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Capital 19 Catch-Up

Weekly Index Movement

S&P500-1.5%
Nasdaq-3.1%
Aussie All Ords-0.4%

Stock markets fell for the week, failing to extend the previous week’s positive performance and posting the seventh negative result out of the past nine weeks. Once again it was a roller-coaster ride for investors around the world with geo-political policies making conditions harder for companies to make profits.

Biden increased measures that intended to squeeze Chinese tech companies. Under the rules, which kick in this month, companies are required to apply for a license if they intend to sell certain semiconductors and related manufacturing equipment to China. The regulations also require foreign companies to apply for a license if they seek to use U.S. tools to produce chips they want to sell in China.

The whole aim is to slow China and maintain the technological advantage enjoyed by the US. It will likely work as there were stories of US citizens being forced to quit their jobs in China because of it.

This will have a serious impact on the likes of AMD, Micron, Lam Research, and Nvidia who are already struggling against a backdrop of slowing demand for personal computers and a strong US Dollar.

Take AMD. The stock is already down 65% from its highs but still trades on a PE of 25. Earnings for Q3 are expected to come in about the same as 2021. If the company is not growing earnings then the stock cannot justify a 25 PE. Even though it is down 65%, it can still fall further. We will find out more when it announces on October 24th.

Whilst Biden was ruining his semiconductor industry, Lizz Truss in the UK was ruining her whole country. Her proposed tax cuts whilst the Bank of England tried to lower inflation sent capital markets into a head spin. So much so that the BoE had to step in and buy bonds that were being dumped by holders.

When Bank of England governor Andrew Bailey told markets they had three days left to dump whatever they did not want before the BoE was out, stocks took another leg down.

This outright incompetence from Bailey echoes a similar incident 11 months ago when Bailey said “I don’t think it’s our job to steer markets day by day and week by week” after under-delivering on a rate hike; communicating with markets is literally the first job of central bankers!

The markets told Truss exactly what they thought of her plans so she decided Kwarsi Kwarteng was to blame for the decision she made and he got the chop after just 40 days on the job. Reportedly she is rethinking plans now.

I’ve said it before and I’ll say it again. Europe and the UK are a mess. Stay well away and dump anything you have now held in Euro or Pounds before it gets worse.

This brings me to the biggest mess of all. Inflation.

UK inflation was announced on Thursday and came in at +8.2%. Better than the +8.3% of last month. Clearly, all those interest rate rises by the Fed are working well. The US has gone from 0% to 3% rates and inflation has gone down 0.1%.

Oh, hang on. No. I’m wrong. Headline inflation is down, but core inflation is…..up. That’s right. Inflation is getting worse even after the Fed’s successive 75bps rises.

Core inflation came in at +6.6%. That’s the highest for 40 years.

It does beg the question of just what does the Fed need to do to cause an impact?

The answer of course is that there is a large lag between an interest rate increase and an impact on prices.

But with no signs of slow-down, the Fed will give us another 75bps on November 2nd and another 75bps on December 14th. That will send rates to 4.5% by year-end.

It is what happens after that, that we need to worry about.

Because at the end of the day, stock markets only care about two things. Interest Rates and Earnings.

Until the market gets a handle on where interest rates will end up, you can expect the volatility to continue.

I must confess to a concern that rates could go higher. A lot higher. Generally, you need interest rates over inflation to bring inflation down. If headline is stubbornly staying above 8% (has been for the last 7 months) then we might need rates at 10% to fix this mess.

That would mean a lot more downside for Tech companies and any other long-duration asset. I do hope I am wrong here.

At least Earnings are not a problem.

Pepsi Co (PEP) announced and beat on both top and bottom lines then increased revenue forecasts for the year. It looks like they have managed a clever case of “shrinkflation” to maintain profits whereby they have reduced the size of their product but maintained the same price-point.

BlackRock (BLK), smashed earnings and the stock jumped 7%. This is one of my favourite companies and is in our Dividend Growers strategy.

United Health (UNH) (also in the same Dividend Growers) also beat and posted an all-time high quarterly profit.

Lastly, on the earnings front, we had seven banks report, five exceeded EPS forecasts, one (Morgan Stanley) missed and one was inline (US Bancorp)

As you can see, earnings are not a problem and stocks would be at all-time highs if it were not for interest rates.

On to how to make money in this market

Energy.

Let’s talk oil. Last week I wrote about how OPEC+ is cutting production targets by 2 million a day. Because Biden is releasing 1 million a day from the Strategic Petroleum Reserves.

In a tit-for-tatt Biden is now releasing an extra 10 million barrels in November. That sent oil back to $85 barrel and the likes of Chevron (CVX) down 3%.

Whilst Biden might be able to suppress the oil price short-term, he cannot do this long-term. He will simply run out of reserves to release.

When he does, what do you think will happen to the price of oil?

Of course, when he stops releasing, presumably he will need to restock. So rather than selling oil into the market, Biden will be forced to buy oil from the market.

It’s a bit like a short seller buying stock to cover the short.

Biden’s plan works if demand for oil drops or supply increases because he can buy it back lower. Supply is not increasing because we are increasingly told Oil is not green.

Demand is not going down either. Here is what Jeff Currie, the Global Head of Commodities Research in the Global Investment Research Division at Goldman Sachs had to say

“At the end of last year, overall fossil fuels represented 81% of energy consumption. 10 years ago, they were at 82%,” says Jeff Currie. “$3.8 trillion of investment in renewables moved fossil fuels from 82% to 81% of the overall energy consumption”

Oil prices are heading higher. Of that I am certain.

Get in now, while you can, before it happens.

Here is another interesting graph I came across this week about commodity cycles.

Things are only just getting started in this sector.

CatchUp Stock Tips

AJ Lucas hit our stop last week so has been removed. We still feel there is significant upside for this stock but we can sit out on the short-term weakness.

Buy DateBuy PriceCurrent PriceGain / LossStop Loss
TXN1 Aug 22177.94148.34-16.6%145.00
ASC8 Aug 228.5210.50+23.2%6.40
CDNS15 Aug 22188.83147.45-22.0%130.00
UNH22 Aug 22541.39513.13-5.3%450.00
GMS5 Sep 226.505.80-10.8%4.00
AAPL12 Sep 22159.59138.38-13.3%130.00
CRK19 Sep 2218.2217.30-5.0%12.00

All the stocks in the list above remain a buy. You can get them cheaper than we did at present so take advantage while you can.

Warning

Stock values can go down as well as up. It is possible to lose 100% of your investment in a stock. Any advice given by Capital 19 is general advice only and does not take your personal circumstances into account.

Disclaimer: Capital 19 Pty Ltd ABN 17 124 264 366 AFSL 441891 (‘Capital 19’) believes the information contained is reliable, however, no warranty is given as to its accuracy and persons relying on this information do so at their own risk. This communication is for general information only and was prepared for multiple distributions and does not take account of the specific investment objectives of individual recipients and it may not be appropriate in all circumstances. Persons relying on this information should do so considering their specific investment objectives and financial situations. Any person considering action based on this communication must seek individual advice relevant to their circumstances and investment objectives. Subject to any liability which cannot be excluded under the relevant laws. Any opinions or forecasts reflect the judgment and assumptions of Capital 19 and its representatives based on information at the date of publication and may later change without notice. Any projections contained in this presentation are estimates only and may not be realised in the future. The investment manager certifies that all the views expressed in this document accurately reflect their views about the companies and securities referred to in this document and that their remuneration is not directly or indirectly related to the views. Capital 19, its directors, representatives, employees or related parties may have an interest in any of the companies and securities in this document and may earn revenue from the sale or purchase of any financial product referred to in this document or any advice. Past performance is not a reliable indicator of future performance. Unauthorised use, copying, distribution, replication, posting, transmitting, publication, display, or reproduction in whole or in part of the information contained in this document is prohibited without obtaining prior written permission from Capital 19.