Novum Alpha - Daily Analysis 27 July 2021 (10-Minute Read)
A terrific Tuesday to you as stocks inched higher despite turmoil from a Chinese crackdown on the afterschool education sector.
In brief (TL:DR)
In today's issue...
Beijing can't surely be intent on destroying its economy can it?
Cooler heads prevailed today as investors recognized that Beijing's crackdown on its for-profit education sector was more a matter of ensuring social stability than borne out of any abandonment of the capitalist system.
Bargain hunters were out in force to snap up the shares of other Chinese companies that were dragged down by Beijing's purge of specific sectors and that helped to stem the bloodletting.
But Chinese education providers show no signs of rebounding, especially since their entire business model has been upended with almost no avenues for recourse.
In Asia, investors shrugged off the Chinese purge of specific sectors with Sydney’s ASX 200 (+0.57%), Tokyo's Nikkei 225 (+0.35%) and Seoul's Kospi Index (+0.65%) up while Hong Kong's Hang Seng (-0.32%) stabilized on Tuesday's morning trading session.
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1. In China, Capitalism Goes Splat
“Greed, for lack of a better word, is good. Greed works.”
– Gordon Gecko, Wall Street
Greed may work on Wall Street, but perhaps not in China.
In what appears to be a crackdown not just on companies, but on capitalism itself, Beijing has been blasting everything from Bitcoin miners to its for-profit afterschool education sector, sending shockwaves through Chinese equity markets over which may be the next shoe to drop.
Almost overnight, Chinese authorities moved to end the after school education sector’s ability to generate profit, much the same way that it scratched ride-hailing app Didi Global (-0.25%) from the country’s app stores.
Stocks in China and Hong Kong slipped by the most since May last year, when equities were roiled by the pandemic.
The speed and apparent arbitrariness with which Beijing acted spooked global investors, especially given it’s unclear which sector authorities may target next for dismantling.
Under Chinese President Xi Jinping, Beijing has grown increasingly assertive over its private sector, reigning in the previously unbridled power of its internet giants, and warning its most prominent and promising companies to rethink plans to list their shares on Wall Street.
While some plucky investors say that the selloff has created buying opportunities, ongoing crackdowns on everything from cryptocurrency miners to commodity producers and even China’s massive real estate industry shows that there are no sacred cows that can’t be culled.
And for investors, regardless of that adventurism, there are far too many unknown unknowns save one – China’s incumbent tech giants.
President Xi, unlike his predecessors, has been the least concerned about spooking foreign capital compared to all of his predecessors.
But what is known about the Chinese leader is that he has infamously thin skin, even going so far as to ban images of Winnie the Pooh when his physique was unflatteringly compared to the lovable and rotund bear who loves honey.
And that means those firms whose founders have been in the crosshairs, but who have kowtowed and towed the line, may be in a good position to profit from the purge – especially the OG tech giant Alibaba Group Holdings (-7.15%).
While investors may be dumping everything from Chinese real estate shares to education companies, Alibaba and its founder have already made amends, by keeping a low profile and paying obsequious homage to the Chinese leader and his levers of power.
But even that trade is not without risk.
Since Beijing’s scuttling of Ant Group’s IPO last year, seemingly anything is possible, with the Chinese government of Xi Jinping willing to decimate entire business sectors, let alone companies.
Some analysts suggest that the target of Beijing’s latest purge isn’t capitalism per se, but the US$100 billion-a-year afterschool education industry contributing to rising inequality and tearing at the social fabric that could undermine the Chinese Communist Party’s power.
A key for investors looking for bargains in Chinese firms amidst the carnage could be to track Beijing’s policy priorities, for instance by taking a bet on electric vehicle makers or clean energy firms.
Chinese semiconductor manufacturers also present an interesting opportunity as global investors have shunned Chinese shares indiscriminately.
The key may be to identify those companies which exacerbate inequality, which benefit a small group at the expense of wider prosperity, including platform providers such as delivery and ride hailing, especially if these firms are seen as exploitative, from those that are inline with Beijing's broader goals.
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2. How Much Would You Pay for Security?
As real yields on benchmark U.S. 10-year Treasuries fell to a record low, investors have been left asking themselves how much they’re willing to pay for a hedge against uncertainty.
With concerns mounting over economic growth, the real rate of a U.S. 10-year Treasury Bill, which strips out the expected impact of inflation over the next decade was -1.13%.
Not helping real yields of course has been the massive inflows into inflation protected instruments such as ETFs that are tied to inflation bonds.
But while the shift up in inflation expectation is substantial, it’s the ongoing decline in real yields that is disconcerting, which suggests that sentiment is souring for investors, given the rapid spread of the delta variant.
And that raises the prospect of a worst-case scenario, especially given the buying activity in both inflation-protected bonds as well as Treasuries – stagflation.
Stagflation, where growth is slowed because of the pandemic, against a backdrop of high inflation could be overtaking the so-called reflation trade and that means bad news for investors who bought the dip on economically-exposed stocks like industrials, financials and travel.
That unease in markets is building up to Wednesday’s U.S. Federal Reserve policy meeting, where policymakers are said to be divided equally on whether to taper asset purchases and the schedule for hiking interest rates.
Periods of uncertainty favor clear leadership and cohesiveness, and a divided Fed is the last thing the markets need right now.
Traders have already started to scale back their expectations for how quickly the Fed will raise interest rates amid a more uncertain economic outlook.
Bond buyers however are not sticking around to find out and voting with their dollars.
3. Bitcoin Rebounds to 6-Week High
While cryptocurrency investors may rue the sharp drop in Bitcoin from its all-time-high, the fall from US$64,000 may not have ushered in a fresh crypto winter.
Instead, if nothing else, it could be a perpetual autumn, with crisp and sunny days marred by blustery and wet ones as Bitcoin rebounded yesterday to a 6-week high.
Some investors attribute Bitcoin’s nascent rally to short positions being liquidated and speculation that Amazon (+1.18%) may be venturing into cryptocurrencies based on its looking to hire an executive to plot blockchain and digital asset strategy.
Bitcoin peeked above US$40,000 momentarily before retracing to around US$37,000 at time of writing.
Speculation is growing that Amazon could be for cryptocurrencies what Tesla (+2.21%) was for Bitcoin, with the former posting a job opening on July 22 for an expert in “digital currency” and “blockchain.”
According to the job posting, the person would be charged with,
“Amazon’s digital currency and blockchain strategy and product road map.”
The posting sparked online chatter that Amazon would eventually move to enable customers to pay in cryptocurrencies.
But that may be a tad too speculative, because if nothing else, Amazon is big enough that it could easily issue its own cryptocurrency or even a dollar-based stablecoin, rather than co-opt others and invite a slew of regulatory oversight, especially for money laundering.
Some US$740 million worth of short positions in Bitcoin were liquidated on Monday and traders were snapping up long call options for Bitcoin for as high as US$48,000.
The short squeeze, especially when cryptocurrency prices jump unexpectedly, saw a sharp spike in Bitcoin, surging to US$38,000 before shooting past US$40,000 almost instantaneously in a single candle.
Investors will be looking next for how some of Bitcoin’s biggest corporate backers have fared in their second quarter earnings, especially given that their Bitcoin on balance sheet would have been marked at the end of June, a period when Bitcoin was trading around US$29,000.
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Jul 27, 2021
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