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What Mattered #9 - Mispriced
Volatility often creates mispricing of assets.
Welcome to another edition of What mattered. An update on events and stories driving the global markets.
It was a volatile week for the markets with global markets trying to price in different kinds risks - inflation, delta variant and the pace of reopening and long term economic growth.
Monday saw a global sell-off in equities and a decline in yields, but the rest if the week was mostly 'up and to the right' for the U.S markets. The fears of the delta variant might not have subsided yet, which has stalled the reflation trade for now. Other developed markets which have relatively higher exposure to economically sensitive stocks have underperformed the U.S markets this month.
Are these risks fairly priced or could there be surprises on the downside or the upside?
The emerging markets have been quite volatile too. For different types of risks, which we'll come to later.
Internet is (still) winning
Earnings season is back! TWTR and SNAP released their Q2 2021 earnings this week and both beat estimates handsomely.
Twitter saw its mDAU (monetisable Daily Active Users) reach 206 million (11% growth), in line with estimates. Revenues were USD1.19 billion (vs USD 1.07 billion expected), with USD65.6 million net profits (vs a loss of USD1.38 billion a year ago).
Revenue growth has picked up again and user growth is ticking up.
The company plans to launch a subscription service, has added Tip Jar and Super Follows, and freshly shipped tools like Spaces and Newsletters have already started creating traction. If it can execute well, it could be a interesting play on the creator economy.
Snapchat beat expectations across the board too. DAU's reached 293 million (5% growth) whereas revenues hit USD982 million (vs USD 846 million expected). It expects revenue growth to be 50-60% for Q3.
Different user base, Different products but ultimately vying for the same ad-dollars. Both social media companies are trying to diversify their revenues, with SNAP dipping its toes in hardware and AR/VR pool.
While TWTR is trying to improve its user monetisation while expanding its user base, SNAP is going for the millenial and Gen-z crowd, with tools aiming to increase engagement and rake in more ad-dollars.
Other advertising giants like FB and GOOG were up 5% and 1% respectively on Friday with the markets now expecting stellar results across the internet basket. Internet is still winning.
So you want to invest in emerging markets
Movement of capital and tech across borders and has given us unfettered access to whatever market and whatever products we want to invest in. Over last decade or so, ageing developed economies and saturating growth has shifted the flow of incremental capital towards developing and emerging markets in a considetrable fashion.
Chinese stocks were one of the biggest beneficiaries from this secular trend. The likes of Alibaba, Tencent, Meituan and other tech giants outpaced the rest of the emerging markets and attracted swaths of capital to fuel their growth. And it shows.
The biggest emerging market indices, and the funds that track these indices have a massive overweight on China. For instance, VWO, the largest EM ETF by AUM has a 40% allocation to Chinese stocks.
'Unfree' markets, restricted access, a government looking to tighten the regulatory noose on its businesses. What could go wrong?
Ever since the government put the brakes on ANT Financial's IPO (USD34.5bn worth) back in October 2020, the markets woke up to a new regulatory risk in the Chinese financial markets. But most investors were undeterred, and some were unaware. They might have dismissed this as a one off event.
Then came DiDi's USD4.4bn IPO. A day after it went public in the U.S, another regulatory shenanigan banned the app from the Chinese app store. 43% of shareholder wealth wiped off with a flick of the premier's pen.
One more regulatory bomb set-off in China yesterday. The government is now considering turning all education and tutoring companies into non-profits. No IPOs, no fundraising. Government intrusion in private businesses, exemplified. Here's an informative thread on the rationale behind this move.
Did the index providers misprice the regulatory risk, or fail to assess the mispricing? Passive funds and investors that allocate their savings to these funds take the brunt of the drawdowns ultimately.
As the narrative picks up pace, other under-owned emerging markets could start to look more attractive both in the public and private markets.
But as far as the investing in tech goes, capital has already started shifting to 'safer' tech markets.
ETF of the week
Regulatory risk in China is real. But emerging markets still look attractive from an investment standpoint. Not only it give you some exposure to pockets of high growth, it lets you to be a part of a change. If you've got a long-enough time horizon and a decent risk apetite, investing in markets that are currently undergoing technology led transformation all around could be fruitful.
This edition's ETF of the week - iShares Emerging Markets ex China ETF (EMXC). It gives you an exposure to rapidly growing emerging markets across the world, without the regulatory risk we discussed above. Idiosyncratic risks are prevalent here too. But it might better from a risk-reward point of view.
The ETF has outperformed VWO by a few percentage points and could continue to do so as investors shun Chinese stocks.
Here's how the regional exposure looks like:
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Until next time,
The Atomic Investor