July 27, 2023 | Peel #509

Silver banana goes to...

In this issue of the Peel:

• The Federal Open Market Committee (FOMC) hiked the base rate’s target range, signaling a possible end to the rate-hiking era and stirring market volatility.
• Boeing and Alphabet had a great day, with shares soaring high, while Snap Inc. and Microsoft faced significant losses.
• The financially struggling Pacific Western Bancorp and Banc of California are set to merge. This move is expected to put both banks on a more solid footing.

Market Snapshot

Happy Thursday, apes.

What a DAY. This whole week has been a wild one already, but given the trillions of dollars of market cap that announced earnings alongside JPow’s rate hike, we’d say Wednesday was as close as we’ll get to a Q3 Super Bowl (...so far).

That being said, all the action set equities up for a hectic ride. Trading trepidation dominated in the morning, but by the time JPow stepped on stage, all volatility-hell had broken loose. Indices ended the day largely flat in the US, with the small-cap Russell 2k’s 0.72% gain leading the way.

Treasuries and currencies had a more interesting than a hectic day, however. Generally, when we see policy tightening like this, the currency of the country doing the tightening will gain on a relative basis while treasury yields will follow. The opposite happened yesterday, signaling the fixed income and FX market’s view that this may just be the end of JPow’s rate hiking hay day.

Let’s get into it.

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Macro Monkey Says

Rate Day Drama

Ladies, gentlemen, apes, and degenerates - lend me your ears. To quote DJ Khaled, we got “anotha’ one.”

Anotha’ rate hike, that is, of course. Yesterday, the FOMC wrapped up its 5th of 8 total two-day rate decision meetings of 2023, bumping up the base rate’s target range from 500-525 bps to 525-550 bps, exactly in line with expectations.

For all of you 22 years old and younger apes out there, you have never experienced higher interest rates ruling the American economy in your lifetime. Welcome to a new age.

"Now, the debate has moved from the size of the rate hike to whether or not there will be one at all."

Now, the debate has moved from the size of the rate hike to whether or not there will be one at all. The unanimous support by FOMC members for this additional hike was expected, but this is one of those weird instances where getting an answer now only creates more questions about what will happen later.

Markets had largely priced in this additional hike already, but that didn’t stop an explosion of volatility from taking markets much higher and then immediately right back to where they came from just minutes later.

"One of the most notable aspects of this rate decision ... was the lack of guidance and outlook JPow provided."

One of the most notable aspects of this rate decision—especially compared to 2023’s preceding meeting—was the lack of guidance and outlook JPow provided. Per the WSJ’s Fed Statement tracker, you can see that most changes compared to last month were grammatical and/or numerical.

Despite the 550 bps of direct tightening and an estimated 250-300 bps worth of indirect tightening through the reduction of the Fed’s balance sheet, Powell couldn’t let us sleep peacefully and had to tease potential subsequent hikes, saying…

• “We think we’re going to need to hold, certainly, policy at restrictive levels for some time, and we’d be prepared to raise further if we think that’s appropriate.”
• “And I would also say it’s possible that we would choose to hold steady and we’re going to be making careful assessments, as I said, meeting by meeting.”
• [we will make future decisions based on]... “the totality of the incoming data”

Seems contradictory, huh? Yeah, probably on purpose, too.

The Daily Peel Fed Translation service can sum up the message with the following JPow-esque description:

“We know that what we’re doing is moving inflation in the right direction and hasn’t started to break the labor market yet. Without knowing the exact rate destination we need to get to in order for inflation and employment to sit within our target ranges, we are going to make decisions on the fly using the latest possible and reliable data.”

Given the speed of the hikes shown below, it’s no wonder we have to hit the brakes gradually before coming to a full stop. Check it out:

Source

What's Ripe

Boeing (BA) ↑ 8.72% ↑

• Shares flew 8.7% higher to a cruising altitude of $232.80 by close. The liftoff comes as the 107-year-old, $140bn-market-cap centerpiece of the military-industrial complex posted a narrower-than-expected loss of $0.82/sh last quarter.
• That’s right; this thing is still losing money. Between murdering customers and passengers, C-19, and supply chain BS—the last few years have been a nightmare for the stock.
• But as of yesterday, we learned that deliveries were up for the period and surpassed expectations and drove up cash flows while also helping the firm beat on top-line revenue. That’s the kind of “soft landing” JPow can take some notes on.

Alphabet (GOOGL) ↑ 5.78% ↑

• Big tech’s big winner of the day—and savior of index funds everywhere yesterday—was none other than Alphabet. And believe it or not, we can thank actual business results and not the number of times the term “AI” was used for just that.
• Google’s cloud unit, creatively dubbed Google Cloud, beat out Azure for fastest growing cloud unit last quarter with its 28% acceleration in top-line vs. Azure’s 26%. This helped drive outperformance almost across the entire mammoth-sized business and got the people goin’ for Wednesday’s gains.
• Earnings came in at $1.44/sh vs. $1.34 expected on $74.4bn in revenue, beating across both. Also better than Microsoft (as you’ll see below) was the vibe around expectations for the next quarter.
• Lastly, as the cherry on top, famed CFO Ruth Porat will step down from her current role to take on a job as the company’s president and Chief Investment Officer.

What's Rotten

Snap Inc (SNAP) ↓ 14.23% ↓

• Much like the photos and messages sent on their app, Snap will be damn glad to have this day go away after 24hrs.
• Earnings were looking so good it was almost worth taking that risky screenshot. Still, like most Snapchat relationships, it was the future outlook that wasn’t working.
• $1.07bn in sales topped the $1.05bn expected, while a net loss of $0.02/sh also beat expectations for a $0.04/sh loss (although GAAP losses ran as high as $0.24/sh). 14% acceleration in DAUs to 397mn topped estimates as well.
• Now we get to why shares lost 1/5th of their value by 9:31 a.m. For starters, next quarter’s revenue is expected to be flat or down up to 5% YoY while EBITDA losses are expected to widen from ~$38mn last year to a range of $50mn - $100mn, 20-40x the Street’s expectations. The only question is, you buying the dip?

Microsoft (MSFT) ↓ 3.76% ↓

• Moving to a company that actually matters beyond its own investor calls, Microsoft shareholders were far from pleased with the company’s lack of ability to make enough money.
• Like Snap, the call woke up on the right side of the bed. Earnings of a nice $2.69/sh on $56.2bn in sales vs. expectations for $2.55/sh on $55.5bn pleased analysts but not enough to surpass revenue guidance concerns.
• Once the hero and really the foundational product of Microsoft, Windows, is expected to continue to slow growth and drag down overall sales acceleration in the near term.
• That being said, maybe once they toss ChatGPT into everything from your Teams messages to your PowerPoint presentations, the trend could reverse. However, that would probably require the ChatGPT plug-in to actually be accurate and stop its current strategy of simply lying & gaslighting.

Thought Banana

Banking on a Merger

When two people with severe issues or trauma meet up, we all know it’s guaranteed to have a wonderful outcome.

Now it’s our chance to find out if the same is true in 2023’s favorite sector—regional banking, of course—with the freshly announced merger of two Cali-based lenders.

You may remember seeing the name Pacific Western Bancorp (aka PacWest, PACW) on a list of “next banks to be f*cked” back in the heights of the regional banking crisis in March. You probably don’t remember the Banc of California, however, but that one seems a little more self-explanatory.

"... these banks have been in a constant state of walking on thin ice for the past few months."

Anyway, given their ties to SVB, the VC industry, and quite honestly, just the state of California in general, these banks have been in a constant state of walking on thin ice for the past few months.

Some examples include:

• JPow’s raising rates another 50 bps since SVB’s collapse
• PacWest lost 18% of deposits in the first 6 months of 2023 alone
• Banc of California lost 4% at the same time
• Both banks reported some normally-horrific earnings numbers, including:
• PacWest’s loss of $197mn, and
• Banc of California’s annual net income declined by roughly 1/3rd

Data Source

Basically, we have two struggling singles looking to build a lasting life together in the long term. What better way to do so than to roll all their problems into one?

To be fair, solving those problems becomes easier when you have an extra $400mn lying around, which is exactly the total amount PE shops Centerbridge and Warburg Pincus will be investing in the combined entity.

"... which is exactly the total amount PE shops Centerbridge and Warburg Pincus will be investing in the combined entity."

Given PacWest has already undergone a few more minor triage operations, including:

• Selling a $2.6bn commercial property loan portfolio
• Selling a $3.5bn package of specialty financed loans
• Selling $2.6bn in real estate construction loans, etc., etc., etc.,

Now, the merger with the (once) substantially smaller Banc of California seeks to put both banks on more solid footing. Subsequent selloffs could be seen as part of the merger process, but with the $400mn investment above, which will represent almost a 20% stake in the combined entity, this is one case where investors like the idea of putting all of each company’s eggs into one basket.

Banana Brain Teaser

Yesterday — Which word in Group B can be added to Group A? Why?

Group A: forty, grape, react, rouge

Group B: carat, claim, coast, crass, curse

Each word in Group A can have its last letter replaced with the letter “h” to make a new word.

• forty - forth
• grape - graph
• react - reach
• rouge - rough

Thus, “crass” is the correct answer.

Today — What is the lowest whole number possible that, when spelled out in English, includes every vowel and the letter Y, at least once? Exclude numbers below zero.

Shoot us your guesses at [email protected] with the subject line “Banana Brain Teaser”.

Wise Investor Says

“Do not be fearful or negative too often. For all its problems, the world is in better shape than it ever has been, and getting better all the time.” — Julian Robertson

Happy Investing,

Patrick & The Daily Peel Team

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