Wall Street Breakfast: Theory Of Trussonomics

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Theory of Trussonomics

Weekend Bite, a Seeking Alpha Original Series: In this episode, we’re joined by Seeking Alpha Contributor Leo Nelissen, who tells us which stocks he has been buying “on the dip.” Plus, Kim Khan discusses this week’s Catalyst Watch and the new poll of the week.

What a difference 24 hours can make. It was only a day ago that U.K. Prime Minister Liz Truss said she was “a fighter not a quitter,” before the reality set in that she would need to step down after only 45 days on the job. “I came into office at a time of great economic and international instability,” she said in front of No. 10 Downing Street. “We set out a vision for a low-tax, high-growth economy that would take advantage of the freedoms of Brexit. I recognize, though, given the situation, I cannot deliver the mandate on which I was elected by the Conservative party.”

What happened? Truss saw her leadership flounder after the introduction of her mini-budget that called for big spending to help with the surge in cost of living while at the same time proposing a number of big tax cuts. Along with approaching QT from the Bank of England, the budget spurred a liquidity crisis in the U.K. bond market. Chaos ensued with the effect on pension funds and the mortgage market forcing the BoE to step in and buy long-dated debt. The 30-year gilt yield even topped 5% and the pound approached parity with the greenback, touching $1.03.

Truss tried to right the ship, replacing her Chancellor of the Exchequer. New finance minister Jeremy Hunt rolled back almost all the tax cuts and the markets steadied, but the political damage was already done. She fired her Home Secretary on Wednesday and faced other resignations, leading to a loss of confidence across the Conservative Party. She will remain prime minister until a successor is chosen, but will go on record as the shortest-serving premier in the 300-year history of the office.

Go deeper: Whoever will replace Truss will come in learning an important fiscal lesson. Political leaders are no longer able to promise growth by borrowing money without detailing how they will repay it. Long gone are the days where governments had the support of quantitative easing, as central banks tighten policy to stave off inflation. In terms of candidates, the latest contest is likely to pit ex-finance chief Rishi Sunak against House of Commons leader Penny Mordaunt, but could also see the return of Boris Johnson, who was ousted as prime minister in July. (218 comments)

Growth story no longer

Social-media stalwarts slipped after the bell on Thursday in the wake of Snap’s (SNAP) most disappointing revenue growth rate ever. The company posted 6% sales growth as it wrestled with the well-documented ad-industry recession, its worst quarterly growth number and short of 6.4% expectations. The stock plunged after the announcement to weigh on the broader tech industry, slumping nearly 27% and bringing its YTD losses to over 80%.

Quote: “Our business continued to face significant headwinds this quarter,” CEO Evan Spiegel said on the earnings call, while recapping that the company has focused on three strategic priorities: growing community and deepening engagement; reaccelerating and diversifying revenue growth; and investing in augmented reality.

When it comes to the overall ad approach, Snap is focused on “increasing our share of wallet as growth in the overall digital advertising segment slows.” That will be achieved by working to increase the return on spend generated by its direct response ad platform “as we believe these are the most defensible advertising budgets in a challenged economic environment.” Newly promoted COO Jerry Hunter also emphasized “lower-funnel objectives to drive more conversions, and innovating on our advertising formats” in order to make them more engaging.

Outlook: Snap did highlight a few positive metrics – it beat on profitability measures, authorized a $500M stock buyback and outpaced expectations for user growth (+19% Y/Y to 363M daily active users). However, the company notably declined to provide any expectations for revenue or EBITDA for Q4, though it is expecting to grow seasonally “at a pretty good clip.” Will Facebook-parent Meta (META) and Google-parent Alphabet (GOOG, GOOGL) flag similar problems to Snap when they report next week, or have they diversified their businesses enough to shield themselves from advertising devastation? (59 comments)

Replacing with bots?

Tesla (TSLA) CEO Elon Musk told prospective investors in Twitter (TWTR) that he plans to cut the social media giant’s employee count by about 75%, according to the Washington Post, which cited interviews and related documents. That would reduce the headcount of Twitter’s 7,500 employees down to just over 2,000 in the coming months. Twitter’s workforce reportedly reacted to the news with “anger and resignation on internal Slack groups, supporting each other and making jokes about the turmoil of the past few months.”

Bigger picture: The report comes after Musk said on Tesla’s earnings call that he and other investors are going through with the transaction in good faith despite months of legal wrangling. “I think it’s an asset that has sort of languished for a long time, but it has incredible potential. The long-term potential for Twitter is an order of magnitude greater than its current value, although obviously, myself and the other investors are obviously overpaying for it right now.”

Musk is planning to close the $44B deal, valued at $54.20/share, by next Friday. The billionaire plans to double revenue in three years and triple the number of daily users that can view ads in the same period, but has not yet offered a clear strategy on how to accomplish those objectives. “The easy part for Musk was buying Twitter and the hard part is fixing it,” wrote Wedbush Securities analyst Dan Ives. “It will be a herculean challenge to turn this around.”

Go deeper: The Biden administration is said to be weighing if some of Musk’s deals should be subject to national security reviews, including his purchase of Twitter and SpaceX’s Starlink satellite network. Among the concerns reported by Bloomberg are Musk’s recent threat to stop supplying the Starlink service to Ukraine and his stance on Russia. His plans to buy Twitter also includes a group of foreign investors like Saudi Prince Alwaleed bin Talal, Qatar’s sovereign wealth fund and Binance Holdings (which is run by Chinese native Changpeng Zhao). (221 comments)

4.5% within sight

Longer rates are heading even higher this morning, with the 10-year Treasury yield up 6 basis points to 4.29% in early trading. It follows a major milestone in the previous session, when the 10-year closed at its highest level since 2008, following a drop in jobless claims and more hawkish Fed chatter. In fact, Treasury prices are now on their longest decline since 1984, when inflation slayer Paul Volcker was at the helm of central bank and carrying out rapid rate hikes.

Commentary: On the heels of the fresh moves, fed funds futures broke new ground, pricing in a terminal rate for 2023 above 5% for the first time this cycle. “Bear in mind that on the day of Chair Powell’s hawkish Jackson Hole speech in late-August they closed at 3.78% for the March meeting, so the stronger-than-expected inflation prints over the last couple of months have led to a big reappraisal in how hawkish the Fed and other central banks are expected to be,” wrote Deutsche Bank strategist Jim Reid.

There is little in the way of continued Treasury selling that would push yields up further, with markets seeing a “pain trade” of higher rates and tighter market conditions. “With the effective fund rate now discounted at 5%, there is a path for the U.S. 10yr to get to 4.5% (with 50 bps through at the extreme in the past, when the funds rate peaks),” ING economists said in a note. “It does not need to go much above this, provided the terminal rate discount does not continue to ratchet higher, and there are no guarantees there.”

Stock washout? Higher yields put sharp pressure on growth stock valuations, though there was a recent flash of equity resilience early this week, or what some strategists are calling a bear-market rally. The S&P 500 has successfully challenged its 200-week moving average and 50% retracement levels around 3,600-3,500, but round numbers do tend to matter to the market and megacaps, with their outsize influenced susceptible to rising rates. Just a year ago, Apple (AAPL), Amazon (AMZN), Microsoft (MSFT), Alphabet (GOOG, GOOGL) and then-Facebook (META) moved into correction territory as the 10-year yield rose 30 basis points to 1.5% in a single month (over the past month, the same yield is up nearly 70 bps). (8 comments)

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