In this week’s e-mail we are covering a few different things. A potential stagflation situation for the economy which is likely causing the current volatility. Some Premium featured stock earnings including mostly US Foundational Stocks. And the release of Modules 3 and 4 of our NFT guide. Let’s get right into it.
It seems through the last 6-7 months we’ve had to send out a market update e-mail like this every month. And, it’s seemingly getting worse.
I’m sure April tested a lot of investors’ patience, especially those that were heavy in US stocks. You have to look back to 2008 to find the last time the NASDAQ posted a month as bad as April.
However, there was a big difference when we compare the previous 6 months to April of 2022. That being the fact the TSX is no longer putting up strong returns.
As you can see by the chart above, from November 2021 to Mid-April 2022, the TSX was the best performing major North American index by a landslide. However, over the last month it’s lost more than 5.5%. Yes, it’s still one of the better performing indexes in North America. But as Canadian investors, we’re starting to feel the impact of the market selloff we were somewhat sheltered from prior.
Make no mistake about it this selloff is bad, particularly in stocks south of the border. There are a multitude of reasonings as to why, but with the US reporting a contraction of GDP in the first quarter, stagflation is the key focus right now. Members would be wise to education themselves on it, So lets go over the concept.
Raising rates with a contracting GDP
For the longest time, the solution to stop this high rate of inflation was to raise interest rates. Policymakers will typically do this when the economy is overheating. The increasing of rates slows borrowing and economic activity, the economy slows, inflation slows, and we go through a relatively common economic cycle.
However, the United States GDP (Gross Domestic Product), a pillar of economic activity, actually shrank 1.4% in the first quarter. This was not expected whatsoever. Since the announcement on April 28th, the markets took a sharp turn downwards, as it puts many things in doubt.
The main being if the US economy is contracting, certainly inflation isn’t because of rapid economy activity. So, raising interest rates likely won’t do much to stave off inflation.
We’ve stated this a few times before in our e-mails and Discord discussions. Inflation seems to be primarily due to supply chains, issues that will not go away when interest rates are increased.
Now that the US economy shrank last quarter, stagflation is a possibility
There are 3 primary ingredients needed for stagflation. For one, you need high inflation. We certainly have that. Secondly, you need a shrinking economy. 3 days ago, that was confirmed. And finally, you need high unemployment.
We don’t quite have high unemployment yet. In fact, we have very low unemployment. However, if the Fed and Bank of Canada were to go through more interest rate increases, we would no doubt see higher unemployment numbers.
Remember, increasing interest rates is in an effort to slow the economy, and will increase unemployment. This isn’t a guarantee by any stretch. But if rising rates cool corporate spending and expansion, it makes sense that less jobs would be available.
So, if this comes to fruition, you likely have all 3 key ingredients for stagflation. This is why stagflation is considered one of the worst economic situations. It is especially difficult for policymakers to combat this condition, and the 1970s is the only other instance we have in the last century of this occurring.
If we look to stagflation environments like the 1970’s, it’s typically not a good sign for the markets. In fact, if you look to the chart above, you’ll see that from 1970 to 1978, the S&P 500 lost 4.03%. This isn’t just a bad quarter or a bad month, this is a loss of 4% over the span of 8 years. Nearly a dead decade.
So as investors, what do we do about it?
Investing in a potential stagflation environment certainly comes with its challenges. The euphoric years of 2020 and 2021 are likely behind us, and it is more important than ever for investors to have well balanced portfolios to weather the storm.
Commodity exposure is important, which is exactly why we’ve highlighted options such as XEG, the Canadian energy ETF and even COW.TO, an ETF that’s primary focus is on the US agriculture sector. Commodities and real estate did well during the last period of stagflation. You won’t see many commodity options on the Bull List as we try to avoid placing cyclicals on it, but you’ll no doubt see more commentary and research on them from us moving forward. But, with only one notable event in the past, it’s very hard to tell if real estate or commodities would outperform again.
With that said, stagflation is not guaranteed at this point. It is a possibility, and it could be why we are seeing current volatility and likely continued volatility moving forward. But, supply chain issues could ease and global conflicts could be tamed. So although it seems like it, it is far from guaranteed.
We sound like a broken record, but look to build a strong core of companies that not only have large economic moats, but rock-solid brands, and pricing power. We provide a large list of them to Premium members on an annual basis (Our Foundational Stocks) and they make up nearly 70% of my (Dan) portfolio.
If we do enter a stagflation environment will market returns be lower? Undoubtedly so. Make no mistake about it, inflation hits even the best of companies. But the goal remains the same. Buy strong companies and hold them for the long term.
And speaking of Foundational Stocks, lets get to some earnings
Earnings are starting to ramp up, so our newsletters will be chalked full of earnings updates the next few weeks. As is usual, companies in the U.S. are usually first out of the gate and we have several U.S. Foundational stocks that reported this past week.
Let’s start with the good news with Pepsi
Pepsi (PEP) delivered a beat on the top and bottom lines. The company also increased revenue guidance but in our opinion, this is not really a big deal since it is more so tied to inflation. This is where a company like Pepsi shines.
As a consumer staple and one of the biggest brands in the world, Pepsi has pricing power. It has a better influence over price inputs and is better positioned to raise prices. Bottom line, in an inflationary environment companies like Pepsi will outperform.
This doesn’t mean that they will post blowout numbers or anything. What it means is that they are better equipped to face the inflationary headwinds than other companies.
For its part, Alphabet (GOOG) posted mixed quarterly results
Earnings missed by 4.5% and revenue effectively came inline with expectations. Unfortunately, it wasn’t enough to combat the tide of negative sentiment which brushed over the tech industry.
To close out the week, GOOG is now trading at only 16.5 times expected earnings. For a $1T+ enterprise that posted 20%+ growth in both revenue and operating income, it is trading at cheap valuations. The company also announced a $70M buyback and re-iterated its aggressive growth strategy.
All in all, we think it looks quite attractive here. This isn’t a small cap tech stock – this is one of the largest tech companies in the world. It’ll be just fine. I (Dan) will be looking to add to my position on continued weakness.
Similarly, the markets punished Amazon (AMZN) for its double-miss
Amazon finished the week down 14.23% on the worst day for the NASDAQ since 2008. Once again, the markets are being short sighted. It is now close to trading at pre-pandemic levels which is astounding considering the company has grown revenue and earnings by a 30%+ clip over this period.
Yes, it did guide down on future revenue growth and does expect a few slow quarters. But this is a company with a gigantic economic moat, an outstanding retail business, and an explosive growth business in AWS.
According to Ycharts, AMZN is now trading a 54% discount to historical averages. The headline EPS numbers for Amazon are a little misleading. The company posted a net loss of $7.58 per share when positive earnings of $8.40 were expected. The miss however, was due in large part to a $7.6B write down on its investment in Rivian. If you’ll remember, the company posted a huge beat on earnings because of the one-time Rivian gains a quarter prior. So Rivian is impacting the headline numbers for Amazon but over time they’ll even out.
Switching focus to our home country, Canadian National Railway (CNR) also posted mixed quarterly results
Earnings of $1.32 missed by $0.07 and revenue of $3.718B beat by $40M. The company lost a few percentage points, but nothing to fret over.
However, the company did point to “challenging operating conditions in the first quarter as well as worldwide economic uncertainty” as margins are under pressure.
As a result, the company dropped fiscal 2022 EPS growth guidance from 20% to 15-20% and free cash flow of $3.7-$4.0B, down from $4.0B+ previously. This still represents solid YoY growth, but it’ll be a theme we are likely to see across many industries, including the transportation sector.
CNR is a prime example of a good anchor stock for one’s portfolio. Despite lowering guidance, it held up better than all the major indices. Why? Because it is a stock that investors flock to in times of uncertainty.
Magna International (MG)
Magna has been hit with headwind after headwind ever since we added it to our Growth Bull List. But, there are some bright spots.
First the good news – earnings of $1.28 beat by $0.18 and revenue of $9.64B beat by $610M. Now the bad – it revised Fiscal 2022 guidance downwards yet again.
• Sales outlook of $37.3B – $38.9B (prior $38.8B – $40.4B);
• Adjusted EBIT Margin of 5.0% – 5.4% (prior 6.0% – 6.4%);
• Net Income attributable to Magna of $1.3B – $1.5 B (prior $1.7B – $1.9B).
Downward revisions on net income is particularly harsh as margins are tightening. Outside of the obvious (inflationary pressures, rising commodity costs & weak light vehicle sales), Magna also reminded us that COVID is still having a negative impact. Guidance was also negatively impacted due to further pandemic restrictions in China, mirroring similar warnings made by Apple earlier this week.
Magna reported on Friday and amidst one of the worst days in market history, lost only 3.13% – outpacing the S&P 500. Not bad all things considered and perhaps a sign that the headwinds are fully baked into the stock. At the end of the day, Magna remains the best auto parts manufacturer in the world, the long-term thesis remains intact.
Of note, we will have a new report done on Magna International this week. We typically have reports updated quickly after earnings, but you’ll have to give us a bit of time this quarter as again, we are transitioning to our new PDF based reports.
Looking to this coming week, it’ll be another busy one as there are 14 companies spread out across the Bull Lists and Foundationals that are expected to report earnings. Strap in.
Modules released on our NFT course
If you haven’t had time to digest our NFT guide, it may be a good distraction from the markets at this point.
We now have four full modules out, packed with hours and hours of content to get someone from the stage of knowing absolutely nothing about NFTs to buying their first one.
In fact our course, which we are releasing on a weekly basis, now takes you from the very basics to actually getting a cryptocurrency wallet set up. The number one comment we’ve gotten from current Premium members that have taken the course is that they had made some large, inaccurate assumptions on what NFTs are and the explosive potential of the NFT market moving forward.
And remember, as a Stocktrades Premium member, you’ll be able to grab our NFT absolutely free, which will sell to the public for around C$250. There will be a deadline where if you do not opt in you miss out, but don’t worry, we’ll give you a bunch of advanced notice.
You can head here to view our NFT course and get started, or continue on with Module 4
You can also find the NFT course under “Other Premium Content” in the upper menu of Premium.
