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Good morning partner,
A few things to cover this morning:
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Friday’s Session
The unwinding of the AI trade continues to accelerate, with the majority of constituents now trading well into bear markets.
Unlike corrections, which act as the market’s way of taking a breather and checking the validity of older assumptions, bear markets mean something entirely different.
It’s an admission of error, where older views and ideas are no longer valid.
Considering this is all happening just days after Anthropic released its proper S-1 filing, I have reason to believe the entire market no longer believes on what AI financials can deliver from here.
At the end of the day, up to $3.7 trillion worth of AI debt is going to go unfunded.
Which is why Anthropic’s debt is now classified as junk, along with those of the neoclouds and - to some extent - the hyperscalers like Google.
You may be wondering how a bullet-proof company like Google can see its debt trade closer to junk status, after al its balance sheet is one of the strongest in the world.
Well,
When you hide a mountain of debt, mislead investors on how much the company actually earned this quarter, and bet your entire balance sheet on an industry that is collapsing in real time…
12% selloffs in a single day aren’t surprising, even for a trillion-dollar market cap.
Let’s take a look at Friday’s leaders and laggards:
Defensives, Energy, Utilities.
We remain in the “growth shock” theme still, and going into a second consecutive week of it.
With inflation remaining hot, mortgage rates still high, and an all-time low consumer sentiment…
I wouldn’t be surprised to see these “boring” real economy stocks outperform the most exciting names in the AI complex.
In fact, that has been the case over the past two weeks.
You can refer to yesterday’s weekly plan to see the factor rotations at play, and verify that:
Momentum and growth are close to being negative for the year
Value and breadth are close to outperforming everything else
On the analog, this looks very similar to a 2022 episode, where next quarter’s GDP print could very well show us a significant economic slowdown.
Last quarter showed you AI is no longer driving the economy, and now that financing is becoming increasingly risky/difficult, economic growth now rests on the consumer and defensive business activity to recover.
Even Europe is reporting better GDP growth than the United States!
How I’m reading this?
Real estate used to be an attractive “coiled spring” for me, but as long as mortgage rates stay this high, I think we may have to pass on that idea for now.
The good news is we already played the breakout last month, and delivered a combined 11% return on West Fraser Timber (WFG) and Weyerhaeuser (WY.)
After they reported earnings last week, most of the catalysts are now done and over with.
So now the question becomes: “Do I buy/hold/sell?”
There are three parts to making this decision, and unlike what most scammers teach you, charts and technicals are the last part (and the least important.)
Pick a Side
The antithesis to the AI trade is the most popular narrative out there:
AI will kill software
While that is true for some companies, there is also a reason why companies like Adobe, Workday, Duolingo have managed to stage a 20%+ rally from the lows.
Which technically is a bull market.
I like to think about it this way…
In order for AI to truly reach the revenue levels they have promised the world, they need to land enterprise deals which represent tens (if not hundreds) of millions in contracted revenue.
Power users like you and me will not cut it, even if we somehow spend $100,000 a year on AI, it’s simply not enough.
Software companies are the logical next step, since implementation can not only improve products, but also increase profitability through AI.
Which is why software companies are essentially the opposite to AI companies in terms of price action.
That, in the simplest of terms, is the noisy trade boiled down to your better risk/reward.
However,
Prime book data from the top investment banks show that wealthy individuals and asset managers are already positioned for that outcome, so your opportunities are thin and scarce.
I would much rather hunt in the areas where these participants are not present at all, through:
AI-proof businesses dealing in physical assets
Small companies where large participants cannot operate
Deeply undervalued and misunderstood
There are a few in my watchlist already, but only one has been bought with high conviction.
It not only outperformed the index (and the AI trade) by over 20% this month, but it also generates upwards of 20% annualized yield through options premia.
This week,
Quarterly earnings will be released to either prove or dismantle my thesis on it, which is aiming at over 200% upside in the next 12 months.
News
Binance Suffers a Record Cyber Theft to spark a new wave of uncertainty and fear around rogue AI capabilities to breach protocols and hack into institutions, creating a hurdle for that enterprise adoption theme mentioned above.
China Convenes on Boosting Stocks coming up, building on the idea that Chinese equities will likely outperform other major indexes over the coming decade like Japan and Korea did in the 1980s and early 2000s. Click here to read my China study.
AI Credit Falls to New Lows as yields continue to spike, pricing in several risks that are going unnoticed by the equity markets. When equity and credit diverge, you listen to credit.
Trump Calls Out Refinery Profits to further threaten and curb the spread between crude and distillate fuels, helping to drive my long/short diesel spread trade further in profit.
Movers & ES Levels
Mondelez International 📈 Gained over 4.5% after posting a more profitable quarter, boosting the defensive and staples trade thesis ahead of tomorrow’s Vital Farms quarterly release.
FedEx 📈 Rallied 15% with a strong quarterly performance, demonstrating that an improving diesel spread may send profitable ideas our way in the transportation sector next.
SanDisk 📉 Dropped 13.5% despite an earnings beat, which seemingly wasn’t enough to offset the growing oversupply in the chipmaking sector, I suspect the same is about to hit Micron coming up.
NVIDIA 📉 Slipped 4.1% even as the hyperscalers published a massive increase in AI spending, counteracting the capex momentum as the company offloaded its AI debt risk onto insurance companies.
Now let’s get into some ES levels for today.
After losing the $7,700 cutoff point for this distribution, I think we are now approaching a critical week to determine the end of the year’s price action.
October is historically a weak month for the markets, so whether November can repair the losses will be one of the most important takeaways from the market.
$7,550 to $7,600 remains an area of conflict for participants to determine, with $7,600 being a highly contested level with aggressive buyers now “trapped” there.
$7,650 was the last “trap” level for aggressive buyers, and they got rammed by sellers to reach the $7,600 mark here.
Therefore, $7,650 could be the next resistance level, leaving $7,600 as support.
Buyers want to ram $7,650 and get back to (and above) the $7,700 cutoff point.
Sellers will likely wait for the excitement to build around $7,650 to then aggressively step in on the tape again.
Plan accordingly.
Portfolio
We are approaching the next PMI prints for the month, where 80% of my trade ideas come from for monthly/quarterly swings.
Just like last month, I will refill the pipeline of ideas to bring the portfolio into a new all-time high before the year ends.
In other developments,
The ideas around China, small/micro-caps, and other high-conviction areas will be worked on and delivered to Premium members soon.
Meanwhile,
We remain steady on the PMI picks and the options premium rolls that will be executed this month.
Here’s the positioning update for today’s premium members:
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