Welcome back to the Lumida Ledger. Here’s a preview of what we cover this week:

• Macro: Building Permits, Consumer Sentiment, GS financial conditions index

• Markets: The S&P Winning Streak - What does it? Semiconductors & Energy, European Equities

• AI: LLM Competition is Heating up; AI is a Volume Game 

• Digital Assets: Bitcoin ads are coming

Happy Holidays from Lumida Wealth!

To show our gratitude this festive season, we've got a special surprise for you. Tomorrow we're sharing two unique gifts: 'Top 10 Stocks to Invest in for 2024' from Lumida Ledger, and a '2024 Health and Wellness Gift Guide' from Leaving a Legacy.

Make sure you're subscribed to receive your holiday gifts. 

Let’s celebrate the joy, warmth, and prosperity of the season together. Happy Holidays!

Lumida Non-Consensus Podcast Interview

This week, Justin and Ram spoke with Consumer Trends Strategist at Mintel, Biota Macdonald, to cover what are the Big Consumer Trends to Stay on Top Of?

You can also find the podcast on Spotify or Apple - look up ‘Lumida Non-Consensus Investing’

Markets on a Winning Streak

Stocks haven't had a winning streak like this since 2017.

Let's take a look at the the S&P 500 in 2017.

First off, 2017 was a bull market as were the following years.

The behavior we are seeing today is consistent with a bull market. 

Markets are expecting earnings growth. And analysts are indeed forecasting strong earnings growth the back half of next year.

How about Sentiment? Have we run too far?

What you see at the end of 2017 is record positive sentiment. 

The AAII bull bear ratio, a measure that has done a reliable job of identifying peak bull and bear sentiment, got to 72 then and a correction followed. (These sentiment indicators have predictive value at extremes.)

We're in the low 60s now, up from the 30s in Q3. Sentiment is thawing, but we're not yet quite giddy. There are still macro fears around.

In 2017, markets went parabolic at year-end.

That parabola effect sucks in buyers on the sidelines (FOMO effect).

When everyone is in, there's no one left to buy. 

Then markets correct. 

Ultimately, in 2017 improvements in fundamentals supported the bull market and it continues after the excess shakes out.

Today, enthusiasm is not as peak as it is in 2017. 

The 'Goldilocks' narrative is creeping in. The positive seasonality on tap could push markets further and perhaps even get a parabola going. 

But, should that happen, that would last only for a few weeks, as it means Sentiment would start to hit peak.

We also saw yesterday how the Volatility factor - a factor that does a good job of capturing 'Animal Spirits' is getting close to a turning point. Factors explain the co-movement of security returns. That factor in the next few weeks, perhaps after the robust year-end seasonality, should start to mean revert. 

(Chart is an excerpt from our Omega Point factor model. This is a powerful risk engine used by hedge funds.)

As an Investor, how should you position?

You should be "coasting" during this period and not chasing winners. You should re-balancing out of slower growing Mag 7 gains.  

I have a strong conviction that several Mag 7 names (e.g., Apple, Tesla, etc.) will under-perform next year - and that's already happening now. Take a look at Apple lagging Small Caps for instance.

You should also be locking in gains from high-octane winners this year like Coinbase. You might wait until the New Year if you want to squeeze out a bit more seasonality.

If you're deploying new capital, the move to make is not chase the FOMO parabola - should we see one emerge. Temper the FOMO instinct.

The time to buy these names was in mid-to-late October (which we wrote about and did). The names we discussed - ASML and Broadcom are making their own mini-parabolas.

Cyclicals (e.g., energy, small caps, select financials) I believe are good ideas, and I expect will continue to work next year. 

Small caps are trouncing Mag 7 over the last several weeks.

There are also smaller, faster growing tech companies (about 125 that all out-grow Mag 7) that are worth looking at. Like Zoom Info for instance.

As the fear of recession abates, investors are starting to look around at other pastures and get ahead of a rate cutting cycle.

Zooming out, this is a bull market. 

But, be thoughtful so you don't get whipsawed chasing the semiconductor or AI narrative that has a couple weeks to go before mean reversion re-introduces itself.

Macro

Building Permits is another leading indicator showing renewed strength despite rate hikes.

Consumers are feeling positive psychology from the decline in mortgage rates.

It doesn’t matter that the mortgage rates are sky high. What matters is that they are falling.

Consumers want to be on the “right side” of the mortgage rate slope. I’m not saying it’s rational - that’s just consumer behavior.

And the decline in mortgage rates on the margin stimulates housing activity…even though mortgage rates are still high.

Goldman Sachs financial conditions index remains easy

One of our favorite indicators is the GS financial conditions index.

The US Financial Conditions Index reflects access to liquidity. It’s below the 25 year average.

High rates have been confounded by access to liquidity.

We like this point by market strategist Ed Yardeni explaining why leading indicators failed to predict a recession:

“We’ve often explained why they are misleading. For example, inverted yield curves in the past have anticipated that the Fed’s tightening would break something in the financial system, causing a credit crunch and a recession, that’s not always the case. There was a mini-banking crisis in March of this year. But it was contained by the Fed so had few systemic ripple effects.

The LEI has misfired its recession signals because its composition is biased toward predicting the goods sector more than the services sector of the economy. 

There has been a rolling recession in the goods sector, but it has been more than offset by strength in services, nonresidential private and public construction, and high-tech capital spending.”

Market Stats - Bullish on 2024

Stat #1: Last week saw >68% of the components in the S&P 500 make a new 20-day high.

This is one of the highest readings ever and suggests extreme buying pressure.

Going back 50 years, higher a year later 10 out of 10 times. The average gain was 18.1%.

Stat #2: More than 40% of the components in the S&P 500 hit an RSI >70 last week.

Yes, we are super overbought, but we also see this type of action at the start of strong bull markets:

• Jan '75

• Oct '82

• Feb '91

• July '20

• Now

Up a year later all 4 times and up 25.7% on average.

Stat #3: Looking at all the seven week win streaks since 1950 showed that stocks were higher a year later 25 out of 29 times, or more than 86% of the time

Stat #4: 

The Santa Clause Rally started this Friday.. 

It is 7 total trading days (last 5 of the year and first two of the next year). 

Did you know that no other 7-day period is more likely to be higher for stocks?

Up 79.5% of the time. Avg return is 3rd best at 1.32% on average.

Did you know that no other 7-day period is more likely to be higher for stocks?

This period has brought an average return of 1.32% and has been positive nearly 80% of the time, ranks on top compared to other trading days throughout the year. 

[ h/t Ryan Detrick ]

The Big Secular Trend is Semiconductors

Here are a couple themes to look out for the next 10 years:

• AI

• Crypto

• Robotics

• Grid electrification

• EVs

• Mobile phone

• Computing

• Internet of things

• Self-driving cars

• Rockets

What do they all have in common?

Semiconductors, the ultimate picks & shovels play.

The Everything Bubble will be over when semiconductors have P/Es in the stratosphere.

We have a long way to go.  [Link to this tweet]

We See Value in Energy Stocks

Oil recently experienced a 25% drawdown after first hitting a 52-week high.

Which sector experiences the best 1-year return after similar instances?

Energy.

Overweight energy…

Energy is also a hedge against tech weakness, and geopolitical risk. Energy stocks also throw off dividends like bonds.

When tech stocks drop, energy stocks are rising. Energy stocks are the new bonds.

It’s a great diversifier that compounds and one of the areas today where we see value.

The US is Leading the World in Equity Performance

The ETFs for the G7 countries are near their 52-weeks highs. The United States is showcasing its market strength by breaking ahead of other markets. 

Whenever we see a Performance Chart, our eyes look to the top and the bottom.

The top is where you’ll find momentum. The United States equity markets have momentum.

The bottom is where you’ll find value. There may be opportunity for mean reversion. We’re seeing that now in the bounce back of financials. 

I expect we’ll see China similarly bounce back in the next 3 years from depressed levels. It’s hard to see how any further negative news could hit China that isn’t already known.

And if geopolitical risk breaks out, we have our Energy stocks which should do well.

European Equities Are Undervalued

One of the most interesting investing puzzles in the world is the conundrum of cheap European equities. 

All equities are a claim on a discounted cashflow stream.

The wider the spread the higher the hurdle. 

It’s OK to pay up for growth provided you are correct the cashflow stream is higher and is ultimately delivered to investors.

Now, if you are a conservative dividend oriented investor, today you can build a great portfolio and sleep quite easy at night.

Although many of our readers have a strong interest in crypto, we want to remind them the virtue of barbell investing. When volatility inevitably shows up, we’re going to be grateful for our Dividend Growers which hold up much better during a downturn. 

(We’re also going to feel grateful for our Alternative Investments - especially in Distressed Real Estate.) 

Back to European equities.

How to solve the puzzle? 

Our approach to this puzzle is to look beyond the country level and down to the underlying asset itself. Treat each asset on its own merits. 

This had led us to like great world-class European brands like Novo Nordisk, ASML, UBS, and Mercedes Benz. We still like all of these brands today.

Now, if you throw in US dividend payers that are historically cheap: Hershey’s, Coke (the bottler not the software company), Johnson & Johnson and others you have the beginning of a good value portfolio .

Seriously, if you are a conservative investor there’s never been a better time to build a gorgeous diversified yield generating portfolio at attractive valuations like today. 

Let’s cycle through our three-prong market compass.

1. 10-Year: The 10-year Treasury yield closed out the week just above 3.9% after new inflation data showed cooling price pressures. Lower 10-year yields are constructive for long duration risk assets like equities.

The 10-year yield hit its lowest point since July. How low can it go? It’s hard to see the 10-Year tightening beyond another week or two. That’s also a good proxy to think about equities as well. 

The record winning streak in equities is one and the same with the record tightening in the 10-year Treasury.

2. USD. The dollar continues to decline. That’s bullish. However, there are signs that the USD is due for a bounce to its SMA.

3. Semiconductors

Semiconductors have shown a steady upward trend over the year. 

Semiconductors are up 24% since mid September. 

SMH, the semiconductor index, is above the 50 day and 200 day moving average. The AI narrative remains in full effect.

ASML, one of our favorites, is up 29% since September. ASML has a monopoly position in lithography machines. It’s overbought.

The S&P 500 10-Day A/D Line graph represents the market's momentum by tracking the average number of stocks advancing versus declining over a 10-day period. 

AI Competition is Heating Up

Inference Race Gets Crazy:

1) AI LLM competition is heating up.

5+ new startups have rolled out models and the benchmarks outperform GPT-3.5 (Mixtral, Inflection-2, Anthropic Claude 2, Gemini Pro, Grok).

And more LLMs are expected soon: Meta, Databricks, 01.AI, and Baidu.

ByteDance (owner of TikTok) is also releasing an LLM.

2) AI at the Application Layer is a volume game. High volumes are essential to make money and cover the high fixed costs of model training.

This dynamic creates an ultra-competitive race to the bottom dynamic as LLMs race for market share. This is a similar dynamic as the airline industry.

When you see a bunch of competitors at an intersection, proceed with caution.

We continue to view the AI application layer as crowded.

Remember, Google was the 18th search engine. The winner today may not even be known.

Bitcoin Ads are coming. 

Here’s one we like from The Most Interesting Man.

We expect Bitcoin ETFs to be approved anytime next week thru January 10th.

The big question - is it a sell the news event?

Retail investors will fuel the next leg of the rally.

We’ll share more next week.

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