By: Stash Graham
Markets used the last two trading days of the month to generate cross-board positive returns among the major indices. The separation in performance among asset classes/sectors was very noticeable during March. Several industries and asset classes produced solid and reliable gains during 2020 have come under material pressure of late. Name brand companies like Apple Inc, which traded at $145.00 per share at the end of January, has traded in the low $120.00 range for the better part of the month. Both Amazon and Netflix are down more than -10% from their 52-week highs.
Conversely, laggards during the 2020 year, most notably energy stocks and financial stocks, have outperformed. The S&P 500 generated a +2.4% return for March. The technology-heavy NASDAQ eked out a +0.58% return. Traditional safe-haven investments like gold continued to absorb downside pressure and fell -1.4%. A strengthening United States Dollar put pressure on most commodities throughout the first quarter. Overall, our utility, reinsurance, and telecom positions, together outperformed the Nasdaq and S&P 500.
Market speculation remains high as “The Great Reopening” commences. CEO Confidence per the Conference Board is at its highest level since 2004. Confidence in the board room is undoubtedly an encouraging sign, but their employees do not share their optimism. The difference in confidence levels between CEOs and consumers is at historic highs. This development is a hallmark sign of an early cycle economy. Over the last 60 days, we have increased our equity exposure in sectors that the stock market has left behind. A widely held company, Verizon Communications was almost $62 per share at the beginning of December, and we were able to initiate our investment at around $55 per share. The last time Verizon traded near $55 per share was in late July. There are pockets of cheap companies relative to their historical valuations, let alone the S&P 500. While we continue to allocate capital to new investment opportunities, we keep a cautious eye as “The Great Reopening” unfolds.
Speaking of confidence, Citigroup’s analyst team updated their popular Panic/Euphoria Model reaching a head-turning conclusion. “Due to the rebound rally, our primary gauge bounced back into Euphoria territory, and current readings are implying a 100% chance of market downside risk, based on history, though relentless central bank liquidity is backstopping ebullient portfolio positioning. Sentiment readings in late January 2020 had suggested caution. They then dropped into panic territory in the second half of March 2020 given a -35% share price selloff.” This Citigroup-backed gauge has produced inconsistent results in the past, even though it has been more often correct. The decision to invest in equities is where the struggle lies as government reserves are no longer an option as recent increases in inflation erode purchasing power. The Bloomberg Barclays BBB index, the lowest investment-grade rating for bonds, is currently producing a 2.5% yield, and the Bloomberg Barclays CCC index, the junkiest of the junk bonds, is estimating a 6.5% yield. Both outcomes hover at their lowest levels over the last 40 years, making bonds a challenging place to be. At Graham Capital Wealth Management, we have spent the last few months finding an alternative to these dismal fixed income options.
Last week, we sent a digital notice to investors in Replay Acquisition Corporation. We have identified many more opportunities like Replay that belong in many more accounts. The investment strategy focuses on buying cash and US Treasuries at a discount to their current value. We believe this is a fantastic way to generate good, annualized yields with low credit risk (US Dollars and short-dated USTs are two of the safest investments in the world) and have a market neutral position (an investment whose performance is independent of the movement in the stock market). We can achieve this strategy by buying Special Purpose Acquisition Companies (SPACs).
SPACs have been around financial markets since the 1980s. A Google search would imply that SPACs are some of the most speculative investments in the world (and they are not wrong). However, our strategy involving SPACs is of a different mindset. SPACs are unique in that their structure is not like other publicly traded companies. SPACs are also known as blank check companies. When a SPAC IPOs, the company raises money while not operating a business. The company raises money to buy a privately held company that has underlying business operations (a business that generates revenue through the sale of goods and/or services).
By law, when SPACs raise capital through an IPO, they must keep the proceeds from the IPO in a trust account with an independent trustee. Common shareholders of SPACs can redeem their shares back to the company for a pro-rata portion of the trust account on two separate occasions. First, when the predetermined charter deadline expires. Second, when the SPAC looks to close a merger with a private company. For example, our recent investment in Replay Acquisition (RPLA) started during the first two weeks of March. We knew the trust account had $10.20 per share in cash for each shareholder. We acquired our position between $10.10 and $10.15. When we redeem our shares back to the company, investors will capture the discount (0.5 to 1%). On March 23rd, we redeemed our shares back to the company. Depending on the initiated share price, the annualized rate of return ranged from 7% to 12%. On April 1st, we received our cash for $10.202 per share.
Please see the following updates on existing positions held at the firm:
American Tower (Ticker: AMT)- On March 24th,the company has priced $700M in senior unsecured notes due 2026 and $700 in senior unsecured notes due 2031. The 2026 notes will bear an interest rate of 1.6%. The 2031 notes will maintain an interest rate of 2.7%. Net proceeds of about $1.386 billion will repay existing indebtedness under a $4.1B multicurrency revolving credit facility. This event shows the company has ready access to cheap capital as they continue to grow the number of cell towers in their portfolio. We continue to think the backdrop of the company is vital as telecommunication companies have signaled the need to rent more space and use more cell towers to achieve efficiency with their 5g services. For the month, AMT generated a market smashing +9.90% return.Southern Company (Ticker: SO)- We sold out of our position in the utility company in mid-March. The company reported another delay at Unit 3 of their Vogtle nuclear plant. Their subsidiary, Georgia Power, informed the market that a delay would push the start of hot functional testing until April at the earliest. This delay would impact Unit 3’s in-service date and, as such stated, “a delay in likely and could add one month or more” to the timeline. The delinquency is material because the in-service date will have a material impact on the return allowed by regulators on the project. The longer the delay in the in-service date, the lower the return that regulators will permit. Our investment in Southern Company started in the Fall and generated an approximate +15% to +20% return depending on the initiation price.
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