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When Mr. Market met Katy Perry
The Curious Investor - Mar 29, 2021
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What the Market?
Mr. Market has been doing a lot of pacing and talking to himself lately, and frankly, we’re feeling his erraticism. Over the past couple of months, major indices have been experiencing waves of pull backs and short rallies. Investment strategies are shifting in 2021 with a renewed focus on value and (gasp) fundamental analysis. Bond yields continue to fluctuate and volatility oddly remains low. Mr. Market is adjusting, rebalancing, and waiting for the start of Q1 earnings season.
What’s driving the market?
Biden the Builder: On Wednesday, President Biden is expected to unveil a multi-trillion dollar infrastructure program to work towards his Build Back Better plan. The program will focus on addressing climate change and domestic policy pillars like income inequality through two fundamental packages:
An initial package with traditional transportation and logistics projects such as the construction and renovation of roads and bridges.
A domestic priorities package focused around education and public services including universal pre-kindergarten, national childcare, and free community college tuition.
Death of a Bond’s salesman? Last week’s Treasury auction was met with little demand for longer-term bills, suggesting that buyers may be expecting higher yields. Some analysts expect the 10Y treasury to yield 2% as early as this year.
Excuse me, did I stutter? Fed Chairman Powell and Treasury Secretary Yellen testified in D.C. last week about the state of the economy. As expected, both reiterated their commitment to a dovish recovery approach that seems to be getting the job done as reflected by the rising bond yields.
What’s an investor to do?
Practice the art of surfing and learn to ride the waves. The market is choppy and inconsistent lately. While economic data is pointing towards a stronger economy after an arduous winter, we still have a long way to go to get to pre-pandemic level activity. Focus on the incoming economic data as the market adjusts and rebalances. Stay patient, and stay focused on the data and movements. Unjustified optimism is so 2020 and unrealistic expectations may lead to disappointments as earnings and economic reports come out.
The big shift is on! Investors seem to be growing restless and switching to perceived safer (value) assets and inflation hedging instruments like commodities. As value investments continue to outperform growth vehicles this year, it’s time to consider rebalancing your portfolio. Value and small caps are the new black. If you’re at cash-zero and need to make allocation decisions, identify the growth/speculative plays you are least confident in and calculate the tax impact of selling. Look for value based investments that can provide a similar return and cover the tax impact while diversifying your allocation. Check out our watchlist for some ideas.
Keep an eye on the economy
Jobs report incoming: On Friday, the Labor Department will release the March jobs report. After a stronger than expected February report, this month’s report will be closely watched by analysts to portray meaningful progress in the labor market’s recovery as vaccinations accelerate and the latest stimulus plan starts to kick in.
Doubling down on consumer confidence: Tuesday’s Consumer Confidence report by the Conference Board will be closely watched. Analysts expect the index to come in at a five-month high of 96.1, which is still far below pre-pandemic levels (averaging 128 in 2019). Expectations are high as the Consumer Sentiment report last week hit pandemic highs; this can mainly be attributed to rapid vaccine deployment and a third round of stimulus.
The Curious Investor:
What’s in the Lemonade? Lemonade Inc., the “insurance disruptor” has given the industry a modern face with a market-leading UX and mobile app that makes purchasing insurance significantly easier for the consumer. The company targets younger generations (70% of clients are under 35) with an AI-based platform and revamped, affordable fixed fee pricing structure that has raised eyebrows among investors. Lemonade has made headlines as certain institutional investors, like Softbank, media companies, and market analysts *cough, pushers, cough* like Motley Fool appear to be hyping up the company regularly. Which makes us wonder, what’s really going on?
The good: The insurance industry is ripe for disruption and there is definitely a market for younger generations that are unfamiliar with confusing insurance products (renters, household, auto, pet, life, etc.). It’s a big market ($ 5.8tn globally), and there is room for new entrants. Lemonade is an early market mover with a strong product and a bit of a cult-like following. The insurance startup aims to develop a broader product portfolio domestically and internationally to address its younger customers’ needs as they “graduate” to bigger and larger insurance needs, hoping to retain them over time.
The Bad: Lemonade is making its bet on a younger generation to buy a growing suite of products to be launched down the road and benefiting from economies of scale generated by customer retention and cross-selling. Lemonade is young and has to pay the cost of admission, a.k.a. losing money in lieu for customer acquisition as many new market entrants do, all while competing with a self-imposed fixed margin structure. During the last quarter of 2020 the number of customers grew only 6% compared to the previous quarter and EBITDA margins dropped. Moreover, projected margins by the company also took a hit, as they expect to lose more money this year. Additionally, the company is currently sitting on over $1bn in cash for product development and international market launches, which although is a good short-term indicator, it may not be enough to sustain current valuation measures that suggest revenues should be growing 50%+ yearly for the next four years.
The Ugly: Leadership clearly knows how to talk-the-talk and has positioned the company as a leading industry disruptor. The positive momentum leads to high expectations which have left Lemonade sitting at an incomprehensible valuation. The company trades at 12x projected 2024 SALES. Let’s let that sink in...legacy competitors trade around 1.5-2x the prior year’s sales. Current growth and earnings figures don’t come anywhere near justifying such an absurd valuation. Even if the aggressive growth metrics are met down the line, the company would still be trading at 6-8x above its peers. Unfortunately, Lemonade hasn’t done much to inspire confidence that it can walk-the-walk. With profitability projected as early as 2023, lackluster customer growth figures, slow product development, and an increasing amount of competition from both legacy and new entrants, it’s hard to believe Lemonade can capture the market share needed to meet their forecasts and achieve the parabolic growth some analysts and market pushers are expecting.
Verdict: Lemonade has a lot of promise as a disruptor but without any outstanding figures to inspire confidence in an outlandish valuation, the company is simply too expensive to justify an investment. Lemonade will undoubtedly do well in the coming years if it maintains its course, but it may not justify share price spikes as it already trades aggressively ahead of its peers. An investment in LMND today is akin to gambling on high hopes backed by just that. For now, we’ll sit this one out and wait for the next earnings release in June to reevaluate. Normally, we would suggest an alternative play but we are not bullish on the industry outside of a potential disruptor play.
Stuck in the Suez Canal: The Suez Canal, which connects the Mediterranean to the Red Sea provides a shipping shortcut between Europe and Asia supports 10% of all global trade. Nearly $10b worth of goods pass through the canal on a given day. There are few alternative routes for shipping goods from Asia to Europe. Last Tuesday, a container ship got stuck in Egypt’s Suez Canal, blocking passage.
Supply chain risk: If the situation is resolved within the next 1-2 weeks, the blockage will go down in history as a footnote on commodity prices. If freeing the world’s most embarrassed captain from the canal takes longer, global trade and supply lines may be impacted. Over 200 ships are stuck on either side, and forced to re-route, furthermore, empty container ships can’t get back to restock. Beyond shipping delays, businesses may incur losses from increased cost of shipping due to longer routes and loss of perishable items.
Global market impact: The basic principles of supply and demand kick in. With vast amounts of the world’s raw materials, semiconductors, and oil among other goods stranded, supply levels have just dropped significantly. Expect shipping costs to spike and commodity prices to increase in the short-term. The effect will vary on different markets, for example, Europe may experience higher gas prices, German auto-manufacturing may stall (a backbone of the economy), and clothing manufacturing costs may increase and stall in India. If things really drag out, insurance premiums will likely begin to rise as business owners file claims.
Bottom line: While it is too early to tell what the economic impacts will be (Allianz estimated $6bn per week) or how long this blockage will go on, if you’re betting it will take a while (although unlikely) consider investing in commodities or shipping companies, as they become increasingly relevant as supply remains restricted for a short-term play via:
Notable Off-Cycle Earnings:
Monday: Japanese unemployment rate and retail sales, U.S. Dallas Fed Manufacturing report
Tuesday: U.S. and Eurozone Consumer Confidence, Eurozone Business Sentiment, U.S. Housing Price Index and Federal Reserve speeches
Wednesday: Chinese PMI, U.K. Revised GDP figures, Eurozone CPI, President Biden speech
Thursday: U.K. and Eurozone PMI, U.S. Jobless Claims, Australian Trade Balance and retail sales
Friday: U.S. Unemployment report, Good Friday (markets closed!)
If you didn’t know, now you know
Remember the coup in Myanmar we mentioned in February? The military is still in charge and the people are still protesting, except the military is murdering and massacring protestors. More than 100 people, including children were killed this weekend by the military (over 400 protestors have been killed since the coup). Some were killed at protests, and some were taken from their homes, dragged, burned, and killed. The U.S., Japan, Australia and the U.N. have condemned their actions and the UN called for an international emergency summit.
This summary only covers the surface of the conflict. To read more, click here.
What we’re vibing:
Colors by the Black Pumas: The Black Pumas were nominated for a Grammy Award last year for Best New Artist. They’re an Austin based soul band that you need in your life.
We Wish to Inform You That Tomorrow We Will Be Killed with Our Families by Philip Gourevitch. An extraordinary report on the Rwandan genocide and the backdrop that led to it. A gruesome and detailed narrative and reflection on the meaning of the genocide. Think you have it bad? A powerful book to take a step back and be humbled.
This writing is for informational purposes only and the author/s undertake/s no obligation to update this article even if the opinions expressed change. It does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction. It also does not offer to provide advisory or other services in any jurisdiction. The information contained in this writing should not be construed as financial or investment advice on any subject matter. The author/s expressly disclaims all liability in respect to actions taken based on any or all of the information on this writing.