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Novum Alpha - Daily Analysis 18 August 2021 (10-Minute Read)

In growing signs that the U.S. economy hasn't completely rounded the corner, economic data is mixing in with concerns over the delta variant to take equities lower.

A wonderful Wednesday to you as U.S. stocks took a dive amidst growing concern over the delta variant and lackluster economic data below expectations weighed on sentiment. 

In brief (TL:DR)

  • U.S. stocks turned lower on Tuesday with the Dow Jones Industrial Average (-0.79%), S&P 500 (-0.71%) and tech-centric Nasdaq Composite (-0.93%) all sharply lower as U.S. consumer demand missed estimates and against a backdrop of a string of weaker-than-expected economic data. 
  • Asian stocks were steady Wednesday as investors assessed risks to the economic recovery from the resurgent coronavirus.
  • Benchmark U.S. 10-year Treasuries were stable at 1.26% ahead of the release of the latest U.S. Federal Reserve minutes amid a highly uncertain outlook for yields (yields fall when bond prices rise).
  • The dollar held an advance.
  • Oil fell with September 2021 contracts for WTI Crude Oil (Nymex) (-0.11%) at US$66.52 pressured by the recent climb in the dollar and signs of an uneven U.S. recovery.
  • Gold rose with December 2021 contracts for Gold (Comex) (+0.16%) at US$1,790.60 as uncertainty crept into equities seeing some investors rotate back into the precious metal. 
  • Bitcoin (-2.52%) slipped to US$45,069 as inflows continued to lead outflows (inflows suggest that investors are looking to sell Bitcoin in anticipation of lower prices). 

In today's issue...

  1. Chinese Insurers the Next to be Targeted by Beijing?
  2. Defensive ETF Flows Suggest Bullish Sentiment Not Unabated
  3. Decentralized Cryptocurrency Exchange Finds Need for HQ After All

Market Overview

In growing signs that the U.S. economy hasn't completely rounded the corner, economic data is mixing in with concerns over the delta variant to take equities lower. 
Investors are jittery as it appears the initial bump from pent-up consumer demand in the U.S. may not have proved durable, with spending on durable goods starting to slow, at a time when the delta variant is putting the kybosh on spending on services and experiences. 
Data from the U.S. Commerce Department showed on Tuesday that spending at U.S. retailers, including in-store, restaurants and online, fell by 1.1% in July, with economists anticipating only a 0.3% slowdown. 
Shares in retailers tumbled on the data and economically-sensitive sectors like financials, industrials, materials, real estate all pulled back. 
Asian stocks on Wednesday however proved surprisingly resilient, despite the pullback on Wall Street with Tokyo's Nikkei 225 (+0.37%), Hong Kong's Hang Seng (+0.50%), Seoul's Kospi Index (+0.64%) and Sydney’s ASX 200 (+0.08%) all up in the morning trading session, 

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1. Chinese Insurers the Next to be Targeted by Beijing?

  • Chinese insurers tumble as sales fall across the board 
  • Sector challenged by increasing claims and pandemic restrictions 
Nothing in Beijing’s most recent 5-year economic plan for China suggests that Chinese insurers are the next on the Communist Party’s hit list.
As inventions go, the insurance industry, some would argue, has enabled people to live longer lives, drive cars more affordably, and generally cope with the vagaries of modern life in a dignified manner.
Yet that hasn’t stopped global investors from turning sour on Chinese insurance giants, and much of that may have less to do with the products themselves, but more with the way these products are sold.
For decades, some of China’s biggest life insurers leaned heavily on individual agents to push sales, not of insurance products, but short-term investment products that took lump sums from buyers and often guaranteed high returns.
In turn, these insurance agents received far higher commissions selling inappropriate products to an often unsophisticated and unsuspecting Chinese populace.
But since 2018, when Chinese authorities were forced to take over Anbang Insurance Group in 2018, as the highly aggressive insurer was at risk of collapse after a debt-charged acquisition spree, insurers have had to change tact and that has hurt their bottom line.
Because selling insurance is very much a face-to-face business, the pandemic has made it far more challenging for agents to sell policies, at a time when consumers themselves have less cash to spend.
Ping An (+1.37%) , one of China’s biggest sellers of life, health and property-and-casualty insurance, has shed some 3.7% of its agents already in the first quarter of this year, with some estimates putting the decline at 16% by the end of the first half of 2021.
The decline in agent numbers comes against a backdrop of weaker sales of new life and health insurance policies overall for the industry, just as claims are ratcheting up as well.
Ping An estimated that its property-and-casualty insurance business would have to pay out the equivalent of more than US$154 million in claims to cover losses from severe floods in China’s Henan province in July.
Insurers tend to make the bulk of their profits from selling investment-linked products, not plain vanilla insurance products.
And given that China is susceptible to a variety of natural disasters, from floods to earthquakes, claims are a lot more common than actuaries can often cater for based on legacy statistical models.
Climate change is also having a profound effect on China’s weather patterns, leading to more flooding.
As a result, China’s insurers would love to sell more investment-linked products, which tend to have much better margins and are far more profitable – but with that comes the risk that a product might blow up, leaving insurers exposed and customers unhappy.
And therein lies the biggest risk for China’s insurance industry – that Beijing could one day declare such “creative” products banned, or “exploitative” and cease their sales altogether, at a time when insurers are starting to get creative on new revenue sources.

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2. Defensive ETF Flows Suggest Bullish Sentiment Not Unabated

  • Investors are pouring more money into defensive sector ETFs, including healthcare, utilities and consumer staples 
  • Tech stocks, once seen as defensive, have reached high valuations, investors are hedging a fourth wave with bets on other sectors that corrected against a backdrop of supposed reopening of the U.S. economy  
Supply chain disruptions and rising prices are all pointing towards inflation, while the delta variant is raging across the U.S. and investors aren’t sticking around to find out what the U.S. Federal Reserve has in store next.
Or at least that’s what they appear to be communicating through the recent flow of billions into “defensive” exchange traded funds or ETFs.
With U.S. equities chasing higher highs, and investors understandably jittery over how long more this rally can last, ETFs linked to more defensive sectors like healthcare, consumer staples and utilities have all surged in recent weeks.
According to data from State Street Global Advisors, ETFs in defensive sectors saw net inflows of almost US$5 billion last month, after combined outflows of US$3.6 billion during the first half of 2021.
Investors are betting that the Fed is likely to start paring back asset purchases and bring forward interest rate hikes at a time when the U.S. economic recovery is starting to look increasingly shaky.
Domestic consumption, which makes up a full 70% of the U.S. economy has slowed as coronavirus case numbers have been soaring thanks to a far more virulent delta variant that has shown a propensity to defeat existing vaccine solutions.
Scores of unvaccinated are also not helping the broad reopening of the U.S. economy, with mask mandates returning to many parts of the U.S. as well as other pandemic-associated restrictions.
In contrast, ETFs linked to more economically-sensitive U.S. sectors – financials, materials, industrials, consumer discretionary, energy and real estate – all of which saw a boost on the reopening story, registered net outflows last month of some US$7.2 billion after soaking up some US$57 billion in the first half of 2021.
The story of the economic recovery and reopening is being complicated by the delta variant and a stubborn resistance to vaccination in significant swathes of the United States.
And as long as movement restrictions are not imposed, whether locally, statewide or across the country, the potential for a fourth wave in the U.S. is substantial.
Defensive plays make sense for the investor right now because while tech saw a big bump during the worst of the pandemic, but with tech and growth stocks already at record valuations, the risk-reward ratio is significantly skewed.
From that perspective a push into sectors that had come under pressure on the basis of the reopening narrative, such as healthcare, would be a good hedge if pandemic restrictions should be reintroduced, bearing in mind that the propensity for further mutation of the coronavirus is ever-present.

3. Decentralized Cryptocurrency Exchange Finds Need for HQ After All

  • Binance drops its insistence on decentralization and vows to establish HQs globally  
  • Shift towards greater regulatory compliance and hiring of ex-regulators may help Binance in its push to convert its existing user base into a platform that combines the best of its liquidity within a regulatorily compliant structure 
“I fought the law, but the law won.”
– I Fought the Law (1959), The Crickets, off the album “In Style with the Crickets”
Despite having no headquarters but operating everywhere, regulated nowhere, but serving everyone, the Hard Rock-esque “love all, serve all” ethos of Binance is now swapping a hoodie for a suit, as the embattled cryptocurrency exchange is seeking more compliance staff.
For years, Binance has been “hiding” in plain sight, operating the world’s largest cryptocurrency exchange by trading volume, while dancing around regulators and regulations.
Registered in the Cayman Islands, Binance has deftly dodged regulators at every juncture, preferring instead to establish local entities in some of its key markets, serving as entities that regulators in those jurisdictions could target, while leaving the main exchange unscathed, providing the ability to be everywhere and nowhere all at once.
Like the fabled hydra, that multi-headed snake that couldn't be vanquished, Binance embodied the theme of decentralization of the blockchain, despite having over a thousand employees, the company has no formal headquarters.
Despite handling billions of dollars in transactions daily, Binance has somehow managed to avoid regulation and yet managed to also attract millions in investment.
Hedge funds use Binance as do institutional investors in the know because for liquidity, the cryptocurrency exchange can’t be beat,  
Binance’s convivial CEO, Changpeng Zhao, or CZ as he is better known, is a regular feature on CNBC and Bloomberg, and hounded like a celebrity at major cryptocurrency events where he deigns to make an appearance.
But increasing regulatory scrutiny of the cryptosphere has seen the cryptocurrency exchange come under pressure and according to a report from Bloomberg, Binance is in talks with a former senior Singapore Exchange executive to take up the top job at the local business unit of Binance in Singapore, a key cryptocurrency hub.
Binance’s steadfast growth trajectory could be coined (pun intended) similar to Facebook’s (-2.21%) philosophy of “move fast and break things” gaining market share by being more aggressive and following far fewer regulations than rivals such as the regulated Coinbase Global (-2.35%).
But that growth mindset has also caused Binance to rub regulators the wrong way, and attracted regulatory scrutiny from countries including the U.S., U.K., Thailand and Japan.
CZ is willing to play ball however, and announced at a recent press conference that Binance will establish multiple headquarters globally and CZ is said to be looking for regional CEOs as well as a potential successor for himself, with a focus on compliance experience weighing heavily on the selection process.
While there’s no doubt that Binance’s recent moves are intended to placate regulators, it will take far more than a battalion of compliance staff to placate authorities in financial centers where issues such as anti-money laundering, tax evasion and know-your-customer have gained emphasis.

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Aug 18, 2021

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