Yield vs. Yield | The Daily Peel | 3/2/23

Mar 2, 2023 | Peel #410

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Market Snapshot

Happy Thursday, apes.

Hopefully, you’re not too hungover after Wine Wednesday because Mr. Market needs your help. He has no idea what’s going on, per usual, and that was on full display yesterday as indices bounced around +/- ~50bps. The Dow barely moved, while the S&P and Nasdaq had a bit of a pinot noir day (a light red). Yields, as they do, spiked in the meantime with the 10-year crossing that critical 4% level.

Let’s get into it.

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Banana Bits

• The only construction going on in January was that of the “bull” market’s coffin as US build spending slipped for the month
• At the same time, overall production in the US economy slipped as well
• Meanwhile, mortgage applications got in the action too, hitting a low of the past 28 years
• Finland looks set to join the cool kids’ table that is NATO, while Sweden is still a little too nerdy, apparently

Macro Monkey Says

Yield vs. Yield

Who likes to make money? I’m guessing you do, I know that investors do, and I guess I do, too, a little bit.

Now, how do you like to make that money; by sitting on your *ss and waiting for the cash to hit? Yeah, me too, and that’s probably why you’re reading this.

We all know the stock market is a great place to make (and lose) money. But, when it comes to diversification and competition for assets that make you money, sparsely is there more intense competition than between stocks and bonds. Let’s take a look and try to see if we can figure out wtf I’m talking about.

Equity risk premium (ERP) is a concept that describes the additional compensation investors require for holding stocks and taking the increased volatility that comes along with it. There are many different ways to view this premium, but one of the most popular is the spread between earnings yields and treasury yields. The higher that spread, the more investors are getting paid to take additional risk from stocks, and vice versa.

Since Ben Bernanke began that little zero-interest rate experiment with *checks notes* the entire f*cking economy all at once, that ERP has remained consistently well above the 4% level. Essentially, that tells us that investors are willing to take the additional risk from equities for a minimum of 4% annualized outperformance over the long run. Today, that spread is the lowest it’s been since 2008.

At close yesterday, the spread between the earnings yield (earnings/price) of the S&P500 and the rate on a 10-year TIPS note settled at 4.04%, quickly approaching that long-term average accepted level of 4%. What is going on?

Well, it’s kind of the perfect storm. Over the past year, the yield on that 10-year treasury inflation-protected security (TIPS) surged from basically 0% to around 4.5%, massive and rapid growth by any historical standard. At the same time, the earnings yield of the S&P has been precipitously declining in recent weeks as expectations for full-year earnings get adjusted down. Moreover, that earnings yield still has yet to recover to its pre-pandemic level again. Investors are getting paid a whole lot more for bonds than they have been since 2008, while the literal exact opposite is happening for stocks.

And that means that competition is back, baby. Your parent’s financial markets expect this kind of competition, but as 2008 was the same year I learned how to tie my shoes (jk, I still don’t know how), I’m guessing that many of you also haven’t experienced this market dynamic before.

Essentially, the idea is that rising bond yields will (or can), over time, pull liquidity from equity markets as less risk is needed to achieve a given return in the fixed-income market. After 2022, I don’t need to tell you what less liquidity means for our friend Mr. Market.

Now, this is a massive, long-term trend, so it’s not like you’ll be able to trade your way out of it tomorrow. Just write back to me in 2030 and tell me how you did (if you and I make it there).

What's Ripe

First Solar ($FSLR) ↑ 15.69% ↑

• To you, the Inflation Reduction Act is just some piece of paper that might make roads better. To First Solar, the IRA is a steroid injection that Mark McGwire and the Liver King can only dream of.
• Not only did the company report solid earnings earlier this week, but the guidance provided by the firm led to a slew of upgrades today, including Guggenheim, who labeled First Solar as “potentially the biggest beneficiary” of the IRA.
• Shares have ripped in recent days, gaining well over 15.5% yesterday as the stock is apparently shooting for the Sun in more ways than one.

Eli Lilly ($LLY) ↑ 0.97% ↑

• Shares might’ve only risen by barely 1% in the market, but in our hearts (and our pancreases), shares soared infinitely.
• I guess hacking a Twitter account really can lead to big things. Yesterday, giant insulin maker and general pharma company Eli Lilly announced plans to reduce the price of insulin by 70%, capping customers’ costs to just $35/month.
• Wow, they’re so nice to sacrifice profits for the benefit of the general publi—just kidding. Credit where credit is due, but the Biden Admin already had its sight set on limiting the costs of the drug to $35/month like he’s already done for Medicare patients. Eli Lilly just decided to front-run it rather than be forced in.
• Moreover, the company has other mega drugs set in its pipeline that it plans to rob you for instead. Sure, this move helps patients and the government, but it really helps Eli Lilly’s image the most. I mean, we’ll take it.

What's Rotten

Rivian ($RIVN) ↓ 18.34% ↓

• Shareholders in this “leading” EV maker hit the slopes yesterday after Rivian dropped its latest earnings report. Although, it definitely wasn’t a celebratory ski trip or anything like that.
• No, the slope we’re talking about here is the dumping of shares so fast that the stock’s chart looks like this thing. To no surprise, the stock surprised the market with a sales beat but managed to totally f*ck it up with a fat miss on the bottom line.
• But, for a company as young (and useless) as this, it’s all about production guidance. Projections for 50,000 units in 2023 made the market feel like someone spit in their coffee, tanking shares by nearly 1/5th of Tuesday’s value.

Lowe’s ($LOW) ↓ 5.56% ↓

• Did nobody tell Lowe’s that their share price performance doesn’t have to match its ticker symbol? Apparently not.
• Shares in the home improvement retailer slid just over 5.5% on Wednesday after Home Depot’s little brother beat on earnings but missed on revenue. The company pulled in $2.28/sh on $22.45bn in sales vs. $2.21/sh on $22.7bn expected.
• One truly surprising aspect, however, was the uptick in “shrink” the company reports. Basically, “shrink” = “theft,” which apparently spiked last year while margins contracted, same-store sales fell, and average ticket levels failed to keep pace with inflation. I’d say take this L, but Lowe’s clearly beat me to it.

Data Peel

Source

Thought Banana

As If They Need More Attention

Not that he or his companies get a whole lot of media attention or anything, but little-known entrepreneur and professional sh*t-poster Elon Musk got the people going at yesterday’s investor conference for a small EV company known as Tesla.

Lmao. Anyway, Musk for sure loves the spotlight, but at yesterday’s Investor Conference, the Tesla chief seemed to make it a point to highlight other execs along the way. In years past, Musk has masterfully run the conference himself, using tactics like smashing the windows of his own car with rocks to show how “strong” they are in order to excite buyers.

Yesterday, however, Musk passed the mic more than ever. Plenty of other execs got stage time to spit game about the latest developments at the firm within their own lines of business. Let’s take a look at some of the biggest announcements:

Next-Gen Car: Arguably, the company’s whole lineup is already “next-gen,” but Musk did tease the long-rumored vehicle at yesterday’s conference. Analysts have been expecting the new car to hit the road by 2025, and that basically stayed the same.

Software: Autopilot software lead Ashok Elluswamy took the stage to let us know that approx 400k customers do not care about safet—I mean, bought Tesla FSD (full self-driving) thus far. Ashok (great name, btw) also hyped up the importance of all vehicle software as a route to a competitive advantage in the market.

Say “Hi,” Optimus: That creepy humanoid robot thing made an appearance as well, unfortunately. Musk displayed the company’s robot that plans to take your job in the next few years and probably your wife and kids within the next decade. He still says that Tesla’s robot biz could be bigger than its cars.

Charging Subscription: Musk knows how much you love paying all those subscriptions every single month and has decided to give you another one as Tesla plans to launch their very own. Texan Tesla owners will soon be able to charge their cars overnight in their homes for just $30/month. It might sound like a lot, but remind me what you spent at the gas station last month?

Giga Mexico: I’m convinced the company doesn’t give a single f*ck about actually selling cars, just making them. Along that note, Musk confirmed during the Q&A that Monterrey, Mexico, will be the lucky winner of the company’s newest production facility, known as the “gigafactories.” Shrouded in secrecy that Musk will almost definitely leak on Twitter at some point, Giga Mexico will be the production site for that next-gen car we shoutout above.

Obviously, there was a lot more going on. The key takeaways from the event include the following:

• Tesla is more than just Elon Musk as the company’s star-studded management team was shown off in full force, seemingly to assuage concerns that Elon’s antics at Twitter would harm the car company
• Production, production, production—and not just cars. Tesla reminded everyone that when it comes to getting products online and out the door, no one does it better. And if that’s not enough, Optimus and Giga Mexico entering the scene soon better be.
• The firm is getting creative around revenue (no, not like Enron or Worldcom) as it launches driving subscriptions in more ways than one. Can’t wait to see how I get robbed next!

Musk and Tesla’s MO tends to center around “overpromise, then under-deliver in the short term, then finally radically over-deliver in the long run.” We’ll see if they can keep that train rolling.

The big question: Should Tesla be assigned the same earnings multiple as a car company when it has all this going on? What other innovations will this car company bless the market with? How different does Tesla look in 2033 as opposed to right now?

Banana Brain Teaser

Yesterday — What word looks the same upside down and backwards?

“swims”

Today — It’s 75 bananas off the WSO's PE Deals Process Course for the first 3 correct respondents. LFG!

I am a fruit. If you take away the first letter of my name, I become a crime. Take away the first two letters of my name, and I become an animal. Take away the first and last letter of my name, and I become a form of music. What am I?

Shoot us your guesses at [email protected] with the subject line “Banana Brain Teaser” or simply click here to reply!

Wise Investor Says

“The most contrarian thing of all is not to oppose the crowd but to think for yourself.” — Peter Thiel