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

• Macro: Higher for Longer, Nuclear Renaissance Thesis, Housing & CRE Updates

• Markets: Treasury Yield Impact on Markets, Instacart/Arm IPOs, Tactical Asset Allocation, Energy, Tech Valuations

• Company Analysis & Earnings: CapEx Trends, Autozone Earnings Surprise to the Upside

• AI: Salesforce AI Bet, Tether Diversifying into AI

• Digital Assets: Bitcoin ETF timing, Institutions are (Still Here), Non-Consensus Takes on Bitcoin

We had some great conversations with investors and entrepreneurs at Mainnet this week. We enjoyed sharing our thoughts on a potential Bitcoin ETF approval and crypto regulation.

This week we interviewed the CEO of Virtu, one of the world’s leading market makers. Tune into the 40 min mark to hear Doug’s thoughts on:

- Digital Assets

- Strategic investment in EDX w/ Citadel

- FTX

- Thoughts on timing for Bitcoin ETF

Check out the interview here 

_Markets

US Treasury's 10-year yields have surpassed the 4.5% mark for the first time since 2007.

The S&P 500 & Nasdaq 100 saw substantial declines, making it their worst quarter in a year.

The S&P just hit its most oversold level of the year at more than two standard deviations below its 50-day moving average.

All but three sectors are oversold as well. Industrials, Materials, and Consumer Discretionary are the most extended to the downside.

This week we saw the highest percentage of net new 52-week lows for the S&P since March 24th.

Unprofitable tech firms hardest were hit due to their challenging valuations. (We continue to recommend avoiding unprofitable innovation in a high real rate environment.)

“Higher for Longer” Everywhere You Look

We continue to believe rates stay ‘higher for longer’.

Here’s a link to a video in Feb where we did a deep dive on our thesis then:

Back then the view was out-of-consensus. During the banking crisis, markets started expecting a pivot once again.

Now, ‘higher for longer’ is becoming mainstream. You might be surprised to learn that we still don’t think markets have fully priced in the ‘longer’ component.

Here’s a chart depicting how Fed Fund expectations are embracing higher for longer.

Markets still aren’t embracing our view that we get close to no rate cuts next year.

There are 3 indicators we look at weekly like a compass in the stormy seas.

(1) USD is on track for 10 up-weeks of strength.

We don’t expect risk-on to resume until ‘USD fever’ breaks.

We saw USD fever last year at the same time. The fever broke the 1st week of October.

2) Semiconductors (SMH) SMH measures ‘AI narrative’.

That narrative along with SMH broke down right alongside GPT usage.

AI, for the time being, is not the primary narrative (see ARM for Exhibit #2).

There is some AI disillusionment setting in at the Application Layer. There are 1,000s of AI apps out there. They are experiencing churn. (Even GPT is getting dumber.)

3) The main narrative is the 10-year and ‘higher for longer’.

The 10-year touched 4.5%. This is the main driver to focus on.

So, when does risk-on resume?

Framework: A few months ago, markets expected ~6 rate cuts in 2024. Now the market expects 2 rate cuts.

That means we are gradually getting closer to ‘higher for longer’ fully priced in.

We are 2/3 of the way there, depending on your start and end point.

Then the “higher for longer” thesis will become irrelevant just when it becomes consensus.

People are starting to panic about higher rates if you listen to the All-In Podcast, look at the WSJ headlines, or look at Bill Ackman’s tweets. That means we are closer to the end.

What would mark capitulation is if markets price in zero rate cuts for 2024.

We don’t expect that to happen in the coming months unless there are sustained negative inflation prints.

Take a look at this WSJ headline “Higher Rates…Maybe Forever?”

Bonds are also on pace for a record 3-year of price declines. That’s unprecedented.

The irony about markets is that the more people talk about an issue, the less that issue matters going forward. It gets increasingly priced in.

So, when you see headlines like “higher rates forever” you know our thesis is becoming close to consensus.

We laid out above the 3 indicators to watch in the weeks ahead.

We are constructive and want to resume a risk-on, but we’re patiently waiting for a break in the “USD fever”.

Note, the next two weeks of seasonality are the worst for US equities historically.

Neutral to positive seasonality resumes around October 7th. That’s also when the “USD fever” broke last year.

Tactics are a mix of art and science - but that’s how we see it playing out.

There are a few catalysts. Big Tech firms including Google and Meta will showcase various AI initiatives. That could excite markets.

Also, we will be exiting one of the worst months for Digital Assets. And there are odds we see a Bitcoin ETF approved in October.

Further, the USD, Oil Prices, 10-year and stock prices are due for mean reversion.

Many sectors are oversold.

Markets are like a pendulum. You can see how we’ve moved from overbought on August 1st and getting close to oversold.

We’re taking it week by week. Figure ~2 weeks to go.

We are ‘data dependent’ and re-assess each week.

If you are a long-term investor, none of this should really matter. We refer to the above as “Tactical Asset Allocation” - identifying opportunities to lean in or lean out based on market conditions.

What’s Working? Energy.

We’ve talked about Energy quite a bit.

We’re excited about it in nearly every dimension.

One area within Energy we haven’t written about, but have discussed on the Angelo Robles podcast a few months ago, is the Nuclear Renaissance.

The Russia-Ukraine war, and sovereign desire and the demand for energy security trend has fueled a nuclear renaissance.

Against this backdrop, Net Zero deadlines loom large.

That fundamental backdrop has created the 3rd secular bull market for Uranium:

Here are some fun facts about nuclear:

• Nuclear is having its 3rd secular run

  • There are 437 nuclear reactors globally

  • 60 are under construction

  • 100 are in the pipeline

• Nuclear is the cheapest energy sources

  • Nuclear costs ($122/MWh vs $291 wind and $413 solar)

  • Nuclear power returns 75x its initial energy investment vs. 28x for gas and 2x for solar

• Nuclear is more reliable

  • Nuclear has 93% uptime vs. 35% for wind and 25% for solar

Further, the supply and demand for Uranium is unbalanced.

There is a whole ecosystem of players providing infrastructure and represent different ways to play what we believe is at least a decade-long trend: Uranium suppliers, uranium mills, uranium storage, and nuclear plant developers.

Here is a table with various names we are tracking in our Nuclear Renaissance model portfolio:

Notice the earnings growth expectations and YTD performance rival Big Tech.

Now, these names have run-up quite a bit and it looks like the category may be going parabolic. We caution against chasing.

Focus on cheaper, old energy alternatives in the meanwhile and wait for a pullback.

The demand for energy is increasing. Meanwhile, markets expect the price of a barrel of oil to be $50 in 10-years. We are non-consensus and think energy markets should be in contango (as they have been historically).

_{Company Analysis}

ARM traded up to the high $60s on its second day of trading but has fallen 24% since to move back down to just above its $51 IPO price.

Instacart (CART) also immediately gave up its first-day pop, while Klaviyo (KVYO) has acted a little better.

Animal Spirits remain subdued.

Here’s our take on Instacart (tl;dr we don’t think this is one to own).

If there’s a lesson here, it’s don’t chase.

The performance may reflect market sentiment vibes rather than business fundamentals.

We analyzed Instacart’s S-1, and wrote a thread on the highlights.

The summary is that we view Instacart as a “logistics company” not as a “grocery technology company” (whatever that is). We would avoid the stock, and avoid unprofitable tech more generally in a higher rate world.

Twitter Thread

CapEx Trends We Like

The CHIPS act is driving fiscal spending into semiconductors.

That’s one of the reasons, along with the CapEx spend on AI, that we are so focused on the semiconductor space.

When governments and the largest corporates globally are pouring money into semiconductors, we want to participate.

Other Trends:

• Demand for industrial space and industrials more generally is increasing

• Homebuilding. We talked a few weeks ago about Warren Buffet’s and David Einhorn’s bet on homebuilders. We like that thesis… if home sales are low, then new home building is the only way to fill the gap.

Economy

Initial jobless claims came in lower than expected, falling to 201K compared to forecasts for a level of 225K. That’s a sign of continued wage inflation - especially when you add that to the backdrop the strikes across Hollywood and the United Autoworkers.

Other leading economic indicators such as the Wells Fargo NAHB and Housing Data deteriorated.

Overall, housing sales are slowing and the market remains ‘locked’ due to record high mortgage rates.

On the Consumer, we note that the top-half of consumers have elevated bank balances from previous periods.

That suggests we still have room to go as far as the ‘excess savings’ bear case goes.

Commercial Real Estate

On the surface, there’s a lot of talk about the demise of CRE.

And there is a lot of pressure. But different sectors have different results.

Industrial, logistics, and data centers holding up well. Also, newly renovated CRE office buildings are doing well too.

This WSJ article highlights the nuance underneath the surface.

Our highest risk-adjusted return thesis remains Commercial Real Estate.

We do expect a period of heightened volatility - driven both by a Fed reaction function that is prone to over-steering and by slower economic growth.

Higher 10-year yields we believe will lead to PE multiple compression. At the outset of this quarter, the S&P experience 4 points of PE expansion…

Equities outside BigTech are ‘fairly valued’. So there are moves to make within equities and even in BigTech.

But within CRE, prices are at 12 year lows. It’s not even a comparison. From a strategic asset allocation view, you want to overweight this asset class (while approaching it in a thoughtful way to maximize performance).

Note, rates will ultimately fall in a few years.

And when they do owners of CRE can refinance and do a non-taxable cash-out refinancing.

We don’t have space to cover that here - but suffice to say there are considerable tax advantages to owning real estate.

Consider this: Interest rates are at 16-year highs. The value of real estate on a book value in the S&P 500 is at a 10-year low.

So of all the moves to make, we strongly encourage our clients to focus on CRE. That thesis has an attractive tax-efficient risk-adjusted returns.

The issue isn’t the asset - it’s the capital stack. Developers who took on short-term construction loans at low rates and bank retrenchment on the financing slide.

Reach out if you are a qualified client and want to learn more about our preferred opportunity that is only available for a few more weeks.

US Tech stocks have vastly higher valuations than tech stocks in the rest of the world.

We’ve been saying that we like tilting towards true growth stocks within Big Tech and smaller cap growth stocks.

Here’s a chart from Callum Thomas showing how stretched US mega tech is versus the rest of the world.

The fundamentals justify some of this, but prices have run ahead of themselves and these time-series are mean reverting over long periods of time. Valuations eventually catch-up. Over 7 to 10 year periods the correlation between valuations and forward returns are high (e.g., expensive PE stocks tend to underperform).

_{Company Earnings}

Autozone released strong results, with revenue and earnings exceeding expectations. The company is expanding its physical presence, and is seeing growth in its existing locations.

We wrote a thread you can check out here.

Autozone $AZO Q4 & FY 2023 Results:

- Q4 2023: Revenues: $5.7Bn, up 6.4%, Earnings: $865M, up 6.8%
- FY 2023: Revenues: $17.4Bn, up 7.4%, Earnings: $2.5Bn, up 4.1%

Key Takeaways:

- AZO investing for growth - expanded by 197 stores, totaling 7,140

- Same-store sales rose 4.5% YoY; overall beat but domestic sales miss

- Exceeded EPS and sales forecasts; share price dipped ~2% over domestic sales lag

_AI

Salesforce Acquiring A Company for Customer Service

Recall our take that ‘AI service replaces Saas’.

Salesforce management might be reading our newsletter.

They announced their intent to acquire Airkit.ai, a GPT-4-based platform for creating specialized customer service chatbots.

Airkit.ai will be assimilated into Salesforce's Service Cloud platform.

_{Digital Assets}

Stablecoin giant Tether's subsidiary, Damoon Designated Activity, buys $427 million worth of Nvidia GPUs.

That wasn’t on our bingo card.

Tether seems like a sleepy cash-machine that prints money, but every now and then they do something that makes you scratch your head.

Ram was on a panel at Mainnet discussing spot Bitcoin ETFs.

Our guess is that SEC Chair Gensler delays the ETF approval in October, contrary to what Mike Novogratz is predicting.

We may be wrong. We are long Grayscale products that would benefit if an ETF is approved. If it happens in October or in March of next year (when the SEC will not be able legally to delay further), we are positioned for it.

We don’t want to “time” ETF conversion when discounts are attractive and we’re entering a more bullish period.

Also, check out this clip from Vivek Ramaswamy asking whether ‘Ethereum is a security’. That echoes the questions SEC Chair Arthur Levitt and I wrote in a WSJ op-ed last October.

Watch Out for the Miners

We expect some of the publicly traded Bitcoin miners will default on their debt. The debt isn’t due imminently.

But consider the halving cycle reduces the revenue of miners by 50%. And the miners on average are running with negative free cashflow.

The Bitcoin Miner ETF has been one of the bets this year. There could be good hedging opportunities there. Proceed with caution and small cap securities are prone to violent whipsaw rallies.

You heard it here first.

We don’t think enough people are talking about this.

Work with us: we are are looking for a junior offshore analyst to help us build more analytically-informed content. Send referrals here.

Meme of the Week

Quote of the Week

"You get recessions, you have stock market declines. If you don't understand that's going to happen, then you're not ready, you won't do well in the markets." - Peter Lynch

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