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Novum Alpha - Daily Analysis 24 August 2021 (10-Minute Read)

There's nothing quite like a good virus scare to encourage vaccinations. Investors are betting on equities once again as signs that a recent vaccination drive in the U.S. is starting to gain ground, lifting sentiment on Wall Street.

A terrific Tuesday to you as stocks continue to advance ahead of a key economic symposium at Jackson Hole. 

In brief (TL:DR)

  • U.S. stocks opened strongly on Monday, with the Dow Jones Industrial Average (+0.61), the S&P 500 (+0.85%) and tech-centric Nasdaq Composite (+1.55%) as investors bet on equities ahead of a key economic gathering of policymakers at Jackson Hole. 
  • Asian stocks opened firmer Tuesday after a boost to the U.S. vaccination drive allayed some concerns over the delta strain’s impact, lifting U.S. shares.
  • Benchmark U.S. 10-year Treasury yields were steady at 1.26% ahead of the Jackson Hole symposium (yields rise when bond prices fall) on the back of thin volumes. 
  • The dollar held a drop.
  • Oil steadied after surging with October 2021 contracts for WTI Crude Oil (Nymex) (+0.35%) at US$65.87 in a return of the so-called reflation trade. 
  • Gold rose with December 2021 contracts for Gold (Comex) (+0.02%) at US$1,806.70, finally breaching the US$1,800 level. 
  • Bitcoin (-0.38%) was at US$49,266 after hitting US$50,000 as outflows slowed against inflows (outflows suggest that investors are looking to hold Bitcoin in anticipation of higher prices). 

In today's issue...

  1. Beware the Treasury Tantrum
  2. Wall Street Courts Europe as Chinese Listings Languish
  3. Psst! Wanna buy a Bitcoin ETF? 

Market Overview

There's nothing quite like a good virus scare to encourage vaccinations. Investors are betting on equities once again as signs that a recent vaccination drive in the U.S. is starting to gain ground, lifting sentiment on Wall Street. 
And that's helping to reignite the reflation trade - bets on companies that will do particularly well as the economy reopens.  
More vaccine mandates are also helping to support the prospect of an economic reopening in the U.S. and that's helping to fuel equities higher as well in Tuesday's Asian session, with Tokyo's Nikkei 225 (+1.03%), Hong Kong's Hang Seng (+1.56%), Seoul's Kospi Index (+1.47%) and Sydney’s ASX 200 (+0.28%) all higher.

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1. Beware the Treasury Tantrum

  • U.S. Treasuries are trading in the thinnest liquidity in almost half a year
  • Wider spreads in benchmark U.S. government debt and thin markets with few traders could lead to sharp increases in volatility which will spillover into the equity markets 
Investors are in for a choppy week in asset markets, not least because the one thing that almost all traders take for granted – liquidity for U.S. government bonds – appears to be drying up.
Trading conditions in the US$22 trillion Treasury market, the bedrock of the global financial system, has deteriorated, as investors brace themselves for a key speech this week from U.S. Federal Reserve Chairman Jerome Powell at the conclave of central bankers and other stakeholders in Jackson Hole, Wyoming.
Every trader knows that liquidity is key to the market, without it, price is more a function of fiction than fact.
But uncertainty over Fed policy has kept investors on the sidelines and their cards close to their chest, and the dying days of summer have kept traders on beaches instead of Bloomberg terminals, worsening the problem.
As markets go, the Treasury market is the world’s biggest, deepest and most important bond market, acting as a benchmark that determines what we pay on anything from auto loans to student loan debt.
Investors are still nursing both financial and psychological wounds from the recent bouts of abrupt falls in liquidity in the Treasury markets earlier this year, that saw yields spike and spooked equity markets, with a severe selloff in Treasuries still fresh in the minds of traders.
And as every trader worth their salt knows, thin markets make for great volatility.
Bid-ask spreads, the gulf between how much sellers are willing to sell, and how much buyers are willing to pay, for benchmark U.S. 10-year and 30-year Treasuries, hit five and a half month highs earlier in August and while they’ve come down somewhat, are still elevated.
The bigger the spread, the greater the evidence of illiquidity – heavily traded instruments like U.S. Treasuries typically have narrow spreads because their markets are deep and liquid.
Investors remain jittery ahead of Jackson Hole because policymakers, as revealed from the minutes of the Fed’s most recent meeting, are starting to disagree on whether the central bank should start withdrawing its US$120 billion-a-month asset purchases, the precursor to removing support from the economy.
Powell’s upcoming speech at Jackson Hole will be studied closely for clues as to the Fed’s next move.
Given the threat of the delta variant, soaring infections and evidence that U.S. consumer demand is flagging, equities will gain if Powell indicates that the Fed will need to continue its asset purchases just that little bit longer, and will help keep Treasury yields low, which fuels the investment case for stocks.
But if Powell remains sanguine about economic prospects and indicates that the longer the Fed remains in the market, the more it distorts normal market feedback mechanisms, Treasury yields are likely to spike and hit growth stocks particularly hard.
Odds are though that the Fed will stay the course and that’s because Powell looks set to receive another term as Fed Chairman, after receiving an endorsement from U.S. Treasury Secretary Janet Yellen, ensuring a consistency in policy application.
And Powell has repeatedly demonstrated that he’s had a steady hand at the helm of the Fed, not blinking despite bouts of inflation and not caving to patchy data on the economic recovery.

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2. Wall Street Courts Europe as Chinese Listings Languish

  • European companies have flocked to IPO on Wall Street at the highest rate in over two decades 
  • Not all European IPOs have done well, especially given that few are in novel business sectors or have strong growth stories 
In the 1990s, as China was opening up its massive economy, there was a rush to learn mandarin on Wall Street.
Almost overnight, bankers in Brooks Brothers suits were attending crash courses on mandarin and trying to navigate the intricacies of doing business with the Chinese.
And well they should have, as Wall Street courted some of the biggest IPOs of the time, including Chinese e-commerce juggernaut Alibaba Group Holdings (+5.33%) and search giant Baidu (+6.69%).
But a purge by Beijing of some of China’s biggest names in the tech business and increasing uncertainty surrounding the prospect of Chinese companies listing in the U.S., has lead to a bout of pragmatism on Wall Street and a return to the Old Country in search of business.
Largely ignored by the Wall Street crowd, European businesses are rushing to fill the vacuum left behind by the Chinese and looking to list on American bourses at the fastest pace in over two decades, lured by the promise of higher valuations and IPO-day breakouts.
Swiss sneaker brand On Holding, backed by tennis superstar Roger Federer announced yesterday that it will list in New York, while cryptocurrency miner Argo Blockchain (+3.79%), filed for a U.S. IPO last Friday, adding to the US$9.5 billion already raised by European IPOS this year alone.
But Europe is not giving up its best and brightest companies without a fight, and exchanges across the continent are trying to lure IPOs closer to home by changing rules to make them more friendly for loss-making startups.
Yet nothing will quite replace the willingness of U.S. investors to spend big on new stocks, especially in hot sectors like cryptocurrencies, fintech and electric vehicles, which makes Wall Street a big draw for some of Europe’s most promising companies.
With public debuts from Chinese companies all but evaporated since the calamitous listing of Chinese ride-hailing company Didi Global (+3.35%), the resurgence of European firms on Wall Street could not have come at a better time.
But unlike most Chinese IPOs on Wall Street, many European IPOs fail to take off.
Teads BV, the digital and advertising arm of media conglomerate Altice (+1.61%) and hearing-aid maker NV both delayed their U.S. listings in recent months, with some suggesting a difficulty in finding underwriters to support the IPO or concerns over price.
And even those that have made it out the gates, can fizzle after the opening day’s rally – take for instance Swedish plant-based drink company Oatly Group (+3.58%), which soared by over 30% at the open, but is now down around 6.1% below its IPO price.
But that hasn't stopped European firms from trying because after all, if you can make it in New York, you can make it anywhere.    

3. Psst! Wanna buy a Bitcoin ETF?

  • More asset managers are filing for a Bitcoin ETF, but the latest applicants are not offering exposure to the underlying, instead they track Bitcoin futures via an ETF 
  • If a futures-based Bitcoin ETF is approved, investors may want to take note of the disconnect and complexities in the relationship between such an ETF and Bitcoin itself which they hope to track 
It’s been eight long years (two Olympics in normal times) since the first U.S. Bitcoin ETF application was rejected, back when the cryptocurrency was worth only US$100.
But that rejection hasn’t stopped asset managers and cryptocurrency advocates of every stripe from pressing forward with applications to file for a Bitcoin ETF with the U.S. Securities and Exchange Commission.
And there are signs that that day of deliverance for the crypto-faithful may finally be here.
With a crypto-savvy Gary Gensler at the helm of the SEC, the prospect of a Bitcoin ETF is higher than ever, and another four asset managers are known to have tossed their hat in the ring.
Gensler indicated earlier this month that he could potentially approve a Bitcoin ETF, but what the latest clutch of asset managers are offering isn’t quite what investors may be looking to buy when they shop for a Bitcoin ETF.
Instead, Valkyrie Investments, VanEck (+4.12%), Invesco (+2.08%) and ProShares have all filed to launch Bitcoin-tracking ETFs that would invest in futures instead of buying the underlying cryptocurrency.
And while that makes sense from a risk management perspective, doing away with the clunky and difficult portion of custody for Bitcoin, it may leave investors somewhat dissatisfied, a bit like buying a Diet-Bitcoin ETF.
Part of the draw of a Bitcoin ETF backed by actual Bitcoin held in custody, is that it helps investors to participate in the growth of the cryptocurrency without having to manage the clunky custody portion.
No messing around with private keys and no mucking about with hardware wallets, a Bitcoin ETF backed by actual Bitcoin in custody would be just what investors are asking for.
And futures-based Bitcoin ETFs, even if they are approved, introduce a whole new layer of complexity and nuance that investors may not have signed up for, including tracking error (the divergence between a futures price and the spot price of the underlying asset) as well as phenomena in the futures market such as convergence, divergence, contango and backwardation.
With Bitcoin continuing to be primarily led by retail investors, especially in the U.S., it’s hard to see the demand for futures-based Bitcoin ETFs.

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Aug 24, 2021

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