CWS Market Review – May 11, 2021

“When I was young, I was a terrible investor. But after decades of hard work, I am no longer young.” – Douglas A. Boneparth

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The Nasdaq Hits the Skids

Suddenly, the Nasdaq is getting a lot of attention from traders, and it’s not the good kind. The index trailed the S&P 500 for nine out of ten days. It would have happened again on Tuesday, but a big intra-day reversal held back the trend for at least one more day. At one point, the Nasdaq was down over 2% on Tuesday. Things may not get better soon. The Nasdaq also dipped below its 50-day moving average which is often a sign of more bad times to come.

What’s happening is that the Nasdaq is heavily weighted towards popular tech stocks such as the FAANG stocks (Facebook, Amazon, Apple, Netflix and Google), and those stocks have been feeling the heat.

It’s not just the FAANG names. In January, Tesla broke $900 per share. This morning, it dipped below $600. Alibaba is off over 30% from its 52-week high.

These stocks had been doing so well for so long, but now it appears that valuation concerns are finally coming to the surface. No doubt, Amazon is a great company, but should it really be going for 45 times next year’s earnings? Of course, that’s the problem with momentum investing. What happens when it becomes momentum in the other direction?

This is really a continuation of a trend that we saw in February and March when tech stocks badly lagged. That trend quickly petered out, until now. In fact, you can even trace a larger trend of tech names falling out of favor back to Labor Day. Instead of one continuous trend, we’ve seen sharp waves of a few weeks each where tech stocks get dinged.

Here’s a chart of the Nasdaq divided by the S&P 500:

Yesterday, the S&P 500 fell over 1% for the first time in two months. But it was an odd day because the down stocks were down a lot. Callie Cox has some revealing stats; 40% of stocks in the S&P 500 made a new high on Monday. On a big down day! Traders are running from growth as fast as they can.

It’s interesting that this rotation has occurred as the overall market has rallied. Friday was another all-time high close for the S&P 500. Normally, the popular names lead during the entire bull market. It appears that crypto and meme stocks have supplanted these areas as the place where the real risky business happens. Bloomberg quotes one energy trader, “All the fun that used to be had 30 years ago in the commodity markets and is no longer fun—that fun is now in crypto.” I think that’s right.

What I think is happening is that the rise in bond yields is putting the squeeze on valuations. Normally, earnings multiples are aligned with bond yields. The lower yields go, the higher P/E Ratios rise. Last summer, the 10-year yield was going for about 0.5%. Now it’s up to 1.6%. That’s certainly not high in an absolute sense, but it’s higher than where it was.

I’m a fan of Cathie Wood and her ARK Innovation ETF (ARKK), although the fund goes into areas of the market we generally avoid. She’s done a remarkable job, but her ETF has been clocked hard lately. ARKK has lost about 30% of its value in the last three months, and it’s been in a tailspin lately.

There’s also a liquidity concern with ARKK. Wood has so much money to manage that she owns more than 10% of the outstanding shares in a number of stocks. I often say that with ETFs, the liquidity issue isn’t the trading of the actual ETF. Instead, it’s the trading of the underlying securities. That’s why CWS has never had a liquidity problem. We’re mostly in mid- and large-cap stocks. If ARKK is hit with redemptions, that could spark a selloff in some of Wood’s smaller positions.

This underscores an important lesson about portfolio management. Several of her stocks are correlated with each other. An investor can have many stocks in his or her portfolio and still be very undiversified.

Even though we have a focused portfolio at our ETF (CWS), our portfolio has its hands in many different sectors. For example, shares of Hershey (HSY) quietly made a new high on Tuesday, even though many high-profit stocks looked nervous. You can see more info on the ETF here.

The Most Disappointing Jobs Report of All Time!

Wall Street is still in shock over Friday’s jobs report. Economists had been expecting an increase of one million jobs. Instead, the U.S. economy added just 266,000. The unemployment rate ticked up to 6.1%. One analyst said, “This might be one of the most disappointing jobs reports of all time.”

There’s already a lot of finger-pointing going on. This is an unusual time for the jobs market because more employers are simply having a hard time finding workers. This morning we learned that jobs openings hit a record high of 8.12 million.

Bloomberg reports that “many employers say they are unable to fill positions because of ongoing fears of catching the coronavirus, child-care responsibilities and generous unemployment benefits.” There are 2 million more jobs vacancies than new hires. That’s the highest on record.

The New York Times mentioned a beach restaurant that’s offering a case of 120 Minute India Pale Ale as a signing bonus. Not bad. The jobs report is especially frustrating as more state and local economies are getting back to normal.

Tomorrow, the government will release its CPI figures for April. There’s growing talk that inflation is on the rise. Last week, Treasury Secretary Janet Yellen told The Atlantic that the Fed could easily handle inflation with modest rate increases. The market reacted harshly. Later that day, Yellen clarified that she wasn’t expecting inflation. She just meant that it could be handled if it arrived.

Instead of government officials, I prefer to see what the market thinks. A good gauge is the 5-year breakeven rate. That’s the difference between the 5-year Treasury and the 5-year TIPs. In other words, it’s the market’s guess as to the rates of inflation over the coming five years. The 5-year breakeven recently jumped above 2.7% which is a 13-year-year high. That fact is being mirrored in the foreign exchange market as the U.S. dollar is near a two-and-a-half year low.

Clearly, higher prices are on the way. One area where we seeing higher prices is at the pump. As a result of the recent pipeline attack, we’re seeing gas lines across parts of the southeastern U.S. According to GasBuddy, 7.6% of gas stations in Virginia didn’t have gasoline. In North Carolina, it was 5.8%. On Monday, gasoline demand jumped 20%. In five states; Georgia, Florida, South Carolina, North Carolina and Virginia, demand was up more than 40%.

All sorts of commodity prices are up. Corn is up more than 50% this year. Lumber prices are through the roof. The WSJ reports that farmers are planting like crazy. The newspaper notes that bullish bets on corn outnumber bearish ones by 17 to 1.

Stock Focus: The Trade Desk

On Monday, shares of the The Trade Desk (TTD), got absolutely pummeled. The stock plunged 26% in one day. This is noteworthy because The Trade Desk had been a big winner. From its low in March 2020 to its high in November 2020, TTD gained more than 560%.

Thanks to yesterday’s train wreck, this sounds like a good opportunity to take a closer look at this stock that’s still not very well-known.

The Trade Desk markets a software platform that’s used by digital ad buyers to build data-driven advertising campaigns. In other words, they help companies get the most bang for their buck on the web.

Ten years ago, Jeff Green left a job at Microsoft to start The Trade Desk. Microsoft had purchased Green’s online auction advertising company. While at Microsoft, he met Dave Pickles who would later become his partner at The Trade Desk. Today, Green is the CEO and Pickles is the CTO.

Green and Pickles’ idea was simple. They felt that the large tech companies had been stifling environment for online advertising by creating a “walled garden” approach to content and data. As a result, advertisers weren’t getting the kind of transparency they wanted. In stepped The Trade Desk.

The Trade Desk’s solution is that it offers a real-time bidding technology platform. This way, media buyers can target specific audiences with customized ads. Users can manage their digital ad campaigns in real time. They can even use third-party data to optimize their strategies. This saves a lot of time and money for companies’ media strategies.

The “open Internet” idea is a big deal. The large tech companies have dominated the advertising space for so long, and it’s ripe for being upended. What’s happened is that the major tech companies have fiercely guarded their territory and refused to give up any control of the advertising process. This hasn’t won them many friends among government regulators.

The Trade Desk is based in Ventura, CA. They currently have about 1,000 employees and a market cap around $24 billion. The Trade Desk had its IPO in September 2016 at $18 per share. After Monday’s plunge, it’s around $511 per share.

There’s been a lot of misunderstanding about The Trade Desk’s business and that’s because some investors seem to believe that it can easily be blown out by giants like Google or Facebook.

That’s not true and this highlights the key difference that The Trade Desk offers. If a company wants to advertise with, say, Google, then they go to Google. If a company wants to advertise with Facebook, then they go to Facebook.

But if a company wants to use The Trade Desk, then the Trade Desk can tell them that the best and most cost-effective place for them is The New York Times or The Wall Street Journal or Hulu or any number of places.

The Trade Desk is not a direct competitor to Google or Facebook. Jeff Green said that The Trade Desk is hardly a concern to those companies. The Trade Desk can and has partnered with just about anybody.

The company is enormously profitable and so many trends are working in The Trade Desk’s favor. Digital ad spending will continue to grow at a double-digit rate. The Trade Desk’s gross margins are close to 80%. I haven’t seen anyone else provide digital marketing managers the scope that the Trade Desk offers.

So what happened on Monday? Did they miss earnings? Not exactly. The Trade Desk reported earnings of $1.41 per share. That was 83% higher than expectations. Revenues were also above expectations.

If the results caused the stock to plunge, then I’m curious what the real expectations were for. The Trade Desk also said that Q2 revenue will be higher than expected. If that’s not enough, The Trade Desk also announced a 10-for-1 stock split. This is a very confident company. On Monday’s earnings call, Jeff Green said, “when we compete, we usually win.

I like this company a lot and I’m keeping a close eye on it. The stock isn’t cheap (73 times next year’s earnings), but it’s certainly cheaper than where it was.

That’s all for now. I’ll have more for you in the next issue of CWS Market Review.

– Eddy

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