Cathie Wood — In The Know (ep. 15) — Notes

Photo by Ryan Quintal on Unsplash

This video is an update on how Ark Invest is thinking about the market at the beginning of April 2021.

Monetary Policy

• M2 is up 27%, an acceleration.
• Powell is focused on unemployment and homelessness, a social issue.
• If inflation is kept under control, we can expect real growth to be strong.
• Producer Price Index (PPI), an inflation indicator, was up 1% MoM, 4.2% YoY, much stronger than expected, which is scary.
• We are in the middle of the base effect.
• In the Consumer Price Index (CPI), we expect an increase of 3–4% range (was 1.7% in February).
• We expect PPI to accelerate to the 6–8% range.
• The Fed has said it’s expecting this and will not react, we believe them.
• The markets seem to be taking this trend calmly, even though there was a huge increase of the long term treasury yield from 0.9 to 1.75 at the beginning of the year that we think was due to the anticipation of these inflation trends.

Fiscal Policy

• Federal outlays are up 63% YoY.
• The deficit is annualizing at $4 trillion, quite a significant deficit.
• We will see an increase in the deficit with Biden’s $2 trillion infrastructure bill.
• We’ve never seen spending like this so consistently, and we will have to pay for this somehow, sometime, and the markets will enter a confusing time while we sort this out.
• Corporate tax rate 21% -> 28%, we think the compromise will be 25%, with disproportionate hit to companies with branches abroad, incentivizing business to come back home.
• Individual tax rate aiming to hit people with over $400k income per year.
• The migration from high-tax states (CA, NY, etc.) to low-tax states was sparked by COVID and will accelerate due to new state tax proposals, causing turmoil in states that are no longer attracting capital or people.

The Economy

• If you look at the stats from Feb, you’d fear that we were going back into the swoosh.
• But what we’ve seen in early March data, we’re rebounding nicely from what appears to be a weather-related hit.
• We are rebounding. And the rebounding is enormous.
• If you look at the Philly Fed, the first indicator of real economic activity and volume growth, you see that we have not seen this kind of strength since 1994 (27 years ago).
• The Employment Situation Summary was much stronger than expected. Expectations for non-farm payroll was +660k jobs, the actual was +916k.
• The average workweek went up significantly. Normally it doesn’t changes, but when it does, it might go up 0.1 hours. This last month (March) it was up 0.2 hours. Companies are scrambling up to keep up with demand.
• We are seeing another push in demand from the stimulus package.
• In Feb, the savings rate dropped to ~13%, but we think that was temporary and will go back up to above 20%. Consumers still have a lot of firepower pent up.
• We are seeing labor shortages pop up.
• The updated JOLT index is now near a record high. The record high was November 2018: 7.6m jobs unfilled. At the low last year, it was 4.8m. AT the end of February 2021: 7.4m job openings. The question we’re facing is: is labor inflation going to pick up in response to these shortages?
• Taxes are going up for sure, debt service is probably going up (spreads in bond market are probably going to increase), and commodity prices have been soaring.
• One of the few dampening forces on inflation is the increasing value of the dollar, something unexpected. Another is strong productivity.
• Strong dollar, productivity -> decreases inflation
• High taxes, labor, interest rates, commodities -> increases inflation
• It will be a dueling match, we’ll see what happens.
• The deflationary impulse we see coming out of inflation that will stimulate unit growth that will be reinforcing in terms of productivity growth, this is good deflation.
• Bad deflation will hit companies who have not prepared for the new world by investing in innovation, and have rather satisfied short-term needs of shareholders.
• Bad companies will have to cut prices to move inventory that will become obsolete anyways.
• Good companies that have invested in innovation will be prepared for the new world.
• The equity and bond markets will be confused at these dueling forces.
• ARK will be here to explain how these forces evolve, and who will win.

The Market

• The fixed-income market saw a backup in yield from 0.9 to 1.75 in ~3 months this year in 2021.
• In the bond markets, a move like this (nearly a doubling) is massive.
• We’ve been gratified to see the equity market power through this.
• The equity market sees this change as a sign that the economy is strong.
• During COVID, the FED gave financial institutions leeway on maintaining their Statutory Liquidity Ratio (SLR).
• What I (Cathie Wood) didn’t know until ~ 1 week before the lenience ended on March 30th, was that politicians fought against continuing to give banks this lenience.
• Given this development, we believe it’s possible that banks were the big sellers of bonds in the first quarter, driving up the treasury yield up much faster than normal.
• Another exciting drama: Archegos Capital Management’s implosion.
• It was an example of one firm leveraging up far too much with one bank, while other banks had no clue how much exposure they had to the same firm. This seems to be an isolated event.
• Even with all of the spicy recent events, the equity market has done pretty well.
• The rotation that we talked about last month is still underway. We are still seeing markets favoring cyclicals and value, but growth is clawing its way back.
• We said last month that this is a very healthy thing because it means the bull market is broadening out. The examples I just gave you above is another battle test of a healthy equity market.
• The market is broadening out, but it will be a launching pad for growth strategies.
• Energy is top performer at 27%.
• Financials is second at 19%.
• This is reassuring to ARK because we believe these two sectors will be disrupted the most compared to other sectors.
• We believe the turmoil that I mentioned earlier (deflationary vs inflationary forces) will hit these two sectors particularly hard.

Innovation

• Quick plug for podcast: “Big Ideas 2021”, the best piece for giving investors a broad view opportunities.
• Elon Musk responded to the podcast, asking about the Warren Buffet Indicator, a ratio of the equity market cap to GDP. This indicator is at record highs over the past 100 years.
• ARK has researched on more than just the past 100 years. The past 100 years have been good guides, and we have the most data in this time range, but we’re in a new era today, similar to the late 1800s and early 1900s. If you look at the WBI ratio then, it’s much higher.
• One reason is because of the denominator, GDP.
• GDP is made up of both real growth and inflation.
• If ARK is right about the 5 major platforms (14 technologies) being deflationary, and that they’re going to become a bigger part of the economy, that means they will bring GDP down relative to the numerator, which increases the WBI index.
• The conclusion is that you have to go back to the last time we saw major innovation platforms evolve at the same time.
• Back then there were only 3: telephone, electricity, automobile.
• There are 5 now: DNA sequencing, robotics, energy storage, AI, blockchain tech.
• These 5 innovation platforms will deliver profound changes in the global economy, including in the US of course.
• If ARK is right about this deflationary call, the long term treasury yield will not go above 2.5–3%. If this is true, that suggests that the valuation of the market will grow into the 30x-40x range. It sounds crazy right now (we’re currently at ~20x), but there is a possible rationale out there. However we are not betting on these multiples. We bet on a 5 year time horizon.
• For those of you who were concerned about volatility in the market and its impact on our strategy — all it did was give us bargain prices to help us concentrate towards our highest conviction names. We will use these opportunities every time.
• Short-term market volatility does not affect our price targets.
• We only update our price targets based on (1) well-defined cost curve declines, and (2) price elasticity of demand estimates.

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