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Daily Analysis 10 February 2022 (10-Minute Read)

Hello there,

A terrific Thursday to you as markets swing stronger buoyed b an unexpected uptick in Disney's streaming subscriptions.

In brief (TL:DR)

  • U.S. stocks continued their advance on Wednesday with the Dow Jones Industrial Average (+0.86%), S&P 500 (+1.45%) and the Nasdaq Composite (+2.08%) all surging strongly as the yield curve flattened and a rebound in tech helped to lift sentiment.

  • Asian equities were set to rally in the morning trading session.

  • Benchmark U.S. 10-year Treasury yields held at 1.947% (yields rise when bond prices fall) with signs that the worst of the selloff in sovereign debt may be over for now.

  • The dollar was steady.

  • Oil's rally stalled just over US$90, with March 2022 contracts for WTI Crude Oil (Nymex) (+0.49%) at US$90.10 partly because a nuclear deal with Iran might potentially bring Iranian supply online against a backdrop of tight demand.

  • Gold slipped with April 2022 contracts for Gold (Comex) (-0.19%) at US$1,833.10.

  • Bitcoin (+0.18%) inched higher at US$44,100 as traders waited to absorb U.S. CPI data due out later today and weighed its impact on U.S. Federal Reserve policy stance.

In today's issue...

  1. The Short Sellers Strike Back

  2. No Sure-Win IPOs Scares Off Would-be Listings

  3. U.S. SEC Wants To Hear Your Views on a Bitcoin ETF

Market Overview

While expectations are that U.S. Consumer Price Index data is likely to top off at 7% any unexpected shifts to the upside and downside could rattle markets.

If inflation hits the higher end of estimates, the U.S. Federal Reserve may need to act more decisively on rates, even contemplating a hike of as high as 0.5%, despite policymakers openly voicing the lack of necessity to do so.

Whereas if inflationary pressures start to ebb, investors can expect a base case from the Fed, with a 0.25% rate hike possible.

Either way, traders are choosing to sit on the sidelines for now because it's too close to tell.

Asian markets ticked up on Thursday with Tokyo's Nikkei 225 (+0.54%), Sydney’s ASX 200 (+0.16%), Seoul's Kospi Index (+0.19%) and Hong Kong's Hang Seng Index (+2.06%) all buoyed by the strong performance on Wall Street.

1. The Short Sellers Strike Back

  • Professional short selling firms ramp up short positions as meme stocks recede

  • Short sellers however are still at a historically lower level than they had been before they were burned by the meme stock trade of early 2021, concentration has also decreased

Since the Reddit horde forced professional short sellers back into their caves, the recent decline in retail Reddit trader favorites like AMC Entertainment (+15.28%) and GameStop (+7.51%) have emboldened their comeback.

Twelve months after being routed by day traders on Reddit’s now infamous r/WallStreetBets channel, professional short sellers are back in full force, furiously reloading bets against a stock market more richly priced as any in two decades at a time when retail is running out of ammunition.

With the stimulus checks spent and the U.S. Federal Reserve tightening, short sales increased at their fastest clip in over a decade during the first five weeks of this year, according to data compiled by Goldman Sachs’ (+1.20%) prime brokerage.

The Russell 2000 Index of small cap stocks, a favorite amongst the retail crowd, is already in a bear market, in a sign that institutional investors are flexing their muscle after being cowed by retail traders in early 2021.

But investors looking at the data and assuming that the advantage has been ceded entirely to the short sellers should also note that the increase is coming on the back of subdued levels, possibly because of last year’s crush.

And the average stock’s short interest equals less than 4% of shares outstanding at the end of last month, near their lowest level in almost two decades, according to data by Leuthold Group.

American investors also have substantial savings, and even the most plucky hedge fund manager will be wary to add to the cautionary tale spun by Melvin Capital which lost almost half of its capital in the short squeeze of 2021.

Short sellers, perhaps scarred by the experience of early 2021, are also staying away from the smaller caps and focusing on larger-cap stocks, with concentration coming down significantly, to avoid drawing unnecessary attention to themselves.

2. No Sure-Win IPOs Scares Off Would-be Listings

  • Some of America's most promising startups and firms are delaying listing plans against a backdrop of market volatility

  • Companies contemplating a listing are instead choosing to raise from the private markets or pursue an acquisition

Some of America’s most promising companies are choosing to stay private for longer or looking to raise in the private markets as stock market volatility keeps them away from accessing public capital.

Against a backdrop of U.S. Federal Reserve tightening, falling valuations and volatility have led to a sharp drop off in listings that some analysts think will take several months to bounce back even as private funding rounds are soaring at a record pace.

Data from Dealogic reveals that just 13 companies have raised US$21 billion in U.S. listings this year, just over a tenth of the same period last year.

With several deals postponed at the last minute and 9 out of 13 of the listings done at the bottom of their ranges, companies which had long expected favorable public markets as a surefire way to raise valuations and access capital are having second thoughts.

But in sharp contrast to the IPO market, private U.S. startups have raised US$27.5 billion in funding in January alone, according to data from PitchBook, up from US$14.8 billion from a year earlier.

Private valuations may not necessarily be inferior to public offerings either, especially given that investors could find it somewhat easier to exit their investments as acquiring companies with strong balance sheets and solid profits may find it more economical to buy up promising startups with deep technology than to develop it on their own.

Which is why many companies that may still keep the door ajar to a public listing are also choosing to keep their options open with so-called “dual track” approaches, where they prepare for both an IPO and search for potential acquirers.

One blockbuster IPO could still be in the offing nonetheless.

With the aborted acquisition of British chipmaker Arm Holdings, and Softbank eager to raise capital, an IPO of the company may still be on the cards, but even that will be the standout.

Inflationary pressures, higher labor costs and potentially higher interest rates will all have longer-term impacts on raising capital from the public markets.

3. U.S. SEC Wants To Hear Your Views on a Bitcoin ETF

  • U.S. Securities and Exchange Commission seeks public opinion on Grayscale's Bitcoin ETF application

  • Outside chance that Grayscale will succeed in listing its ETF given that it's the only applicant that is also currently already holding on to Bitcoin and US$27 billion of it for that matter

Your view matters – at least that seems to be what the U.S. Securities & Exchange Commission is saying as the regulator inquires whether Bitcoin ETFs directly linked to the cryptocurrency could be vehicles for fraud.

Given that the U.S. government was able to track down the proceeds of a Bitfinex hack from six years ago, the argument that cryptocurrencies can be used to obfuscate all manner of nefarious or illicit activity is increasingly ringing hollow.

Last Friday, the SEC issued a notice calling for members of the public to submit written comments regarding Grayscale Investments’ application to covert its Grayscale Bitcoin Trust (GBTC) into a full-fledged ETF tied to Bitcoin’s spot price.

In a universe of Bitcoin ETF applications, Grayscale’s stands out as the longest-standing institutional Bitcoin product.

Given the inefficiencies and idiosyncrasies of Grayscale’s US$27 billion Bitcoin trust, converting it into a full-fledged ETF might not be an entirely bad idea.

For starters, unlike other ETF applications, GBTC is already holding Bitcoin, and it wouldn’t be a case of having to go out and acquire the cryptocurrency and custody it.

GBTC also has tracking errors, often attracting a premium or a discount versus the underlying spot price of Bitcoin, depending on market conditions, this is because investors can’t actually buy or sell trust shares of GBTC to the open market but need to do so with another investor.

Since 2013, GBTC has been a key means by which financial institutions gained exposure to Bitcoin, which has historically contributed to the premium that it traded at compared to Bitcoin’s actual price.

But now, with the launch of ETFs backed by cash-settled Bitcoin futures now available on Wall Street, GBTC, which is ironically the only institutional instrument that actually contains Bitcoin is trading at a discount.

While most analysts expect that Grayscale’s Bitcoin ETF application will be denied, it's the only one that is contextually different from all previous applications - it is already holding on to "physical" Bitcoin and that may provide an outside chance for its approval.

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