The Weekend Edition # 14

Welcome to another issue of the Weekend Edition. 

Thank you to all who’ve read and subscribed to the newsletter this week! The newsletter is gaining momentum and I’m so grateful.

Now, let’s grab a cup of coffee ☕️, while we take a look at what happened in the markets this week. 

Here’s what we cover:

• Market Recap - Higher highs across the markets

• Economic Indicators of the Week - What’s going on with Housing?

• Earnings of Week - Tesla, Chipotle, American Airlines, FCX, Lam Research, P&G, Amex.

• Around the Markets - A few new issues - WeWork, Vita Coco, Portillo’s

• The Week Ahead

• Closing Thoughts - allocation to Real Estate

Let’s dive in ⬇️

Market Recap - Oct 18 - Oct 22, 2020

We’re back to the S&P hitting all time highs driven primarily by earnings beats. While it’s true not every beat translated into higher stock prices, the banks, industrials and healthcare have certainly done well. According to Factset, of the S&P companies that have reported thus far:

• 84% have reported earnings beat

• Average earnings are also 13.4% above estimates, tracking above the 5-year average

• 75% of these companies also have revenues ahead of estimates

• An average of 2.25% over revenue estimates, also above the 5-year average.

Prices for commodities still remain elevated and so it shall be… inflation persists. Gold and Silver saw a slightly better week, while Oil still remains the reigning champion inching up every day. We had brief pause with news of China state regulators focusing on improving supply conditions and some talk of increasing US inventories. But, that faded quickly. Word on the street is Oil hits $100/bbl this year.

On Friday, Fed Chair Powell spoke at an international panel discussion which sent the market down very briefly. He didn’t really say anything we didn’t know but, I suppose his words were a bit more forceful this time and he definitely acknowledged the persistence of inflation:

• “The risks are clearly now to longer and more persistent bottlenecks, and thus to higher inflation”… and … “are likely to last longer than previously expected, likely well into next year”

• “I do think it’s time to taper and I don’t think it’s time to raise rates.”

• “If we were to see a serious risk of inflation moving persistently to higher levels, we would certainly use our tools to preserve price stability while also taking into account the implications for our maximum employment goal” 

• “It would be premature” to “tighten policy using rates now with the effect and intent of slowing job growth when there’s good reason to expect a return to robust job growth and for the supply constraints to diminish, both of which would have the effect of increasing the potential output of the economy” 

Economic Indicators of the Week - Housing

The housing market has certainly run up in the past year, with the national home price index at its highest since 1987.

There’s been some debate on whether it would be a good idea to taper the purchase of Mortgage Backed Securities at a faster rate to ease the pressures in the housing market. After all, most would argue that mortgage rates were low because the Fed has been purchasing MBS’. But, Fed Chair Powell has argued that this isn’t the case, and that overall asset purchases had a unified goal of keeping rates low across the markets and wasn’t aimed at favoring any market in particular.

So it remains to be see whether FOMC members still consider different speeds of tapering for the two asset classes - MBS and Treasuries. The MBA 30-year mortgage rate has been increasing from 3.03%p.a. at the end of Sep to 3.23%p.a. this week.

The consensus view still remains that housing prices are being driven up by the imbalance in supply and demand. Demand is being driven by:

• Low Mortgage Costs

• Overall increase in spending power because of savings in other areas

• Work From Home - leading people to either buy second homes or move to the suburbs since they can work anywhere

• The Great Resignation - People quitting their jobs and moving out of busy towns and apartment

We’ve received a mixed bag of data over the last couple of months indicating some increase in supply. Still, the data reported this month for building new houses has decreased. The consensus view is that the housing shortage will continue into 2022 and homebuilders will remain busy, busy over the next couple of months. We need to see more housing starts, buildings permits and existing home sales.

Homebuilders gained some traction this week with $XHB rising 3.35% for the week. YTD $XHB is up 33.97%. But, next week we also need to look out for the new home sales and pending home sales data, for an indication of easing supply & inventory levels.

Earnings of the Week

(Note: I found two different numbers for Tesla’s revenue estimates: $13.7B from Capital IQ and $13.9B or $14B from investing. So depending on the source, they’ve either beat or fallen short)

As we did last week, I’m not going to run through the performance of these companies but, rather look at them through our macro themes and where things are headed. With the sheer number of companies reporting, I’m going to need 5 emails to cover them all, so we’re going to be brief with just the highlights.

Supply Chain & Sourcing

• Tesla was asked about servicing wait times because people have returned to normalcy and driving, much faster than expected and this was also exacerbated by the supply chain issues affecting the sourcing of spare parts.

• Lam Research and ASML both faltered after earnings. While their reports were still solid, the market expected more and the key takeaway, they’re not able to keep up with the demand for semiconductors. This is not good news for us, and it’s likely that Applied Materials (AMAT reporting on Nov 18) suffers a similar fate. But, this bodes well for the long term since, these companies are investing in increasing capacity and semiconductor demand will only get stronger.

• Carrying over from last quarter, Southwest still faces staffing problems which is causing cost pressures and missed targets.

Inflation, Margins & Pricing

• Tesla’s primary exposure in commodities is to nickel and aluminum, and we heard from Alcoa last week how volatile aluminum prices are. With some suppliers they have long term contracts but, with many others they remain exposed.

• P&G sees $2.1B cost increases from commodity inputs and $200M from higher freight charges. They had previously estimated $1.8B and about $100M respectively. While they are hiking prices, they still expect a 16% hit to core EPS.

• Netflix actually saw a huge gain from Foreign Exchange! But, this also means a large part of their earnings is prone to fluctuations in the US Dollar.

Demand, Spending & Pricing

• Tesla saw a rise in commodity costs, labor costs and foreign exchange and they’re compensating through adjusting pricing. They’ve achieved an operating margin of 14.6% vs. 11% in the previous quarter.

• American Express tells us spending is back with a vengeance. Travel, Entertainment and Restaurant spending has doubled compared to last year with the most growth coming from younger Millennials and GenZs.

• Unfortunately, Amex’s restaurant spending isn’t helping Chipotle or Brinker (Chilli’s). While Chipotle’s earnings were strong, they were much lower compared to their previous strong quarters and Brinker is suffering from higher wages and food cost inflation. Brinker is raising menu prices and it remains to be see how this protects margins, if it causes traffic to decrease.

• American Airlines had a good quarter. They said they expect Q4 domestic leisure demand to surpass 2019 levels.

• FCX says copper demand will remain strong and they will see a growth of 15% in 2022 and gold volume growth of 20% in 2022. They also expect copper prices to increase further as the industry is still lagging in supply.

ESG

• Tesla’s regulatory credits declined 30% QoQ.

• Union Pacific set a quarterly record for fuel consumption making progress towards their goal to reduced greenhouse gas emissions.

• FCX is working towards zero net carbon emissions by 2025.

Around the Markets - New Listings

WeWork

WeWork (WE) finally listed after merging with the BowX SPAC. They’re up 17.75% for the week. Here’s my rundown on WeWork, written in March.

Vita Coco

Vita Coco Company (COCO) listed on Wednesday Oct 20. They’re the makers of Vita Coconut Water. I love this drink! Unfortunately, the market doesn’t. The stock is down 13.53% since opening, to $13.95. 

• FY 2020 Revenue $311M (+9% YoY); HY 2021 Rev $177M (+15% YoY)

• FY 2020 Gross Profit Margin 34% ; HY 2021 GP Margin 30%

• FY 2020 Net Profit $33M (+247% YoY); NP Margin 11%

• HY 2021 Net Profit $8M (+43% YoY): NP Margin 5%

• HY 2021 Cash: $19.5M; HY 2021 Debt: $35M

Portillo’s

Chicago-based Portillo’s Hot Dogs (PTLO) also started trading on Wednesday. They closed the week out at +28.63% at $37.43. Apparently, at some point Warren Buffett was interested in this company. Founded in 1963, the Company operates 67 restaurants across 9 states.

• FY 2020 Revenue $455M (-5% YoY); HY 2021 Rev $258M (+19% YoY)

• FY 2020 Gross Profit Margin 27% ; HY 2021 GP Margin 28%

• FY 2020 Net Profit $12M (+121% YoY); NP Margin 2.7%

• HY 2021 Net Profit $14M; NP Margin 5.4%

• HY 2021 Cash: $54M; HY 2021 Debt: $466M; Goodwill: $394M; Total Assets: $924M

The Week Ahead

Busy week for earnings coming up, with Big Tech reporting, as well as a major chunk of the DJIA constituents. Watch out for volatility!

Closing Thoughts

Guess who topped the sector performance for the week? Real estate! Last week I wrote about allocation to real estate as an alternative investment. While it’s true REITs are just like stocks, many of the REITs have inflation protected income, i.e., they raise rents with the level of inflation, not to mention most pay a nice dividend.

We’ve got a long week ahead with a lot of major companies reporting, and we will probably see rates inching up as the market gets ready for the Nov 2-3 Fed Meeting.

Here’s wishing you a happy weekend and safe investing. 

Please take a moment to share and subscribe, if you found this newsletter useful and I’d love to hear any feedback here or on Twitter.

Sincerely yours,

Ayesha Tariq, CFA

There’s always a story behind the numbers

None of the above is Investment Advice. I may or may not have positions in any of the stocks mentioned. I have a long position in $KMI, $NUE, $LUV, $TSLA, $NAIL as of the date of publication of this newsletter. I have no affiliation with any of the companies that are mentioned.