Market Mayhem (11/12/2021)
Market Mayhem (11/12/2021)
Evergrande Update, ARK's Demise, SenseTime Blacklisting, and The Swedish Bonanza.
Evergrande Update
The indebted real estate developer recently missed another $82.5 million interest payment that was due on Monday, even after a 30-day grace period. In response, Fitch declared the firm’s overseas bonds to be in ‘restricted default’, although no similar admissions was made by Evergrande.
Now, investors are expecting a government-led restructuring that will aim to not only repay select creditors, but also ring fence the situation. The government stated that homebuyers would be prioritised and that international bondholders would not be excluded.
Evergrande’s founder and chairman, Hui Ka Yan, was also forced to sell $60 million worth of his shares to repay creditors, reducing his stake from 67.9% to 65.8%. He has faced criticism for his lavish lifestyle and the chaos that his firm has inflicted. Also, he has proven resistant to the idea of selling the group’s best assets, presumably because he fears that they will only fetch discounted prices. It seems clear that value destruction is inevitable anyway.
The Demise of ARK?
Cathie Wood, founder of the investment firm Ark Invest, may have a mild headache. Her strategy of betting on innovative, disruptive, and thus extremely expensive growth firms played out wonderfully for a few years, but the tide seems to be turning.
In the past six years, the firm’s $16.4 billion flagship ARKK Innovation ETF almost quadrupled in value (including dividends) for a compounded annual return of 31%; melting the S&P 500 and MSCI World indices.
However, the fund is down 23% year-to-date, whilst the S&P 500 and MSCI world indices are up 27% and 21%, respectively.
Is there an explanation? For sure.
Cathie Wood continues to bet on growth companies, but these are thirsty for capital which is a prerequisite for expansion. This is particularly true if the firms are not profitable, and ARKK’s holdings rarely are - the fund’s average price-earnings ratio is not even available. Rising inflation goes hand-in-hand with the threat of interest rate hikes, which would make borrowing more expensive; the tapering of asset purchase schemes is already underway.
Concentrated bets also amp up risk and rewards, and ARKK’s top 10 holdings occupy 51% of the portfolio. If we look at the performance of the six firms given the largest allocations, we see that all have plummeted in the last month or two, with three losing >40% since April 15th. Tesla’s run-up stands between the fund and disaster.
I was skeptical of these funds from the beginning as there are countless stories of ‘star stock pickers’ initially excelling in frantic bull markets and then presiding over serious downturns. Ms. Wood spins an enticing narrative for these hot stocks, but the suggestion that infinite patience is key and that her rosy scenarios are bound to play out just seems absurd. The average price-to-cash flow ratio of ARKK is 85! It seems obvious that Madame Wood is forking over too much cash for these firms - there is no margin of safety. It’s not different this time.
Controversial: SenseTime
The Chinese AI firm SenseTime produces face recognition technology that has allegedly been used to target Muslim Uyghurs in Xinjiang. It is for this reason that the firm was blacklisted by the U.S. to mark Human Rights Day (Friday), prohibiting further investment. Silver Lake, Fidelity, and Qualcomm already have stakes in SenseTime.
The move coincided with SenseTime’s planned IPO in Hong Kong where it sought a $17 billion valuation. The listing was cancelled that day and delayed yet again. HSBC serves as the only Western book runner.
The Chinese state is SenseTime’s number one customer and is actively backing the company. For example, China Chengtong Holdings - a state-run investor - has pledged to purchase $200m worth of shares out of an approximate total of $750 million.
The blacklisting decision seems symbolic above all else, but something is better than nothing.
The Swedish Bonanza
In the past twelve months, the value of Western European IPOs stood at €85.4 billion. London occupied first place, raising €23.8 billion, but Sweden came in second, raising a total of €14.1 billion.
This is surprising if we consider that Sweden’s GDP is dwarfed by that of other European powers such as the UK, France, Italy, and Germany; the country truly seems to punch above its weight class.
Now here’s the kicker. Sweden’s IPO haul this year sets an incredible record for the nation’s stock market in historical terms as can be seen below.
In terms of deal size, the public offering of Volvo Car AB topped the list at roughly €2.3 billion, followed by Storskogen AB at €1.5 billion, and the oat drink manufacturer Oatly at €1.4 billion.
Investors are spoiled for choice when it comes to Sweden which has more listed companies than any other EU nation (about 950). Also, the vast majority of these firms are small caps that may have enticing growth trajectories.
Why is Sweden in financial wonderland right now?
Jonas Strom, chief executive of the investment bank ABG Sundal Collier, stated that the nation's ‘secret sauce’ stems from a powerful investor base consisting of small institutional firms and a culture of putting savings into equities:
“[In Sweden] there are many smaller professional investors that don’t need a 100-billion-euro transaction but are happy with 50 million euros.”
Swedish startups are also thriving in a permissive regulatory environment; think of unicorns such as Klarna.
I think it's fantastic that European markets are getting some love, especially when plenty of firms are choosing to list in the U.S. which continues to be the epicentre of capitalism.
Let’s hope that Sweden’s recent rise is not a flash in the pan.
Top reads from this week:
“Life at the top gets harder for chief executives” - Financial Times
"Ukraine: what does Vladimir Putin want?” - Financial Times
“The challenges facing Olaf Scholz’s new German government” - Financial Times