The Daily Rip presented by Stocktwits
October 26, 2022
We’re Not In The Metaverse Anymore…
Stocks were strong out of the gate again but faded throughout the day, weighed down by big tech fears — let’s see what you missed.
Today’s issue covers Meta’s virtual reality disaster, European bank earnings, and why everyone’s talking about the yield curve…again.
6 of 11 sectors were green. Energy (+1.36%) led, and communication services (-3.16%) lagged.
In U.S. economic news, the trade deficit rose 5.7% in September, driven by a strong U.S. Dollar and weak overseas demand. Wholesale and retail inventories advanced moderately as companies prepare for the coming holiday season. Mortgage demand fell to the lowest level since 1997, with new home sales dropping 10.9% MoM and 17.6% YoY in September. The median sale price rebounded sharply to roughly $471k, slightly below July’s peak of $480k.
Meanwhile, the Bank of Canada announced a smaller-than-expected 50 bp interest rate hike. It reiterated that inflation remains too high and more hikes are ahead but warned of a potential recession on the horizon. This sparked speculation about whether the Fed and other central banks will begin to take a more moderate approach after their record-fast pace of increases.
Bed Bath & Beyond fell 5% after permanently appointing its interim CEO, Sue Gove.
Wingstop soared 15% after beating earnings and raising full-year guidance, helped by falling chicken-wing prices.
Twitter remains in the news, with an internal document showing it’s losing its most active users. Meanwhile, Twitter employees penned a list of demands for soon-to-be owner Elon Musk. Lastly, Musk tweeted a video of him entering Twitter HQ carrying a sink.
Here are the closing prices:
S&P 500 3,831 -0.74%
Nasdaq 10,971 -2.04%
Russell 2000 1,804 +0.46%
Dow Jones 31,839 +0.01%
Earnings
Trouble In The Metaverse
Facebook’s parent company Meta cannot catch a break these days. The stock is currently down 18% after hours, on top of the 5% it lost in the regular trading session.
And why is it down? Because the company is pouring money into its Metaverse vision while its core business is slowing down.
Let’s get into the numbers with a great summary chart from CNBC.
While the company met estimates for revenue, daily active users, and monthly active users, its earnings and average revenue per user missed.
The company also reported its second quarterly revenue decline, and many analysts expect the current quarter to be its third. The company is battling a broader slowdown in ad spending, Apple’s iOS privacy update, and increased competition from TikTok and other short-form platforms. As a result, it said it expects revenue for the current quarter to be between $30-32.5 billion, while analysts expected $32.2.
And while revenue growth continues to slow, the company’s margins are getting wrecked by its Metaverse spending. While the Metaverse may be imaginary, the losses are real..and adding up big time. The company’s operating margin was nearly half of what they were last year, down to 20% from 36%.
Meanwhile, revenues from its Reality Labs unit fell nearly 50% YoY, while its loss increased by over $1 billion. That brings the unit’s total losses for the year to $9.4 billion. And there’s no end in sight. The company says it expects those losses to continue growing in 2023, leveling off in 2024.
Alphabet and other major players in the ad space signaled that the ad slowdown might just be beginning. That’s a severe concern for Meta investors who see the company dumping profits into a virtual reality venture that likely won’t see any return for years to come.
The company is making cuts to preserve capital in the tougher macro environment, but clearly not enough to satisfy investors. Meta expects its headcount to remain flat from the current quarter through the end of 2023.
Many expect Meta’s struggles to continue in an environment where the market is punishing long-term growth efforts in favor of more profitable/conservative bets. We’ll have to wait and see if anything changes over the coming days as investors digest the quarterly results. But for now, the skeptics remain on the right side of the trade.
Earnings
Checking In On European Bank
Credit Suisse has been getting all the headlines lately, but other European banks don’t have the best rep either. So let’s check in on our friends Deutsche Bank and Barclays.
German lender Deutsche Bank easily beat the street’s expectations for earnings and revenue. It reported a net income of 1.115 billion euros vs. the 827 million euros expected.
Revenue rose 15% YoY to 6.92 billion euros. On the trading front, its fixed income and currencies trading revenue was up 38% YoY, offsetting weak credit trading. On the other hand, origination and advisory revenues plummeted 85% YoY as dealmaking dried up. Corporate banking saw the most significant increase, up 25% YoY, driven by rising interest rates.
One of the market’s key bank solvency measures is the Common Equity Tier 1 (CET1) ratio. Deutsche Bank’s CET1 ratio improved from 13% last year to 13.3 as it reduces risk and prepares for the weak growth environment and higher interest rate environment to continue.
$DB shares are up marginally on the day, approaching their September and August highs as investors digest the news.
British lender Barclays also posted better-than-expected earnings and revenues.
Its net profit attributable to shareholders of 1.512 billion euros beat expectations of 1.152 billion euros. Revenue rose 17% YoY to 6.44 billion euros. The most significant driver of this was its FICC (fixed income, commodities, and currencies) trading business, which saw a 93% YoY rise in revenue.
Like its peers, investment banking revenue suffered while a rise in net interest margin helped boost its consumer and corporate businesses. However, credit impairment charges rose more than 200% YoY as it copes with a deteriorating macroeconomic environment.
On the solvency side, its Common Equity Tier One Capital (CET1) ratio remains volatile. It came in at 13.8% this quarter. That’s down from 15.4% last year but up 0.2% from Q2.
The bank continues to grapple with legal troubles, paying nearly 1 billion euros in litigation and conduct charges this year. Some analysts say Barclays is the best-positioned bank in the U.K. but needs to avoid making costly missteps like its over-issuance of securities in the U.S.
$BCS shares are down marginally on the day as investors mull over the results.
Markets are watching bank earnings closely to track how various parts of the world are faring economically. So far, expectations have been low enough for many to beat them. But, as always, we’ll keep you updated as more data comes in. ??
Economy
The Yield Curve Scaries
There are a lot of treasury curves out there, but the one that historically has been most predictive of a coming recession is the 10-year 3-month treasury curve.
Before we get into this, let’s lay review a few key points about bonds.
Bonds are priced based on various factors. The main ones are the bond’s initial yield, prevailing market interest rates (aka investor growth / inflation expectations), and the bond issuer’s credit quality.
Bond prices and yields move inversely to one another. If the prevailing market interest rate rises, bonds with lower yields will be worth less. If the prevailing market interest rate falls, bonds with higher yields will be worth more.
Generally, the longer timeframe of the bond, the higher the interest rate investors will demand to purchase that bond. That’s because if growth (and inflation) are expected to rise, the prevailing market interest rate will likely rise alongside them. And based on principle #2, that would make their bonds (and interest payments) worth less.
There’s much more to the bond market, but that’ll get you through the rest of this discussion.
What’s most important to know is that the yield curve helps isolate those factors by comparing two bonds of equal credit quality but different maturities. We use yield curves because they help us identify investors’ expectations about future growth.
Today, the 10-year 3-month treasury curve is “inverted,” which means that the 3-month treasury yield is higher than the 10-year treasury yield.
That tells us investors are not as optimistic about the economy’s future and think that interest rates will have to come down again to spur economic growth. As a result, they’d rather lock in a higher interest rate for longer. And since price and yields are inversely related, higher demand for longer-term bonds pushes yields down. And a lack of demand for short-term bonds pushes yields up. Hence, we get an inversion.
So why does this all matter? And how do we track it?
Economists track this yield inversion closely because it typically occurs several months or quarters before the economy officially enters a recession. As you can see from the FRED chart below, a prolonged inversion occurred before each of the official recessions over the last several decades.
It’s not a perfect indicator by any means. Each inversion varies in depth, length, and how long until a recession actually occurs. So using it as a market timing signal on its own is not an ideal strategy. But at the very least, it can let us know that we’re in an environment where the economy looks vulnerable. Especially when combined with other confirming factors.
And with the recent economic and earnings data, it’s unsurprising that many investors are adding this to their list of reasons to be concerned about the economy.
Lastly, we’ll note that the yield curve briefly inverted a few weeks back. As a result, we’ll have to see if this inversion goes deeper and lasts longer, or is just another fake-out.
As always, we’ll keep you updated as things develop. Until then, happy spooky season.
Bullets From The Day:
An unprecedented deterioration in memory chip demand. South Korean semiconductor company SK Hynix saw quarterly profits fall 60%, warning of a historic decline in memory chip demand. The world’s second-largest memory chip maker will cut investing in 2023 by more than 50%, reminding many of the drastic measures taken during the ’08-’09 financial crisis. Post-pandemic demand was intially hot as supply chains caught up but has turned sharply south this year. The scary projections add to the tech sector’s concerns over the rocky macro environment, inflation, and rising interest rates. Reuters has more.
The data storage business continues its slowdown. Seagate Technology added to the global slowdown concerns with earnings and revenue that missed expectations. In response to the slowdown, the company has taken decisive actions to adjust production output, cut annual CAPEX plans, and introduce a formal restructuring plan as it looks to improve long-term profitability. It should complete its restructuring efforts by the end of its fiscal 2023 second quarter, which means near-term results will likely remain soft. As a result, its earnings and revenue estimates for the current quarter were well below analyst estimates. More from Yahoo Finance.
Boeing descends as revenues falter. The company’s adjusted loss per share and revenues were well below expectations. While its commercial aircraft business has picked up, rising 40% YoY, problems in its defense unit weighed on results. In addition, the CEO said he’s not anticipating that the supply chain world will improve soon and that the company is being realistic about the tough environment it faces. In other Boeing news from the day, Alaska Airlines exercised its options to buy 52 more MAX jets from the company. CNBC has more.
Another SPOT-ted earnings report. Spotify shares are falling sharply today after posting a wider-than-expected loss and revenues that narrowly beat estimates. The company’s monthly active users rose 20% YoY, while paid subscribers increased 13%. Despite the slowdown in global advertising, the company continues to invest in its ad operations. Ad-supported revenue rose 19% YoY and made up 13% of total income, with that growth driven by podcasting. More from CNBC.
Mobileye prices above its reduced IPO range. The self-driving technology unit of Intel Corp. rose over 30% today in its debut on the Nasdaq Stock Exchange under the ticker symbol $MBLY. The market’s turbulent conditions caused it to reduce its IPO valuation to a third of the $50 billion it was targeting earlier in its IPO process. However, today’s action showed enough appetite for the company at its lower $16.7 billion valuation, allowing it to raise $861 million. Yahoo Finance has more.
