Dear reader: 

Your editor has been conscripted by the Grand Jury of the State of New York, in a term scheduled through Monday, Nov. 8.  Accordingly, Almost Daily Grant’s correspondence will be sporadic until Nov. 9 or thereabouts.  

Hopefully you will miss me, I will certainly miss you.

- Philip Grant 

Manic price action in Treasurys continued as the curve lurched steeper today, with the two-year yield dropping to 49 basis points while the 10-year rose to 1.58% and the long bond to 1.97%.  The S&P 500 enjoyed a near 1% advance, leaving the broad index at a fresh high with a heady 22.5% year-to-date advance.  Gold remained at $1,800 an ounce and WTI crude at $83 a barrel, while the VIX fell slightly to 16.5, giving back about half of yesterday’s late surge. 

Today’s bullish price action in stocks may be put to the test tomorrow. After the market close, both Amazon and Apple traded lower by some 5% after reporting disappointing quarterly results.  

“Supply constraints and elevated inflation are likely to last longer than previously expected and well into next year, and the same is true for pressure on wages,” Fed chair Jay Powell predicted today.

On that score, the central bankers can take comfort in a job well done. A headline blast from the not-so-recent past, courtesy of Twitter user @RudyHavenstein: 
 

Gone in 60 seconds.  Shares in Snapchat parent Snap, Inc. endured a 27% swan-dive today, after the social media outfit predicted fourth quarter revenue growth of 30% from a year ago and adjusted Ebitda of $155 million, using the midpoints of provided ranges, far below the 48% and $299 million respective consensus estimates.  Big picture considerations figure in that shortfall, as supply-chain snafus and cost-side pressures have thrown advertising budgets for a loop, imperiling the platform’s primary revenue source. 

Competitive maneuvering among the big tech cohort presents another aggravating factor, as Apple’s new data collection rules require apps on its iOS 14.5 platform to ask user permission to be tracked. Many users have duly declined the services of digital big brother, leaving advertisers unable to target individuals as effectively, driving up customer acquisition costs and crimping Snapchat’s business model.  “Management almost couldn’t have sounded worse around the effects this is having” RBC Capital Markets analyst Brad Erickson wrote. 

That phenomenon is not confined to Snapchat. Digital ad agency MuteSix relays to The Wall Street Journal that its direct-to-consumer clients have seen ad prices on Facebook, Inc. rise by an average of 25% since Apple enacted that change beginning this spring. Facebook shares sank by 5% today and are up 93% from a bearish analysis in the Aug. 11 pages of Grant’s Interest Rate Observer, trailing the 172% advance for the Nasdaq 100 over that period. 

Mark Zuckerberg’s social media monolith may face problems above and beyond the machinations of its Silicon Valley rival: namely, the veracity of the firm’s self-reported user data.  As documents procured by the financial press from whistleblower Frances Haugen show, an internal study of 5,000 new U.S. users conducted this year found that between 40% and 60% of those accounts duplicate an existing Facebook profile. In addition, company memos from 2018 suggested that encouraging younger users to open multiple accounts would drive engagement, “large growth and sharing increases.”  Market penetration among teenagers stands above 100% in both the U.S. and the U.K., internal documents show. 

“It’s not a revelation that we study duplicate accounts, and this snapshot of information doesn’t tell the full story,” retorts company spokesperson Joe Osborne. “Nothing in this story changes the estimate of duplicate accounts that we disclose in our public filings.” 

Indeed, the prospect of puffed-up user data is far from a new revelation. As then-Pivotal Research analyst Brian Wieser told Grant’s in 2017, Facebook’s self-identified a domestic addressable market of 101 million 18 to 34 year-olds, far above the 76 million Americans within that age bracket identified in the U.S. census.  Then, too, company-reported North American daily active users and monthly users as of January 2019 represented 80% and 105%, respectively, of the 231.2 million total population aged 15-64 in the U.S. and Canada a month earlier (comprising much of Facebook’s target demographic as users must be at least 13 years old), according to the Organization for Economic Co-operation and Development. 

Such estimates of potential market size represent “a starting point of our strategic conversation with our clients,” Darren D’Altorio, head of social media at digital marketing agency Wpomote, tells the Journal. “If your goal as an advertiser is to reach the most number of people at the lowest cost, then there would be a very real impact to that number being wrong.”  Advertising accounted for just over 98% of the company’s $29.1 billion in revenue for the three months through June, and great expectations abound:  Wall Street expects Facebook’s top line to jump to $142.3 billion in calendar 2022 and $167 billion the year after, compared to $105 billion over the year ended June 30. 

To that end, recent trends are unlikely to be to advertisers’ liking.  Daily users aged 18 to 29 fell by 2% over the two years through 2021 according to company data, with a further 4% projected decline penciled in by 2023. That attrition is even more pronounced among teenagers as rival platforms like Tik Tok continue to gain traction: Facebook’s daily active users among the teenage contingent fell by 13% from 2019 to 2021 and are projected to drop by an additional 45% by 2023.

Meanwhile, the prospect of a larger-than-life entrant into the social media realm looms large, as former President Trump prepares to launch his new Trump Social, with the blank-check firm Digital World Acquisition Corp. enjoying parabolic gains since yesterday’s announcement of a merger with the Trump Media & Technology Group. That’s not to say that the lure of traditional industry players has abated, however. Bloomberg reported yesterday that Trump’s lawyers have filed injunctions asking courts to force Facebook and Twitter to temporarily reinstate his blocked accounts, arguing that he is suffering “irreparable harm” from his continued deactivation from those venues. 

The Treasury curve continues to pancake as the long bond dove six basis points to 2.07% while the two-year yield rose to 0.46%, its highest since early 2020.  Stocks snapped a seven-session winning streak on the S&P 500 as the broad index edged slightly lower and the Nasdaq 100 dropped by nearly 1%, while the VIX rose 3% after logging a fresh virus-era low yesterday.  Gold rallied to $1,794 an ounce, and WTI crude pushed above $84 a barrel for the first time since fall 2014. 

- Philip Grant

Facebook is set to change its company name in the coming days, reports tech publication The Verge. The corporate rebranding, which could be unveiled at the company’s annual Connect conference on Oct. 28, will emphasize its focus on the metaverse, with the Facebook app and website assuming a place under the company umbrella alongside other divisions like Instagram and Whatsapp.  

While the social media behemoth shuffles the deck, politicians look to make hay. Washington D.C. Attorney General Karl Racine announced today that he will attempt to hold CEO Mark Zuckerberg personally liable in a lawsuit related to the 2018 Cambridge Analytica consumer data protection scandal. 

Perhaps another name change is called for: how about Mark Defendant? 

Trouble spreads in the wake of China Evergrande Group’s collapse: peer Sinic Holdings Group Co. defaulted on a $250 million note on Monday. The developer, which owes just under $700 million in dollar-denominated bonds according to data from Bloomberg, was rated single-B at S&P until a month ago.  Single-B-rated peer Kaisa Group Holdings Ltd. is likewise on the ropes, with its dollar-pay, senior secured 6.5% notes due Dec. 7 sinking to 60 cents this morning from 77 cents on Friday and near par six weeks ago. Kaisa’s offshore debt load is considerably larger at $11.6 billion.  Nine separate property developers have endured a combined 20 credit rating downgrades since the start of September, Caixin noted yesterday. 

Spreading trouble among that economically vital sector coincides with dispiriting data during the crucial fall selling season. New home sales in major cities declined 33% year-over-year during the National Day holiday spanning the first week of October, according to the China Index Academy.  Sales of existing homes (as opposed to those on the metaverse) collapsed by 63% from a year ago over the first 17 days of October, analysts at Nomura relayed Monday.  

With activity hitting the wall, measured prices have taken on a magenta hue: new home prices across 70 cities edged lower by 0.08% in September per the National Bureau of Statistics, the first year-over-year decline since 2015. “Now the priority is to prevent a state of panic,” Yan Yuejin, research director at the E-house China Research and Development Institute, tells Bloomberg. “The home market has clearly entered a downward cycle.”

As real estate represents as much as 30% of Chinese output, any lasting downshift promises to leave a mark. Fourth quarter GDP will grow by just 3.6% from 2020, Oxford Economics reckons, down from a prior estimate of 5% and a 4.9% print in the third quarter, which was already the weakest reading (excluding the pandemic and lockdown-addled 2020) on record going back to at least 1992. 

“What is the growth driver that will at least set a floor on growth? Nobody knows yet,” commented Leland Miller, chief executive of the China Beige Book, on CNBC yesterday.

Exxon Mobile Corp. is considering abandoning several large-scale oil and gas projects, The Wall Street Journal reports. As the company undertakes a review of its five-year spending plan ahead of a board vote later this month, some Exxon directors have soured on certain projects in light of their high projected carbon emissions.  Nominees from the environmentally-minded hedge fund, Engine No. 1, which managed to procure three board seats in May despite a meager ownership position of 0.02% of shares outstanding, have helped foment the resistance to those projects, the Journal relays. 

Sharply dwindling exploration and production budgets from global oil majors in the context of a currently-raging energy bull market further color that news. In July, Exxon guided 2021 capital expenditures to around $16 billion, the low end of a previously provided $16 billion to $19 billion range. That compares to $21.4 billion last year and $31 billion in 2019. Rival Chevron expects capex to remain between $14 billion to $16 billion through 2025, down from the $39.8 billion investment in 2014.  More broadly, upstream capex among nine international oil companies tracked by Bloomberg averaged about $100 billion per year across 2015 to 2019, roughly half of the levels seen in the first half of this decade. 

With producers in retreat and prices on a rampage, what’s next for the energy patch?  See the most recent edition of Grant’s Interest Rate Observer dated Oct. 15 for a closer look at the reviled but still-essential asset class. 

Stocks enjoyed a fourth straight green finish as the S&P 500 advanced by 40 basis points to reach the cusp of fresh new highs, while bitcoin capitalized on that renewed speculative fervor (and yesterday’s debut of the ProShares Bitcoin Strategy ETF) to rise above $66,000 for the first time.  The Treasury curve steepened again thanks in part to a weak 20-year auction, as the long bond yield reached 2.13% to reverse its recent rally, gold rose to $1,782 an ounce and WTI pushed to $83.50 a barrel.  The VIX remained below 16 for a second straight day, the first time that’s happened since August. 

- Philip Grant

Supply snafus are set to get worse before they get better, reckons trucking leader J.B. Hunt.  On Friday’s earnings call, chief commercial officer Shelley Simpson declared that “while peak season is upon us, we believe the bottlenecks on the West Coast . . . [may] even intensify further peak-season capacity needs into November and December.” CEO John Roberts added that “this year, we have reached all-time highs in the need for company drivers in all segments.” The company sees “persistent irregularities in demand patterns substantially resulting from port, labor and inventory challenges with our customers,” he said.

Of course, broken supply chains can be repaired and currently-raging price pressures may abate.  Staff economists at the Federal Reserve predict just such an outcome, penciling in a measured inflation rate of slightly less than 2% in 2022, according to minutes of the September Federal Open Market Committee meeting released last Wednesday. 

“You should take it very seriously,” Claudia Sahm, a former Fed economist and senior fellow at the Jain Family Institute, tells Bloomberg. “It doesn’t mean it’s right, but you have the top forecasters in the world” preparing the numbers. “Looking over time, there is no forecasting shop that can come even close to the board’s analysis of the near-term economy.”

Likewise squinting into the future, investors reach a different conclusion. Gleaning market-derived inflation probabilities from the swaps market, Arbor Research data scientist Ben Breitholz finds today that those investors are pricing in 71% odds of headline CPI in excess of 2.5% over the next 10 years, the hottest reading on record going back to 2010. The perceived odds of a sped-up policy response are likewise on the hop. Alex Manzara, interest rate options trader at R.J. O’Brien, noted in a commentary yesterday that positioning in the Eurodollar market now implies a pair of 25 basis point rate hikes by the end of next year, compared to less than one projected quarter-point rate increase in 2022 as of the June FOMC meeting. 

SoftBank Group Corp. enjoys “good liquidity at the holding company level” and “a highly valuable investment portfolio,” a Friday report from Moody’s Investors Service notes, helping support the firm’s Ba3 corporate family rating.  On the other side of the coin, interest coverage of less than one-to-one helps keep the company three notches below investment grade status, as does SoftBank’s “aggressive financial policy and associated governance concerns.” 

An unusual response followed that routine assessment. The company rifled off a press release this morning noting that, as SoftBank withdrew its request for Moody’s credit ratings on March 25, 2020 (two days after receiving a two-notch downgrade from the rating agency), Moody’s “opinion is based on their subjective assumptions and hypotheses with no reasonable basis for support.”  

Indeed, as SoftBank shares have retreated by 41% from their March highs and languish 60% below the company’s estimated net asset value as of June 30, tempers appear to be running short.  Bloomberg reports today that SoftBank boss Masayoshi Son and chief operating officer Marcelo Claure have been at loggerheads of late, with the latter agitating for a spinoff of the SoftBank Latin America Fund and Son reluctant to undertake such a move.

Conventional professional factors have helped stoke that discord, as Claure “has often pushed for more authority and money,” namely, “he has suggested he deserves as much as $1 billion.” The spat could result in Claure’s departure from the firm, Bloomberg believes. 

 
Then, too, as tech publication The Information reported on Oct. 6, the firm’s pair of in-house venture capital arms (the $100 billion Vision Fund and its $40 billion sequel) have seen a raft of senior personnel depart in recent months following concerted pressure from Son to increase the number of private startups under its umbrella, a move internally described as a “spray and pray strategy.” That’s despite the fact that the second Vision Fund has consummated deals at an average pace of three per week this year according to Pitchbook and invested some $18 billion over the first six months of the year at terms increasingly advantageous to founders.  

Intensifying competitive pressure within the V.C. industry has crimped the Vision Fund’s dominance. “SoftBank was the focus three years ago, but they don’t get as much attention as before,” Somesh Dash, general partner at competing firm IVP, told The Information. “The market has evolved to where other venture funds replicated their model with faster velocity.” 

See the Sept. 3 edition of Grant’s Interest Rate Observer for an in-depth analysis of the firm that epitomizes the zeitgeist of the current cycle. 

Happy days are here again for the bulls, as the S&P 500 and Nasdaq 100 each managed another green finish after the back-to-back rallies to wrap up last week, leaving those respective indices within a few percentage points of their respective high-water marks. The Treasury curve continued its marked flattening action, with the two-year yield rising to 0.42% (nearly double that of a month ago) and the long bond dropping to near 2%.  WTI crude held steady above $82 a barrel, gold edged lower to $1,765 an ounce and the VIX gave back an early 10% gain to remain near 16. 

- Philip Grant

Scalding inflation prints and raging price pressures across key economic inputs have inflicted little damage to the European Central Bank’s institutional confidence.   This morning, ECB Governing Council Member Francois Villeroy de Galhau declared that: “It is clear that the risk remains that we fall short of our inflation target in 2023 rather than exceed it. This calls for a continued accommodative monetary policy.”  ECB chief economist Philip Lane concurs with that assessment, arguing that the current spike in prices “do not imply a trend shift in the path of underlying inflation.” 

Stateside, the monetary mandarins similarly display little alarm. While noting the “eye-popping” recent price pressures in certain categories, San Francisco Fed President Mary Daly concluded in a CBS interview over the weekend that “I don’t see this as a long-term phenomenon.”  Raphael Bostic of the Atlanta Fed offered a measured dissent this morning, stating that “it is becoming increasingly clear that. . . intense and widespread supply-chain disruptions will not be brief. By this definition then, the forces [of inflation] are not transitory. . . These upside risks to the inflation outlook bear watching closely.” Bostic hastened to add, however, that he sees “no signs that this elevated inflation is really doing the kind of harm to the economy that would call the Fed's policy stance into question.” 

The International Monetary Fund provides institutional cover for a stand-pat strategy, predicting in its October World Economic Outlook that “inflation is expected to come down to its pre-pandemic range in 2022, once supply-demand mismatches resolve.” Ongoing slack in the labor market, well-anchored inflation expectations and structural factors like increased automation in the work force will help keep a lid on prices, the IMF believes.  Then again, it hedges, “inflation prospects are highly uncertain. These increases in inflation are occurring even as employment is below pre-pandemic levels in many economies, forcing difficult choices on policymakers.” 

While central bankers and institutional thinkers on either side of the Atlantic patiently await an ebbing of the inflationary tide, businesses strap on their lifejackets. Today’s release of the September National Federation of Independent Business survey finds that the proportion of respondents planning for price increases is at its highest since at least 1998, while planned wage increases stand at their highest since at least 1986.  The public, too, is increasingly attuned to that dynamic.  The New York Fed’s monthly consumer expectations survey for September showed three-year inflation expectations at 4.2%, up from 4% from the previous month and the highest reading in the eight year history of the series. 

That contrast has not escaped Wall Street’s attention. Noting that a durable inflation regime represents something of a consensus among investors, Strategas Research Partners CEO Jason Trennert tells Bloomberg that “what is increasingly worrisome, however, is that more and more of our clients believe that financial policy makers are unable to let long-term interest rates [rise] because it would be too painful for the economy and for investors.” 

While an urge to sustain the current economic rebound and powerful bull market may figure prominently in central bank reluctance to respond to the inflationary dust-up, some believe that other, secular factors may help explain the increasing reliance on easy money across the economic cycle.  Arguing that the pandemic has ushered in an era in which government involvement in all aspects of daily life is not only accepted but expected, Ruffer LLP investment director Alexander Chartres writes in his firm’s 2021 Ruffer Review that the path of least resistance is clear: 

Post-Covid, saying ‘no’ to switching on the printing presses and turning on the spending taps will be far harder. A more inflation-prone fiscal dominance has replaced monetarist orthodoxy. It is here to stay.

Plan accordingly. 

Treasurys saw some wild action after yesterday’s breather, as the 2-year yield climbed to 0.34% for its highest close since March 2020, while the long bond dove seven basis points to 2.09% to drag the curve notably flatter.  Stocks remained on the back foot with the S&P and Nasdaq 100 each dropping about 30 basis points and finishing near their session lows, gold rose to $1,761 an ounce and WTI crude held at $80.50 a barrel.  The VIX stayed put near 20. 

- Philip Grant

“If the trolls are right, and Tether is a Ponzi scheme, it would be larger than Bernie Madoff’s.” Today’s assessment from Bloomberg BusinessWeek underscores a spirited debate over controversial so-called stablecoin tether, which acts as a central thoroughfare for cryptocurrencies, allowing investors to trade in and out of the digital ducts while dodging the know-your-customer and anti-money laundering regulations that govern the regulated banking system. Tether (the entity) had long claimed that the stablecoins were backed one-for-one by U.S. dollars, before broadening that definition in 2019 to include “other assets and loans made by Tether to third parties, which may include affiliated entities.”

Some $69 billion worth of the stablecoins are now outstanding, double the sum of late February when New York Attorney General Letitia James concluded that Tether’s claims of full dollar backing “was a lie” and up nearly five-fold from a year ago, when the price of bitcoin hovered near $11,000 compared to $54,000 today.  That recent supply surge is further colored by reports this summer that the Justice Department is investigating Tether for bank fraud, a development which could discourage institutional investors from allocating capital to tether.  The company is a defendant in a quartet of ongoing legal cases, notes auditor Moore Cayman. 

“It’s not a stablecoin, it’s a high-risk hedge fund,” John Betts, former CEO of Puerto Rico-based lender Noble Bank International, which did business with Tether in 2017 and 2018, tells BusinessWeek.  “Even their own banking partners don’t know the extent of their holdings, or if they exist.”  (See the Sept. 8, 2017 edition of Grant’s Interest Rate Observer for a skeptical early look at the Tether phenomenon).

In a statement, Tether termed the BusinessWeek piece a “one-act play” designed to “fit a pre-packaged and pre-determined narrative,” while general counsel Stuart Hoegner chimed in to brand its critics “jihadists” eager to see Tether implode. The company grandly declared that “Tether, its management and its community are working for a more financially inclusive world. While this may threaten the establishment of traditional financial systems, we will continue to work for the underrepresented.” 

Beneficiaries of that work include the taxpayer.  As part of the February settlement with the New York AG, in which the company forked over an $18.5 million fine while making no admission of wrongdoing, Tether also agreed to provide quarterly breakdowns of the assets underlying its gaggle of stablecoins. 

The legally-mandated quarterly attestations are illuminating:  Traditional reserve assets such as cash and bank deposits footed to just 10% of the total $62.8 billion in reserves as of June 30, while Treasury bills accounted for an additional 24%. Corporate bonds and precious metals, secured loans (none to affiliated entities, the accountant notes), and other investments, including digital tokens, contributed an additional 7.6%, 4% and 3.2%, respectively.

Those funds have helped nurture the digital ecosystem, as Tether has lent substantial sums to such crypto concerns, sometimes using bitcoin itself as collateral. Lending platform Celsius Networks, Ltd., which is facing accusations of offering unregistered securities in Texas, New Jersey and other states, has $1 billion in loans outstanding from Tether at interest rates of roughly 5% to 6% according to founder Alex Mashinsky.  

Meanwhile, commercial paper and certificates of deposit accounted for nearly half of the $62.8 billion in reserves, with a reported $31 billion pile of short-term corporate loans which would make Tether the seventh-largest holder of commercial paper in the world. That’s news to Wall Street, however: “It’s a small market with a lot of people who know each other,” Deborah Cunningham, chief investment officer of global money markets at Federated Hermes, tells BusinessWeek. “If there were a new entrant, it would be usually very obvious.”  Citing competitive considerations, Tether has declined to disclose its investment positions, a departure from standard practice among U.S. money market funds. 

While the June 30 attestation shows that $28 billion of that sum was held in companies garnering a short-term credit rating of at least single-A as of that date, documents obtained by BusinessWeek show that Tether holds “billions” worth of commercial paper issued by Chinese large-cap companies, “something most money-market funds avoid.”  The recent collapse of hyper-levered property behemoth China Evergrande demonstrates the riskiness of such transactions. 

For now, at least, the bull crowd pays these details little mind, as price action continues to reward the believers. “It could be way shakier, and I [still] wouldn’t care,” Dan Matuszewski, co-founder of crypto-focused investment firm CMS Holdings, declared to BusinessWeek. Time will tell. 

Rates came under significant pressure today, with the 10- and 30-year yields each rising by about five basis points to their highest levels since June at 1.58% and 2.13%, respectively, while stocks initially pushed strongly higher before losing steam late in the day to leave the S&P 500 up 80 basis points, back within 3% of its peak.  WTI crude snapped back towards $79 a barrel, gold edged lower to $1,756 an ounce and the VIX declined by 7% to 19.5. 

- Philip Grant

Almost Daily Grant's will resume on Monday

Here’s ECB President Christine Lagarde in a speech today:

We should not overreact to supply shortages or rising energy prices, as our monetary policy cannot directly affect those phenomena. 

Into the financial metaverse: While Sunday’s 60 Minutes segment focusing on the corporate practices of Facebook, Inc. (FB on the Nasdaq) stole headlines, a potentially far more impactful set of allegations are now firmly in the public domain. 

Former Facebook product manager Frances Haugen, who resigned from the Menlo Park-based social network this spring, declared in a series of eight complaints to the Securities and Exchange Commission that Facebook has violated securities laws by repeatedly misrepresenting key user metrics to advertisers and investors.  Namely, the firm buried unflattering data showing sharp declines in usage and content production from the crucial teenage and young-adult segments, as well as the true total of recipients served by its advertising platform.  

Daily active users reached 1.91 billion as of June 30 according to the company, up 7% from a year ago, while per-user ad revenues ballooned by 47% in the second quarter from the same period in 2020. Yet internal data found that daily active users among the teenage cohort fell by 13% from 2019 to 2021 and are projected to drop by an additional 45% by 2023; young adult daily users fell by 2% over the two years through 2021 with a further 4% projected decline penciled in by 2023 (Boston’s not a big college town anyway – ed.).  The company failed to disclose those measured contractions and starkly negative projections with investors. 

Facebook “hides behind walls that keep the eyes of researchers and regulators from understanding the true dynamics of the system,” Haugen asserted in prepared testimony before the Senate today. “We have to just trust what Facebook says is true – and they have repeatedly proved that they do not deserve our blind faith.” 

No mere blind faith has conferred a monster $940 billion market cap on the social network, equivalent to a 4% weighting on the Nasdaq 100. Rather, a stellar income statement plays a featured role in Facebook’s exalted status among investors. The company generated $105 billion in revenues, $53.5 billion in adjusted Ebitda and $32 billion in free cash flow over the 12 months through June 30, figures which are each expected to roughly double by calendar 2024 if sell-side estimates are on point. The balance sheet is likewise shipshape, with $12.5 billion in net debt supported by a $64 billion cash pile. FB shares have powered higher by 98% from a bearish analysis in the Aug. 11, 2017 edition of Grant’s Interest Rate Observer, though that’s well shy of the 162% return for the Nasdaq 100 Index over that same period.

Unsurprisingly, Wall Street remains firmly on Mark Zuckerberg’s bandwagon, with 49 of the 60 sell-side firms surveyed by Bloomberg conferring a “buy” rating on FB.  Analysts at Barclays, who count themselves among that bull contingent, expect daily active users to grow to 2.01 billion in 2023, with advertising revenue per daily active user increasing to $16.87 by 2023 from $8.73 last year.  

Of course, the idea that Facebook might be engaging in fuzzy math on its lynchpin, self-reported user metrics might be breaking news only to the passive index investors at Vanguard, BlackRock and State Street (the trio hold 18% of shares outstanding). As then-Pivotal Research analyst Brian Wieser told Grant’s in September 2017, and highlighted in the Jan. 30, 2019 edition of ADG, the company identified an addressable U.S. market of 41 million 18-24 year-olds and 60 million 25-34 year-olds.  The only problem: 2016 U.S. Census population figures showed 31 million 18-24 year-olds, and 45 million 25-34 year-olds.  

Meanwhile, as the Cambridge Analytica data-selling scandal reverberated in 2018, a study from Pew Research found that 42% of respondents took a multi-week break from the platform and 26% deleted the app outright.  Yet Facebook reported North American daily active users at 185 million across the first, second and third quarters of 2018. 

“If advertisers were aware of the discrepancies, they would spend less on ads, leading to lower advertising revenue and lower profits,” the whistleblower complaint argues. What’s more, “some investors simply will not want to invest in a company that does not have the growth (e.g., daily and monthly active users) that is represented and then engages in misstatements and omissions on this topic.” 

To be sure, few have paid the veracity of Facebook’s self-reported data any mind during its rise to corporate dominance.  Will that happy state of affairs persist?

Seesaw price action continues, as stocks caught a strong bid to mark the fourth straight session with at least a 1% daily move on the S&P 500, leaving the broad index 4.2% south of its early September highs.  Rates came under renewed pressure with the benchmark 10-year yield climbing five basis points to 1.53%, while WTI pushed higher by another 2% to $79 a barrel and gold pulled back to $1,760 an ounce.  The VIX fell 7% to finish near 21.  

- Philip Grant

“The long-term story is clear,” Philipp Hildebrand, former head of the Swiss National Bank turned vice chairman of BlackRock, told Bloomberg Television this morning. “We’re going to continue to see a vast reallocation of capital towards sustainable products.” 

That mass migration is well underway.  Assets under the environmental, social and governance umbrella reached $35.3 trillion globally as of the beginning of last year according to the Global Sustainable Investment Review for 2020, up 15% from the start of 2018 and representing 36% of all professionally managed funds.  BlackRock will do its part to make sure that figure grows larger. “Our job as an asset manager is to increase the scope of our product offering, ensure that it’s transparent and continue to innovate together with the index providers to make sure we can offer more choices,” Hildebrand added.

To that, big investors say, keep those green investment products coming. California State Teachers' Retirement System chief investment officer Christopher Ailman declared at a conference Wednesday that climate change “is a mega-trend that if you take advantage of it, and get ahead of it, it’s going to be an alpha generator for the next 30 or 40 years.” Conversely, “if you don’t pay attention to it, it’s going to be a negative alpha and you’re going to be stuck with a low-beta return.”  Those sentiments are widely shared. Summarizing the results of a global survey of 24,000 investors, Sarah Bratton Hughes, head of sustainability for Schroders North America, termed 2020 an “inflection point” for ESG strategies. “It is now less about risk and more about return.” 

Mushrooming assets under the ESG purview and ambitious investor expectations lead some to wonder just how financially sustainable the phenomenon really is.  Thus, the Bank for International Settlements issued a stark warning in its most recent quarterly review published Sept. 20: “Historical lessons from the investment volume and price dynamics in rapidly growing asset classes could be relevant for ESG securities. Assets related to fundamental economic and social changes tend to undergo large price corrections after an initial investment boom.” Railroad stocks in the mid-19th century, dot com stocks at the late 1990s and mortgage-backed securities during the mid-aughts housing boom all fit the bill as historical analogies, the central bank of central banks ominously writes.  "You could have too much, too quickly of a good thing," BIS monetary and economic department head Claudio Borio told Reuters. "We know valuations are rather rich." 

Indeed, new evidence suggests that the ESG boom and the grand bull market are inextricably linked. An August paper from EDHEC-Risk Institute analyzing portfolio construction across green-focused exchange traded funds in Europe from 2011 to 2020 found that in climate focused strategies, only 12% of a given stock’s weighting was determined by its climate score.  Market capitalization accounted for the other 88%.  

What’s more, firms that failed to do their part for Mother Earth often saw little in the way of consequence:  35% of companies with deteriorating environmental scores over that 10 year period managed to grow their ESG portfolio weightings anyway.  Finally, the EDHEC researchers find that ETF promoters chronically underweight economically critical but high emission sectors like energy and utilities in their portfolios, burnishing those managers’ green bona fides but depriving the firms with the most room to enact environmental improvements of the capital to do so. 

With fossil fuel prices now going vertical around the globe, the limitations of that strategy are abundantly clear. “The generators of innovations to address environmental issues must have an incentive” to do so, Will Thomson, managing partner at Massif Capital, writes today. “Such environmental innovation is most likely to arise from firms that create environmental problems or firms in industries with environmental problems. In our minds, this is common sense.”

For more from Thomson on this essential topic, join us in person at the Plaza or tune in for the webinar of the Grant’s Fall Conference on Oct. 19 (advt.)

Stocks enjoyed a strong bounce, with the S&P 500 advancing by 1.2% to erase yesterday’s losses and narrow its decline for the week to 2.2%, while Treasurys built on yesterday’s rally with the 10- and 30-year yields falling to 1.46% and 2.03%, respectively.  Gold edged higher to $1,760 an ounce, the VIX fell 9% to 21 after logging a relatively weak move during yesterday’s selloff and WTI crude pushed to near $76 a barrel, its best finish since fall 2018. 

- Philip Grant

From CBS News:

A Danish artist was given $84,000 by a museum to use in a work of art. When he delivered the piece he was supposed to make, it was not as promised. Instead, the artist, Jens Haaning, gave the Kunsten Museum of Modern Art in Aalborg, Denmark two blank canvases and said they were titled "Take the Money and Run."

Maybe the museum can mint a commemorative NFT to recoup their stolen funds. 

A September chill ripples through financial markets: Bloomberg relays that traditional 60% equity and 40% bond portfolios absorbed a near 1% decline across the first 23 days of the month for their worst showing since last fall, even before the continued bearish action over the past two days.  That 60/40 allocation had previously enjoyed seven consecutive months of positive performance prior to the September stumble. 

A vicious cycle may be taking shape, some caution.  The move higher in rates following last week’s Fed meeting “should provide support for spread widening pressure on investment grade credit debt portfolios,” Tom di Galoma, managing director of government trading and strategy at Seaport Global Holdings, told Bloomberg.  “This in turn should have an adverse effect on 60/40 portfolio[s]. . . which could also have a negative effect on equity markets in the near-term.” Stock jockeys should hope the strategist has no crystal ball: Di Galoma predicts that the 10-year yield will rise to 2% to 2.25% by year-end, from the current 1.55%. 

With the S&P 500 sporting a sticker shock-inducing 38 times Shiller price-to-earnings multiple (surpassed only by the late 1990s tech bubble), a lasting disruption to the lower-for-longer rates regime could certainly sting.  Accordingly, the prospect of shifting financial winds invites a second look at one of the core trends of the post-crisis bull market.  

A paper this month from Research Affiliates founder Rob Arnott analyzes the yawning valuation gap between growth and value stocks utilizing the price-to-book valuation methodology advanced by economists Eugene Fama and Kenneth French. Research Affiliates finds that value stocks endured a 34% drawdown relative to growth stocks from December 2006 through August of last year, bringing value’s comparative valuation from the most expensive quartile to the cheapest percentile on record going back to 1963.  Even with a subsequent bounce relative to growth, Arnott finds that “value stocks remain priced at very attractive valuations. . . discounts are not only in the cheapest decile in history, they are in the bottom half of the cheapest decile!” 

A less-than-rosy profile for future returns colors the bull case for the oft-overlooked corner of the stock market:

The bottom line is that even after value’s recent partial rebound, the strategy in most regional markets is still priced at very attractive valuations. In the U.S. and developed markets, value discounts have only been cheaper at the very height of the tech bubble and during the summer of 2020. When most other liquid asset classes are priced to generate negative or near-zero real returns, only equity value strategies are priced to generate long-term real returns higher than 5%. 

While Arnott posits that value stocks domiciled in the third world are poised to deliver the highest real returns, at nearly 10% per annum over the next decade, value plays in developed markets such as mainland Europe, the U.K. and Japan “are priced to generate an anticipated real return of 6% to 8% a year over the next 10 years, likely with less risk compared to emerging markets.” 

Indeed, a flood of capital into U.S. equities during the post-crisis era has perhaps opened the door to opportunities outside the 50 states for value-seeking contrarians. To wit: the MSCI USA Index sports a $40.4 trillion market cap, compared to $19.2 trillion for the MSCI World ex-USA Index, which tracks other developed markets across the globe. That 67.8% market share for the United States is up from less than 50% in 2010. 

Where might those opportunities be found? See the issues of Grant’s Interest Rate Observer dated May 28, April 30, Feb. 5 and Jan. 22 of this year, along with Nov. 27, 2020 for bullish analyses on a raft of companies far afield from the S&P 500.  

It was a sea of red today with the S&P 500 finishing near session lows with a 2% decline to extend to a 4.1% drawdown from early September, while rates lurched higher again with the 10- and 30-year yields finishing at 1.55% and 2.1% respectively, each at its highest since June.  A strong bid for the dollar helped pressure gold to $1,732 an ounce and WTI crude back below $75 a barrel, and the VIX jumped 24% to 23.3. 

- Philip Grant