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Market review 22.11.13
A countertrend week, FTX fallout, inflationary regimes
This table summarizes what happened in markets this week:
The areas that were hit the most by rising interest rates this year were the same areas that saw the biggest weekly gain (and vice versa).
Some notable exceptions to this are XLE (up on the week and year) and crypto (down on the week and year). Let’s discuss the latter first before diving into other parts of the market.
Crypto – FTX Fallout
“Only when the tide goes out do you learn who has been swimming naked.” – Warren Buffett.
Severe bear markets expose bad actors. Back in May, I discussed the fallout when Terra Luna went kaput. 2 months later, we saw bankruptcies in Celsius, 3AC, and Voyager Digital.
Well, this week it was the downfall of FTX (once the 2nd largest crypto exchange) that was all over financial news. The story is still unfolding but accusations are that the FTX founder, Sam Bankman-Fried (SBF) used customer funds held on the FTX exchange to cover losses in his hedge fund (Alameda) from this year’s tech rout.
The downfall started last Sunday when Binance’s CZ tweeted that recent revelations have come to light about FTX but gave no details. CZ told the public that Binance will liquidate their remaining holding in FTT (FTX’s own crypto) over the following months to minimize market impact. Alameda quickly tried offering CZ cash for his holdings with no luck. The limited info in CZ’s tweets was enough to send FTT down over 75% in less than 24 hours.
This got other crypto exchanges scrambling to provide a Proof of Reserves and prevent a run on their exchanges.
On Friday morning, FTX and 134 of its companies declared bankruptcy. FTX went from being valued at zero, to $32B, and back to zero in just 3 years. It has over 100,000 creditors and between $10-50B in liabilities (link). Among its investors were: Sequoia Capital, Ontario Teacher’s Pension Plan, Tom Brady, and the family offices of Jack Dorsey and Mark Zuckerberg.
As if the story was not strange enough: On Friday night, $600M in funds began moving from FTX wallets mysteriously. It’s currently being reported as a hack. Meanwhile, SBF is denying rumors that he has run off to Argentina.
The signs were there. A month earlier, short-seller Marc Cohodes was warning of the red flags he saw in FTX (link).
This is similar to the story of QuadrigaCX - once Canada’s top crypto exchange. The founder (Gerald Cotton) speculated with customer funds on outside exchanges, often using leverage. Then the 2018 bear market in crypto caused a massive shortfall. Eventually, the exchange could not keep up with withdrawals and went bankrupt. Gerald supposedly died in India a month prior.
I had funds on Quadriga because they made it easy to interface with traditional Canadian bank accounts. I was very lucky to be able to make a full withdrawal just a few months before Quadriga’s collapse. Intuition told me something was not right when I saw Redditors complaining about slow withdrawals, plus the quoted prices on Quadriga were suddenly 10% higher than everywhere else.
But the disaster with FTX is a couple orders of magnitude bigger than Quadriga, and it caused another leg down in crypto this week. SOL was one of the coins that FTX kept its reserves in. It broke down hard:
Over $200B (20%) has been wiped off crypto’s total market cap since last Sunday. Meanwhile, GBTC is trading at a record 41% discount to the price of BTC.
Of course, the downtrend in crypto was already well in place by earlier this year. We did not need to be a sleuth like Marc Cohodes to side-step this. Price action told us everything.
Last week, I discussed how tech CEOs all sold significant amounts of their company’s stock in a timely fashion last year.
This week, it was reported that Elon Musk made another sale. It’s quite impressive when we look at all of Elon’s trades over the past 5 years:
Just a few months after his last purchase, Elon tweeted:
I remember everyone talking about that tweet, but nobody really mentions his Form 4 filings. The above is a classic example of "watch what they do, not what they say.”
And yes, that’s an important neckline that TSLA is flirting with on the monthly chart.
Let’s look at the leaders now.
XLE and QQQ have been in a big Battle Royale so far this decade.
In terms of performance since the start of 2020, XLE caught up to QQQ in April. The two then played tug-of-war for the next 5 months. But over the past month, oil has left tech behind even despite this week’s big surge in QQQ.
I wanted to share a slide deck made by Bloomberg titled: “Investing through a structurally inflationary regime.” (link)
Two interesting conclusions it makes related to energy:
Historically during high inflation, commodity leadership is as follows: oil > base metals > agriculture > gold.
When CPI in 4-6% range, equity sectors that do best are: XLE, XLV, XLU, and XLP. But when CPI > 8%, only XLE does well.
This is largely what we’ve been seeing all year. XLE has been the top performing sector, followed by XLU, XLP, and XLV. Oil stocks have also outperformed materials and agriculture stocks.
Take all this with a grain of salt since Bloomberg’s results are using very inconsistent backtest periods, with some backtest periods spanning just 20 years. It could be that the results are just showing what happened this year. 🙄
For the past 3 weeks, we’ve been looking at the materials ETFs. SLX, REMX, and COPX all retested multi-decade support earlier this year.
Now, these sectors have had two consecutive strong weeks. COPX just made a nice breakout:
This is another area that had a great week. The GLD ETF now has a confirmed failed breakdown:
The PM sector made a bottom in September when WPM hit 12-year support. WPM is up almost 30% since then. Also, in the Commitment of Traders chart I shared last week, we could see that commercial hedgers had one of their highest net exposures to gold in years.
These are all bullish developments, but I still prefer base metals here over the PM’s as they have higher momentum. I continue to keep an eye on the COPX:GDX monthly chart below to see if it can breakout from its giant base. This ratio is positively correlated with the 10-year treasury yield, which is in an uptrend.
It was a countertrend week, and while this move can continue short-term, we want to remain focused on the primary trends. XLE is at 52-week highs while beaten-up tech names remain as severe laggards despite this week’s rally:
Tying together the last 3 sections on commodities, we looked at the price chart below of FLR 3 weeks ago. This engineering, procurement, and construction (EPC) contractor specializes in building oil, mining, and power facilities. It’s now made a breakout.
Here’s a broader index of EPC companies, on a quarterly timeframe:
This price-weighted index saw a big base breakout in late '20, then doubled. Now it’s been in a tight consolidation for the past year. This may indicate that commodity producers are bullish longer-term and are building more production capacity.
I’ll leave you these tweets to reflect on:
That’s all for this week! If you found this post useful, please give it a like and share. Thanks for reading.
Important Disclaimer: This blog is for educational purposes only. I am not a financial advisor and nothing I post is investment advice. The securities I discuss are considered highly risky so do your own due diligence.