👋 Hello from the home office.
Quote of the Day
An analyst on Apple’s earnings:
“Even though revenue and earnings numbers may be good, a lot of those eye-popping growth numbers were already known and expected this quarter.”
-Darrell Cronk, CIO of Wells Fargo Investment Institute
Our view: The best companies don’t always make the best investments. The price you pay matters.
After a crushing year for Chinese stocks, investors are turning to options to bet on a comeback reports the WSJ (paywall).
What’s going on?
• Chinese stocks have suffered in 2018. Two reasons cited by investors are the trade war with U.S. and poor company fundamentals.
• Bullish options on the most popular Chinese ETF, iShares Large-Cap China ETF (FXI), reached the highest level in 5 years as investors bet on a turnaround.
Follow the money
Fred Ruffy, an analyst at Trade Alert, said some institutional players are positioning themselves for an aggressive rebound over the next two months.
How to trade it
There are two China ETFs we will go over.
- iShares Large-Cap China ETF. Ticker FXI
- KraneShares CSI China Internet ETF. Ticker KWEB
iShares Large-Cap China ETF (FXI) | ETF Homepage
Quick facts about FXI:
• Summary: The ETF’s objective is to track the investment results of an index composed of large-cap Chinese equities that trade on the Hong Kong exchange.
• AUM: $5.4 billion
• Fees: 0.74% or 74 basis points. You pay 74 cents for every $100 dollars invested.
Top ten holdings
We think it’s important to understand what the ETF is investing in. Some ETFs are better than others if you are trying to get a specific exposure.
You can find the spreadsheet at this link.
Our view: It’s trading in the middle of an extended range dating back to 2011. We would look to be buyers on a test and hold at the $28 level (blue arrow) or a break-out above $52 dollars (red arrow).
KraneShares CSI China Internet ETF (KWEB) | ETF Homepage
Quick facts about KWEB:
• Summary: The ETF’s objective is to invest in companies whose primary business is in the internet and internet-related sectors.
• A few highlights from their website:
- They provide access to Chinese companies that are similar to Google, Facebook, and Twitter.
- Exposure to Chinese companies listed in the U.S. and Hong Kong.
- Why China?
- Chinese retail web sales totaled $1.4 trillion in 2017, compared to $454 billion in the U.S.
- China’s internet population is ~721 million people, a 52% penetration rate. The U.S. internet population is 287 million with a penetration rate of 88%.
- Total retail sales in China was $5.8 trillion in 2017, compared with $5.0 trillion in the U.S. over the same period.
• AUM: $1.6 billion
• Fees: 0.70% or 70 basis points. You pay 70 cents for every $100 dollars invested.
Top ten holdings
You can find the spreadsheet at this link.
Chinese stocks have been unloved by investors in 2018. We believe investors will eventually rotate back into Chinese shares at some point. We don’t know when; which is why use charts to help us with timing.
Whether or not investing in Chinese ETFs is right for you will depend on your investment strategy, risk tolerance, and time frame.
The WSJ ran an article titled “Predicting the next bear market in six charts” (paywall).
Here are the six charts they used. We will look at bond spreads a little deeper.
- High-yield bond spreads-This spread measures what riskier companies pay to borrow money versus what the U.S. government pays.
- Yield curve-The yield curve measures the interest rates paid on government debt of different maturities.
- Deal Activity-The total dollar amount of mergers and acquisitions by month.
- Weekly jobless claims-How many people filed for unemployment insurance?
- Investor sentiment-There are many gauges of investor sentiment. A popular one is conducted by the American Association of Individual Investors (AAII). In my experience, sentiment measures area poor timing tools, unless they are at extremes.
- What the market thinks-Market based probability measured through options expiring in six months.
High-yield bond spreads
These spreads have historically sensed trouble before other assets. When spreads are tight, even companies with bad credit have easy access to cash. When spreads widen, it is more difficult for companies with shaky credit to access the debt markets. If they do, they often have to pay higher interest rates, denting earnings, and lowering future expectations.
The two peaks you see on the chart (One in October 2011, the second in February 2016), occurred when the stock market had already bottomed. Meaning, once you see the huge spikes in spreads, the worst is likely past.
I noted 5% on the chart. That seems to be the level, which if breached, leads to a greater spike in yield spreads. That is the number we will be watching. Right now the spread sits at 3.60.
Mentions of blockchain, bitcoin, and cryptocurrency are falling on earnings calls from S&P 500 companies.
Our view: Two good rules of thumb I have learned over the years.
- Listen to investors smarter than me that take a long-term view.
- Watch where talent is going.
For the first one-Three investors/VCs I follow are Marc Andreessen, Chris Dixon, and Fred Wilson. Marc was the developer of the Netscape browser back in the early nineties. Raise your hand if you remember this? (I do, it was so slow…). Recently, he is a founding partner of Andreessen Horowitz (aka a16z). Chris is also a partner at a16z. Fred is a VC at Union Square Ventures in New York.
What they all have in common is their belief in blockchain technology, not crazy, dumb crypto tokens, but the potential of the underlying technology to solve real problems and create new business models. They were all early believers in the power of the internet when most people thought they were crazy. They are my go-to trio when I am trying to figure out what the future might look like and how we, as non-VC investors, can participate.
For the second one– Remember this: Follow the talent. Chris Dixon was on a recent podcast discussing the blockchain. What amazed him was all the engineering talent that had six and seven figure jobs at Google, Facebook, and other tech behemoths, leaving and going to work for, or starting blockchain projects.
A few years ago, on Tim Ferris’s podcast, Marc was asked how they discover what the future might hold.
“We look for what the nerds are building on the weekend”
Well, they and a bunch of other smart people are working on these projects. We should pay attention…
Cannabis prices continue to fall.
Our view: We don’t believe the monopoly businesses in the cannabis space will come from farmers. We could be wrong, but we will be watching for other types of businesses in this space that have barriers to entry that are more difficult than farming.
A history of debt crisis
Barry Ritholz sat down with Ray Dalio, founder of Bridgewater Associates, one of the worlds largest hedge funds. In the episode, Ray walks us through the debt cycle, offers his insights into the common characteristics they all share, and tells us why he thinks now compares to 1937, just a few years before World War II.
To find this podcast, just search for “Masters in Business” on your favorite podcast player.
Thanks for reading,