by Scott Martin | Apr 21, 2024 | Weekly Newsletter 7pm Sunday
Market Summary
The Bull Market Report
While some investors are convinced that September and October are the cruelest months, this year we're seeing April play out as a stormy season. Our stocks have stepped a collective 6% back since the month started, giving back nearly all their once-substantial YTD gains. Likewise, the Nasdaq and the Dow Industrials have also seen their 1Q rally evaporate, leaving both indices along with us on the brink of breakeven. Only the S&P 500, as middle-of-the-road as it gets in the modern market, is showing the bears any resistance whatsoever, and it's still down 5% so far this month.
People can blame the bond market for this, but in our view the situation is both more complicated and so simple that it needs little explanation at all. The last time stocks shuddered like this, nobody knew whether the Fed was finally done raising short-term interest rates, which ensured that there was still enough anxiety circulating to keep investors off balance. We had a pretty good sense then that the Fed's "pause" would continue for the foreseeable future, but nobody had the confidence to say for sure. As a result, money flooded out of the Treasury market into higher-yielding cash, leaving bond prices reeling and pushing yields up to 5% in the process.
A similar dynamic has played out this time around. The mood around the Fed has gotten significantly softer, with investors who had once hoped for nothing better than an extended end to rate hikes starting to bet more confidently on active rate cuts in the coming year. However, even that improved attitude is vulnerable to second guessing and frustration when the economic numbers flow the wrong way. As long as inflation remains stubbornly persistent, the Fed's calculus around rate cuts in the near term will remain difficult, and the hope that dominated the market early in the year gives way again to doubt.
That's the complex narrative. But when you look at the way stocks and bonds have moved in the last six months, you'll see a much simpler pattern emerge. Bond yields got so high in November that they started to strain the statistical limits, triggering an inevitable bounce when conditions finally reached an unsustainable level. When that happened, yields dropped and stocks rebounded. There wasn't any deep narrative going on here. It was just statistics. And then, around the new year, yields had swung all the way from testing the statistical ceiling to crawling on the floor, pushing markets in the opposite direction in response.
Again, just statistics. Money followed its own cyclical tide and human beings scrambled to tell the tale. The Fed didn't get in the way. A few weeks ago, markets were in roughly the same position as they were back in November. The cycle played out again. The earnings reports we'll review in the next few weeks may accelerate the ongoing correction; or give investors a strong enough reason to defy statistics and start buying again. For now, however, we're resigned to see stocks drift a little while before regaining their equilibrium. All part of life on Wall Street.
At moments like this, we look for pockets of relative strength and weakness to make sure we're positioned the right way to exploit the market's next moves. The fact that the losses are relatively evenly distributed tells us that this is not a problem for the economy or any particular sector. Our Healthcare recommendations are down roughly as much as our High Yield stocks this month, and the REITs and Stocks For Success have also experienced roughly the same level of pain in the last few weeks. When such a large slice of the market drops at the same speed and correlations across otherwise unrelated industries converge, the normal pattern of distributed strength and weakness disintegrates. There's no shelter, in other words. Defense and offense, established companies and speculative ones are all moving together.
That's the kind of move that tends to reverse itself in the pattern we've watched since November. In the meantime, we appreciate our Energy portfolio more than ever, as well as our allocation to SPDR Gold Shares (GLD). Gold is a hedge when everything else is suffering. That's why we're happy to be in gold right now.
There's always a bull market here at The Bull Market Report. With earnings season just underway, The Big Picture lays out where the growth is across the market and where we can anticipate it. The Bull Market High Yield Investor is all about making sure the yields we've gotten in the past will continue, which is important when the Fed keeps rates higher than a lot of investors think they can stand. And as always, we're talking about a few of our favorite stocks, including a few that have the power to change the market's mood when they report over the next few days. Don't forget: if you'd like different coverage or more detail on any topic, you know how to reach us. (Todd@BullMarket.com 970.544.1707).
Key Market Indicators
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The Big Picture: Where The Growth Is
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BMR Companies and Commentary
Axcelis Technologies (ACLS: $95, down 9% last week)
High Technology Portfolio
Axcelis Technologies designs and manufactures critical equipment for the $550 billion global semiconductor industry. It recently released its fourth-quarter results, reporting $310 million in revenue, up 17% YoY, compared to $270 million a year ago. It posted a profit of $70 million, or $2.15 per share, against $65 million, or $1.99, with a beat on consensus estimates on the top and bottom lines.
As the global semiconductor boom accelerates, Axcelis continues to see strong demand for its Purion Power Series product family, hitting $1.2 billion in order backlogs to end the year 2024. This can largely be attributed to the semiconductor nationalism, aimed at reducing dependence on Taiwan and minimizing the supply chain risks that come with the same. In addition to this, Axcelis is currently riding on the coattails of many other tailwinds, ranging from the electrification of the automotive industry to the global rollout of 5G, IoT, IIoT, and AI, among others. The company generates 98% of its revenue from the ion implantation market, where it maintains a strong portfolio of products, alongside substantial blockades leaving it with very few worthy competitors.
The stock, alongside the company’s performance, cooled off substantially over the past year, and much of this can be attributed to the rationalization of capital expenditure in the industry. Apart from this, China, where Axcelis generates 46% of its revenues, was been hit with a prolonged slowdown. However, now that the country is starting to turn around once again, we expect robust demand going forward.
After surging 140% in the first half of 2023, the stock has shed more than half its value from its all-time high of $201 last summer, currently down 24% year-to-date. This creates an interesting situation: a growth stock with a compelling valuation, trading at under 3 times sales and 12 times earnings, especially as it begins returning capital to investors with $15 million in buybacks during the quarter. With $510 million in cash, just $45 million in debt, and $160 million in cash flow, the company is poised for strong future growth in this industry that is roaring on all engines. The Target is $200 with a Sell Price of $105, both of which should be adjusted today. The stock is sitting now where it was a little over a year ago. In 2021, the stock was at $30. So let’s look at revenues and earnings.
| Year |
Revenue |
Earnings |
| 2023 |
$1.15 billion |
$250 million |
| 2022 |
$920 million |
$180 million |
| 2021 |
$660 million |
$100 million |
Note that the company is still tiny compared with the big boys in the industry, with a market cap of just $3 billion. The company might just be on the buyout list of many companies in the business.
We are moving the Target to $150 and the Sell Price to $75.
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Bill Holdings (BILL: $60, down 3%)
High Technology Portfolio
Financial management platform for small and medium-sized businesses, Bill posted its second-quarter results recently, reporting $320 million in revenue, up 20% YoY, compared to $260 million a year ago. It posted a profit of $70 million, or $0.63 per share, against $50 million, or $0.42, with a beat on consensus figures on the top and bottom lines, coupled with robust guidance for the third quarter and full year.
The company generates the bulk of its revenues from subscriptions and transaction fees, at $275 million, up 19% YoY, followed by float revenue, which is interest earned on client deposits, at $43 million. The latter number was a significant increase in recent years owing to higher prevailing interest rates. During the quarter, the company processed $75 billion in payments, across 26 million transactions, up 11% and 23%, respectively. The platform now hosts 470,000 small and medium-sized businesses located all across the world, up 19% YoY, alongside 5.8 million network members, 7,000 accounting firms, and 7 out of the 10 largest financial institutions, resulting in a strong barrier to its competition.
The company saw a marked slowdown in its growth rate, from 65% YoY in 2023 to just 20% during this particular quarter. This is owing to its significant macro exposure, and the prevailing broader slowdown, coupled with the company hitting a saturation point in certain regards. Its next stage of growth will come internationally, where it has an addressable market of over 330 million businesses.
Despite an 82% pullback in the stock from its all-time high in 2021, it still features a fairly expensive valuation of 5 times sales and 21 times earnings. During the quarter, the company returned $200 million to investors in stock buybacks, made possible by its $2.6 billion in cash reserves, $1.9 billion in debt, and $250 million in cash flow. Our Target is $85 and our Sell Price is $50. The company produced strong growth in revenues, having done $240 million in fiscal 2021, $640 million in 2022, and $1.05 billion in 2023. It appears that revenue for the fiscal year that ends June 2024, will total about $1.2 billion, quite a slowdown, just 16-18% growth when we have been used to 50%+ growth.
Bill Holdings has a $6 billion market cap, quite a comedown from the $36 billion it hit in 2021. Do we want to hang with the company now after this comedown? That’s a good question and one that you have to ask yourself as well. We like companies that are growing 30% a year or more, but perhaps we are entering a different dynamic lately and should be pleased with 15-20% growth. We’re going to stick with the company for a little bit longer but watch it closely. If the stock moves to the $55 level, our new Sell Price, we are moving on.
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PayPal (PYPL: $62, down 4%)
Financial Portfolio
Global payments giant PayPal released its fourth quarter results recently, reporting $8.0 billion in revenues, up 9% YoY, compared to $7.4 billion a year ago. It posted a profit of $1.6 billion, or $1.48 per share, against $1.4 billion, or $1.24, beating consensus figures on the top and bottom lines. The company, however, disappointed some on Wall Street, with its guidance for the coming year, at 6.5% revenue growth, making us think long and hard about the future of this investment. For the year, the company did $30 billion in revenue, up 8%, up 75%(!), with $4.2 billion in profits. The is no small company, clocking in at $65 billion in market cap.
The numbers are certainly big. During the quarter, the company’s payment volumes hit a record $410 billion, up 15% YoY, and $1.5 trillion for the full year, up 13% YoY. This was driven by a 14% YoY rise in total transactions per account, at 59, helping offset a slight decline in the total active accounts on the platform at 426 million, down 2%. This was largely the result of the company ending its extensive promotions involving bonuses and cashbacks.
Two years ago, PayPal was forced to manually close over 4 million accounts in response to massive promo fraud and abuse. It marked a shift in the company’s marketing strategy, and the repercussions of this are being felt to this day. It is now focused on the quality of accounts, rather than merely focusing on fresh new accounts opened, and it seems to be working well given the positive metrics that have resulted.
PayPal introduced several new services and initiatives in recent months, the most promising of which is its PYUSD stablecoin, designed to make international payments a lot smoother. It allows users to transfer US dollars to over 160 countries, without incurring any transaction fees, marking the company’s biggest foray into cryptocurrencies, in the $150 billion stable currencies market.
Following an 80% pullback since its all-time high in 2021, the stock trades at an enticing valuation of just 2.3 times sales and 12 times earnings. With a string of new products, services, and initiatives around the corner, extensive restructuring, and $5 billion in buybacks, we expect strong value creation in the months ahead. It ended the quarter with $14 billion in cash, $12 billion in debt, and $5 billion in cash flow. Our Target is $75 and our Sell Price is $48, hereby raised to $54. We’ve been with this company a long time, having added it at $31 in 2016. We’re looking at a 100% return which is fair, but the return was a lot better by 2021, three years ago, when it hit $310. Will it ever return to its glory days? Tough question. At this level and valuation, we have a company that is growing (revenues of $21 billion in 2021, $30 billion in 2023), with strong profits each year. We like this company and would suggest you stick with it and add to it as it moves higher (or lower – either way a winning strategy). The company is a leader, is strong financially, and will come out on top as we move into the 2nd half of the roaring 2020s.
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Shopify (SHOP: $70, flat)
High Technology Portfolio
eCommerce platform Shopify had a phenomenal fourth quarter to cap off an impressive year, posting $2.1 billion in revenue, up 24% YoY, compared to $1.7 billion a year ago. The company posted a profit of $440 million, or $0.34 per share, against $93 million, or $0.07, beating consensus estimates on the top and bottom lines, yet investors were dismayed with the light guidance provided for the new year.
The company’s merchant solutions segment led the way with $1.6 billion in revenue, up 21% YoY, followed by subscription solutions at $525 million, up 31% YoY. This was driven by steady growth in gross merchandise volumes and payments, at $75 billion and $45 billion, up 23% and 32% YoY, respectively, as Shopify penetrates deeper into the commerce value chain while being aided by a resilient US economy.
Shopify unveiled many new products and services during the quarter, starting with Shopify Magic, its suite of new AI tools to help run stores more efficiently. This was followed by Sidekick, its AI-enabled commerce assistant, and its new ChatGPT-powered shopping assistant for consumers, all aimed at unlocking value for merchants on the platform, and helping them go toe-to-toe against larger retailers.
The platform now powers 11% of all e-commerce sales in the US, an amazing number when you concentrate on it, and has endless potential for further growth, both in the US and internationally. What began as a solution for small businesses to set up online storefronts with ease turned into the platform of choice for large B2B and consumer brands, including the likes of AllBirds, Mattel, and Carrier among others.
Let’s take a moment to discuss what makes Shopify such a great company:
Shopify's success stems from a combination of factors for both e-commerce businesses and investors. Here's a breakdown of its strengths:
Ease of Use and Scalability
Simple Interface: Shopify boasts a user-friendly platform that allows entrepreneurs with minimal technical expertise to set up and manage their online stores.
Scalability: As businesses grow, Shopify scales with them. They can adjust their plans and add features seamlessly to accommodate increasing needs.
Wide Range of Features and Integrations
Built-in Features: Shopify offers a comprehensive suite of features for managing products, inventory, payments, shipping, marketing, and analytics.
App Store: The Shopify App Store provides access to thousands of additional apps and integrations, allowing businesses to customize their stores and extend functionality.
Strong Ecommerce Ecosystem
App Developers: A thriving app developer community constantly creates new extensions and tools for the Shopify platform.
Payment Gateways: Integrates with various popular payment gateways, offering flexibility for customers.
Support Resources: Provides extensive documentation, tutorials, and a supportive community for troubleshooting and learning.
Focus on Merchants
Affordable Pricing: Offers tiered pricing plans to cater to businesses of all sizes, making it an attractive option for startups and growing companies.
Success Stories: Shopify showcases success stories of merchants who have thrived using their platform, inspiring new entrepreneurs.
App Marketplace Revenue Sharing: Shares a portion of revenue generated by third-party apps with Shopify merchants, incentivizing app development for the platform.
Market Leader and Growth Potential
Market Share: Shopify is a dominant player in the e-commerce platform market, attracting a large user base and benefiting from network effects.
Constant Innovation: They continuously invest in research and development, introducing new features and expanding their offerings to stay ahead of the curve.
Global Presence: Shopify operates in a vast market with significant growth potential, particularly in developing economies.
Despite a 120% rally last year, the stock is still down by nearly 60% from its all-time high of $176 in 2021, while featuring an undeniably expensive valuation of 13 times sales and 70 times earnings. These figures are, however, well justified given its 20%+ YoY growth, and a 5-year CAGR of 40%. The company ended the quarter with $5 billion in cash, just $1.2 billion in debt, and $1.0 billion in cash flow. Our Target is $100 and we would not sell Shopify. We would suggest an over-allocation of this company in your portfolio. We believe in Shopify big time.
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Airbnb (ABNB: $155, down 3%)
Long-Term Growth Portfolio
Vacation rental giant Airbnb ended the year on a high note, with its fourth-quarter results, reporting $2.2 billion in revenue, up 17% YoY, compared to $1.9 billion a year ago. The company posted a loss of $350 million, or $0.55 per share, against a profit of $320 million, or $0.48, with a miss on earnings, but a beat on top-line consensus estimates, with strong guidance bringing respite for investors. The loss during the quarter was the result of a $620 million tax settlement with the Italian government, which amounts to 41% of its net profits for the full year. This, of course, is a one-time expense, and the company will return to profitability in the coming quarters. Other operating metrics and Key Performance Indicators were impressive, to say the least, hinting at a rebound in global and domestic travel.
Gross booking values hit a fresh high of $15.5 billion in the quarter, up 15% YoY, and a mammoth 80% since 2019, driven by a total of 100 million nights booked on the platform, up 12% YoY. With its new initiatives aimed at helping hosts unlock more value, the platform added a record 1.1 million new listings during the past year, up 18% YoY, bringing its total active listings to 7.7 million located around the world.
Airbnb was been faced with a few challenges and headwinds in recent years, starting with regulatory scrutiny, the ban in New York City, and intensifying competition. It is, however, working hard and succeeding in differentiating itself, much of which involves its new focus on creating experiences, not just renting rooms. This, coupled with its new AI-assisted booking tools gives the company an upper hand against competitors.
Going forward, the company will be unlocking value across its massive landed base of hosts and guests. As of now, it is in a sound financial position, with $10 billion in cash reserves, $2.3 billion in debt, and $3.9 billion in cash flow. In light of this, the company announced a fresh $6 billion stock buyback program, adding further support to its 15% rally YTD. Our Target is $195 and our SP is $125. This company has been changing the world as we know it, and we are here to say that it will continue to change the world of travel and experiences. At $100 billion in market cap, this is no small company. We expect it to hit new all-time highs ($214) in 2025 or 2026. Many very intelligent minds on Wall Street have large positions in the stock. You should too.
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Netflix (NFLX: $555, down 11%)
Long-Term Growth Portfolio
Streaming giant Netflix released its first quarter results last week, reporting $9.4 billion in revenue, up 15% YoY, compared to $8.2 billion a year ago. The company posted a profit of $2.3 billion, or $5.28 per share, against $1.3 billion, or $2.88, while blowing past estimates on the top and bottom lines. The stock ran into a bad day on Wall Street Friday and fell with big boys – Microsoft, Google, Facebook, Nvidia, Super Micro Computers, and others. But let’s put this in perspective. The stock was at $328 a year ago. It was at $555, its current price, two months ago in February. So a little pullback doesn’t faze us in the slightest. The numbers that the company produced are really all that matters. Take a look, below, at the new subscribers the company added in the quarter.
The company did remarkably well across a host of other metrics, starting with net new subscribers at an amazing 9.3 million, up from just 1.8 million a year ago, driven by its crackdown on password sharing and other initiatives. Total memberships on the platform closed in on 270 million, up 16% YoY, and well ahead of Street estimates at 264 million. Netflix, however, believes that subscriber growth is no longer its primary focus as it was all this while, with revenue, margins, engagement, and customer satisfaction taking its place. The company plans to phase out the reporting of its quarterly membership figures, a plan that hasn’t gone over well with investors, but this pullback was an overreaction nonetheless. The move to stop sharing membership figures each quarter was done with the same in mind. We are disappointed about this decision, but we’ll have to live with it. We’ll just have to watch revenues and profits even more closely, which is really what it’s all about anyway.
Netflix’s next stage of growth will come from monetizing its massive landed base and network effects, and the launch of its ad-supported pricing tier. Its foray into live sports streaming and video games was done in pursuit of the same. Other avenues include theatrical releases of select content to recoup its investment, merchandising, and product placements which have remained underutilized.
Despite the pullback last week, the stock remains up 18% YTD and 70% over the past year, while trading at a valuation of under 8 times sales and 32 times earnings. During the quarter, the company repaid $400 million in debt, while repurchasing stock worth $2 billion, made possible by its increasingly robust balance sheet position with $7 billion in cash, $17 billion in debt, and $7.3 billion in cash flow. Our Target of $590 was hit after the stock ran up to $638 in early April. Have no fear – that number will be seen again in the coming months. We’re raising our Target to $650 and our Sell Price remains: we would not sell Netflix.
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Blackstone (BX: $118, down 4%)
Stocks For Success Portfolio
Private equity giant Blackstone released its first quarter results last week, reporting $2.6 billion in revenue, up 2.6% YoY, compared to $2.5 billion a year ago. The company posted a profit of $1.3 billion, or $0.98 per share, against $1.2 billion, or $0.97, with a marginal beat on earnings and a slight miss on the top line. Business as usual for the largest manager of assets in the world. Fee-related earnings during the quarter stood at $1.2 billion. Fresh inflows stood at $36 billion, down 36% from the prior quarter and 16% YoY, but impressive nonetheless, considering its size. Its uninvested capital has now reached $190 billion.
All of Blackstone’s core funds posted strong performances during the quarter, with its core and opportunistic real estate funds gaining 1.0%. This was followed by its corporate private equity and infrastructure funds, up by 3.4% and 4.8%, and finally, its credit and hedge funds appreciating by 4.1% and 4.6%, respectively, which are impressive figures. This performance has been driven by strong global equity markets, coupled with an end to the Fed’s hawkish stance, reigniting mergers and acquisition activities that had come to a standstill over the past 18 months. The central bank remains non-committal on further rate cuts, which should help the market move forward on the deal-making front going forward.
Why Blackstone is a Leader:
- Experienced Team: Blackstone has a team of seasoned professionals with deep expertise in various investment sectors. This expertise allows them to identify promising opportunities, manage risk, and generate strong returns for their clients.
- Strong Track Record: Their long history of success and consistent performance have earned them a reputation for excellence in the alternative investment industry.
- Scale and Resources: The sheer size of their AUM allows them to access exclusive deals, negotiate better terms, and attract top talent, further strengthening their position.
- Focus on Innovation: Blackstone actively explores new investment strategies and asset classes, staying ahead of the curve and adapting to evolving market trends.
- Client Focus: They prioritize understanding their clients' investment goals and risk tolerance, tailoring solutions that meet their specific needs.
Overall, Blackstone's combination of a diverse range of alternative investments, a highly experienced team, a stellar track record, immense resources, and a commitment to innovation makes it a dominant force in the alternative investment landscape.
The stock is down 8% YTD, following a 76% rally last year, but we cannot discount its potential for consistent fee income, from its $1.06 trillion in assets under management. Blackstone returned $1.2 billion to investors in buybacks, in addition to its annualized yield of 3.6%.
It’s been a good investment for us. We added the stock at $27 in 2016 and we have a Target of $150 on the stock. We would not sell Blackstone. The firm has the best asset managers in the world and that allows stockholders to sit back and let them do their thing.
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Alphabet (GOOG: $156, down 2%)
Stocks For Success Portfolio
Reporting Earnings This Week!
While revenues and profits continue to scale unabated, Google parent Alphabet has had an undeniably rough couple of months. On the heels of its first quarter results this week, some investors remain ill at ease, with the company firmly on the backfoot on the AI front, trailing behind competitors such as Microsoft, which is making massive strides in collaboration with OpenAI across its suite of products and services. Note that we at The Bull Market Report are not some of those investors who are ill at ease with this great company.
Google has introduced the world to Gemini, its generative Artificial Intelligence entry into the competition for the world’s eyeballs. Have you tried it yet? Powerful beyond words. Plus, the company still has remarkable moats, with integrations across platforms, browsers, and devices. Whether it is ChatGPT itself, or Microsoft’s Bing search engine with the new AI tool, Copilot, neither can build the kind of ecosystem that Google has painstakingly acquired over the years. Stay tuned for a NewsFlash on Alphabet after earnings are released on Thursday after the close.
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Microsoft (MSFT: $399, down 5%)
Stocks For Success Portfolio
Reporting Earnings This Week!
Tech giant Microsoft is doing everything right of late, and its market cap of $3 trillion at 30 times earnings reflects the same. Certain analysts and observers are concerned that this AI-driven exuberance is set to burst, but this is remarkable shortsightedness that comes from traditional valuation models which fail to factor in the remarkable disruptive and value creation potential of the latest advances in AI.
Just last week, the company released a research paper on AutoDev, its new framework for automated AI-driven coding. This framework will make manual coding a thing of the past, and bring application development to individual managers, as opposed to large teams. Software development jobs in the future will be more management and supervising of AI, rather than coding and development.
The company is set to release its third-quarter results after the close on Thursday, and more than its earnings and beat on consensus figures, we are looking forward to its next big exploits on the AI front. Microsoft made groundbreaking advances in AI in 2023, and we expect this momentum to continue unabated this year, as it unveils its growing prowess in this field across its massive portfolio of products and services. Stay tuned for a NewsFlash on Microsoft later this week after earnings are released.
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The Bull Market High Yield Investor
Concerns about persistently high inflation locking the Fed into high interest rates have rattled the bond market in particular but stocks are also feeling the pressure, seemingly confirming the common belief that once rates cross a certain threshold the environment gets toxic fast. But here's the reality: Going back across the past four decades, whenever 10-year Treasury yields spiked above 6%, the S&P 500 delivered an average annual return of 14.5%, compared to a less exuberant 7.7% return in years when bonds were paying less than 4%.
As it turns out, stocks performed better during periods of rising interest rates, with an average annual rolling one-year return of 13.9% as opposed to 6.5% in a falling rate environment. That probably isn't our world right now, but it supports the way the market has resisted its most bearish impulses as the economy adjusts to the Fed's most aggressive moves.
Remember, lower rates can often signal sluggish economic growth. The Fed cuts in the face of looming disaster and stays there until they’re 100% sure we’ve averted disaster. As a result, higher rates may actually reflect a stronger economy and the prospect of better corporate earnings, factors that usually bode well for the stock market. What's going on now?
Bond yields have been climbing since April, with the 10-year Treasury yield peaking near its highest level since November. This coincided with a decline in the S&P 500.
However, in our view, this anticipates a “return to normalization” with yields eventually settling around their 75-year average of 5%. You read that right. Rather than being some toxic frontier, 5% is average. It’s normal. And it’s really just about 2 percentage points above ambient inflation. If the Fed coaxes price pressure back down to its target, that translates to bond yields staying at or above 4%.
But the most important thing here is that the world didn't end in November, which is the last time long-term rates got this high. Unless something fundamental has broken in the last 5-6 months, the world is unlikely to end now. What matters to us is where the bond market starts paying a high enough yield to become a compelling alternative to dividend-paying stocks. Right now, we aren't especially impressed with anything less than 2 percentage points above ambient inflation, which eliminates just about the entire Treasury market from serious consideration.
Yields need to get higher to give stocks or even cash a run for their money. That means the bond market is in for more pain. And in that scenario, the risk-return calculations favor our High Yield recommendations as a place to park money and earn income at relatively low risk. They might not have the same near-zero risk profile as federal debt, but they make up for it by offering investors a chance to collect additional upside over time. Bond returns are fixed if you hold them to maturity. Stocks are always a work in progress, where we sacrifice certainty (nothing is "fixed") in exchange for a potentially richer long-term return.
However, our ability to say that with any degree of confidence requires some sense that dividends will keep coming. Congressional bickering aside, there's no threat that Treasury bonds will fail to pay the rate you lock in when you buy them. But if you can't count on your stocks to at least keep their dividends where they are, there's no clarity there at all. You want to know that your portfolio can pay the bills. If something starts to look like it isn't working, it needs to go. That's where we are now with one of our holdings.
BlackRock Income Trust (BKT: $11.37, up 1%. Yield=9.3%)
REMOVING FROM ACTIVE COVERAGE
A leading closed-end fund with exposures to mortgage-backed securities as well as US government treasuries, BlackRock Income Trust had been on an ascendant streak since the latter half of last year, but this momentum has since fizzled out. Yet, none of this should matter to conservative, income-seeking investors, with a long enough time horizon, given the fund’s remarkable yields.
The trust’s rally starting mid-last year was largely the result of the Fed ending its hawkish stance, and embarking on rate cuts for the first time in two years. Things, however, have changed in recent weeks, with the Federal Reserve now seemingly in no hurry to cut rates any further, resulting in a pullback in the stock, and leaving it down by 8% YTD.
The Trust invests in AAA-rated securities, backed by government agencies such as Fannie Mae and Freddie Mac. As interest rates rise, bond prices go down, and the stock trades at a discount to book value – currently 11%.
The trust is struggling to cover its distributions as of now, and analysts fear that a dividend cut is around the corner. This has put pressure on the stock and will put more pressure on the stock.
The stock has been a laggard for quite some time now. In the last 12 months, the stock is down 8% and there is some conjecture that the firm may have to cut its dividend. If that happens we can see the stock drop another 8% in the following month. We don’t want to take this risk so we would suggest a sale of the stock at this point. We are thus removing the stock from coverage. The investment hasn’t been a good one for us. We added the stock at $18.33 in 2019, and we should have gotten out a long time ago.
Good Investing,
Todd Shaver, Founder and CEO
The Bull Market Report
Since 1998
