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Surf’s Up!

Surf’s up!

November 12, 2020

It’s time for an update. Often we like to sit back quietly and watch the macro waves of markets comfortably from the beach. We’re patient observers and only like to go surfing when we see the conditions set up for the big waves because that’s what macro is all about. Well, we have some news for you…SURF’S UP!

Let’s start by taking everyone for a quick hop over to Asia and then we’ll wrap up covering the U.S. We haven’t written for a while so we’ll make this piece longer than usual to cover all the key topics, but as usual, it will be to the point with the information we think matters.

Hong Kong is gone

We’ve been warning about the deterioration of Hong Kong’s legal system for the last few years. Today may have marked the final turning point. Beijing demands loyalty and under China’s new loyalty rules China may disqualify lawmakers that aren’t deemed “sufficiently” loyal. The rules are ambiguous in their definition but clear in the intent, i.e. China is taking over Hong Kong fully now. In Hong Kong, 15 members and lawmakers of the pro-democracy group that sit on the Legislative Council resigned today. This was in response to China already disqualifying 4 other lawmakers under the loyalty rules.

Based on the euphoria in global equities this week we think an attractive entry point may have opened to short Hong Kong. Our thesis is simple: the Chinese Communist Party’s values are 180° opposite of those that made HK one of the most important and successful financial centers in the world. 

And should anyone doubt the power of Beijing to disrupt capital markets, we point to the recently halted Ant Group IPO which could sink the company’s valuation by more than $150 billion. Beijing put the brakes on the IPO to review the company under its new anti-monopoly regulations.

Jack Ma is a member of the CCP and perhaps he has not settled up his tab with some of the other members. The CCP is notorious for making its members and their families rich and then swiftly taking it away.

Japan is booming!

China may be tightening its grip and demanding allegiance but elsewhere in the region, there are brighter opportunities. For us that’s Japan. We’ve had our eye on Japan all year and specifically video game maker Nintendo. But before we get to video games let’s talk about what’s happening in Japan. Their main stock market the Nikkei 225 is breaking out to 30-year highs. Yes, 30…year…highs. Furthermore, this has been happening at the same time that their currency has been strengthening against the USD.

This to us is extra interesting and bullish. Look at the chart below. The white line represents the Nikkei 225 Index and the red line represents JPY/USD. Normally a declining yen is perceived as beneficial to Japanese equities because Japanese companies are such large exporters. But that narrative misses an understanding of Nikkeis biggest bull market rising out of the ’70s where both equities and the yen appreciated at the same time. We see that happening here as well and we predict that domestic Japanese investors will repatriate their funds and leverage up in their home market. 

Sticking with Japan for a moment. We believe that Japan’s aging demographics and declining population will dramatically accelerate its lead in robotics. If you thought the move in the Nikkei 225 was noteworthy then check out Daifuku Co Ltd. The company builds robotics equipment for warehouses.

That’s a one-way trend in our opinion as warehouses replace human workers with robots for safety, cost, and efficiency. The pandemic is merely amplifying that trend. Daifuku is up 71% this year which is 10x the Nikkei 225. Pretty soon all of us will have robots entertaining our grandparents and then soon us.

Video games

With 2020 being such a weird year many of you have been asking yourselves whether or not you’re living in some type of matrix. The answer that most quantum physicists would concede is probably YES. 

No area of investing better encompasses this than looking at the video gaming sector. Before we depart our discussion of Japan let’s discuss iconic game maker Nintendo. Their stock is up 213% over the last 5 years. If you haven’t seen their latest Mario Kart game with augmented reality then please check out the trailer. If you have kids we’re sure this is already on the Christmas list. With or without quarantines Nintendo is going to grow with augmented reality technologies. 

Another favorite of ours is a Polish listed game studio called CD Projekt SA. They have developed award-winning games like Witcher and their Cyberpunk 2077 game is one of the most anticipated game releases in years. Here’s the trailer. Warning: this game is NOT like the soft lovable Mario Kart. The animation is incredible and this game is sure to be a hit. Like it or not we are blending into the matrix. CD Projekt SA’s stock, by the way, is up 1,454% in the last 5 years. 

U.S. Elections

Let’s move back to the most talked-about market in the world – the U.S. Understandably with a U.S. election result that is being contested it makes good sense to pay close attention. We’re going to preface our next comments by saying that we did not vote for Biden nor Trump. We’re libertarians at heart and if there’s anything global macroeconomics has taught us over two decades of betting for and against various economic policies, it’s that governments are almost always the problem rather than the solution.

One of the biggest problems we see surrounding the U.S. elections is media bias. We started using Twitter in 2009 specifically to monitor the elections in Iran and the student protests there. We’ve always used the platform to see clearly into what’s really happening on the ground in real-time and outside of any mainstream media accounting of events. For 11 years Twitter has served us well and helped our competitive advantage.

That ended this year, first with censorship of evidence-based research and dialog surrounding COVID-19 that ran contrary to what the CDC and WHO were saying and then followed by the censorship of President Trump, the Republican Party, and the voices of millions of conservative constituents and news agencies. This is deplorable behavior by Twitter, Facebook, and Google.

Furthermore, the mainstream media, on all sides, has completely lost its ability to assess facts, investigate information, and have open conversations with experts from all sides. We are disheartened at this loss of transparency and tolerance because in its wake it will leave chaos and further division. We will not hesitate to short Twitter’s stock and are actively watching for the right opportunity to do so. 

Turning to the election results, we should all be concerned. We are data guys, not politicians and the data we’ve seen so far has some red flags. There’s a great article from ZeroHedge titled, “It Defies Logic”: Scientist Finds Telltale Signs Of Election Fraud After Analyzing Mail-In Ballot Data. We recommend reading it as well as this one, There is Undeniable Mathematical Evidence the Election is Being Stolen. In our opinion, there needs to be a sober national dialog about these findings but unfortunately, mainstream media and the social media giants are keeping that from happening. 

We expect much more volatility in U.S. and global markets over the coming months which leads us to one of our favorite trades. When we look at junk bonds in the U.S. it blows our minds that yield spreads trade around 4% (blue line bottom panel). That’s just simply insane.

The popular junk bond ETF, with its apropos symbol JNK (white line top panel), has benefited from the Fed pandemic bailout, general market euphoria, and starvation for yield in a low and negative-yielding world. 30 day implied volatility has also plummeted (red line bottom panel) and is currently around 7.6%. For us, that’s attractive enough to load up on some puts on JNK. We expect to benefit both from the fall in prices and the increase in volatility.

There’s a ton going on in many other markets around the world and we’ll get back to updating you on those opportunities in future posts as well as on our Telegram channel. Until then start waxing those surfboards and get ready for the incoming winter swells!