What’s new
Administrative topics and an introduction
Well folks, Sir Isaac Newton’s lesson on gravity reigned true for GME; hopefully none of you purchased at or near the top. There was just as much coverage for the collapse as there was for the rise, at least when it comes to finance-specific news (the other main news sources fizzled out after the trading halts were lifted). For many who were star-struck by the mania of last week, they’re left asking “what do we do now?” For others, the interest is still there and now, as the dust settles, they try and uncover the play-by-play and the ultimate winners and losers. Regardless of sensational topics, there are always topics to cover across the financial and economic worlds.
PS: Substack added a cool new footnote feature, and I implemented them in this edition of the newsletter - those additional details are at the very bottom of the newsletter (I’d rather have them right below the specific article where they’re mentioned, but I can only do so much with the program).
Let’s get into some stories.
Did you miss the last edition? No worries! Get it right here and catch up on the madness.
Fundamentals
Where did the markets end last week?
U.S. Indices 5 Day Performance
Dow Jones: +3.90%
S&P 500: +4.67%
NASDAQ: +6.04%
Asia and Europe 5 Day Performance
Nikkei 225: +4.03%
Hang Seng: +3.55%
FTSE 100: +1.28%
DAX: +4.64%
Rates, Spot Prices, and ‘Good to Knows’
Market Madness Portfolio: +2.91%
CBOE Volatility Index (VIX): 20.87
US 10 YR: 1.169%
Crude OIL: $57.07
Spot Gold: $1,812.98
TEDRATE: 0.14
LIBOR (3 month): 0.19263%
U.S. Dollar Index: 91.042
EUR/USD: $1.205
Pound/USD: $1.3733
USD/JPY: 105.372 JPY
USD/CNY: 6.466 CNY
Weekly update
An article by Christopher
Financial markets
Stocks had a good week, recovering from the previous week’s losses and adding more toward all-time highs. Earnings season continues, with mostly above expectation reports, save for a few bad eggs this time around. Despite talk, talk, and even more talk about ‘bubbles,’ the majority of the market appears to hold onto their risk-on sentiment. The most recent Fund Manager Survey tells us a net 19% of investors are assuming higher than normal risk and cash levels at 3.9%, both suggesting that the bull-train is full steam ahead (Dirty Dozen, chart 1). To top it off, another commonly used indicator, the Sell-Side Indicator (an indicator of Wall Street’s bullishness) is approaching the closest level to “sell signal” since the Great Financial Crisis (GFC, i.e. 2008).
In some respects, markets are returning to business as usual after last week’s commotion. As the dust settles, we’re learning more and more about the real breadwinners from the GameStop squeeze, including this hedge fund that raked in about $700 million. Retail traders may have stuck it to some of the big names on the Street, but certainly not all of them.
There was some steep price action in silver at the start of the week, which also moved gold up with it, but that too has since fizzled out. All the metals aside, the big commodity everyone has their eye on is oil. At the close of this week, we saw crude oil end up over $57.07/barrel, leaps and bounds above the lows we saw throughout the peak of the pandemic selloff in March and April. Despite the recent moves up, the large oil firms are still taking a slow recovery plan for 2021.
Overseas, markets also rallied, but will enter the upcoming week hoping to make back more gains lost from 2 weeks ago. Emerging Market equities saw major inflows, matching the highest levels since October 2000, despite the dollar strengthening over the course of the past week (typically a stronger dollar is worse for EM investing).
Watch more here.
Economic data and stimulus
The economic news from last week was a mixed bag. There was a big disconnect between the ADP payroll data and the NFP payroll report, both from January. The ADP report told us that 174,000 jobs were added (compared to an estimate of 75,000) but the actual non-farm payroll (NFP) report came out to show that only 49,000 jobs were added in January (versus expected 100,000). Obviously, there is a large discrepancy there. Often, analysts will use the ADP report as a proxy for where they think that the NFP report will print.
On another labor market note, new unemployment claims fell for the third week in a row (779K vs. expected 865K | continuing claims: 4,592K vs. expected 5,045K). If this can hold, this will be a nice trend downward, complementing the overall declining level of hospitalizations across the United States.
Elsewhere, U.S. manufacturing growth carried on the momentum from December into January, signaling continued growth in the sector.
The Institute for Supply Management’s manufacturing index ticked lower in January, to 58.7 from 60.5 in December, but remained in growth mode. A reading above 50 indicates activity is expanding across the manufacturing sector, while below 50 signals contraction.
Meanwhile, a final January IHS Markit manufacturing survey for the U.S. released Monday rose to 59.2, from 57.1 in December. That was the index’s highest reading since the series began in 2007, as output and new orders rose.
(excerpted from WSJ article)
The Fed is continuing to keep up their liquidity promises for the broader market, which many are speculating will be a tough thing to unwind when the time comes.
Rapidly rising inflation will eventually force the Fed to rein in its lax monetary policy. But it will move, by its own admission, very slowly; on my interpretation much too slowly. It’s a racing certainty that markets will be spooked much earlier than the central bank. (excerpted from Bloomberg article)
The final bit of economic news on deck for today was this past week’s passing of the new $1.9 trillion COVID 19 relief package. As expected, it was a tight vote, but it moves onto the next phase, including $1,400 direct payments, albeit at a more targeted audience. The bond market reacted to this news, as the yield curve steepened to levels not seen since 2015. A steepening yield curve signals two things either economic growth and/or inflation. As other economic projections suggest the U.S. will return to pre-pandemic levels in middle 2021, some might argue that the steepening yield curve is not signaling just inflation.
A take on the future of shorting
An opinion piece by Christopher
I wanted to take the opportunity to piggyback off last week’s edition and consider the implications moving forward when it comes to hedge funds or other large financial firms short selling stocks or releasing short seller reports. On February 4, Hindenburg Research1 released a new report, uncovering a lot of questionable actions and news related to Clover Health, one of the SPACs run up by Chamath Palihapitiya. Chamath has made himself quite the financial front-runner in recent times, with a series of SPACs taken public and being very outspoken regarding the whole GME thing. For him, this whole Clover report must have been too close to home.
This article is not going to be about the details of this particular case. Rather, I want to provide some commentary surrounding why short selling won’t stop just because of this one incident and a bit of context around the mechanics in the broader market picture.
Read the initial report by Hindenburg, Clover’s response, Hindenburg’s response to Clover’s response.2
Given the events of the prior week and what the ‘public’ (by public, I mean novice/average retail investors) who were up in arms by the idea of someone short selling (not even the fact that it was a naked short), it was important for Hindenburg to continue with their publication. It does bring up some points about short selling and why it is likely here to stay:
Organic market mechanism
Gatekeeper outside of traditional market authorities
Organic Market Mechanism
Similar to some of the initial outrage over the trade restrictions, short selling is another part of the plumbing behind the scenes of Wall Street. Short selling works in tandem with purchasing to help create efficient market making processes - linking buyers with sellers of a particular security. Not everyone is out in the market looking to short, so it makes sense that firms looking to short companies have done significant due diligence both from a financial lens as well as a managerial/operational lens. With a higher level of due diligence, it makes sense that these firms would know a great deal about the company and the pitfalls of the firm leading them to be short selling in the market.
This is comparative to the ‘T+2’ overlook that occurred with the trade restrictions. If you did not study, research, or investigate the collective system that operates Wall Street behind the scenes, you are going to miss many of the miniscule, yet crucial details.
A market maker has to take the other side of a trade when a sales trader or an institutional investor or a retail investor executes a trade. If a trader buys 1,000 shares of AAPL, the market maker sells 1,000 shares from and they are now short AAPL (given there are no shares already on the market maker’s book). The reverse is also true when a trader wants to short a stock. The market maker takes on this risk but works to become risk neutral by pairing their current inventory of longs/shorts with what other traders in the market are looking for. It can be a complicated process, so don’t worry - this was just some insight.
Gatekeeper Function
Outside of irrational short selling behavior (100%+ naked shorting) the impact of shorting becomes similar to an additional authority-type function to the market. If the SEC, DOJ, other regulation/enforcing body misses things about a firm, it is likely that a short selling firm will pick it up and do what is needed to expose it both through a report highlighting their thesis as well as their short interest within the market. Often, these are a kind of activist investing, shorting companies that are behaving in a criminal way or supporting actions or ideas that are not beneficial to the overall market/economy. All this is to say that I see short selling as a part of the solution to the Stock Market Lemons Problem (this will be a more in-depth topic for the future).
But…
All of this is well and all, but it only works when those short sellers are behaving both rationally and in the better interest of the overall market. When you see things like what happened with GME, it is more or less a ‘perfect storm.’ As a natural market mechanism, short selling does not always lead to what has happened with GME. Historically, there have been actors on that side of the trade that would try to forcibly short a company out of business, which I would consider to be a misuse of the market function. This is true of essentially any partially monitored system that has existed in history; things work until they don’t, or someone cuts a corner. You’re not supposed to rob a bank as a source of income, but people still do it. An extreme, yet comparable, example in many respects.
So what?
Short selling, for those who have a more robust understanding of Wall Street and market mechanics is seen as an integral component of the current system and is unlikely to change. What seems a little different to me is that outsiders (i.e. investors) are taking offense to the fact that some firms are short specific companies. Of course, as an owner or principle of a firm, you never want to see a shorting report on your company. But now that investors are taking stake in the arguments for shorting / not shorting but are also claiming they are taking stocks ‘to the moon,’ I’d suggest we will see more polarity in this space for a long time.
Quick Takes
To fill in the gaps
If you missed the whole GameStop ordeal, a good recap can be found here from my friend Afzal! (via YouTube) Find the latest on related developments here. (via WSJ)
“Alexei Navalny, Russian Opposition Politician, Given 3½-Year Sentence.” (via WSJ)
McKinsey to pay about $574mm to settle their blame in the US opioid crisis. (via FT)
Biden looks to fixing U.S. foreign relations. (via CNBC)
Tesla recalls over 135,000 vehicles because of touch screen failures. (via WSJ)
The latest on the coup by Myanmar’s military. (via WSJ)
Credit Suisse alerted to misconduct years before criminal charges. (via WSJ)
Johnson & Johnson seeks FDA approval for their vaccine against COVID 19. (via WSJ)
Kraft Heinz nears deal to sell Planters brand to Hormel. (via WSJ)
SPACs might just save Credit Suisse’s reputation on the Street. (via WSJ)
How dare someone question Cathie Wood’s abilities?! (via WSJ)
Jeff Bezos steps down as Amazon’s CEO. (via WSJ)
General Banter
What’s on the minds of our editors and writers
Quote of the week comes from The Heisenberg Report with this gem:
Nobody should treat it like a casino. Stocks aren’t poker chips. They represent an ownership stake — a partnership, as it were — in a company. Treating it like gambling perverts the process no matter who’s doing it. If you want to gamble, go gamble. There’s a game somewhere near you, I personally guarantee it.
Full article: You’re Drunk WallStreetBets. Go Home
Reader’s Corner
A place for suggestions for readers like you
The reader might enjoy the below article:
Well done. You’ve made it through the madness. I’ve worked hard to ensure that you leave this page having learned something, and I hope that it benefits you in your daily adventure. Thank you again for checking in.
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GENERAL DISCLAIMER: All rights reserved to respective sources where I pull my information. I do not own or have vested interests in the websites where I get my news and information. Links are provided as credit and to provide additional context where readers might want more information outside of what is printed here on these sheets.
Market Madness (“MM”) and “FromMadnessNews” are the protected Intellectual Property of Christopher Olliney. The discussions here in the newsletter are to serve as educational and entertainment material, and not to serve as professional investment advice. I hold no responsibility for the outcome of investments made by readers of Market Madness. If you have interest in investing, I recommend you contact a licensed CFP or related investing professional. All risk associated with investing is assumed by the investor. Investing in the financial markets is not without risk and invested principle can be lost and is subject to changing market conditions. Investing results will vary based on timing, market conditions, and other, highly uncertain factors. Reader discretion is advised.
Founded by Nate Anderson, CFA, CAIA, Hindenburg Research specializes in forensic financial research. Our experience in the investment management industry spans decades, with a historical focus on equity, credit, and derivatives analysis.
I’ve started making my way through the linked documents, so I cannot comment to the full extent of what is supplied. I found them to be a helpful primer into the world of short seller / activist reports.