What mattered #8 - Transitory?
Is it really transitory?
Welcome to What Mattered. An update on trends and narratives driving global markets and why it matters for your investment portfolios.
First, an inflation check. The U.S CPI reading came in higher than expected (5.4% YoY, a record since 2008). Policymakers still believe its transitory and the price increases will fade away as supply normalises.
U.K CPI too came in higher than expected, a 2.5% increase from Jun-2020. While the Fed is still 'thinking about thinking about rate hikes, officials at the Bank of England feel the rates should be hiked sooner (earlier than 2023).
ECB, meanwhile set a new 2% inflation target and said it could allow CPI to move beyond that mark temporarily. This is a historic shift from its previous stance of below 2%. As global central bankers run out of ways to stimulate growth, this buys them more time and room to keep rates lower. Looks like we're moving towards an average inflation targeting. Tighten seatbelts and expect more volatility.
But here's why it matters:
One, opportunity costs stay low, debt costs nothing, the value of money keeps declining and asset values stay elevated with discount rates staying low.
Two, this pushes investors towards alternative (and riskier at times) asset classes like private equity, venture capital, private debt, wine, art, crypto and so forth. Private markets are already having the time of their life.
For the past couple of weeks, we've been witnessing the narrative changing like a coin-flip. We saw the 'Roaring twenties' (which I wrote about here) take hold since the start of the year that put the 'reflation trade' in the driving seat.
Now, the talks of tapering of Federal Reserve bond buying program has led the bond market to believe that this would out an end to 'growth narrative' too soon and we'll be back to low-growth-low-inflation environment.
I look at 10 year treasury yields vs relative performance of growth and value in the chart below (Russel 1000 Growth ETF/Russel 1000 Value ETF)
Bonds rallying on higher inflation has puzzled most market participants, but as they, it changes slowly, then suddenly.
Equities have been on a tear globally. This quarter saw a record inflow into global equity funds, which maybe suggest that the markets are taking the other side of the coin, for now.
Yields are expected to be low, global central banks are likely to be supportive with global liquidity aplenty. And for those who're wondering why I talk about yield's so much, I wrote a piece a few weeks ago here.
Here's how the major developed market ETFs have fared over the last month:
As noted above, the tech heavy QQQ outperformed on the back of lower yields and a demand for tech and growth assets. Europe and UK have more exposure to economically sensitive sectors and are likely to do well in a reflationary environment.
(On a side note: I keep reminding myself about the dispersion between the U.S and other developed markets. UK and EU have been slower to innovate, but they are slowly catching up. These major indices are not representative of all that is taking place in the new-economy sectors. Valuation discounts and lower market coverage should provide some interesting opportunities for the interested)
In APAC too, markets with more tech exposure, like Taiwan, outperformed whereas Australia and India were flat due to a higher cyclical exposure. China has idiosyncratic problems, the growth story did not materialise, and the regulatory scrutiny on their tech giants has dampened the recovery outlook over the last month.
(On another side note: The EM playbook is not what it used to be. Historically, flows into EMs and Asia have correlated strongly with the commodity cycle and reflation (EMs being major exporters of commodities). But lately, commodities and EM indices have decoupled as Asian economies have come to dominate (China, Taiwan and India). And what has changes is sector exposure. Tech (including communications and consumer discretionary) makes up 38% of the MSCI EM index now with <5% for energy and 9% for materials. Maybe its time to change your EM lens?)
What has not been transitory is the sky-high valuations commanded by some of the fastest growing fintechs in the world.
WISE went public last week in a direct listing, a rare first for the high flyers to go public via this route. With a valuation of GBP 9.6bn, 10 mn customers, and sales of GBP 421mn, its trading at a P/S of 22x. Hefty.
Revolut, another London based fintech, raised its series E round this week at a price tag of GBP24bn. (!) It has 12.5mn customers with GBP261mn in revenue. Still doesnt make a profit.
Another high-flyer from India, Paytm filed to go public this week with the Indian regulator. It boasts a monthly active customer base of 150mn customers, 21.1mn merchants and revenues of USD460mn, its asking for a price tag of USD25bn. And yes, it reported a loss too. USD228mn.
While the business models, product offerings and growth trajectories of these three fintechs differ, one ought to wonder which one's a better investment opportunity. An already profitable fintech with a focus on currency transfers and exchange (Wise), a global fintech that wants to be a bank with exposure to developed markets (Revolut) or a emerging market super-app backed by an array of leading investors and a much bigger TAM (Paytm)?
Disruption in traditional banking and financial services has come a long way and as the competition heats up and the pace of financial innovation speeds all over the globe, for the incumbent banks its either BUY OR DIE. As Jamie Dimon recently put,
"We’ll do whatever it takes. And so help us, God.”
ETF of the week
With real yields deep in the negative territory all over the world and inflation picking up, I'm looking at some precious metal ETFs for the next few months.
SLVP - iShares MSCI Global Silver and Metal Miners ETF. The ETF holds the worlds largest silver and precious metal miners. This works well as a second order play → metal prices appreciate, margins for miners expand. As the saying goes 'in a gold rush, buy the shovels'
I'm aware of the risks - After an astounding rally over last year, prices are likely to correct. Also, as yields rise, asset classes with no yields start underperforming.
However, the rally in metals might not be done yet. Silver and Copper could be long term structural plays as the demand for electronic components for EVs and batteries accelerates. The ETF has a yield of 3.25% providing additional cushion (another reason to pick this over going directly for precious metals.)
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Until next time,
The Atomic Investor