Markets Update - February '24

1. January Performance Review and February Insights

2. The Mag 6 Take the Market to All-Time Highs

3. Trading the Chinese Rebound

4. Bitcoin ETF and Inflows

1. January Review and February Insights

• In January we saw more hawkish rhetoric coming out of the Fed (likely because of the number of rate cuts that the market began pricing in during the last months of 2023) and economic data on the labor front that came in hotter than expected (nonfarm payrolls came in at 353,000 for January vs expectations of 170,000). US yields, as a result, have moved a tad higher, and expectations for a rate cut in March have basically been canceled. For now, at least.

  

• This repricing of hawkish sentiment was felt by the Russell 2000 (down almost 4% for the month), but the story for the S&P 500 is a different one, having closed January 1.5% higher to reach fresh all-time highs. The driver? The usual suspects – the Magnificent 7 (more on this below), which have added nearly $1 trillion in value so far in 2024.

• More important is to note that a positive January is a good omen for full-year market returns: since 1957, whenever January yields a performance north of 1.5%, there’s an 80% probability of positive returns for the rest of the year, with a median return of 13.5%. 

• We think that the odds are in favor of a positive full-year performance. The key driver of this, as we pointed out in December, is the liquidity cycle (according to CrossBorder Capital usually lasts 5-6 years), which is the key driver of markets and multiples in aggregate terms. We’re currently seeing more and better money entering the system, especially as Central Banks around the world claim victory over inflation and begin to lower rates once again (this eases financial conditions and adds liquidity to the market). This should continue to benefit risk assets, especially US equities.

  

• Additionally, there’s $8 trillion in Money Markets Funds that are likely to be moved into stocks (and potentially bonds) once we get the confirmation of a rate cut. (We looked at this in detail here.)

  

• Despite the bullish backdrop, beware of seasonality this month: the last two weeks of February tend to be the worst two-week period of the year for the S&P 500 (blame it on Valentine's Day if you wish, but seasonality worked rather well in Q4 2023, so there is no reason not to keep this in mind).

  

• The same February effect is even more true for tech.

  

• Given how low volatility is (= cheap hedging), investors are likely to buy protection through month end to avoid losing P&L should history repeat itself.

  

• Positioning is also not too extreme right now. Goldman produces a "Sentiment Indicator" that looks at stock positioning across retail, institutional, and foreign investors compared to the past 12 months. Extreme readings are highlighted below, and there’s still room to run from here. (Other measures of extreme positioning like Relative Strength Indexes and the Bank of America “Bull and Bear” Indicator are also sending us the same message.)

  

• One interesting thing that has happened so far in 2024 is that tech’s performance has been moving alongside yields (instead of opposite to it). My guess is that by the end of the year, we’ll move back to the blue quadrant.  

  

2. The Mag 6 Take the Market to All-Time Highs

• Last month we flagged that in January we’d be looking for a continuation of the broadening of the market rally that started in November/December to assess if it was indeed the case to start adding exposure to non-Mag 7, high-quality companies that have lagged the rally in 2023.

• Instead, we got, once again, a pretty narrow group of stocks driving most market performance.

• The Mag 7 accounted for 45% of the S&P 500’s return for January, but if you exclude Tesla (and only consider the “Magnificent 6”), it made up 71% of the return. So yes, still a narrow market breadth.

  

• After results last week, the Mag 7 group has broken new highs vs the market.

  

• Fact: META’s 20% jump that came after it released FY results last week resulted in the single largest one-day gain in dollar terms of any company in the history of financial markets (almost $200 billion).

• Another fact: What people forget to mention is that this came two years after META erased $250 billion in value in one day as well (February 2022), which also holds the record of “Biggest One Day Wipeout” in dollar terms in history.

  

• The only company of the Mag 7 that still needs to report is NVIDIA (Feb 21st). Given the outperformance year-to-date and the seasonal historical weakness of the last weeks of February, we’d trade this event with care. 

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3. Trading the Chinese Rebound

• The Shanghai Composite in China had the worst start of the year since 2016, down more than 6% in January.

• Despite the tough start of the year and the $6 trillion worth of equity value wiped out in China over the last three years, global investors are happily trying to trade the rebound in Chinese equities. In fact, inflows into dedicated Chinese equity funds have been the largest since 2016.

  

• This past Tuesday, traders of the rebound have started to see the trade pay off as an investment arm of China’s sovereign wealth fund vowed to step up purchases of ETFs and regulators further barred short selling and securities lending. How much more support for the equity market can we expect from the government? Hard to say at this stage, especially because in China, equity markets have less of an impact on the actual economy than, for example, in the US given lower equity ownership.

  

• Positioning in Chinese equities remains at very low levels and valuation is cheap. The pain trade here is for Chinese equities to continue to move higher.

  

• Overall, we’d approach China in the same way that Bobby Vedral does: “In my view the biggest problem China has is a combination of math and geopolitics: if Beijing wants to grow at 5% while the US grows at 2-3%, then in the mid-2030s China will overtake the US as the biggest economy in the world. History tells us that the biggest economy ultimately sets the “rules”, which the US/West might not like. So, US/West ‘national security’ interests will try to slow Western capital flow into Chinese Tech or Green industries – which won’t be good for markets.

• Bottom line: unless there is a dramatic change in geopolitics, Chinese equities are worth a tactical punt but not a strategic allocation, irrespective of their (cheap) valuation.”

4. Bitcoin ETF and Inflows

• Ten years after the first Bitcoin ETF registration statement was filed by the Winklevoss brothers, in January we saw the SEC reluctantly approve 11 Bitcoin ETFs (the Bitcoin price was already pricing most of this approval in).

• Before the approval of these ETFs, US investors could only get access to Bitcoin by (1) buying actual Bitcoin through crypto exchanges, a process that for less sophisticated investors might have been a bit more burdensome; (2) buying Bitcoin futures ETFs, which were only allowed to hold Bitcoin futures instead of actual Bitcoin and were subject to several inefficiencies like higher fees, 6% annualized roll-over costs, and a smaller degree of investor protection; or (3) Buy Grayscale Bitcoin Trust, which was not an ETF but instead an investment trust, which comes with a whole set of inefficiencies like only being available to accredited investors and minimum of 6-month holding periods (detailed differences explanation here).

• The single most important advantage of Bitcoin ETFs is that they give institutional and retail investors the ability to get exposure to Bitcoin through well-known and well-established trading avenues (BlackRock, Fidelity, among others) that they are familiar with at a low cost - fees for BTC ETFs (0.2%-0.25% for the two largest ETFs) are smaller than comparable Bitcoin futures ETFs (0.75%).

• So far, the Bitcoin ETF complex has seen $1.5 billion of net inflows.

• Grayscale is ahead of everyone thanks to their first mover advantage (the trust, which was already available to investors, was turned into an ETF in the meanwhile), but we should mention that, since ETFs were approved, Grayscale's ETF has actually seen almost $6 billion of redemptions given how they charge a higher fee vs Blackrock (iShares) or Fidelity.

  

• It’s still early days, and as such we do not know how successful the launch of Bitcoin ETFs has truly been (when the first Gold ETF was launched, by this time it had seen around $2 billion of net inflows).

• Many financial institutions have tried to come up with estimates of the total amount of AUM that might be allocated to ETFs once the product is mature. Case in point - Galaxy’s approach was to estimate a ramp-up in access to bitcoin ETFs, a % of the audience that is interested in getting exposure to bitcoin through the newly approved ETFs, and an average % portfolio allocation to those products by that interested audience. The numbers work as follows:

  

• We think that these numbers are at best, speculative, and should be viewed as such. But AUM aside, one thing is clear – with the number of large financial institutions that have decided to offer Bitcoin ETFs, there’s a financial incentive for them to start educating investors and market the asset class. We’d be surprised if this doesn’t have an impact over the next couple of years.

💡 If you haven't already, make sure you check out Roger's latest macro pod with Tyler Neville, Macro Analyst at Corriente Advisors here.

In this conversation, Roger and Tyler explore in depth the opportunities that lie ahead of the last decade of the Fourth Turning: from centralized to decentralized networks, to frontier opportunities in developed and emerging markets, as well as why active managers should be able to kill it in this environment.

It’s a multi-disciplinary debate that focuses on the most important macro trends of our time, well beyond just talking about Fed pivots or rate hikes.