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Novum Alpha - Daily Analysis 19 February 2021 (10-Minute Read)

As U.S. Treasury yields soared on the prospect of the Biden administration getting its US$1.9 trillion stimulus package approved, investors turned sour on risk as stocks looked increasingly expensive as compared to "safe" Treasuries.

TGIF and I hope you're ready for the weekend because the markets sure look like they are! 

In brief (TL:DR)

  • U.S. markets were spooked by the selloff in Treasuries with the S&P 500 (-0.44%), tech-centric Nasdaq Composite (-0.72%) and blue-chip Dow Jones Industrial Average (-0.38%) all down as Treasury yields soared, putting pressure on stock valuations. 
  • Asian stocks opened with declines as investors assess how rising borrowing costs could impact the equity rally. 
  • The benchmark U.S. 10-year Treasury yield was at 1.290% after pulling back from a one-year high (yields rise when bond prices fall). 
  • The dollar was steady against most G-10 peers. 
  • Oil extended a retreat despite a crisis caused by a U.S. cold snap with March 2021 contracts for WTI Crude Oil (Nymex) (-2.20%) at US$59.19, falling below US$60 again.  
  • Gold slid with April 2021 contracts for Gold (Comex) (-0.65%) at US$1,763.40, as investors went into cash. 
  • Bitcoin (-1.21%) slid alongside other risk assets retreating to US$51,711 with outflows from exchanges still leading inflows but at a slower pace (outflows typically suggest that traders are looking to hold Bitcoin in anticipation of higher prices). 

In today's issue...

  1. Selloff in U.S. Treasuries Spooks Markets 
  2. Liquidity Everywhere But Not a Job to Do
  3. Bitcoin ETF Blasts Off in Canada

Market Overview

"Now this is not the end. It is not even the beginning of the end. But it is, perhaps, the end of the beginning."
– Winston Churchill
I get it, it's disconcerting and something that we've been talking about for weeks - when does the U.S. get to borrowing so much money that the cost of its borrowing goes up - yesterday, for the first time in a year, it seemed as if the jig was up - there is a limit to how much America can borrow. 
Or is there? 
As U.S. Treasury yields soared on the prospect of the Biden administration getting its US$1.9 trillion stimulus package approved, investors turned sour on risk as stocks looked increasingly expensive as compared to "safe" Treasuries. 
If this narrative takes grip of market, investors are in for a world of pain. 
But fear not, even though the market is not the economy, the U.S. Federal Reserve has long forgotten that notion and if and when markets should tank because U.S. government borrowing costs have increased, then expect the Fed to intervene and soak up more U.S. bonds to bring yields down. 
In Asia, markets were understandably jittery on Friday's morning session with broad selloffs in Tokyo's Nikkei 225 (-0.92%), Sydney’s ASX 200 (-1.11%), Seoul's Kospi Index (-0.87%) and Hong Kong's Hang Seng Index (-0.81%). 
1. Selloff in U.S. Treasuries Spooks Markets
  • Spiking borrowing costs weighs on risk sentiment for stocks and other risk assets
  • Investors may need to start scrutinizing earnings again 
Ian Fleming’s James Bond arguably wouldn’t be quite as impressive if there was more than one of him.
Part of the draw in Fleming’s fictional character is that Bond is one man against the odds, who persists. 
Now had Bond been part of an entire army of spies, chances are Fleming’s novels or the many movies inspired by his books would scarcely be as popular.
So does it go with actual bonds, U.S. Treasuries to be exact - less is often more. 
When investors are looking for safety, they stock up on U.S. Treasuries, driving down their yields (yields fall when bond prices rise).
But as the Biden administration looks set to push through US$1.9 trillion of stimulus, that has the potential to stoke higher levels of inflation, a broad sell-off in U.S. government debt rippled through Wall Street.
And it wasn’t just government bonds that saw selling activity, stocks clocked their first three-day losing streak this year, with yesterday’s declines across a broad swathe of sectors, led by energy, tech and industrials.
There are some who are suggesting the run-up in Treasury yields could pose a headwind for stocks, and a dampening in the momentum.
Despite tepid inflation, U.S. government debt was sold off in recent weeks as Biden inched ever closer to his proposed US$1.9 trillion spending bill that has sparked fears of consumer price inflation, making bonds less attractive by eroding the value of their fixed payments.
And a sell-off in bonds increases the so-called “risk-free rate” of return, which is derived from U.S. Treasuries, reducing the present value of the future cash flow of companies and undermines already heady stock valuations.
In simple terms, if the return on holding safe government bonds goes up, the premium that investors are willing to pay to hold onto risky stocks must come down, so company valuations can’t go any higher purely on market mechanics anymore, earnings growth is required.
And that requires a degree of selectiveness that has hitherto been absent  as investors have bet on anything from GameStop (-11.43%) to Tesla (-1.35%) and everything in between.   
Though technically a “growth” sector, tech stocks, particularly those of firms that are earning even through the pandemic, should still do well, including the likes of Nvidia (-0.52%), Microsoft (-0.17%), Amazon (+0.59%), Google (-0.60%), Apple (-0.86%), Facebook (-1.53%) and Netflix (-0.57%).
If investors collectively come to the same conclusion and recognize that earnings now matter, some of the more speculative segments of the stock market may suffer instead, including cash-hemorrhaging startups in sexy sectors such as cloud computing, artificial intelligence or cybersecurity. 
2. Liquidity Everywhere But Not a Job to Do
  • U.S. state unemployment claims hit a 4-week high, providing the data needed for Biden to push through his US$1.9 trillion fiscal stimulus package
  • Employment data tends to be a lagging indicator and should provide little indication of the prospects of the economy, as recovery will come first before full employment 
Despite optimism in the fourth quarter of 2020 that vaccines would allow a more progressive re-opening of the U.S. and the global economy, firms that had been initially bullish on a recovery have since suffered numerous setbacks resulting in more tepid employment growth.
Applications for U.S. state unemployment insurance surged to a 4-week high, indicating the labor market is getting worse, even as the coronavirus pandemic is showing signs of slowing.
And earlier jobless claims have continued, suggesting that the U.S. labor market has a tougher road to recovery than previously believed, with no sustained decline for five months.
The U.S. home construction market, typically a strong provider of employment, has also slowed for the first time in five months, even though permits to build single-family houses rose at their fastest pace since 2006, just before the U.S. housing crisis.
Worryingly as well, the number of single-family homes authorized but not yet started, increased to their highest level in over 13 years, or about the time when the U.S. housing bubble burst.
With millions more Americans out of work and struggling to pay their mortgages, there is increasing concern that the markets may be susceptible to multiple shocks, including a stock market and housing crash.
Lawmakers will be scrutinizing the unemployment numbers carefully as they mull over Biden’s US$1.9 trillion stimulus package, with Democrats who hold the House majority, likely to narrowly pass the spending bill even without the support of Republicans.
The Biden stimulus would extend federal unemployment programs and increase the supplemental weekly jobless benefit to US$400 from US$300 previously.
Despite the dour data on unemployment, investors should note that these are lagging indicators of the economy.
Even as businesses grow more bullish, employment typically lags other economic measures in a recovery, with U.S. employment numbers only having recovered a full three years after the last financial crisis in 2008.
As coronavirus case numbers and their attendant fatalities continue to fall in the U.S., unemployment claims should improve as more Americans get vaccinated and the U.S. economy continues to open up, which should be good for more economically-sensitive sector stocks, even as Treasury yields are spiking.  
3. Bitcoin ETF Blasts Off in Canada
  • First North American Bitcoin ETF launches with a bang as US$165 million worth of shares traded on the first day 
  • Physically-settled Bitcoin ETF removes Bitcoin out of the tradeable supply and puts upward pressure on prices so long as demand remains constant
“O Canada, O Canada! You legalized your weed,
O Canada, O Canada, you planted Bitcoin seed.”
The timing for North America’s first Bitcoin ETF, could not have been better.
Just as Bitcoin blasted past US$52,000 for the first time ever, before retracing, the first Bitcoin product that’s been officially labeled as an exchange-traded fund debuted yesterday in Toronto to a raucous start, with investors exchanging some US$165 million worth of shares.
Although Europe has long had several cryptocurrency-tracking products that function like an ETF, Canada’s Purpose Bitcoin ETF invests directly in “physical/digital” Bitcoin.
Bitcoin has surged some fivefold in the year to date, making it one of the best investment assets of 2020 and despite concerns over speculative froth in the market, continues to garner more mainstream attention.
Bloomberg Intelligence analyst James Seyffart notes that while it is unclear how much of the activity in Purpose Bitcoin ETF was the result of inflows into the fund, trading volumes were well above an ETF’s typical first day in Canada.
It’s still too early to tell, but proponents argue that an ETF will trade without the massive premium investors pay over the underlying assets they track, a problem plaguing many current Bitcoin trusts in the U.S. including Grayscale Bitcoin Trust, a popular gateway to Bitcoin among many American institutional investors.
Not to be outdone, the U.S. currently has several active Bitcoin ETF candidates, including the ones from VanEck Associates and Bitwise Asset Management, but Bitcoin’s notorious volatility and allegations of price manipulation remain substantial regulatory concerns in approving a U.S. Bitcoin ETF.
Yet with the prospect of crypto-savvy and long-time advocate of greater regulation of cryptocurrencies, Gary Gensler, set to take the helm at the U.S. Securities and Exchange Commission, hopes of the first U.S. Bitcoin ETF are rising.
Gensler is Professor of the Practice of Global Economics and Management, lecturing on blockchain technology and cryptocurrencies at the MIT Sloan School of Management, and is a member of the New York Fed Fintech Advisory Group.
Over the past decade, Gensler has long believed in greater regulation of cryptocurrencies whilst maintaining the U.S. lead in financial innovation and technology. 

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Feb 19, 2021

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