Weekly Plan 4/9/23
AI, Deflation & Censorship
Traders-
The primary expectation this week was to see the market remain range bound between the two key levels I shared in the Weekly Plan below.
The upper level shared last Sunday was indeed the high of the week, and on the downside, we came close to testing the lower bound of the range but the sellers ran out of steam below 4100, and we rallied to end the week near 4150.
See Chart A below. This could be setting up for a failed breakout. ‘Look above & fail’ could be a key sign of weakness.
From an event perspective, the earlier part of the week saw a series of economic data points suggesting an incoming downturn and recession in the US. Despite being dovish, the market found reasons to sell off. So in this sense, the bad news was bad for these markets.
This trend saw a reversal on Friday with stronger-than-expected non-farm payrolls (NFP). The job market added 236, 000 jobs, a tad higher than expected with the wage inflation remaining unchanged. From my perspective, this was a strong jobs report, and it added to the number of folks who think it keeps the door open for more than 25 BPS rate hikes by this FED.
Among the Big tech, mega-cap stocks, names like GOOG and AAPL were big winners. GOOG in particular remained strongly bid after confidently stating that their AI is ‘faster and better’ than NVDA AI. This was good enough for the markets to run up the stock value by more than 7% this week.
AI is the latest fad.
This is very akin to 2021 when all you had to do was add ‘crypto’ or ‘coin’ to your product marketing and you could be assured of a decent bounce to the stock price. The market is liking this and any company that uses AI as a catchphrase is instantly rewarded- we saw this earlier with NVDA and now with Google. The way I see this is that these AI developments have been in the pipeline for years. In the Valley, you have had folks invested in these companies based on OpenAI from seed funding rounds. It is only now that retail is getting an opportunity to jump on the bandwagon and I am afraid a few will get burned badly. Again, the technology behind AI is not in question but I am questioning the valuations.
TSLA and NVDA remained weak on the week, with TSLA, in particular, losing about 5% of its value this week, being the weakest of the TOP mega-cap names. On swing time frames, I have had a bearish view of TSLA from the $210 level. Notably, this is the same level that saw sellers reemerge after record sales numbers from the automaker.
Tesla has been angrily cutting prices this year.
The company has cut sales prices five times this year alone, at a frequency of about a price cut every 3 weeks. This helps them move the inventory and capture the market share. That is a plus. This also means they make a lesser profit on the sale- which is a negative.
Longer term, these sales price cuts will not matter. In fact, it may be a net plus as it casts a wide net over the EV market. Once you buy into a brand, most folks remain loyal as long as the product is satisfying. In the shorter term, this has its pros and cons. The markets are near-sighted and hence the current bout of sell-off. I personally view these sales cuts as neutral. I think these are helping TSLA reach more customers and in that sense, it may even be a mild plus.
However, there are factors that are beyond the control of the company. For instance, the car loans for new cars are now on average around 6-7%. Only a year ago, prime borrowers could get a car loan from 0% to 1%. So this will dissuade some buyers and will reflect on the sales numbers throughout the year.
Tesla's head also made waves in other areas this week
The controversy erupted after Musk-owned Twitter sterilized all links to Substack on its platform. Supposedly this came on the heels of Substack launching a new social media product with features similar to Twitter.
My view of this development is complicated, to say the least.
One on hand, I will question the feasibility of a Substack Social media. Substack reach, at least in 2023, is relatively limited to the intelligentsia of the US. In fact, this blog is one of the largest publications on this platform. But when contrasted with larger accounts on Twitter, the number of subscribers here are a fraction. I see Substack as a niche publication that caters to a very discerning taste. I do not view this as a broader, generalized social media platform.
Then, on the other hand, I question Musk’s aggressive stance on this move by Substack. It is not very different when on Twitter we promote & support other accounts. Competition, whether big or small is good in any case in life. It keeps you motivated and focused. I think from a Substack author's perspective, Twitter is important to promote and market your work. I am not a big fan of Musk’s lockdown. I think it also highlights the lack of growth in Tesla. Why would world’s richest man even care about a small 1-2 billion dollar value company is beyond me. He should focus on making and selling great products and setting up a colony on Mars. Let mortals like us post memes on Twitter.
I recommend an amicable solution to this. Twitter should partner with Substack to market and promote Substack authors. Substack should focus on what they do best - independent writing and not morph into a half-baked social media. Everyone a little happier.
My S&P500 levels for this week
Let us use this segway to highlight where we are longer-term & what are current drivers of price action, before diving deeper into the levels for the week.
For benefit of the newer readers, I want to paraphrase this auction and my own bias from last year or so. I have been an S&P500 bear from last year at 4800, with swing time frames ranges shared both on the bullish and bearish side. The US FED reserve started raising rates aggressively to combat generational high inflation last year, and rapidly raised reserve rates from a low of about 0% to the current high of 5%. This is a torrid pace and in my memory, I have not seen a more aggressive Central Bank, at least in the Western hemisphere.
This phenomenon has intended as well as some unintended consequences. As a result of these aggressive rate hikes, and accompanied by Quantitative Tightening, asset prices in some areas, like the stock market has receded. This is expected. This also caused some unintended (but expected) bank failures, bank runs and financial stability issues. When these bank failures occurred last month, the people in charge and FED rushed to the rescue and the agencies in-charge backstopped any losses to deposits due to this bank runs.
The stock market responded very positively to these developments and since the initial shock to the downside, has been now making new highs in some stocks. Big cap, big tech stocks in particular have benefited a lot from this event, and the TOP 20 S&P500 stocks added about 2.5 trillion dollars to their market cap. In contrast, the remaining 480 added a paltry 170 billion in total.
Quite lopsided.
My own take on this market rally is detached amusement. I do think this sugar rush will wear off soon and we will test last year’s lows in the S&P500.
Why?
Actually a few reasons.
The full effect of these rate hikes on the economy is yet to be recorded. Let us ask ourselves why the 480 or so companies added only 170 billion in market cap when the other 20 added 2500 billion. Why? What is the difference between those 20 and the 480 that did not do much? These companies have a lot of debt that needs to be rolled over from about 0% to a far higher level now. The FED can not cut rates fast enough to prevent some of these from going bust.
As if these current rates are not enough of a problem, the recent bank crises will also curtail credit. Credit will dry up. Read my post above to understand how credit creation is keyt for the US economy.
The layoffs in tech sector will soon begin impacting other sectors in the economy from housing to retail to hospitality. The contagion will spread.
I believe even if the FED were to cut rates now to 0%, it may not be enough to prevent any of what I described above. I think even if the FED were to cut rates to 0% in May, it will not be able to prevent the S&P500 from retesting its lows from last year.
Now, will they cut the rates to 0% this year? I doubt so. A lot of this recent rally in the tech sector is a result of increasingly dovish bets that the FED will not raise rates anymore and will in fact begin cutting rates. Even if the FED cuts rates, I think the rates will now not go back to 0%.
There are some who argue that if we get a mild recession this year, it will fix the inflation problem. I really doubt so. I look at it from a lens of where the energy sector is. The energy sector is usually the first to perk up when inflation raises its head and the last to die with the economic bust. I think the energy prices are here to stay higher for longer which means that inflation will remain relatively high. I will not be surprised if the US inflation remains above FED target of 2% for the rest of this decade. Yes, we are talking about 7-9 years of 3-4% plus inflation.
How do we get out of this?
I think an economic bust with a complete collapse of oil prices back to $30 a barrel or below could truly fix the inflation problem. If the Oil prices remain even at 60-70 dollars a barrel, I think 4% inflation is here to stay. Oil at 90 a barrel or more? You do the math.