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Novum Alpha - Daily Analysis 25 February 2021 (8-Minute Read)

The U.S. Federal Reserve appears to be in an unhealthy and perhaps abusive relationship with the markets, with a few conciliatory comments by Fed Chairman Jerome Powell sufficient to assuage jittery investors and send markets sharply higher.

Turning into Thursday and I hope it's looking terrific for you as markets make a turnaround. 

In brief (TL:DR)

  • U.S. stocks reversed sharply on Wednesday with the S&P 500 (+1.14%), blue-chip Dow Jones Industrial Average (+1.35%) and the tech-centric Nasdaq Composite (+0.99%) all higher on assurances from the U.S. Federal Reserve that it would keep liquidity flowing.  
  • Asian stocks rose after a rebound in the S&P 500 on encouraging vaccine news and soothing comments on inflation from Federal Reserve Chairman Jerome Powell.
  • The benchmark U.S. 10-year Treasury yield was steady at 1.380% after rising to as high as 1.40%. 
  • The dollar continued its slide in Asian trading. 
  • Oil rose with March 2021 contracts for WTI Crude Oil (Nymex) (+0.28%) at US$63.40 on bullishness over an economic recovery. 
  • Gold was up with April 2021 contracts for Gold (Comex) (+0.13%) at US$1,800.20 as investors priced in the Fed's allowances on inflation. 
  • Bitcoin (+5.52%) climbed back above US$50,000 to US$50,543 with the recent recovery driven primarily by the revelation of institutional purchases from Square (-7.51%) and MicroStrategy (+18.29%) from last week and as inflows continue to put pressure on prices (inflows typically suggest that traders are looking to sell Bitcoin in anticipation of lower prices). 

In today's issue...

  1. The Selloff in Bonds is Coming for your Stocks
  2. Everything that Glitters Is Not Gold 
  3. Bitcoin Bounces Back Above US$50,000

Market Overview

The U.S. Federal Reserve appears to be in an unhealthy and perhaps abusive relationship with the markets, with a few conciliatory comments by Fed Chairman Jerome Powell sufficient to assuage jittery investors and send markets sharply higher. 
Yet nothing has really changed. 
The Fed isn't doing anything it hadn't already said it was going to do, beating the markets bullish with liquidity and maintaining an accommodative monetary policy. 
Instead, investors are doing it to themselves, dumping safe government bonds, only to see their yields rise and then punish their own stock holdings and then wait for them to rally again. 
If this rinse and repeat isn't some form of self hurt, it's hard to say what is. 
In Asia, markets were almost uniformly higher with Tokyo's Nikkei 225 (+1.64%), Sydney’s ASX 200 (+1.05%), Seoul's Kospi Index (+1.92%) and Hong Kong's Hang Seng Index (+1.76%) taking their cue from Wall Street.   
1. The Selloff in Bonds is Coming for your Stocks
  • Global selloff in government bonds has rippled through to the stock markets as investors are increasingly scrutinizing earnings as a driver of growth
  • Interim correction in stocks may provide a buying opportunity, as long as profit potential far outweighs the sharp rise in government bond yields 
Just when you thought it was safe to wade into the markets again, the global sell-off in “safe” government bonds kicked up a notch yesterday when the benchmark 10-year U.S. Treasury yield soared above 1.4% for the first time this year (yields rise when bond prices fall).
European governments were also caught in the crossfire with yields on British, French, German and Italian bonds surging.
The broad selloff in government bonds is the product of several factors, including a more upbeat global economic outlook and rising concerns over inflation, as well as fresh fiscal stimulus out of the U.S.
Investors are increasingly betting that effective coronavirus vaccines will boost economic growth and fan the flames of serious inflationary pressures for the first time in decades.
And that selloff in fixed income has started to ripple through global stocks.
During the pandemic, the near-zero yields on “safe” government bonds meant that investors shifted into equities and corporate debt, because they were seen as better alternatives to the lack luster returns from owning sovereign debt.
But with rising government bond yields, and higher commodity prices, investors are understandably concerned this may trigger a correction in equities.
If history is any guide, as happened in both 2003 and 2009, in the early stages of an upturn, higher rates can be offset by rebounding profits.
A Société Générale report points to consensus forecasts of a 30% rise in earnings this year from companies in the MSCI World Index and 40% for emerging markets.
And even if stocks were to correct from their somewhat expensive levels, their potential for a stronger rally thereafter is significant – as stocks tend to rise and fall with the direction of profit and profit expectations.
Which is why the recent selloff in bonds spurring a knee-jerk reaction in the form of an equities correction is likely to be short-lived.
That investors are now pricing in an economic recovery as well as scrutinizing more carefully corporate earnings is probably a healthier exercise and a return to some semblance of normal market dynamics than the GameStop (+103.94%) style of investing. 
2. Everything that Glitters Is Not Gold
  • Gold has had an abysmal start to 2021, despite rising inflation expectations fueling gold's alleged role as a hedge against inflation 
  • Historical data and the availability of alternatives suggest that gold's value as a hedge against inflation may be exaggerated 
Rising government bond yields are upending everything from tech stocks to Bitcoin, and despite a surge in commodity prices linked to improving economic conditions, gold has been left out of the party.
Unlike other metals such as copper and platinum, gold has limited industrial uses and is primarily employed in a portfolio as a hedge against inflation or a safe haven. 
Yet given that investors are pricing in higher levels of inflation, as evidenced by soaring bond yields, shouldn’t that feed well into gold’s narrative?
Not exactly.
Investors are instead rotating out of gold and into risk assets such as cyclical stocks, or stocks which are generally more exposed to the economy.
As expectations of an economic recovery mount, with effective coronavirus vaccines providing confidence that those sectors which languished during the long year of lockdowns will recover sharply, investors are dumping safe haven assets including gold.
Gold is down some 5% this year alone, after posting its best annual gain in a decade at the end of last year.
The other reason that gold has lost its shine is that its alleged ability to hedge against inflation has always been circumspect at best.
Investors have many options to hedge against inflation risk, from inflation swaps to Treasury Inflation-Protected Securities.
If an investor wanted to protect against inflation, why not just take the straightforward route instead of going around in circles with gold?
And historically, tracking the performance of gold against periods of high inflation in the U.S. has shown that its rise with a rise in inflation has been inconsistent, with no clear correlation. 
The rise of alternatives such as Bitcoin hasn’t helped gold’s case either – with flows out of gold-backed ETFs last year tracking closely with inflows into Grayscale Bitcoin Trust.
And although the U.S. Federal Reserve has intimated that it intends to keep interest rates low right through to the 2023, the bull case for gold, in the immediate term at least, is hard to make. 
3. Bitcoin Bounces Back Above US$50,000
  • Selloff in Bitcoin reverses course on buying by Square and MicroStrategy as well as comments by U.S. Federal Reserve Chairman Jerome Powell that the central bank will maintain its accommodative policy for the foreseeable future 
  • Bitcoin traded below US$50,000 for the most part before staging a sharp recovery on the news and is now trading just over that level
Just when you thought it was safe to declare the demise of Bitcoin, those allegedly responsible for its most recent rally have returned to the market to support their favorite cryptocurrency.
Bitcoin rebounded from its sharp selloff this week as longtime buyers of Bitcoin, MicroStrategy and Square announced fresh purchases in the benchmark cryptocurrency.
Payment services firm Square announced that it had bought a further US$170 million of Bitcoin, raising its holdings to about 5% of the company’s cash and equivalents, while MicroStrategy revealed that it had paid an average US$52,765 for nearly 20,000 Bitcoins last week after issuing US$1.05 billion in convertible bonds for that purpose.
MicroStrategy’s original Bitcoin-buying convertible bond issuance was pegged at US$400 million and the overshoot shows that many still see MicroStrategy as a conduit to participation in Bitcoin’s fortunes.
Comments by U.S. Federal Reserve Chairman Jerome Powell, who on Tuesday signaled that the central bank was nowhere close to unwinding its loose monetary policy, also fueled bullish sentiment in Bitcoin.
Cryptocurrencies continue to remain controversial.
Moving beyond an interesting dinner table topic, Bitcoin and its ilk has the investing public divided, with some viewing the nascent asset class as being increasingly embraced by long-term investors, instead of just speculators, and others fearing that the cryptocurrency is in the midst of a massive bubble that will eventually have to burst.
What there seems to be little debate on though, is that Bitcoin is likely to continue being volatile for some time.
Regulators are however keeping a keen eye on the digital asset class, with many central banks and authorities warning the investing public that they could lose some or all of their money in cryptocurrencies, as more retail investors catch on to cryptocurrencies. 

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Feb 25, 2021

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