nasdaq to land the deal, but Coinbase's CFO said the fact that the latter had the symbol "COIN" played a part in the company's decision to go with that exchange. Here's what worries us most about Coinbase: there are few barriers to entry for would-be competitors. In fact, the fat fees the exchange charges almost begs the competition to come flooding in with the promise of lower costs to the customer. Nonetheless, the company has grand strategic plans of building out a complete suite of financial services over the coming years. They will, more than likely, succeed with those plans.
So, we are relatively bullish on Coinbase, but believe COIN shares are overvalued and that the industry has few barriers to entry. With all of that in the mix, what's an intriguing price point for a buying opportunity? We would say anywhere around $250 per share, which is where we set our own price alert.
Space Sciences & Exploration
09. NASA awards SpaceX contract to build the spacecraft which will take astronauts back to the moon
It was initially whittled down to three companies—Musk's SpaceX, Bezos' Blue Origin, and Dynetics—but we had our hunch as to who would walk away with the prize; the prize being a coveted NASA contract to develop the craft which will take astronauts back to the moon. Blue Origin tried to stack the deck in their favor by teaming up with the likes of Lockheed Martin (LMT) and Northrop Grumman (NOC) and by calling their group a "national team." In the end, however, SpaceX was awarded the $2.9 billion contract. And why not? While other companies have fiddled or floundered, SpaceX has been busy sending astronauts and cargo to the International Space Station (ISS). Real feats, funded with real revenue. Most importantly, in the extreme-risk arena of human spaceflight, SpaceX has won the trust of America's space agency. The United States launched the Artemis program back in 2017 with the express goal of landing men and women on the moon by 2024, fifty-two years after Gene Cernan and Harrison Schmitt crawled back into their lunar module and gently lifted off from the moon's surface as part of their Apollo 17 mission. Who could have imagined back in 1972 that it would take us so long to return. While the 2024 target might have to be pushed out, by nominating former astronaut and US Senator Bill Nelson to head up the space agency, President Biden has signaled his support for a strong US manned space program; quite a different story from his Democratic predecessor, Barrack Obama.
SpaceX's Crew Dragon Endeavour spacecraft is slated to launch on its next mission to the ISS this coming Thursday. On board will be mission commander Shane Kimbrough, pilot Megan McArthur, Japanese astronaut Akihiko Hoshide, and European Space Agency mission specialist Thomas Pesquet.
Internet Retail
08. Amazon set to test furniture and appliance assembly service
Amazon (AMZN $3,411) appears poised to encroach on more turf, and this time the likes of Home Depot, Lowe's, and Wayfair could be affected. The $1.7 trillion Internet retailer will begin testing a product assembly service in several markets this summer, with drivers delivering, unpacking, and assembling everything from beds to treadmills, taking away all of the packing material when done. Customers will even have the option of sending the items back on the spot if dissatisfied with a product once assembled. While the furniture assembly service would most affect the likes of a Wayfair (W $324), moving into the setup of appliances such as washing machines, dishwashers, and ceiling fans would impact the likes of Home Depot (HD $328) and Lowe's (LOW $206). Taking it a step further, ordering big-screen televisions through Amazon and having the price include mounting and setup would affect electronics retailers such as Best Buy (BBY $120). Behind the scenes, however, Amazon is already facing pushback from drivers and delivery workers who fear getting bogged down by the inevitable in-home challenges. Concerns include having customers hover over them during the assembly process, and the company not taking into account any delays caused by unique in-home circumstances such as space constraints.
Our first inclination was to disregard any employee grumblings—Amazon tends to get its way in such matters. However, there are so many unique challenges bound to arise for a non-specialty company such as Amazon trying to train its delivery specialists on the assembly of a multitude of products that the success of this program is far from given. We will keep an eye out for the anecdotal—yet highly entertaining—stories which are sure to make their rounds on social media.
Industrials: Road & Rail
07. A new twist—and a new Canadian player—in the Kansas City Southern saga
Last month we reported on the probable loss of one of America's storied railroads—Kansas City Southern (KSU $298)—as it agreed to be acquired by larger rival to the north, Canadian Pacific (CP $357). The plan called for the $47 billion Canadian rail to buy the north/south American rail for $25 billion plus the assumption of another $4 billion in debt (equivalent to roughly $275/sh). We also noted that last fall KSU rejected a bid by the Blackstone Group (BX $80) to pay shareholders $208/sh to take the firm private. We thought the CP deal was a fait accompli until this week's shocker from an even larger Canadian rail.
Canadian National Railway (CNI $110), which has a market cap of nearly $80 billion, has made a $30 billion bid for KSU, valuing the deal at $325/share and promising to keep KSU's headquarters in Kansas City. While the terms are more favorable for KSU shareholders, there is another factor which will almost certainly come into play: due to a bit more overlap, Canadian National will face a higher regulatory hurdle, with no guarantee of ultimate approval on either side of the border. Despite its smaller size, Kansas City Southern is a coveted jewel of the industry, operating as the only rail going into both Canada to the north and Mexico to the south. As USMCA picks up steam, the importance of one company's ability to transport raw materials from Canada, American farm goods to Mexico, and autos and industrial products back from Mexico cannot be overstated. It even operates a rail link along one side of the Panama Canal. Executives at KSU said they are reviewing the deal and would respond to CP in due course, but shareholders are already cheering the offer: KSU shares were trading up 16% after terms of the deal were announced.
While we would like to see KSU remain independent, odds are very high that one of these deals will ultimately be approved. And, quite frankly, the powerhouse which would be created from a merger is exciting to ponder. Our gut instinct, based on over two decades of following the rail stocks, tells us that the Canadian National Railway merger would offer the best comprehensive outcome—except for Canadian Pacific, of course.
Furnishings, Fixtures, & Appliances
06. Herman Miller and Knoll to merge, creating office furnishings powerhouse
We first highlighted office furnishings company Knoll (KNL $24) in our June, 2015 issue of The Penn Wealth Report. At the time, we were fully engrossed in the final season of the hit AMC television series Mad Men. Knoll, which epitomized the modernist design movement stemming from Munich in the early 20th century, could have easily been responsible for every office scene from the fictional Sterling Cooper ad agency. Quite understandably, the company took a huge hit as offices around the world began shutting their doors last March, with KNL shares falling from nearly $30 going into the year to $9.05 by that terrible week in late March. The same was true for one of Knoll's prime competitors, 116-year-old interior furnishings company Herman Miller (MLHR $41), whose shares fell from near $50 to $15.15 in March of 2020. While both of these small-cap cyclicals rode out the storm and have witnessed a strong comeback in their respective share price, they have made the very intelligent decision to join forces. In a cash-and-stock deal valued at $1.8 billion, the two companies plan to morph into a global leader of modern design not only for the corporate office world, but also to serve the needs of the growing throng of workers who will operate either full- or part-time within their homes. In a joint statement issued by the firms, a strategic plan for "transforming the home and office sectors at a time of unprecedented disruption" was outlined. As Herman Miller was the larger of the two companies, each Knoll shareholder will receive $11 in cash and 0.32 shares of Herman Miller for each share owned, while current MLHR shareholders will end up owning around 78% of the combined entity. The two companies have, in aggregate, a presence in over 100 countries, and both have developed strong e-commerce platforms. Heading into the pandemic, the two had combined annual revenues of $4 billion.
We love the deal, and we expect to see these two American companies pull off a relatively smooth integration. It is not easy to be an American manufacturing firm making high-quality products in a world of cheaper imports, but we fully believe the combined entity will skillfully carry out its bold new strategy. The deal should close by the end of the third quarter.
Government Watchdog
05. So you desire to have a home in New Jersey? Be prepared to pay confiscatory property taxes
We have long espoused the view that property taxes assessed on single-family homes should be capped at 1% per year. After all, in addition to every other tax Americans must pay, isn't $5,000 per year on a $500,000 home enough income for a homeowner's state and local government, on top of the other tax revenues generated? But in many states, the effective property tax rate is much higher than our proposed cap. Take New Jersey, for example, which happens to have the highest property tax rate in the nation. While the state's marginal rate is a sky-high 2.2%, the effective real estate tax rate is 2.47%. That equates to a $5,064 tax bill on a very modest $205,000 home. The effective taxes on a home priced at $327,900, the state's median home value, is $8,104. Perhaps what shocked us the most as we looked at each state's 2020 property tax figures was California's number: the Golden State actually capped the rate at 1% of assessed value, with a 2% annual cap on value increases. Of course, Californians must also contend with a 9.3% income tax rate (on income between $58.6k and $299.5k—it goes up from there) and a 7.25% tax on goods purchased. The opposite end of the spectrum from New Jersey, at least with respect to property taxes, is Hawaii with its 0.28% rate. That would equate to just a $1,715 tax bill on a home valued at $615,300, the median home value in the state.
While moving isn't always an option—for any number of reasons—all Americans should be aware of their individual state's property tax rate, income tax rate, and sales tax rate (the last will fluctuate within various parts of the state). Combined, these three figures represent one's overall tax burden for living where they do. Of interest: Alaska has the lowest overall tax burden of any state in the union, at roughly 5.8% (the state has no sales tax); while Illinois comes in with the most burdensome rate in the country, at 15%.
Global Strategy: Europe
04. The weaker candidate won the primary battle in Germany; may now lose the war to the Greens
Last week we outlined the internal struggles going on behind the scenes among the two leading center-right political parties in Germany, Merkel's Christian Democratic Union and Markus Söder's Christian Social Union of Bavaria. The wildly popular Söder agreed to step aside if the CDU voted to support Merkel's candidate, the unpopular Armin Laschet. Despite the latter's weakness in the polls, that is exactly what her party did, and Söder, true to his word, stepped aside. While we said that the bloc's main competition would come from the center-left Social Democratic Party of Germany (SPD), a new frontrunner has emerged: the far-left Green party's Annalena Baerbock. The 40-year-old former champion trampolinist is promising Germans a "new start" for the country, with a focus on green energy and increased spending on eduction. A poll of German business leaders (a poll we highly question, it should be noted) favors Baerbock over Laschet by a comfortable margin. Clouding the outlook—and probably fracturing the vote in the general elections—are the two candidates from the SPD and the pro-business Free Democrats Party (FDP), Olaf Scholz and Christian Lindner, respectively. The general elections are precisely five months away.
With the best candidate for Germany's future (in our opinion) officially out of the race, the outcome is a flip of the coin. Our instincts tell us that Armin Laschet will come out on top, which will lead to a ho-hum period for the German economy. In a tantalizing twist of fate, that would probably tip the economic scales in Europe in favor of the breakaway "troublemaker," Great Britain. While it is brutally painful going through a domestic election, we have a deep sense of schadenfreude watching the "wise and sapient" Europeans squirm through theirs.
Semiconductors & Related Equipment
03. For true believers, Intel shares seem to be sitting at a decent buy-in point; we remain cautious
While we have talked glowingly about Intel's (INTC $59) new wonkish CEO, Pat Gelsinger, we still haven't pulled the trigger on re-adding the semiconductor maker to any of our portfolios. Management is saying the right things, and we applaud the company's decision to expand their own US manufacturing footprint, but we want to see some results first. A new data point did just roll in; unfortunately, it was not on the bullish side of the scatter plot. Shares of the $242 billion firm were off over 5% on Friday after announcing a strong drop in data center revenue—its most profitable segment—and a decline in gross profit margin. Sales from the Data Center Group fell 20% in the first quarter, year-over-year, well below what analysts were expecting. One anecdotal yet disturbing sign for the group came last month from tech giant Amazon (AMZN $3,370): the company announced that it would begin designing its own data center chips in-house.
Intel has made a string of very smart acquisitions over the past several years to take market share in the AI and EV segments, but it is going to take precision execution on management's part for the company to become a vibrant player in those nascent areas. If played correctly, the severe supply chain disruptions which led to the global chip shortage could provide Intel a nice tailwind. We will remain on the sideline while a few more chapters are written.
Market Pulse
02. Some rather volatile moves, but a flat week in the end; except for the cryptos
There were some wild gyrations in the markets this week, to include a tantrum over the specter of a doubling (for some) of the capital gains tax rate, but when the dust settled we ended up pretty close to where we began. All of the major indexes finished the five session period down, but not by much. Gold finished the week precisely where it started—$1,777 per ounce—and crude futures were off just a buck, to $62.04. The big story of the week was in cryptocurrencies. After prices began tumbling over the weekend, JP Morgan issued a rather dire warning that Bitcoin was due for some further weakness. After topping out at nearly $65,000 on the 14th of April, the digital currency had a steep decline over the weekend. When massively-leveraged bets are made on an investment vehicle, it doesn't take much of a catalyst to begin a massive selloff. As of Friday's close, Bitcoin was trading just shy of $52,000—a 20% drop from its high. The highly-touted Coinbase exchange (COIN $292) didn't fare much better; it was down 14% on the week. For those not willing to do the basic work (some Robinhood customers are claiming they didn't understand the concept of margin, though they had been using it in their accounts), it may be a long year indeed.
Cryptos are here to stay, but that doesn't mean a lack of extreme pullbacks in their respective prices on a regular basis. Some of them, in fact, won't survive. A wanton, meme-driven "strategy" for investing is a dangerous game to play. And that is not even taking margin into account.
Under the Radar Investment
01. Asseco Poland SA (ASOZY $18)
You know the international slice of your portfolio is sorely lacking, as is—more than likely—your small-cap allocation. Take a look at this financially sound, small-cap systems software company from one of our favorite countries in Europe. Asseco Poland SA is a $1.5 billion developer of sector-specific software for banking and finance, and manager of large IT projects in the fields of healthcare, telecom, and security services. With 27,000 employees, the company has a major presence in Europe and Israel, and generates the majority of its (nicely recurring) revenue from proprietary software licenses. With a tiny beta of 0.4181, a very reasonable P/E ratio of 14, and positive net income for the past decade, the company could be a nice play on the economic comeback in Europe. It also comes with a fat, 4.18% dividend yield. We believe that Poland, a staunchly-democratic, anti-communist country, has enormous economic potential over the coming years. It was recently upgraded from an emerging market to a developed market within the FTSE Country Classification framework. Asseco Poland was founded in 1989 and is headquartered in the southeastern Polish city of Rzeszów.
Answer
After the first manned test flight of the Dragon capsule last June with two astronauts onboard, two operational crew launches have taken place—each with a four-person crew. So, ten astronauts have now made the trip from American soil to the International Space Station within the past year.
Headlines for the Week of 11 Apr—17 Apr 2021
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
Hasbro's first hit toy...
Hasbro can trace its roots back to 1923, but its first major hit rolled along in 1952. What was that beloved toy?
Penn Trading Desk:
Penn: Add media conglomerate to the Intrepid
Just because we are not fans of a company doesn't mean we can't make money off of it. That is the scenario under which we picked up shares of a media giant whose price rose too quickly, then fell too sharply. The ideal place for a company we don't love—or even necessarily like? Anyone following the five Penn strategies knows there is only one good fit: the Penn Intrepid Trading Platform. Our target price is precisely 50% above where we purchased the shares. For details of the trade, sign into the Penn Trading Desk.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Global Strategy: Southeast Asia
10. In a refreshing move, Western companies are finally speaking out against China's horrendous human rights abuses
In the current zeitgeist, many large American companies seem to have no problem wading into domestic politics—a taboo policy until quite recently. Now, in a refreshing move, some surprising players are finally willing to shine a light on the human rights abuses committed by the Communist Party of China. The largest footwear and athletic apparel brand in the world, Nike (NKE $133), saw its shares take a hit last week after the company denounced the forced labor of Chinese Uyghers and other ethnic minorities throughout various parts of China. Swedish fashion conglomerate H&M (HMRZF $24) announced that it would stop buying cotton from the Xinjiang region of northwest China after confirmed reports of forced labor. Burberry, Adidas, and New Balance have issued similar statements condemning the conditions. In another refreshing move, the governments of the EU, the UK, the US, and Canada jointly issued a statement denouncing the treatment of minorities in China. Now, as could be expected, calls to boycott Nike and H&M have sprung up across China. As the communist party controls virtually every aspect of media—to include social media—within China, the boycotts could have been easily predicted. How badly could these companies be hurt by a boycott? Considering that 36% of Nike's production and 22% of the company's sales emanate from China, there will be some pain felt. However, this should serve as an excellent wake up call for organizations which have become overly reliant on one closed society's cheap labor and growing middle class. Perhaps they will now consider China's more open-society neighbors to the south and east as a location for new plants and for new sources of revenue.
It has been widely reported that China is turning more towards Russia and North Korea as it faces ever-increasing blowback for its unacceptable actions. That shouldn't come as a surprise, considering the similar nature of all three governments. The importance of US leadership in building an international alliance against human rights atrocities cannot be overstated. As the world's largest economy, America must counter China's Belt and Road Initiative (BRI), which will serve as a spreader for these practices, by building stronger economic and political alliances with countries around the world instead of acting unilaterally.
Capital Markets
09. We knew several major media and entertainment stocks fell sharply, now we begin to see the formerly-unknown fallout
In the matter of a week, former high-flying media darlings Discovery (DISCA $42) and ViacomCBS (VIAC $46) saw there share prices slashed roughly in half, without any clear-cut catalyst. Investors saw that bloodbath unfold in real time, but something else was going on behind the scenes which was neither clear nor transparent. One family office group (FOG), Archegos Capital, founded by former Tiger Management analyst Bill Hwang, had amassed major stakes in both of these firms and a number of Chinese Internet ADRs. As the shares began to crater, margin calls began rolling in from Archegos lenders, primarily Credit Suisse and Nomura, forcing the FOG to sell shares—thus exacerbating the initial drop. Both of these foreign lenders warned of big losses after announcing that "a significant US-based hedge fund had defaulted on margin calls," causing the shares of each to drop around 13%. It is too early to tell just how much Archegos and its lenders have lost in this nightmarish downward spiral, but it will certainly be in the billions of dollars for each of the players. Of interesting note: Goldman Sachs, Morgan Stanley, and Deutsche Bank rapidly unloaded big blocks of shares last week which were tied to Archegos. In other words, they got out before incurring the losses felt by Credit Suisse and Nomura. The incident is especially troubling for Credit Suisse, which already faced massive losses from the collapse of UK investment partner Greensill Capital, and a reported February loss of over $1 billion stemming from a US court case over questionable securities.
Here is what's most disturbing about this case: Neither Credit Suisse nor Nomura shareholders were wise to the banks' dealings with Archegos or the extent to which the hedge fund had leveraged its media holdings. This is due to an exclusion made for family office groups in Dodd-Frank legislation, exempting them from the the same level of SEC reporting with which non-FOGs must comply. Odds are extremely high that by the time the dust settles on this saga these rules will have been "amended."
Science & Technology Investor
08. Cathie Wood's ARK Space Exploration & Innovation ETF makes its debut
To say that Cathie Wood, founder, CEO, and CIO of ARK Investment Management, has made a big splash in the investment world is an understatement. Her skills at uncovering and investing in primarily small- and mid-cap tech and innovation companies (and increased marketing, of course) have led to a stunning inflow of funds during a horrendously tough year—her firm's assets under management (AUM) went from around $2.6 billion to over $50 billion. This week, Wood launched her latest gem: the ARK Space Exploration and Innovation ETF (ARKX $20). The fund, according to ARK, will invest in companies operating under one of four areas: orbital aerospace, suborbital aerospace, enabling technologies, and aerospace beneficiaries (e.g. Internet access). The top holding (of around 50) is scientific and technical instruments maker Trimble (TRMB $78); others in the top-ten list include Kratos Defense & Security (KTOS), L3 Harris Technologies (LHX), and Iridium Communications (IRDM). It would be safe to assume that SpaceX will be among the holdings when that company ultimately goes public. I must admit to being excited about this fund, and appreciate the company's complete transparency with respect to buys and sells—what a refreshing concept.
Based on the explosive growth in all things tech and space related as of late, is this fund overvalued out of the gate? I don't believe so. Looking through the holdings, many are industrial or tech names which are not on most investors' radar screens. It is an impressive lineup.
Economics: Work & Pay
07. A spectacular jobs report pushes equities higher
Yes, yes, we know it will take like ten more jobs reports similar to the one we got for March to get us back anywhere near where we were in February of 2020, but let's take some time and savor this one. While the markets were closed on Good Friday, futures shot up nonetheless on news that the US added 916,000 new jobs in the month of March against economists' expectations for 618,000. Even better, the hiring was broad-based, spread out among virtually every corner of the private sector. Notable strength was seen in leisure and hospitality (the group hit hardest during the heart of the pandemic), education, health care, and construction. The US unemployment rate dropped from 6.2% to 6%, while the more comprehensive U-6 rate (which includes all persons marginally attached to the labor force) dropped from 11.1% to 10.7%. Even better than simply a stunning report, the areas of weakness (such as wages) gave investors confidence that the Fed wouldn't accelerate plans to raise rates. Even after digesting the news for three days, investors were still applauding the report on Monday morning, as all major indexes rose in excess of 1% out of the gates.
Warmer weather, more vaccines, strong hiring—we can feel the momentum building. Out litmus test for the great economic comeback will be full NFL stadiums this fall; and yes, we expect that to be the case. Our dual goals, post-pandemic? More "shop local," and less "Made in China."
Market Pulse
06. Jamie Dimon sees economic boom continuing into 2023, but also sees challenges to address
In his annual letter to JP Morgan (JPM $153) shareholders, CEO Jamie Dimon said he sees strong growth for the American economy "easily running into 2023." Dimon, one of the most astute watchers of the market, listed a host of factors for his bullish sentiment on the world's largest economy: the remarkable speed at which a vaccine was developed, excess savings for the typical American family after being homebound for much of the past year, huge deficit spending, more quantitative easing by the Fed, a new infrastructure bill, and general euphoria that the long global nightmare may finally be coming to an end. His letter wasn't all rosy, however. Dimon sees a real possibility that inflation "will not be just temporary," and he expressed his concerns that our international rivals see a nation "torn and crippled by politics...." "The good news," Dimon concluded, "is that this is fixable."
There have always been fomenters of discord and division in this country. There is no doubt that our adversaries, such as China and Russia, are stealthily acting to support such hatred and division. America is, by far, the strongest nation on earth, both economically and militarily—that is a statistically provable fact, not hyperbole. The best weapon our enemies have to harm our standing in the world is to help balkanize the country into groups pitted against one another. Their efforts will fail if we refuse to play their game.
Application & Systems Software
05. Another smart move by Satya Nadella: Microsoft to buy AI firm Nuance in $19.7 billion deal
CEO Satya Nadella continues to aggressively transform Microsoft (MSFT $255), with his latest move being the acquisition of pioneering speech-recognition ("conversational AI") company Nuance (NUAN) for $19.7 billion ($16 billion plus assumption of debt). The all-cash deal values Nuance at $56 per share, or a 23% premium over Friday's close. The move should give Microsoft a greater presence in the growing field of health information services, and should also be cause for concern for the likes of $22 billion, Missouri-based Cerner (CERN $73). Nuance offers health care professionals the tools to recognize and transcribe speech during doctor's visits, both in-person and digital (telemedicine). Appointment management, patient support, and the efficient creation and maintenance of complete medical records are a few of Nuance's extensive list of offerings. While health care is the leading source the firm's revenues, it also operates in the financial services, telecom, retail, and government sectors. The deal would represent Microsoft's second-largest ever, behind only the 2016 acquisition of LinkedIn for $27 billion.
Microsoft is one of the forty holdings within the Penn Global Leaders Club, and remains one of our strongest-conviction buys at its current price.
Global Strategy: Europe
04. Could an internecine battle in Germany help bring about a major regime change?
For some reason, it seems as though it has been about five years since Angela Merkel announced that she would be stepping down from her role as Chancellor of Germany—a position (stepping down, that is) rather forced upon her by the party she led between 2000 and 2018, the Christian Democratic Union (CDU). In what seems to be dragging on longer than Brexit, the battle for her successor just took a dramatic turn.
While there are roughly a dozen political parties in the country, the ruling alliance between the center-right CDU and the center-right Christian Social Union in Bavaria (CSU) has been a stabilizing factor in the country since nearly the end of World War II. Generally, the leader of the larger CDU, Merkel's party, gets the nod to represent the alliance in the national election. And, indeed, Merkel has backed her party's leader, Armin Laschet, to succeed her. However, the more charismatic Markus Söder, head of the CSU, believes that he is the right person for the job, and his party just sent a shocking snub to Merkel's pick. Söder points out how far the CDU has fallen in the polls since the former journalist took the reins of the party from Merkel three years ago. He is correct on both counts: that the party has fallen from grace since 2018, and that he could energize the electorate more than Laschet.
Of course, this battle has the center-left Social Democratic Party of Germany (SPD) licking its chops. It sees its own nominee, Olaf Scholz, gaining from the disarray. To further complicate the matter, Scholz is not only Merkel's deputy vice chancellor, he actually lost the race to be the leader of his own party. We won't even get into the far-left Green Party, or the far-right Alternative for Germany (AfD), or even the Pirate Party, which opposes the EU's data retention policies. It should be fun to watch (from across the ocean) as battles play out over the next five months—the country has set its official federal election date as 26 September 2021.
The ugliness could spiral out of control, with a real possibility that Scholz could pull out a victory. Considering the gargantuan problems facing Germany right now, perhaps the real question should be why would anyone want to be chancellor?
Cryptocurrencies
03. There is an enormous crypto opportunity coming Wednesday via direct listing; should you buy?
If we ever had any doubts about the long-term viability of cryptos, that ended when it became clear that China has plans to create its own global reserve currency (dollar envy). It has decided to do that in the form of a government-backed digital currency, a sovereign Bitcoin if you will. Technically called the Digital Currency Electronic Payment, or DCEP, the currency will allow the Communist Party of China to further control the entire banking system in China and, in the hopes and dreams of the master planners, create a tool to overtake the dollar as the world's reserve currency. Will it work? Probably not—at least not to the extent China hopes. However, it points to the critical importance of the American government both understanding and embracing cryptos.
On that note, Something big will happen in the crypto world on Wednesday: Coinbase will go public via a direct listing. As the largest cryptocurrency exchange, the San Fran-based company (though it has no official physical headquarters) acts as a secure online platform for buying, selling, transferring, and storing digital currency. The fact that it is part of the support structure, rather than an entity tied to the success of any one single crypto such as Bitcoin, makes the company extremely interesting. Not only that, it is (get ready) already profitable! The firm had a blowout Q1, with earning of around $800 million on revenues of $7.2 billion. And that revenue base represented an 850% spike from the same quarter a year earlier. There is only one problem with this intriguing investment. With the rabid interest circulating around cryptos and the millions of new myopic retail investors now in the game, Coinbase will probably come out of the chute with a market cap in excess of $100 billion, and some will be willing to jump in at any price ("diamond hands, baby"). We will be watching the action closely, and if the price is too expensive on its first day of trading we recommend investors wait for the shares to come down and settle within a reasonable range.
Cryptos, despite what we said about their inevitable future, still operate in a normal market cycle of peaks, contractions, troughs, and expansions. Don't get too caught up in the hype: when everyone is jumping into the water with their eyes closed, it is always wise advice to wait until the sharks send them fleeing for safety.
Media & Entertainment
02. Physical games meet digital gaming as Roblox and Hasbro team up
Last month we wrote about the exciting new (to the markets) online entertainment platform Roblox (RBLX $83), which allows users to code their own games and share them for other gamers to play—often earning a little profit in the process. One 98-year-old gaming company which few associate with technology, Hasbro (HAS $99), is hoping to breathe some new life into its lineup by joining forces with the online platform. Specifically, the toy and game company's Nerf and Monopoly lines will soon include codes for Roblox players to redeem for virtual items. Additionally, a number of Roblox games will be created around the iconic products. For example, buy a Nerf Blaster and receive a code to score an online Nerf Blaster to use in games such as Jailbreak and Arsenal. A new version of Monopoly, to be available later this year, will include Roblox characters and come with codes to acquire other online items. We're not sure which company came up with the brainstorm, but if it was Hasbro's idea, it is the latest in a series of smart moves. Recall that five years ago the company scored a major coup in taking the Disney line away from Mattel (MAT $20) after a sixty year relationship was fractured. For an old-school toy company living in a digital world, Hasbro continues to impress.
The ten-year chart of Hasbro vs Mattel highlights the great struggle between the two iconic brands. Some analysts still believe that $14 billion Hasbro should acquire Mattel, half its size. There is little doubt that the former is leading the latter in digital acumen; plus, who wouldn't want to own the coveted Barbie and American Girl lines?
Under the Radar Investment
01. Accolade Inc
There are many corners of the health care market with which investors are enamored, from big pharma to biotech to medical devices and testing, but one area which remains relatively ignored is the health information services arena. The industry made news this week with Microsoft's announcement that it would buy Nuance in a nearly $20 billion deal, but a firm much deeper under the radar screen of investors is $2.8 billion Accolade Inc (ACCD $48). Accolade is a tech-based firm which helps employers provide individualized health care "advocacy" for their employees, to include putting them in touch with nurses and specialists on demand, coordinating their care, and providing the best resources for their individual needs. Mention "company health care plan" to most employees and they will picture a byzantine system which includes long lines on hold and inexplicable bills arriving in the mail. Accolade turns that model on its head. We place a fair value of $60 on the shares. At $2.8 billion in size, the firm has plenty of room to grow.
Answer
Three Polish-Jewish siblings founded Hassenfeld Brothers in 1923, selling textile remnants, then school supplies, then—ultimately—toys. They would later shorten the name to Hasbro. The brothers' first hit toy came along in 1952 in the form of a lumpy brownish potato; included in the kit were hands, feet, ears, two mouths, two pairs of eyes, four noses, three hats, eyeglasses, a pipe, and some felt which resembled facial hair.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
Hasbro's first hit toy...
Hasbro can trace its roots back to 1923, but its first major hit rolled along in 1952. What was that beloved toy?
Penn Trading Desk:
Penn: Add media conglomerate to the Intrepid
Just because we are not fans of a company doesn't mean we can't make money off of it. That is the scenario under which we picked up shares of a media giant whose price rose too quickly, then fell too sharply. The ideal place for a company we don't love—or even necessarily like? Anyone following the five Penn strategies knows there is only one good fit: the Penn Intrepid Trading Platform. Our target price is precisely 50% above where we purchased the shares. For details of the trade, sign into the Penn Trading Desk.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Global Strategy: Southeast Asia
10. In a refreshing move, Western companies are finally speaking out against China's horrendous human rights abuses
In the current zeitgeist, many large American companies seem to have no problem wading into domestic politics—a taboo policy until quite recently. Now, in a refreshing move, some surprising players are finally willing to shine a light on the human rights abuses committed by the Communist Party of China. The largest footwear and athletic apparel brand in the world, Nike (NKE $133), saw its shares take a hit last week after the company denounced the forced labor of Chinese Uyghers and other ethnic minorities throughout various parts of China. Swedish fashion conglomerate H&M (HMRZF $24) announced that it would stop buying cotton from the Xinjiang region of northwest China after confirmed reports of forced labor. Burberry, Adidas, and New Balance have issued similar statements condemning the conditions. In another refreshing move, the governments of the EU, the UK, the US, and Canada jointly issued a statement denouncing the treatment of minorities in China. Now, as could be expected, calls to boycott Nike and H&M have sprung up across China. As the communist party controls virtually every aspect of media—to include social media—within China, the boycotts could have been easily predicted. How badly could these companies be hurt by a boycott? Considering that 36% of Nike's production and 22% of the company's sales emanate from China, there will be some pain felt. However, this should serve as an excellent wake up call for organizations which have become overly reliant on one closed society's cheap labor and growing middle class. Perhaps they will now consider China's more open-society neighbors to the south and east as a location for new plants and for new sources of revenue.
It has been widely reported that China is turning more towards Russia and North Korea as it faces ever-increasing blowback for its unacceptable actions. That shouldn't come as a surprise, considering the similar nature of all three governments. The importance of US leadership in building an international alliance against human rights atrocities cannot be overstated. As the world's largest economy, America must counter China's Belt and Road Initiative (BRI), which will serve as a spreader for these practices, by building stronger economic and political alliances with countries around the world instead of acting unilaterally.
Capital Markets
09. We knew several major media and entertainment stocks fell sharply, now we begin to see the formerly-unknown fallout
In the matter of a week, former high-flying media darlings Discovery (DISCA $42) and ViacomCBS (VIAC $46) saw there share prices slashed roughly in half, without any clear-cut catalyst. Investors saw that bloodbath unfold in real time, but something else was going on behind the scenes which was neither clear nor transparent. One family office group (FOG), Archegos Capital, founded by former Tiger Management analyst Bill Hwang, had amassed major stakes in both of these firms and a number of Chinese Internet ADRs. As the shares began to crater, margin calls began rolling in from Archegos lenders, primarily Credit Suisse and Nomura, forcing the FOG to sell shares—thus exacerbating the initial drop. Both of these foreign lenders warned of big losses after announcing that "a significant US-based hedge fund had defaulted on margin calls," causing the shares of each to drop around 13%. It is too early to tell just how much Archegos and its lenders have lost in this nightmarish downward spiral, but it will certainly be in the billions of dollars for each of the players. Of interesting note: Goldman Sachs, Morgan Stanley, and Deutsche Bank rapidly unloaded big blocks of shares last week which were tied to Archegos. In other words, they got out before incurring the losses felt by Credit Suisse and Nomura. The incident is especially troubling for Credit Suisse, which already faced massive losses from the collapse of UK investment partner Greensill Capital, and a reported February loss of over $1 billion stemming from a US court case over questionable securities.
Here is what's most disturbing about this case: Neither Credit Suisse nor Nomura shareholders were wise to the banks' dealings with Archegos or the extent to which the hedge fund had leveraged its media holdings. This is due to an exclusion made for family office groups in Dodd-Frank legislation, exempting them from the the same level of SEC reporting with which non-FOGs must comply. Odds are extremely high that by the time the dust settles on this saga these rules will have been "amended."
Science & Technology Investor
08. Cathie Wood's ARK Space Exploration & Innovation ETF makes its debut
To say that Cathie Wood, founder, CEO, and CIO of ARK Investment Management, has made a big splash in the investment world is an understatement. Her skills at uncovering and investing in primarily small- and mid-cap tech and innovation companies (and increased marketing, of course) have led to a stunning inflow of funds during a horrendously tough year—her firm's assets under management (AUM) went from around $2.6 billion to over $50 billion. This week, Wood launched her latest gem: the ARK Space Exploration and Innovation ETF (ARKX $20). The fund, according to ARK, will invest in companies operating under one of four areas: orbital aerospace, suborbital aerospace, enabling technologies, and aerospace beneficiaries (e.g. Internet access). The top holding (of around 50) is scientific and technical instruments maker Trimble (TRMB $78); others in the top-ten list include Kratos Defense & Security (KTOS), L3 Harris Technologies (LHX), and Iridium Communications (IRDM). It would be safe to assume that SpaceX will be among the holdings when that company ultimately goes public. I must admit to being excited about this fund, and appreciate the company's complete transparency with respect to buys and sells—what a refreshing concept.
Based on the explosive growth in all things tech and space related as of late, is this fund overvalued out of the gate? I don't believe so. Looking through the holdings, many are industrial or tech names which are not on most investors' radar screens. It is an impressive lineup.
Economics: Work & Pay
07. A spectacular jobs report pushes equities higher
Yes, yes, we know it will take like ten more jobs reports similar to the one we got for March to get us back anywhere near where we were in February of 2020, but let's take some time and savor this one. While the markets were closed on Good Friday, futures shot up nonetheless on news that the US added 916,000 new jobs in the month of March against economists' expectations for 618,000. Even better, the hiring was broad-based, spread out among virtually every corner of the private sector. Notable strength was seen in leisure and hospitality (the group hit hardest during the heart of the pandemic), education, health care, and construction. The US unemployment rate dropped from 6.2% to 6%, while the more comprehensive U-6 rate (which includes all persons marginally attached to the labor force) dropped from 11.1% to 10.7%. Even better than simply a stunning report, the areas of weakness (such as wages) gave investors confidence that the Fed wouldn't accelerate plans to raise rates. Even after digesting the news for three days, investors were still applauding the report on Monday morning, as all major indexes rose in excess of 1% out of the gates.
Warmer weather, more vaccines, strong hiring—we can feel the momentum building. Out litmus test for the great economic comeback will be full NFL stadiums this fall; and yes, we expect that to be the case. Our dual goals, post-pandemic? More "shop local," and less "Made in China."
Market Pulse
06. Jamie Dimon sees economic boom continuing into 2023, but also sees challenges to address
In his annual letter to JP Morgan (JPM $153) shareholders, CEO Jamie Dimon said he sees strong growth for the American economy "easily running into 2023." Dimon, one of the most astute watchers of the market, listed a host of factors for his bullish sentiment on the world's largest economy: the remarkable speed at which a vaccine was developed, excess savings for the typical American family after being homebound for much of the past year, huge deficit spending, more quantitative easing by the Fed, a new infrastructure bill, and general euphoria that the long global nightmare may finally be coming to an end. His letter wasn't all rosy, however. Dimon sees a real possibility that inflation "will not be just temporary," and he expressed his concerns that our international rivals see a nation "torn and crippled by politics...." "The good news," Dimon concluded, "is that this is fixable."
There have always been fomenters of discord and division in this country. There is no doubt that our adversaries, such as China and Russia, are stealthily acting to support such hatred and division. America is, by far, the strongest nation on earth, both economically and militarily—that is a statistically provable fact, not hyperbole. The best weapon our enemies have to harm our standing in the world is to help balkanize the country into groups pitted against one another. Their efforts will fail if we refuse to play their game.
Application & Systems Software
05. Another smart move by Satya Nadella: Microsoft to buy AI firm Nuance in $19.7 billion deal
CEO Satya Nadella continues to aggressively transform Microsoft (MSFT $255), with his latest move being the acquisition of pioneering speech-recognition ("conversational AI") company Nuance (NUAN) for $19.7 billion ($16 billion plus assumption of debt). The all-cash deal values Nuance at $56 per share, or a 23% premium over Friday's close. The move should give Microsoft a greater presence in the growing field of health information services, and should also be cause for concern for the likes of $22 billion, Missouri-based Cerner (CERN $73). Nuance offers health care professionals the tools to recognize and transcribe speech during doctor's visits, both in-person and digital (telemedicine). Appointment management, patient support, and the efficient creation and maintenance of complete medical records are a few of Nuance's extensive list of offerings. While health care is the leading source the firm's revenues, it also operates in the financial services, telecom, retail, and government sectors. The deal would represent Microsoft's second-largest ever, behind only the 2016 acquisition of LinkedIn for $27 billion.
Microsoft is one of the forty holdings within the Penn Global Leaders Club, and remains one of our strongest-conviction buys at its current price.
Global Strategy: Europe
04. Could an internecine battle in Germany help bring about a major regime change?
For some reason, it seems as though it has been about five years since Angela Merkel announced that she would be stepping down from her role as Chancellor of Germany—a position (stepping down, that is) rather forced upon her by the party she led between 2000 and 2018, the Christian Democratic Union (CDU). In what seems to be dragging on longer than Brexit, the battle for her successor just took a dramatic turn.
While there are roughly a dozen political parties in the country, the ruling alliance between the center-right CDU and the center-right Christian Social Union in Bavaria (CSU) has been a stabilizing factor in the country since nearly the end of World War II. Generally, the leader of the larger CDU, Merkel's party, gets the nod to represent the alliance in the national election. And, indeed, Merkel has backed her party's leader, Armin Laschet, to succeed her. However, the more charismatic Markus Söder, head of the CSU, believes that he is the right person for the job, and his party just sent a shocking snub to Merkel's pick. Söder points out how far the CDU has fallen in the polls since the former journalist took the reins of the party from Merkel three years ago. He is correct on both counts: that the party has fallen from grace since 2018, and that he could energize the electorate more than Laschet.
Of course, this battle has the center-left Social Democratic Party of Germany (SPD) licking its chops. It sees its own nominee, Olaf Scholz, gaining from the disarray. To further complicate the matter, Scholz is not only Merkel's deputy vice chancellor, he actually lost the race to be the leader of his own party. We won't even get into the far-left Green Party, or the far-right Alternative for Germany (AfD), or even the Pirate Party, which opposes the EU's data retention policies. It should be fun to watch (from across the ocean) as battles play out over the next five months—the country has set its official federal election date as 26 September 2021.
The ugliness could spiral out of control, with a real possibility that Scholz could pull out a victory. Considering the gargantuan problems facing Germany right now, perhaps the real question should be why would anyone want to be chancellor?
Cryptocurrencies
03. There is an enormous crypto opportunity coming Wednesday via direct listing; should you buy?
If we ever had any doubts about the long-term viability of cryptos, that ended when it became clear that China has plans to create its own global reserve currency (dollar envy). It has decided to do that in the form of a government-backed digital currency, a sovereign Bitcoin if you will. Technically called the Digital Currency Electronic Payment, or DCEP, the currency will allow the Communist Party of China to further control the entire banking system in China and, in the hopes and dreams of the master planners, create a tool to overtake the dollar as the world's reserve currency. Will it work? Probably not—at least not to the extent China hopes. However, it points to the critical importance of the American government both understanding and embracing cryptos.
On that note, Something big will happen in the crypto world on Wednesday: Coinbase will go public via a direct listing. As the largest cryptocurrency exchange, the San Fran-based company (though it has no official physical headquarters) acts as a secure online platform for buying, selling, transferring, and storing digital currency. The fact that it is part of the support structure, rather than an entity tied to the success of any one single crypto such as Bitcoin, makes the company extremely interesting. Not only that, it is (get ready) already profitable! The firm had a blowout Q1, with earning of around $800 million on revenues of $7.2 billion. And that revenue base represented an 850% spike from the same quarter a year earlier. There is only one problem with this intriguing investment. With the rabid interest circulating around cryptos and the millions of new myopic retail investors now in the game, Coinbase will probably come out of the chute with a market cap in excess of $100 billion, and some will be willing to jump in at any price ("diamond hands, baby"). We will be watching the action closely, and if the price is too expensive on its first day of trading we recommend investors wait for the shares to come down and settle within a reasonable range.
Cryptos, despite what we said about their inevitable future, still operate in a normal market cycle of peaks, contractions, troughs, and expansions. Don't get too caught up in the hype: when everyone is jumping into the water with their eyes closed, it is always wise advice to wait until the sharks send them fleeing for safety.
Media & Entertainment
02. Physical games meet digital gaming as Roblox and Hasbro team up
Last month we wrote about the exciting new (to the markets) online entertainment platform Roblox (RBLX $83), which allows users to code their own games and share them for other gamers to play—often earning a little profit in the process. One 98-year-old gaming company which few associate with technology, Hasbro (HAS $99), is hoping to breathe some new life into its lineup by joining forces with the online platform. Specifically, the toy and game company's Nerf and Monopoly lines will soon include codes for Roblox players to redeem for virtual items. Additionally, a number of Roblox games will be created around the iconic products. For example, buy a Nerf Blaster and receive a code to score an online Nerf Blaster to use in games such as Jailbreak and Arsenal. A new version of Monopoly, to be available later this year, will include Roblox characters and come with codes to acquire other online items. We're not sure which company came up with the brainstorm, but if it was Hasbro's idea, it is the latest in a series of smart moves. Recall that five years ago the company scored a major coup in taking the Disney line away from Mattel (MAT $20) after a sixty year relationship was fractured. For an old-school toy company living in a digital world, Hasbro continues to impress.
The ten-year chart of Hasbro vs Mattel highlights the great struggle between the two iconic brands. Some analysts still believe that $14 billion Hasbro should acquire Mattel, half its size. There is little doubt that the former is leading the latter in digital acumen; plus, who wouldn't want to own the coveted Barbie and American Girl lines?
Under the Radar Investment
01. Accolade Inc
There are many corners of the health care market with which investors are enamored, from big pharma to biotech to medical devices and testing, but one area which remains relatively ignored is the health information services arena. The industry made news this week with Microsoft's announcement that it would buy Nuance in a nearly $20 billion deal, but a firm much deeper under the radar screen of investors is $2.8 billion Accolade Inc (ACCD $48). Accolade is a tech-based firm which helps employers provide individualized health care "advocacy" for their employees, to include putting them in touch with nurses and specialists on demand, coordinating their care, and providing the best resources for their individual needs. Mention "company health care plan" to most employees and they will picture a byzantine system which includes long lines on hold and inexplicable bills arriving in the mail. Accolade turns that model on its head. We place a fair value of $60 on the shares. At $2.8 billion in size, the firm has plenty of room to grow.
Answer
Three Polish-Jewish siblings founded Hassenfeld Brothers in 1923, selling textile remnants, then school supplies, then—ultimately—toys. They would later shorten the name to Hasbro. The brothers' first hit toy came along in 1952 in the form of a lumpy brownish potato; included in the kit were hands, feet, ears, two mouths, two pairs of eyes, four noses, three hats, eyeglasses, a pipe, and some felt which resembled facial hair.
Headlines for the Week of 21 Mar—27 Mar 2021
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Correction: The Penn Wealth Report, Vol. 9 Issue 02
In the "From the Editor" section of the latest Penn Wealth Report it was mistakenly noted that the Nasdaq began its massive 78% drop sixteen years ago this month. This should have read "twenty-one years ago this month." The publication has been updated.
Question
The first video blockbuster...
For some reason, the Roblox image made us think of the early days of video games. On that note, what was the first blockbuster video game (which seemed so futuristic at the time), and when was it released?
Penn Trading Desk:
ARK Invest: Tesla going to $3,000
Cathie Wood's ARK Invest ETFs have taken the investment world by storm. From the ARK Industrial Innovation fund to the ARK Genomic Revolution, she has quickly built a reputation of being an oracle for emerging technologies. Her bold call this week on where Tesla (TSLA $670) is headed raised some eyebrows, along with the price of the shares. She sees the leading EV maker's shares headed to $3,000 by 2025, which would give the firm a market cap in the neighborhood of $3.5 trillion. While $3,000 is ARK's base case for TSLA, they did list a 2025 bear case price of $1,500 per share. One big catalyst for the price jump, Wood argues, is the potential for a large fleet of robotaxis hitting the streets over the coming five years, which she sees Tesla spearheading. With the shares off around 5% for the year, at $670, true believers should probably see this as an opportunity to jump in—or add to their position.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Telecom Services
10. AT&T is finally spinning off its satellite and cable TV services
Back in 2015, telecom giant AT&T (T $30) acquired satellite television service provider DirecTV for $66 billion ($49B plus debt), thus beginning a comical boondoggle for the firm. Finally, six years later, T is offloading the albatross for a fraction of what it paid. More accurately, the company is spinning off its satellite and cable operations into a new company with the help of private equity group TPG Capital, which will pay nearly $8 billion in cash to become a minority owner. The new entity will hold DirecTV, AT&T TV (the firm's cord-cutting attempt), and U-Verse (which it left on the vine to die when it bought DirecTV). Fair value of the company sits somewhere around $16 billion, with T owning 70% and TPG owning the remaining 30%. What will management do with the $8 billion windfall? The company said it plans to pay down debt; based on the fact that this $210 billion telecom has approximately $346 billion in short- and long-term debt, that is probably not a bad idea. CEO John Stankey said the move will allow AT&T to focus on "connectivity and content," meaning the 5G wireless, fiber internet, and HBO Max businesses. The deal should close in the second half of this year.
We purchased AT&T in the Penn Strategic Income Portfolio years ago, based primarily on its fat dividend yield and seemingly reasonable price. The dividend yield now sits at 7% and the share price remains flat from where we bought in. Management continues to disappoint, but we still believe a fair value of the shares is around $35, or roughly 20% higher from here.
Cybersecurity
09. A massive Chinese hack hits Microsoft...and some 60,000 of its organizational and corporate customers
While there may not be a "hot" war raging between the United States and both China and Russia, the actions of these two nation-states clearly indicate that they are at battle with this country. What it will take for the United States to get on a war footing is unclear, as thousands of victims continue to fall prey to these adversaries. The latest attack took place within the Microsoft Exchange—a mail and calendar server used by some 200 million individuals and corporations. Unlike the cowardly stance taken by Amazon (AMZN), at least Microsoft has been forthcoming with respect to the attacks made on its systems, and has been willing to identify the culprits to help other companies better protect their customer data.
This latest attack, according to the company, was perpetrated by a Chinese-sponsored group known as Hafnium. This group typically targets infectious disease researchers, defense contractors, and other critical agencies in an effort to both steal knowledge and cause general disruption. Adding insult to injury, the group gets its guidance from the Chinese government but uses servers it leases within the United States. The hackers first gained access to the Exchange by exploiting previously-unknown vulnerabilities, then created a malicious web-based interface to take control of the compromised servers remotely. Finally, they used this remote access to steal data from the targeted individuals and organizations. While Microsoft has identified and patched the vulnerability, the perpetrators already in the "body" may still operate untouched. In other words, they were already on the inside when the patch was put in place.
While a serious federal response is needed, which includes an ongoing series of counterstrikes to send a message, companies and individuals must take responsibility and adopt next-level security practices such as multi-factor authentication and deployment of the highest possible level of cybersecurity protection. Unfortunately, these measures will be irritating and costly, but it sure beats the alternative.
We praise Microsoft for having the guts to be transparent with regard to these attacks, and encourage timid firms like Amazon to follow suit. For investors, cybersecurity—sadly—will be one of the hottest industries for the foreseeable future. We recommend scanning the Penn holding CIBR, the First Trust NASDAQ Cybersecurity ETF, for individual names to consider.
Computer Software/Gaming
08. Roblox is not just another gaming stock, but should you invest?
Admittedly, online gaming stocks don't typically get us very excited from an investment standpoint. Roblox (RBLX $67), however, may just prove to be the exception. Granted, the company came out of the gate with a crazy valuation—it lost $253M on a paltry $924M in revenues in 2020, yet the GameStop crowd made it a $40 billion company by the end of its first day of trading. Want some perspective on that? Ford (F) has a market cap of $49 billion. This particular online entertainment platform, however, has a very unique story. More than just a place to play around (over half of the company's 33 million daily users are 13 or younger), users actually program games and play games created by other users. And it doesn't take a degree in programming to participate: Roblox offers even the youngest of users online tutorials to teach them how to create. "We offer free resources to teach students of all ages real coding, game design, digital civility, and entrepreneurial skills," reads a lead-in to one of their education pages.
Game developers on the platform earn "robux," digital currency which can be created to cold, hard cash. Over 1,250 developers/gamers earned at least $10,000 in robux last year, with several hundred earning over $100,000. Two British teens, who produced their first Roblox game when they were just 13, made a splash in the BBC when it was reported that they paid off their parents mortgage using their converted robux. It doesn't take much to get a large percentage of the younger generation hooked on gaming; imagine what happens when potential to make money is added to the mix. We also appreciate the fact that these young developers are actually learning analytical skills along the way. The shares may seem pricey now (they have dropped back from a high of $79.10), but the company is for real, and it comes with a unique value proposition for investors—unlike GameStop.
There is going to be a substantial tech pullback this year, and we can expect the gaming stocks which are not generating a profit to get hit hard. Where would a decent buy point for RBLX shares reside? If they drop back to $60 or lower, and they fit the respective portfolio mix, it would be wise to take a deeper dive and considering picking some up. In the meantime, why not "sign up and start having fun?" You might even earn some robux while waiting for the shares to become more attractive.
Pharmaceuticals
07. Vaccine Spring: All along, there was only one Covid-19 vaccine we said we would not take
Long before the world knew anything about the Wuhan-borne virus which would rapidly escalate into a global pandemic, we were highly bullish on American pharmaceutical and biotech companies. The more politicians bashed these companies, which create the life-saving medications hundreds of millions of people use annually, the angrier we got. If these politicians had their way, cutting-edge research and development within the pharmaceutical industry would take a major hit—as would the overall health of Americans. Before we work ourselves into a lather once again, let's focus on the incredible progress researchers at these firms made with respect to uncovering a vaccine for the pandemic. With Manhattan Project-like speed, the men and women at these pharma and biotech companies developed, tested, produced, and delivered highly effective therapies to prevent the deadly disease (535,000 Americans have died from Covid as of this writing).
While we would feel comfortable receiving the Pfizer-BioNTech (PFE/BNTX), Moderna (MRNA), or Johnson & Johnson (JNJ) vaccines, we have held serious reservations about one company's efforts from the start. Since early testing began, AstraZeneca PLC's (AZN) vaccine seemed to generate more questions than it answered, and we didn't like the answers management was doling out. Thankfully, the AZN vaccine was never approved for emergency use in the United States, as it was in Europe. Now, three major European countries, Germany, France, and Italy, are joining a rapidly-growing list of nations which have suspended the vaccine following reports of blood clots in the legs and/or lungs of a number of recipients. True to form, the company quickly blasted the suspensions, claiming that the percentage of those vaccinated who developed clots were in line with what could be expected within the general population. It should be noted that a number of those coming down with the conditions resided in younger age groups; i.e., below the age these maladies would typically develop.
The company's objections were reminiscent—at least to us—of their response following the questionable trial results. There never seemed to be a sense of "let's make absolutely sure of this..." so much as "nothing to see here, move along." And that makes us uncomfortable. A lot of nations now seem to feeling ill at ease with the company's vaccine as well. UPDATE: It appears that most of the nations which put a halt on the AstraZeneca vaccines are now willing to lift the temporary bans, mainly due to external pressure. We would still not feel comfortable taking the product, especially as the J&J vaccine begins to flood the market.
AstraZeneca was the result of a 1999 merger between Sweden's Astra and the UK's Zeneca Group. Pfizer's partner BioNTech, it should be noted, is based in Mainz, Germany. We own Pfizer in the Penn Global Leaders Club, and it remains one of our highest-conviction buys.
Global Strategy: Southeast Asia
06. The new administration took a tough stance with China in first official meeting; now, let's look for continuity
Thankfully, John Kerry was nowhere near the Captain Cook Hotel in Anchorage this past week. The first official meeting between the Biden administration and the Communist Party of China was anything but a love-fest, and that gives us encouragement that the US won't get rolled over the next four years. In what was to be a brief photo-op, US Secretary of State Anthony Blinken and US National Security Advisor Jake Sullivan gave their Chinese counterparts an earful, expressing concern over issues from Hong Kong to questionable trade practices to cybersecurity. Secretary Blinken: "...the US relationship with China will be competitive where it should be, collaborative where it can be, adversarial where it must be." He went on to express the concerns raised (about China) from allies such as Japan and South Korea: "I have to tell you what I'm hearing is very different from what you described." Surprisingly stark language for an audience that wanted to hear sycophantic praise for the Chinese people and the ruling communist party. The frustration was revealed in a response by Chinese Director of the Central Foreign Affairs Commission, Yang Jiechi: "...the United States does not have the qualification to say that it wants to speak to China from a position of strength...this is not the way to deal with the Chinese people." A nerve was touched, to put it mildly.
Of course, what really matters is how the Biden administration actually deals with the communist nation going forward. Nonetheless, neither the spirit of Neville Chamberlain nor John Kerry seemed to be present in the room—which gives us quite a bit of comfort.
One of our biggest beefs with the Trump administration was the lack of willingness to join with our allies in a united front against unacceptable Chinese behavior. We are virtually certain that will not be the case with the new administration. China also made a major miscalculation by unleashing the massive cyber strike against Microsoft so early in Biden's term, leaving him almost no choice but to take a tough stance against our major global nemesis. Russia is trying to join forces with China against the US on several fronts, such as a planned Sino-Russian moon base, but Russia remains a shell of its former self, with an economy fueled—no pun intended—overwhelmingly by fossil fuels. A full 82% of the world's population does not reside in China, and a majority of that percentage hold animosity for—or, at least, a deep mistrust of—China. The US must work to garner a true global coalition against the CCP's global ambitions. We can't think of any more important strategic US focus over the coming years.
Road & Rail
05. America is losing one of its great and storied railroads as Canadian Pacific set to acquire Kansas City Southern
It has been twelve years since Warren Buffett's "affinity for railroads as a kid" led him to take a great American rail, Burlington Northern Santa Fe, private, and we still aren't over it—BNI was one of our favorite holdings in the Penn Global Leaders Club. Now, investors are about to lose another great name in the space: Canadian Pacific (CP $370) plans to acquire Kansas City Southern (KSU $260) for $25 billion plus the assumption of roughly $4 billion in debt. As a north-south rail, Kansas City Southern has been a major play on trade between the United States and Mexico: the firm owns 3,400 route miles in the US, and an interest in 3,300 miles of rail in Mexico. Canadian Pacific is a $50 billion rail which operates 12,500 miles of track throughout most of Canada and into parts of the Northeastern and Midwestern US. While it will be tough to say goodbye to KSU, the deal actually makes a lot of sense. As Canada became the last nation to approve the new USMCA trade pact last March, the new rail will be a beast, controlling a north-south route throughout the pact's domain. For the first time ever, one rail will connect all three nations. Current CP CEO Keith Creel will head up the new giant, which will be based out of Calgary, Alberta. At least investors will still have the ability to own Kansas City Southern, albeit through CP shares—last fall the rail rejected a $208/share bid from the Blackstone Group which would have taken the firm private.
Although there will be a regulatory fight, this acquisition will ultimately be approved. If the USMCA lives up to its potential, Canadian Pacific will be in a great position to streamline its operations, improve profitability, and grow its market share. While we don't own CP, we are bullish on the shares, which currently sit around $370.
Monetary Policy
04. The Fed calmed market fears last week, but its growing balance sheet is concerning
Fed Chair Jerome Powell said just about everything right at his Q&A following last week's FOMC meeting. The Fed upgraded its US GDP expectations for the year from 4.2% to 6.5%; inflation may well go above 2% in the short-term, but that was OK; and the central bank would continue buying bonds at a clip of $120 billion per month. The markets may have cheered the news, but the rising debt load of the Fed, which is part of the nation's $28 trillion overall debt load, is concerning. Before the 2008 financial crisis, the Fed's balance sheet was below $1 trillion. It more than doubled due to the crisis, then plateaued around $2.8 trillion before mushrooming again in 2013 and 2014. Steady at about $4.5 trillion for several years, it did something few would expect: it began falling—all the way back down to $3.6 trillion in September of 2019. Of course, we know what hit the world six months later, causing the balance sheet to more than double. Just shy of $8 trillion now, we can expect (based on Powell's comments) that it will hit $9 trillion before any talk of tapering. Of major note at the FOMC meeting was the fact that only four members saw rates rising in 2022 and another eight (of the eighteen) saw rates coming off of zero in 2023. That is remarkable, at least until we consider that every tick up in rates makes servicing our $28 trillion national debt all the costlier. At least we are not alone in the boat; governments around the world are awash in debt, with few showing signs of hiking rates. In the meantime, let the party continue.
For the first time in a year, the pandemic is not the market's biggest concern—and that is wonderful news. Right now, investors have turned their attention to inflation and Treasury rates creeping up. Our biggest concern right now is none of the above. We see valuations reaching crazy levels on some high-flying tech names which won't turn a profit for years. There will be a tech reckoning at some point this year, which is one reason we have been maneuvering toward a value tilt. Also, portfolios simply got overweighted in growth names due to the run-up. This spring is certainly a good time for a portfolio tune-up.
Auto Parts
03. Goodyear to buy Cooper Tire & Rubber Company for $2.8 billion
There aren't many tire manufacturers based in the United States these days, so the two biggest might as well join forces. Goodyear Tire & Rubber Company (GT $17) has announced its plans to acquire smaller US rival Cooper Tire (CTB) for $2.8 billion in cash and stock. Goodyear, which trails only France's Michelin and Japan's Bridgestone by sales, will suddenly have a much larger global footprint: 50 factories and 72,000 employees around the world, and sales volume of 64 million replacement tires in the US. With demand for replacement tires expected to grow rapidly in the coming years, the move should allow the new entity to grow market share substantially in both the US and China—the industry's two largest markets. Both companies are based out of Ohio.
Obviously, the commodity price of rubber plays a major role in a tire manufacturer's bottom line. Fortunately, global rubber prices have dropped precipitously over the past decade. We would put a fair value on the price of Goodyear shares, post-merger, at $20.
Business & Professional Services
02. Will GoPuff be the poster child for the coming post-pandemic market reality check?
For anyone not familiar with SoftBank, it is the Masayoshi Son-run business that tried to bring WeWork public with founder and walking nightmare Adam Neumann still at the helm (at least originally). For anyone not familiar with GoPuff, it is yet another delivery service which brings products from the store to your home. The latter is being financially backed, in good measure, by the former. Why, you might ask, does America need another delivery service with established competitors such as Amazon, DoorDash, Uber Eats, GrubHub, Walmart, Drizly, Instacart, and an army of grocery stores which are getting into the game? We wish we had the answer. As for their unique value proposition (UVP), the delivery service brings household items such as OTC medicines, snacks, and household essentials to your doorstep. In essence, you are saved that pesky trip to Walgreens. (Actually, don't some of these competitors already do that?)
Forget the viability—or lack thereof—of the company's UVP; we are more concerned about the valuation. In October of 2020, the company raised funds which valued the enterprise at just under $4 billion. Now, fueled with a new round of funding, it is valued at just shy of $9 billion. Keep this in mind as well: GoPuff will probably go public this year, and we have all seen what happens to these novelty (our word) startups out of the gate—many see their shares double or even triple before the dust settles. So, we have a company that may be worth $4 billion (doubt it), it is now valued at $9 billion, and it may be at $20 billion after the IPO. Does that make sense? We love DoorDash, but how many DASH investors even realize that the firm, which has never turned a profit, has a $44 billion market cap as of this writing? There is a house of cards being built, and every house of cards eventually comes crashing down.
Forget the hype being pushed by the old media or on social media with respect to these companies. Do the research, figure out whether they actually do have a UVP, take a look at the numbers, consider the management team in place, and make wise investment decisions based on the easily-accessible research available to virtually everyone. Maybe it is FOMO, or maybe we are simply going stir-crazy in our homes, but there is a whole lot of gambling going on within the markets right now.
Under the Radar Investment
01. Adaptive Biotechnologies Corp
Adaptive Biotechnology Corp (ADPT $42) is a $6 billion biotech firm working in the field of what they refer to as Immune Medicine. By harnessing the power of the adaptive immune system, a subsystem which contains processes that eliminate pathogens or prevent their growth, the company believes it can transform the diagnosis and treatment of disease. The company's clinical diagnostic product, clonoSEQ, is an FDA-authorized test for the detection and monitoring of minimal residual disease in patients with blood cancers. The cornerstone of Adaptive's Immune Medicine platform, immunoSEQ, serves as its underlying R&D engine and generates revenue from academic and biopharmaceutical customers. Shares have dropped from their $71.25 high reached on 25 Jan 2021.
Answer
Space Invaders, created in 1978 by Tomohiro Nishikado, was licensed in the US by the Midway division of Bally. By 1982, the game had grossed nearly $4 billion, making it both the best-selling and highest-grossing (adjusted for inflation) video game of all time.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Correction: The Penn Wealth Report, Vol. 9 Issue 02
In the "From the Editor" section of the latest Penn Wealth Report it was mistakenly noted that the Nasdaq began its massive 78% drop sixteen years ago this month. This should have read "twenty-one years ago this month." The publication has been updated.
Question
The first video blockbuster...
For some reason, the Roblox image made us think of the early days of video games. On that note, what was the first blockbuster video game (which seemed so futuristic at the time), and when was it released?
Penn Trading Desk:
ARK Invest: Tesla going to $3,000
Cathie Wood's ARK Invest ETFs have taken the investment world by storm. From the ARK Industrial Innovation fund to the ARK Genomic Revolution, she has quickly built a reputation of being an oracle for emerging technologies. Her bold call this week on where Tesla (TSLA $670) is headed raised some eyebrows, along with the price of the shares. She sees the leading EV maker's shares headed to $3,000 by 2025, which would give the firm a market cap in the neighborhood of $3.5 trillion. While $3,000 is ARK's base case for TSLA, they did list a 2025 bear case price of $1,500 per share. One big catalyst for the price jump, Wood argues, is the potential for a large fleet of robotaxis hitting the streets over the coming five years, which she sees Tesla spearheading. With the shares off around 5% for the year, at $670, true believers should probably see this as an opportunity to jump in—or add to their position.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Telecom Services
10. AT&T is finally spinning off its satellite and cable TV services
Back in 2015, telecom giant AT&T (T $30) acquired satellite television service provider DirecTV for $66 billion ($49B plus debt), thus beginning a comical boondoggle for the firm. Finally, six years later, T is offloading the albatross for a fraction of what it paid. More accurately, the company is spinning off its satellite and cable operations into a new company with the help of private equity group TPG Capital, which will pay nearly $8 billion in cash to become a minority owner. The new entity will hold DirecTV, AT&T TV (the firm's cord-cutting attempt), and U-Verse (which it left on the vine to die when it bought DirecTV). Fair value of the company sits somewhere around $16 billion, with T owning 70% and TPG owning the remaining 30%. What will management do with the $8 billion windfall? The company said it plans to pay down debt; based on the fact that this $210 billion telecom has approximately $346 billion in short- and long-term debt, that is probably not a bad idea. CEO John Stankey said the move will allow AT&T to focus on "connectivity and content," meaning the 5G wireless, fiber internet, and HBO Max businesses. The deal should close in the second half of this year.
We purchased AT&T in the Penn Strategic Income Portfolio years ago, based primarily on its fat dividend yield and seemingly reasonable price. The dividend yield now sits at 7% and the share price remains flat from where we bought in. Management continues to disappoint, but we still believe a fair value of the shares is around $35, or roughly 20% higher from here.
Cybersecurity
09. A massive Chinese hack hits Microsoft...and some 60,000 of its organizational and corporate customers
While there may not be a "hot" war raging between the United States and both China and Russia, the actions of these two nation-states clearly indicate that they are at battle with this country. What it will take for the United States to get on a war footing is unclear, as thousands of victims continue to fall prey to these adversaries. The latest attack took place within the Microsoft Exchange—a mail and calendar server used by some 200 million individuals and corporations. Unlike the cowardly stance taken by Amazon (AMZN), at least Microsoft has been forthcoming with respect to the attacks made on its systems, and has been willing to identify the culprits to help other companies better protect their customer data.
This latest attack, according to the company, was perpetrated by a Chinese-sponsored group known as Hafnium. This group typically targets infectious disease researchers, defense contractors, and other critical agencies in an effort to both steal knowledge and cause general disruption. Adding insult to injury, the group gets its guidance from the Chinese government but uses servers it leases within the United States. The hackers first gained access to the Exchange by exploiting previously-unknown vulnerabilities, then created a malicious web-based interface to take control of the compromised servers remotely. Finally, they used this remote access to steal data from the targeted individuals and organizations. While Microsoft has identified and patched the vulnerability, the perpetrators already in the "body" may still operate untouched. In other words, they were already on the inside when the patch was put in place.
While a serious federal response is needed, which includes an ongoing series of counterstrikes to send a message, companies and individuals must take responsibility and adopt next-level security practices such as multi-factor authentication and deployment of the highest possible level of cybersecurity protection. Unfortunately, these measures will be irritating and costly, but it sure beats the alternative.
We praise Microsoft for having the guts to be transparent with regard to these attacks, and encourage timid firms like Amazon to follow suit. For investors, cybersecurity—sadly—will be one of the hottest industries for the foreseeable future. We recommend scanning the Penn holding CIBR, the First Trust NASDAQ Cybersecurity ETF, for individual names to consider.
Computer Software/Gaming
08. Roblox is not just another gaming stock, but should you invest?
Admittedly, online gaming stocks don't typically get us very excited from an investment standpoint. Roblox (RBLX $67), however, may just prove to be the exception. Granted, the company came out of the gate with a crazy valuation—it lost $253M on a paltry $924M in revenues in 2020, yet the GameStop crowd made it a $40 billion company by the end of its first day of trading. Want some perspective on that? Ford (F) has a market cap of $49 billion. This particular online entertainment platform, however, has a very unique story. More than just a place to play around (over half of the company's 33 million daily users are 13 or younger), users actually program games and play games created by other users. And it doesn't take a degree in programming to participate: Roblox offers even the youngest of users online tutorials to teach them how to create. "We offer free resources to teach students of all ages real coding, game design, digital civility, and entrepreneurial skills," reads a lead-in to one of their education pages.
Game developers on the platform earn "robux," digital currency which can be created to cold, hard cash. Over 1,250 developers/gamers earned at least $10,000 in robux last year, with several hundred earning over $100,000. Two British teens, who produced their first Roblox game when they were just 13, made a splash in the BBC when it was reported that they paid off their parents mortgage using their converted robux. It doesn't take much to get a large percentage of the younger generation hooked on gaming; imagine what happens when potential to make money is added to the mix. We also appreciate the fact that these young developers are actually learning analytical skills along the way. The shares may seem pricey now (they have dropped back from a high of $79.10), but the company is for real, and it comes with a unique value proposition for investors—unlike GameStop.
There is going to be a substantial tech pullback this year, and we can expect the gaming stocks which are not generating a profit to get hit hard. Where would a decent buy point for RBLX shares reside? If they drop back to $60 or lower, and they fit the respective portfolio mix, it would be wise to take a deeper dive and considering picking some up. In the meantime, why not "sign up and start having fun?" You might even earn some robux while waiting for the shares to become more attractive.
Pharmaceuticals
07. Vaccine Spring: All along, there was only one Covid-19 vaccine we said we would not take
Long before the world knew anything about the Wuhan-borne virus which would rapidly escalate into a global pandemic, we were highly bullish on American pharmaceutical and biotech companies. The more politicians bashed these companies, which create the life-saving medications hundreds of millions of people use annually, the angrier we got. If these politicians had their way, cutting-edge research and development within the pharmaceutical industry would take a major hit—as would the overall health of Americans. Before we work ourselves into a lather once again, let's focus on the incredible progress researchers at these firms made with respect to uncovering a vaccine for the pandemic. With Manhattan Project-like speed, the men and women at these pharma and biotech companies developed, tested, produced, and delivered highly effective therapies to prevent the deadly disease (535,000 Americans have died from Covid as of this writing).
While we would feel comfortable receiving the Pfizer-BioNTech (PFE/BNTX), Moderna (MRNA), or Johnson & Johnson (JNJ) vaccines, we have held serious reservations about one company's efforts from the start. Since early testing began, AstraZeneca PLC's (AZN) vaccine seemed to generate more questions than it answered, and we didn't like the answers management was doling out. Thankfully, the AZN vaccine was never approved for emergency use in the United States, as it was in Europe. Now, three major European countries, Germany, France, and Italy, are joining a rapidly-growing list of nations which have suspended the vaccine following reports of blood clots in the legs and/or lungs of a number of recipients. True to form, the company quickly blasted the suspensions, claiming that the percentage of those vaccinated who developed clots were in line with what could be expected within the general population. It should be noted that a number of those coming down with the conditions resided in younger age groups; i.e., below the age these maladies would typically develop.
The company's objections were reminiscent—at least to us—of their response following the questionable trial results. There never seemed to be a sense of "let's make absolutely sure of this..." so much as "nothing to see here, move along." And that makes us uncomfortable. A lot of nations now seem to feeling ill at ease with the company's vaccine as well. UPDATE: It appears that most of the nations which put a halt on the AstraZeneca vaccines are now willing to lift the temporary bans, mainly due to external pressure. We would still not feel comfortable taking the product, especially as the J&J vaccine begins to flood the market.
AstraZeneca was the result of a 1999 merger between Sweden's Astra and the UK's Zeneca Group. Pfizer's partner BioNTech, it should be noted, is based in Mainz, Germany. We own Pfizer in the Penn Global Leaders Club, and it remains one of our highest-conviction buys.
Global Strategy: Southeast Asia
06. The new administration took a tough stance with China in first official meeting; now, let's look for continuity
Thankfully, John Kerry was nowhere near the Captain Cook Hotel in Anchorage this past week. The first official meeting between the Biden administration and the Communist Party of China was anything but a love-fest, and that gives us encouragement that the US won't get rolled over the next four years. In what was to be a brief photo-op, US Secretary of State Anthony Blinken and US National Security Advisor Jake Sullivan gave their Chinese counterparts an earful, expressing concern over issues from Hong Kong to questionable trade practices to cybersecurity. Secretary Blinken: "...the US relationship with China will be competitive where it should be, collaborative where it can be, adversarial where it must be." He went on to express the concerns raised (about China) from allies such as Japan and South Korea: "I have to tell you what I'm hearing is very different from what you described." Surprisingly stark language for an audience that wanted to hear sycophantic praise for the Chinese people and the ruling communist party. The frustration was revealed in a response by Chinese Director of the Central Foreign Affairs Commission, Yang Jiechi: "...the United States does not have the qualification to say that it wants to speak to China from a position of strength...this is not the way to deal with the Chinese people." A nerve was touched, to put it mildly.
Of course, what really matters is how the Biden administration actually deals with the communist nation going forward. Nonetheless, neither the spirit of Neville Chamberlain nor John Kerry seemed to be present in the room—which gives us quite a bit of comfort.
One of our biggest beefs with the Trump administration was the lack of willingness to join with our allies in a united front against unacceptable Chinese behavior. We are virtually certain that will not be the case with the new administration. China also made a major miscalculation by unleashing the massive cyber strike against Microsoft so early in Biden's term, leaving him almost no choice but to take a tough stance against our major global nemesis. Russia is trying to join forces with China against the US on several fronts, such as a planned Sino-Russian moon base, but Russia remains a shell of its former self, with an economy fueled—no pun intended—overwhelmingly by fossil fuels. A full 82% of the world's population does not reside in China, and a majority of that percentage hold animosity for—or, at least, a deep mistrust of—China. The US must work to garner a true global coalition against the CCP's global ambitions. We can't think of any more important strategic US focus over the coming years.
Road & Rail
05. America is losing one of its great and storied railroads as Canadian Pacific set to acquire Kansas City Southern
It has been twelve years since Warren Buffett's "affinity for railroads as a kid" led him to take a great American rail, Burlington Northern Santa Fe, private, and we still aren't over it—BNI was one of our favorite holdings in the Penn Global Leaders Club. Now, investors are about to lose another great name in the space: Canadian Pacific (CP $370) plans to acquire Kansas City Southern (KSU $260) for $25 billion plus the assumption of roughly $4 billion in debt. As a north-south rail, Kansas City Southern has been a major play on trade between the United States and Mexico: the firm owns 3,400 route miles in the US, and an interest in 3,300 miles of rail in Mexico. Canadian Pacific is a $50 billion rail which operates 12,500 miles of track throughout most of Canada and into parts of the Northeastern and Midwestern US. While it will be tough to say goodbye to KSU, the deal actually makes a lot of sense. As Canada became the last nation to approve the new USMCA trade pact last March, the new rail will be a beast, controlling a north-south route throughout the pact's domain. For the first time ever, one rail will connect all three nations. Current CP CEO Keith Creel will head up the new giant, which will be based out of Calgary, Alberta. At least investors will still have the ability to own Kansas City Southern, albeit through CP shares—last fall the rail rejected a $208/share bid from the Blackstone Group which would have taken the firm private.
Although there will be a regulatory fight, this acquisition will ultimately be approved. If the USMCA lives up to its potential, Canadian Pacific will be in a great position to streamline its operations, improve profitability, and grow its market share. While we don't own CP, we are bullish on the shares, which currently sit around $370.
Monetary Policy
04. The Fed calmed market fears last week, but its growing balance sheet is concerning
Fed Chair Jerome Powell said just about everything right at his Q&A following last week's FOMC meeting. The Fed upgraded its US GDP expectations for the year from 4.2% to 6.5%; inflation may well go above 2% in the short-term, but that was OK; and the central bank would continue buying bonds at a clip of $120 billion per month. The markets may have cheered the news, but the rising debt load of the Fed, which is part of the nation's $28 trillion overall debt load, is concerning. Before the 2008 financial crisis, the Fed's balance sheet was below $1 trillion. It more than doubled due to the crisis, then plateaued around $2.8 trillion before mushrooming again in 2013 and 2014. Steady at about $4.5 trillion for several years, it did something few would expect: it began falling—all the way back down to $3.6 trillion in September of 2019. Of course, we know what hit the world six months later, causing the balance sheet to more than double. Just shy of $8 trillion now, we can expect (based on Powell's comments) that it will hit $9 trillion before any talk of tapering. Of major note at the FOMC meeting was the fact that only four members saw rates rising in 2022 and another eight (of the eighteen) saw rates coming off of zero in 2023. That is remarkable, at least until we consider that every tick up in rates makes servicing our $28 trillion national debt all the costlier. At least we are not alone in the boat; governments around the world are awash in debt, with few showing signs of hiking rates. In the meantime, let the party continue.
For the first time in a year, the pandemic is not the market's biggest concern—and that is wonderful news. Right now, investors have turned their attention to inflation and Treasury rates creeping up. Our biggest concern right now is none of the above. We see valuations reaching crazy levels on some high-flying tech names which won't turn a profit for years. There will be a tech reckoning at some point this year, which is one reason we have been maneuvering toward a value tilt. Also, portfolios simply got overweighted in growth names due to the run-up. This spring is certainly a good time for a portfolio tune-up.
Auto Parts
03. Goodyear to buy Cooper Tire & Rubber Company for $2.8 billion
There aren't many tire manufacturers based in the United States these days, so the two biggest might as well join forces. Goodyear Tire & Rubber Company (GT $17) has announced its plans to acquire smaller US rival Cooper Tire (CTB) for $2.8 billion in cash and stock. Goodyear, which trails only France's Michelin and Japan's Bridgestone by sales, will suddenly have a much larger global footprint: 50 factories and 72,000 employees around the world, and sales volume of 64 million replacement tires in the US. With demand for replacement tires expected to grow rapidly in the coming years, the move should allow the new entity to grow market share substantially in both the US and China—the industry's two largest markets. Both companies are based out of Ohio.
Obviously, the commodity price of rubber plays a major role in a tire manufacturer's bottom line. Fortunately, global rubber prices have dropped precipitously over the past decade. We would put a fair value on the price of Goodyear shares, post-merger, at $20.
Business & Professional Services
02. Will GoPuff be the poster child for the coming post-pandemic market reality check?
For anyone not familiar with SoftBank, it is the Masayoshi Son-run business that tried to bring WeWork public with founder and walking nightmare Adam Neumann still at the helm (at least originally). For anyone not familiar with GoPuff, it is yet another delivery service which brings products from the store to your home. The latter is being financially backed, in good measure, by the former. Why, you might ask, does America need another delivery service with established competitors such as Amazon, DoorDash, Uber Eats, GrubHub, Walmart, Drizly, Instacart, and an army of grocery stores which are getting into the game? We wish we had the answer. As for their unique value proposition (UVP), the delivery service brings household items such as OTC medicines, snacks, and household essentials to your doorstep. In essence, you are saved that pesky trip to Walgreens. (Actually, don't some of these competitors already do that?)
Forget the viability—or lack thereof—of the company's UVP; we are more concerned about the valuation. In October of 2020, the company raised funds which valued the enterprise at just under $4 billion. Now, fueled with a new round of funding, it is valued at just shy of $9 billion. Keep this in mind as well: GoPuff will probably go public this year, and we have all seen what happens to these novelty (our word) startups out of the gate—many see their shares double or even triple before the dust settles. So, we have a company that may be worth $4 billion (doubt it), it is now valued at $9 billion, and it may be at $20 billion after the IPO. Does that make sense? We love DoorDash, but how many DASH investors even realize that the firm, which has never turned a profit, has a $44 billion market cap as of this writing? There is a house of cards being built, and every house of cards eventually comes crashing down.
Forget the hype being pushed by the old media or on social media with respect to these companies. Do the research, figure out whether they actually do have a UVP, take a look at the numbers, consider the management team in place, and make wise investment decisions based on the easily-accessible research available to virtually everyone. Maybe it is FOMO, or maybe we are simply going stir-crazy in our homes, but there is a whole lot of gambling going on within the markets right now.
Under the Radar Investment
01. Adaptive Biotechnologies Corp
Adaptive Biotechnology Corp (ADPT $42) is a $6 billion biotech firm working in the field of what they refer to as Immune Medicine. By harnessing the power of the adaptive immune system, a subsystem which contains processes that eliminate pathogens or prevent their growth, the company believes it can transform the diagnosis and treatment of disease. The company's clinical diagnostic product, clonoSEQ, is an FDA-authorized test for the detection and monitoring of minimal residual disease in patients with blood cancers. The cornerstone of Adaptive's Immune Medicine platform, immunoSEQ, serves as its underlying R&D engine and generates revenue from academic and biopharmaceutical customers. Shares have dropped from their $71.25 high reached on 25 Jan 2021.
Answer
Space Invaders, created in 1978 by Tomohiro Nishikado, was licensed in the US by the Midway division of Bally. By 1982, the game had grossed nearly $4 billion, making it both the best-selling and highest-grossing (adjusted for inflation) video game of all time.
Headlines for the Week of 21 Feb—27 Feb 2021
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The three worst months...
Going back to 1950, only three months of the year have averaged negative returns for the S&P 500. What are they, and which month is historically the worst?
Penn Trading Desk:
Penn: Open a "new energy" ETF in the New Frontier Fund
We are extremely bullish on the future of renewable energy, especially as it is virtually being mandated by governments around the world. It is a tricky area for investors to navigate, which is why we just added a new ETF to the Penn New Frontier Fund that invests equally in all five areas of this dynamic field: e-mobility, energy storage, performance materials, energy distribution, and energy generation. To see the specific action, Members can log into the Penn Trading Desk.
America is (finally) attempting a comeback in the rare earth arena; we opened a position in the company at the center of the battle
We have discussed, ad nauseam, how America willingly turned over the role of dominant rare earth miner to China, despite the national security risk of doing so. Now, one company plans to restore order in this critical corner of the market, and we have added that company to the Intrepid Trading Platform. Members, see the Penn Trading Desk.
Penn: Open Mid-Cap Gold and Silver Miner in Penn Global Leaders Club
We remain bullish on gold going forward, especially considering the world's perpetually-running currency printing presses. We are very bullish on silver for more industrial reasons. With that in mind, we acquired a Canadian mid-cap gold and silver miner with 30 million ounces of proven/probable gold reserves, and 60 million ounces of proven/probable silver reserves. Our first target price is 53% above the company's current price. Members, see the Penn Trading Desk.
Penn: Closed Aphria in Intrepid after massive run-up
We purchased Canadian pot stock Aphria for $4.63 on 13 Aug 2020 in large part because Irwin Simon took over as CEO. While we expected a longer hold time, the massive run-up in price couldn’t be ignored. We took our 440%, short-term gain, stopping out at $25 per share.
Wedbush: Raise price target on Microsoft
Analysts at Wedbush have raised their price target on Microsoft (MSFT $243) from $285 to $300, maintaining their Outperform rating. They argue that the tide is shifting in the cloud arms race—away from Amazon (AMZN) Web Services and towards Microsoft. We agree.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Transportation Infrastructure
10. Uber jumps on news it is buying booze delivery company Drizly
Approximately 22% of ride-sharing platform Uber's (UBER $57) revenue emanates from food and drink delivery, with its Uber Eats division lagging well behind the likes of DoorDash, Postmates, and Grubhub. The company is making an aggressive move to change that with its $1.1 billion purchase of Drizly, a services firm which currently offers beer, wine, and hard liquor deliveries in over 1,400 cities. The deal will be funded with a mix of Uber stock (90%) and cash (10%), and is expected to close in the first of of this year. While Uber will maintain a separate Drizly app for customers, it will integrate the Drizly marketplace into its existing Uber Eats app. Uber shares were up 7% on the day of the announcement.
This was a smart move, and we continue to see Uber as the dominant player in the industry. That being said, the company lost $7 billion on $12.8 billion in revenues over the trailing twelve months, with the pandemic doing immense harm to its business model. We see UBER shares fairly priced around $60, just $3 above where they currently sit.
Biotechnology
09. Jazz Pharmaceuticals PLC to acquire medical cannabis company GW Pharma for $7B
Jazz Pharmaceuticals (JAZZ $150) is an $8 billion biotech focused in the neurosciences, including sleep disorders, and oncology, including hematologic and solid tumors. The company has a solid and growing revenue stream, and positive net income going back ten years—no small feat for a mid-cap biotech. GW Pharmaceuticals PLC (GWPH $214) is a $6.7 billion biopharma company which develops and markets cannabis-based therapies, such as the first epilepsy drug derived from the marijuana plant. This past week, the Ireland-based Jazz announced it would be acquiring the UK-based GW for approximately $7 billion in a mix of cash, debt, and newly-issued Jazz stock. This is a bold move for the company, considering the deal is worth about 90% of its own market cap and that GW hasn't turned a profit since 2012, but management believes that GW's Epidiolex drug for the treatment of epilepsy will be a billion-dollar blockbuster. Shares of Jazz were trading off about 8% on the news, while the deal sent GW Pharma shares soaring nearly 45% based on the premium paid for the acquisition.
It's a bold bet, but one we like—a lot. The drop in price of JAZZ shares makes the stock even more attractive. In a crazy market where investors are bidding up to buy companies which have never turned a profit, here is a company with explosive potential that has operated in the black for a decade.
Behavioral Finance
08. Sticking it to the man? Koss family cashes in as Reddit army targets the shorts
Readers may be vaguely familiar with the name Koss, but certainly not to the same extent as Bose, Beats, or Sony. To say the Wisconsin-based headphone maker was struggling is an understatement. In fact, going into this year the company was worth about $20 million—the most micro of micro-caps. Then the Reddit army discovered how many short sellers were betting on the company to fail, and sprang into action. Despite minuscule sales and a dearth of profits, they jacked the shares up from around $3 in early January to an intra-day high exceeding $120 per share on the 28th of the month. Corporate executives and the Koss family, which together control 75% of the shares, also sprang into action: they sold $44 million worth of shares of a company that had a market cap of $20 million going into the year. Who can blame them? When you know your company is worth about $3 per share and a group of retail investors suddenly make it worth 40 times that amount, why not rake in the dough? SEC filings show these insiders sold between approximately $20 and $60 per share. Among the family, president and CEO Michael Koss sold around $13 million worth of stock, while John Koss Jr., vice president of sales, sold almost exactly the same amount. The company had a short interest of around 35% before the madness began, putting it on the Reddit army's radar. Shares have since fallen back to $20, only about four times what we value them being worth.
Who knows, maybe the insiders sold the shares to raise cash for a new strategic push, though we doubt it. In the meantime, we would like to meet the "investors" who bought into a company with horrendous fundamentals while the share price was between $100 and $120. We would like to simply ask them "why?"
Cryptocurrencies
07. Tesla shifts $1.5 billion of its cash reserve to Bitcoin, will accept the crypto as a payment source soon
Going into the new year, $800 billion EV juggernaut Tesla (TSLA $854) had about $19 billion sitting in cash reserves. In a move that GM or Ford would never consider making, the firm revealed—via an SEC filing—that it has placed about $1.5 billion of that amount, or roughly 8%, in the cryptocurrency Bitcoin. Let there be no doubt, Bitcoin is not a currency; rather, it is a commodity. Forget the comparisons to the US dollar, compare it to gold or silver instead. The dollar is worth a dollar today, yesterday, and (hopefully) tomorrow. Certainly, its value will fluctuate, but it will not go up 60% in one month like Bitcoin has. Governments can print currencies 24/7, effectively reducing their value, but only 21 million bitcoins can be mined—and 18.6 million digital coins already exist. So, is there anything wrong with Tesla's cash management experts shifting 8% of the company's reserves into the commodity? We don't believe so. After all, they could also buy (based on their SEC filings) gold or silver as a store of cash. Given Elon Musk's belief in the future of cryptos, the move shouldn't be surprising. Furthermore, investors applauded the move: both Bitcoin and TSLA were trading higher following the announcement. The company also announced plans to accept Bitcoin as a means of payment in the near future.
We were true Bitcoin skeptics at first, but as soon as big payment processors like PayPal and Venmo got in the game, and as soon as we started looking a the non-physical product as a commodity rather than a currency, we warmed up to the crypto. Our biggest concern is this: Although only 21 million bitcoins will be mined, nothing will stop new, competing cryptocurrencies from being "discovered" in the digital world.
Maritime Shipping & Ports
06. Our maritime shipper spikes on the growing concern over container shortage
For anyone who believes that America, or the world in general, is ready to stand up to China's trade practices, try this one on for size: the communist nation ended 2020 with a record trade surplus. The demand for Chinese goods is now so great that the world is facing a shipping container crisis. Just how bad is it? Because the shippers can make so much more money on the goods leaving China as opposed to the goods entering the country—like grain from the United States—they are literally rushing back empty containers to China to alleviate the backlog of goods waiting at Chinese ports. Spot freight rates are up nearly 300% from a year ago. While that is a sick testament to the state of global trade, one industry is certainly reaping the rewards: the maritime shippers which had been crushed during the trade war and subsequent pandemic. We have been fascinated by this highly-cyclical industry for decades, and when one of our favorites, Nordic American Tankers (NAT $4), saw its share price drop to $2.80 this past October, we jumped in, adding the Bermuda-based shipper to the Penn Intrepid Trading Platform. NAT jumped 14% in one day on news of the container shortage. Think the run will be short-lived or that the shippers are now overvalued? Take a look at the accompanying chart on NAT. Despite the fact that there are nearly 200 million intermodal freight containers around the world, the rapid increase in demand caught nearly everyone off guard. Ready for the icing on the cake? 97% of these containers are now made in, you guessed it, China.
For a brief refresher on the shipping industry, visit our 2018 Penn Wealth Report story on The State of Global Shipping. We see the upswing continuing to gain momentum as global economies revive.
Global Health Threats
05. Hackers tried to poison the water supply of a small Florida town; is this the beginning of a new global health threat?*
Two days before the Super Bowl, in the Tampa suburb of Oldsmar, a technician at the Haddock Water Treatment Plant noticed something odd: the cursor was moving across his computer screen while his mouse sat idle. At first he assumed his supervisor was remotely logged in and simply checking out the systems of the plant, which provides drinking water to 15,000 local residents. His curiosity changed to panic when, a few hours later, the mysterious cursor began adjusting the level of chemicals being added to the water supply. Specifically, the level of sodium hydroxide (caustic soda) was being moved from the ordinary setting of 100 parts per million (ppm) to 11,100 ppm. At low levels, sodium hydroxide regulates PH levels; at high levels, it will damage human tissue. Officials at the plant quickly adjusted the settings back to normal, and they pointed out that PH testing mechanisms would have caught the problem before any contaminated water ever got to the taps, but does that make anyone feel at ease? The attack on the Oldsmar plant is eerily similar to a number of 2020 attacks on Israel's water supply, almost certainly the work of Iranian hackers. A disturbing new threat appears to be emerging; and, with over 100,000 water treatment facilities in the US, it is a threat which cannot be ignored.
In the next issue of The Penn Wealth Report, we will take a look at the threat to America's water supply and how we can prepare for an attack; we also take a look at some viable investment choices in the water utilities sector.
Aerospace & Defense
04. The weekend engine failure points to Raytheon's Pratt & Whitney unit, but we still point a finger at Boeing
It was the last thing Boeing (BA $212) needed (how many times have we said that over the past three years?): A Boeing 777, leaving Denver for Hawaii, had one of its two engines suffer an "uncontained failure," with fire and smoke visible to passengers, and with debris dropping down on a Denver suburb. Thankfully, the aircraft was able to make it back to the airport on one good engine and with no passenger injuries—unlike a very similar incident in 2018 which involved the death of a passenger following engine debris striking a window. That incident occurred just two months after a United Airlines 777 suffered engine failure, with a cracked fan blade forcing the aircraft to make an emergency landing in Honolulu. This is an extremely disturbing trend, and one which certainly places Raytheon's (RTX $73) Pratt & Whitney unit in the hot seat. But aircraft maker Boeing shares some blame, as problems continue to mount for the Chicago-based firm. First there were the deadly 737 crashes which grounded the fleet for the better part of two years. Then came the 787 Dreamliner "design flaws" and canceled orders. Now the 777 faces grounding in the US—and probably around the world. And the situation isn't looking much better on the space side of the business, with the company's problem-laden Starliner capsule and its high profile recent failures. In each case, Boeing can point fingers at suppliers or partners, but there is a point at which all fingers will point back to them. A sad state of affairs for a formerly-great American company.
The entire Boeing board of directors, along with its C-suite executives, should be broomed. The company needs a clean sweep if it has any chance of returning to its position of aerospace and defense dominance. Unfortunately, the very individuals which need to be fired are all part of the mutual admiration society which controls the decisions on leadership. If ever a company needed an aggressive activist investor to come along and force change, it is right now, and it is at Boeing. Even then, the company's downward flight path may be too steep to pull out of.
Automobiles
03. Investor darling Workhorse has its shares cut in half after losing USPS contract
It has been one of those "new investor" cult stocks with one of the key buzz phrases, or acronym in this case, that the new wave of retail money flocks to: EV. The company is Workhorse (WKHS $16), which has seen its stock price go from $2 per share a year ago to $43 per share a few weeks ago—all on the back of microscopic revenues and chronic annual losses. The financials didn't matter; pie-in-the-sky promises were enough to bring money flooding into the stock. The latest promise was the imminent contract by the United States Postal Service to replace its fleet of 150,000+ outdated vehicles. To Workhorse devotees, it was a foregone conclusion that their company would be the recipient. When the contract was awarded to the defense unit of $8 billion industrial firm Oshkosh (OSK $117), WKHS shares nosedived more than 50% in one day. The drop was so rapid that any stop order to protect gains would have been essentially worthless: investors would have been stopped-out at the bottom.
There are some great lessons in this story. Investors need to understand what they are buying, and they need do have at least some inkling as to a company's fundamentals. Forget the fact that Workhorse had never turned an annual profit, how about the fact that they were barely generating sales? As for "boring" old Oshkosh, the company has a pristine balance sheet and generates solid revenues—and profits—year after year. But who wants boring?
Anyone willing to take a little time to do some basic research can be greatly rewarded by the flow of "dumb money" right now. Don't get caught up in the hype and follow the lemmings off the cliff; use their moves to help uncover the value plays present in the market.
Market Pulse
02. Despite a bruising few weeks, February was a winner in the markets
It may be hard to believe based on the past two weeks, but equities actually hammered out a win in February. Not so for the week: each of the major benchmarks fell on the specter of rising rates. In a sign of just how the (fixed income) world has changed, the biggest hit came when the 10-year Treasury moved above the 1.5% mark on Thursday. It actually settled back down to 1.415% by Friday's close, but the rapid upward move spooked investors who are banking on ultra-low rates supporting further advances in the market. Even talk of another $1.9 trillion in government "stimulus" couldn't help—the NASDAQ was off just shy of 5% for the week, followed by the S&P 500 (-2.46%), and the Dow (-1.78%).
Nonetheless, the Dow closed out February with a healthy gain (3.17%), followed by the S&P 500 (2.61%), and the NASDAQ (0.93%). This is a far cry from one year ago as the new reality of the pandemic began to take hold. In February of 2020, the Dow was down 10.08%. Of course, those losses were nothing compared to what would follow in March. We never really know what's ahead, but it feels a lot better watching the effective Pfizer, Moderna, and (starting next week) Johnson & Johnson vaccines begin to eradicate this terrible virus than it did a year ago, facing insane toilet paper shortages and spiking hospitalization rates. If our biggest concern becomes a rising 10-year, then we really don't have much to complain about. One of these days, the realization that we now have a $30 trillion national debt will creep into our psyche, but let's focus on getting rid of the masks first.
Personally speaking, our biggest concern is actually not the rising 10-year; it is the madness going on with a bunch of stocks that couldn't turn a profit if their corporate lives depended on it. When falling confetti on an iPhone screen is all it takes to lure someone into buying an overpriced dog, something wicked this way comes. Yet another reason we are tilting toward the low-multiple, deep value names this year.
Under the Radar Investment
01. United Security Bancshares
Headquartered in Fresno, United Security Bancshares (UBFO $7) was formed in 2001 as a bank holding company to provide commercial banking services through its wholly-owned subsidiary, United Security Bank. The company's two primary sources of revenue are interest income from outstanding loans, and investment securities. With a p/e ratio of 14, UBFO has annual operating revenues of $37 million, and net income of $9 million (2020 full-year figures). The company has a cash dividend payout ratio of 60% and a dividend yield of $5.91%. As rates begin to creep higher, we are becoming more bullish on the financial sector, especially the regional banks with sound balance sheets.
Answer
Going back to 1950, only three months have resulted in negative average returns for the S&P 500: February, August, and September. Over that span of time, September has been the bleakest month, averaging a -0.62% return for the benchmark index.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The three worst months...
Going back to 1950, only three months of the year have averaged negative returns for the S&P 500. What are they, and which month is historically the worst?
Penn Trading Desk:
Penn: Open a "new energy" ETF in the New Frontier Fund
We are extremely bullish on the future of renewable energy, especially as it is virtually being mandated by governments around the world. It is a tricky area for investors to navigate, which is why we just added a new ETF to the Penn New Frontier Fund that invests equally in all five areas of this dynamic field: e-mobility, energy storage, performance materials, energy distribution, and energy generation. To see the specific action, Members can log into the Penn Trading Desk.
America is (finally) attempting a comeback in the rare earth arena; we opened a position in the company at the center of the battle
We have discussed, ad nauseam, how America willingly turned over the role of dominant rare earth miner to China, despite the national security risk of doing so. Now, one company plans to restore order in this critical corner of the market, and we have added that company to the Intrepid Trading Platform. Members, see the Penn Trading Desk.
Penn: Open Mid-Cap Gold and Silver Miner in Penn Global Leaders Club
We remain bullish on gold going forward, especially considering the world's perpetually-running currency printing presses. We are very bullish on silver for more industrial reasons. With that in mind, we acquired a Canadian mid-cap gold and silver miner with 30 million ounces of proven/probable gold reserves, and 60 million ounces of proven/probable silver reserves. Our first target price is 53% above the company's current price. Members, see the Penn Trading Desk.
Penn: Closed Aphria in Intrepid after massive run-up
We purchased Canadian pot stock Aphria for $4.63 on 13 Aug 2020 in large part because Irwin Simon took over as CEO. While we expected a longer hold time, the massive run-up in price couldn’t be ignored. We took our 440%, short-term gain, stopping out at $25 per share.
Wedbush: Raise price target on Microsoft
Analysts at Wedbush have raised their price target on Microsoft (MSFT $243) from $285 to $300, maintaining their Outperform rating. They argue that the tide is shifting in the cloud arms race—away from Amazon (AMZN) Web Services and towards Microsoft. We agree.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Transportation Infrastructure
10. Uber jumps on news it is buying booze delivery company Drizly
Approximately 22% of ride-sharing platform Uber's (UBER $57) revenue emanates from food and drink delivery, with its Uber Eats division lagging well behind the likes of DoorDash, Postmates, and Grubhub. The company is making an aggressive move to change that with its $1.1 billion purchase of Drizly, a services firm which currently offers beer, wine, and hard liquor deliveries in over 1,400 cities. The deal will be funded with a mix of Uber stock (90%) and cash (10%), and is expected to close in the first of of this year. While Uber will maintain a separate Drizly app for customers, it will integrate the Drizly marketplace into its existing Uber Eats app. Uber shares were up 7% on the day of the announcement.
This was a smart move, and we continue to see Uber as the dominant player in the industry. That being said, the company lost $7 billion on $12.8 billion in revenues over the trailing twelve months, with the pandemic doing immense harm to its business model. We see UBER shares fairly priced around $60, just $3 above where they currently sit.
Biotechnology
09. Jazz Pharmaceuticals PLC to acquire medical cannabis company GW Pharma for $7B
Jazz Pharmaceuticals (JAZZ $150) is an $8 billion biotech focused in the neurosciences, including sleep disorders, and oncology, including hematologic and solid tumors. The company has a solid and growing revenue stream, and positive net income going back ten years—no small feat for a mid-cap biotech. GW Pharmaceuticals PLC (GWPH $214) is a $6.7 billion biopharma company which develops and markets cannabis-based therapies, such as the first epilepsy drug derived from the marijuana plant. This past week, the Ireland-based Jazz announced it would be acquiring the UK-based GW for approximately $7 billion in a mix of cash, debt, and newly-issued Jazz stock. This is a bold move for the company, considering the deal is worth about 90% of its own market cap and that GW hasn't turned a profit since 2012, but management believes that GW's Epidiolex drug for the treatment of epilepsy will be a billion-dollar blockbuster. Shares of Jazz were trading off about 8% on the news, while the deal sent GW Pharma shares soaring nearly 45% based on the premium paid for the acquisition.
It's a bold bet, but one we like—a lot. The drop in price of JAZZ shares makes the stock even more attractive. In a crazy market where investors are bidding up to buy companies which have never turned a profit, here is a company with explosive potential that has operated in the black for a decade.
Behavioral Finance
08. Sticking it to the man? Koss family cashes in as Reddit army targets the shorts
Readers may be vaguely familiar with the name Koss, but certainly not to the same extent as Bose, Beats, or Sony. To say the Wisconsin-based headphone maker was struggling is an understatement. In fact, going into this year the company was worth about $20 million—the most micro of micro-caps. Then the Reddit army discovered how many short sellers were betting on the company to fail, and sprang into action. Despite minuscule sales and a dearth of profits, they jacked the shares up from around $3 in early January to an intra-day high exceeding $120 per share on the 28th of the month. Corporate executives and the Koss family, which together control 75% of the shares, also sprang into action: they sold $44 million worth of shares of a company that had a market cap of $20 million going into the year. Who can blame them? When you know your company is worth about $3 per share and a group of retail investors suddenly make it worth 40 times that amount, why not rake in the dough? SEC filings show these insiders sold between approximately $20 and $60 per share. Among the family, president and CEO Michael Koss sold around $13 million worth of stock, while John Koss Jr., vice president of sales, sold almost exactly the same amount. The company had a short interest of around 35% before the madness began, putting it on the Reddit army's radar. Shares have since fallen back to $20, only about four times what we value them being worth.
Who knows, maybe the insiders sold the shares to raise cash for a new strategic push, though we doubt it. In the meantime, we would like to meet the "investors" who bought into a company with horrendous fundamentals while the share price was between $100 and $120. We would like to simply ask them "why?"
Cryptocurrencies
07. Tesla shifts $1.5 billion of its cash reserve to Bitcoin, will accept the crypto as a payment source soon
Going into the new year, $800 billion EV juggernaut Tesla (TSLA $854) had about $19 billion sitting in cash reserves. In a move that GM or Ford would never consider making, the firm revealed—via an SEC filing—that it has placed about $1.5 billion of that amount, or roughly 8%, in the cryptocurrency Bitcoin. Let there be no doubt, Bitcoin is not a currency; rather, it is a commodity. Forget the comparisons to the US dollar, compare it to gold or silver instead. The dollar is worth a dollar today, yesterday, and (hopefully) tomorrow. Certainly, its value will fluctuate, but it will not go up 60% in one month like Bitcoin has. Governments can print currencies 24/7, effectively reducing their value, but only 21 million bitcoins can be mined—and 18.6 million digital coins already exist. So, is there anything wrong with Tesla's cash management experts shifting 8% of the company's reserves into the commodity? We don't believe so. After all, they could also buy (based on their SEC filings) gold or silver as a store of cash. Given Elon Musk's belief in the future of cryptos, the move shouldn't be surprising. Furthermore, investors applauded the move: both Bitcoin and TSLA were trading higher following the announcement. The company also announced plans to accept Bitcoin as a means of payment in the near future.
We were true Bitcoin skeptics at first, but as soon as big payment processors like PayPal and Venmo got in the game, and as soon as we started looking a the non-physical product as a commodity rather than a currency, we warmed up to the crypto. Our biggest concern is this: Although only 21 million bitcoins will be mined, nothing will stop new, competing cryptocurrencies from being "discovered" in the digital world.
Maritime Shipping & Ports
06. Our maritime shipper spikes on the growing concern over container shortage
For anyone who believes that America, or the world in general, is ready to stand up to China's trade practices, try this one on for size: the communist nation ended 2020 with a record trade surplus. The demand for Chinese goods is now so great that the world is facing a shipping container crisis. Just how bad is it? Because the shippers can make so much more money on the goods leaving China as opposed to the goods entering the country—like grain from the United States—they are literally rushing back empty containers to China to alleviate the backlog of goods waiting at Chinese ports. Spot freight rates are up nearly 300% from a year ago. While that is a sick testament to the state of global trade, one industry is certainly reaping the rewards: the maritime shippers which had been crushed during the trade war and subsequent pandemic. We have been fascinated by this highly-cyclical industry for decades, and when one of our favorites, Nordic American Tankers (NAT $4), saw its share price drop to $2.80 this past October, we jumped in, adding the Bermuda-based shipper to the Penn Intrepid Trading Platform. NAT jumped 14% in one day on news of the container shortage. Think the run will be short-lived or that the shippers are now overvalued? Take a look at the accompanying chart on NAT. Despite the fact that there are nearly 200 million intermodal freight containers around the world, the rapid increase in demand caught nearly everyone off guard. Ready for the icing on the cake? 97% of these containers are now made in, you guessed it, China.
For a brief refresher on the shipping industry, visit our 2018 Penn Wealth Report story on The State of Global Shipping. We see the upswing continuing to gain momentum as global economies revive.
Global Health Threats
05. Hackers tried to poison the water supply of a small Florida town; is this the beginning of a new global health threat?*
Two days before the Super Bowl, in the Tampa suburb of Oldsmar, a technician at the Haddock Water Treatment Plant noticed something odd: the cursor was moving across his computer screen while his mouse sat idle. At first he assumed his supervisor was remotely logged in and simply checking out the systems of the plant, which provides drinking water to 15,000 local residents. His curiosity changed to panic when, a few hours later, the mysterious cursor began adjusting the level of chemicals being added to the water supply. Specifically, the level of sodium hydroxide (caustic soda) was being moved from the ordinary setting of 100 parts per million (ppm) to 11,100 ppm. At low levels, sodium hydroxide regulates PH levels; at high levels, it will damage human tissue. Officials at the plant quickly adjusted the settings back to normal, and they pointed out that PH testing mechanisms would have caught the problem before any contaminated water ever got to the taps, but does that make anyone feel at ease? The attack on the Oldsmar plant is eerily similar to a number of 2020 attacks on Israel's water supply, almost certainly the work of Iranian hackers. A disturbing new threat appears to be emerging; and, with over 100,000 water treatment facilities in the US, it is a threat which cannot be ignored.
In the next issue of The Penn Wealth Report, we will take a look at the threat to America's water supply and how we can prepare for an attack; we also take a look at some viable investment choices in the water utilities sector.
Aerospace & Defense
04. The weekend engine failure points to Raytheon's Pratt & Whitney unit, but we still point a finger at Boeing
It was the last thing Boeing (BA $212) needed (how many times have we said that over the past three years?): A Boeing 777, leaving Denver for Hawaii, had one of its two engines suffer an "uncontained failure," with fire and smoke visible to passengers, and with debris dropping down on a Denver suburb. Thankfully, the aircraft was able to make it back to the airport on one good engine and with no passenger injuries—unlike a very similar incident in 2018 which involved the death of a passenger following engine debris striking a window. That incident occurred just two months after a United Airlines 777 suffered engine failure, with a cracked fan blade forcing the aircraft to make an emergency landing in Honolulu. This is an extremely disturbing trend, and one which certainly places Raytheon's (RTX $73) Pratt & Whitney unit in the hot seat. But aircraft maker Boeing shares some blame, as problems continue to mount for the Chicago-based firm. First there were the deadly 737 crashes which grounded the fleet for the better part of two years. Then came the 787 Dreamliner "design flaws" and canceled orders. Now the 777 faces grounding in the US—and probably around the world. And the situation isn't looking much better on the space side of the business, with the company's problem-laden Starliner capsule and its high profile recent failures. In each case, Boeing can point fingers at suppliers or partners, but there is a point at which all fingers will point back to them. A sad state of affairs for a formerly-great American company.
The entire Boeing board of directors, along with its C-suite executives, should be broomed. The company needs a clean sweep if it has any chance of returning to its position of aerospace and defense dominance. Unfortunately, the very individuals which need to be fired are all part of the mutual admiration society which controls the decisions on leadership. If ever a company needed an aggressive activist investor to come along and force change, it is right now, and it is at Boeing. Even then, the company's downward flight path may be too steep to pull out of.
Automobiles
03. Investor darling Workhorse has its shares cut in half after losing USPS contract
It has been one of those "new investor" cult stocks with one of the key buzz phrases, or acronym in this case, that the new wave of retail money flocks to: EV. The company is Workhorse (WKHS $16), which has seen its stock price go from $2 per share a year ago to $43 per share a few weeks ago—all on the back of microscopic revenues and chronic annual losses. The financials didn't matter; pie-in-the-sky promises were enough to bring money flooding into the stock. The latest promise was the imminent contract by the United States Postal Service to replace its fleet of 150,000+ outdated vehicles. To Workhorse devotees, it was a foregone conclusion that their company would be the recipient. When the contract was awarded to the defense unit of $8 billion industrial firm Oshkosh (OSK $117), WKHS shares nosedived more than 50% in one day. The drop was so rapid that any stop order to protect gains would have been essentially worthless: investors would have been stopped-out at the bottom.
There are some great lessons in this story. Investors need to understand what they are buying, and they need do have at least some inkling as to a company's fundamentals. Forget the fact that Workhorse had never turned an annual profit, how about the fact that they were barely generating sales? As for "boring" old Oshkosh, the company has a pristine balance sheet and generates solid revenues—and profits—year after year. But who wants boring?
Anyone willing to take a little time to do some basic research can be greatly rewarded by the flow of "dumb money" right now. Don't get caught up in the hype and follow the lemmings off the cliff; use their moves to help uncover the value plays present in the market.
Market Pulse
02. Despite a bruising few weeks, February was a winner in the markets
It may be hard to believe based on the past two weeks, but equities actually hammered out a win in February. Not so for the week: each of the major benchmarks fell on the specter of rising rates. In a sign of just how the (fixed income) world has changed, the biggest hit came when the 10-year Treasury moved above the 1.5% mark on Thursday. It actually settled back down to 1.415% by Friday's close, but the rapid upward move spooked investors who are banking on ultra-low rates supporting further advances in the market. Even talk of another $1.9 trillion in government "stimulus" couldn't help—the NASDAQ was off just shy of 5% for the week, followed by the S&P 500 (-2.46%), and the Dow (-1.78%).
Nonetheless, the Dow closed out February with a healthy gain (3.17%), followed by the S&P 500 (2.61%), and the NASDAQ (0.93%). This is a far cry from one year ago as the new reality of the pandemic began to take hold. In February of 2020, the Dow was down 10.08%. Of course, those losses were nothing compared to what would follow in March. We never really know what's ahead, but it feels a lot better watching the effective Pfizer, Moderna, and (starting next week) Johnson & Johnson vaccines begin to eradicate this terrible virus than it did a year ago, facing insane toilet paper shortages and spiking hospitalization rates. If our biggest concern becomes a rising 10-year, then we really don't have much to complain about. One of these days, the realization that we now have a $30 trillion national debt will creep into our psyche, but let's focus on getting rid of the masks first.
Personally speaking, our biggest concern is actually not the rising 10-year; it is the madness going on with a bunch of stocks that couldn't turn a profit if their corporate lives depended on it. When falling confetti on an iPhone screen is all it takes to lure someone into buying an overpriced dog, something wicked this way comes. Yet another reason we are tilting toward the low-multiple, deep value names this year.
Under the Radar Investment
01. United Security Bancshares
Headquartered in Fresno, United Security Bancshares (UBFO $7) was formed in 2001 as a bank holding company to provide commercial banking services through its wholly-owned subsidiary, United Security Bank. The company's two primary sources of revenue are interest income from outstanding loans, and investment securities. With a p/e ratio of 14, UBFO has annual operating revenues of $37 million, and net income of $9 million (2020 full-year figures). The company has a cash dividend payout ratio of 60% and a dividend yield of $5.91%. As rates begin to creep higher, we are becoming more bullish on the financial sector, especially the regional banks with sound balance sheets.
Answer
Going back to 1950, only three months have resulted in negative average returns for the S&P 500: February, August, and September. Over that span of time, September has been the bleakest month, averaging a -0.62% return for the benchmark index.
Headlines for the Week of 24 Jan—30 Jan 2021
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The dot-com bubble...
The proliferation of personal computers in the mid-1990s and the unprecedented growth of the Internet thanks to new web browsers led to millions of Americans having access to stock market trading platforms. Wishing to take advantage of the technology of the "New Economy," they piled into dot-com stocks with no earnings but stratospheric promises. How much did the Nasdaq Composite, which housed these new companies, go up between January of 1995 and March of 2000, and how much did the index fall between March of 2000 and the end of 2002?
Penn Trading Desk:
Opened Infrastructure Play in the Penn Dynamic Growth Strategy
Massive infrastructure spending over the next two years is now all but guaranteed. Fortuitously, we found an investment that should not only take advantage of this condition, but also contains a number of our best small- and mid-cap industrial ideas—one of our overweight sectors for the year ahead. See the new position in our ETF portfolio, the Penn Dynamic Growth Strategy.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Biotechnology
10. One disappointing clinical trial highlights the risks of biotech investing
Going into the new year, Serepta Therapeutics (SRPT $87) was a $14 billion biotech darling trading around $180 per share. With a pipeline of 40 or so therapies in various stages of development, the company is a holding in a number of top biotech funds. Then came disappointing—not disastrous—clinical trial data for SRP-9001, an experimental gene therapy for Duchenne muscular dystrophy (DMD), a genetic disorder that progressively weakens the muscles of children—generally boys, with symptoms usually appearing before age five. One might expect a small pullback in the share price from the news; instead, SRPT shares plunged over 50% in one session. It should be noted that Sarepta markets and sells two other DMD treatments which are unaffected by the SRP-9001 trial, and remains the only company with approved treatments for certain DMD patients. One noted biotech analyst lowered his price target for SRPT shares from $200 to $143, but maintained his Outperform rating on the company. Another investment firm we track places a fair value of $357 on the shares. The company, which saw a meteoric rise in sales from $5 million in 2016 to $500 million TTM, has yet to turn a quarterly profit. While a lack of income is not uncommon for early-stage biotechs, this case does point to the need for investors to perform their own fundamental research rather than relying on the number of stars in a stock report or an analyst's lofty price targets.
One of the many screeners we use is designed to highlight stocks with certain characteristics which have sudden drops in share price. This has been a great contrarian tool for identifying sound companies at undervalued prices. A big price drop, however, must be accompanied by a number of positive attributes which portray a good buying opportunity. Those attributes are not in place with Sarepta, at least based on the metrics in our screener. If an investor does not wish to perform the research, the best way to take advantage of a promising industry is through a thematic or industry-specific ETF. For biotechs, we use the SPDR S&P Biotech ETF (XBI $147), which is one of the 21 holdings in the Penn Dynamic Growth Strategy.
Risk Management
09. Shades of '99: An Elon Musk tweet about one company leads to a 6,450% gain in another
On the 6th of January, Signal Advance (SIGL $39) was a $6 million micro-cap consulting firm for emerging technologies. Putting its size in perspective, it would need to grow by about 50 times to be considered a small-cap. The company has never turned a profit, and there is nothing to indicate that it ever will. An investor would have to have a screw loose to place even the smallest amount of money in SIGL shares. And then came Elon Musk’s tweet. The tweet was succinct: “Use Signal.” Musk was talking about a cross-platform encrypted messaging service he uses. Unfortunately, a certain group of gamers decided that Musk was talking about Signal Advance, and they began gobbling up SIGL shares on their Robinhood or other trading apps, driving the price from $0.60 to $38.70 per share in the matter of two trading days. Signal, the app company, is a privately-held entity. Not one modicum of rational thought or the most basic of research, just jump in like Pac Man gobbling up ghosts. It must be nice having money to throw into the abyss.
The reckoning is coming, and the laziest of investors will pay the biggest price. Back in 1999, we remember getting calls about a tech company named InfoSpace (INSP at the time). The company is still around, though now under the name Blucora (BCOR). It would be an enlightening exercise to check out a long-term chart of those shares.
Semiconductors
08. Intel hires a wonkish tech guy as the company's new CEO...and the move was a brilliant one
For at least the past year we have been hearing about Intel's (INTC $59) imminent demise, and for at least the past year we have poked holes in that narrative. In fact, we have said that Intel is one of the unloved, undervalued darlings ready to take off in 2021. In the most recent move supporting our premise (besides the impressive jump in the share price year-to-date), the company has announced that CEO Bob Swan would be replaced next month by wonkish tech veteran Pat Gelsinger. Gelsinger, considered a brilliant semiconductor engineer, is currently the CEO of VMware (VMW $133), and the perfect fit for Intel going forward. Somewhat ironically, Gelsinger left Intel eleven years ago when it became clear that he would not be tapped for the lead role at the company; Brian Krzanich ultimately got that spot. When Bob Swan replaced Krzanich in 2019, pundits were worried. Swan was a financials guy, not the tech guru the company needed to pull itself out of a nosedive. But analysts are singing a different tune this time, with some even comparing Gelsinger's return to Intel with Steve Jobs' return to Apple. That comparison comes with some stratospheric expectations, but we believe the move will at least be comparable to Microsoft's hiring of Satya Nadella in 2014; and that would be good enough for us.
Not everyone is convinced that this move can turn the giant battleship around, especially with the likes of NVIDIA (NVDA) and Advanced Micro Devices (AMD) snatching up market share. We point to the difference in multiples, however (INTC's 11 vs NVDA's 88 and AMD's 123), and remain faithful to the notion that Intel will gain the most ground (among these three) in 2021.
Automotive
07. After a century of operations in the country, Ford will close its Brazil plants, taking $4.1 billion in charges
There are a lot of moving parts at Ford right now, but the jury is still out on whether those machinations will create something bold, new, and profitable, or simply offer up new opportunities for massive breakdowns. The latest twist in the company's $11 billion turnaround effort, put in motion by former (and lackluster) CEO Jim Hackett, is the closure of its three assembly line plants in Brazil—ending a century of operations in the country. The move earned some rather acrimonious comments from Brazilian President Jair Bolsonaro—whom we have a lot of respect for—but the 5,000 unionized workers at the three plants have been turning out a paltry number of new vehicles per year, with the company netting a loss of $700 million in South America in 2019, and nearly $400 million through the first three quarters of 2020. The company will take a write-down of $4.1 billion related to the closures, mostly to give the workers a severance package. While we don't know what that will look like, the company offered workers at its shuttered plant in Russia the equivalent of one-year's salary, though it is unclear whether or not the Brazilian workers' union will accept the terms. Ford claims it is ready to embrace the future of electric and autonomous vehicles, but that is what we were told when Hackett, who headed up the firm's Smart Mobility unit, took the top spot in 2017. What a disappointment his tenure turned out to be. Jim Farley took over for Hackett this past October, but readily embraced his predecessor's turnaround plan. We're not sure what will be different with the automaker under new management.
Pardon us if we don't buy what Ford management is trying to sell us; we have been here before with this company, and have heard the same tired lines. We used to at least get a big fat dividend yield for buying shares in the company, but those were suspended last March.
IT Software & Services
06. Palantir spikes on news of its partnership with PG&E to help manage California's electric grid
We bought data mining firm Palantir (PLTR $27) on IPO day as a long-term investment, not a short-term trade. To the chagrin of the short-sellers and naysayers, that investment continues to grow. One of the knocks we have heard leveled at the company is that they rely too heavily on too few major clients for a bulk of their revenues. Lose any of these government agencies or corporate clients, the story goes, and the company is in dire straits. We see just the opposite happening: Palantir will continue to widen out its customer base, attracting new companies across a wide array of industries and market caps with its incredibly powerful, outcome-driven software platform; a platform which sifts through enormous amounts of raw data and produces actionable information. Case in point, the Denver-based firm (they moved out of California late last year) just inked a deal with regulated California utilities provider PG&E (PCG $12), the company at the epicenter of the fire-induced outages plaguing the state over the past few years. The goal is straightforward: enhance the safety and reliability of California's power grid. Palantir's Foundry software platform will allow managers at the utility, which provides power to 5.3 million California households, the ability to view and navigate a real-time visual of the power grid, enabling them to act on a moment's notice. Fires sparked by PG&E's power lines have led to payouts for damages in excess of $25 billion over the past four years. Think PG&E didn't do its due diligence before hiring Palantir?
There are a lot of tech companies with valuations in the stratosphere; and there are a lot of tech companies which will come crashing back to earth this year. When the tech correction hits, PLTR shares will probably get caught in the crossfire, but we would probably view that as a great opportunity to add to our holding.
Aerospace & Defense
05. Just as the 737-MAX flies again, Boeing must contend with its trouble-laden space business
If it weren't for SpaceX's remarkable recent accomplishments, Boeing (BA $211) might have been able to quietly get away with its problem-plagued Space Launch System (SLS). Alas, not long after the failed test flight of its unmanned Starliner capsule, SpaceX had its own successful manned flight, with the Crew Dragon transporting astronauts into space from American soil for the first time since the final Space Shuttle launch in 2011. This past weekend, Boeing had a chance to redeem itself just a bit with the test firing of the engines on the SLS's core stage. The powerful engines were to remain ignited for eight minutes; instead, they shut down shortly after one minute. It's too early to tell what caused the malfunction, and it could certainly be a simple component failure, but for a program that is already far behind schedule and billions of dollars over budget, it is yet another black eye. Assuming the test had been successful, the core stage would have been prepped for delivery to the Kennedy Space Center for final assembly with the Lockheed Martin (LMT $342) Orion spacecraft, followed by another test flight to make up for the failed, December 2019 mission. Instead, Boeing faces more delays and more costly test firings.
In normal times, we would say that Boeing is a huge bargain at $211 per share, down from its March, 2019 high of $441 per share. Instead, the company seems fairly valued right where the shares sit. Investors can't even collect dividends while the company figures out its future—payouts were halted "until further notice" in the middle of last year. The investment is about as exciting as the Boeing management team is dynamic.
Pharmaceuticals
04. Lackluster Merck shuts down its Covid-19 vaccine effort
We are bullish on the Health Care sector in 2021, but we remain bearish on one particular drug giant: Merck (MRK $80). CEO Ken Frazier seems to be—in our opinion—a lackluster leader simply going along for the ride. The latest piece of evidence supporting our bearish stance came on Monday morning, when the $200 billion drug manufacturer announced it would be shutting down its Covid-19 vaccine effort due to poor trial results. The company said it will retool its vaccine manufacturing facilities to produce antiviral therapies for patients suffering from the disease, one of which could be available for use in the middle of the year—about the time the vaccines should be kicking in.
We look at Merck's drug pipeline and see a dearth of therapies in late-stage trials. While most analysts see MRK shares hitting $100 within the next twelve months, we see more growth opportunities in our Penn Global Leaders Club holdings: Pfizer (PFE), GlaxoSmithKline (GSK), and Bristol-Myers Squibb (BMY). We also hold a number of higher-risk biotechs in our Penn New Frontier Fund, to include Biomarin (BMRN), Vertex (VRTX), and Nektar Therapeutics (NKTR).
Hotels, Resorts, & Cruise Lines
03. Look who else is jumping ship from Carnival Cruise Lines: senior management
Admittedly, we have never liked Carnival Cruise Lines (CCL $19). With great cruise lines to choose from like Royal Caribbean (RCL) and Norwegian Cruise Line Holdings (NCLH), why would investors choose the K-Mart (simply our opinion) of operators? Even before the pandemic, the charts were reflecting our negative view of the company. Now, with CCL shares so cheap, wouldn't it be a great time for management to step up and buy shares in an effort to reaffirm their post-pandemic comeback plans? Apparently not. In the middle of January, CEO Arnold Donald sold 62,639 shares of his company at $21.12 per share, netting him a cool $1.3 million. On the same day, CFO David Bernstein shed 49,000 shares for a total of $1 million, and Arnaldo Perez, the company's general counsel, sold 14,215 shares for $300,000. No notable insider buying has taken place since the start of the year. When your CEO, CFO, and general counsel jump ship (or at least head for the nearest dinghy), it is hard to get too excited about the company's great comeback plan.
We use insider buying and selling transactions as one metric to gauge where a company is headed, and how much confidence management has in its own strategic plans. While we use Simply Wall Street to locate this information, investors can find it on any number of sites free of charge.
Market Risk Management
02. GameStop brouhaha helps drag the markets down for the week
There are so many moving parts with respect to the GameStop (GME $325) story, each one fascinating in its own right, that we need to focus on the issue in bite-sized pieces. The latest turn of events has to do with trading app Robinhood tapping into its $1 billion lifeline and putting its IPO on hold. In an effort to maximize potential revenue, especially since the firm's customers trade fee and commission free, Robinhood cut out the intermediary, acting as custodian for accountholder funds. Considering the massive amount of losses that could potentially pile up in trading the types of options offered on the platform, and because of recent volatility in the likes of GME, the Depository Trust & Clearing Corp (DTCC) and other clearinghouses raised their capital requirements, forcing Robinhood to scramble for the additional funding. A frustrated Vlad Tenev, CEO and founder of the platform, explained that compliance with the firm's financial obligations was not open for negotiation, leading to the decision to limit trading on fifty stocks (as of Friday afternoon). This angered everyone, from the Reddit army responsible for going after the short sellers to the likes of AOC and Ted Cruz on Capitol Hill—the unlikeliest of allies on any issue. We actually feel kind of bad for Robinhood, which quickly turned from hero to villain. As for the GameStop trading—the irrationality that drove a stock worth about $10 up to $483 in a matter of a few weeks, it helped the market turn negative for the week, the month, and (hence) the year.
Our biggest fear is not spillover into the broader markets, it is how the ham-handed government will decide to regulate the actors, which really means regulating the rest of us innocent bystanders. In the next issue of The Penn Wealth Report we will take an in-depth look at how the GameStop story began, and where it will almost certainly end.
Under the Radar Investment
01. Under the Radar: Air Water Inc
Air Water Inc (AWTRF $15) is a Japanese-based mid-cap ($3.3 billion) specialty chemicals company founded in 1929. The firm manufactures and sells a variety of chemical-based products and operates in five segments: industrial gas, chemicals, medical gases, and agricultural/food products. This under-the-radar gem has a tiny five-year beta of 0.14, a P/E ratio of 12, and a 3% dividend yield. In fiscal 2020, the firm generated $7.4 billion in revenues and $268 million in profits. A cash cow in a steady industry, it hasn't had an unprofitable year for as far back as the eye can see.
Answer
Between 01 January 1995 and 10 March 2000, the Nasdaq Composite soared 571%. Between March of 2000 and October of 2002, it had fallen 78%. It wasn't until April of 2015 that the index regained its former high. Fifteen years from peak to peak.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The dot-com bubble...
The proliferation of personal computers in the mid-1990s and the unprecedented growth of the Internet thanks to new web browsers led to millions of Americans having access to stock market trading platforms. Wishing to take advantage of the technology of the "New Economy," they piled into dot-com stocks with no earnings but stratospheric promises. How much did the Nasdaq Composite, which housed these new companies, go up between January of 1995 and March of 2000, and how much did the index fall between March of 2000 and the end of 2002?
Penn Trading Desk:
Opened Infrastructure Play in the Penn Dynamic Growth Strategy
Massive infrastructure spending over the next two years is now all but guaranteed. Fortuitously, we found an investment that should not only take advantage of this condition, but also contains a number of our best small- and mid-cap industrial ideas—one of our overweight sectors for the year ahead. See the new position in our ETF portfolio, the Penn Dynamic Growth Strategy.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Biotechnology
10. One disappointing clinical trial highlights the risks of biotech investing
Going into the new year, Serepta Therapeutics (SRPT $87) was a $14 billion biotech darling trading around $180 per share. With a pipeline of 40 or so therapies in various stages of development, the company is a holding in a number of top biotech funds. Then came disappointing—not disastrous—clinical trial data for SRP-9001, an experimental gene therapy for Duchenne muscular dystrophy (DMD), a genetic disorder that progressively weakens the muscles of children—generally boys, with symptoms usually appearing before age five. One might expect a small pullback in the share price from the news; instead, SRPT shares plunged over 50% in one session. It should be noted that Sarepta markets and sells two other DMD treatments which are unaffected by the SRP-9001 trial, and remains the only company with approved treatments for certain DMD patients. One noted biotech analyst lowered his price target for SRPT shares from $200 to $143, but maintained his Outperform rating on the company. Another investment firm we track places a fair value of $357 on the shares. The company, which saw a meteoric rise in sales from $5 million in 2016 to $500 million TTM, has yet to turn a quarterly profit. While a lack of income is not uncommon for early-stage biotechs, this case does point to the need for investors to perform their own fundamental research rather than relying on the number of stars in a stock report or an analyst's lofty price targets.
One of the many screeners we use is designed to highlight stocks with certain characteristics which have sudden drops in share price. This has been a great contrarian tool for identifying sound companies at undervalued prices. A big price drop, however, must be accompanied by a number of positive attributes which portray a good buying opportunity. Those attributes are not in place with Sarepta, at least based on the metrics in our screener. If an investor does not wish to perform the research, the best way to take advantage of a promising industry is through a thematic or industry-specific ETF. For biotechs, we use the SPDR S&P Biotech ETF (XBI $147), which is one of the 21 holdings in the Penn Dynamic Growth Strategy.
Risk Management
09. Shades of '99: An Elon Musk tweet about one company leads to a 6,450% gain in another
On the 6th of January, Signal Advance (SIGL $39) was a $6 million micro-cap consulting firm for emerging technologies. Putting its size in perspective, it would need to grow by about 50 times to be considered a small-cap. The company has never turned a profit, and there is nothing to indicate that it ever will. An investor would have to have a screw loose to place even the smallest amount of money in SIGL shares. And then came Elon Musk’s tweet. The tweet was succinct: “Use Signal.” Musk was talking about a cross-platform encrypted messaging service he uses. Unfortunately, a certain group of gamers decided that Musk was talking about Signal Advance, and they began gobbling up SIGL shares on their Robinhood or other trading apps, driving the price from $0.60 to $38.70 per share in the matter of two trading days. Signal, the app company, is a privately-held entity. Not one modicum of rational thought or the most basic of research, just jump in like Pac Man gobbling up ghosts. It must be nice having money to throw into the abyss.
The reckoning is coming, and the laziest of investors will pay the biggest price. Back in 1999, we remember getting calls about a tech company named InfoSpace (INSP at the time). The company is still around, though now under the name Blucora (BCOR). It would be an enlightening exercise to check out a long-term chart of those shares.
Semiconductors
08. Intel hires a wonkish tech guy as the company's new CEO...and the move was a brilliant one
For at least the past year we have been hearing about Intel's (INTC $59) imminent demise, and for at least the past year we have poked holes in that narrative. In fact, we have said that Intel is one of the unloved, undervalued darlings ready to take off in 2021. In the most recent move supporting our premise (besides the impressive jump in the share price year-to-date), the company has announced that CEO Bob Swan would be replaced next month by wonkish tech veteran Pat Gelsinger. Gelsinger, considered a brilliant semiconductor engineer, is currently the CEO of VMware (VMW $133), and the perfect fit for Intel going forward. Somewhat ironically, Gelsinger left Intel eleven years ago when it became clear that he would not be tapped for the lead role at the company; Brian Krzanich ultimately got that spot. When Bob Swan replaced Krzanich in 2019, pundits were worried. Swan was a financials guy, not the tech guru the company needed to pull itself out of a nosedive. But analysts are singing a different tune this time, with some even comparing Gelsinger's return to Intel with Steve Jobs' return to Apple. That comparison comes with some stratospheric expectations, but we believe the move will at least be comparable to Microsoft's hiring of Satya Nadella in 2014; and that would be good enough for us.
Not everyone is convinced that this move can turn the giant battleship around, especially with the likes of NVIDIA (NVDA) and Advanced Micro Devices (AMD) snatching up market share. We point to the difference in multiples, however (INTC's 11 vs NVDA's 88 and AMD's 123), and remain faithful to the notion that Intel will gain the most ground (among these three) in 2021.
Automotive
07. After a century of operations in the country, Ford will close its Brazil plants, taking $4.1 billion in charges
There are a lot of moving parts at Ford right now, but the jury is still out on whether those machinations will create something bold, new, and profitable, or simply offer up new opportunities for massive breakdowns. The latest twist in the company's $11 billion turnaround effort, put in motion by former (and lackluster) CEO Jim Hackett, is the closure of its three assembly line plants in Brazil—ending a century of operations in the country. The move earned some rather acrimonious comments from Brazilian President Jair Bolsonaro—whom we have a lot of respect for—but the 5,000 unionized workers at the three plants have been turning out a paltry number of new vehicles per year, with the company netting a loss of $700 million in South America in 2019, and nearly $400 million through the first three quarters of 2020. The company will take a write-down of $4.1 billion related to the closures, mostly to give the workers a severance package. While we don't know what that will look like, the company offered workers at its shuttered plant in Russia the equivalent of one-year's salary, though it is unclear whether or not the Brazilian workers' union will accept the terms. Ford claims it is ready to embrace the future of electric and autonomous vehicles, but that is what we were told when Hackett, who headed up the firm's Smart Mobility unit, took the top spot in 2017. What a disappointment his tenure turned out to be. Jim Farley took over for Hackett this past October, but readily embraced his predecessor's turnaround plan. We're not sure what will be different with the automaker under new management.
Pardon us if we don't buy what Ford management is trying to sell us; we have been here before with this company, and have heard the same tired lines. We used to at least get a big fat dividend yield for buying shares in the company, but those were suspended last March.
IT Software & Services
06. Palantir spikes on news of its partnership with PG&E to help manage California's electric grid
We bought data mining firm Palantir (PLTR $27) on IPO day as a long-term investment, not a short-term trade. To the chagrin of the short-sellers and naysayers, that investment continues to grow. One of the knocks we have heard leveled at the company is that they rely too heavily on too few major clients for a bulk of their revenues. Lose any of these government agencies or corporate clients, the story goes, and the company is in dire straits. We see just the opposite happening: Palantir will continue to widen out its customer base, attracting new companies across a wide array of industries and market caps with its incredibly powerful, outcome-driven software platform; a platform which sifts through enormous amounts of raw data and produces actionable information. Case in point, the Denver-based firm (they moved out of California late last year) just inked a deal with regulated California utilities provider PG&E (PCG $12), the company at the epicenter of the fire-induced outages plaguing the state over the past few years. The goal is straightforward: enhance the safety and reliability of California's power grid. Palantir's Foundry software platform will allow managers at the utility, which provides power to 5.3 million California households, the ability to view and navigate a real-time visual of the power grid, enabling them to act on a moment's notice. Fires sparked by PG&E's power lines have led to payouts for damages in excess of $25 billion over the past four years. Think PG&E didn't do its due diligence before hiring Palantir?
There are a lot of tech companies with valuations in the stratosphere; and there are a lot of tech companies which will come crashing back to earth this year. When the tech correction hits, PLTR shares will probably get caught in the crossfire, but we would probably view that as a great opportunity to add to our holding.
Aerospace & Defense
05. Just as the 737-MAX flies again, Boeing must contend with its trouble-laden space business
If it weren't for SpaceX's remarkable recent accomplishments, Boeing (BA $211) might have been able to quietly get away with its problem-plagued Space Launch System (SLS). Alas, not long after the failed test flight of its unmanned Starliner capsule, SpaceX had its own successful manned flight, with the Crew Dragon transporting astronauts into space from American soil for the first time since the final Space Shuttle launch in 2011. This past weekend, Boeing had a chance to redeem itself just a bit with the test firing of the engines on the SLS's core stage. The powerful engines were to remain ignited for eight minutes; instead, they shut down shortly after one minute. It's too early to tell what caused the malfunction, and it could certainly be a simple component failure, but for a program that is already far behind schedule and billions of dollars over budget, it is yet another black eye. Assuming the test had been successful, the core stage would have been prepped for delivery to the Kennedy Space Center for final assembly with the Lockheed Martin (LMT $342) Orion spacecraft, followed by another test flight to make up for the failed, December 2019 mission. Instead, Boeing faces more delays and more costly test firings.
In normal times, we would say that Boeing is a huge bargain at $211 per share, down from its March, 2019 high of $441 per share. Instead, the company seems fairly valued right where the shares sit. Investors can't even collect dividends while the company figures out its future—payouts were halted "until further notice" in the middle of last year. The investment is about as exciting as the Boeing management team is dynamic.
Pharmaceuticals
04. Lackluster Merck shuts down its Covid-19 vaccine effort
We are bullish on the Health Care sector in 2021, but we remain bearish on one particular drug giant: Merck (MRK $80). CEO Ken Frazier seems to be—in our opinion—a lackluster leader simply going along for the ride. The latest piece of evidence supporting our bearish stance came on Monday morning, when the $200 billion drug manufacturer announced it would be shutting down its Covid-19 vaccine effort due to poor trial results. The company said it will retool its vaccine manufacturing facilities to produce antiviral therapies for patients suffering from the disease, one of which could be available for use in the middle of the year—about the time the vaccines should be kicking in.
We look at Merck's drug pipeline and see a dearth of therapies in late-stage trials. While most analysts see MRK shares hitting $100 within the next twelve months, we see more growth opportunities in our Penn Global Leaders Club holdings: Pfizer (PFE), GlaxoSmithKline (GSK), and Bristol-Myers Squibb (BMY). We also hold a number of higher-risk biotechs in our Penn New Frontier Fund, to include Biomarin (BMRN), Vertex (VRTX), and Nektar Therapeutics (NKTR).
Hotels, Resorts, & Cruise Lines
03. Look who else is jumping ship from Carnival Cruise Lines: senior management
Admittedly, we have never liked Carnival Cruise Lines (CCL $19). With great cruise lines to choose from like Royal Caribbean (RCL) and Norwegian Cruise Line Holdings (NCLH), why would investors choose the K-Mart (simply our opinion) of operators? Even before the pandemic, the charts were reflecting our negative view of the company. Now, with CCL shares so cheap, wouldn't it be a great time for management to step up and buy shares in an effort to reaffirm their post-pandemic comeback plans? Apparently not. In the middle of January, CEO Arnold Donald sold 62,639 shares of his company at $21.12 per share, netting him a cool $1.3 million. On the same day, CFO David Bernstein shed 49,000 shares for a total of $1 million, and Arnaldo Perez, the company's general counsel, sold 14,215 shares for $300,000. No notable insider buying has taken place since the start of the year. When your CEO, CFO, and general counsel jump ship (or at least head for the nearest dinghy), it is hard to get too excited about the company's great comeback plan.
We use insider buying and selling transactions as one metric to gauge where a company is headed, and how much confidence management has in its own strategic plans. While we use Simply Wall Street to locate this information, investors can find it on any number of sites free of charge.
Market Risk Management
02. GameStop brouhaha helps drag the markets down for the week
There are so many moving parts with respect to the GameStop (GME $325) story, each one fascinating in its own right, that we need to focus on the issue in bite-sized pieces. The latest turn of events has to do with trading app Robinhood tapping into its $1 billion lifeline and putting its IPO on hold. In an effort to maximize potential revenue, especially since the firm's customers trade fee and commission free, Robinhood cut out the intermediary, acting as custodian for accountholder funds. Considering the massive amount of losses that could potentially pile up in trading the types of options offered on the platform, and because of recent volatility in the likes of GME, the Depository Trust & Clearing Corp (DTCC) and other clearinghouses raised their capital requirements, forcing Robinhood to scramble for the additional funding. A frustrated Vlad Tenev, CEO and founder of the platform, explained that compliance with the firm's financial obligations was not open for negotiation, leading to the decision to limit trading on fifty stocks (as of Friday afternoon). This angered everyone, from the Reddit army responsible for going after the short sellers to the likes of AOC and Ted Cruz on Capitol Hill—the unlikeliest of allies on any issue. We actually feel kind of bad for Robinhood, which quickly turned from hero to villain. As for the GameStop trading—the irrationality that drove a stock worth about $10 up to $483 in a matter of a few weeks, it helped the market turn negative for the week, the month, and (hence) the year.
Our biggest fear is not spillover into the broader markets, it is how the ham-handed government will decide to regulate the actors, which really means regulating the rest of us innocent bystanders. In the next issue of The Penn Wealth Report we will take an in-depth look at how the GameStop story began, and where it will almost certainly end.
Under the Radar Investment
01. Under the Radar: Air Water Inc
Air Water Inc (AWTRF $15) is a Japanese-based mid-cap ($3.3 billion) specialty chemicals company founded in 1929. The firm manufactures and sells a variety of chemical-based products and operates in five segments: industrial gas, chemicals, medical gases, and agricultural/food products. This under-the-radar gem has a tiny five-year beta of 0.14, a P/E ratio of 12, and a 3% dividend yield. In fiscal 2020, the firm generated $7.4 billion in revenues and $268 million in profits. A cash cow in a steady industry, it hasn't had an unprofitable year for as far back as the eye can see.
Answer
Between 01 January 1995 and 10 March 2000, the Nasdaq Composite soared 571%. Between March of 2000 and October of 2002, it had fallen 78%. It wasn't until April of 2015 that the index regained its former high. Fifteen years from peak to peak.
Headlines for the Week of 03 Jan—09 Jan 2021
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The Economies of Scale...
Tesla, which was formed in 2003 as Tesla Motors, now has a market cap of $835 billion. Is that larger than the combined market caps of General Motors, Ford, and Fiat Chrysler?
Penn Trading Desk:
Simon completes Taubman deal, proceeds flow to cash
Simon Property Group's deal to buy Taubman Centers closes, TCO owners paid $34 per share in cash. See story below.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Aerospace & Defense
10. Two Penn Members Merging: Lockheed Martin will Buy Aerojet Rocketdyne for $4.4 billion
We purchased mid-cap rocket engine maker Aerojet Rocketdyne (AJRD $53) in the Penn New Frontier Fund as a pure play on the burgeoning private space movement. We own aerospace and defense giant Lockheed Martin (LMT $355) in the Penn Global Leaders Club due to its dominance in that industry—and our negative opinion of Boeing's (BA $219) hapless management team. In a move that illustrates the savvy of Lockheed's own leadership, that company announced it will acquire Aerojet for the equivalent of $56 per share, or $4.4 billion. Just over one-third of Aerojet's revenue comes from Lockheed, meaning the $100 billion Maryland-based firm will now own a key supplier. As a major defense supplier to the United States government, one cutting-edge arena that certainly hastened the purchase was hypersonic technology. With Putin bragging about Russia's new generation of hypersonic weapons and China making similar claims, it is imperative for the United States to remain in the lead with respect to these weapon systems. Hypersonic weapons can travel five times the speed of sound, and Aerojet is the world leader in the engine technology which makes these speeds possible. The all-cash deal should close in the first quarter of 2021.
While we don't like losing a pure-play space investment, Lockheed looks even more undervalued after announcement of the deal. With a 15 PE ratio, solid financials, and a growing revenue stream, investors seem to be ignoring a very compelling growth story.
Media & Entertainment
09. "Wonder Woman 1984" had an abysmal opening weekend, but all the news was not bad
Three years ago, the first new installment of the "Wonder Woman" franchise brought in over $400 million domestically, with one-quarter of that amount coming from its opening weekend. Add another $400 million in international ticket sales, and one could proclaim the $150 million film a rousing financial success. Based on those metrics, the second installment's $16.7 US draw in its opening weekend does not portend good things ahead. True, another $36 million was pulled in from around the world, but odds are strong that the film—with its $200 million budget—will struggle to become cash flow positive. But all of the news is not bad. The pandemic has forced movie studios to get creative with distribution, which is exactly what AT&T's (T $29) Warner Bros. Pictures did with this film. Expecting light theater attendance from a germ-wary public, the studio also debuted the movie on Christmas Day through its HBO Max streaming platform. Viewership was record-shattering. Granted, subscribers did not have to pay an extra fee to watch the flick, but the move thrilled current members and led to increased December subs—there were over 550,000 downloads of the HBO app over the weekend. The tactic worked so well that Warner has already decided to rapidly develop the third "Wonder Woman" installment. Vaccine or not, any guess as to whether or not that one will be simultaneously streamed as well?
Despite its fat dividend yield, AT&T has certainly been a disappointment in the Penn Strategic Income Portfolio. However, we remain bullish on its filmmaking and distribution channels—to include HBO Max. Unfortunately, our bullishness does not extend to the big movie theater chains, such as AMC Entertainment (AMC $2) and Cinemark Holdings (CNK $17). To be sure, home-bound Americans will rush back to the theaters once vaccines are readily available, but these cash-strapped chains will find themselves even more beholden to the parent companies of the production studios who are betting a lot on their competing streaming services.
Retail REITs
08. Our Taubman Centers investment pays off as Simon Property Group finalizes its cash acquisition
Back on the 10th of June we wrote of Simon Property Group's (SPG $83) termination of a deal to buy much smaller competitor Taubman Centers (TCO $43). The rationale they gave in a subsequent lawsuit was ludicrous: Taubman hadn't taken appropriate steps to keep business humming along during the pandemic, giving them (Simon) the right to walk away from the deal. The silly argument might have carried a bit more weight had Simon's own malls not been closed over the timeframe in question. Of course, the real issue was Taubman's understandable drop in market cap due to the global health crisis. On the day that Simon balked, Taubman fell to an intraday low of $34.75 and we pounced, buying shares of the battered, ultra-high-end mall owner. Now, six months later, the deal has finally been inked: Simon Property Group will pay Taubman shareholders $43 per share in cash to take an 80% stake in the firm—the Taubman family will retain a 20% minority stake. Not a bad return for a six-month investment.
While we certainly expected Simon to ultimately acquire Taubman, we were prepared to own the small- to mid-cap REIT regardless. We knew its luxury retail properties, such as the Country Club Plaza in Kansas City, would come roaring back to life in 2021. As for Simon Property Group, we wouldn't touch the shares.
Multiline Retail
07. The JC Penney CEO carousel continues as the firm begins search for its sixth leader in the span of a decade
To keep one of their major anchor stores from shutting down, mall owners Simon Property Group (SPG $86) and Brookfield Property Partners agreed to rescue JC Penney (OTC: JCPNQ $0.15) from bankruptcy in an $800 million deal—$300 million in cash and $500 million in debt assumption. While this may have been comforting news for most of the 80,000 or so remaining employees of the beleaguered retailer, one particular employee is probably not too happy: the new owners just fired CEO Jill Soltau. Sadly, the news doesn't mean much for a company seeking its sixth leader in the span of a decade. Soltau, the former head of Jo-Ann Fabrics, probably had the best shot of any of the firm's recent leaders to bring about positive change; at least until the pandemic forced the company to declare bankruptcy this past May. Now, with Simon's chief investment officer, Stanley Shashoua, temporarily in charge, the new owners begin the search for someone who can bring yet another new vision to the 119-year-old retailer. The right person is out there, we just have no faith in Simon to find that individual. Maybe they can woo the hapless Ron Johnson back.
We are rooting for the retailer, which now has a market cap of just $48 million, and we do believe that a creative leader could still turn the ship around. Even with the shares sitting at fifteen cents on the OTC exchange, however, we are not willing to place money on that bet.
Automotive
06. Tesla misses gargantuan 2020 delivery goal—by 450 vehicles
It was an insanely-high goal, and the usual suspects scoffed at Elon Musk for even throwing the figure out there. Tesla (TSLA $730) projected it would deliver half-a-million electric vehicles in 2020. At the time of the forecast, the company was producing around 100,000 vehicles per year. As the naysayers predicted, the goal was not reached: just 499,550 vehicles were delivered. Not surprisingly, some pundits actually pointed out the miss. The less than one-tenth of one percent miss. The ramp-up in production is beyond impressive, and it points to one of the reasons why Elon Musk is now the second-richest person in the world, adding roughly $150 billion of wealth to his net worth last year. Analysts are scrambling to raise their 2021 projections for Tesla vehicle deliveries, with the average now calling for 750,000 units to roll off of the assembly lines. Major new plants in Austin, Brandenburg, and Shanghai should make that happen. (Update: With a net worth of $188 billion as of Thursday, Musk has surpassed Jeff Bezos as the world's richest person.)
For any investor wishing to get in on the relative ground floor of a Musk entity, look for SpaceX to go public at some point this year. Hopefully the "throw money at anything cool" crowd will not drive the price up to astronomical levels on IPO day, as we plan to buy.
Sovereign Debt & Global Fixed Income
05. Danish banks offering home buyers a mortgage rate that is hard to pass up: 0.0%
From the country that first introduced the novel concept of negative interest rates comes a new gimmick: the zero percent mortgage loan. Beginning this week, customers of Nordea Bank can get 20-year home loans at 0.0%, and other banks in Denmark have signaled their willingness to follow suit. The country has a pass-through system in which mortgages are directly correlated with the bonds covering the loans. Denmark began issuing 20-year government bonds with a zero percent interest rate a few years ago; hence, the new mortgage loan creatures. For Danish borrowers, this may seem like a dream condition, but it is a symptom of a much bigger problem that few in Europe are willing to grapple with—a mountain of government debt which has become completely unmanageable.
While the focus here is on Europe, the situation in the US is not much different. The dirty truth is this: Governments around the world have created so much debt that the central banks cannot afford to raise interest rates—they can barely pay the principal on their aggregate debt load, let alone any servicing costs. This problem will not simply go away, and when it ultimately comes to a head, the shock waves will be massive throughout the economic, fiscal, and political systems.
eCommerce
04. Amazon grows its fleet with purchase of eleven 767-class aircraft
Business is good for $1.6 trillion Internet retail firm Amazon (AMZN $3,166). So good, in fact, that the company is doing something it hasn't done before: buying cargo aircraft. While the firm has a fleet of leased jets, the purchase of eleven Boeing 767-300s from Delta (DAL) and WestJet Airlines gives an indication of Amazon's booming business, and a further indication that it will continue to reduce its reliance on United Parcel Service (UPS $161) for deliveries in favor of its own integrated fleet. Recall that back in 2019 FedEx (FDX $251) refused to renew its contract with Amazon due to draconian demands and thinning margins. The company's delivery operation now includes tens of thousands of cargo vans, and management has expressed a desire to control 200 aircraft in the coming years. By comparison, UPS operates roughly 500 aircraft, and FedEx roughly 700.
Remember when so many industry analysts were poking fun at an investment in Amazon due to the company's lack of profit? That wasn't very long ago. Granted, shares still hold a rich multiple of 95, but we believe that is justified. AMZN is one of the forty holdings in the Penn Global Leaders Club.
Semiconductors & Equipment
03. Should we sell our rocketing Qualcomm now that one of our favorite CEOs is abruptly stepping down?
Fundamental analysis, as opposed to technical analysis, is at the heart of selecting the right investments for a portfolio (though chartists would certainly disagree). And fundamental analysis goes beyond the financial statements; a wise investor must consider the strategic vision of a company, and the tactics being employed to achieve that vision. Weak or mediocre management teams have an excuse at the ready for every problem that arises. Strong teams, led by a true leader at the helm, create the right strategy, deploy the right tactics, and embolden the workforce to excel.
American semiconductor giant Qualcomm (QCOM $155), led by the analytically-minded Steve Mollenkopf, certainly fits the template of the latter. While an engineer by training (he holds two electrical engineering degrees), Mollenkopf is one of those rare individuals who is equally at ease with semiconductor schematics and boardroom meetings. He is the quintessential leader. That is why we were shocked to hear that the 52-year-old CEO of the San Diego-based firm would be retiring this year. He will be replaced this coming June by the company's president, Cristiano Amon, who also hails from an engineering background.
The challenges that Mollenkopf faced in his tenure were massive, from a hostile takeover bid by Broadcom to a licensing fight with Apple to regulatory scrutiny from numerous countries. He handled all of them masterfully, but how will Amon face the similar challenges which are sure to arise in this cutthroat industry? The 50-year-old has been with Qualcomm most of his career and has worked directly under Mollenkopf for the past several years, so he certainly has his bona fides in place. Only time will tell how adept he will be at navigating through crises, but the company is on the right course to take full advantage of the coming 5G revolution.
Qualcomm collects royalties on the majority of 3G, 4G, and 5G handsets sold, holding the essential patents for the components used in these networks. All major handset OEMs are under license, with a total of 110 5G deals on the books.
Our Qualcomm holding, which is in the Penn New Frontier Fund, is up triple digits from its purchase, and we see plenty of growth ahead. That being said, we are putting the company on our watchlist simply due to the change in leadership.
Market Pulse
02. Despite the disconcerting events of the week, the indexes rally to new highs
The image was so mind-blowing that I had to take a screenshot. The picture behind the chyron was that of the capitol building being overrun by protestors. The text on the screen read: Breaking News: House, Senate Evacuated as US Capitol Breached . In the lower right of the screen were the green numbers: DOW +465.40, % Change +1.53%. My mind raced back to one week in December of 2018 when the Dow dropped 1,884 points in four sessions due to seemingly benign interest rate comments by Fed Chair Jerome Powell. And now, the capitol is being stormed and the Dow is rallying. By the time the trading week was up, the Dow, the S&P 500, and the NASDAQ had all rallied approximately 2%. Not a bad start to 2021. Perhaps it was a rosy jobs report? Nope. There were 140,000 jobs lost in December versus an expected 50,000 gain. It was the first drop since April during the heart of the pandemic. While investors are certainly hopeful on the vaccine front, Thursday brought the deadliest day since the pandemic began, with 4,000 American lives lost. On the political front, we were told that divided government would be great for the markets, as nothing radical would take place in Congress. Instead, two special elections in Georgia brought about a blue wave. While we are still of the mindset that economies around the world will come roaring back this year as the vaccines begin to quell the deadly virus, the best word we can use to describe this week in the markets is "odd." And that is not an adjective which instills much confidence.
Under the Radar Investment
01. Under the Radar: The Kroger Co.
It may come as a surprise to many, but The Kroger Co. (KR $32) is the nation's largest grocery store chain based on sales ($122B in 2020), with the company operating nearly 3,000 supermarkets throughout the country. And CEO Rodney McMullen has kept his 138-year-old firm looking fresh, with online ordering and curbside pick up at 72% of the stores, and home delivery options for 97% of the customer base. Kroger Ship, which launched last year, marks a major new push into eCommerce. The program provides online customers access to over 50,000 items in categories such as organic foods, international foods, housewares, and toys. Two new highly-automated fulfillment centers are slated to open this spring, which should further reduce the company's cost of fulfilling online orders. With a tiny multiple of 8.5 and a pullback in the share price, this consumer defensive value play truly appears to be an under-the-radar gem ripe for the picking.
Answer
Slightly. The aggregate market cap of General Motors, Ford, and Fiat Chrysler as of 08 Jan 2021 is $133 billion, or less than 16% the market cap of Tesla.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The Economies of Scale...
Tesla, which was formed in 2003 as Tesla Motors, now has a market cap of $835 billion. Is that larger than the combined market caps of General Motors, Ford, and Fiat Chrysler?
Penn Trading Desk:
Simon completes Taubman deal, proceeds flow to cash
Simon Property Group's deal to buy Taubman Centers closes, TCO owners paid $34 per share in cash. See story below.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Aerospace & Defense
10. Two Penn Members Merging: Lockheed Martin will Buy Aerojet Rocketdyne for $4.4 billion
We purchased mid-cap rocket engine maker Aerojet Rocketdyne (AJRD $53) in the Penn New Frontier Fund as a pure play on the burgeoning private space movement. We own aerospace and defense giant Lockheed Martin (LMT $355) in the Penn Global Leaders Club due to its dominance in that industry—and our negative opinion of Boeing's (BA $219) hapless management team. In a move that illustrates the savvy of Lockheed's own leadership, that company announced it will acquire Aerojet for the equivalent of $56 per share, or $4.4 billion. Just over one-third of Aerojet's revenue comes from Lockheed, meaning the $100 billion Maryland-based firm will now own a key supplier. As a major defense supplier to the United States government, one cutting-edge arena that certainly hastened the purchase was hypersonic technology. With Putin bragging about Russia's new generation of hypersonic weapons and China making similar claims, it is imperative for the United States to remain in the lead with respect to these weapon systems. Hypersonic weapons can travel five times the speed of sound, and Aerojet is the world leader in the engine technology which makes these speeds possible. The all-cash deal should close in the first quarter of 2021.
While we don't like losing a pure-play space investment, Lockheed looks even more undervalued after announcement of the deal. With a 15 PE ratio, solid financials, and a growing revenue stream, investors seem to be ignoring a very compelling growth story.
Media & Entertainment
09. "Wonder Woman 1984" had an abysmal opening weekend, but all the news was not bad
Three years ago, the first new installment of the "Wonder Woman" franchise brought in over $400 million domestically, with one-quarter of that amount coming from its opening weekend. Add another $400 million in international ticket sales, and one could proclaim the $150 million film a rousing financial success. Based on those metrics, the second installment's $16.7 US draw in its opening weekend does not portend good things ahead. True, another $36 million was pulled in from around the world, but odds are strong that the film—with its $200 million budget—will struggle to become cash flow positive. But all of the news is not bad. The pandemic has forced movie studios to get creative with distribution, which is exactly what AT&T's (T $29) Warner Bros. Pictures did with this film. Expecting light theater attendance from a germ-wary public, the studio also debuted the movie on Christmas Day through its HBO Max streaming platform. Viewership was record-shattering. Granted, subscribers did not have to pay an extra fee to watch the flick, but the move thrilled current members and led to increased December subs—there were over 550,000 downloads of the HBO app over the weekend. The tactic worked so well that Warner has already decided to rapidly develop the third "Wonder Woman" installment. Vaccine or not, any guess as to whether or not that one will be simultaneously streamed as well?
Despite its fat dividend yield, AT&T has certainly been a disappointment in the Penn Strategic Income Portfolio. However, we remain bullish on its filmmaking and distribution channels—to include HBO Max. Unfortunately, our bullishness does not extend to the big movie theater chains, such as AMC Entertainment (AMC $2) and Cinemark Holdings (CNK $17). To be sure, home-bound Americans will rush back to the theaters once vaccines are readily available, but these cash-strapped chains will find themselves even more beholden to the parent companies of the production studios who are betting a lot on their competing streaming services.
Retail REITs
08. Our Taubman Centers investment pays off as Simon Property Group finalizes its cash acquisition
Back on the 10th of June we wrote of Simon Property Group's (SPG $83) termination of a deal to buy much smaller competitor Taubman Centers (TCO $43). The rationale they gave in a subsequent lawsuit was ludicrous: Taubman hadn't taken appropriate steps to keep business humming along during the pandemic, giving them (Simon) the right to walk away from the deal. The silly argument might have carried a bit more weight had Simon's own malls not been closed over the timeframe in question. Of course, the real issue was Taubman's understandable drop in market cap due to the global health crisis. On the day that Simon balked, Taubman fell to an intraday low of $34.75 and we pounced, buying shares of the battered, ultra-high-end mall owner. Now, six months later, the deal has finally been inked: Simon Property Group will pay Taubman shareholders $43 per share in cash to take an 80% stake in the firm—the Taubman family will retain a 20% minority stake. Not a bad return for a six-month investment.
While we certainly expected Simon to ultimately acquire Taubman, we were prepared to own the small- to mid-cap REIT regardless. We knew its luxury retail properties, such as the Country Club Plaza in Kansas City, would come roaring back to life in 2021. As for Simon Property Group, we wouldn't touch the shares.
Multiline Retail
07. The JC Penney CEO carousel continues as the firm begins search for its sixth leader in the span of a decade
To keep one of their major anchor stores from shutting down, mall owners Simon Property Group (SPG $86) and Brookfield Property Partners agreed to rescue JC Penney (OTC: JCPNQ $0.15) from bankruptcy in an $800 million deal—$300 million in cash and $500 million in debt assumption. While this may have been comforting news for most of the 80,000 or so remaining employees of the beleaguered retailer, one particular employee is probably not too happy: the new owners just fired CEO Jill Soltau. Sadly, the news doesn't mean much for a company seeking its sixth leader in the span of a decade. Soltau, the former head of Jo-Ann Fabrics, probably had the best shot of any of the firm's recent leaders to bring about positive change; at least until the pandemic forced the company to declare bankruptcy this past May. Now, with Simon's chief investment officer, Stanley Shashoua, temporarily in charge, the new owners begin the search for someone who can bring yet another new vision to the 119-year-old retailer. The right person is out there, we just have no faith in Simon to find that individual. Maybe they can woo the hapless Ron Johnson back.
We are rooting for the retailer, which now has a market cap of just $48 million, and we do believe that a creative leader could still turn the ship around. Even with the shares sitting at fifteen cents on the OTC exchange, however, we are not willing to place money on that bet.
Automotive
06. Tesla misses gargantuan 2020 delivery goal—by 450 vehicles
It was an insanely-high goal, and the usual suspects scoffed at Elon Musk for even throwing the figure out there. Tesla (TSLA $730) projected it would deliver half-a-million electric vehicles in 2020. At the time of the forecast, the company was producing around 100,000 vehicles per year. As the naysayers predicted, the goal was not reached: just 499,550 vehicles were delivered. Not surprisingly, some pundits actually pointed out the miss. The less than one-tenth of one percent miss. The ramp-up in production is beyond impressive, and it points to one of the reasons why Elon Musk is now the second-richest person in the world, adding roughly $150 billion of wealth to his net worth last year. Analysts are scrambling to raise their 2021 projections for Tesla vehicle deliveries, with the average now calling for 750,000 units to roll off of the assembly lines. Major new plants in Austin, Brandenburg, and Shanghai should make that happen. (Update: With a net worth of $188 billion as of Thursday, Musk has surpassed Jeff Bezos as the world's richest person.)
For any investor wishing to get in on the relative ground floor of a Musk entity, look for SpaceX to go public at some point this year. Hopefully the "throw money at anything cool" crowd will not drive the price up to astronomical levels on IPO day, as we plan to buy.
Sovereign Debt & Global Fixed Income
05. Danish banks offering home buyers a mortgage rate that is hard to pass up: 0.0%
From the country that first introduced the novel concept of negative interest rates comes a new gimmick: the zero percent mortgage loan. Beginning this week, customers of Nordea Bank can get 20-year home loans at 0.0%, and other banks in Denmark have signaled their willingness to follow suit. The country has a pass-through system in which mortgages are directly correlated with the bonds covering the loans. Denmark began issuing 20-year government bonds with a zero percent interest rate a few years ago; hence, the new mortgage loan creatures. For Danish borrowers, this may seem like a dream condition, but it is a symptom of a much bigger problem that few in Europe are willing to grapple with—a mountain of government debt which has become completely unmanageable.
While the focus here is on Europe, the situation in the US is not much different. The dirty truth is this: Governments around the world have created so much debt that the central banks cannot afford to raise interest rates—they can barely pay the principal on their aggregate debt load, let alone any servicing costs. This problem will not simply go away, and when it ultimately comes to a head, the shock waves will be massive throughout the economic, fiscal, and political systems.
eCommerce
04. Amazon grows its fleet with purchase of eleven 767-class aircraft
Business is good for $1.6 trillion Internet retail firm Amazon (AMZN $3,166). So good, in fact, that the company is doing something it hasn't done before: buying cargo aircraft. While the firm has a fleet of leased jets, the purchase of eleven Boeing 767-300s from Delta (DAL) and WestJet Airlines gives an indication of Amazon's booming business, and a further indication that it will continue to reduce its reliance on United Parcel Service (UPS $161) for deliveries in favor of its own integrated fleet. Recall that back in 2019 FedEx (FDX $251) refused to renew its contract with Amazon due to draconian demands and thinning margins. The company's delivery operation now includes tens of thousands of cargo vans, and management has expressed a desire to control 200 aircraft in the coming years. By comparison, UPS operates roughly 500 aircraft, and FedEx roughly 700.
Remember when so many industry analysts were poking fun at an investment in Amazon due to the company's lack of profit? That wasn't very long ago. Granted, shares still hold a rich multiple of 95, but we believe that is justified. AMZN is one of the forty holdings in the Penn Global Leaders Club.
Semiconductors & Equipment
03. Should we sell our rocketing Qualcomm now that one of our favorite CEOs is abruptly stepping down?
Fundamental analysis, as opposed to technical analysis, is at the heart of selecting the right investments for a portfolio (though chartists would certainly disagree). And fundamental analysis goes beyond the financial statements; a wise investor must consider the strategic vision of a company, and the tactics being employed to achieve that vision. Weak or mediocre management teams have an excuse at the ready for every problem that arises. Strong teams, led by a true leader at the helm, create the right strategy, deploy the right tactics, and embolden the workforce to excel.
American semiconductor giant Qualcomm (QCOM $155), led by the analytically-minded Steve Mollenkopf, certainly fits the template of the latter. While an engineer by training (he holds two electrical engineering degrees), Mollenkopf is one of those rare individuals who is equally at ease with semiconductor schematics and boardroom meetings. He is the quintessential leader. That is why we were shocked to hear that the 52-year-old CEO of the San Diego-based firm would be retiring this year. He will be replaced this coming June by the company's president, Cristiano Amon, who also hails from an engineering background.
The challenges that Mollenkopf faced in his tenure were massive, from a hostile takeover bid by Broadcom to a licensing fight with Apple to regulatory scrutiny from numerous countries. He handled all of them masterfully, but how will Amon face the similar challenges which are sure to arise in this cutthroat industry? The 50-year-old has been with Qualcomm most of his career and has worked directly under Mollenkopf for the past several years, so he certainly has his bona fides in place. Only time will tell how adept he will be at navigating through crises, but the company is on the right course to take full advantage of the coming 5G revolution.
Qualcomm collects royalties on the majority of 3G, 4G, and 5G handsets sold, holding the essential patents for the components used in these networks. All major handset OEMs are under license, with a total of 110 5G deals on the books.
Our Qualcomm holding, which is in the Penn New Frontier Fund, is up triple digits from its purchase, and we see plenty of growth ahead. That being said, we are putting the company on our watchlist simply due to the change in leadership.
Market Pulse
02. Despite the disconcerting events of the week, the indexes rally to new highs
The image was so mind-blowing that I had to take a screenshot. The picture behind the chyron was that of the capitol building being overrun by protestors. The text on the screen read: Breaking News: House, Senate Evacuated as US Capitol Breached . In the lower right of the screen were the green numbers: DOW +465.40, % Change +1.53%. My mind raced back to one week in December of 2018 when the Dow dropped 1,884 points in four sessions due to seemingly benign interest rate comments by Fed Chair Jerome Powell. And now, the capitol is being stormed and the Dow is rallying. By the time the trading week was up, the Dow, the S&P 500, and the NASDAQ had all rallied approximately 2%. Not a bad start to 2021. Perhaps it was a rosy jobs report? Nope. There were 140,000 jobs lost in December versus an expected 50,000 gain. It was the first drop since April during the heart of the pandemic. While investors are certainly hopeful on the vaccine front, Thursday brought the deadliest day since the pandemic began, with 4,000 American lives lost. On the political front, we were told that divided government would be great for the markets, as nothing radical would take place in Congress. Instead, two special elections in Georgia brought about a blue wave. While we are still of the mindset that economies around the world will come roaring back this year as the vaccines begin to quell the deadly virus, the best word we can use to describe this week in the markets is "odd." And that is not an adjective which instills much confidence.
Under the Radar Investment
01. Under the Radar: The Kroger Co.
It may come as a surprise to many, but The Kroger Co. (KR $32) is the nation's largest grocery store chain based on sales ($122B in 2020), with the company operating nearly 3,000 supermarkets throughout the country. And CEO Rodney McMullen has kept his 138-year-old firm looking fresh, with online ordering and curbside pick up at 72% of the stores, and home delivery options for 97% of the customer base. Kroger Ship, which launched last year, marks a major new push into eCommerce. The program provides online customers access to over 50,000 items in categories such as organic foods, international foods, housewares, and toys. Two new highly-automated fulfillment centers are slated to open this spring, which should further reduce the company's cost of fulfilling online orders. With a tiny multiple of 8.5 and a pullback in the share price, this consumer defensive value play truly appears to be an under-the-radar gem ripe for the picking.
Answer
Slightly. The aggregate market cap of General Motors, Ford, and Fiat Chrysler as of 08 Jan 2021 is $133 billion, or less than 16% the market cap of Tesla.
Headlines for the Week of 06 Dec—12 Dec 2020
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
Roots of a historic theater...
Grauman's Chinese Theatre, now a custom-designed IMAX experience, opened to much acclaim on 18 May 1927. It was built following the success of what nearby Hollywood theater with a similar Exotic Revival architecture style?
Penn Trading Desk:
(01 Dec 20) FedEx upgraded at Barclays due to "abundance of growth opportunities"
Shares of Penn Global Leaders Club member FedEx (FDX $287) hit an all-time high of $297.66 on Monday following an upgrade and rosy comments from analyst Brandon Oglenski at Barclays. Oglenski cited "an abundance of growth opportunities" for the firm due to the explosion of e-commerce this year. He raised the firm's rating from equal weight to overweight and moved his target price on FDX shares from $240 to $360.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Global Strategy: Latin America
10. Money is flooding out of Bolivia as socialists regain power
Sadly, a large percentage of Latin Americans seem have a loving adoration of socialism, despite its history of bringing misery to the masses. There is a constant battle raging between economic freedom and leftist tyranny in the region, with the latter often winning the war for the hearts and minds of the people. The latest example comes from Bolivia, where socialist Luis "Lucho" Arce (pron. "ARE say"), a staunch advocate of exiled former socialist president Evo Morales, just won a landslide victory in the presidential race. The nation's poorest citizens may adore Arce, but the country's wealthy are sending a different message. Bolivia's international cash reserves have plunged from $6.4 billion to $5.1 billion since the election, as both citizens and corporations in the country have been converting their bolivianos to US dollars and sending the cash abroad. One of Arce's key planks was the promise to implement a wealth tax on the country's richest citizens. Bolivia has a population of 11.7 million and a per capita GDP of approximately $4,000. For comparison, Bolivia's more "investment friendly" neighbor to the east—Brazil—has a per capita GDP of $10,400. The country's primary exports are natural gas, metals (mainly silver and zinc), and soybean products.
As is well documented in the region, socialists who gain power in Latin America tend to hold onto their position with a firm grip despite any ruling constitution. Evo Morales came to power in January of 2006 and was forced into exile in Argentina only after civil unrest following a disputed election in 2019. If Arce learned anything from his mentor, expect him to be the grand leader of Bolivia for some time to come—despite the exodus of wealth from the country.
Metals & Mining
09. Positive vaccine news and calmer political waters have pushed gold prices down; time to look at adding to our position
We took a hefty position in gold, via the SPDR Gold Shares ETF (GLD $167), back in January of 2019 when the metal was sitting at $1,290 per ounce. After topping out around $2,067 per ounce this summer, prices began falling precipitously when positive Covid vaccine news began flowing in, and the US election was in the rear-view mirror. Scott Wren, now a senior analyst at Wells Fargo, was once our favorite analyst at A.G. Edwards & Sons, and we have tremendous respect for his typically spot-on outlook. When asked about the falling price of gold, he questioned—rhetorically—whether or not central banks around the world would continue to wantonly print money, or if fiscal constraint was suddenly going to supplant massive government spending. The obvious answer to those questions support his thesis that gold will regain its footing and head to $2,150 by the end of next year. He also sees another $100 drop in the price as a good entry point for more investment dollars. Right now, gold is sitting at $1,780 per share.
The recent selloff in gold shows, in our opinion, that investors are playing the short game. The precise conditions that led to gold's rise over the past few years will still be in place post-pandemic. In fact, countries around the world are now about $15 trillion deeper in debt thanks to China and the virus which emanated from the country's shores. We remain very bullish on gold.
Automotive
08. Nikola shares fall 54% after deal with General Motors is scaled back
Anyone who has read our columns on a regular basis knows our personal opinion of EV automaker Nikola (NKLA $17)—that the company is a total sham. Nonetheless, "traders" went flooding in, driving the shares up from $10 in March to $94 just three months later. Research be damned, this was going to be the next Tesla (TSLA $585)! Not quite. We mocked General Motors (GM $45) for even considering taking a stake in the firm; a move that only emboldened neophyte traders. It seems as though GM's Mary Barra has seen the light, as the company has backed out of its plan to take an 11% stake in Nikola and will no longer work with the firm to build the Badger, an EV pickup for consumers. Perhaps to keep a little pride intact, GM did rework the deal to keep a fuel cell partnership in place, but this non-binding agreement will probably wither on the vine. In just five sessions, NKLA shares fell from $37.62 to $17.37—a 54% drop. Oh well, at least it is back on the radar screen for those whose investment strategy consists of buying stocks trading for under $25 per share.
Shades of 1999. Americans are piling into flashy stocks based on headlines, not research. For astute investors, this will create huge opportunities—especially in the boring value companies which don't garner many headlines, but which generate fat annual profits year after year. 2021 will mark the year of the great rotation back into value.
East & Southeast Asia
07. In hopeful sign, Apple is reportedly shifting some production from China to Vietnam
Country Risk: the uncertainty associated with investing in a particular country and the degree to which that uncertainty can lead to losses for stakeholders. This risk can be mitigated by assuring a company is not overly reliant on one particular country, especially those with undemocratic forms of government. This is Economics 101, yet how many management teams flouted this basic lesson because of the glittering jewel they saw in China's 1.3 billion potential consumers? We can't undo the past, but we can hold these companies accountable. In a hopeful sign that the zeitgeist is shifting, Apple (AAPL $123) is reportedly moving iPad production out of China and into Vietnam—a country with a large degree of animosity towards the communist state. More specifically, key Apple supplier Foxconn is shifting the production—both for iPads and some MacBooks—from their Chinese facilities to the Vietnamese factories they began building back in 2007. The company is setting up new assembly lines for both the tablets and the laptops at their plant in Bac Giang, a northeastern province of Vietnam, "at the request of Apple." Other than that admission, both companies are mum on the details.
In yet another hopeful sign, Apple is planning a $1 billion spend to expand its manufacturing presence in the democratic country of India. For its part, Foxconn is looking at building a new set of plants in Mexico. Slowly but surely, companies are waking up to the level of country risk involved with communist China. If the Western world can actually present a united front, the China 2025 plan may be dealt a hefty blow.
Media & Entertainment
06. Theater chains get pummeled after surprise Warner Brothers announcement
AMC Entertainment (AMC $4) was off 20%, as was Cinemark Holdings (CNK $13). Imax (IMAX $14) fared a little bit better, dropping just 7%. After the nightmare of having their theaters closed due to the pandemic, the news from AT&T's (T $29) Warner Brothers unit was quite unwelcome: the filmmaker would release all of its 2021 movies simultaneously on both the big screen and via streaming through WarnerMedia's HBO Max. In other words, zero exclusivity for the big movie chains. The relationship between the movie houses and the film studios was already strained. Back in April we reported on AMC's ban of Comcast's (CMCSA $52) Universal Pictures' films after the latter announced it would also pull the simultaneous release stunt. This "breaking of the theatrical window" is terrible news for an industry already struggling to stay afloat. WarnerMedia CEO Jason Kilar made the rather cocky comment that the theater chains need to "take a breather," adding that the new releases will be pulled from HBO Max after thirty days. His comments only added fuel to the fire.
The movie chains are in somewhat the same position as many shopping malls throughout America. Dealing with decreased foot traffic due to the online shopping renaissance, these malls were forced to reinvent themselves as "experience destinations." The theaters are slowly adopting this philosophy, with AMC experimenting with NFL games on the big screen to attract fans. At $4 per share, AMC may look attractive, but we wouldn't be in a hurry to invest—there is still scant evidence that the darkest days are behind these companies.
Restaurants
05. Already strained, McDonald's just made its relationship with franchisees even worse
McDonald's (MCD $211) was one of those stalwarts we expected to own in the Penn Global Leaders Club for some time to come. That changed when the board of directors fired one of the best—and most loyal—CEOs in the industry. We took our profits and ran. In a sign that things are returning to normal (not a compliment; rather, a reference to the way things were under Don Thompson), the company has been telegraphing warnings to franchisees about hard times ahead. While the parent company does have about $40 million earmarked for aid to restaurants hardest hit by the pandemic (which seems paltry compared to its $5B in TTM net income), it warned that owners may need to look at selling locations or finding financial assistance elsewhere. Management also announced that it would be ending the $300 monthly Happy Meal subsidy which has been around for decades, and that it expects franchisees to start sharing the costs of the firm's tuition program. To be sure, all of these moves could be justified by corporate, but that doesn't change the perception by franchisees that they are getting nickel-and-dimed by the controlling entity. Yet another reason we continue to steer clear of the restaurant.
Jeff Easterbrook knew how to deal with people. Growing up in London, he was a constant customer of the local McDonald's, and his love for the company was evident in the way he treated employees and franchisees. The current management team in place may know numbers, but they sure don't seem to know how to deal with the people on the front line of the restaurant's revenue stream.
Business & Professional Services
04. EMH debunked yet again with laughable spike in Kodak shares
Efficient market hypothesis (EMH): the theory that a stock is always fairly valued based on all the available information at the time, making it impossible to "beat the market" on a consistent basis since share prices only react to new information. What a load of bull. Shares of Eastman Kodak (KODK $13), the lovable yet archaic camera company which was founded in 1888, have fluctuated between $1.50 (23 Mar) and $60 (29 Jul) this year. On Monday, shares spiked 77% in one session, driving them all the way back up to $13.30. What led to this latest unreal jump? Exoneration from the SEC regarding accusations that the company leaked news about a potential $765 million loan by the government to help it—Kodak—begin making active pharmaceutical ingredients (APIs) for drugs—a job the US disgracefully outsourced to China years ago. So, leaked news of a $765 million loan turned a $96 million flounder into a $1.65 billion shark virtually overnight? Yep. Maybe it wasn't just the news that drove "investors" back into the shares; maybe it was the financials. Over the trailing twelve months (TTM), Kodak lost $623 million on $1.06 billion in sales. That seems almost difficult to accomplish. Yet another story reminiscent of the 1999/2000 time period: Throw good money into companies that will show losses as far as the eye can see. Some "investors" don't recall that period, but we do.
There is a true dichotomy in the markets right now. We see a lot of great investment opportunities and a bright horizon for the year ahead. We also see a lot of companies with insane valuations thanks to dumb money chasing quick returns. Even more so than in 1999, many of the people pumping money into these companies couldn't explain what these firms do if their lives depended on it. That is certainly true with respect to Kodak, the camera company turned drug ingredient supplier.
Hotels, Restaurants, & Cruise Lines
03. We had every intention of buying Airbnb on its IPO—and then it priced
Sorry, but we have one more 1999 analogy. Granted, Airbnb (ABNB $139) is no pets.com (remember the hand puppet?), but what happened on the former's IPO day is insane. To be clear, we fully believe in Airbnb's business model, and have no doubt that it will be highly successful going forward—precisely why we expected to buy shares of the firm on day one. So, what happened? The IPO was finally priced at $68 per share. Of note: the CEO said he wanted the IPO price to reflect what he considered to be fair value of the company. When the stock finally began trading, its first price was $146, or 116% above what senior management considered fair value. There is a new breed of investor hitting the markets right now, and facts be damned; if they want a company because it has a cool name (Nikola comes to mind) they will pay any price to own it. How bad is it right now? Many investors complained that they didn't get the IPO price of $68, having no idea that it doesn't work that way. Want another example? There was a flurry of options action in ABB Ltd (ABB), an electrical equipment and parts maker based in Zurich, leading up to the ABNB IPO. It seems as though many "investors" thought they were buying calls on Airbnb. Let the red flags go up. When we were figuring where we might get the shares of the firm on day one, we initially thought $35 to $50 seemed reasonable, though $50 was stretching it. So, a company that was valued at $18 billion this summer now has a market cap of $150 billion. Like we say, insane.
We're bummed that we don't own ABNB, but we expect to pick the shares up when they come crashing back to reality at some point in 2021. And that is not a slam against the company, it is a slam on the knuckleheads who bought in at $146 or higher (shares went up as high as $165 on day one).
Market Pulse
02. Despite the wild IPO ride, markets fall on the week
Based on what happened in the IPO market over the course of five sessions, it might seem surprising that the three major indexes were all down for the week, but DoorDash (DASH $175), Airbnb (ABNB $139), and C3.ai Inc (AI $120) all turned out to be red herrings—shiny objects which distracted investors from the big picture. The markets falling for the week (S&P -0.96%, Dow -0.57%, NASDAQ -0.69%) was actually a healthy respite from the big run-up we've had over the past month. Counter that with the facts-be-damned trading we had in three IPO stocks, and 2021 is shaping up to be a tale of the haves and the have-nots. The haves will be the thoughtful investors looking for value, earnings, and sound business models. The have-nots will be the shiny object crowd: those using their Robinhood app like a video game to gobble up the fun-sounding names. How fitting that Goldman will bring that company public next year. A reckoning is coming, but it will be—thankfully—more discerning than the 2000-2002 variety. This one will hammer the dumb money and provide opportunity for the smart money. Bring on the new year.
2021 will be the year of the great re-build. The global economy will come roaring back with a vengeance, and GDP—both domestically and globally—will surprise to the upside. It will also be the year that tech companies with no earnings and fat valuations come crashing back to reality. Where can the smart money go? Look for opportunities in health care and industrials—boring companies that simply turn a profit year-in and year-out.
Under the Radar Investment
01. Under the Radar: Embotelladora Andina SA
Embotelladora Andina (AKO.B $15) is a Chilean-based Coca-Cola bottler serving the Latin American region. Together with its subsidiaries, the company produces, markets, and distributes Coca-Cola trademark products, to include fruit juices, sports drinks, purified waters, and flavored waters. The firm also sells and distributes beer under the Amstel, Bavaria, Heineken, and Sol brands. On $2.5 billion in sales last year, the company brought in $248 million in profit. AKO.B offers investors a 5.61% dividend yield based on the current share price of $15. Yet another consideration for globally-diversifying a portfolio.
Answer
Grauman's Chinese Theatre was built following the success of the nearby Grauman's Egyptian Theatre, which opened on Hollywood Boulevard in 1922. In May of this year, Netflix purchased that historic property.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
Roots of a historic theater...
Grauman's Chinese Theatre, now a custom-designed IMAX experience, opened to much acclaim on 18 May 1927. It was built following the success of what nearby Hollywood theater with a similar Exotic Revival architecture style?
Penn Trading Desk:
(01 Dec 20) FedEx upgraded at Barclays due to "abundance of growth opportunities"
Shares of Penn Global Leaders Club member FedEx (FDX $287) hit an all-time high of $297.66 on Monday following an upgrade and rosy comments from analyst Brandon Oglenski at Barclays. Oglenski cited "an abundance of growth opportunities" for the firm due to the explosion of e-commerce this year. He raised the firm's rating from equal weight to overweight and moved his target price on FDX shares from $240 to $360.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Global Strategy: Latin America
10. Money is flooding out of Bolivia as socialists regain power
Sadly, a large percentage of Latin Americans seem have a loving adoration of socialism, despite its history of bringing misery to the masses. There is a constant battle raging between economic freedom and leftist tyranny in the region, with the latter often winning the war for the hearts and minds of the people. The latest example comes from Bolivia, where socialist Luis "Lucho" Arce (pron. "ARE say"), a staunch advocate of exiled former socialist president Evo Morales, just won a landslide victory in the presidential race. The nation's poorest citizens may adore Arce, but the country's wealthy are sending a different message. Bolivia's international cash reserves have plunged from $6.4 billion to $5.1 billion since the election, as both citizens and corporations in the country have been converting their bolivianos to US dollars and sending the cash abroad. One of Arce's key planks was the promise to implement a wealth tax on the country's richest citizens. Bolivia has a population of 11.7 million and a per capita GDP of approximately $4,000. For comparison, Bolivia's more "investment friendly" neighbor to the east—Brazil—has a per capita GDP of $10,400. The country's primary exports are natural gas, metals (mainly silver and zinc), and soybean products.
As is well documented in the region, socialists who gain power in Latin America tend to hold onto their position with a firm grip despite any ruling constitution. Evo Morales came to power in January of 2006 and was forced into exile in Argentina only after civil unrest following a disputed election in 2019. If Arce learned anything from his mentor, expect him to be the grand leader of Bolivia for some time to come—despite the exodus of wealth from the country.
Metals & Mining
09. Positive vaccine news and calmer political waters have pushed gold prices down; time to look at adding to our position
We took a hefty position in gold, via the SPDR Gold Shares ETF (GLD $167), back in January of 2019 when the metal was sitting at $1,290 per ounce. After topping out around $2,067 per ounce this summer, prices began falling precipitously when positive Covid vaccine news began flowing in, and the US election was in the rear-view mirror. Scott Wren, now a senior analyst at Wells Fargo, was once our favorite analyst at A.G. Edwards & Sons, and we have tremendous respect for his typically spot-on outlook. When asked about the falling price of gold, he questioned—rhetorically—whether or not central banks around the world would continue to wantonly print money, or if fiscal constraint was suddenly going to supplant massive government spending. The obvious answer to those questions support his thesis that gold will regain its footing and head to $2,150 by the end of next year. He also sees another $100 drop in the price as a good entry point for more investment dollars. Right now, gold is sitting at $1,780 per share.
The recent selloff in gold shows, in our opinion, that investors are playing the short game. The precise conditions that led to gold's rise over the past few years will still be in place post-pandemic. In fact, countries around the world are now about $15 trillion deeper in debt thanks to China and the virus which emanated from the country's shores. We remain very bullish on gold.
Automotive
08. Nikola shares fall 54% after deal with General Motors is scaled back
Anyone who has read our columns on a regular basis knows our personal opinion of EV automaker Nikola (NKLA $17)—that the company is a total sham. Nonetheless, "traders" went flooding in, driving the shares up from $10 in March to $94 just three months later. Research be damned, this was going to be the next Tesla (TSLA $585)! Not quite. We mocked General Motors (GM $45) for even considering taking a stake in the firm; a move that only emboldened neophyte traders. It seems as though GM's Mary Barra has seen the light, as the company has backed out of its plan to take an 11% stake in Nikola and will no longer work with the firm to build the Badger, an EV pickup for consumers. Perhaps to keep a little pride intact, GM did rework the deal to keep a fuel cell partnership in place, but this non-binding agreement will probably wither on the vine. In just five sessions, NKLA shares fell from $37.62 to $17.37—a 54% drop. Oh well, at least it is back on the radar screen for those whose investment strategy consists of buying stocks trading for under $25 per share.
Shades of 1999. Americans are piling into flashy stocks based on headlines, not research. For astute investors, this will create huge opportunities—especially in the boring value companies which don't garner many headlines, but which generate fat annual profits year after year. 2021 will mark the year of the great rotation back into value.
East & Southeast Asia
07. In hopeful sign, Apple is reportedly shifting some production from China to Vietnam
Country Risk: the uncertainty associated with investing in a particular country and the degree to which that uncertainty can lead to losses for stakeholders. This risk can be mitigated by assuring a company is not overly reliant on one particular country, especially those with undemocratic forms of government. This is Economics 101, yet how many management teams flouted this basic lesson because of the glittering jewel they saw in China's 1.3 billion potential consumers? We can't undo the past, but we can hold these companies accountable. In a hopeful sign that the zeitgeist is shifting, Apple (AAPL $123) is reportedly moving iPad production out of China and into Vietnam—a country with a large degree of animosity towards the communist state. More specifically, key Apple supplier Foxconn is shifting the production—both for iPads and some MacBooks—from their Chinese facilities to the Vietnamese factories they began building back in 2007. The company is setting up new assembly lines for both the tablets and the laptops at their plant in Bac Giang, a northeastern province of Vietnam, "at the request of Apple." Other than that admission, both companies are mum on the details.
In yet another hopeful sign, Apple is planning a $1 billion spend to expand its manufacturing presence in the democratic country of India. For its part, Foxconn is looking at building a new set of plants in Mexico. Slowly but surely, companies are waking up to the level of country risk involved with communist China. If the Western world can actually present a united front, the China 2025 plan may be dealt a hefty blow.
Media & Entertainment
06. Theater chains get pummeled after surprise Warner Brothers announcement
AMC Entertainment (AMC $4) was off 20%, as was Cinemark Holdings (CNK $13). Imax (IMAX $14) fared a little bit better, dropping just 7%. After the nightmare of having their theaters closed due to the pandemic, the news from AT&T's (T $29) Warner Brothers unit was quite unwelcome: the filmmaker would release all of its 2021 movies simultaneously on both the big screen and via streaming through WarnerMedia's HBO Max. In other words, zero exclusivity for the big movie chains. The relationship between the movie houses and the film studios was already strained. Back in April we reported on AMC's ban of Comcast's (CMCSA $52) Universal Pictures' films after the latter announced it would also pull the simultaneous release stunt. This "breaking of the theatrical window" is terrible news for an industry already struggling to stay afloat. WarnerMedia CEO Jason Kilar made the rather cocky comment that the theater chains need to "take a breather," adding that the new releases will be pulled from HBO Max after thirty days. His comments only added fuel to the fire.
The movie chains are in somewhat the same position as many shopping malls throughout America. Dealing with decreased foot traffic due to the online shopping renaissance, these malls were forced to reinvent themselves as "experience destinations." The theaters are slowly adopting this philosophy, with AMC experimenting with NFL games on the big screen to attract fans. At $4 per share, AMC may look attractive, but we wouldn't be in a hurry to invest—there is still scant evidence that the darkest days are behind these companies.
Restaurants
05. Already strained, McDonald's just made its relationship with franchisees even worse
McDonald's (MCD $211) was one of those stalwarts we expected to own in the Penn Global Leaders Club for some time to come. That changed when the board of directors fired one of the best—and most loyal—CEOs in the industry. We took our profits and ran. In a sign that things are returning to normal (not a compliment; rather, a reference to the way things were under Don Thompson), the company has been telegraphing warnings to franchisees about hard times ahead. While the parent company does have about $40 million earmarked for aid to restaurants hardest hit by the pandemic (which seems paltry compared to its $5B in TTM net income), it warned that owners may need to look at selling locations or finding financial assistance elsewhere. Management also announced that it would be ending the $300 monthly Happy Meal subsidy which has been around for decades, and that it expects franchisees to start sharing the costs of the firm's tuition program. To be sure, all of these moves could be justified by corporate, but that doesn't change the perception by franchisees that they are getting nickel-and-dimed by the controlling entity. Yet another reason we continue to steer clear of the restaurant.
Jeff Easterbrook knew how to deal with people. Growing up in London, he was a constant customer of the local McDonald's, and his love for the company was evident in the way he treated employees and franchisees. The current management team in place may know numbers, but they sure don't seem to know how to deal with the people on the front line of the restaurant's revenue stream.
Business & Professional Services
04. EMH debunked yet again with laughable spike in Kodak shares
Efficient market hypothesis (EMH): the theory that a stock is always fairly valued based on all the available information at the time, making it impossible to "beat the market" on a consistent basis since share prices only react to new information. What a load of bull. Shares of Eastman Kodak (KODK $13), the lovable yet archaic camera company which was founded in 1888, have fluctuated between $1.50 (23 Mar) and $60 (29 Jul) this year. On Monday, shares spiked 77% in one session, driving them all the way back up to $13.30. What led to this latest unreal jump? Exoneration from the SEC regarding accusations that the company leaked news about a potential $765 million loan by the government to help it—Kodak—begin making active pharmaceutical ingredients (APIs) for drugs—a job the US disgracefully outsourced to China years ago. So, leaked news of a $765 million loan turned a $96 million flounder into a $1.65 billion shark virtually overnight? Yep. Maybe it wasn't just the news that drove "investors" back into the shares; maybe it was the financials. Over the trailing twelve months (TTM), Kodak lost $623 million on $1.06 billion in sales. That seems almost difficult to accomplish. Yet another story reminiscent of the 1999/2000 time period: Throw good money into companies that will show losses as far as the eye can see. Some "investors" don't recall that period, but we do.
There is a true dichotomy in the markets right now. We see a lot of great investment opportunities and a bright horizon for the year ahead. We also see a lot of companies with insane valuations thanks to dumb money chasing quick returns. Even more so than in 1999, many of the people pumping money into these companies couldn't explain what these firms do if their lives depended on it. That is certainly true with respect to Kodak, the camera company turned drug ingredient supplier.
Hotels, Restaurants, & Cruise Lines
03. We had every intention of buying Airbnb on its IPO—and then it priced
Sorry, but we have one more 1999 analogy. Granted, Airbnb (ABNB $139) is no pets.com (remember the hand puppet?), but what happened on the former's IPO day is insane. To be clear, we fully believe in Airbnb's business model, and have no doubt that it will be highly successful going forward—precisely why we expected to buy shares of the firm on day one. So, what happened? The IPO was finally priced at $68 per share. Of note: the CEO said he wanted the IPO price to reflect what he considered to be fair value of the company. When the stock finally began trading, its first price was $146, or 116% above what senior management considered fair value. There is a new breed of investor hitting the markets right now, and facts be damned; if they want a company because it has a cool name (Nikola comes to mind) they will pay any price to own it. How bad is it right now? Many investors complained that they didn't get the IPO price of $68, having no idea that it doesn't work that way. Want another example? There was a flurry of options action in ABB Ltd (ABB), an electrical equipment and parts maker based in Zurich, leading up to the ABNB IPO. It seems as though many "investors" thought they were buying calls on Airbnb. Let the red flags go up. When we were figuring where we might get the shares of the firm on day one, we initially thought $35 to $50 seemed reasonable, though $50 was stretching it. So, a company that was valued at $18 billion this summer now has a market cap of $150 billion. Like we say, insane.
We're bummed that we don't own ABNB, but we expect to pick the shares up when they come crashing back to reality at some point in 2021. And that is not a slam against the company, it is a slam on the knuckleheads who bought in at $146 or higher (shares went up as high as $165 on day one).
Market Pulse
02. Despite the wild IPO ride, markets fall on the week
Based on what happened in the IPO market over the course of five sessions, it might seem surprising that the three major indexes were all down for the week, but DoorDash (DASH $175), Airbnb (ABNB $139), and C3.ai Inc (AI $120) all turned out to be red herrings—shiny objects which distracted investors from the big picture. The markets falling for the week (S&P -0.96%, Dow -0.57%, NASDAQ -0.69%) was actually a healthy respite from the big run-up we've had over the past month. Counter that with the facts-be-damned trading we had in three IPO stocks, and 2021 is shaping up to be a tale of the haves and the have-nots. The haves will be the thoughtful investors looking for value, earnings, and sound business models. The have-nots will be the shiny object crowd: those using their Robinhood app like a video game to gobble up the fun-sounding names. How fitting that Goldman will bring that company public next year. A reckoning is coming, but it will be—thankfully—more discerning than the 2000-2002 variety. This one will hammer the dumb money and provide opportunity for the smart money. Bring on the new year.
2021 will be the year of the great re-build. The global economy will come roaring back with a vengeance, and GDP—both domestically and globally—will surprise to the upside. It will also be the year that tech companies with no earnings and fat valuations come crashing back to reality. Where can the smart money go? Look for opportunities in health care and industrials—boring companies that simply turn a profit year-in and year-out.
Under the Radar Investment
01. Under the Radar: Embotelladora Andina SA
Embotelladora Andina (AKO.B $15) is a Chilean-based Coca-Cola bottler serving the Latin American region. Together with its subsidiaries, the company produces, markets, and distributes Coca-Cola trademark products, to include fruit juices, sports drinks, purified waters, and flavored waters. The firm also sells and distributes beer under the Amstel, Bavaria, Heineken, and Sol brands. On $2.5 billion in sales last year, the company brought in $248 million in profit. AKO.B offers investors a 5.61% dividend yield based on the current share price of $15. Yet another consideration for globally-diversifying a portfolio.
Answer
Grauman's Chinese Theatre was built following the success of the nearby Grauman's Egyptian Theatre, which opened on Hollywood Boulevard in 1922. In May of this year, Netflix purchased that historic property.
Headlines for the Week of 22 Nov—28 Nov 2020
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
"They knew they were Pilgrims..."
In the perilous transatlantic crossing of the Mayflower, a storm of epic proportions threw separatist John Howland overboard into the turbulent waters below. What ultimately happened to Howland?
Penn Trading Desk:
(23 Nov 20) Take 82% short-term gains on Macy's
On 18 May we added Macy's (M $10) to the Intrepid @ $5.55/share. We took advantage of a double-digit jump on 23 Nov to close our position @ 10.09/share for an 82% short-term gain. It may well go higher, but we want to redeploy the capital elsewhere.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Pharmaceuticals
10. For the third week in a row, good vaccine news drives the market higher
Two weeks ago it was Pfizer (PFE). Last week it was Moderna (MRNA). This week, AstraZeneca (AZN $55) became the third drugmaker to drive the market higher with news of a successful Covid-19 vaccine trial. Initial analysis of the company's Phase 3 clinical trial showed its candidate, which is being developed with the University of Oxford, was as much as 90% effective in preventing infection from the virus after both of the doses were administered. Meanwhile, Regeneron (REGN $537) became the second company (Gilead was the first with remdesivir/Veklury) to receive Emergency Use Authorization from the FDA for its therapy to treat the virus. Unlike Veklury, which is typically administered once a patient is hospitalized, Regeneron's therapy is designed to be used to help prevent Covid-19 victims from deteriorating to the point in which they need to be hospitalized. The remarkable progress on this deadly virus continues to impress.
Investors have been paying a lot more attention to the vaccine developers than they have the the biotech companies making actual therapies to treat the disease. We think that's a mistake. Both Gilead (GILD $60)—which is in the Penn Global Leaders Club—and Regeneron look cheap from a valuation standpoint.
Leadership
09. With Tesla's share price on the rise, Elon Musk is suddenly the world's second-richest person
According to the Bloomberg Billionaire Index, Tesla (TSLA $522) and SpaceX founder Elon Musk is now worth $128 billion. He can thank the S&P 500 Index committee in a way: their decision to admit Tesla to the benchmark index has pushed that stock noticeably higher in recent days; in fact, Musk's net worth increased by $7.2 billion on Monday alone. But that's comparative peanuts: So far in 2020, Musk's net worth has risen by $100 billion, moving him from the number 35 spot of the world's richest people to the number two spot this week, knocking Microsoft founder Bill Gates to the number three position.
We imagine the prestige of being the world's second-richest person doesn't mean too much to Musk; his passion for what he does and his grand strategic vision of "making life multiplanetary" drives his thought process. Those who want to get the most out of life should take this lesson to heart with respect to uncovering and following their own unique passions. Another lesson we can learn from Musk: As all of the critics and naysayers were impugning both him and his audacious goals, he forged ahead relentlessly.
Washington Report
08. Investors are comforted by Biden's early cabinet picks
It certainly could have gone in a different direction, but that is not what we were expecting. In an attempt to assuage the radical wing of his party, President-Elect Joe Biden could have offered plum positions to the likes of Elizabeth Warren and Bernie Sanders—moves that would have sent the markets reeling. Instead, the stock market rallied on the news that he would nominate former Fed Chair Janet Yellen as Secretary of the Treasury, and Antony Blinken as Secretary of State. Yellen has a proven and well-known history after serving as an effective Fed Chair, and Blinken's work in the corporate world (as opposed to the fanciful world of "what-ifs" at a think tank) points to a sober domestic and foreign policy approach by the new administration. The far left wing of the party won't celebrate the moves, but the markets sure did.
With a divided government, we are hoping for enough bipartisanship to get the needed work done, but a lack of votes to pass any earth-shattering agenda items. That would be a Goldilocks scenario for the stock market and, dare we say, the economy. Maybe we will even get an infrastructure-light bill drafted and implemented.
Construction & Farm Equipment
07. Farm equipment companies are gearing up for a blowout 2021; Deere's most recent quarter supports that thesis
John Deere (DE $256), the world's leading manufacturer of agricultural equipment, got hit especially hard when the pandemic seized up global economic activity this past spring. That made perfect sense, as CFOs turned on a dime to an ultra-defensive attitude. Considering the premium price attached to Deere equipment (a new 95-series tractor might cost upwards of half-a-million dollars), companies made due with the equipment on hand. Following the sharpest economic decline in US history in Q2, all eyes turned to the third quarter, and especially to the farm and heavy construction machinery industry. To say Deere did not disappoint is putting it mildly. In the company's fiscal fourth quarter, which ended 31 October, equipment sales came in at $8.7 billion—against $7.7B expected, and earnings per share hit $2.39—against $1.49 expected. As if those blowout numbers weren't good enough for the analysts, the company raised its full-year 2021 guidance, citing an expected 5% to 10% jump in equipment sales in virtually every region of the globe.
It is always enlightening to look at the various analyst ratings on a company surrounding an earnings release or any other major news item. For example, Morningstar has a one-star (sell) rating on DE shares with a fair value of $183. Most analysts are bullish to neutral on the $80 billion firm, however. We think the shares of both Deere and Cat (CAT $175), each with a PE ratio of 29, seem fairly valued where they are at.
Specialty Retail
06. Despite their 20% drop in a matter of days, we suspect Gap shares are not done falling
Shares of specialty retailer Gap (GPS $22) dropped 20% following the release of a less-than-stellar third quarter earning report. On sales of $3.99 billion—the exact same as Q3 of 2019—the company earned $0.25 per share. That EPS figure missed analysts' expectations by about 22%. Gap markets its retail apparel primarily under four names: its eponymous stores, Old Navy, Banana Republic, and Athleta, with the Old Navy brand accounting for nearly one-half of the firm's revenues. The Athleta unit, as could be expected, had the biggest jump in sales for the quarter—up 37% from the previous year. Old Navy came in second, with a 17% increase. The Gap and Banana Republic brands, however, served as the anchor, with revenues declining 5% and 30%, respectively. While online sales for the combined units rose 61% from last year, management doesn't seem to have a concrete plan in place for the post-pandemic world. Gap stores have clearly lost the "cool factor" they once had, and Athleta will be competing with the likes of Lululemon (LULU) and Nike (NKE). The San Francisco-based retailer has an enormous footprint in malls across America, with roughly 3,500 company-operated stores and 600 franchise stores. As one could imagine, the aggregate overhead on these stores is enormous, and the company made news this past April when it stopped making lease payments on its shuttered locations. Management did not provide a full-year forecast in the earnings release.
It is difficult for us to imagine what is going to drive shoppers, en masse, back to Gap's branded stores next year. Of course, as the pandemic restrictions are lifted and the malls become hubs of activity once again, sales will improve. But shoppers will have a lot of great stores to choose from, and we don't see Gap eliciting the excitement it used to be able to generate. The mall landlords, meanwhile, will have no problem playing the role of Scrooge in litigating their demands for back rent. And Gap is not exactly sitting on a mountain of cash.
Global Strategy: Mideast
05. Top Iranian nuclear scientist killed near Tehran
Iran's "peaceful" nuclear power program was dealt a major blow on Friday when the alleged head of the unit was killed in a small city east of Tehran. Witnesses describe hearing an explosion followed by the sound of automatic rifles being fired; when the dust settled, Moshen Fakhrizadeh was dead and his bodyguards were either killed or wounded. State-controlled Iranian media outlets wasted no time in pointing the finger at Israel. An advisor to Ali Khamenei, Iran's "supreme leader," responded to the attack: "We will descend like lightning on the killers of this oppressed martyr and we will make them regret their actions!"
Of course, Iran has no need for "peaceful" nuclear power, based on its abundance of fossil fuels. The ability to intimidate its enemies and the capability to actually launch nuclear weapons against those enemies—namely Israel—is at the core of its nuclear development program.
E-Commerce
04. Americans were doing a lot more than eating on Thanksgiving, according to Adobe
According to Adobe Analytics, Americans spent a record $5.1 billion shopping online this Thanksgiving Day, a 21.4% increase from last year's $4.2 billion spent. With consumers understandably avoiding the malls this year, they turned to online shopping via their smartphones—the devices accounted for nearly one half of all purchases made. The marketing analytics arm of Adobe is also projecting a record-shattering $10.3 billion in online sales for Black Friday, and a staggering $189 billion for the entire holiday shopping season. Some of the top-selling items so far? Family games (especially chess boards), video games (especially Just Dance 2021), and electronic learning toys from vTech. Top online destinations? Amazon, Walmart, and Target.
It is hard to fathom the demand destruction which would have taken place this Christmas shopping season were it not for e-commerce. Companies that were embracing the trend before the health crisis, such as Walmart and Target, have been richly rewarded for their foresight and their tenacity in taking on Amazon. Retailers who failed to recognize this inevitable trend, such as now-defunct Sears, have paid dearly.
Application & Systems Software
03. Shares of Slack Technologies have risen nearly 40% this week on a rumor that Salesforce may want to buy the firm
Slack Technologies (WORK $41) is a Software as a Services (SaaS) firm which provides electronic communications tools for employees at small- and medium-sized businesses. Think of messaging on your smartphone or laptop, but for secure collaboration between you and your fellow employees. It is quite like Microsoft (MSFT) Teams, which some argue came out as a direct competitor to the Slack platform. The company went public in April of 2019, immediately trading around $37 per share. Shares fell all the way to $15.10 this past March as tech stocks (and stocks in every other industry) were searching for a bottom. By June, shares had risen back to $40, only to drop back down to $24 on the 10th of this month. Then came the rumor, reported by The Wall Street Journal, that SaaS relationship management software giant Salesforce (CRM $247) was in talks to buy the firm. That was all it took for traders to drive the shares up 40% in a matter of days and 69% since the 10th of November. Here's a company, now worth $23 billion thanks to traders, which has never had a profitable quarter and probably won't until the middle of the decade. A company late to the party with respect to video conferencing—a segment now dominated by Zoom (ZM $472). A company relying on one simple product, facing a dominant competitor in the form of Microsoft Teams. Our advice to traders: sell on the rumor.
Slack has a perfectly fine offering; one which we wouldn't mind using. But our Microsoft subscription comes with Teams built in, and we are just one of about 60 million monthly active users. This is an industry with few barriers to entry, and one dominated by the tech giants. Slack's best strategic plan is to pray the deal with Salesforce goes through.
Market Pulse
02. Markets manage to knock out some pretty good gains on a shortened trading week
It would be hard for investors to wish for much more on a holiday-shortened trading week—periods of time which are often anything but calm (remember the ugly week preceding Christmas, 2018?). In the four trading days surrounding Thanksgiving, all three major indexes were up in excess of 2%, and the gains were relatively methodical. The technology and health care sectors led the drive, pushing both the S&P 500 and Nasdaq to new highs. While the Dow couldn't maintain the historic 30,000 mark it hit on Tuesday, it still managed to climb 647 points on the week. Two clear drivers moved the markets this week: a virtual guarantee that Covid vaccines will be available in short order, and more clarity on the political front. Considering the relatively ugly jobs report we got mid-week (778,000 new claims), we're happy to head into December with these gains on the books.
Considering where we were in mid-March, it is remarkable to consider where we are at right now in the markets. We offered a rosy prediction for the remainder of the year back around the first of April, but even our projections ("S&P at 3,500") have been surpassed. December should be a relatively strong month on the back of vaccine rollouts and increased consumer spending, and the sky is the limit for 2021 as we slowly move beyond the pandemic. One of these days we will need to contend with our near-$30 trillion national debt, but odds are it won't be at the top of investors' minds in the coming year.
Under the Radar Investment
01. Under the Radar: Yara International ASA
Yara International ASA (YARIY $21) is a crop nutrition company based out of Oslo, Norway. The $10 billion agricultural inputs firm produces nitrogen-based fertilizers, raw material for feed products, and a broad base of other ag input products for farms and co-ops. Most of Yara's $12 billion in annual sales emanates from Europe and Brazil, where the company has built a large and relatively "sticky" customer base. Founded in 1905, Yara has a strong financial position, a reasonable PE ratio of 17, an unusually-steady stock price, and a dividend yield of 8.28%.
Answer
At the time of the incident, Howland would have been in his early twenties. Incredibly, as he was tumbling into the sea in the midst of a terrible storm and a ship that was bobbing up and down like a cork, Howland was somehow able to grab onto the Mayflower's trailing rope, giving the crew enough time to rescue him with a boat hook. A few years after arriving at Plymouth, Howland married fellow passenger Elizabeth Tilley, and the two went on to have ten children and millions of descendants. Howland lived into his eighties—quite a feat for anyone living in the 17th century.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
"They knew they were Pilgrims..."
In the perilous transatlantic crossing of the Mayflower, a storm of epic proportions threw separatist John Howland overboard into the turbulent waters below. What ultimately happened to Howland?
Penn Trading Desk:
(23 Nov 20) Take 82% short-term gains on Macy's
On 18 May we added Macy's (M $10) to the Intrepid @ $5.55/share. We took advantage of a double-digit jump on 23 Nov to close our position @ 10.09/share for an 82% short-term gain. It may well go higher, but we want to redeploy the capital elsewhere.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Pharmaceuticals
10. For the third week in a row, good vaccine news drives the market higher
Two weeks ago it was Pfizer (PFE). Last week it was Moderna (MRNA). This week, AstraZeneca (AZN $55) became the third drugmaker to drive the market higher with news of a successful Covid-19 vaccine trial. Initial analysis of the company's Phase 3 clinical trial showed its candidate, which is being developed with the University of Oxford, was as much as 90% effective in preventing infection from the virus after both of the doses were administered. Meanwhile, Regeneron (REGN $537) became the second company (Gilead was the first with remdesivir/Veklury) to receive Emergency Use Authorization from the FDA for its therapy to treat the virus. Unlike Veklury, which is typically administered once a patient is hospitalized, Regeneron's therapy is designed to be used to help prevent Covid-19 victims from deteriorating to the point in which they need to be hospitalized. The remarkable progress on this deadly virus continues to impress.
Investors have been paying a lot more attention to the vaccine developers than they have the the biotech companies making actual therapies to treat the disease. We think that's a mistake. Both Gilead (GILD $60)—which is in the Penn Global Leaders Club—and Regeneron look cheap from a valuation standpoint.
Leadership
09. With Tesla's share price on the rise, Elon Musk is suddenly the world's second-richest person
According to the Bloomberg Billionaire Index, Tesla (TSLA $522) and SpaceX founder Elon Musk is now worth $128 billion. He can thank the S&P 500 Index committee in a way: their decision to admit Tesla to the benchmark index has pushed that stock noticeably higher in recent days; in fact, Musk's net worth increased by $7.2 billion on Monday alone. But that's comparative peanuts: So far in 2020, Musk's net worth has risen by $100 billion, moving him from the number 35 spot of the world's richest people to the number two spot this week, knocking Microsoft founder Bill Gates to the number three position.
We imagine the prestige of being the world's second-richest person doesn't mean too much to Musk; his passion for what he does and his grand strategic vision of "making life multiplanetary" drives his thought process. Those who want to get the most out of life should take this lesson to heart with respect to uncovering and following their own unique passions. Another lesson we can learn from Musk: As all of the critics and naysayers were impugning both him and his audacious goals, he forged ahead relentlessly.
Washington Report
08. Investors are comforted by Biden's early cabinet picks
It certainly could have gone in a different direction, but that is not what we were expecting. In an attempt to assuage the radical wing of his party, President-Elect Joe Biden could have offered plum positions to the likes of Elizabeth Warren and Bernie Sanders—moves that would have sent the markets reeling. Instead, the stock market rallied on the news that he would nominate former Fed Chair Janet Yellen as Secretary of the Treasury, and Antony Blinken as Secretary of State. Yellen has a proven and well-known history after serving as an effective Fed Chair, and Blinken's work in the corporate world (as opposed to the fanciful world of "what-ifs" at a think tank) points to a sober domestic and foreign policy approach by the new administration. The far left wing of the party won't celebrate the moves, but the markets sure did.
With a divided government, we are hoping for enough bipartisanship to get the needed work done, but a lack of votes to pass any earth-shattering agenda items. That would be a Goldilocks scenario for the stock market and, dare we say, the economy. Maybe we will even get an infrastructure-light bill drafted and implemented.
Construction & Farm Equipment
07. Farm equipment companies are gearing up for a blowout 2021; Deere's most recent quarter supports that thesis
John Deere (DE $256), the world's leading manufacturer of agricultural equipment, got hit especially hard when the pandemic seized up global economic activity this past spring. That made perfect sense, as CFOs turned on a dime to an ultra-defensive attitude. Considering the premium price attached to Deere equipment (a new 95-series tractor might cost upwards of half-a-million dollars), companies made due with the equipment on hand. Following the sharpest economic decline in US history in Q2, all eyes turned to the third quarter, and especially to the farm and heavy construction machinery industry. To say Deere did not disappoint is putting it mildly. In the company's fiscal fourth quarter, which ended 31 October, equipment sales came in at $8.7 billion—against $7.7B expected, and earnings per share hit $2.39—against $1.49 expected. As if those blowout numbers weren't good enough for the analysts, the company raised its full-year 2021 guidance, citing an expected 5% to 10% jump in equipment sales in virtually every region of the globe.
It is always enlightening to look at the various analyst ratings on a company surrounding an earnings release or any other major news item. For example, Morningstar has a one-star (sell) rating on DE shares with a fair value of $183. Most analysts are bullish to neutral on the $80 billion firm, however. We think the shares of both Deere and Cat (CAT $175), each with a PE ratio of 29, seem fairly valued where they are at.
Specialty Retail
06. Despite their 20% drop in a matter of days, we suspect Gap shares are not done falling
Shares of specialty retailer Gap (GPS $22) dropped 20% following the release of a less-than-stellar third quarter earning report. On sales of $3.99 billion—the exact same as Q3 of 2019—the company earned $0.25 per share. That EPS figure missed analysts' expectations by about 22%. Gap markets its retail apparel primarily under four names: its eponymous stores, Old Navy, Banana Republic, and Athleta, with the Old Navy brand accounting for nearly one-half of the firm's revenues. The Athleta unit, as could be expected, had the biggest jump in sales for the quarter—up 37% from the previous year. Old Navy came in second, with a 17% increase. The Gap and Banana Republic brands, however, served as the anchor, with revenues declining 5% and 30%, respectively. While online sales for the combined units rose 61% from last year, management doesn't seem to have a concrete plan in place for the post-pandemic world. Gap stores have clearly lost the "cool factor" they once had, and Athleta will be competing with the likes of Lululemon (LULU) and Nike (NKE). The San Francisco-based retailer has an enormous footprint in malls across America, with roughly 3,500 company-operated stores and 600 franchise stores. As one could imagine, the aggregate overhead on these stores is enormous, and the company made news this past April when it stopped making lease payments on its shuttered locations. Management did not provide a full-year forecast in the earnings release.
It is difficult for us to imagine what is going to drive shoppers, en masse, back to Gap's branded stores next year. Of course, as the pandemic restrictions are lifted and the malls become hubs of activity once again, sales will improve. But shoppers will have a lot of great stores to choose from, and we don't see Gap eliciting the excitement it used to be able to generate. The mall landlords, meanwhile, will have no problem playing the role of Scrooge in litigating their demands for back rent. And Gap is not exactly sitting on a mountain of cash.
Global Strategy: Mideast
05. Top Iranian nuclear scientist killed near Tehran
Iran's "peaceful" nuclear power program was dealt a major blow on Friday when the alleged head of the unit was killed in a small city east of Tehran. Witnesses describe hearing an explosion followed by the sound of automatic rifles being fired; when the dust settled, Moshen Fakhrizadeh was dead and his bodyguards were either killed or wounded. State-controlled Iranian media outlets wasted no time in pointing the finger at Israel. An advisor to Ali Khamenei, Iran's "supreme leader," responded to the attack: "We will descend like lightning on the killers of this oppressed martyr and we will make them regret their actions!"
Of course, Iran has no need for "peaceful" nuclear power, based on its abundance of fossil fuels. The ability to intimidate its enemies and the capability to actually launch nuclear weapons against those enemies—namely Israel—is at the core of its nuclear development program.
E-Commerce
04. Americans were doing a lot more than eating on Thanksgiving, according to Adobe
According to Adobe Analytics, Americans spent a record $5.1 billion shopping online this Thanksgiving Day, a 21.4% increase from last year's $4.2 billion spent. With consumers understandably avoiding the malls this year, they turned to online shopping via their smartphones—the devices accounted for nearly one half of all purchases made. The marketing analytics arm of Adobe is also projecting a record-shattering $10.3 billion in online sales for Black Friday, and a staggering $189 billion for the entire holiday shopping season. Some of the top-selling items so far? Family games (especially chess boards), video games (especially Just Dance 2021), and electronic learning toys from vTech. Top online destinations? Amazon, Walmart, and Target.
It is hard to fathom the demand destruction which would have taken place this Christmas shopping season were it not for e-commerce. Companies that were embracing the trend before the health crisis, such as Walmart and Target, have been richly rewarded for their foresight and their tenacity in taking on Amazon. Retailers who failed to recognize this inevitable trend, such as now-defunct Sears, have paid dearly.
Application & Systems Software
03. Shares of Slack Technologies have risen nearly 40% this week on a rumor that Salesforce may want to buy the firm
Slack Technologies (WORK $41) is a Software as a Services (SaaS) firm which provides electronic communications tools for employees at small- and medium-sized businesses. Think of messaging on your smartphone or laptop, but for secure collaboration between you and your fellow employees. It is quite like Microsoft (MSFT) Teams, which some argue came out as a direct competitor to the Slack platform. The company went public in April of 2019, immediately trading around $37 per share. Shares fell all the way to $15.10 this past March as tech stocks (and stocks in every other industry) were searching for a bottom. By June, shares had risen back to $40, only to drop back down to $24 on the 10th of this month. Then came the rumor, reported by The Wall Street Journal, that SaaS relationship management software giant Salesforce (CRM $247) was in talks to buy the firm. That was all it took for traders to drive the shares up 40% in a matter of days and 69% since the 10th of November. Here's a company, now worth $23 billion thanks to traders, which has never had a profitable quarter and probably won't until the middle of the decade. A company late to the party with respect to video conferencing—a segment now dominated by Zoom (ZM $472). A company relying on one simple product, facing a dominant competitor in the form of Microsoft Teams. Our advice to traders: sell on the rumor.
Slack has a perfectly fine offering; one which we wouldn't mind using. But our Microsoft subscription comes with Teams built in, and we are just one of about 60 million monthly active users. This is an industry with few barriers to entry, and one dominated by the tech giants. Slack's best strategic plan is to pray the deal with Salesforce goes through.
Market Pulse
02. Markets manage to knock out some pretty good gains on a shortened trading week
It would be hard for investors to wish for much more on a holiday-shortened trading week—periods of time which are often anything but calm (remember the ugly week preceding Christmas, 2018?). In the four trading days surrounding Thanksgiving, all three major indexes were up in excess of 2%, and the gains were relatively methodical. The technology and health care sectors led the drive, pushing both the S&P 500 and Nasdaq to new highs. While the Dow couldn't maintain the historic 30,000 mark it hit on Tuesday, it still managed to climb 647 points on the week. Two clear drivers moved the markets this week: a virtual guarantee that Covid vaccines will be available in short order, and more clarity on the political front. Considering the relatively ugly jobs report we got mid-week (778,000 new claims), we're happy to head into December with these gains on the books.
Considering where we were in mid-March, it is remarkable to consider where we are at right now in the markets. We offered a rosy prediction for the remainder of the year back around the first of April, but even our projections ("S&P at 3,500") have been surpassed. December should be a relatively strong month on the back of vaccine rollouts and increased consumer spending, and the sky is the limit for 2021 as we slowly move beyond the pandemic. One of these days we will need to contend with our near-$30 trillion national debt, but odds are it won't be at the top of investors' minds in the coming year.
Under the Radar Investment
01. Under the Radar: Yara International ASA
Yara International ASA (YARIY $21) is a crop nutrition company based out of Oslo, Norway. The $10 billion agricultural inputs firm produces nitrogen-based fertilizers, raw material for feed products, and a broad base of other ag input products for farms and co-ops. Most of Yara's $12 billion in annual sales emanates from Europe and Brazil, where the company has built a large and relatively "sticky" customer base. Founded in 1905, Yara has a strong financial position, a reasonable PE ratio of 17, an unusually-steady stock price, and a dividend yield of 8.28%.
Answer
At the time of the incident, Howland would have been in his early twenties. Incredibly, as he was tumbling into the sea in the midst of a terrible storm and a ship that was bobbing up and down like a cork, Howland was somehow able to grab onto the Mayflower's trailing rope, giving the crew enough time to rescue him with a boat hook. A few years after arriving at Plymouth, Howland married fellow passenger Elizabeth Tilley, and the two went on to have ten children and millions of descendants. Howland lived into his eighties—quite a feat for anyone living in the 17th century.
Headlines for the Week of 15 Nov—21 Nov 2020
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
Pandemic winter will give way to vaccine spring...
The world is focused on the race to get safe, effective vaccines into the arms of the public as quickly as possible to help put an end to the pandemic. Odds are strong that by this coming April the vaccines will be widely available. When was the first laboratory vaccine created, and what disease did it prevent?
Penn Trading Desk:
(12 Nov 20) Replacing AbbVie with pharma powerhouse in Global Leaders
It's not so much that we wanted to sell AbbVie in the Penn Global Leaders Club but rather that we wanted to add this foreign pharma powerhouse to the mix, and we were at our self-imposed limit of Health Care holdings within the strategy. A leader in the respiratory, oncology, antiviral, and vaccine arenas, a 5%+ yield, undervalued, and a chance to add to the international portion (which is probably lacking) of a portfolio. It was the right time to strike.
(19 Nov 20) Citi releases its 2021 outlook for gold
Right now, Gold is sitting around $1,865 per ounce. One of our favorite investments since the middle of 2019, we see global fiscal spending only driving the price higher. Citigroup seems to agree, at least with respect to 2021. Analysts at the firm released their guidance for the yellow metal over the coming year: they see the price rising to $2,500 by year-end, or about 35% higher than current levels. We agree.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Biotechnology
10. Following in Pfizer's footsteps, Moderna brings us another step closer to controlling the pandemic
It truly is remarkable when you think about it. Biotech Moderna (MRNA $99) enrolled 30,000 participants one month ago for a Phase 3 trial on a vaccine to prevent a virus the world didn't know about a year ago. The group of 30,000 was split in two, with half receiving a placebo and half receiving the vaccine. There were 95 confirmed cases of Covid among the participants during the trial period: 90 in the placebo group and five in the vaccine group. Those stunning results led to Moderna's claim of a 94.5% efficacy rate and its application to the FDA for emergency use of the therapy. Shares had a double-digit rally on the news, and the week opened with a bang—just as it had done on the previous Monday thanks to Pfizer's equally-stunning results. As could be expected, the naysayers tried to throw cold water on the incredible advance, reminding us that we have a long way to go from a trial to a vaccine waiting for us in our physician's office. We disagree. Yes, there is a tragic second wave of the virus straining our health care system and killing Americans. But the same lightning-speed urgency that is bringing us these vaccines in record time will also be in place with respect to the creation and delivery of hundreds of millions of their doses. By this coming spring, we expect virtually every American who wants to get the double-dose vaccine (and that number needs to be around 60% or more of the population) to be able to set an appointment and do so. And despite the focus on vaccines, Gilead's Veklury (remdesivir) was just approved by the FDA as a Covid treatment, with a number of other therapies going through the trial stage. Expect a flourishing US economy to return by the middle of next year as the lockdowns and closures become a thing of the past.
In the next issue of The Penn Wealth Report, we discuss the latest on the vaccine front, plus a look at some of the ancillary players in the battle which are not being given the credit they are due.
Automotive
09. A major milestone for Tesla: it will be added to the S&P 500 Index
After five consecutive quarters of net profit, Tesla (TSLA $458) is headed to the S&P 500 Index. While the $434 billion EV maker technically became eligible for the benchmark index this past summer, following its fourth consecutive quarterly profit, the Index committee passed, offering no rationale for their decision. On the 21st of December, however, Tesla will officially become the largest company ever added to the Index, smoothing the way for more investment dollars to flow into Elon Musk's firm. We think of all the Tesla skeptics, many of whom have already expressed their anger over the inclusion, and all of the TSLA short sellers who seem to lose money at every turn. One sour grapes analyst proclaimed that "S&P is making a big mistake and adding lots of downside risk to the index...." Pardon us if we don't put much weight behind the words of an analyst who has proven to be chronically wrong.
Despite Ford and GM's push into the EV market, Tesla will maintain its dominant market position for decades to come. As the company's advanced Supercharger network continues its buildout, expect to see an ever-increasing number of Teslas on the road. Projections for vehicle deliveries in 2020 have increased from 800,000 to 950,000, and for 2021 projections have risen from 1.15 million to 1.6 million new vehicles. New plants are nearing completion in Texas, Berlin, and Shanghai. And don't forget about the company's massive battery gigafactories and its growing solar business.
Business & Professional Services
08. In a nod to the current state of many Americans' fiscal condition, PayPal will give employees immediate access to pay
Recent studies show that nearly one-half of all working Americans are living paycheck to paycheck, meaning they would not have the liquid assets available to pay living expenses were their next paycheck not to come in. Even among households making more than $100,000 per year, the number is a staggering one-third. Against that backdrop, $227 billion financial services firm PayPal (PYPL $194) has announced that it will give its US-based employees access to their pay as soon as they earn it, rather than having to wait for their twice-monthly deposit. To make this happen, the company is teaming up with privately-held Even Responsible Finance, an on-demand pay platform. Members of PayPal's management team, led by CEO Dan Schulman, identified the problem when they set up an emergency relief fund for employees who found themselves in a cash crunch. The request for assistance was much greater than expected, leading to the current arrangement with Even. Users of the app are also able to move money into savings and access basic budgetary tools. PayPal has approximately 20,000 employees, with the vast majority based in the U.S.
Expect more and more employers to begin offering such tools and services to their employees going forward. The historically-low rate of savings among a majority of Americans has been a chronic problem for the past two generations, and it must be addressed.
IT Software & Services
07. Penn member Palantir surges double digits after news of big hedge fund purchases
It is fair to say that super-secret data mining firm Palantir (PLTR $18) was our most highly-anticipated IPO ever, as we were writing about the company—whose data fingered the precise location of Osama bin Laden for the DoD—eighteen months before it went public. Within five minutes of the IPO, we had secured PLTR for clients and placed the firm in the Penn New Frontier Fund. Now, less than seven weeks later, our position is trading about 70% higher with plenty of growth potential ahead. Shares spiked another 12% in one session this week after it was disclosed that Steve Cohen's hedge fund, Point72 Asset Management LP, purchased nearly 30 million shares in the third quarter. Another fund, Anchorage Capital Group, acquired 3 million shares in Q3. Palantir offers highly-sophisticated data mining services to government agencies and corporations around the world. Management has a strict policy, however, of only doing business with staunch US allies; e.g., the company would not do business with Chinese entities. Naysaying analysts expressed doubts around the time of the IPO that the firm could expand their customer base substantially considering the amount government agencies pay for the sensitive information, and the company's reliance on its biggest clients for revenue. Those arguments were muted after Palantir's first earnings report as a publicly-traded entity: revenues grew 52% and full-year guidance was raised to $1.072 billion—a 44% growth rate from a year earlier. PLTR holds Position #6 (out of 24) in the Penn New Frontier Fund, our emerging technologies portfolio.
Drug Retail
06. Drug retailers hit the skids after Amazon launches its new pharmacy
Rite Aid got hit the hardest, down 15%, followed by Walgreens (-10%), CVS (-8%), and even retail giant Walmart (-2%). What caused these one-day drops in the shares of major drug retailers? The announcement that Amazon (AMZN $3,136) would finally be adding a pharmacy counter to its site. Rite Aid tried to throw cold water on the announcement, with the COO arguing that getting prescription drugs involves a lot more than does a typical shopping transaction. Really? We think of the hassles we have had in the past simply getting prescriptions filled in a timely manner, and it makes perfect sense as to why these drug retailers fell so much in a day. We don't recall, however, any extensive conversations with the pharmacist at the local Walmart. "Name? Date of Birth? You have one prescription ready." That's about the extent of it. And is it really the business of the person behind me in line as to what year I was born? When filling scripts online directly through our PBM (Cigna), we wonder how long it will actually take the post office to deliver the goods. Like them or not, we have full faith in Amazon's ability to deliver meds to our home in one or two days, which is what Amazon Pharmacy is promising for its 80 million or so Prime members. Walgreens CEO Stefano Pessina said he is not particularly worried about Amazon's move into the space. Does anyone believe that? Amazon Pharmacy will be a major disruptor in the prescription drug space. Investors need to take a renewed look at their holdings in the drug retail and medical distribution (think McKesson and Cardinal Health) industries. We can't stand Jeff Bezos, but owning Amazon in the Penn Global Leaders Club has certainly paid off.
Government Watchdog
05. Nightmarish New York fiscal situation: MTA may issue low-denomination bonds to raise more cash
Who should be held accountable for the freakishly-mismanaged New York Metropolitan Transportation Authority: New York or taxpayers across the country? The organization can blame the pandemic all they want, but their financial situation was dire long before the Wuhan-borne virus ever came along. Now, the largest public transportation agency in the country said it will cut 9,400 jobs and drastically reduce its subway, train, and bus services in New York if the federal government doesn't send them $12 billion immediately. That won't happen, at least not this year, so the agency has announced plans to potentially issue $3 billion in "deficit bonds." To attract everyday commuters, they will even (potentially) come in $1,000 denominations so all can participate. Just last month the agency sold $257 million of "green bonds" (how did the environment get involved?), with the proceeds going to pay down bonds that are maturing now. Apply this situation to the common American household. It is akin to maxing out the credit cards, getting a home equity line-of-credit to pay off the balances, re-maxing out the cards, and then demanding that mom and dad (the federal government using taxpayer funds) pony up! Yikes. Our only question is who the hell would invest in these Frankenstein bonds?
New York, like Chicago, like San Francisco, like any other ineptly-run major city government in the US, was on tenuous ice before the pandemic, and they will learn nothing from the hell they are going through. It will always be someone else's fault, and they will always be the victim of circumstances. The federal government needs to stop enabling and demand these cities fix their own problems.
Textiles, Apparel, & Luxury Goods
04. Bath & Body Works, Victoria's Secret parent jumps 16% on unexpected earnings beat
We have traded L Brands (LB $39) on and off for decades, but steered clear after the longest-serving CEO of any company in the S&P 500, Les Wexner, began to show signs that things weren't clicking upstairs like they once were. The fact that he was also ensnared in the Jeffrey Epstein brouhaha didn't help, either. When Wexner indicated this past January that he may be willing to let go of the company he founded in 1962, we almost bit once again on LB shares. We should have—they were trading for $23. In a logic-defying earnings report, the company's Bath & Body Works unit posted a 55% jump in quarterly sales, with L Brands turning a profit of $330 million versus a loss of $252 million in the same quarter last year. When we think of L Brands' flagship names, with think bricks-and-mortar stores; the fact that the company was able to perform so strongly during the heart of the pandemic is remarkable. It also portends good things to come for the company under new leadership: longtime retail specialist Andrew Meslow took the reins from Wexner this past May. The founder made a lot of boneheaded moves in his waning months, like ditching swimsuits, stopping catalog mailings, and shunning digital sales to focus on his physical stores (he told the WSJ that he had 5,000 years of history on his side). The company still has a lot of debt, and the price seems rich at $38 after their 16% spike on the earnings release, but it feels like they won't need to be going the Chapter 11 route anytime soon. While we don't own LB, we did pick up shares of Macy's (M) and Nordstrom (JWN) in the Intrepid during the darkest days of the downturn. Those positions have paid off nicely.
Pharmaceuticals
03. Pfizer shareholders get an early Christmas gift: Viatris
Pfizer (PFE $37) has completed its spinoff of the firm's Upjohn business, combining it with Mylan NV to form Viatris, Inc (VTRS $17). The newly-formed pharma company, $20 billion in size, will be largely led by Pfizer executives and will focus its efforts on generic and biosimilar compounds. Shareholders of Pfizer, a member of the Penn Global Leaders Club, will receive 0.125 shares of Viatris for every one share of PFE owned. So far, the deal has already paid off: shares are up 21% from the basis price. The generic drug market is huge, and Viatris is an immediate leader in the space. We believe the shares are worth $25, nearly a 50% upside from where they are currently trading.
Hotels, Resorts, & Cruise Lines
02. Airbnb: the next big IPO investors need to consider owning
There are a handful of IPOs we get excited about each year. The last one was Palantir (PLTR $18), which is up 70% since we purchased it on the last day of September. The next one will be Airbnb, which will trade on the Nasdaq under the symbol ABNB. Understandably, the pandemic hammered the vacation rental company, with revenues in Q2 of this year plummeting 72% from the same quarter in 2019. What does that mean for investors? They can expect to pick up shares a lot cheaper than they could have were there no pandemic. Airbnb's model is sound; nothing about the global health disaster changed that, and we expect a full rebound by the company as vaccines and therapies come online. In fact, one could make the argument that travelers will feel safer in the type of single-unit rentals the company typically hosts, rather than the crowded lobbies of the major hotel chains. Expect ABNB to begin trading in mid-December with an immediate market cap of roughly $30 billion. Like Palantir, we will own ABNB shares within minutes of the first trade.
Under the Radar Investment
01. Under the Radar: The GEO Group
The GEO Group (GEO $9) is a real estate investment trust specializing in detention facilities and community-reentry facilities. The company leases and oversees secure detention centers, rehab facilities, and service centers for troubled youth. Services include counseling, education, drug abuse treatment, tech-based supervision, and detainee transportation. Most of GEO's revenue comes from the leasing and management of these facilities in the US, Australia, South Africa, and the UK. The company had a net income of $167 million last year on $2.5 billion in revenue. Private prison stocks have stumbled since the election under the assumption that a Democrat in the White House would spell trouble for non-government entities in this arena. With the nature of GEO's work, however, we think investors miscalculated on this one. If shares climb back to their 2020 high, it would mean a 100% profit for investors.
Answer
In 1879, Louis Pasteur was studying fowl cholera by injecting chickens with the live bacteria and recording their subsequent deterioration. Before a holiday, he gave instructions to an assistant to make injections into the chickens with a fresh culture, as he would be away from his lab. The assistant forgot to do so. Upon return to the lab, Pasteur found the chickens still alive, suffering only mild symptoms of the disease. When injected with a full dose of the bacteria once again, he discovered that the chickens had developed immunity. He correctly deduced that a weakened form of the bacteria would allow the body to develop resistance to the disease. He immediately turned his attention to an anthrax epidemic which was raging in France. He successfully applied what he had learned in his lab from the chicken cholera experiment to develop an anthrax vaccine.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
Pandemic winter will give way to vaccine spring...
The world is focused on the race to get safe, effective vaccines into the arms of the public as quickly as possible to help put an end to the pandemic. Odds are strong that by this coming April the vaccines will be widely available. When was the first laboratory vaccine created, and what disease did it prevent?
Penn Trading Desk:
(12 Nov 20) Replacing AbbVie with pharma powerhouse in Global Leaders
It's not so much that we wanted to sell AbbVie in the Penn Global Leaders Club but rather that we wanted to add this foreign pharma powerhouse to the mix, and we were at our self-imposed limit of Health Care holdings within the strategy. A leader in the respiratory, oncology, antiviral, and vaccine arenas, a 5%+ yield, undervalued, and a chance to add to the international portion (which is probably lacking) of a portfolio. It was the right time to strike.
(19 Nov 20) Citi releases its 2021 outlook for gold
Right now, Gold is sitting around $1,865 per ounce. One of our favorite investments since the middle of 2019, we see global fiscal spending only driving the price higher. Citigroup seems to agree, at least with respect to 2021. Analysts at the firm released their guidance for the yellow metal over the coming year: they see the price rising to $2,500 by year-end, or about 35% higher than current levels. We agree.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Biotechnology
10. Following in Pfizer's footsteps, Moderna brings us another step closer to controlling the pandemic
It truly is remarkable when you think about it. Biotech Moderna (MRNA $99) enrolled 30,000 participants one month ago for a Phase 3 trial on a vaccine to prevent a virus the world didn't know about a year ago. The group of 30,000 was split in two, with half receiving a placebo and half receiving the vaccine. There were 95 confirmed cases of Covid among the participants during the trial period: 90 in the placebo group and five in the vaccine group. Those stunning results led to Moderna's claim of a 94.5% efficacy rate and its application to the FDA for emergency use of the therapy. Shares had a double-digit rally on the news, and the week opened with a bang—just as it had done on the previous Monday thanks to Pfizer's equally-stunning results. As could be expected, the naysayers tried to throw cold water on the incredible advance, reminding us that we have a long way to go from a trial to a vaccine waiting for us in our physician's office. We disagree. Yes, there is a tragic second wave of the virus straining our health care system and killing Americans. But the same lightning-speed urgency that is bringing us these vaccines in record time will also be in place with respect to the creation and delivery of hundreds of millions of their doses. By this coming spring, we expect virtually every American who wants to get the double-dose vaccine (and that number needs to be around 60% or more of the population) to be able to set an appointment and do so. And despite the focus on vaccines, Gilead's Veklury (remdesivir) was just approved by the FDA as a Covid treatment, with a number of other therapies going through the trial stage. Expect a flourishing US economy to return by the middle of next year as the lockdowns and closures become a thing of the past.
In the next issue of The Penn Wealth Report, we discuss the latest on the vaccine front, plus a look at some of the ancillary players in the battle which are not being given the credit they are due.
Automotive
09. A major milestone for Tesla: it will be added to the S&P 500 Index
After five consecutive quarters of net profit, Tesla (TSLA $458) is headed to the S&P 500 Index. While the $434 billion EV maker technically became eligible for the benchmark index this past summer, following its fourth consecutive quarterly profit, the Index committee passed, offering no rationale for their decision. On the 21st of December, however, Tesla will officially become the largest company ever added to the Index, smoothing the way for more investment dollars to flow into Elon Musk's firm. We think of all the Tesla skeptics, many of whom have already expressed their anger over the inclusion, and all of the TSLA short sellers who seem to lose money at every turn. One sour grapes analyst proclaimed that "S&P is making a big mistake and adding lots of downside risk to the index...." Pardon us if we don't put much weight behind the words of an analyst who has proven to be chronically wrong.
Despite Ford and GM's push into the EV market, Tesla will maintain its dominant market position for decades to come. As the company's advanced Supercharger network continues its buildout, expect to see an ever-increasing number of Teslas on the road. Projections for vehicle deliveries in 2020 have increased from 800,000 to 950,000, and for 2021 projections have risen from 1.15 million to 1.6 million new vehicles. New plants are nearing completion in Texas, Berlin, and Shanghai. And don't forget about the company's massive battery gigafactories and its growing solar business.
Business & Professional Services
08. In a nod to the current state of many Americans' fiscal condition, PayPal will give employees immediate access to pay
Recent studies show that nearly one-half of all working Americans are living paycheck to paycheck, meaning they would not have the liquid assets available to pay living expenses were their next paycheck not to come in. Even among households making more than $100,000 per year, the number is a staggering one-third. Against that backdrop, $227 billion financial services firm PayPal (PYPL $194) has announced that it will give its US-based employees access to their pay as soon as they earn it, rather than having to wait for their twice-monthly deposit. To make this happen, the company is teaming up with privately-held Even Responsible Finance, an on-demand pay platform. Members of PayPal's management team, led by CEO Dan Schulman, identified the problem when they set up an emergency relief fund for employees who found themselves in a cash crunch. The request for assistance was much greater than expected, leading to the current arrangement with Even. Users of the app are also able to move money into savings and access basic budgetary tools. PayPal has approximately 20,000 employees, with the vast majority based in the U.S.
Expect more and more employers to begin offering such tools and services to their employees going forward. The historically-low rate of savings among a majority of Americans has been a chronic problem for the past two generations, and it must be addressed.
IT Software & Services
07. Penn member Palantir surges double digits after news of big hedge fund purchases
It is fair to say that super-secret data mining firm Palantir (PLTR $18) was our most highly-anticipated IPO ever, as we were writing about the company—whose data fingered the precise location of Osama bin Laden for the DoD—eighteen months before it went public. Within five minutes of the IPO, we had secured PLTR for clients and placed the firm in the Penn New Frontier Fund. Now, less than seven weeks later, our position is trading about 70% higher with plenty of growth potential ahead. Shares spiked another 12% in one session this week after it was disclosed that Steve Cohen's hedge fund, Point72 Asset Management LP, purchased nearly 30 million shares in the third quarter. Another fund, Anchorage Capital Group, acquired 3 million shares in Q3. Palantir offers highly-sophisticated data mining services to government agencies and corporations around the world. Management has a strict policy, however, of only doing business with staunch US allies; e.g., the company would not do business with Chinese entities. Naysaying analysts expressed doubts around the time of the IPO that the firm could expand their customer base substantially considering the amount government agencies pay for the sensitive information, and the company's reliance on its biggest clients for revenue. Those arguments were muted after Palantir's first earnings report as a publicly-traded entity: revenues grew 52% and full-year guidance was raised to $1.072 billion—a 44% growth rate from a year earlier. PLTR holds Position #6 (out of 24) in the Penn New Frontier Fund, our emerging technologies portfolio.
Drug Retail
06. Drug retailers hit the skids after Amazon launches its new pharmacy
Rite Aid got hit the hardest, down 15%, followed by Walgreens (-10%), CVS (-8%), and even retail giant Walmart (-2%). What caused these one-day drops in the shares of major drug retailers? The announcement that Amazon (AMZN $3,136) would finally be adding a pharmacy counter to its site. Rite Aid tried to throw cold water on the announcement, with the COO arguing that getting prescription drugs involves a lot more than does a typical shopping transaction. Really? We think of the hassles we have had in the past simply getting prescriptions filled in a timely manner, and it makes perfect sense as to why these drug retailers fell so much in a day. We don't recall, however, any extensive conversations with the pharmacist at the local Walmart. "Name? Date of Birth? You have one prescription ready." That's about the extent of it. And is it really the business of the person behind me in line as to what year I was born? When filling scripts online directly through our PBM (Cigna), we wonder how long it will actually take the post office to deliver the goods. Like them or not, we have full faith in Amazon's ability to deliver meds to our home in one or two days, which is what Amazon Pharmacy is promising for its 80 million or so Prime members. Walgreens CEO Stefano Pessina said he is not particularly worried about Amazon's move into the space. Does anyone believe that? Amazon Pharmacy will be a major disruptor in the prescription drug space. Investors need to take a renewed look at their holdings in the drug retail and medical distribution (think McKesson and Cardinal Health) industries. We can't stand Jeff Bezos, but owning Amazon in the Penn Global Leaders Club has certainly paid off.
Government Watchdog
05. Nightmarish New York fiscal situation: MTA may issue low-denomination bonds to raise more cash
Who should be held accountable for the freakishly-mismanaged New York Metropolitan Transportation Authority: New York or taxpayers across the country? The organization can blame the pandemic all they want, but their financial situation was dire long before the Wuhan-borne virus ever came along. Now, the largest public transportation agency in the country said it will cut 9,400 jobs and drastically reduce its subway, train, and bus services in New York if the federal government doesn't send them $12 billion immediately. That won't happen, at least not this year, so the agency has announced plans to potentially issue $3 billion in "deficit bonds." To attract everyday commuters, they will even (potentially) come in $1,000 denominations so all can participate. Just last month the agency sold $257 million of "green bonds" (how did the environment get involved?), with the proceeds going to pay down bonds that are maturing now. Apply this situation to the common American household. It is akin to maxing out the credit cards, getting a home equity line-of-credit to pay off the balances, re-maxing out the cards, and then demanding that mom and dad (the federal government using taxpayer funds) pony up! Yikes. Our only question is who the hell would invest in these Frankenstein bonds?
New York, like Chicago, like San Francisco, like any other ineptly-run major city government in the US, was on tenuous ice before the pandemic, and they will learn nothing from the hell they are going through. It will always be someone else's fault, and they will always be the victim of circumstances. The federal government needs to stop enabling and demand these cities fix their own problems.
Textiles, Apparel, & Luxury Goods
04. Bath & Body Works, Victoria's Secret parent jumps 16% on unexpected earnings beat
We have traded L Brands (LB $39) on and off for decades, but steered clear after the longest-serving CEO of any company in the S&P 500, Les Wexner, began to show signs that things weren't clicking upstairs like they once were. The fact that he was also ensnared in the Jeffrey Epstein brouhaha didn't help, either. When Wexner indicated this past January that he may be willing to let go of the company he founded in 1962, we almost bit once again on LB shares. We should have—they were trading for $23. In a logic-defying earnings report, the company's Bath & Body Works unit posted a 55% jump in quarterly sales, with L Brands turning a profit of $330 million versus a loss of $252 million in the same quarter last year. When we think of L Brands' flagship names, with think bricks-and-mortar stores; the fact that the company was able to perform so strongly during the heart of the pandemic is remarkable. It also portends good things to come for the company under new leadership: longtime retail specialist Andrew Meslow took the reins from Wexner this past May. The founder made a lot of boneheaded moves in his waning months, like ditching swimsuits, stopping catalog mailings, and shunning digital sales to focus on his physical stores (he told the WSJ that he had 5,000 years of history on his side). The company still has a lot of debt, and the price seems rich at $38 after their 16% spike on the earnings release, but it feels like they won't need to be going the Chapter 11 route anytime soon. While we don't own LB, we did pick up shares of Macy's (M) and Nordstrom (JWN) in the Intrepid during the darkest days of the downturn. Those positions have paid off nicely.
Pharmaceuticals
03. Pfizer shareholders get an early Christmas gift: Viatris
Pfizer (PFE $37) has completed its spinoff of the firm's Upjohn business, combining it with Mylan NV to form Viatris, Inc (VTRS $17). The newly-formed pharma company, $20 billion in size, will be largely led by Pfizer executives and will focus its efforts on generic and biosimilar compounds. Shareholders of Pfizer, a member of the Penn Global Leaders Club, will receive 0.125 shares of Viatris for every one share of PFE owned. So far, the deal has already paid off: shares are up 21% from the basis price. The generic drug market is huge, and Viatris is an immediate leader in the space. We believe the shares are worth $25, nearly a 50% upside from where they are currently trading.
Hotels, Resorts, & Cruise Lines
02. Airbnb: the next big IPO investors need to consider owning
There are a handful of IPOs we get excited about each year. The last one was Palantir (PLTR $18), which is up 70% since we purchased it on the last day of September. The next one will be Airbnb, which will trade on the Nasdaq under the symbol ABNB. Understandably, the pandemic hammered the vacation rental company, with revenues in Q2 of this year plummeting 72% from the same quarter in 2019. What does that mean for investors? They can expect to pick up shares a lot cheaper than they could have were there no pandemic. Airbnb's model is sound; nothing about the global health disaster changed that, and we expect a full rebound by the company as vaccines and therapies come online. In fact, one could make the argument that travelers will feel safer in the type of single-unit rentals the company typically hosts, rather than the crowded lobbies of the major hotel chains. Expect ABNB to begin trading in mid-December with an immediate market cap of roughly $30 billion. Like Palantir, we will own ABNB shares within minutes of the first trade.
Under the Radar Investment
01. Under the Radar: The GEO Group
The GEO Group (GEO $9) is a real estate investment trust specializing in detention facilities and community-reentry facilities. The company leases and oversees secure detention centers, rehab facilities, and service centers for troubled youth. Services include counseling, education, drug abuse treatment, tech-based supervision, and detainee transportation. Most of GEO's revenue comes from the leasing and management of these facilities in the US, Australia, South Africa, and the UK. The company had a net income of $167 million last year on $2.5 billion in revenue. Private prison stocks have stumbled since the election under the assumption that a Democrat in the White House would spell trouble for non-government entities in this arena. With the nature of GEO's work, however, we think investors miscalculated on this one. If shares climb back to their 2020 high, it would mean a 100% profit for investors.
Answer
In 1879, Louis Pasteur was studying fowl cholera by injecting chickens with the live bacteria and recording their subsequent deterioration. Before a holiday, he gave instructions to an assistant to make injections into the chickens with a fresh culture, as he would be away from his lab. The assistant forgot to do so. Upon return to the lab, Pasteur found the chickens still alive, suffering only mild symptoms of the disease. When injected with a full dose of the bacteria once again, he discovered that the chickens had developed immunity. He correctly deduced that a weakened form of the bacteria would allow the body to develop resistance to the disease. He immediately turned his attention to an anthrax epidemic which was raging in France. He successfully applied what he had learned in his lab from the chicken cholera experiment to develop an anthrax vaccine.
Headlines for the Week of 01 Nov—07 Nov 2020
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The once-dominant fossil fuels market continues its decline...
With an aggregate market cap of $1.67 trillion, the Energy sector now accounts for a paltry 2% of the S&P 500 (by contrast, the Information Technology sector accounts for 27% of the benchmark index). What was the sector's weighting in mid-1990 as America was preparing for Operation Desert Shield/Storm?
Penn Trading Desk:
(29 Oct 20) Adding a shipping powerhouse to Intrepid at a deep discount to FV
We began trading this maritime shipper in the late 1990s and have an excellent sense for when it is undervalued. We believe it is currently undervalued by 78%—conservatively. We have re-added the Bermuda-based shipper to the Intrepid Trading Platform.
(30 Oct 20) Added Aerospace & Defense firm to Intrepid
Actually, this small-cap American company could be listed in either the Aerospace & Defense industry or the Leisure Equipment industry. Either way, sales are through the roof based in good measure on the political environment.
(03 Nov 20) Added cutting-edge auto parts maker to the Global Leaders Club
This $9 billion auto parts manufacturer is making all the right moves to generate increased market share in our clean air/electric vehicle environment, to include a very smart recent acquisition. Increased vehicle efficiency is its forte, and its "sticky" customer base proves the strategy is working.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Application & Systems Software
10. German software giant SAP has biggest drop since 1996 on slashed outlook
In the stock's worst day in nearly a quarter-century, shares of $150 billion German software giant SAP (SAP $118) dropped over 21% after the company slashed its outlook for 2020, blaming the pandemic for putting the brakes on new corporate spending. Bad news for the company, but here's what investors need to know: is this train wreck company-centric, or does it portend bad news for the industry? The company, which sells a broad range of enterprise software products and services to corporations, government agencies, and educational institutions, generates approximately 40% of its revenues from the Americas, 40% from Europe, and 20% from Asia. We know that Europe is still reeling from the pandemic, with much of the continent back in lockdown mode. The US has been ramping up its corporate engine at a faster clip, and many parts of Asia are clawing their way back to pre-pandemic business activity levels. Looking at comparable offerings from the competition, Amazon's Web Services, Microsoft's Azure, and Oracle's suite of cloud infrastructure offerings have all held up relatively well this year. Software as a service (SaaS) providers such as Workday and Salesforce have actually been increasing market share—to the detriment of SAP. So, as bad as the news was for the company, the damage doesn't seem to be bleeding over to the competition.
Our favorite systems software company continues to be Microsoft (MSFT $212), and our favorite specialty applications firm is Adobe (ADBE $475). We own both in the Penn Global Leaders Club and, at their current prices, both offer a better value than SAP. We have no confidence in SAP's management team following Bill McDermott's departure for ServiceNow (NOW $504—another great industry player, but too rich with its 137 multiple).
Semiconductors & Related Equipment
09. AMD to buy Xilinx in another shot at rival Intel, but who is under greater pressure to perform?
When evaluating stocks, one of the most useful methods involves comparing a company's key stats to those of other companies in the same industry. Typically, the numbers are relatively aligned, but every now and again one notes a glaring discrepancy. Take two semiconductor giants: AMD (AMD $82) and Intel (INTC $46). The former has a market cap of around $90 billion, and the latter's size is over double that. The big discrepancy comes in the multiple investors have placed on each. While AMD carries an enormous PE of 150, Intel's multiple is just 9! That seems crazy for two companies which do, basically, the same thing. In essence, investors have no confidence in Intel's ability to pull out of its funk, while they are willing to give AMD's quite effective CEO Lisa Su every benefit of the doubt.
Su's most recent move, announced this week, is the acquisition of data center and cloud computing semiconductor maker Xilinx (XLNX) for $35 billion. At face value, the move appears brilliant, as the acquisition will complement—not duplicate—AMD's current chip focus and will allow the firm to yank market share away from Intel. In an effort to expand its own chip lineup, Intel purchased cloud chipmakers Altera and Mobileye (think autonomous vehicles) back in 2015 and 2017, respectively, but those acquisitions have yet to bear much fruit. Xilinx, which makes field-programmable gate arrays (FGPAs can be reprogrammed after they are manufactured), makes chips for the automotive and aerospace industry in addition to its data center business.
We say the move by AMD appears brilliant but it will also be very expensive, considering the $35 billion price tag equates to 38% of AMD's market cap. The firm must execute the integration with precision, as it has very little room for error. On the flip-side, investors have written off deep-valued Intel. This will be interesting to watch play out.
Call it the contrarian in us, or simply our recollection of what happened to high-flyers in 2000, but we would buy Intel right now (at $45) over AMD. Some would argue that Intel is a value trap, but the firm still controls the lion's share of the PC and server market, and it is investing in R&D like a nimble startup. It wouldn't take much for its shares to pop 50% and still appear cheap.
Life Sciences Tools & Services
08. Exact Sciences is expanding its cancer screening lineup with Thrive acquisition
Few technological advances are as exciting as noninvasive medical diagnostics—the ability to be screened for everything from colon cancer to heart problems without the specter of being knocked out with drugs and probed with instruments. We're not exactly at the Bones McCoy stage yet, but we are rapidly getting there. One of the companies on the frontline of noninvasive medical diagnostics is Exact Sciences (EXAS $129), which most people might recognize by the little blue talking Cologuard box in TV ads. While the company's claim to fame has been its at-home colorectal cancer screening kits, it is about to make a huge leap forward with its $2.15 billion acquisition of privately-held Thrive Earlier Detection. Thrive has developed a blood screening test for the early detection of a number of different cancers, and the potential market for such products is astronomical. Interestingly, the company's blood tests—assuming the advances continue—would probably start encroaching on Cologuard's turf soon. Another reason the acquisition makes sense. For all its promise, Exact Sciences has yet to turn a profit. While its shares are grossly overvalued at $129, keep an eye on the firm—eventual profitability and a more reasonable share price will equal a nice buy point.
Goods & Services
07. Following the sharpest economic decline in US history, the sharpest expansion
In the second quarter of 2020, the US economy recorded an almost unfathomable decline of 31.4% (thanks, China). Now, one quarter later, we have the strongest economic growth, quarter-over-quarter, in US history. Against expectations for a 32% expansion, Q3 GDP came in at 33.1% annualized clip according to the Commerce Department. GDP measures the total goods and services produced within a country over a one-quarter period. Putting that number in perspective, the previous record high GDP came in the first quarter of 1950 when the US economy expanded at a 16.7% annualized rate. Even more encouraging than the whopping headline number is where the growth came from. Strong exports, increased business investment, and residential purchases of durable goods all fueled the quarter's growth. These three components don't grow if businesses and consumers are hunkering down in anticipation of bad times ahead. Certainly, the massive new wave of Covid cases has spooked the markets, but confidence remains strong that we are on the tail end of the pandemic's wrath. As for the markets, expect positive vaccine news over the course of the quarter to fuel a year-end rally. We stand by our 2020 S&P target of 3,500, which we set in May of this year.
Market Pulse
06. Goldman Sachs: The Wrongway Feldman of the investment world
Any true Gilligan's Island fan remembers Wrongway Feldman, the former World War I pilot known for going the wrong way and bombing his own airfield. We view Goldman Sachs as the Wrongway Feldman of the investment world. If they say it is time to short oil, our tendency is to buy. If they say buy, it is probably time to sell. Which leads us to Goldman analyst Rod Hall and his "Sell" rating on Apple, which he issued this past April. At the time, adjusting for the four-for-one stock split, AAPL shares were going for $69, and Hall's expectation was for them to drop to $58.25 (again, adjusting for the split). As of this writing, Apple shares are sitting at $110, and Hall is doubling down on his silliness, reiterating his "Sell" rating and proclaiming shares will fall to $80. Considering the stock has rallied over 70% since his last brilliant call, sounds like it is time to add to our holding. So much money can be made in the stock market by taking advantage of terrible calls and any resulting share price moves. We celebrate companies like Goldman Sachs—they have helped us create a good deal of wealth.
Restaurants
05. Another great trading stock—Dunkin' Brands—gets gobbled up by a private equity firm
Back when I was in the broker-dealer world (as opposed to the RIA world with its accompanying fiduciary responsibility) I had a client who only traded two stocks in his portfolio: Walmart (WMT) and Krispy Kreme Doughnuts (KKD at the time). He had a trading system based on the location of the US economy along the economic cycle. Sadly, Krispy Kreme was ultimately taken private by Luxembourg-based JAB Holdings, which also took the likes of Panera Bread (formerly PNRA) and Green Mountain Coffee (formerly GMCR) private. We thought of that client after hearing that another great trading company, Dunkin' Brands (DNKN $106), was being taken out by private equity firm Inspire Brands in an $11.3 billion deal.
In our humble opinion, the financial engineers at these firms typically have no interest in the heart and soul of classic American companies; no, it is all about turning a buck and then moving on. Often, that involves squeezing every dime they can out of an entity and then repackaging the rubble as an IPO to a bunch of sucker investors (one reason we strongly avoid warmed-over publicly-traded companies). Inspire is a master at taking out companies we used to like trading: they also own Arby's, Buffalo Wild Wings, and Sonic. There is certainly no crime in a company selling itself to a private buyer, but that doesn't mean we need to like it. At least the members sitting on the acquired company's board will probably turn a nice personal profit in the deal.
Back when I had my Walmart/Krispy Kreme client, I worked at a well-respected, century-old firm called A.G. Edwards (ticker was AGE). While it wasn't taken private, top executives at the St. Louis-based mid-cap brokerage decided to sell the firm to Wachovia (and get fat paychecks—we assume—in the process) about fifteen years ago. This occurred shortly after the company placed the first non-Edwards family member in the CEO role. We remember his name with disdain, but it's not worth mentioning. Great due diligence there: Wachovia went belly-up soon after the acquisition and its assets were purchased by Wells Fargo (WFC)—a company with a whole host of its own problems.
So, we now say adios to ticker symbol DNKN. You will probably be repackaged and brought back to (public) life one of these days, but we won't be interested.
Individual shareholders need to begin taking a more active role in monitoring executives' behavior at publicly-traded companies. The first step in that process is understanding the ties these individuals have to the company. If they have no experience in the industry and a history of moving from one firm to the next using M&A stepping stones, investors beware—or sell on the rumor (and probable spike in share price) of an acquisition.
Business & Professional Services
04. In blow to the California political apparatchik, voters side with Uber and Lyft
You live in California and you want a part-time gig to supplement your income (and pay your confiscatory tax rate), so you begin driving for Uber (UBER $39). Of course, you are the epitome of an independent contractor. Common sense to most of the world, but not to the activist state government of California. No, to those blowhards you are an employee of Uber, despite your pleas to remain a contract worker. Refusing to bow to the power-hungry, micromanaging politicians in charge, Uber and Lyft fought back. They organized Proposition 22 in the state, which would allow ride-sharing firms and other gig economy companies (like Doordash and Postmates) to continue listing these part-time workers as contractors. They also announced that, barring the passage of Prop 22, they were ready to leave the state entirely. It looks like that won't be necessary, as voters in the once-Golden State handed them a resounding victory—nearly 60% to 40%. Never count an activist, overbearing government out, however; we are certain they will come at these companies in another way. We are reminded of Ronald Reagan's great quip on an overbearing central authority: "Government's view of the economy could be summed up in a few short phrases: If it moves, tax it. If it keeps moving, regulate it. If it stops moving, subsidize it." On the morning after the victory, shares of Uber were trading up over 12% and Lyft shares were up 11%. Looks like a victory for shareholders as well.
Media Malpractice
03. Another election, another massive false narrative is blown to bits
I have the business networks—typically CNBC and Bloomberg—turned on in the office between six in the morning and six at night. I constantly scan the business news sites to keep abreast of what is going on, and have for too many years to count. I recall the MANTRA four years ago: "Trump win = massive stock market drop." It was drummed into viewers' heads like gospel. Trump won, and the markets exploded (in a good way). Fast forward four years and a new mantra emerged: "A blue wave would launch the markets higher, while a contested election and/or divided government would be disastrous for the markets." Lo and behold, we got the latter and the markets began hammering out their best period in a long time. Another false narrative blown to bits. At least Bloomberg had the guts to run the following headline the day after the election: "Doomsday Market Predictions Give Way to Never-Ending Rally." Meanwhile, CNBC ran the following headline on the chyron: :US Stocks, Bonds Rally as Blue Wave Fades." No mention of the fact that they told us blue wave would be the next great catalyst for the market. Journalism has a long and storied history of creating narratives that are anything but true and then packaging them as fact. Consumers of news need to accept that condition and figure out the best way to take advantage of the garbage the journalists are often peddling to their audience. There are some great and fair-minded journalists in the business; sadly, there are also many who just can't help tainting their stories based on personal prejudices. The key is to have a critical eye and discern the former from the latter.
Semiconductors
02. New Frontier Fund Member Qualcomm surges double-digits on earnings, 5G prospects
When we added $165 billion semiconductor maker Qualcomm (QCOM $145) to the Penn New Frontier Fund it had a market cap of $80 billion and was generally being ignored by the analysts. We had two major theses for our purchase: 1. the company would dominate in the era of 5G; 2. Steve Mollenkopf was one of the best CEOs in America. After a 100% run-up in the share price, analysts are suddenly paying attention. The latest one-day, double-digit price spike of QCOM shares came on the heels of the firm's fiscal Q4 results. Revenue climbed an impressive 73% from one year ago, from $4.81 billion to $8.45 billion, and net income spiked from $506 million in the same quarter last year to $2.96 billion (a good portion of which came from an IP settlement with Huawei) this past quarter. Mollenkopf's comments also helped the share price: the CEO said the company was poised to sell millions of chips for 5G mobile devices as consumers upgrade their smartphones. Despite the massive run-up in share price, QCOM has a lot of room to run. The company will be one of the dominant players in the nascent world of 5G technology.
Under the Radar Investment
01. Under the Radar: UGI Corp
UGI Corp (UGI $32) is a $6.7 billion regulated gas utility providing natural gas and electricity to over 650,000 households in Pennsylvania and Maryland. The company owns AmeriGas Propane, the largest US propane marketer, which serves over one million users throughout all 50 states. Within its energy services unit, UGI owns thermal power plants as well as processing, storage, and pipeline facilities. At $32 per share, the company offers an attractive 4.05% dividend yield. Our fair value estimation on UGI is $40 per share.
Answer
Back in 1990, there were only ten sectors in the S&P 500; meaning, were they all equal weighted, each would represent 10% of the benchmark. Energy, however, held a hefty 16% weighting in the index. The sector's fall to a current weight of 2% within the S&P 500 is nothing short of remarkable, and underlines the importance of proactive portfolio construction.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The once-dominant fossil fuels market continues its decline...
With an aggregate market cap of $1.67 trillion, the Energy sector now accounts for a paltry 2% of the S&P 500 (by contrast, the Information Technology sector accounts for 27% of the benchmark index). What was the sector's weighting in mid-1990 as America was preparing for Operation Desert Shield/Storm?
Penn Trading Desk:
(29 Oct 20) Adding a shipping powerhouse to Intrepid at a deep discount to FV
We began trading this maritime shipper in the late 1990s and have an excellent sense for when it is undervalued. We believe it is currently undervalued by 78%—conservatively. We have re-added the Bermuda-based shipper to the Intrepid Trading Platform.
(30 Oct 20) Added Aerospace & Defense firm to Intrepid
Actually, this small-cap American company could be listed in either the Aerospace & Defense industry or the Leisure Equipment industry. Either way, sales are through the roof based in good measure on the political environment.
(03 Nov 20) Added cutting-edge auto parts maker to the Global Leaders Club
This $9 billion auto parts manufacturer is making all the right moves to generate increased market share in our clean air/electric vehicle environment, to include a very smart recent acquisition. Increased vehicle efficiency is its forte, and its "sticky" customer base proves the strategy is working.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Application & Systems Software
10. German software giant SAP has biggest drop since 1996 on slashed outlook
In the stock's worst day in nearly a quarter-century, shares of $150 billion German software giant SAP (SAP $118) dropped over 21% after the company slashed its outlook for 2020, blaming the pandemic for putting the brakes on new corporate spending. Bad news for the company, but here's what investors need to know: is this train wreck company-centric, or does it portend bad news for the industry? The company, which sells a broad range of enterprise software products and services to corporations, government agencies, and educational institutions, generates approximately 40% of its revenues from the Americas, 40% from Europe, and 20% from Asia. We know that Europe is still reeling from the pandemic, with much of the continent back in lockdown mode. The US has been ramping up its corporate engine at a faster clip, and many parts of Asia are clawing their way back to pre-pandemic business activity levels. Looking at comparable offerings from the competition, Amazon's Web Services, Microsoft's Azure, and Oracle's suite of cloud infrastructure offerings have all held up relatively well this year. Software as a service (SaaS) providers such as Workday and Salesforce have actually been increasing market share—to the detriment of SAP. So, as bad as the news was for the company, the damage doesn't seem to be bleeding over to the competition.
Our favorite systems software company continues to be Microsoft (MSFT $212), and our favorite specialty applications firm is Adobe (ADBE $475). We own both in the Penn Global Leaders Club and, at their current prices, both offer a better value than SAP. We have no confidence in SAP's management team following Bill McDermott's departure for ServiceNow (NOW $504—another great industry player, but too rich with its 137 multiple).
Semiconductors & Related Equipment
09. AMD to buy Xilinx in another shot at rival Intel, but who is under greater pressure to perform?
When evaluating stocks, one of the most useful methods involves comparing a company's key stats to those of other companies in the same industry. Typically, the numbers are relatively aligned, but every now and again one notes a glaring discrepancy. Take two semiconductor giants: AMD (AMD $82) and Intel (INTC $46). The former has a market cap of around $90 billion, and the latter's size is over double that. The big discrepancy comes in the multiple investors have placed on each. While AMD carries an enormous PE of 150, Intel's multiple is just 9! That seems crazy for two companies which do, basically, the same thing. In essence, investors have no confidence in Intel's ability to pull out of its funk, while they are willing to give AMD's quite effective CEO Lisa Su every benefit of the doubt.
Su's most recent move, announced this week, is the acquisition of data center and cloud computing semiconductor maker Xilinx (XLNX) for $35 billion. At face value, the move appears brilliant, as the acquisition will complement—not duplicate—AMD's current chip focus and will allow the firm to yank market share away from Intel. In an effort to expand its own chip lineup, Intel purchased cloud chipmakers Altera and Mobileye (think autonomous vehicles) back in 2015 and 2017, respectively, but those acquisitions have yet to bear much fruit. Xilinx, which makes field-programmable gate arrays (FGPAs can be reprogrammed after they are manufactured), makes chips for the automotive and aerospace industry in addition to its data center business.
We say the move by AMD appears brilliant but it will also be very expensive, considering the $35 billion price tag equates to 38% of AMD's market cap. The firm must execute the integration with precision, as it has very little room for error. On the flip-side, investors have written off deep-valued Intel. This will be interesting to watch play out.
Call it the contrarian in us, or simply our recollection of what happened to high-flyers in 2000, but we would buy Intel right now (at $45) over AMD. Some would argue that Intel is a value trap, but the firm still controls the lion's share of the PC and server market, and it is investing in R&D like a nimble startup. It wouldn't take much for its shares to pop 50% and still appear cheap.
Life Sciences Tools & Services
08. Exact Sciences is expanding its cancer screening lineup with Thrive acquisition
Few technological advances are as exciting as noninvasive medical diagnostics—the ability to be screened for everything from colon cancer to heart problems without the specter of being knocked out with drugs and probed with instruments. We're not exactly at the Bones McCoy stage yet, but we are rapidly getting there. One of the companies on the frontline of noninvasive medical diagnostics is Exact Sciences (EXAS $129), which most people might recognize by the little blue talking Cologuard box in TV ads. While the company's claim to fame has been its at-home colorectal cancer screening kits, it is about to make a huge leap forward with its $2.15 billion acquisition of privately-held Thrive Earlier Detection. Thrive has developed a blood screening test for the early detection of a number of different cancers, and the potential market for such products is astronomical. Interestingly, the company's blood tests—assuming the advances continue—would probably start encroaching on Cologuard's turf soon. Another reason the acquisition makes sense. For all its promise, Exact Sciences has yet to turn a profit. While its shares are grossly overvalued at $129, keep an eye on the firm—eventual profitability and a more reasonable share price will equal a nice buy point.
Goods & Services
07. Following the sharpest economic decline in US history, the sharpest expansion
In the second quarter of 2020, the US economy recorded an almost unfathomable decline of 31.4% (thanks, China). Now, one quarter later, we have the strongest economic growth, quarter-over-quarter, in US history. Against expectations for a 32% expansion, Q3 GDP came in at 33.1% annualized clip according to the Commerce Department. GDP measures the total goods and services produced within a country over a one-quarter period. Putting that number in perspective, the previous record high GDP came in the first quarter of 1950 when the US economy expanded at a 16.7% annualized rate. Even more encouraging than the whopping headline number is where the growth came from. Strong exports, increased business investment, and residential purchases of durable goods all fueled the quarter's growth. These three components don't grow if businesses and consumers are hunkering down in anticipation of bad times ahead. Certainly, the massive new wave of Covid cases has spooked the markets, but confidence remains strong that we are on the tail end of the pandemic's wrath. As for the markets, expect positive vaccine news over the course of the quarter to fuel a year-end rally. We stand by our 2020 S&P target of 3,500, which we set in May of this year.
Market Pulse
06. Goldman Sachs: The Wrongway Feldman of the investment world
Any true Gilligan's Island fan remembers Wrongway Feldman, the former World War I pilot known for going the wrong way and bombing his own airfield. We view Goldman Sachs as the Wrongway Feldman of the investment world. If they say it is time to short oil, our tendency is to buy. If they say buy, it is probably time to sell. Which leads us to Goldman analyst Rod Hall and his "Sell" rating on Apple, which he issued this past April. At the time, adjusting for the four-for-one stock split, AAPL shares were going for $69, and Hall's expectation was for them to drop to $58.25 (again, adjusting for the split). As of this writing, Apple shares are sitting at $110, and Hall is doubling down on his silliness, reiterating his "Sell" rating and proclaiming shares will fall to $80. Considering the stock has rallied over 70% since his last brilliant call, sounds like it is time to add to our holding. So much money can be made in the stock market by taking advantage of terrible calls and any resulting share price moves. We celebrate companies like Goldman Sachs—they have helped us create a good deal of wealth.
Restaurants
05. Another great trading stock—Dunkin' Brands—gets gobbled up by a private equity firm
Back when I was in the broker-dealer world (as opposed to the RIA world with its accompanying fiduciary responsibility) I had a client who only traded two stocks in his portfolio: Walmart (WMT) and Krispy Kreme Doughnuts (KKD at the time). He had a trading system based on the location of the US economy along the economic cycle. Sadly, Krispy Kreme was ultimately taken private by Luxembourg-based JAB Holdings, which also took the likes of Panera Bread (formerly PNRA) and Green Mountain Coffee (formerly GMCR) private. We thought of that client after hearing that another great trading company, Dunkin' Brands (DNKN $106), was being taken out by private equity firm Inspire Brands in an $11.3 billion deal.
In our humble opinion, the financial engineers at these firms typically have no interest in the heart and soul of classic American companies; no, it is all about turning a buck and then moving on. Often, that involves squeezing every dime they can out of an entity and then repackaging the rubble as an IPO to a bunch of sucker investors (one reason we strongly avoid warmed-over publicly-traded companies). Inspire is a master at taking out companies we used to like trading: they also own Arby's, Buffalo Wild Wings, and Sonic. There is certainly no crime in a company selling itself to a private buyer, but that doesn't mean we need to like it. At least the members sitting on the acquired company's board will probably turn a nice personal profit in the deal.
Back when I had my Walmart/Krispy Kreme client, I worked at a well-respected, century-old firm called A.G. Edwards (ticker was AGE). While it wasn't taken private, top executives at the St. Louis-based mid-cap brokerage decided to sell the firm to Wachovia (and get fat paychecks—we assume—in the process) about fifteen years ago. This occurred shortly after the company placed the first non-Edwards family member in the CEO role. We remember his name with disdain, but it's not worth mentioning. Great due diligence there: Wachovia went belly-up soon after the acquisition and its assets were purchased by Wells Fargo (WFC)—a company with a whole host of its own problems.
So, we now say adios to ticker symbol DNKN. You will probably be repackaged and brought back to (public) life one of these days, but we won't be interested.
Individual shareholders need to begin taking a more active role in monitoring executives' behavior at publicly-traded companies. The first step in that process is understanding the ties these individuals have to the company. If they have no experience in the industry and a history of moving from one firm to the next using M&A stepping stones, investors beware—or sell on the rumor (and probable spike in share price) of an acquisition.
Business & Professional Services
04. In blow to the California political apparatchik, voters side with Uber and Lyft
You live in California and you want a part-time gig to supplement your income (and pay your confiscatory tax rate), so you begin driving for Uber (UBER $39). Of course, you are the epitome of an independent contractor. Common sense to most of the world, but not to the activist state government of California. No, to those blowhards you are an employee of Uber, despite your pleas to remain a contract worker. Refusing to bow to the power-hungry, micromanaging politicians in charge, Uber and Lyft fought back. They organized Proposition 22 in the state, which would allow ride-sharing firms and other gig economy companies (like Doordash and Postmates) to continue listing these part-time workers as contractors. They also announced that, barring the passage of Prop 22, they were ready to leave the state entirely. It looks like that won't be necessary, as voters in the once-Golden State handed them a resounding victory—nearly 60% to 40%. Never count an activist, overbearing government out, however; we are certain they will come at these companies in another way. We are reminded of Ronald Reagan's great quip on an overbearing central authority: "Government's view of the economy could be summed up in a few short phrases: If it moves, tax it. If it keeps moving, regulate it. If it stops moving, subsidize it." On the morning after the victory, shares of Uber were trading up over 12% and Lyft shares were up 11%. Looks like a victory for shareholders as well.
Media Malpractice
03. Another election, another massive false narrative is blown to bits
I have the business networks—typically CNBC and Bloomberg—turned on in the office between six in the morning and six at night. I constantly scan the business news sites to keep abreast of what is going on, and have for too many years to count. I recall the MANTRA four years ago: "Trump win = massive stock market drop." It was drummed into viewers' heads like gospel. Trump won, and the markets exploded (in a good way). Fast forward four years and a new mantra emerged: "A blue wave would launch the markets higher, while a contested election and/or divided government would be disastrous for the markets." Lo and behold, we got the latter and the markets began hammering out their best period in a long time. Another false narrative blown to bits. At least Bloomberg had the guts to run the following headline the day after the election: "Doomsday Market Predictions Give Way to Never-Ending Rally." Meanwhile, CNBC ran the following headline on the chyron: :US Stocks, Bonds Rally as Blue Wave Fades." No mention of the fact that they told us blue wave would be the next great catalyst for the market. Journalism has a long and storied history of creating narratives that are anything but true and then packaging them as fact. Consumers of news need to accept that condition and figure out the best way to take advantage of the garbage the journalists are often peddling to their audience. There are some great and fair-minded journalists in the business; sadly, there are also many who just can't help tainting their stories based on personal prejudices. The key is to have a critical eye and discern the former from the latter.
Semiconductors
02. New Frontier Fund Member Qualcomm surges double-digits on earnings, 5G prospects
When we added $165 billion semiconductor maker Qualcomm (QCOM $145) to the Penn New Frontier Fund it had a market cap of $80 billion and was generally being ignored by the analysts. We had two major theses for our purchase: 1. the company would dominate in the era of 5G; 2. Steve Mollenkopf was one of the best CEOs in America. After a 100% run-up in the share price, analysts are suddenly paying attention. The latest one-day, double-digit price spike of QCOM shares came on the heels of the firm's fiscal Q4 results. Revenue climbed an impressive 73% from one year ago, from $4.81 billion to $8.45 billion, and net income spiked from $506 million in the same quarter last year to $2.96 billion (a good portion of which came from an IP settlement with Huawei) this past quarter. Mollenkopf's comments also helped the share price: the CEO said the company was poised to sell millions of chips for 5G mobile devices as consumers upgrade their smartphones. Despite the massive run-up in share price, QCOM has a lot of room to run. The company will be one of the dominant players in the nascent world of 5G technology.
Under the Radar Investment
01. Under the Radar: UGI Corp
UGI Corp (UGI $32) is a $6.7 billion regulated gas utility providing natural gas and electricity to over 650,000 households in Pennsylvania and Maryland. The company owns AmeriGas Propane, the largest US propane marketer, which serves over one million users throughout all 50 states. Within its energy services unit, UGI owns thermal power plants as well as processing, storage, and pipeline facilities. At $32 per share, the company offers an attractive 4.05% dividend yield. Our fair value estimation on UGI is $40 per share.
Answer
Back in 1990, there were only ten sectors in the S&P 500; meaning, were they all equal weighted, each would represent 10% of the benchmark. Energy, however, held a hefty 16% weighting in the index. The sector's fall to a current weight of 2% within the S&P 500 is nothing short of remarkable, and underlines the importance of proactive portfolio construction.
Headlines for the Week of 18 Oct—24 Oct 2020
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
History of the Dow Jones Industrial Average...
Though we label it "irrelevant" below, the Dow Jones Industrial Average does have an illustrious history. Who started the index and what was the publication which introduced it to the investing community? Also, one of the original twelve stocks on the Dow is still in existence—what company is it?
Penn Trading Desk:
(21 Aug 20) Adding Thematic Fund to Dynamic Growth Strategy
We have added a robotics fund to the DGS to take advantage of the coming boom in automation—the movement will be transformational for society. This fund is full of dynamic small- and mid-cap names. Members, see the trading desk.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Media & Entertainment
10. Disney's restructuring plans do not assuage our concerns
There really are no "buy and forget" companies out there anymore. The idea of owning a static group of blue chip stocks to hold for the long term is a relic of the past. Take three of our historic favorites: General Electric (GE), Boeing (BA), and Walt Disney (DIS). There was a time not that long ago when we couldn't imagine not owning these three juggernauts in our core portfolio. It's amazing how complacency and poor management can ravage a company virtually overnight.
While that condition has certainly gripped the former two names, what about Disney? We wrote disparagingly about Bob Iger's decision to step down after he assured investors he would remain on as CEO at least until 2021. Then we found out that Disney employees (who are now 28,000 fewer in number) had to hear the news from an interview Iger gave to a business network. Not cool, Bob. Taking over Iger's role would be Bob Chapek, the former head of Disney's parks. Based on our underwhelming early view of Chapek and Iger's cavalier attitude toward employees, we took our huge DIS profits earlier this year when we closed our position.
Now comes word that Disney will make a major structural shift in its operations. With an eye on direct-to-consumer, the $235 billion firm will create a new unit focused on the marketing and distribution of content, separating that function from the content creation unit. It is clear that the move is designed to foster migration away from the company's 100-year-old relationship with movie theaters and toward the direct-to-consumer model. Perhaps the first test of this new unit was the decision to charge Disney+ users $30 to stream the production of Mulan. Not a great first step. There is no doubt that Disney+ was a brilliant move; one that helped the company maintain critical revenue while the parks were being shuttered due to the pandemic. That being said, we are still not sold on the new leadership team and still question the strategic vision of the company going forward.
In fairness, it isn't the company's fault that Disneyland in California remains closed—that condition is the result of an inept government in Sacramento. We continue to watch DIS stock closely, as there will come a time, hopefully by the end of 2021, when the company's major revenue drivers—the parks—are back at full capacity.
Consumer Electronics
09. Sorry Apple haters, the iPhone 12 will indeed launch a new super-cycle for the company
It is a bizarre state of affairs. Rarely do you hear any of the 100 million Apple (AAPL $120) iPhone users in the US take to social media to bash the device's main competition—the Samsung Galaxy, but an odd number of Galaxy users seem to be preoccupied with hating on the iPhone. One petulant Galaxy-phile took to Twitter following the iPhone 12 event to proclaim, "We're like on Galaxy 24 now." It would probably take a clinical psychologist to explain their hatred for Apple, but the only thing that matters to us is this: Apple continues to innovate, and the launch of the iPhone 12 5G device lineup will bring about a new super-cycle for the company.
Forget all of the talk about limited 5G coverage. To be sure, it will take years to put up the millions of little devices throughout the country needed to bring this hyper-speed technology to everyone, but the train has left the station—and soon enough, everyone will be clamoring for it. Furthermore, millions of Americans have held off on upgrading their iPhones until 5G devices became available. Finally, many countries around the world, especially in Asia, have built out a larger 5G infrastructure than the US. This makes sense when we consider the state and local government impediments in the US versus the lack of such challenges in "less free" countries. Trade wars and anti-American sentiment aside, Apple will sell hundreds of millions of iPhone 12s globally.
So, let the Apple haters continue to throw their tantrums; we remain focused on what the $2 trillion Cupertino-based company has in store for us next. Remember, it will require new devices to take advantage of 5G technology, and that holds true for the iPad and Mac lineups as well as the iPhone. Stay tuned.
At $120 per share, Apple remains a buy. It currently holds the distinction of being our largest portfolio position, and we don't see that changing anytime soon.
Application & Systems Software
08. Tech traders beware: What just happened to Fastly is a sign of things to come
2020 has been a banner year for Internet-based tech companies which have yet to turn a profit—Robinhood traders can't scoop up their shares fast enough. Take cloud platform provider Fastly (FSLY $85), for example. Traders turned this $1 billion startup into a $10 billion player virtually overnight despite the company's lack of net income—ever. All of that changed after the firm's latest earnings report, however. After a slight revenue miss (the company's Q3 revenue came in around $70 million versus analyst expectations for $75 million), FSLY shares began their rapid 33% decline. Let's back up and think about this: Here we have a company generating a paltry $70 million per quarter, earning zero net income, and traders were still piling in when its market cap hit $10 billion. Insanity. This is precisely the type of plunge we witnessed—ad nauseam—in early 2000. Let this be a warning shot to traders piling into unprofitable companies with reckless abandon. We've seen this movie before, and it does not end well. Here's what bothers us the most about the Fastly case study: We are willing to bet that the majority of "investors" who jumped in to buy shares couldn't explain what the company actually does if their lives depended on it. Here's a really simple basic rule to follow: Don't invest in any company before understanding what they do and what their unique value proposition is for customers. Then, it sure wouldn't hurt to actually look at the financials.
Oil & Gas Exploration & Production
07. ConocoPhillips will acquire shale E&P firm Concho Resources for $9.7 billion
Considering the market cap of Permian Basin operator Concho Resources (CXO $49) was $32 billion precisely two years ago, it seems like a golden opportunity for ConocoPhillips (COP $34): the latter will acquire the former for $9.7 billion in an all-stock deal. In a sign of just how hard the energy sector has fallen over the past two years, COP's market cap has dropped from $90 billion two years ago to just $36 billion today. For many shale producers facing chronic $40 per barrel oil, it is simply a case of be acquired or face possible bankruptcy. Does the deal make sense for Conoco? Our guess is that in two years it will look as brilliant as the 2019 Occidental (OXY $10) takeover of Anadarko for $38 billion looked stupid (Occidental's market cap now sits below $10 billion—yikes). The global economy will surge forward when the pandemic is behind us, and the rumors of oil's death as the world's leading energy source have been greatly exaggerated—at least the timeline of its demise. We continue to underweight the energy sector, with Chevron (CVX) remaining the one integrated oil company we own. At $33 per share, however, and with a 5% dividend yield, COP seems quite undervalued.
Application & Systems Software
06. SpaceX selects Microsoft (not Amazon) to run its space-based cloud computing network
It is almost embarrassing to watch Jeff Bezos pretend to compete with Elon Musk for commercial space dominance. He's like a little kid donning an astronaut costume and proclaiming, "take that Neil Armstrong!" In his own mind, Bezos's Blue Origin is right up there with SpaceX; hell, maybe better. Of course, in reality Blue Origin continues to be the pet project of the world's richest man while SpaceX is busy launching astronauts into orbit and building out a massive fleet of satellites which will provide high-speed Internet service to even the most remote parts of the globe. (Right on cue, Bezos stated that Blue Origin is going to build an even better satellite system—despite the lack of even one satellite in orbit.) In a move that should come as no surprise, SpaceX just selected Microsoft's (MSFT $214) Azure service to operate and manage its cloud computing needs for the Starlink system, barely considering Amazon (AMZN $3,226) Web Services (AWS) as an option. Considering the scope of the project, which will consist of linking cloud, space, and ground capabilities, crunching almost unfathomable amounts of data, and helping to control the orbits of SpaceX satellites, this was a huge win for Microsoft. Beyond the Starlink project, Musk's SpaceX also landed a demo contract from the Pentagon for a new generation missile warning system. Assuming the demo leads to deployment, Microsoft would certainly get that contract as well. Recall that Amazon is currently suing the US government for the Pentagon's decision to go with Azure for its $10 billion JEDI program, snubbing AWS. We see very little chance of the lawsuit changing the outcome of the JEDI contract, though we wonder how it might have poisoned the well for Amazon's hopes of landing government contracts in the future. For its core business of online retailing, no other company can compete with Amazon—which is why we own it within the Penn Global Leaders Club. We just wish Bezos would shut up and let someone else run the company. Maybe he could run Blue Origin full time and work on landing one single contract.
Global Strategy: Europe
05. While the pandemic rages in Europe, parliament focuses on what to call a veggie burger
One of our favorite pastimes is making fun of the European government. Let's face it, the only reason a "European Union" even exists is because of that continent's envy of the United States. The level of arrogance permeating the halls of the EU parliament in Brussels is stratospheric, which makes them such an easy target for ridicule. The latest? While the pandemic rages across the continent, EU lawmakers are focused on a critical issue: Whether or not to ban the likes of Beyond Meat (BYND $176) from calling their plant-based patties "burgers." Lawmakers will debate and vote on an amendment this month which would force these companies to label their burgers "discs" and their sausages "tubes." i.e. Beyond Burgers would become "veggie discs," and Beyond Breakfast Sausage would become "plant-based tubes." Parliamentarians will vote on another amendment, pushed by the European dairy union, which would ban the use of the word "creamy" when describing a non-dairy item. And we make fun of our government. Is it any wonder Brits voted to pull out of this dysfunctional entity?
Business & Professional Services
04. Bitcoin pops after PayPal announces it will allow customers to trade in cryptocurrencies
The value of Bitcoin "shares" surged to $13,000 following news that credit services provider PayPal (PYPL $213) will begin allowing its customers to use the digital currency on its platform. The firm said Bitcoins can be used for purchases with its 26 million merchants around the world, and the currency will soon be allowed on Venmo, now a PayPal company. That being said, the firm will not hold cryptos on its balance sheet; instead, it will partner with cryptocurrency services firm Paxos Trust Company to assist in completing the transactions. This means that merchants won't have to actually deal with the digital currency, as Paxos will serve as the intermediary. Nonetheless, considering PayPal has some 300 million customers around the globe, Bitcoin advocates are celebrating the move. Shares of the digital currency have been extremely volatile this year, falling from around $10,000 in February to $5,000 in March, then climbing back to $13,000 this past week. The high value mark of the currency was $20,000 back in 2017. Investing in Bitcoin has been—and will continue to be—a complete gamble. Keep in mind that this currency does not exist in "hard" form, it only exists virtually. Considering the high level of sophistication of hackers around the world, expect to hear more stories in the near future of accounts being drained of Bitcoin. As for PayPal, we like the firm but don't like the 100 multiple on the share price.
Media & Entertainment
03. In blow to Katzenberg and Whitman, Quibi is already being shut down
Based on some of their questionable business decisions in the past, our respect for Jeffrey Katzenberg and Meg Whitman was already pretty low coming into this most recent foray; now it is virtually nonexistent. It was just this past April when Whitman, the former CEO of eBay and HP, came on-air to brag about her and Katzenberg's new streaming service known as Quibi. Not only wouldn't the pandemic hurt the new service, it may even enhance its value, claimed Whitman. Now, six months and billions of dollars later, Quibi is shutting down. Katzenberg cited the pandemic as one of the major factors in its demise. Wow. All of the great ideas out there waiting to be funded, and this duo was actually able to attract $2 billion for a questionable business proposition (Quibi's unique value proposition was that it would feature short-form news and entertainment videos of ten minutes or less—yawn). The power of name recognition. We've said it before and we'll say it again: There are so many mediocre to downright bad CEOs out there that it boggles the mind. Before buying shares in a company, investors need to perform some level of due diligence on that company's management team.
Cybersecurity
02. Cybersecurity firm McAfee goes public—again
We are always on the lookout for a promising IPO, so when we heard that well-known cybersecurity firm McAfee (MCFE $19) was going public, it piqued our interest. We even like the firm's anything-but-dull founder, John McAfee (OK, despite the libertarian's recent arrest in Spain over tax evasion charges; it should be noted that McAfee has not been affiliated with the eponymous company since 1994). However, there was one major obstacle keeping us from investing in MCFE shares, which began trading on Thursday the 22nd: it was the company's second trip to the public equity markets—Intel acquired the firm and took it private in 2011. Despite having eighteen underwriters working on the deal, the IPO turned out to be a bust. After raising $740 million on Wednesday (the company sold 37 million Class A shares at $20 apiece), shares began trading at $18.60, got as high as $19.34, and then spent most of the session declining. A late-session rally brought them back up to $18.68 at the close. Our largest concern is the company's hefty debt load, which will still sit around $4 billion after some of it is paid off with the IPO proceeds. To put that in perspective, $21 billion cybersecurity firm Fortinet (FTNT $128), which we own in the Penn New Frontier Fund, has an aggregate short- and long-term debt load of just $2.7 billion. With so many hands in the pie and a share structure that would be hard for an SEC lawyer to decipher, we would steer clear of this warmed-over offering.
Under the Radar Investment
01. Under the Radar: SPDR® Blackstone / GSO Senior Loan ETF
To say it is difficult finding "good" fixed income investments right now is the understatement of the century. Ten-year Treasuries are yielding just above one-half of one percent, and the 30-year T Bond is yielding 1.375%. Challenging times. That being said, one of our current favorites in the Penn Strategic Income Portfolio is our senior loan fund, the SPDR Blackstone GSO Senior Loan ETF (SRLN). Senior loans are debt instruments issued by a bank to a company to fund any number of projects or to retire existing debt with higher interest rates. Note the term "senior." This means that, in the case of bankruptcy, owners of senior bank loans will be paid first as assets are liquidated—before creditors, preferred shareholders, and stockholders. SRLN currently owns around 220 such senior loans outstanding to companies such as: Bass Pro Shop, Petsmart, Athena Health, and Rackspace Technology. The average maturity of these loans is a comforting 4.72 years, and the beta (risk level on a scale of zero to one, with one equaling the risk of the S&P 500) is 0.0859. Our favorite aspect of the fund in these days of ultra-low rates? It yields 5%.
Answer
Business journalist Charles Dow, founder of financial news bureau Dow, Jones & Co., created the Dow Jones Industrial Average back in 1896. Prominent business newspaper The Wall Street Journal introduced the DJIA on 26 May of that same year. Of the twelve original component companies of the Dow, only General Electric is still in existence as a publicly-traded company. It was jettisoned from the index in 2018. In 1928, the DJIA was expanded to include 30 companies.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
History of the Dow Jones Industrial Average...
Though we label it "irrelevant" below, the Dow Jones Industrial Average does have an illustrious history. Who started the index and what was the publication which introduced it to the investing community? Also, one of the original twelve stocks on the Dow is still in existence—what company is it?
Penn Trading Desk:
(21 Aug 20) Adding Thematic Fund to Dynamic Growth Strategy
We have added a robotics fund to the DGS to take advantage of the coming boom in automation—the movement will be transformational for society. This fund is full of dynamic small- and mid-cap names. Members, see the trading desk.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Media & Entertainment
10. Disney's restructuring plans do not assuage our concerns
There really are no "buy and forget" companies out there anymore. The idea of owning a static group of blue chip stocks to hold for the long term is a relic of the past. Take three of our historic favorites: General Electric (GE), Boeing (BA), and Walt Disney (DIS). There was a time not that long ago when we couldn't imagine not owning these three juggernauts in our core portfolio. It's amazing how complacency and poor management can ravage a company virtually overnight.
While that condition has certainly gripped the former two names, what about Disney? We wrote disparagingly about Bob Iger's decision to step down after he assured investors he would remain on as CEO at least until 2021. Then we found out that Disney employees (who are now 28,000 fewer in number) had to hear the news from an interview Iger gave to a business network. Not cool, Bob. Taking over Iger's role would be Bob Chapek, the former head of Disney's parks. Based on our underwhelming early view of Chapek and Iger's cavalier attitude toward employees, we took our huge DIS profits earlier this year when we closed our position.
Now comes word that Disney will make a major structural shift in its operations. With an eye on direct-to-consumer, the $235 billion firm will create a new unit focused on the marketing and distribution of content, separating that function from the content creation unit. It is clear that the move is designed to foster migration away from the company's 100-year-old relationship with movie theaters and toward the direct-to-consumer model. Perhaps the first test of this new unit was the decision to charge Disney+ users $30 to stream the production of Mulan. Not a great first step. There is no doubt that Disney+ was a brilliant move; one that helped the company maintain critical revenue while the parks were being shuttered due to the pandemic. That being said, we are still not sold on the new leadership team and still question the strategic vision of the company going forward.
In fairness, it isn't the company's fault that Disneyland in California remains closed—that condition is the result of an inept government in Sacramento. We continue to watch DIS stock closely, as there will come a time, hopefully by the end of 2021, when the company's major revenue drivers—the parks—are back at full capacity.
Consumer Electronics
09. Sorry Apple haters, the iPhone 12 will indeed launch a new super-cycle for the company
It is a bizarre state of affairs. Rarely do you hear any of the 100 million Apple (AAPL $120) iPhone users in the US take to social media to bash the device's main competition—the Samsung Galaxy, but an odd number of Galaxy users seem to be preoccupied with hating on the iPhone. One petulant Galaxy-phile took to Twitter following the iPhone 12 event to proclaim, "We're like on Galaxy 24 now." It would probably take a clinical psychologist to explain their hatred for Apple, but the only thing that matters to us is this: Apple continues to innovate, and the launch of the iPhone 12 5G device lineup will bring about a new super-cycle for the company.
Forget all of the talk about limited 5G coverage. To be sure, it will take years to put up the millions of little devices throughout the country needed to bring this hyper-speed technology to everyone, but the train has left the station—and soon enough, everyone will be clamoring for it. Furthermore, millions of Americans have held off on upgrading their iPhones until 5G devices became available. Finally, many countries around the world, especially in Asia, have built out a larger 5G infrastructure than the US. This makes sense when we consider the state and local government impediments in the US versus the lack of such challenges in "less free" countries. Trade wars and anti-American sentiment aside, Apple will sell hundreds of millions of iPhone 12s globally.
So, let the Apple haters continue to throw their tantrums; we remain focused on what the $2 trillion Cupertino-based company has in store for us next. Remember, it will require new devices to take advantage of 5G technology, and that holds true for the iPad and Mac lineups as well as the iPhone. Stay tuned.
At $120 per share, Apple remains a buy. It currently holds the distinction of being our largest portfolio position, and we don't see that changing anytime soon.
Application & Systems Software
08. Tech traders beware: What just happened to Fastly is a sign of things to come
2020 has been a banner year for Internet-based tech companies which have yet to turn a profit—Robinhood traders can't scoop up their shares fast enough. Take cloud platform provider Fastly (FSLY $85), for example. Traders turned this $1 billion startup into a $10 billion player virtually overnight despite the company's lack of net income—ever. All of that changed after the firm's latest earnings report, however. After a slight revenue miss (the company's Q3 revenue came in around $70 million versus analyst expectations for $75 million), FSLY shares began their rapid 33% decline. Let's back up and think about this: Here we have a company generating a paltry $70 million per quarter, earning zero net income, and traders were still piling in when its market cap hit $10 billion. Insanity. This is precisely the type of plunge we witnessed—ad nauseam—in early 2000. Let this be a warning shot to traders piling into unprofitable companies with reckless abandon. We've seen this movie before, and it does not end well. Here's what bothers us the most about the Fastly case study: We are willing to bet that the majority of "investors" who jumped in to buy shares couldn't explain what the company actually does if their lives depended on it. Here's a really simple basic rule to follow: Don't invest in any company before understanding what they do and what their unique value proposition is for customers. Then, it sure wouldn't hurt to actually look at the financials.
Oil & Gas Exploration & Production
07. ConocoPhillips will acquire shale E&P firm Concho Resources for $9.7 billion
Considering the market cap of Permian Basin operator Concho Resources (CXO $49) was $32 billion precisely two years ago, it seems like a golden opportunity for ConocoPhillips (COP $34): the latter will acquire the former for $9.7 billion in an all-stock deal. In a sign of just how hard the energy sector has fallen over the past two years, COP's market cap has dropped from $90 billion two years ago to just $36 billion today. For many shale producers facing chronic $40 per barrel oil, it is simply a case of be acquired or face possible bankruptcy. Does the deal make sense for Conoco? Our guess is that in two years it will look as brilliant as the 2019 Occidental (OXY $10) takeover of Anadarko for $38 billion looked stupid (Occidental's market cap now sits below $10 billion—yikes). The global economy will surge forward when the pandemic is behind us, and the rumors of oil's death as the world's leading energy source have been greatly exaggerated—at least the timeline of its demise. We continue to underweight the energy sector, with Chevron (CVX) remaining the one integrated oil company we own. At $33 per share, however, and with a 5% dividend yield, COP seems quite undervalued.
Application & Systems Software
06. SpaceX selects Microsoft (not Amazon) to run its space-based cloud computing network
It is almost embarrassing to watch Jeff Bezos pretend to compete with Elon Musk for commercial space dominance. He's like a little kid donning an astronaut costume and proclaiming, "take that Neil Armstrong!" In his own mind, Bezos's Blue Origin is right up there with SpaceX; hell, maybe better. Of course, in reality Blue Origin continues to be the pet project of the world's richest man while SpaceX is busy launching astronauts into orbit and building out a massive fleet of satellites which will provide high-speed Internet service to even the most remote parts of the globe. (Right on cue, Bezos stated that Blue Origin is going to build an even better satellite system—despite the lack of even one satellite in orbit.) In a move that should come as no surprise, SpaceX just selected Microsoft's (MSFT $214) Azure service to operate and manage its cloud computing needs for the Starlink system, barely considering Amazon (AMZN $3,226) Web Services (AWS) as an option. Considering the scope of the project, which will consist of linking cloud, space, and ground capabilities, crunching almost unfathomable amounts of data, and helping to control the orbits of SpaceX satellites, this was a huge win for Microsoft. Beyond the Starlink project, Musk's SpaceX also landed a demo contract from the Pentagon for a new generation missile warning system. Assuming the demo leads to deployment, Microsoft would certainly get that contract as well. Recall that Amazon is currently suing the US government for the Pentagon's decision to go with Azure for its $10 billion JEDI program, snubbing AWS. We see very little chance of the lawsuit changing the outcome of the JEDI contract, though we wonder how it might have poisoned the well for Amazon's hopes of landing government contracts in the future. For its core business of online retailing, no other company can compete with Amazon—which is why we own it within the Penn Global Leaders Club. We just wish Bezos would shut up and let someone else run the company. Maybe he could run Blue Origin full time and work on landing one single contract.
Global Strategy: Europe
05. While the pandemic rages in Europe, parliament focuses on what to call a veggie burger
One of our favorite pastimes is making fun of the European government. Let's face it, the only reason a "European Union" even exists is because of that continent's envy of the United States. The level of arrogance permeating the halls of the EU parliament in Brussels is stratospheric, which makes them such an easy target for ridicule. The latest? While the pandemic rages across the continent, EU lawmakers are focused on a critical issue: Whether or not to ban the likes of Beyond Meat (BYND $176) from calling their plant-based patties "burgers." Lawmakers will debate and vote on an amendment this month which would force these companies to label their burgers "discs" and their sausages "tubes." i.e. Beyond Burgers would become "veggie discs," and Beyond Breakfast Sausage would become "plant-based tubes." Parliamentarians will vote on another amendment, pushed by the European dairy union, which would ban the use of the word "creamy" when describing a non-dairy item. And we make fun of our government. Is it any wonder Brits voted to pull out of this dysfunctional entity?
Business & Professional Services
04. Bitcoin pops after PayPal announces it will allow customers to trade in cryptocurrencies
The value of Bitcoin "shares" surged to $13,000 following news that credit services provider PayPal (PYPL $213) will begin allowing its customers to use the digital currency on its platform. The firm said Bitcoins can be used for purchases with its 26 million merchants around the world, and the currency will soon be allowed on Venmo, now a PayPal company. That being said, the firm will not hold cryptos on its balance sheet; instead, it will partner with cryptocurrency services firm Paxos Trust Company to assist in completing the transactions. This means that merchants won't have to actually deal with the digital currency, as Paxos will serve as the intermediary. Nonetheless, considering PayPal has some 300 million customers around the globe, Bitcoin advocates are celebrating the move. Shares of the digital currency have been extremely volatile this year, falling from around $10,000 in February to $5,000 in March, then climbing back to $13,000 this past week. The high value mark of the currency was $20,000 back in 2017. Investing in Bitcoin has been—and will continue to be—a complete gamble. Keep in mind that this currency does not exist in "hard" form, it only exists virtually. Considering the high level of sophistication of hackers around the world, expect to hear more stories in the near future of accounts being drained of Bitcoin. As for PayPal, we like the firm but don't like the 100 multiple on the share price.
Media & Entertainment
03. In blow to Katzenberg and Whitman, Quibi is already being shut down
Based on some of their questionable business decisions in the past, our respect for Jeffrey Katzenberg and Meg Whitman was already pretty low coming into this most recent foray; now it is virtually nonexistent. It was just this past April when Whitman, the former CEO of eBay and HP, came on-air to brag about her and Katzenberg's new streaming service known as Quibi. Not only wouldn't the pandemic hurt the new service, it may even enhance its value, claimed Whitman. Now, six months and billions of dollars later, Quibi is shutting down. Katzenberg cited the pandemic as one of the major factors in its demise. Wow. All of the great ideas out there waiting to be funded, and this duo was actually able to attract $2 billion for a questionable business proposition (Quibi's unique value proposition was that it would feature short-form news and entertainment videos of ten minutes or less—yawn). The power of name recognition. We've said it before and we'll say it again: There are so many mediocre to downright bad CEOs out there that it boggles the mind. Before buying shares in a company, investors need to perform some level of due diligence on that company's management team.
Cybersecurity
02. Cybersecurity firm McAfee goes public—again
We are always on the lookout for a promising IPO, so when we heard that well-known cybersecurity firm McAfee (MCFE $19) was going public, it piqued our interest. We even like the firm's anything-but-dull founder, John McAfee (OK, despite the libertarian's recent arrest in Spain over tax evasion charges; it should be noted that McAfee has not been affiliated with the eponymous company since 1994). However, there was one major obstacle keeping us from investing in MCFE shares, which began trading on Thursday the 22nd: it was the company's second trip to the public equity markets—Intel acquired the firm and took it private in 2011. Despite having eighteen underwriters working on the deal, the IPO turned out to be a bust. After raising $740 million on Wednesday (the company sold 37 million Class A shares at $20 apiece), shares began trading at $18.60, got as high as $19.34, and then spent most of the session declining. A late-session rally brought them back up to $18.68 at the close. Our largest concern is the company's hefty debt load, which will still sit around $4 billion after some of it is paid off with the IPO proceeds. To put that in perspective, $21 billion cybersecurity firm Fortinet (FTNT $128), which we own in the Penn New Frontier Fund, has an aggregate short- and long-term debt load of just $2.7 billion. With so many hands in the pie and a share structure that would be hard for an SEC lawyer to decipher, we would steer clear of this warmed-over offering.
Under the Radar Investment
01. Under the Radar: SPDR® Blackstone / GSO Senior Loan ETF
To say it is difficult finding "good" fixed income investments right now is the understatement of the century. Ten-year Treasuries are yielding just above one-half of one percent, and the 30-year T Bond is yielding 1.375%. Challenging times. That being said, one of our current favorites in the Penn Strategic Income Portfolio is our senior loan fund, the SPDR Blackstone GSO Senior Loan ETF (SRLN). Senior loans are debt instruments issued by a bank to a company to fund any number of projects or to retire existing debt with higher interest rates. Note the term "senior." This means that, in the case of bankruptcy, owners of senior bank loans will be paid first as assets are liquidated—before creditors, preferred shareholders, and stockholders. SRLN currently owns around 220 such senior loans outstanding to companies such as: Bass Pro Shop, Petsmart, Athena Health, and Rackspace Technology. The average maturity of these loans is a comforting 4.72 years, and the beta (risk level on a scale of zero to one, with one equaling the risk of the S&P 500) is 0.0859. Our favorite aspect of the fund in these days of ultra-low rates? It yields 5%.
Answer
Business journalist Charles Dow, founder of financial news bureau Dow, Jones & Co., created the Dow Jones Industrial Average back in 1896. Prominent business newspaper The Wall Street Journal introduced the DJIA on 26 May of that same year. Of the twelve original component companies of the Dow, only General Electric is still in existence as a publicly-traded company. It was jettisoned from the index in 2018. In 1928, the DJIA was expanded to include 30 companies.
Headlines for the Week of 30 Aug—05 Sep 2020
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
History of the Dow Jones Industrial Average...
Though we label it "irrelevant" below, the Dow Jones Industrial Average does have an illustrious history. Who started the index and what was the publication which introduced it to the investing community? Also, one of the original twelve stocks on the Dow is still in existence—what company is it?
Penn Trading Desk:
(21 Aug 20) Adding Thematic Fund to Dynamic Growth Strategy
We have added a robotics fund to the DGS to take advantage of the coming boom in automation—the movement will be transformational for society. This fund is full of dynamic small- and mid-cap names. Members, see the trading desk.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Consumer Finance
10. Kick 'em when they're down: Capital One cuts credit card limits
We closed credit card company Capital One (COF $38-$71-$108) on 17 Jan of this year from the Penn Global Leaders Club at $104.13, taking our double digit gains. We took issue with some moves that management had been making. Our timing was spot-on—shares began tumbling to $38 a few months later. This week, the company made a move that buttresses our decision: As Americans are struggling due to the pandemic, Capital One began slashing the credit card limits of a large number of customers. And these customers have been expressing their outrage on social media. Many saw their credit limits cut by one-third or even two-thirds, with the effect of damaging their loan balance to limit ratio and, in turn, dragging down their credit scores. The company said the move was simply part of a periodic review of accounts it performs on a regular basis, but the timing certainly seems suspect. Capital One is the third-largest credit card issuer behind JP Morgan (JPM) and Citigroup (C). For their part, investors liked the move, pushing shares up just shy of 2%. We are currently underweighting Financials, and COF certainly isn't on our radar screen.
Multiline Retail
09. Penn Global Leader Target Corp. notches a blowout quarter
As if they weren't already on a tear, shares of Penn Global Leaders Club member Target Corp (TGT $149) popped another 9%—reaching yet another record high—after the retailer posted a simply stunning quarter. Overall, online and in-store sales were up 24.3% for the quarter, with the company attracting ten million new customers to its digital platform. Earnings per share blew past the expected $1.62, hitting $3.38, and profits rose by 80%, to $1.7 billion. Target breaks its merchandise down into five categories—all five showed strong growth. The company's electronics line was up 70% year-over-year, with the other six categories—to include beauty and apparel—rising by about 20% each. Despite launching just a year ago, Good & Gather, the firm's private label grocery brand, rose above the $1 billion in total sales mark. When a company reports surprise earnings, either to the upside or the downside, we like to review what the analysts were saying leading into the announcement. Our favorite came from Morningstar: the investment research firm had a one-star (sell) rating on TGT with a fair value of $98/share. Oops. We bought TGT shares during that nightmarish week before Christmas, 2018.
Biotechnology
08. Johnson & Johnson to buy biotech Momenta Pharma for $6.5 billion
One year ago, Momenta Pharmaceuticals (MNTA $12-$52-$40) was a $1.2 billion small-cap biotech with few standout therapies which might attract investors' attention. The company's work, however, did catch the eye of a much larger competitor: pharma giant Johnson & Johnson (JNJ $151) just agreed to buy the firm for $6.5 billion in cash. The catalyst for the acquisition was Momenta's experimental drug nipocalimab, a potential therapy for use in a number of autoimmune diseases. These disorders, which include type 1 diabetes, multiple sclerosis, and rheumatoid arthritis, cause either abnormally low or high activity within a person's immune system. Specifically, nipocalimab has shown promise in treating a rare blood disorder affecting fetuses and newborns. Despite the current focus on finding vaccines and therapies for Covid-19, big pharma has put a high priority on tackling autoimmune diseases, as this deal demonstrates. Somewhat surprisingly, this is the biggest acquisition in the pharma industry year-to-date, with Sanofi's recent $3.4 billion acquisition of US biotech Principia Biopharma coming in second. For investors, selecting the right micro- or small-cap biotech can be like finding a needle in a haystack, as unsuccessful trials often result in massive drops in a firm's share price. For investors looking for the next potential small- or mid-cap biotech to be acquired, the best bet is generally a focused biotech ETF with good management and a penchant for lower market caps. The SPDR® S&P Biotech ETF (XBI $112), a member of the Penn Dynamic Growth Strategy, is a good example.
Pharmaceuticals
07. AstraZeneca's novel approach: a combination vaccine and treatment
AstraZeneca (AZN $36-$57-$65), Britain's $150B drug powerhouse, has begun testing an exciting new therapy: AZD7442 is designed to not only prevent Covid-19, but also serve as a therapy for those already afflicted with the virus. The drug uses a combination of two monoclonal antibodies (mAbs), harvested antibodies made by identical immune cells which specifically bind to that substance, to create a cocktail to fight off and guard against a specific infection. The Phase 1 clinical trial, which is now underway in the UK, is being funded by the US Department of Defense and the Biomedical Advanced Research and Development Authority (BARDA). Leading infectious disease scientists have endorsed this mAb approach, which has been used successfully in the treatment of a number of cancer types. If the AZD7442 trials go as hoped, expect the therapy to receive fast-track designation by the FDA. Based on current valuations, shares of AZN may seem expensive, but success with AZD7442 could propel them higher.
Airlines
06. Delta to furlough 1,900 pilots, American to reduce staff by 19,000
Delta's (DAL $18-$30-$62) head of flight operations put it succinctly: "We are six months into this pandemic and only 25% of our revenues have been recovered." American Airlines Group (AAL $8-$13-$32) CEO Doug Parker echoed similar sentiments, stating that long-haul trips in Q4 of this year will equal about 25% of last year's Q4 rate. Against that backdrop, both companies have announced a new round of furloughs to take effect when government stimulus aid to the airlines ends on 30 Sep. Delta, which we purchased within the Intrepid Trading Platform at a steep discount back in May, said it will furlough 1,941 pilots—out of the 11,200 or so on the books—unless pilots take a 15% cut in pay. The Air Line Pilots Association, which represents the unionized group, has balked at that request. American Airlines announced even more draconian cuts, saying that 19,000 employees will be involuntarily furloughed after the government relief ends. Incredibly, American Airlines has lost 77.7% of its value since January of 2018, versus a 50% loss for Delta and a 23% gain in the S&P 500. Our Delta position is up 15% since we purchased it, and we see plenty of growth ahead as the pandemic subsides.
Global Exchanges & Indexes
05. The Dow's latest moves won't make the outdated index more relevant
It always amazes us how much attention is given to the level of the Dow Jones Industrial Average on any trading day as opposed to the much more reflective S&P 500. After all, out of roughly 2,500 listed companies on the New York Stock Exchange and another 3,300 on the Nasdaq, only 30 select entrants make up the DJIA. And these holdings are price-weighted, meaning companies are weighted in proportion to their share price, not market cap. In other words, another great day for Apple (AAPL $500)—and there have been plenty of those recently—probably means a strong day for the Dow. Compare this to the cap-weighted S&P 500 Index, which means the bigger a company, the more impact it can have on the S&P's return. No matter how big a company, it is still weighted against 499 others.
Let's stick with the Apple example, since the tech giant is about to undergo a four-for-one stock split. Right now, despite its $2 trillion size, Apple still makes up a little over 7% of the S&P 500 Index. After the split, nothing will change (its market cap won't change just because it split). In the Dow, however, where Apple also finds a home, it will suddenly become one-quarter as relevant to the daily returns. That's crazy. Or how about leaving entire industries virtually unrepresented, such as utilities! Also crazy.
We delve into this subject because the Dow is about to jettison three stocks and add three others in their place. Salesforce (CRM) will replace Exxon Mobil (XOM), Amgen (AMGN) will replace Pfizer (PFE), and Honeywell (HON) will replace Raytheon Technologies (RTX). The last two swaps are real head-scratchers. Even the first: Is Salesforce the most relevant tech company to infuse new blood into the Dow? What about Facebook (FB)?
Perhaps the Dow is still the financial press' favorite benchmark because it sounds more sensational to say, "DOW LOSES 1,000 POINTS" than it does to say, "S&P OFF 100." Irrespective, back during the bloodbath that was March, when the S&P 500 had plunged to below 2,500, we made our year-end prediction: "The index will rise to 3,500 by December 31st." It sits at 3,436 right now. We didn't bother making a prediction for the Dow.
Food Products
04. Boring old JM Smucker just knocked Q1 earnings out of the park
We should have seen it coming: In the midst of a lockdown and a mass migration of employees from their office buildings to their new in-home offices, packaged foods sales skyrocketed. Nothing made that more evident than the latest quarterly results from staid old JM Smucker (SJM $92-$121-$126), the 123-year-old, $14 billion packaged foods company. Best known for products such as Smucker's, Folgers, Jif, Crisco, and the like, the Ohio-based company increased earnings-per-share by 50% from the same quarter last year, and overall revenues by 11% from the same period in 2019. While their biggest category, Retail Pet Foods, increased by just 3% year-over-year (after all, the pets have always been at home), the Retail Consumer Foods division saw a 22% jump in sales. President and CEO Mark Smucker also said the firm had raised its fiscal 2021 guidance, now expecting between $8.20 and $8.60 in EPS and nearly $1 billion in free cash flow. Smucker said he expects the momentum to continue post-pandemic as Americans fell back in love with old brands, and as the company rolls out a large new marketing campaign. Time will tell, but the Q1 report was enough to drive the shares up over 7%. The company has a relatively decent P/E ratio of 18 (same as Penn holdings General Mills and B&G Foods), and we would put a fair value on the shares at around $125. That may not seem like much upside, but with its 3% dividend yield and very strong pet foods business, it is a pretty safe bet.
Multiline Retail
03. At $15, Nordstrom shares may be the retail deal of the decade, but...
Precisely one year ago, we made note of Nordstrom's (JWN $12-$15-$43) rather odd 16% one-day spike in price—to $31. Odd because it came on the heels of an earnings report that showed a 5% drop in revenue from Q2 of 2018. The spike apparently took place because analysts were expecting a much deeper drop. Here we are a year later and, with a pandemic added to the mix, analysts were really bracing for the worst. In fact, betting odds called for a 39% drop in sales from 2019. It wasn't even close. JWN shares were trading down around 6%—to $14.66—following news of a ghastly 53% drop in sales for the quarter. Even online sales, the bright spot for most retailers as customers were stuck at home behind their computers, dropped 5%. Nordstrom's earnings report even made the Kohl's quarter look good, and that was no easy feat.
Despite the reasons management gave for the drop, here's our biggest concern: Nordstrom makes its living off of selling higher-end clothing and accessories to an upscale workforce that wants to look nice in the office. When the family dog, Scruffy, becomes the only one needed to impress, Milk Bones—not fancy clothing—becomes the go-to purchase. (Milk Bones are a JM Smucker name brand, by the way.) For the quarter, Nordstrom had just shy of $2 billion in sales (down from roughly $4 billion in the same quarter last year) and a net loss of $255 million. The company doesn't have many money-losing quarters, however, and despite the lack of a P/E ratio due to that loss, its multiple had been as low as 4.1 the first week of April. Yes, the company's short-term and long-term liabilities to assets don't look great (roughly $4B/$4B and $6B/$6B, respectively), but odds are great that the company isn't going the way of JC Penney.
When the inevitable return to normalcy does come, we could easily see the shares trading at twice their current price.
Robotics & Industrial Machinery
02. 3D printing firm Desktop Metal to go public with a "blank check"
It seems to be all the rave on Wall Street this year: the SPAC, or Special Purpose Acquisition Company. A SPAC is a blank-check company that either does not have its own business plan or builds one around a merger with another company. In an upcoming issue of the Penn Wealth Report, for example, we discuss the SPAC Fortress Value Acquisition Corp (FVAC $12) funding America's return to rare earth mining via its "blank check" to MP Materials, owner of the Mountain Pass mining operation in California. Now, another SPAC, Trine Acquisition Corp, will provide advanced 3D printing "unicorn" (a startup valued at over $1B) Desktop Metal $575 million to go public under the symbol DM within the next few months.
Desktop is a leader in 3D printing, producing stainless steel, aluminum, and other metal alloy parts in large quantities at an assembly line rate. CEO Ric Fulop said the company's latest machines will be able to "print" critical components for the aerospace industry at 100-times the speed of current high-end printers at about one-twentieth the cost. He gives the example of a water impeller pump for a BMW auto; it would typically cost $80 to produce the pump, but one of Fulop's machines created it for $5. Desktop Metal may truly usher in the 3D world promised by advocates for years. Forget the low cost of labor in countries like China, imagine Fulop's machines pumping out intricate metal parts en masse here in the United States. That could bring about a transformational shift in global economics, greatly reducing America's reliance on cheap overseas labor.
Think that is a pie-in-the-sky promise? Remember how we were once at the mercy of OPEC for our energy needs? Keep an eye out for DM when it goes public later this year.
Under the Radar Investment
01. Under the Radar: Black Hills Corp
Black Hills Corp (BKH $48-$54-$87) is a mid-cap ($3.8B) diversified utility which provides regulated gas and electric power to states in the Midwest and mountain regions. The firm also runs a mining operation via its Wyodak Resources division. With steady revenue of roughly $1.7 billion annually, the firm had $200 million in net income last year and cash flow of $7.02 per share. BKH has fallen out of favor with hedge funds recently, dragging its share price down from $87 to $48, before the shares rebounded to their current level of $54. With an ultra-low beta of 0.3049 (5Y) and a dividend yield of 4%, the shares are worth a look for income-oriented investors.
Answer
Business journalist Charles Dow, founder of financial news bureau Dow, Jones & Co., created the Dow Jones Industrial Average back in 1896. Prominent business newspaper The Wall Street Journal introduced the DJIA on 26 May of that same year. Of the twelve original component companies of the Dow, only General Electric is still in existence as a publicly-traded company. It was jettisoned from the index in 2018. In 1928, the DJIA was expanded to include 30 companies.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
History of the Dow Jones Industrial Average...
Though we label it "irrelevant" below, the Dow Jones Industrial Average does have an illustrious history. Who started the index and what was the publication which introduced it to the investing community? Also, one of the original twelve stocks on the Dow is still in existence—what company is it?
Penn Trading Desk:
(21 Aug 20) Adding Thematic Fund to Dynamic Growth Strategy
We have added a robotics fund to the DGS to take advantage of the coming boom in automation—the movement will be transformational for society. This fund is full of dynamic small- and mid-cap names. Members, see the trading desk.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Consumer Finance
10. Kick 'em when they're down: Capital One cuts credit card limits
We closed credit card company Capital One (COF $38-$71-$108) on 17 Jan of this year from the Penn Global Leaders Club at $104.13, taking our double digit gains. We took issue with some moves that management had been making. Our timing was spot-on—shares began tumbling to $38 a few months later. This week, the company made a move that buttresses our decision: As Americans are struggling due to the pandemic, Capital One began slashing the credit card limits of a large number of customers. And these customers have been expressing their outrage on social media. Many saw their credit limits cut by one-third or even two-thirds, with the effect of damaging their loan balance to limit ratio and, in turn, dragging down their credit scores. The company said the move was simply part of a periodic review of accounts it performs on a regular basis, but the timing certainly seems suspect. Capital One is the third-largest credit card issuer behind JP Morgan (JPM) and Citigroup (C). For their part, investors liked the move, pushing shares up just shy of 2%. We are currently underweighting Financials, and COF certainly isn't on our radar screen.
Multiline Retail
09. Penn Global Leader Target Corp. notches a blowout quarter
As if they weren't already on a tear, shares of Penn Global Leaders Club member Target Corp (TGT $149) popped another 9%—reaching yet another record high—after the retailer posted a simply stunning quarter. Overall, online and in-store sales were up 24.3% for the quarter, with the company attracting ten million new customers to its digital platform. Earnings per share blew past the expected $1.62, hitting $3.38, and profits rose by 80%, to $1.7 billion. Target breaks its merchandise down into five categories—all five showed strong growth. The company's electronics line was up 70% year-over-year, with the other six categories—to include beauty and apparel—rising by about 20% each. Despite launching just a year ago, Good & Gather, the firm's private label grocery brand, rose above the $1 billion in total sales mark. When a company reports surprise earnings, either to the upside or the downside, we like to review what the analysts were saying leading into the announcement. Our favorite came from Morningstar: the investment research firm had a one-star (sell) rating on TGT with a fair value of $98/share. Oops. We bought TGT shares during that nightmarish week before Christmas, 2018.
Biotechnology
08. Johnson & Johnson to buy biotech Momenta Pharma for $6.5 billion
One year ago, Momenta Pharmaceuticals (MNTA $12-$52-$40) was a $1.2 billion small-cap biotech with few standout therapies which might attract investors' attention. The company's work, however, did catch the eye of a much larger competitor: pharma giant Johnson & Johnson (JNJ $151) just agreed to buy the firm for $6.5 billion in cash. The catalyst for the acquisition was Momenta's experimental drug nipocalimab, a potential therapy for use in a number of autoimmune diseases. These disorders, which include type 1 diabetes, multiple sclerosis, and rheumatoid arthritis, cause either abnormally low or high activity within a person's immune system. Specifically, nipocalimab has shown promise in treating a rare blood disorder affecting fetuses and newborns. Despite the current focus on finding vaccines and therapies for Covid-19, big pharma has put a high priority on tackling autoimmune diseases, as this deal demonstrates. Somewhat surprisingly, this is the biggest acquisition in the pharma industry year-to-date, with Sanofi's recent $3.4 billion acquisition of US biotech Principia Biopharma coming in second. For investors, selecting the right micro- or small-cap biotech can be like finding a needle in a haystack, as unsuccessful trials often result in massive drops in a firm's share price. For investors looking for the next potential small- or mid-cap biotech to be acquired, the best bet is generally a focused biotech ETF with good management and a penchant for lower market caps. The SPDR® S&P Biotech ETF (XBI $112), a member of the Penn Dynamic Growth Strategy, is a good example.
Pharmaceuticals
07. AstraZeneca's novel approach: a combination vaccine and treatment
AstraZeneca (AZN $36-$57-$65), Britain's $150B drug powerhouse, has begun testing an exciting new therapy: AZD7442 is designed to not only prevent Covid-19, but also serve as a therapy for those already afflicted with the virus. The drug uses a combination of two monoclonal antibodies (mAbs), harvested antibodies made by identical immune cells which specifically bind to that substance, to create a cocktail to fight off and guard against a specific infection. The Phase 1 clinical trial, which is now underway in the UK, is being funded by the US Department of Defense and the Biomedical Advanced Research and Development Authority (BARDA). Leading infectious disease scientists have endorsed this mAb approach, which has been used successfully in the treatment of a number of cancer types. If the AZD7442 trials go as hoped, expect the therapy to receive fast-track designation by the FDA. Based on current valuations, shares of AZN may seem expensive, but success with AZD7442 could propel them higher.
Airlines
06. Delta to furlough 1,900 pilots, American to reduce staff by 19,000
Delta's (DAL $18-$30-$62) head of flight operations put it succinctly: "We are six months into this pandemic and only 25% of our revenues have been recovered." American Airlines Group (AAL $8-$13-$32) CEO Doug Parker echoed similar sentiments, stating that long-haul trips in Q4 of this year will equal about 25% of last year's Q4 rate. Against that backdrop, both companies have announced a new round of furloughs to take effect when government stimulus aid to the airlines ends on 30 Sep. Delta, which we purchased within the Intrepid Trading Platform at a steep discount back in May, said it will furlough 1,941 pilots—out of the 11,200 or so on the books—unless pilots take a 15% cut in pay. The Air Line Pilots Association, which represents the unionized group, has balked at that request. American Airlines announced even more draconian cuts, saying that 19,000 employees will be involuntarily furloughed after the government relief ends. Incredibly, American Airlines has lost 77.7% of its value since January of 2018, versus a 50% loss for Delta and a 23% gain in the S&P 500. Our Delta position is up 15% since we purchased it, and we see plenty of growth ahead as the pandemic subsides.
Global Exchanges & Indexes
05. The Dow's latest moves won't make the outdated index more relevant
It always amazes us how much attention is given to the level of the Dow Jones Industrial Average on any trading day as opposed to the much more reflective S&P 500. After all, out of roughly 2,500 listed companies on the New York Stock Exchange and another 3,300 on the Nasdaq, only 30 select entrants make up the DJIA. And these holdings are price-weighted, meaning companies are weighted in proportion to their share price, not market cap. In other words, another great day for Apple (AAPL $500)—and there have been plenty of those recently—probably means a strong day for the Dow. Compare this to the cap-weighted S&P 500 Index, which means the bigger a company, the more impact it can have on the S&P's return. No matter how big a company, it is still weighted against 499 others.
Let's stick with the Apple example, since the tech giant is about to undergo a four-for-one stock split. Right now, despite its $2 trillion size, Apple still makes up a little over 7% of the S&P 500 Index. After the split, nothing will change (its market cap won't change just because it split). In the Dow, however, where Apple also finds a home, it will suddenly become one-quarter as relevant to the daily returns. That's crazy. Or how about leaving entire industries virtually unrepresented, such as utilities! Also crazy.
We delve into this subject because the Dow is about to jettison three stocks and add three others in their place. Salesforce (CRM) will replace Exxon Mobil (XOM), Amgen (AMGN) will replace Pfizer (PFE), and Honeywell (HON) will replace Raytheon Technologies (RTX). The last two swaps are real head-scratchers. Even the first: Is Salesforce the most relevant tech company to infuse new blood into the Dow? What about Facebook (FB)?
Perhaps the Dow is still the financial press' favorite benchmark because it sounds more sensational to say, "DOW LOSES 1,000 POINTS" than it does to say, "S&P OFF 100." Irrespective, back during the bloodbath that was March, when the S&P 500 had plunged to below 2,500, we made our year-end prediction: "The index will rise to 3,500 by December 31st." It sits at 3,436 right now. We didn't bother making a prediction for the Dow.
Food Products
04. Boring old JM Smucker just knocked Q1 earnings out of the park
We should have seen it coming: In the midst of a lockdown and a mass migration of employees from their office buildings to their new in-home offices, packaged foods sales skyrocketed. Nothing made that more evident than the latest quarterly results from staid old JM Smucker (SJM $92-$121-$126), the 123-year-old, $14 billion packaged foods company. Best known for products such as Smucker's, Folgers, Jif, Crisco, and the like, the Ohio-based company increased earnings-per-share by 50% from the same quarter last year, and overall revenues by 11% from the same period in 2019. While their biggest category, Retail Pet Foods, increased by just 3% year-over-year (after all, the pets have always been at home), the Retail Consumer Foods division saw a 22% jump in sales. President and CEO Mark Smucker also said the firm had raised its fiscal 2021 guidance, now expecting between $8.20 and $8.60 in EPS and nearly $1 billion in free cash flow. Smucker said he expects the momentum to continue post-pandemic as Americans fell back in love with old brands, and as the company rolls out a large new marketing campaign. Time will tell, but the Q1 report was enough to drive the shares up over 7%. The company has a relatively decent P/E ratio of 18 (same as Penn holdings General Mills and B&G Foods), and we would put a fair value on the shares at around $125. That may not seem like much upside, but with its 3% dividend yield and very strong pet foods business, it is a pretty safe bet.
Multiline Retail
03. At $15, Nordstrom shares may be the retail deal of the decade, but...
Precisely one year ago, we made note of Nordstrom's (JWN $12-$15-$43) rather odd 16% one-day spike in price—to $31. Odd because it came on the heels of an earnings report that showed a 5% drop in revenue from Q2 of 2018. The spike apparently took place because analysts were expecting a much deeper drop. Here we are a year later and, with a pandemic added to the mix, analysts were really bracing for the worst. In fact, betting odds called for a 39% drop in sales from 2019. It wasn't even close. JWN shares were trading down around 6%—to $14.66—following news of a ghastly 53% drop in sales for the quarter. Even online sales, the bright spot for most retailers as customers were stuck at home behind their computers, dropped 5%. Nordstrom's earnings report even made the Kohl's quarter look good, and that was no easy feat.
Despite the reasons management gave for the drop, here's our biggest concern: Nordstrom makes its living off of selling higher-end clothing and accessories to an upscale workforce that wants to look nice in the office. When the family dog, Scruffy, becomes the only one needed to impress, Milk Bones—not fancy clothing—becomes the go-to purchase. (Milk Bones are a JM Smucker name brand, by the way.) For the quarter, Nordstrom had just shy of $2 billion in sales (down from roughly $4 billion in the same quarter last year) and a net loss of $255 million. The company doesn't have many money-losing quarters, however, and despite the lack of a P/E ratio due to that loss, its multiple had been as low as 4.1 the first week of April. Yes, the company's short-term and long-term liabilities to assets don't look great (roughly $4B/$4B and $6B/$6B, respectively), but odds are great that the company isn't going the way of JC Penney.
When the inevitable return to normalcy does come, we could easily see the shares trading at twice their current price.
Robotics & Industrial Machinery
02. 3D printing firm Desktop Metal to go public with a "blank check"
It seems to be all the rave on Wall Street this year: the SPAC, or Special Purpose Acquisition Company. A SPAC is a blank-check company that either does not have its own business plan or builds one around a merger with another company. In an upcoming issue of the Penn Wealth Report, for example, we discuss the SPAC Fortress Value Acquisition Corp (FVAC $12) funding America's return to rare earth mining via its "blank check" to MP Materials, owner of the Mountain Pass mining operation in California. Now, another SPAC, Trine Acquisition Corp, will provide advanced 3D printing "unicorn" (a startup valued at over $1B) Desktop Metal $575 million to go public under the symbol DM within the next few months.
Desktop is a leader in 3D printing, producing stainless steel, aluminum, and other metal alloy parts in large quantities at an assembly line rate. CEO Ric Fulop said the company's latest machines will be able to "print" critical components for the aerospace industry at 100-times the speed of current high-end printers at about one-twentieth the cost. He gives the example of a water impeller pump for a BMW auto; it would typically cost $80 to produce the pump, but one of Fulop's machines created it for $5. Desktop Metal may truly usher in the 3D world promised by advocates for years. Forget the low cost of labor in countries like China, imagine Fulop's machines pumping out intricate metal parts en masse here in the United States. That could bring about a transformational shift in global economics, greatly reducing America's reliance on cheap overseas labor.
Think that is a pie-in-the-sky promise? Remember how we were once at the mercy of OPEC for our energy needs? Keep an eye out for DM when it goes public later this year.
Under the Radar Investment
01. Under the Radar: Black Hills Corp
Black Hills Corp (BKH $48-$54-$87) is a mid-cap ($3.8B) diversified utility which provides regulated gas and electric power to states in the Midwest and mountain regions. The firm also runs a mining operation via its Wyodak Resources division. With steady revenue of roughly $1.7 billion annually, the firm had $200 million in net income last year and cash flow of $7.02 per share. BKH has fallen out of favor with hedge funds recently, dragging its share price down from $87 to $48, before the shares rebounded to their current level of $54. With an ultra-low beta of 0.3049 (5Y) and a dividend yield of 4%, the shares are worth a look for income-oriented investors.
Answer
Business journalist Charles Dow, founder of financial news bureau Dow, Jones & Co., created the Dow Jones Industrial Average back in 1896. Prominent business newspaper The Wall Street Journal introduced the DJIA on 26 May of that same year. Of the twelve original component companies of the Dow, only General Electric is still in existence as a publicly-traded company. It was jettisoned from the index in 2018. In 1928, the DJIA was expanded to include 30 companies.
Headlines for the Week of 23 Aug—29 Aug 2020
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
History of the Dow Jones Industrial Average...
Though we label it "irrelevant" below, the Dow Jones Industrial Average does have an illustrious history. Who started the index and what was the publication which introduced it to the investing community? Also, one of the original twelve stocks on the Dow is still in existence—what company is it?
Penn Trading Desk:
(21 Aug 20) Adding Thematic Fund to Dynamic Growth Strategy
We have added a robotics fund to the DGS to take advantage of the coming boom in automation—the movement will be transformational for society. This fund is full of dynamic small- and mid-cap names. Members, see the trading desk.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
IT Software & Services
10. Why does Amazon want to buy warmed-over Rackspace shares?
Rackspace (RXT $15-$20-$20) is an end-to-end cloud services provider for companies of all sizes. From web hosting to managing a firm's cloud experience—to include cybersecurity—RXT works across the various platforms (Amazon Web Services, Azure, OpenStack) to create a seamless digital experience for customers. When the firm IPO'd on 05 August, tumbling 20% on the first day, it must have felt a sense of déjà vu, as it had a nearly identical experience the last time it went public—in August of 2008. Four years ago, private-equity group Apollo Global Management took Rackspace private in a deal valued at north of $4 billion, then unloaded all of that debt off on the company it just brought back to the public market. As of right now, RXT has a market cap of $3.8 billion and long-term debt of $4.8 billion, and that market cap is so high only due to a 22% one-week run-up in the share price.
Which leads us to the real story. RXT shares rose from around $16 to above $20 on news that Amazon is in talks to invest in the tech services provider. Why would Amazon, a competitor in one sense and a partner in another, want to become a minority shareholder in Rackspace? The only answer that makes sense to us is that Amazon may feel it can steer Rackspace customers away from using Microsoft Azure, the Google Cloud, and other platforms and toward AWS. The legality of that seems questionable. From a strictly fiscal standpoint, looking at RXT's financials, the move doesn't make much sense. Let's see if Amazon's chief cloud competitors have anything to say about the deal.
Multiline Retail
09. Penn Global Leader Target Corp. notches a blowout quarter
As if they weren't already on a tear, shares of Penn Global Leaders Club member Target Corp (TGT $149) popped another 9%—reaching yet another record high—after the retailer posted a simply stunning quarter. Overall, online and in-store sales were up 24.3% for the quarter, with the company attracting ten million new customers to its digital platform. Earnings per share blew past the expected $1.62, hitting $3.38, and profits rose by 80%, to $1.7 billion. Target breaks its merchandise down into five categories—all five showed strong growth. The company's electronics line was up 70% year-over-year, with the other six categories—to include beauty and apparel—rising by about 20% each. Despite launching just a year ago, Good & Gather, the firm's private label grocery brand, rose above the $1 billion in total sales mark. When a company reports surprise earnings, either to the upside or the downside, we like to review what the analysts were saying leading into the announcement. Our favorite came from Morningstar: the investment research firm had a one-star (sell) rating on TGT with a fair value of $98/share. Oops. We bought TGT shares during that nightmarish week before Christmas, 2018.
Biotechnology
08. Johnson & Johnson to buy biotech Momenta Pharma for $6.5 billion
One year ago, Momenta Pharmaceuticals (MNTA $12-$52-$40) was a $1.2 billion small-cap biotech with few standout therapies which might attract investors' attention. The company's work, however, did catch the eye of a much larger competitor: pharma giant Johnson & Johnson (JNJ $151) just agreed to buy the firm for $6.5 billion in cash. The catalyst for the acquisition was Momenta's experimental drug nipocalimab, a potential therapy for use in a number of autoimmune diseases. These disorders, which include type 1 diabetes, multiple sclerosis, and rheumatoid arthritis, cause either abnormally low or high activity within a person's immune system. Specifically, nipocalimab has shown promise in treating a rare blood disorder affecting fetuses and newborns. Despite the current focus on finding vaccines and therapies for Covid-19, big pharma has put a high priority on tackling autoimmune diseases, as this deal demonstrates. Somewhat surprisingly, this is the biggest acquisition in the pharma industry year-to-date, with Sanofi's recent $3.4 billion acquisition of US biotech Principia Biopharma coming in second. For investors, selecting the right micro- or small-cap biotech can be like finding a needle in a haystack, as unsuccessful trials often result in massive drops in a firm's share price. For investors looking for the next potential small- or mid-cap biotech to be acquired, the best bet is generally a focused biotech ETF with good management and a penchant for lower market caps. The SPDR® S&P Biotech ETF (XBI $112), a member of the Penn Dynamic Growth Strategy, is a good example.
Pharmaceuticals
07. AstraZeneca's novel approach: a combination vaccine and treatment
AstraZeneca (AZN $36-$57-$65), Britain's $150B drug powerhouse, has begun testing an exciting new therapy: AZD7442 is designed to not only prevent Covid-19, but also serve as a therapy for those already afflicted with the virus. The drug uses a combination of two monoclonal antibodies (mAbs), harvested antibodies made by identical immune cells which specifically bind to that substance, to create a cocktail to fight off and guard against a specific infection. The Phase 1 clinical trial, which is now underway in the UK, is being funded by the US Department of Defense and the Biomedical Advanced Research and Development Authority (BARDA). Leading infectious disease scientists have endorsed this mAb approach, which has been used successfully in the treatment of a number of cancer types. If the AZD7442 trials go as hoped, expect the therapy to receive fast-track designation by the FDA. Based on current valuations, shares of AZN may seem expensive, but success with AZD7442 could propel them higher.
Airlines
06. Delta to furlough 1,900 pilots, American to reduce staff by 19,000
Delta's (DAL $18-$30-$62) head of flight operations put it succinctly: "We are six months into this pandemic and only 25% of our revenues have been recovered." American Airlines Group (AAL $8-$13-$32) CEO Doug Parker echoed similar sentiments, stating that long-haul trips in Q4 of this year will equal about 25% of last year's Q4 rate. Against that backdrop, both companies have announced a new round of furloughs to take effect when government stimulus aid to the airlines ends on 30 Sep. Delta, which we purchased within the Intrepid Trading Platform at a steep discount back in May, said it will furlough 1,941 pilots—out of the 11,200 or so on the books—unless pilots take a 15% cut in pay. The Air Line Pilots Association, which represents the unionized group, has balked at that request. American Airlines announced even more draconian cuts, saying that 19,000 employees will be involuntarily furloughed after the government relief ends. Incredibly, American Airlines has lost 77.7% of its value since January of 2018, versus a 50% loss for Delta and a 23% gain in the S&P 500. Our Delta position is up 15% since we purchased it, and we see plenty of growth ahead as the pandemic subsides.
Global Exchanges & Indexes
05. The Dow's latest moves won't make the outdated index more relevant
It always amazes us how much attention is given to the level of the Dow Jones Industrial Average on any trading day as opposed to the much more reflective S&P 500. After all, out of roughly 2,500 listed companies on the New York Stock Exchange and another 3,300 on the Nasdaq, only 30 select entrants make up the DJIA. And these holdings are price-weighted, meaning companies are weighted in proportion to their share price, not market cap. In other words, another great day for Apple (AAPL $500)—and there have been plenty of those recently—probably means a strong day for the Dow. Compare this to the cap-weighted S&P 500 Index, which means the bigger a company, the more impact it can have on the S&P's return. No matter how big a company, it is still weighted against 499 others.
Let's stick with the Apple example, since the tech giant is about to undergo a four-for-one stock split. Right now, despite its $2 trillion size, Apple still makes up a little over 7% of the S&P 500 Index. After the split, nothing will change (its market cap won't change just because it split). In the Dow, however, where Apple also finds a home, it will suddenly become one-quarter as relevant to the daily returns. That's crazy. Or how about leaving entire industries virtually unrepresented, such as utilities! Also crazy.
We delve into this subject because the Dow is about to jettison three stocks and add three others in their place. Salesforce (CRM) will replace Exxon Mobil (XOM), Amgen (AMGN) will replace Pfizer (PFE), and Honeywell (HON) will replace Raytheon Technologies (RTX). The last two swaps are real head-scratchers. Even the first: Is Salesforce the most relevant tech company to infuse new blood into the Dow? What about Facebook (FB)?
Perhaps the Dow is still the financial press' favorite benchmark because it sounds more sensational to say, "DOW LOSES 1,000 POINTS" than it does to say, "S&P OFF 100." Irrespective, back during the bloodbath that was March, when the S&P 500 had plunged to below 2,500, we made our year-end prediction: "The index will rise to 3,500 by December 31st." It sits at 3,436 right now. We didn't bother making a prediction for the Dow.
Food Products
04. Boring old JM Smucker just knocked Q1 earnings out of the park
We should have seen it coming: In the midst of a lockdown and a mass migration of employees from their office buildings to their new in-home offices, packaged foods sales skyrocketed. Nothing made that more evident than the latest quarterly results from staid old JM Smucker (SJM $92-$121-$126), the 123-year-old, $14 billion packaged foods company. Best known for products such as Smucker's, Folgers, Jif, Crisco, and the like, the Ohio-based company increased earnings-per-share by 50% from the same quarter last year, and overall revenues by 11% from the same period in 2019. While their biggest category, Retail Pet Foods, increased by just 3% year-over-year (after all, the pets have always been at home), the Retail Consumer Foods division saw a 22% jump in sales. President and CEO Mark Smucker also said the firm had raised its fiscal 2021 guidance, now expecting between $8.20 and $8.60 in EPS and nearly $1 billion in free cash flow. Smucker said he expects the momentum to continue post-pandemic as Americans fell back in love with old brands, and as the company rolls out a large new marketing campaign. Time will tell, but the Q1 report was enough to drive the shares up over 7%. The company has a relatively decent P/E ratio of 18 (same as Penn holdings General Mills and B&G Foods), and we would put a fair value on the shares at around $125. That may not seem like much upside, but with its 3% dividend yield and very strong pet foods business, it is a pretty safe bet.
Multiline Retail
03. At $15, Nordstrom shares may be the retail deal of the decade, but...
Precisely one year ago, we made note of Nordstrom's (JWN $12-$15-$43) rather odd 16% one-day spike in price—to $31. Odd because it came on the heels of an earnings report that showed a 5% drop in revenue from Q2 of 2018. The spike apparently took place because analysts were expecting a much deeper drop. Here we are a year later and, with a pandemic added to the mix, analysts were really bracing for the worst. In fact, betting odds called for a 39% drop in sales from 2019. It wasn't even close. JWN shares were trading down around 6%—to $14.66—following news of a ghastly 53% drop in sales for the quarter. Even online sales, the bright spot for most retailers as customers were stuck at home behind their computers, dropped 5%. Nordstrom's earnings report even made the Kohl's quarter look good, and that was no easy feat.
Despite the reasons management gave for the drop, here's our biggest concern: Nordstrom makes its living off of selling higher-end clothing and accessories to an upscale workforce that wants to look nice in the office. When the family dog, Scruffy, becomes the only one needed to impress, Milk Bones—not fancy clothing—becomes the go-to purchase. (Milk Bones are a JM Smucker name brand, by the way.) For the quarter, Nordstrom had just shy of $2 billion in sales (down from roughly $4 billion in the same quarter last year) and a net loss of $255 million. The company doesn't have many money-losing quarters, however, and despite the lack of a P/E ratio due to that loss, its multiple had been as low as 4.1 the first week of April. Yes, the company's short-term and long-term liabilities to assets don't look great (roughly $4B/$4B and $6B/$6B, respectively), but odds are great that the company isn't going the way of JC Penney.
When the inevitable return to normalcy does come, we could easily see the shares trading at twice their current price.
Robotics & Industrial Machinery
02. 3D printing firm Desktop Metal to go public with a "blank check"
It seems to be all the rave on Wall Street this year: the SPAC, or Special Purpose Acquisition Company. A SPAC is a blank-check company that either does not have its own business plan or builds one around a merger with another company. In an upcoming issue of the Penn Wealth Report, for example, we discuss the SPAC Fortress Value Acquisition Corp (FVAC $12) funding America's return to rare earth mining via its "blank check" to MP Materials, owner of the Mountain Pass mining operation in California. Now, another SPAC, Trine Acquisition Corp, will provide advanced 3D printing "unicorn" (a startup valued at over $1B) Desktop Metal $575 million to go public under the symbol DM within the next few months.
Desktop is a leader in 3D printing, producing stainless steel, aluminum, and other metal alloy parts in large quantities at an assembly line rate. CEO Ric Fulop said the company's latest machines will be able to "print" critical components for the aerospace industry at 100-times the speed of current high-end printers at about one-twentieth the cost. He gives the example of a water impeller pump for a BMW auto; it would typically cost $80 to produce the pump, but one of Fulop's machines created it for $5. Desktop Metal may truly usher in the 3D world promised by advocates for years. Forget the low cost of labor in countries like China, imagine Fulop's machines pumping out intricate metal parts en masse here in the United States. That could bring about a transformational shift in global economics, greatly reducing America's reliance on cheap overseas labor.
Think that is a pie-in-the-sky promise? Remember how we were once at the mercy of OPEC for our energy needs? Keep an eye out for DM when it goes public later this year.
Under the Radar Investment
01. Under the Radar: Black Hills Corp
Black Hills Corp (BKH $48-$54-$87) is a mid-cap ($3.8B) diversified utility which provides regulated gas and electric power to states in the Midwest and mountain regions. The firm also runs a mining operation via its Wyodak Resources division. With steady revenue of roughly $1.7 billion annually, the firm had $200 million in net income last year and cash flow of $7.02 per share. BKH has fallen out of favor with hedge funds recently, dragging its share price down from $87 to $48, before the shares rebounded to their current level of $54. With an ultra-low beta of 0.3049 (5Y) and a dividend yield of 4%, the shares are worth a look for income-oriented investors.
Answer
Business journalist Charles Dow, founder of financial news bureau Dow, Jones & Co., created the Dow Jones Industrial Average back in 1896. Prominent business newspaper The Wall Street Journal introduced the DJIA on 26 May of that same year. Of the twelve original component companies of the Dow, only General Electric is still in existence as a publicly-traded company. It was jettisoned from the index in 2018. In 1928, the DJIA was expanded to include 30 companies.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
History of the Dow Jones Industrial Average...
Though we label it "irrelevant" below, the Dow Jones Industrial Average does have an illustrious history. Who started the index and what was the publication which introduced it to the investing community? Also, one of the original twelve stocks on the Dow is still in existence—what company is it?
Penn Trading Desk:
(21 Aug 20) Adding Thematic Fund to Dynamic Growth Strategy
We have added a robotics fund to the DGS to take advantage of the coming boom in automation—the movement will be transformational for society. This fund is full of dynamic small- and mid-cap names. Members, see the trading desk.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
IT Software & Services
10. Why does Amazon want to buy warmed-over Rackspace shares?
Rackspace (RXT $15-$20-$20) is an end-to-end cloud services provider for companies of all sizes. From web hosting to managing a firm's cloud experience—to include cybersecurity—RXT works across the various platforms (Amazon Web Services, Azure, OpenStack) to create a seamless digital experience for customers. When the firm IPO'd on 05 August, tumbling 20% on the first day, it must have felt a sense of déjà vu, as it had a nearly identical experience the last time it went public—in August of 2008. Four years ago, private-equity group Apollo Global Management took Rackspace private in a deal valued at north of $4 billion, then unloaded all of that debt off on the company it just brought back to the public market. As of right now, RXT has a market cap of $3.8 billion and long-term debt of $4.8 billion, and that market cap is so high only due to a 22% one-week run-up in the share price.
Which leads us to the real story. RXT shares rose from around $16 to above $20 on news that Amazon is in talks to invest in the tech services provider. Why would Amazon, a competitor in one sense and a partner in another, want to become a minority shareholder in Rackspace? The only answer that makes sense to us is that Amazon may feel it can steer Rackspace customers away from using Microsoft Azure, the Google Cloud, and other platforms and toward AWS. The legality of that seems questionable. From a strictly fiscal standpoint, looking at RXT's financials, the move doesn't make much sense. Let's see if Amazon's chief cloud competitors have anything to say about the deal.
Multiline Retail
09. Penn Global Leader Target Corp. notches a blowout quarter
As if they weren't already on a tear, shares of Penn Global Leaders Club member Target Corp (TGT $149) popped another 9%—reaching yet another record high—after the retailer posted a simply stunning quarter. Overall, online and in-store sales were up 24.3% for the quarter, with the company attracting ten million new customers to its digital platform. Earnings per share blew past the expected $1.62, hitting $3.38, and profits rose by 80%, to $1.7 billion. Target breaks its merchandise down into five categories—all five showed strong growth. The company's electronics line was up 70% year-over-year, with the other six categories—to include beauty and apparel—rising by about 20% each. Despite launching just a year ago, Good & Gather, the firm's private label grocery brand, rose above the $1 billion in total sales mark. When a company reports surprise earnings, either to the upside or the downside, we like to review what the analysts were saying leading into the announcement. Our favorite came from Morningstar: the investment research firm had a one-star (sell) rating on TGT with a fair value of $98/share. Oops. We bought TGT shares during that nightmarish week before Christmas, 2018.
Biotechnology
08. Johnson & Johnson to buy biotech Momenta Pharma for $6.5 billion
One year ago, Momenta Pharmaceuticals (MNTA $12-$52-$40) was a $1.2 billion small-cap biotech with few standout therapies which might attract investors' attention. The company's work, however, did catch the eye of a much larger competitor: pharma giant Johnson & Johnson (JNJ $151) just agreed to buy the firm for $6.5 billion in cash. The catalyst for the acquisition was Momenta's experimental drug nipocalimab, a potential therapy for use in a number of autoimmune diseases. These disorders, which include type 1 diabetes, multiple sclerosis, and rheumatoid arthritis, cause either abnormally low or high activity within a person's immune system. Specifically, nipocalimab has shown promise in treating a rare blood disorder affecting fetuses and newborns. Despite the current focus on finding vaccines and therapies for Covid-19, big pharma has put a high priority on tackling autoimmune diseases, as this deal demonstrates. Somewhat surprisingly, this is the biggest acquisition in the pharma industry year-to-date, with Sanofi's recent $3.4 billion acquisition of US biotech Principia Biopharma coming in second. For investors, selecting the right micro- or small-cap biotech can be like finding a needle in a haystack, as unsuccessful trials often result in massive drops in a firm's share price. For investors looking for the next potential small- or mid-cap biotech to be acquired, the best bet is generally a focused biotech ETF with good management and a penchant for lower market caps. The SPDR® S&P Biotech ETF (XBI $112), a member of the Penn Dynamic Growth Strategy, is a good example.
Pharmaceuticals
07. AstraZeneca's novel approach: a combination vaccine and treatment
AstraZeneca (AZN $36-$57-$65), Britain's $150B drug powerhouse, has begun testing an exciting new therapy: AZD7442 is designed to not only prevent Covid-19, but also serve as a therapy for those already afflicted with the virus. The drug uses a combination of two monoclonal antibodies (mAbs), harvested antibodies made by identical immune cells which specifically bind to that substance, to create a cocktail to fight off and guard against a specific infection. The Phase 1 clinical trial, which is now underway in the UK, is being funded by the US Department of Defense and the Biomedical Advanced Research and Development Authority (BARDA). Leading infectious disease scientists have endorsed this mAb approach, which has been used successfully in the treatment of a number of cancer types. If the AZD7442 trials go as hoped, expect the therapy to receive fast-track designation by the FDA. Based on current valuations, shares of AZN may seem expensive, but success with AZD7442 could propel them higher.
Airlines
06. Delta to furlough 1,900 pilots, American to reduce staff by 19,000
Delta's (DAL $18-$30-$62) head of flight operations put it succinctly: "We are six months into this pandemic and only 25% of our revenues have been recovered." American Airlines Group (AAL $8-$13-$32) CEO Doug Parker echoed similar sentiments, stating that long-haul trips in Q4 of this year will equal about 25% of last year's Q4 rate. Against that backdrop, both companies have announced a new round of furloughs to take effect when government stimulus aid to the airlines ends on 30 Sep. Delta, which we purchased within the Intrepid Trading Platform at a steep discount back in May, said it will furlough 1,941 pilots—out of the 11,200 or so on the books—unless pilots take a 15% cut in pay. The Air Line Pilots Association, which represents the unionized group, has balked at that request. American Airlines announced even more draconian cuts, saying that 19,000 employees will be involuntarily furloughed after the government relief ends. Incredibly, American Airlines has lost 77.7% of its value since January of 2018, versus a 50% loss for Delta and a 23% gain in the S&P 500. Our Delta position is up 15% since we purchased it, and we see plenty of growth ahead as the pandemic subsides.
Global Exchanges & Indexes
05. The Dow's latest moves won't make the outdated index more relevant
It always amazes us how much attention is given to the level of the Dow Jones Industrial Average on any trading day as opposed to the much more reflective S&P 500. After all, out of roughly 2,500 listed companies on the New York Stock Exchange and another 3,300 on the Nasdaq, only 30 select entrants make up the DJIA. And these holdings are price-weighted, meaning companies are weighted in proportion to their share price, not market cap. In other words, another great day for Apple (AAPL $500)—and there have been plenty of those recently—probably means a strong day for the Dow. Compare this to the cap-weighted S&P 500 Index, which means the bigger a company, the more impact it can have on the S&P's return. No matter how big a company, it is still weighted against 499 others.
Let's stick with the Apple example, since the tech giant is about to undergo a four-for-one stock split. Right now, despite its $2 trillion size, Apple still makes up a little over 7% of the S&P 500 Index. After the split, nothing will change (its market cap won't change just because it split). In the Dow, however, where Apple also finds a home, it will suddenly become one-quarter as relevant to the daily returns. That's crazy. Or how about leaving entire industries virtually unrepresented, such as utilities! Also crazy.
We delve into this subject because the Dow is about to jettison three stocks and add three others in their place. Salesforce (CRM) will replace Exxon Mobil (XOM), Amgen (AMGN) will replace Pfizer (PFE), and Honeywell (HON) will replace Raytheon Technologies (RTX). The last two swaps are real head-scratchers. Even the first: Is Salesforce the most relevant tech company to infuse new blood into the Dow? What about Facebook (FB)?
Perhaps the Dow is still the financial press' favorite benchmark because it sounds more sensational to say, "DOW LOSES 1,000 POINTS" than it does to say, "S&P OFF 100." Irrespective, back during the bloodbath that was March, when the S&P 500 had plunged to below 2,500, we made our year-end prediction: "The index will rise to 3,500 by December 31st." It sits at 3,436 right now. We didn't bother making a prediction for the Dow.
Food Products
04. Boring old JM Smucker just knocked Q1 earnings out of the park
We should have seen it coming: In the midst of a lockdown and a mass migration of employees from their office buildings to their new in-home offices, packaged foods sales skyrocketed. Nothing made that more evident than the latest quarterly results from staid old JM Smucker (SJM $92-$121-$126), the 123-year-old, $14 billion packaged foods company. Best known for products such as Smucker's, Folgers, Jif, Crisco, and the like, the Ohio-based company increased earnings-per-share by 50% from the same quarter last year, and overall revenues by 11% from the same period in 2019. While their biggest category, Retail Pet Foods, increased by just 3% year-over-year (after all, the pets have always been at home), the Retail Consumer Foods division saw a 22% jump in sales. President and CEO Mark Smucker also said the firm had raised its fiscal 2021 guidance, now expecting between $8.20 and $8.60 in EPS and nearly $1 billion in free cash flow. Smucker said he expects the momentum to continue post-pandemic as Americans fell back in love with old brands, and as the company rolls out a large new marketing campaign. Time will tell, but the Q1 report was enough to drive the shares up over 7%. The company has a relatively decent P/E ratio of 18 (same as Penn holdings General Mills and B&G Foods), and we would put a fair value on the shares at around $125. That may not seem like much upside, but with its 3% dividend yield and very strong pet foods business, it is a pretty safe bet.
Multiline Retail
03. At $15, Nordstrom shares may be the retail deal of the decade, but...
Precisely one year ago, we made note of Nordstrom's (JWN $12-$15-$43) rather odd 16% one-day spike in price—to $31. Odd because it came on the heels of an earnings report that showed a 5% drop in revenue from Q2 of 2018. The spike apparently took place because analysts were expecting a much deeper drop. Here we are a year later and, with a pandemic added to the mix, analysts were really bracing for the worst. In fact, betting odds called for a 39% drop in sales from 2019. It wasn't even close. JWN shares were trading down around 6%—to $14.66—following news of a ghastly 53% drop in sales for the quarter. Even online sales, the bright spot for most retailers as customers were stuck at home behind their computers, dropped 5%. Nordstrom's earnings report even made the Kohl's quarter look good, and that was no easy feat.
Despite the reasons management gave for the drop, here's our biggest concern: Nordstrom makes its living off of selling higher-end clothing and accessories to an upscale workforce that wants to look nice in the office. When the family dog, Scruffy, becomes the only one needed to impress, Milk Bones—not fancy clothing—becomes the go-to purchase. (Milk Bones are a JM Smucker name brand, by the way.) For the quarter, Nordstrom had just shy of $2 billion in sales (down from roughly $4 billion in the same quarter last year) and a net loss of $255 million. The company doesn't have many money-losing quarters, however, and despite the lack of a P/E ratio due to that loss, its multiple had been as low as 4.1 the first week of April. Yes, the company's short-term and long-term liabilities to assets don't look great (roughly $4B/$4B and $6B/$6B, respectively), but odds are great that the company isn't going the way of JC Penney.
When the inevitable return to normalcy does come, we could easily see the shares trading at twice their current price.
Robotics & Industrial Machinery
02. 3D printing firm Desktop Metal to go public with a "blank check"
It seems to be all the rave on Wall Street this year: the SPAC, or Special Purpose Acquisition Company. A SPAC is a blank-check company that either does not have its own business plan or builds one around a merger with another company. In an upcoming issue of the Penn Wealth Report, for example, we discuss the SPAC Fortress Value Acquisition Corp (FVAC $12) funding America's return to rare earth mining via its "blank check" to MP Materials, owner of the Mountain Pass mining operation in California. Now, another SPAC, Trine Acquisition Corp, will provide advanced 3D printing "unicorn" (a startup valued at over $1B) Desktop Metal $575 million to go public under the symbol DM within the next few months.
Desktop is a leader in 3D printing, producing stainless steel, aluminum, and other metal alloy parts in large quantities at an assembly line rate. CEO Ric Fulop said the company's latest machines will be able to "print" critical components for the aerospace industry at 100-times the speed of current high-end printers at about one-twentieth the cost. He gives the example of a water impeller pump for a BMW auto; it would typically cost $80 to produce the pump, but one of Fulop's machines created it for $5. Desktop Metal may truly usher in the 3D world promised by advocates for years. Forget the low cost of labor in countries like China, imagine Fulop's machines pumping out intricate metal parts en masse here in the United States. That could bring about a transformational shift in global economics, greatly reducing America's reliance on cheap overseas labor.
Think that is a pie-in-the-sky promise? Remember how we were once at the mercy of OPEC for our energy needs? Keep an eye out for DM when it goes public later this year.
Under the Radar Investment
01. Under the Radar: Black Hills Corp
Black Hills Corp (BKH $48-$54-$87) is a mid-cap ($3.8B) diversified utility which provides regulated gas and electric power to states in the Midwest and mountain regions. The firm also runs a mining operation via its Wyodak Resources division. With steady revenue of roughly $1.7 billion annually, the firm had $200 million in net income last year and cash flow of $7.02 per share. BKH has fallen out of favor with hedge funds recently, dragging its share price down from $87 to $48, before the shares rebounded to their current level of $54. With an ultra-low beta of 0.3049 (5Y) and a dividend yield of 4%, the shares are worth a look for income-oriented investors.
Answer
Business journalist Charles Dow, founder of financial news bureau Dow, Jones & Co., created the Dow Jones Industrial Average back in 1896. Prominent business newspaper The Wall Street Journal introduced the DJIA on 26 May of that same year. Of the twelve original component companies of the Dow, only General Electric is still in existence as a publicly-traded company. It was jettisoned from the index in 2018. In 1928, the DJIA was expanded to include 30 companies.
Headlines for the Week of 09 Aug—15 Aug 2020
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The First Casino-Resort on the Strip...
The first casino in Vegas (located in what would become downtown Vegas) was the Pair-o-Dice Club, which opened in 1931. What was the first casino-resort to be built on the Las Vegas Strip and when did it open?
Penn Trading Desk:
(13 Aug 20) Adding Canadian Cannabis Position to Intrepid Trading Platform
To say we are extremely cautious with respect to cannabis companies is an understatement. Nonetheless, as soon as we saw who was running this $1 billion firm, and upon doing some further analysis, we were in. Target price is 116% above purchase price. Members, see the trading desk.
(05 Aug 20) New Large-Cap Position in Dynamic Growth Strategy
We have replaced the AMG Yacktman Fund (YACKX) with a quite unique large-cap blend ETF in the Dynamic Growth Strategy. About 50 different companies from a host of sectors, but all with one very important thing in common. Members, see the trading desk.
(05 Aug 20) Raise BBBY Stop
Our Bed Bath & Beyond position in the Intrepid is now up in excess of 58% since last month's purchase, raise stop to $11/share to protect gains.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Automotive
10. Ford desperately needed new blood, instead they pulled from within
Let's take a sobering trip down memory lane from the standpoint of Ford Motor Co (F $4-$7-$10), beginning near the start of this century. Between 2001 and 2006, shares of the car company, founded in 1903, fell 50% under Bill Ford Jr., great-grandson of founder Henry Ford. Then came the company's last successful CEO, Alan Mulally, who presided over a 178% rise in the shares. In July of 2014, Mulally retired and handed the reins over to Mark Fields. By the time Fields was ushered out in 2016, shares had dropped another 35%. Finally, we had Jim "Buddy" Hackett, who became CEO in 2017. We had high hopes for this pick, as he had been the head of Ford's Smart Mobility subsidiary, the company's self-driving car initiative. Another 38% drop later, Hackett is gone. Reasonable business minds would fully grasp the need to find new blood to reinvent the car company, which managed to lose $2.123 billion over the trailing twelve months on $130 billion in revenues. So, what dynamic pick did the the board of directors make? They elevated the firm's chief operating officer, Jim Farley, to the CEO role. In a comment apparently designed to instill confidence, Chairman Bill Ford said that Hackett will remain in an advisory role to Farley until next spring. Whew, glad to hear that. Of interesting note: one component of the $2.123 billion in losses was the higher warranty costs (around $5 billion) incurred by the company due to quality control issues on their late model vehicles. Not a comforting sign for an automaker operating in a hyper-competitive industry. Much like Boeing, this once-great company has buried its head in the sand and refuses to accept what needs to be done. What should we expect when the same people who ran the companies into a ditch are the ones responsible for hiring the new blood?
Government Watchdog
09. In intriguing turn of events, the CalPERS CIO abruptly resigns
The California Public Employees' Retirement System, or CalPERS, is the state-run pension and health benefits agency of California, responsible for the retirement plans of nearly 2 million California public employees, retirees, and there families. The organization manages roughly $400 billion in assets. Based on the nature of the business and the state in which it sits, one can only imagine the level to which politics permeates the body.
Against that backdrop, we have Chief Investment Officer Ben Meng, who has served in that role for the past two years. It wasn't his first stint at the organization, however, as he worked at the agency from 2008 to 2015—before leaving to become deputy chief investment officer for China's State Administration of Foreign Exchange, in charge of China's $3 trillion or so in foreign reserves. Meng abruptly "resigned" his CIO role this week, citing a desire to spend more time with his family. California State Controller Betty Yee, however, said in a statement that she was "incredibly disappointed" to hear about Meng's lapse in judgment and failure to adhere to standard conflict-of-interest policies.
While that cryptic message tells us Meng didn't leave on his own accord, it certainly raises more questions than it answers. Adding to the intrigue, Indiana Rep. Jim Banks recently wrote a letter to California Governor Gavin Newsom requesting a thorough investigation into Meng's relationship to the Chinese Communist Party. CalPERS added roughly 100 Chinese firms to the stock portion of its portfolio over the past year. Against a stated target return of 7% per year, the fund has underperformed under Meng, notching a return of just 4.7% for the 2019-20 fiscal year. As of now, CalPERS has just 71% of the assets it needs to meet the pension requirements of its members.
Hotels, Resorts, & Cruise Lines
08. Wynn's revenue fell a staggering 95% in Q2
The casinos, especially those with large exposure to Asia, could be considered the poster children for the pandemic, and the latest results from our favorite pick in the group, Wynn Resorts (WYNN $36-$77-$153) illustrate why. In the second quarter of 2019, Wynn generated $1.65 billion in revenues; in Q2 of this year, the company brought in just $85.7 million--gross. That is a staggering 95% reduction, all before the company paid one cent in expenses. As a matter of fact, net income in Q2 of 2019—$94.55 million—was higher than last quarter's gross revenues. In the first six months of the year, Wynn has lost over $1 billion. So, with WYNN shares being down nearly 50% ytd, doesn't that mean they will snap back as we slowly put the virus behind us? Perhaps, but there is one important factor investors need to be aware of: 76% of the company's revenues over the past four quarters emanated from operations in Macau. Talk about some serious geographic risk. Despite all the bluster coming from the state-run media in communist China, we believe that country is in serious economic trouble. The idea that it will simply resume its pre-pandemic growth trajectory over the coming months—or even years—is a fallacy. As for Wynn, we would value the shares at roughly $100, but the company's reliance on Macau as a revenue source has us steering clear.
Economics: Work & Pay
07. A strong jobs report for July and increased retail hiring
Handily beating estimates, the highly-anticipated July jobs report provided more evidence that the US economy is returning to normal—despite the dire warnings of record Covid-19 cases foisted upon us daily by the media. After peaking at a 14.7%, the unemployment rate in the US fell to 10.2% in July—certainly still unacceptably high, but better than the 10.6% rate expected. A staggering 1.763 million new jobs were created in the month, with the labor force participation remaining relatively steady, at 61.2%. The leisure and hospitality industries accounted for a plurality of the new jobs created, adding 592,000 positions in the month, with government and retail coming in second and third, respectively. Big restaurant chains are about to embark on a massive hiring spree as well, with Chipotle (CMG) announcing it will hire 10,000 new employees in the coming months. McDonald's, Starbucks, Yum Brands (Taco Bell), Papa Johns, and Dunkin Brands announced similar plans. Meanwhile, after Congress failed to reach a new deal on pandemic relief, President Trump signed an executive order extending unemployment benefits to include an extra $400 per week (down from the extra $600, which expired on 31 Jul), deferring student loans through 2020, and extending the moratorium on evictions. The next big litmus test for the economy will come over the next several weeks as students—at least some of them—head back to school.
Hotels, Resorts, & Cruise Lines
06. Penn member MGM jumps on Barry Diller investment
We opened gaming and resort giant MGM (MGM $22) at $16 per share on 10 July within the Penn Global Leaders Club, and commented: "Did we really get it at that price?" Now, precisely one month later, our position is up 37%—helped along the way by Barry Diller's $1 billion investment in the firm. Shares were trading up around 15% on Monday after the InteractiveCorp (IAC $131) chairman said he was "energized and excited to make this investment in MGM." Why did an Internet media company want 12% ownership in the largest operator on the Las Vegas Strip? The new shareholder said that he believes his firm can help MGM expand its online gambling business and create other "digital first" experiences for guests. As for our price target, we're not quite there yet: we placed it at $32 per share, or 100% higher than our purchase price. Heading in the right direction.
Aerospace & Defense
05. Sorry Bezos: SpaceX, United Launch Alliance win big Pentagon deal
We've mentioned it before, but Amazon (AMZN) CEO Jeff Bezos showed his child-like petulance when he sent out a tweet following the first successful landing of SpaceX's first-stage boosters. The tweet said simply, "Congratulations...welcome to the club." (Bezos' Blue Origin had previously landed its New Shepard rocket in a similar fashion.) We thought of that tweet once again after hearing the news that the Pentagon has awarded billions in rocket contracts to SpaceX and United Launch Alliance (Boeing and Lockheed) to launch national security missions for a five-year period, while rejecting the Blue Origin and Northrop Grumman (NOC $342) bids. The contracts call for nearly three dozen launches over that period, valued at around $1 billion per year. SpaceX has its proven Falcon 9 and Falcon Heavy, while ULA is building the new Vulcan rocket to replace its decades-old Atlas fleet—which now relies on Russian rockets for propulsion. Blue Origin said it will continue to build its New Glenn rocket, despite the lack of any buyers thus far. Northrop Grumman's OmegA rocket's future is definitely in doubt after losing the bid.
Semiconductors
04. On a roll: FTC case against Qualcomm is thrown out by appeals court
Just a few weeks ago, Penn New Frontier Fund member Qualcomm (QCOM $109) announced it had struck a deal with Huawei, ending a time-consuming patent dispute and putting $1.8 billion in its pocket. This week the company received more good news: an appeals court overturned the FTC's antitrust ruling against the company. At the heart of the issue was Qualcomm's ability to charge licensing fees to handset makers, a practice the FTC said was anti-competitive. Had the appeals court not struck down the ruling, the company would have been forced to renegotiate licensing deals with hundreds of corporate customers, license its patents to rival chipmakers, and stop asking customers to sign exclusive agreements for its chips. The $123 billion San Diego-based firm would have also had to put up with seven years of FTC monitoring—a legal and monetary nightmare. All of that is swept away with this reversal, allowing the company to remain focused on its goal of dominating the 5G chip market. QCOM shares are up 40% since we purchased for the Penn New Frontier Fund three months ago.
Transportation Infrastructure
03. Uber threatens to suspend operations in Cali after new ruling
Is there any wonder companies are leaving the not-so-Golden State in droves? Last year the California legislature passed Assembly Bill 5 (AB5), which would force ride-sharing companies such as Uber (UBER $31) and Lyft (LYFT $31) to stop classifying their drivers as contractors (which is what they are) and begin classifying them as employees of the company (which is what they are not—by design). The bill was on hold pending appeal, but this week San Francisco County Superior Court Judge Ethan Schulman upheld that law and ordered the firms to make the changes. This simply won't happen. For Uber, that would mean suddenly making 100,000 contract workers employees of the company. The typically mild-mannered and restrained CEO, Dara Khosrowshahi, was blunt: the firm may be forced to shut down temporarily in California if enforcement of this law is initiated. Perhaps he said "temporarily" because the gig economy companies affected, which also include food delivery services like DoorDash, are pushing for Proposition 22, a measure on November's ballot which would exempt these companies from the very law which targeted them in the first place. California has designed a nightmarish and byzantine legal system designed to stymie productive companies and benefit the state's litigators. Until that changes, companies will continue to flee. As for Uber and Lyft, the ruling comes right as the companies are trying to pull out of the fiscal nosedive caused by the pandemic. UPDATE: Impressively, Lyft followed suit with a statement mirroring Dara's comments.
Market Pulse
02. Weekly jobless claims drop under 1M for first time since spring
US initial claims for unemployment dropped to below the one million mark for the first time since the pandemic came slamming into the global economy this past spring. While 963,000 new claims might not seem like much to celebrate, it is a far cry from the 6.867 million claims initiated in the last week of March. This most recent decline, coupled with the better-than-expected jobs number for July, points to an economy that is slowly returning to normal, despite the lack of a vaccine or a therapy for the virus. The markets remain hopeful: the S&P 500 just notched its third-straight week of gains. Our favorite anecdotal sign? The chronic, daily, in-our-face headlines telling us that Covid levels are hitting new highs have suddenly disappeared.
Under the Radar Investment
01. Under the Radar: iCAD Inc
iCAD Inc (ICAD $10) is a micro-cap ($238M) growth company in the Life Sciences Tools & Services industry. The New Hampshire-based firm, which has been in business since 1984, provides cancer detection and radiation therapy solutions and services. The company offers a range of upgradeable computer aided detection (CAD) solutions for the detection of breast, prostate, and colorectal cancers. Its Xoft Axxent system delivers high dose rate, low energy radiation to target cancer while minimizing exposure to surrounding healthy tissue. Based on its success, the Axxent system is now additionally being deployed for the treatment of non-melanoma skin cancer. Shares of ICAD topped out at $15.31 in March, leading into the pandemic-driven downturn.
Answer
The first casino-resort to be built on the Las Vegas Strip was the El Rancho Vegas, which opened in 1941. Sporting 63 rooms, its success spawned the building of a second resort, the Hotel Last Frontier, the following year. The success of these two casinos stirred the interest of organized crime, which planted its flag in Vegas when Bugsy Siegel funded the Flamingo, which opened four years later.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The First Casino-Resort on the Strip...
The first casino in Vegas (located in what would become downtown Vegas) was the Pair-o-Dice Club, which opened in 1931. What was the first casino-resort to be built on the Las Vegas Strip and when did it open?
Penn Trading Desk:
(13 Aug 20) Adding Canadian Cannabis Position to Intrepid Trading Platform
To say we are extremely cautious with respect to cannabis companies is an understatement. Nonetheless, as soon as we saw who was running this $1 billion firm, and upon doing some further analysis, we were in. Target price is 116% above purchase price. Members, see the trading desk.
(05 Aug 20) New Large-Cap Position in Dynamic Growth Strategy
We have replaced the AMG Yacktman Fund (YACKX) with a quite unique large-cap blend ETF in the Dynamic Growth Strategy. About 50 different companies from a host of sectors, but all with one very important thing in common. Members, see the trading desk.
(05 Aug 20) Raise BBBY Stop
Our Bed Bath & Beyond position in the Intrepid is now up in excess of 58% since last month's purchase, raise stop to $11/share to protect gains.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Automotive
10. Ford desperately needed new blood, instead they pulled from within
Let's take a sobering trip down memory lane from the standpoint of Ford Motor Co (F $4-$7-$10), beginning near the start of this century. Between 2001 and 2006, shares of the car company, founded in 1903, fell 50% under Bill Ford Jr., great-grandson of founder Henry Ford. Then came the company's last successful CEO, Alan Mulally, who presided over a 178% rise in the shares. In July of 2014, Mulally retired and handed the reins over to Mark Fields. By the time Fields was ushered out in 2016, shares had dropped another 35%. Finally, we had Jim "Buddy" Hackett, who became CEO in 2017. We had high hopes for this pick, as he had been the head of Ford's Smart Mobility subsidiary, the company's self-driving car initiative. Another 38% drop later, Hackett is gone. Reasonable business minds would fully grasp the need to find new blood to reinvent the car company, which managed to lose $2.123 billion over the trailing twelve months on $130 billion in revenues. So, what dynamic pick did the the board of directors make? They elevated the firm's chief operating officer, Jim Farley, to the CEO role. In a comment apparently designed to instill confidence, Chairman Bill Ford said that Hackett will remain in an advisory role to Farley until next spring. Whew, glad to hear that. Of interesting note: one component of the $2.123 billion in losses was the higher warranty costs (around $5 billion) incurred by the company due to quality control issues on their late model vehicles. Not a comforting sign for an automaker operating in a hyper-competitive industry. Much like Boeing, this once-great company has buried its head in the sand and refuses to accept what needs to be done. What should we expect when the same people who ran the companies into a ditch are the ones responsible for hiring the new blood?
Government Watchdog
09. In intriguing turn of events, the CalPERS CIO abruptly resigns
The California Public Employees' Retirement System, or CalPERS, is the state-run pension and health benefits agency of California, responsible for the retirement plans of nearly 2 million California public employees, retirees, and there families. The organization manages roughly $400 billion in assets. Based on the nature of the business and the state in which it sits, one can only imagine the level to which politics permeates the body.
Against that backdrop, we have Chief Investment Officer Ben Meng, who has served in that role for the past two years. It wasn't his first stint at the organization, however, as he worked at the agency from 2008 to 2015—before leaving to become deputy chief investment officer for China's State Administration of Foreign Exchange, in charge of China's $3 trillion or so in foreign reserves. Meng abruptly "resigned" his CIO role this week, citing a desire to spend more time with his family. California State Controller Betty Yee, however, said in a statement that she was "incredibly disappointed" to hear about Meng's lapse in judgment and failure to adhere to standard conflict-of-interest policies.
While that cryptic message tells us Meng didn't leave on his own accord, it certainly raises more questions than it answers. Adding to the intrigue, Indiana Rep. Jim Banks recently wrote a letter to California Governor Gavin Newsom requesting a thorough investigation into Meng's relationship to the Chinese Communist Party. CalPERS added roughly 100 Chinese firms to the stock portion of its portfolio over the past year. Against a stated target return of 7% per year, the fund has underperformed under Meng, notching a return of just 4.7% for the 2019-20 fiscal year. As of now, CalPERS has just 71% of the assets it needs to meet the pension requirements of its members.
Hotels, Resorts, & Cruise Lines
08. Wynn's revenue fell a staggering 95% in Q2
The casinos, especially those with large exposure to Asia, could be considered the poster children for the pandemic, and the latest results from our favorite pick in the group, Wynn Resorts (WYNN $36-$77-$153) illustrate why. In the second quarter of 2019, Wynn generated $1.65 billion in revenues; in Q2 of this year, the company brought in just $85.7 million--gross. That is a staggering 95% reduction, all before the company paid one cent in expenses. As a matter of fact, net income in Q2 of 2019—$94.55 million—was higher than last quarter's gross revenues. In the first six months of the year, Wynn has lost over $1 billion. So, with WYNN shares being down nearly 50% ytd, doesn't that mean they will snap back as we slowly put the virus behind us? Perhaps, but there is one important factor investors need to be aware of: 76% of the company's revenues over the past four quarters emanated from operations in Macau. Talk about some serious geographic risk. Despite all the bluster coming from the state-run media in communist China, we believe that country is in serious economic trouble. The idea that it will simply resume its pre-pandemic growth trajectory over the coming months—or even years—is a fallacy. As for Wynn, we would value the shares at roughly $100, but the company's reliance on Macau as a revenue source has us steering clear.
Economics: Work & Pay
07. A strong jobs report for July and increased retail hiring
Handily beating estimates, the highly-anticipated July jobs report provided more evidence that the US economy is returning to normal—despite the dire warnings of record Covid-19 cases foisted upon us daily by the media. After peaking at a 14.7%, the unemployment rate in the US fell to 10.2% in July—certainly still unacceptably high, but better than the 10.6% rate expected. A staggering 1.763 million new jobs were created in the month, with the labor force participation remaining relatively steady, at 61.2%. The leisure and hospitality industries accounted for a plurality of the new jobs created, adding 592,000 positions in the month, with government and retail coming in second and third, respectively. Big restaurant chains are about to embark on a massive hiring spree as well, with Chipotle (CMG) announcing it will hire 10,000 new employees in the coming months. McDonald's, Starbucks, Yum Brands (Taco Bell), Papa Johns, and Dunkin Brands announced similar plans. Meanwhile, after Congress failed to reach a new deal on pandemic relief, President Trump signed an executive order extending unemployment benefits to include an extra $400 per week (down from the extra $600, which expired on 31 Jul), deferring student loans through 2020, and extending the moratorium on evictions. The next big litmus test for the economy will come over the next several weeks as students—at least some of them—head back to school.
Hotels, Resorts, & Cruise Lines
06. Penn member MGM jumps on Barry Diller investment
We opened gaming and resort giant MGM (MGM $22) at $16 per share on 10 July within the Penn Global Leaders Club, and commented: "Did we really get it at that price?" Now, precisely one month later, our position is up 37%—helped along the way by Barry Diller's $1 billion investment in the firm. Shares were trading up around 15% on Monday after the InteractiveCorp (IAC $131) chairman said he was "energized and excited to make this investment in MGM." Why did an Internet media company want 12% ownership in the largest operator on the Las Vegas Strip? The new shareholder said that he believes his firm can help MGM expand its online gambling business and create other "digital first" experiences for guests. As for our price target, we're not quite there yet: we placed it at $32 per share, or 100% higher than our purchase price. Heading in the right direction.
Aerospace & Defense
05. Sorry Bezos: SpaceX, United Launch Alliance win big Pentagon deal
We've mentioned it before, but Amazon (AMZN) CEO Jeff Bezos showed his child-like petulance when he sent out a tweet following the first successful landing of SpaceX's first-stage boosters. The tweet said simply, "Congratulations...welcome to the club." (Bezos' Blue Origin had previously landed its New Shepard rocket in a similar fashion.) We thought of that tweet once again after hearing the news that the Pentagon has awarded billions in rocket contracts to SpaceX and United Launch Alliance (Boeing and Lockheed) to launch national security missions for a five-year period, while rejecting the Blue Origin and Northrop Grumman (NOC $342) bids. The contracts call for nearly three dozen launches over that period, valued at around $1 billion per year. SpaceX has its proven Falcon 9 and Falcon Heavy, while ULA is building the new Vulcan rocket to replace its decades-old Atlas fleet—which now relies on Russian rockets for propulsion. Blue Origin said it will continue to build its New Glenn rocket, despite the lack of any buyers thus far. Northrop Grumman's OmegA rocket's future is definitely in doubt after losing the bid.
Semiconductors
04. On a roll: FTC case against Qualcomm is thrown out by appeals court
Just a few weeks ago, Penn New Frontier Fund member Qualcomm (QCOM $109) announced it had struck a deal with Huawei, ending a time-consuming patent dispute and putting $1.8 billion in its pocket. This week the company received more good news: an appeals court overturned the FTC's antitrust ruling against the company. At the heart of the issue was Qualcomm's ability to charge licensing fees to handset makers, a practice the FTC said was anti-competitive. Had the appeals court not struck down the ruling, the company would have been forced to renegotiate licensing deals with hundreds of corporate customers, license its patents to rival chipmakers, and stop asking customers to sign exclusive agreements for its chips. The $123 billion San Diego-based firm would have also had to put up with seven years of FTC monitoring—a legal and monetary nightmare. All of that is swept away with this reversal, allowing the company to remain focused on its goal of dominating the 5G chip market. QCOM shares are up 40% since we purchased for the Penn New Frontier Fund three months ago.
Transportation Infrastructure
03. Uber threatens to suspend operations in Cali after new ruling
Is there any wonder companies are leaving the not-so-Golden State in droves? Last year the California legislature passed Assembly Bill 5 (AB5), which would force ride-sharing companies such as Uber (UBER $31) and Lyft (LYFT $31) to stop classifying their drivers as contractors (which is what they are) and begin classifying them as employees of the company (which is what they are not—by design). The bill was on hold pending appeal, but this week San Francisco County Superior Court Judge Ethan Schulman upheld that law and ordered the firms to make the changes. This simply won't happen. For Uber, that would mean suddenly making 100,000 contract workers employees of the company. The typically mild-mannered and restrained CEO, Dara Khosrowshahi, was blunt: the firm may be forced to shut down temporarily in California if enforcement of this law is initiated. Perhaps he said "temporarily" because the gig economy companies affected, which also include food delivery services like DoorDash, are pushing for Proposition 22, a measure on November's ballot which would exempt these companies from the very law which targeted them in the first place. California has designed a nightmarish and byzantine legal system designed to stymie productive companies and benefit the state's litigators. Until that changes, companies will continue to flee. As for Uber and Lyft, the ruling comes right as the companies are trying to pull out of the fiscal nosedive caused by the pandemic. UPDATE: Impressively, Lyft followed suit with a statement mirroring Dara's comments.
Market Pulse
02. Weekly jobless claims drop under 1M for first time since spring
US initial claims for unemployment dropped to below the one million mark for the first time since the pandemic came slamming into the global economy this past spring. While 963,000 new claims might not seem like much to celebrate, it is a far cry from the 6.867 million claims initiated in the last week of March. This most recent decline, coupled with the better-than-expected jobs number for July, points to an economy that is slowly returning to normal, despite the lack of a vaccine or a therapy for the virus. The markets remain hopeful: the S&P 500 just notched its third-straight week of gains. Our favorite anecdotal sign? The chronic, daily, in-our-face headlines telling us that Covid levels are hitting new highs have suddenly disappeared.
Under the Radar Investment
01. Under the Radar: iCAD Inc
iCAD Inc (ICAD $10) is a micro-cap ($238M) growth company in the Life Sciences Tools & Services industry. The New Hampshire-based firm, which has been in business since 1984, provides cancer detection and radiation therapy solutions and services. The company offers a range of upgradeable computer aided detection (CAD) solutions for the detection of breast, prostate, and colorectal cancers. Its Xoft Axxent system delivers high dose rate, low energy radiation to target cancer while minimizing exposure to surrounding healthy tissue. Based on its success, the Axxent system is now additionally being deployed for the treatment of non-melanoma skin cancer. Shares of ICAD topped out at $15.31 in March, leading into the pandemic-driven downturn.
Answer
The first casino-resort to be built on the Las Vegas Strip was the El Rancho Vegas, which opened in 1941. Sporting 63 rooms, its success spawned the building of a second resort, the Hotel Last Frontier, the following year. The success of these two casinos stirred the interest of organized crime, which planted its flag in Vegas when Bugsy Siegel funded the Flamingo, which opened four years later.
Headlines for the Week of 26 Jul—01 Aug 2020
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The first commercial airline service...
We mention in an article below that the airline industry is currently suffering through the biggest shock to its system in 100 years, even more so than during the 9/11 shutdowns. The industry is actually over 100 years old; when did commercial airline travel begin and what was the first official route?
Penn Trading Desk:
(30 Jul 20) Six Flags stops out
Six Flags (SIX) made a run at it after we purchased, but it could not hold its gains. The stock hit its stop loss at $17.47 and closed out of the Intrepid for a 9.15% loss in one month.
(24 Jul 20) Raise stop on Bed Bath & Beyond after quick run-up
On 09 July we added Bed Bath & Beyond (BBBY $10) to the Intrepid Trading Platform at $7.75, with a $10 price target. Shares of the specialty retailer have risen 40% since purchase, and we are raising the stop to $9.50 to protect gains.
(23 Jul 20) Open Residential REIT in Strategic Income Portfolio
We have opened a $5 billion residential REIT with a 5.4% dividend yield and a very unique story within the Penn Strategic Income Portfolio. We purchased it for several reasons: It has been unfairly beaten down due to specific concerns over the pandemic, it is highly undervalued, it holds the top spot in its niche market, and it has a great dividend yield at a time of horrendous bond rates. Members, visit the Trading Desk for more details.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Food & Staples Retailing
10. Analysts are giddy over newly-IPO'd Albertsons; are they right to be?
This isn't the first rodeo for the firm, as Albertsons Companies (ACI $16) was publicly traded up until 2006, when the debt-laden grocer was forced to sell assets and become acquired by SuperValu and hedge fund Cerberus. So why did the second-largest North American grocer (behind Kroger—KR) decide to become a publicly-traded entity yet again? Actually, Cerberus has been looking to offload the company for some time, even planning an IPO back in 2015. Back then, however, a soft retail environment forced management to hold off on the plans. Today, as grocery chains are benefiting from increased business due to the lockdown and restaurant closures, management decided to forge ahead with the offering. It was less than spectacular. Despite looking for an initial share price between $18 and $20, the market priced the shares at $16—and they proceeded to fall 3.44% on the day, closing at $15.45. So why are a dozen or so major analysts suddenly initiating coverage with a "Buy" rating, especially with privately-held German rival Aldi about to go on a US building spree? The comments range from "positive macro-trends as more Americans work from home," to "expanded curbside pickup." Yawn. Here's what we see: A debt-to-equity ratio (leverage of debt holders over equity holders) of 3.825, compared to Kroger's 1.440 and Walmart's 0.777, and a non-distinct business strategy with no moat. The price targets range from $18 to $21 per share, but we wouldn't touch the shares, even below their IPO price.
Food & Staples Retailing
09. Walmart to close on Thanksgiving this year, give staff another bonus
We recall the days when about the only store open on Thanksgiving and Christmas was Walgreen (WBA). Heck, we even remember the Blue laws, which kept nearly all stores closed on Sundays! How times have changed. One thing is changing back to the old ways, at least for one season: $375 billion mega-retailer Walmart (WMT $132) has announced it will remain closed for Thanksgiving this year. The move makes sense. Not only will social distancing make holiday shopping more challenging, the pandemic will also force management teams to change the way they market and execute sales for the busiest season of the year. Walmart, a member of the Penn Global Leaders Club, is simply taking the lead, and we can expect many more retailers to follow. In addition to the closure, the company also announced a new round of bonuses for employees to thank them for their efforts during the pandemic. The company will spend $428 million for the latest round of bonuses, bringing the total 2020 aggregate bonus spend up to $1.1 billion. Something tells us that this year's online shopping activity on Thanksgiving Day will make up for the missed in-store experience.
Pharmaceuticals
08. US government places massive vaccine order with Pfizer
Earlier in the week we reported that shares of Penn member Pfizer (PFE $38) were spiking due to the British government's order for 30 million doses of its yet-to-be-approved Covid-19 vaccine. The US government just upped the ante, ordering 100 million doses from the company for a price of $1.95 billion. In addition to that order, it also acquired the right to buy 500 million additional doses. These governments would not be placing billion dollar orders for a therapy unless they felt very confident in the drug's ultimate success in trials. In the case of Pfizer's drug, divide the amount paid by the number of doses and we come up with a per-dose cost of $19.50, though the Department of Health and Human Services has announced that Americans will not be charged to get the vaccine once it is approved. It is absolutely feasible that these vaccines could hit doctors' offices by December. When that happens, watch the economy launch once again.
Global Health Threats
07. China busted trying to steal Covid-19 vaccine data from Moderna
China, the communist-controlled nation which unleashed a pandemic on the world, is now trying to steal the potential vaccine for the virus from the men and women working tirelessly to develop the therapy. The United States Department of Justice announced last week the indictment of two government-backed Chinese hackers who had targeted Massachusetts-based biotech firm Moderna (MRNA $12-$75-$95) in an attempt to access classified data surrounding a Covid-19 vaccine in late-state trials. Cybersecurity experts working with the firm uncovered the criminal activities and alerted the FBI, who were able to ultimately finger the perps. The DoJ also mentioned breaches at two other biotech firms, one in California and another in Maryland, stemming from China. Last week the United States ordered the Chinese consulate in Houston closed due to a number of national security threats emanating from members of the consulate—such as providing fake passports and credentials to Chinese nationals attempting to gain employment at medical research facilities. China has denied all charges, labeling them "baseless accusations." Moderna's most promising vaccine, with the help of a $483 million government contract, has entered a Phase 3 trial with 30,000 participants.
Automotive
06. Tesla will build gigafactory, new production facility in Austin, Texas
If the location of the new site wasn't telegraphed, it was sure hinted at. Electric vehicle maker Tesla (TSLA $1,415) announced that it would build a new gigafactory and second production facility on 2,000 acres just outside of Austin in what will be one of the biggest economic development programs in the city's history. The $1.1 billion facility will be used to build the Tesla Cybertruck, its Semi, and both the Models 3 and Y for the eastern part of the United States. A few months ago, as California officials were trying to keep Tesla's Fremont location closed due to the pandemic, Musk angrily tweeted out that he may move everything to Texas. While that fight has dissipated, there is clearly a love affair between Musk, whose net worth is now valued at $70 billion, and the state of Texas. Ultimately, the new plant, which will be built along the Colorado River, will employ 5,000 workers with wages starting at $35,000 per year. As for keeping the area pristine, Musk said the factory will be an "ecological paradise," with a boardwalk and a hiking/biking trail.
Behavioral Finance
05. The insane trading of Eastman Kodak shares should raise concern
Quick, what comes to mind when you hear the word Kodak (KODK $2-$18-$33)? Maybe an old camera you or your parents used to take on vacations in the 1970s? Or maybe that workhorse inkjet printer sitting in your home office? Perhaps even a classic Paul Simon song from 1973? Chances are, the name doesn't make you think of active pharmaceutical ingredients (APIs) for use in drugs. Nonetheless, that last category has been the catalyst for frenetic movement in the company's share price over the past two weeks. It began when the iconic camera maker landed a $765 million government loan under the new Defense Production Act—authorized by President Trump back in May—to help fix America's medical supply chain problem; specifically, our reliance upon communist China for about 85% of our drug ingredients. While the shift from photos and printers to drug production may seem like a radical departure for the 132-year-old company, the firm has a long history of working with chemicals and advanced materials. But the real story is the stock's crazy price movement. This company went from having a $95 million market cap in June to a $1.5 billion market cap at the end of July. Now wait a minute. Even if the government loan (which can be paid back over 25 years) were an outright gift, that would still just bring the market cap up to $860 million. Here's the magic formula that made KODK an overnight darling among Robinhood users: it was selling for under $10 per share, and there was a nice story to tell with the DPA loan. Bammo! Price goes from $2 to $33 to $18 all in the matter of ten trading days. Now the reality: This deal will help energize a company that was floundering badly, but it is not a magical panacea that will suddenly make it investment-worthy.
Semiconductors
04. Qualcomm spikes 15% after reaching settlement with Huawei
Shares of Penn New Frontier Fund member Qualcomm (QCOM $45-$107-$96) punched through their 52-week high of $96.17 after the company announced it had reached a settlement with Chinese telecom giant Huawei regarding a patent dispute. CEO Steve Mollenkopf said that the San Diego-based firm would pocket a cool $1.8 billion in Q4 as a result of the agreement. Upgrades came rolling in after the deal was announced, as it clears the way for Qualcomm to maintain its leadership position as the 5G rollout begins picking back up steam following Covid-related delays. The 15% jump in the share price was also helped along by JP Morgan's new price target of $120, and Cowen's $130 (from $115) target. Mollenkopf remains, in our opinion, one of the most adroit CEOs in the industry. His ability to get deals done despite obstacles that would derail lesser CEOs is a major reason the company remains a dominant player and the leading handset chipmaker. We have no plans to sell QCOM at either of those price targets.
Media & Entertainment
03. A&E Network loses half its viewers after dropping Live PD
The year started off on a strong note for cable TV network A&E Entertainment, a Walt Disney (DIS $117) unit. Viewership for Q1 was up 4% from the prior year, a metric built almost solely on the success of hit reality show "Live PD." Then came the renewed racial strife and a decision by A&E to cancel not only that show, but several ancillary programs such as "The First 48" and "Court Cam." From a ratings standpoint, that decision was disastrous: prime-time viewership dropped 49%. And the pain will carry over to the company's financials, as the shows brought in roughly $300 million in advertising dollars in 2019, and had already generated nearly $100 million in ad spends in Q1. The "Live PD Nation" fan base is up in arms over the cancellation and is demanding the network revive the series', but it is highly probable that Disney won't do the admirable thing and stand up to the heat that move would bring. We closed out our Disney position in the Penn Global Leaders Club in mid-July at $119.43.
IT Software & Services
02. We love Microsoft's planned deal to buy TikTok's US business
Odds were very good that the Trump administration was about to ban the use of TikTok in the United States on grounds that the Chinese-based company was a conduit for the transfer of personal data on Americans into the hands of the communist regime. Then Microsoft (MSFT $131-$217-$218) CEO Satya Nadella, a refreshingly non-partisan figure, decided his firm might just want to make a bid for the US part of the massively popular social media platform. After talking with the president over the weekend, it appears that Nadella may get his wish, potentially purchasing the platform's operations in the US, Canada, Australia, and New Zealand from parent company ByteDance Ltd. Microsoft, one of the 40 holdings in the Penn Global Leaders Club, already had a lot going for it, but this acquisition would make the firm a real player in the lucrative advertising world of social media. With one purchase, albeit a big one, Microsoft would bring nearly 100 million users into its ecosystem, greatly expanding its footprint among 18-34 year olds. While the government-controlled Chinese press labelled the potential purchase a "smash and grab" by the US, we believe the deal will get done, assuming Nadella can convince both the administration and The Committee on Foreign Investment in the United States (CFIUS) that it will put the proper security measures in place for users. Investors applauded the potential move, driving the price of Microsoft shares up over 5% on Monday. ByteDance CEO Zhang Yiming has been labelled a traitor and a coward on Chinese social media. the reason? He dared to praise the freedom of speech in the United States, "unlike in China, where opinions are one-sided." Yiming's Weibo account (Weibo is an enormous Chinese social media site) was suspended after the pro-US comments were made. Update: Apple (AAPL) is now rumored to also be interested in purchasing the assets.
Under the Radar Investment
01. Under the Radar: Air Lease Corp, the ultimate contrarian play?
Who in their right mind would buy a company that makes its money from buying and subsequently leasing jet aircraft to airlines around the world? After all, the industry is going through the biggest shock to its system in 100 years of service. That being said, shares of Air Lease Corp (AL $27) are sitting down 46% from where they traded in February, and that seems like a serious overreaction based on the company's fat profit margin and rock solid business going into the pandemic. The Los Angeles-based $3 billion company, which now carries a paltry P/E ratio of 5, earned nearly $600 million on $2 billion in revenues in 2019, and has maintained a positive net income for the past decade. The company's strong profitability metrics (see graph) will no doubt take a hit when the earnings release comes out in two days, but we would still place the fair value of AL shares at $40—a 48% upside from here.
Answer
Travel between two cities on opposite sides of Tampa Bay, St. Petersburg and Tampa, Florida, took about two hours by steamship or anywhere between four and twelve hours by rail, depending on stops. The St. Petersburg-Tampa Airboat Line, created by Florida sales rep Percival Elliott Fansler, began operation on 01 Jan 1914, cutting the trip down to about twenty minutes. The airline made two flights per day, six days a week, with a ticket costing $5 per person. Tickets were sold out for sixteen weeks in advance.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
The first commercial airline service...
We mention in an article below that the airline industry is currently suffering through the biggest shock to its system in 100 years, even more so than during the 9/11 shutdowns. The industry is actually over 100 years old; when did commercial airline travel begin and what was the first official route?
Penn Trading Desk:
(30 Jul 20) Six Flags stops out
Six Flags (SIX) made a run at it after we purchased, but it could not hold its gains. The stock hit its stop loss at $17.47 and closed out of the Intrepid for a 9.15% loss in one month.
(24 Jul 20) Raise stop on Bed Bath & Beyond after quick run-up
On 09 July we added Bed Bath & Beyond (BBBY $10) to the Intrepid Trading Platform at $7.75, with a $10 price target. Shares of the specialty retailer have risen 40% since purchase, and we are raising the stop to $9.50 to protect gains.
(23 Jul 20) Open Residential REIT in Strategic Income Portfolio
We have opened a $5 billion residential REIT with a 5.4% dividend yield and a very unique story within the Penn Strategic Income Portfolio. We purchased it for several reasons: It has been unfairly beaten down due to specific concerns over the pandemic, it is highly undervalued, it holds the top spot in its niche market, and it has a great dividend yield at a time of horrendous bond rates. Members, visit the Trading Desk for more details.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Food & Staples Retailing
10. Analysts are giddy over newly-IPO'd Albertsons; are they right to be?
This isn't the first rodeo for the firm, as Albertsons Companies (ACI $16) was publicly traded up until 2006, when the debt-laden grocer was forced to sell assets and become acquired by SuperValu and hedge fund Cerberus. So why did the second-largest North American grocer (behind Kroger—KR) decide to become a publicly-traded entity yet again? Actually, Cerberus has been looking to offload the company for some time, even planning an IPO back in 2015. Back then, however, a soft retail environment forced management to hold off on the plans. Today, as grocery chains are benefiting from increased business due to the lockdown and restaurant closures, management decided to forge ahead with the offering. It was less than spectacular. Despite looking for an initial share price between $18 and $20, the market priced the shares at $16—and they proceeded to fall 3.44% on the day, closing at $15.45. So why are a dozen or so major analysts suddenly initiating coverage with a "Buy" rating, especially with privately-held German rival Aldi about to go on a US building spree? The comments range from "positive macro-trends as more Americans work from home," to "expanded curbside pickup." Yawn. Here's what we see: A debt-to-equity ratio (leverage of debt holders over equity holders) of 3.825, compared to Kroger's 1.440 and Walmart's 0.777, and a non-distinct business strategy with no moat. The price targets range from $18 to $21 per share, but we wouldn't touch the shares, even below their IPO price.
Food & Staples Retailing
09. Walmart to close on Thanksgiving this year, give staff another bonus
We recall the days when about the only store open on Thanksgiving and Christmas was Walgreen (WBA). Heck, we even remember the Blue laws, which kept nearly all stores closed on Sundays! How times have changed. One thing is changing back to the old ways, at least for one season: $375 billion mega-retailer Walmart (WMT $132) has announced it will remain closed for Thanksgiving this year. The move makes sense. Not only will social distancing make holiday shopping more challenging, the pandemic will also force management teams to change the way they market and execute sales for the busiest season of the year. Walmart, a member of the Penn Global Leaders Club, is simply taking the lead, and we can expect many more retailers to follow. In addition to the closure, the company also announced a new round of bonuses for employees to thank them for their efforts during the pandemic. The company will spend $428 million for the latest round of bonuses, bringing the total 2020 aggregate bonus spend up to $1.1 billion. Something tells us that this year's online shopping activity on Thanksgiving Day will make up for the missed in-store experience.
Pharmaceuticals
08. US government places massive vaccine order with Pfizer
Earlier in the week we reported that shares of Penn member Pfizer (PFE $38) were spiking due to the British government's order for 30 million doses of its yet-to-be-approved Covid-19 vaccine. The US government just upped the ante, ordering 100 million doses from the company for a price of $1.95 billion. In addition to that order, it also acquired the right to buy 500 million additional doses. These governments would not be placing billion dollar orders for a therapy unless they felt very confident in the drug's ultimate success in trials. In the case of Pfizer's drug, divide the amount paid by the number of doses and we come up with a per-dose cost of $19.50, though the Department of Health and Human Services has announced that Americans will not be charged to get the vaccine once it is approved. It is absolutely feasible that these vaccines could hit doctors' offices by December. When that happens, watch the economy launch once again.
Global Health Threats
07. China busted trying to steal Covid-19 vaccine data from Moderna
China, the communist-controlled nation which unleashed a pandemic on the world, is now trying to steal the potential vaccine for the virus from the men and women working tirelessly to develop the therapy. The United States Department of Justice announced last week the indictment of two government-backed Chinese hackers who had targeted Massachusetts-based biotech firm Moderna (MRNA $12-$75-$95) in an attempt to access classified data surrounding a Covid-19 vaccine in late-state trials. Cybersecurity experts working with the firm uncovered the criminal activities and alerted the FBI, who were able to ultimately finger the perps. The DoJ also mentioned breaches at two other biotech firms, one in California and another in Maryland, stemming from China. Last week the United States ordered the Chinese consulate in Houston closed due to a number of national security threats emanating from members of the consulate—such as providing fake passports and credentials to Chinese nationals attempting to gain employment at medical research facilities. China has denied all charges, labeling them "baseless accusations." Moderna's most promising vaccine, with the help of a $483 million government contract, has entered a Phase 3 trial with 30,000 participants.
Automotive
06. Tesla will build gigafactory, new production facility in Austin, Texas
If the location of the new site wasn't telegraphed, it was sure hinted at. Electric vehicle maker Tesla (TSLA $1,415) announced that it would build a new gigafactory and second production facility on 2,000 acres just outside of Austin in what will be one of the biggest economic development programs in the city's history. The $1.1 billion facility will be used to build the Tesla Cybertruck, its Semi, and both the Models 3 and Y for the eastern part of the United States. A few months ago, as California officials were trying to keep Tesla's Fremont location closed due to the pandemic, Musk angrily tweeted out that he may move everything to Texas. While that fight has dissipated, there is clearly a love affair between Musk, whose net worth is now valued at $70 billion, and the state of Texas. Ultimately, the new plant, which will be built along the Colorado River, will employ 5,000 workers with wages starting at $35,000 per year. As for keeping the area pristine, Musk said the factory will be an "ecological paradise," with a boardwalk and a hiking/biking trail.
Behavioral Finance
05. The insane trading of Eastman Kodak shares should raise concern
Quick, what comes to mind when you hear the word Kodak (KODK $2-$18-$33)? Maybe an old camera you or your parents used to take on vacations in the 1970s? Or maybe that workhorse inkjet printer sitting in your home office? Perhaps even a classic Paul Simon song from 1973? Chances are, the name doesn't make you think of active pharmaceutical ingredients (APIs) for use in drugs. Nonetheless, that last category has been the catalyst for frenetic movement in the company's share price over the past two weeks. It began when the iconic camera maker landed a $765 million government loan under the new Defense Production Act—authorized by President Trump back in May—to help fix America's medical supply chain problem; specifically, our reliance upon communist China for about 85% of our drug ingredients. While the shift from photos and printers to drug production may seem like a radical departure for the 132-year-old company, the firm has a long history of working with chemicals and advanced materials. But the real story is the stock's crazy price movement. This company went from having a $95 million market cap in June to a $1.5 billion market cap at the end of July. Now wait a minute. Even if the government loan (which can be paid back over 25 years) were an outright gift, that would still just bring the market cap up to $860 million. Here's the magic formula that made KODK an overnight darling among Robinhood users: it was selling for under $10 per share, and there was a nice story to tell with the DPA loan. Bammo! Price goes from $2 to $33 to $18 all in the matter of ten trading days. Now the reality: This deal will help energize a company that was floundering badly, but it is not a magical panacea that will suddenly make it investment-worthy.
Semiconductors
04. Qualcomm spikes 15% after reaching settlement with Huawei
Shares of Penn New Frontier Fund member Qualcomm (QCOM $45-$107-$96) punched through their 52-week high of $96.17 after the company announced it had reached a settlement with Chinese telecom giant Huawei regarding a patent dispute. CEO Steve Mollenkopf said that the San Diego-based firm would pocket a cool $1.8 billion in Q4 as a result of the agreement. Upgrades came rolling in after the deal was announced, as it clears the way for Qualcomm to maintain its leadership position as the 5G rollout begins picking back up steam following Covid-related delays. The 15% jump in the share price was also helped along by JP Morgan's new price target of $120, and Cowen's $130 (from $115) target. Mollenkopf remains, in our opinion, one of the most adroit CEOs in the industry. His ability to get deals done despite obstacles that would derail lesser CEOs is a major reason the company remains a dominant player and the leading handset chipmaker. We have no plans to sell QCOM at either of those price targets.
Media & Entertainment
03. A&E Network loses half its viewers after dropping Live PD
The year started off on a strong note for cable TV network A&E Entertainment, a Walt Disney (DIS $117) unit. Viewership for Q1 was up 4% from the prior year, a metric built almost solely on the success of hit reality show "Live PD." Then came the renewed racial strife and a decision by A&E to cancel not only that show, but several ancillary programs such as "The First 48" and "Court Cam." From a ratings standpoint, that decision was disastrous: prime-time viewership dropped 49%. And the pain will carry over to the company's financials, as the shows brought in roughly $300 million in advertising dollars in 2019, and had already generated nearly $100 million in ad spends in Q1. The "Live PD Nation" fan base is up in arms over the cancellation and is demanding the network revive the series', but it is highly probable that Disney won't do the admirable thing and stand up to the heat that move would bring. We closed out our Disney position in the Penn Global Leaders Club in mid-July at $119.43.
IT Software & Services
02. We love Microsoft's planned deal to buy TikTok's US business
Odds were very good that the Trump administration was about to ban the use of TikTok in the United States on grounds that the Chinese-based company was a conduit for the transfer of personal data on Americans into the hands of the communist regime. Then Microsoft (MSFT $131-$217-$218) CEO Satya Nadella, a refreshingly non-partisan figure, decided his firm might just want to make a bid for the US part of the massively popular social media platform. After talking with the president over the weekend, it appears that Nadella may get his wish, potentially purchasing the platform's operations in the US, Canada, Australia, and New Zealand from parent company ByteDance Ltd. Microsoft, one of the 40 holdings in the Penn Global Leaders Club, already had a lot going for it, but this acquisition would make the firm a real player in the lucrative advertising world of social media. With one purchase, albeit a big one, Microsoft would bring nearly 100 million users into its ecosystem, greatly expanding its footprint among 18-34 year olds. While the government-controlled Chinese press labelled the potential purchase a "smash and grab" by the US, we believe the deal will get done, assuming Nadella can convince both the administration and The Committee on Foreign Investment in the United States (CFIUS) that it will put the proper security measures in place for users. Investors applauded the potential move, driving the price of Microsoft shares up over 5% on Monday. ByteDance CEO Zhang Yiming has been labelled a traitor and a coward on Chinese social media. the reason? He dared to praise the freedom of speech in the United States, "unlike in China, where opinions are one-sided." Yiming's Weibo account (Weibo is an enormous Chinese social media site) was suspended after the pro-US comments were made. Update: Apple (AAPL) is now rumored to also be interested in purchasing the assets.
Under the Radar Investment
01. Under the Radar: Air Lease Corp, the ultimate contrarian play?
Who in their right mind would buy a company that makes its money from buying and subsequently leasing jet aircraft to airlines around the world? After all, the industry is going through the biggest shock to its system in 100 years of service. That being said, shares of Air Lease Corp (AL $27) are sitting down 46% from where they traded in February, and that seems like a serious overreaction based on the company's fat profit margin and rock solid business going into the pandemic. The Los Angeles-based $3 billion company, which now carries a paltry P/E ratio of 5, earned nearly $600 million on $2 billion in revenues in 2019, and has maintained a positive net income for the past decade. The company's strong profitability metrics (see graph) will no doubt take a hit when the earnings release comes out in two days, but we would still place the fair value of AL shares at $40—a 48% upside from here.
Answer
Travel between two cities on opposite sides of Tampa Bay, St. Petersburg and Tampa, Florida, took about two hours by steamship or anywhere between four and twelve hours by rail, depending on stops. The St. Petersburg-Tampa Airboat Line, created by Florida sales rep Percival Elliott Fansler, began operation on 01 Jan 1914, cutting the trip down to about twenty minutes. The airline made two flights per day, six days a week, with a ticket costing $5 per person. Tickets were sold out for sixteen weeks in advance.
Headlines for the Week of 12 Jul 2020—18 Jul 2020
Important Disclaimer: This report has been compiled and produced by Penn Wealth Publishing, LLC, a legally separate entity from Penn Wealth Management, our registered investment advisory service. It is for informational purposes only, and should not be construed as investment advice. Always consult with your professional financial advisor before making any investment decision.
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
Expectations for a historic achievement, but preparation for the worst...
What little-known draft was prepared for President Richard Nixon on 18 Jul 1969?
Penn Trading Desk:
(17 Jul 20) Take profits on Disney
Our enthusiasm for The Walt Disney Company (DIS $118.75) has waned: we see serious challenges ahead and there is a new, untested CEO at the helm; taking our long-term profits and removing from the Penn Global Leaders Club.
(16 Jul 20) Open Sector Position in Dynamic Growth
We have been underweighting several sectors for some time—for good cause. We expect one of these out-of-favor groups, however, to have a serious mean reversion over the coming twelve months, and have added its sector SPDR to the Dynamic Growth Strategy as a satellite position.
(13 Jul 20) Carnival downgraded at Suntrust
Citing chronic challenges from the pandemic that won't subside for some time, analysts at Suntrust downgraded cruise line Carnival Corp (CCL $8-$15-$52) to a sell, giving the shares a $10 price target—33% lower than their current depressed price.
(13 Jul 20) Take profits on Clorox
Our Clorox (CLX $229) went above our target price, fell back and stopped out for a 14.5% s/t gain in the Intrepid Trading Platform.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Aerospace & Defense
10. American Airlines to Boeing: Help us secure financing or else...
It wasn't exactly a tacit threat—it was more like a promise. American Airlines (AAL $8-$12-$35), which has been scrambling to find financing for the seventeen Boeing (BA $89-$178-$391) 737-MAX jets it had previously ordered, told the aircraft maker that it needs to help the company finance the jets or the order would be cancelled. There is a lot of irony in this request, as it was American's desire for more fuel-efficient aircraft that led to the development of the MAX in the first place. Of course, Boeing could have simply developed a completely new, more efficient craft; instead, disastrously as it would turn out, the Chicago-based firm decided to simply enhance its 55-year-old design that was the 737. Boeing, which lost $636 million last year on $77 billion in revenues, cannot afford to say no—despite its own ailing finances. (The company has $32 billion in long-term assets and $58 billion in long-term liabilities.) Then again, what's another seventeen on top of the 400 MAX orders which have already been cancelled this year. Some may look at Boeing's share price, which is now off 60% from where it was trading in March of 2019, and see a battered gem; we look at the company's insipid management team and see a company that is, at best, fairly valued.
Global Strategy: Europe
09. Much to the Chagrin of Putin, Poland's Duda wins reelection
The tough, outspoken, pro-democracy, law-and-order leader of Poland, Andrzej Duda, won a stunning election over the weekend to secure another five years in charge of the Eastern European country. Duda's victory will assure Poland, a staunch US ally, will remain a thorn in the side of not only Russia, but also EU leaders in Brussels who have been unable to coral the feisty leader. Duda, who won over ten million votes in a country of 38 million citizens, is a staunch advocate of pro-growth policies designed to transform Poland into a major business hub in the region. FTSE Russell, a leading global provider of asset benchmarks, recently upgraded Poland from emerging market to developed market status. We believe the country will continue to rise in economic stature and ultimately achieve its aim of becoming a global economic powerhouse. Poland's strategic location, which has been the cause of incredible pain and suffering among the Polish people over the past century (invasions by Germany and Russia), will be one of its biggest assets going forward. One of the easiest ways to invest in the Polish economy is through the iShares MSCI Poland ETF (EPOL $12-$17-$24), which appears undervalued.
Economics: Demographics & Lifestyle
08. Americans' revolving credit debt drops below $1 trillion once again
In a perverse way to use the metric, economists often gauge the health of the US economy by how much Americans are spending—whether they have the discretionary income or not. Since consumption by Americans accounts for 70% of the US economy, they argue, increased spending means a healthier GDP. Our argument has always been this: Why don't we create a stronger and healthier economy by spending within our means and selling more of our goods and services to people living outside of the country? Alas, that is apparently archaic and low-brow thinking. There is one positive development with respect to household debt in the US, however: aggregate revolving debt outstanding has once again dropped below the $1 trillion mark. Revolving debt is mostly made up of credit card balances (bottom line in graph), but also includes personal lines of credit and home equity lines of credit. In May, this figure fell to $996 billion, but the drop is mostly a reflection of the pandemic and its accompanying "lockdown," which forced Americans to stay at home. While online sales ticked up, they were not enough to overcome the massive drop in discretionary spending which typically takes place at restaurants, malls, sporting events, and the like. The two largest components of total outstanding consumer credit debt in the US are student loans ($1.5 trillion) and auto loans ($1.35 trillion), but we're sure that credit card debt will re-join the trillion dollar club soon as the economy reopens. That is bad news for American households, but good news for the banks and financial services companies who issue the unsecured lines of credit.
Global Strategy: East/Southeast Asia
07. Yet another Western democracy bans Huawei in its 5G buildout
Drawing the ire of the US administration, the British government—under the leadership of conservative Boris Johnson—refused to buckle to requests that it ban China's Huawei Technologies from assisting in the country's massive 5G buildout plan. Then came the pandemic, wreaking havoc on the world due to Chinese stonewalling and silence. In the aftermath of the avoidable global disaster, the British government has done an about-face, joining the United States, Australia, New Zealand, Japan, and Taiwan—representing one-third of the world's GDP—in banning the company and its technology. While a number of European countries, along with the Canadian government of Justin Trudeau, remain on the fence, the US argument that Huawei is a Chinese Trojan Horse continues to gain traction.
And could anyone with a rational mind actually believe that this Chinese entity would not be used to steal trade secrets from and spy on the Western world? Who remembers the enormous Equifax breach in which 150 million Americans had their personal data—to include social security and driver's license numbers—stolen? (A reason, by the way, that every American should have some form of ID theft protection—this information will eventually be used to harm the US.) Three high-ranking members of the Chinese military were identified as the ringleaders. China has an insatiable appetite for stolen intellectual property and has proven it will do whatever it takes to dominate on the world scene. The sooner that other Western democracies—like Germany and France—realize this, the better prepared they will be to fight this increasingly-dangerous global menace.
Commercial Banks
06. The misery keeps growing at Wells Fargo
Considering what the bank did to clients, it is hard to have any sympathy for Wells Fargo (WFC $22-$24-$55); we'll reserve that emotion for investors who own the stock. The latest round of horrendous news on the $100 billion financial services firm came in the form of its Q2 earnings report. The company reported its first quarterly loss since 2008 as it set aside nearly ten billion dollars for credit losses—about 72% more than analysts were expecting and over one-third of the $28 billion written off by all banks in the quarter. That is money the bank expects to need for loans that went bad ("provisions for bad loans"). The company's 8.6% dividend—so high because the shares are so low—could obviously not be sustained by a company which is bleeding cash. Therefore, the bank announced it would be slashing that dividend by 80%—from $0.51 to $0.10 per share. The one saving grace for banks in an era of ultra-low interest rates has been their trading activity, which has been doing exceptionally well. Which bank doesn't have an institutional trading desk? Yep, Wells Fargo. Shares of WFC fell about 7% after the earnings report was released. Looking for a bank that 1. is still undervalued and 2. has a trading desk? Consider Citigroup (C $51), whose shares are off roughly 40% from their January highs.
Interactive Media & Services
05. Twitter suffers massive cyber-attack
It was the worst security breach in the polarizing social media company's history, causing its shares to plunge. Midweek, some of Twitter's (TWTR $20-$34-$46) most notable users, to include names like Obama, Gates, Buffett, and Bezos, began posting odd requests for money to be sent to bitcoin accounts. "I am giving back to the community," read Joe Biden's
Stories with an asterisk* in the headline will be discussed in further detail in the upcoming issue of The Penn Wealth Report...
Question
Expectations for a historic achievement, but preparation for the worst...
What little-known draft was prepared for President Richard Nixon on 18 Jul 1969?
Penn Trading Desk:
(17 Jul 20) Take profits on Disney
Our enthusiasm for The Walt Disney Company (DIS $118.75) has waned: we see serious challenges ahead and there is a new, untested CEO at the helm; taking our long-term profits and removing from the Penn Global Leaders Club.
(16 Jul 20) Open Sector Position in Dynamic Growth
We have been underweighting several sectors for some time—for good cause. We expect one of these out-of-favor groups, however, to have a serious mean reversion over the coming twelve months, and have added its sector SPDR to the Dynamic Growth Strategy as a satellite position.
(13 Jul 20) Carnival downgraded at Suntrust
Citing chronic challenges from the pandemic that won't subside for some time, analysts at Suntrust downgraded cruise line Carnival Corp (CCL $8-$15-$52) to a sell, giving the shares a $10 price target—33% lower than their current depressed price.
(13 Jul 20) Take profits on Clorox
Our Clorox (CLX $229) went above our target price, fell back and stopped out for a 14.5% s/t gain in the Intrepid Trading Platform.
Members can see all trades made in the five Penn strategies by signing into the Penn Trading Desk.
Aerospace & Defense
10. American Airlines to Boeing: Help us secure financing or else...
It wasn't exactly a tacit threat—it was more like a promise. American Airlines (AAL $8-$12-$35), which has been scrambling to find financing for the seventeen Boeing (BA $89-$178-$391) 737-MAX jets it had previously ordered, told the aircraft maker that it needs to help the company finance the jets or the order would be cancelled. There is a lot of irony in this request, as it was American's desire for more fuel-efficient aircraft that led to the development of the MAX in the first place. Of course, Boeing could have simply developed a completely new, more efficient craft; instead, disastrously as it would turn out, the Chicago-based firm decided to simply enhance its 55-year-old design that was the 737. Boeing, which lost $636 million last year on $77 billion in revenues, cannot afford to say no—despite its own ailing finances. (The company has $32 billion in long-term assets and $58 billion in long-term liabilities.) Then again, what's another seventeen on top of the 400 MAX orders which have already been cancelled this year. Some may look at Boeing's share price, which is now off 60% from where it was trading in March of 2019, and see a battered gem; we look at the company's insipid management team and see a company that is, at best, fairly valued.
Global Strategy: Europe
09. Much to the Chagrin of Putin, Poland's Duda wins reelection
The tough, outspoken, pro-democracy, law-and-order leader of Poland, Andrzej Duda, won a stunning election over the weekend to secure another five years in charge of the Eastern European country. Duda's victory will assure Poland, a staunch US ally, will remain a thorn in the side of not only Russia, but also EU leaders in Brussels who have been unable to coral the feisty leader. Duda, who won over ten million votes in a country of 38 million citizens, is a staunch advocate of pro-growth policies designed to transform Poland into a major business hub in the region. FTSE Russell, a leading global provider of asset benchmarks, recently upgraded Poland from emerging market to developed market status. We believe the country will continue to rise in economic stature and ultimately achieve its aim of becoming a global economic powerhouse. Poland's strategic location, which has been the cause of incredible pain and suffering among the Polish people over the past century (invasions by Germany and Russia), will be one of its biggest assets going forward. One of the easiest ways to invest in the Polish economy is through the iShares MSCI Poland ETF (EPOL $12-$17-$24), which appears undervalued.
Economics: Demographics & Lifestyle
08. Americans' revolving credit debt drops below $1 trillion once again
In a perverse way to use the metric, economists often gauge the health of the US economy by how much Americans are spending—whether they have the discretionary income or not. Since consumption by Americans accounts for 70% of the US economy, they argue, increased spending means a healthier GDP. Our argument has always been this: Why don't we create a stronger and healthier economy by spending within our means and selling more of our goods and services to people living outside of the country? Alas, that is apparently archaic and low-brow thinking. There is one positive development with respect to household debt in the US, however: aggregate revolving debt outstanding has once again dropped below the $1 trillion mark. Revolving debt is mostly made up of credit card balances (bottom line in graph), but also includes personal lines of credit and home equity lines of credit. In May, this figure fell to $996 billion, but the drop is mostly a reflection of the pandemic and its accompanying "lockdown," which forced Americans to stay at home. While online sales ticked up, they were not enough to overcome the massive drop in discretionary spending which typically takes place at restaurants, malls, sporting events, and the like. The two largest components of total outstanding consumer credit debt in the US are student loans ($1.5 trillion) and auto loans ($1.35 trillion), but we're sure that credit card debt will re-join the trillion dollar club soon as the economy reopens. That is bad news for American households, but good news for the banks and financial services companies who issue the unsecured lines of credit.
Global Strategy: East/Southeast Asia
07. Yet another Western democracy bans Huawei in its 5G buildout
Drawing the ire of the US administration, the British government—under the leadership of conservative Boris Johnson—refused to buckle to requests that it ban China's Huawei Technologies from assisting in the country's massive 5G buildout plan. Then came the pandemic, wreaking havoc on the world due to Chinese stonewalling and silence. In the aftermath of the avoidable global disaster, the British government has done an about-face, joining the United States, Australia, New Zealand, Japan, and Taiwan—representing one-third of the world's GDP—in banning the company and its technology. While a number of European countries, along with the Canadian government of Justin Trudeau, remain on the fence, the US argument that Huawei is a Chinese Trojan Horse continues to gain traction.
And could anyone with a rational mind actually believe that this Chinese entity would not be used to steal trade secrets from and spy on the Western world? Who remembers the enormous Equifax breach in which 150 million Americans had their personal data—to include social security and driver's license numbers—stolen? (A reason, by the way, that every American should have some form of ID theft protection—this information will eventually be used to harm the US.) Three high-ranking members of the Chinese military were identified as the ringleaders. China has an insatiable appetite for stolen intellectual property and has proven it will do whatever it takes to dominate on the world scene. The sooner that other Western democracies—like Germany and France—realize this, the better prepared they will be to fight this increasingly-dangerous global menace.
Commercial Banks
06. The misery keeps growing at Wells Fargo
Considering what the bank did to clients, it is hard to have any sympathy for Wells Fargo (WFC $22-$24-$55); we'll reserve that emotion for investors who own the stock. The latest round of horrendous news on the $100 billion financial services firm came in the form of its Q2 earnings report. The company reported its first quarterly loss since 2008 as it set aside nearly ten billion dollars for credit losses—about 72% more than analysts were expecting and over one-third of the $28 billion written off by all banks in the quarter. That is money the bank expects to need for loans that went bad ("provisions for bad loans"). The company's 8.6% dividend—so high because the shares are so low—could obviously not be sustained by a company which is bleeding cash. Therefore, the bank announced it would be slashing that dividend by 80%—from $0.51 to $0.10 per share. The one saving grace for banks in an era of ultra-low interest rates has been their trading activity, which has been doing exceptionally well. Which bank doesn't have an institutional trading desk? Yep, Wells Fargo. Shares of WFC fell about 7% after the earnings report was released. Looking for a bank that 1. is still undervalued and 2. has a trading desk? Consider Citigroup (C $51), whose shares are off roughly 40% from their January highs.
Interactive Media & Services
05. Twitter suffers massive cyber-attack
It was the worst security breach in the polarizing social media company's history, causing its shares to plunge. Midweek, some of Twitter's (TWTR $20-$34-$46) most notable users, to include names like Obama, Gates, Buffett, and Bezos, began posting odd requests for money to be sent to bitcoin accounts. "I am giving back to the community," read Joe Biden's