Long Value, Short Growth

The Value Trade of 2022 and 4 Rate Hikes

I spent time listening after market hours, the news of the day. There is no better way to gain clarity on market direction and narrative than listening to the talking suits of Wall Street on CNBC and Bloomberg. The clarity that came tonight was the inevitable reality that…

The value trade is extremely crowded. Financials, cyclicals and large caps are strongly positioned to under perform.

Let me explain, this publication should take no more than 5 - 10 minutes to read.

The Narrative on Wall Street

Let me briefly explain the movement and price action among stocks. We often, as retail investors, think so much about small detail of technical analysis or just fundamental analysis. This is too often in, my opinion, because what we rarely think of what we’re experiencing on any given market cycle or stock movement.

At the end of the day, we are at mercy of what the Suit’s on Wall Street think will happen next. Nearly everything they do is constructed by what they “think” is going to happen next, trying to predict an unknowable future. This is the classic market cycle.

As money flows to various sectors and cyclicals, it’s all based on macro-economic data. Think of Wall Street as just a much bigger Reddit crowd and they’re all competing against each other to see who can use more data and predict the future better. These flows of volatility and market rotations are what we experience as retail investors. In turns, this becomes emotional for us as we find moments of despair or moments of euphoria. These emotions must be controlled.

Emotions must be controlled because when stocks go down and the Wall Street crowd spends their time trying to predict an unknowable future, the BEST opportunity is to be found. They all crowd in a hurry and they all leave in a hurry, leaving retail with the bag.

The Clarity

The clarity I found tonight was that every talking head on CNBC and Bloomberg is that every single one of them was wrong. The narratives I heard all involved:

• Selling growth for value because the Fed is extremely hawkish

• Inflation isn’t transitory, it’s going to the F’n moon

• Buying cyclicals and “quality companies” (large caps)

• Staying aways growth stocks because the Fed is going to raise rates FOUR times with QT at the end of the year

The hawkishness and bearishness is incredible. They are all wrong because not ONE of them said, “I don’t know the future”. This is truth, it’s an unknowable and unpredictable future. The Fed historically comes out hawkish but backs off and becomes dovish when the Wall Street Herd cries loud enough. They did it in 2015, they did it in 2016, they did it in 2018 & 2019.

I’m not saying that what they’re doing is wrong, just to be clear. I think they do great work keeping parts of our financial system functioning, especially in the bond market. But, there is a point where you hit peak media attention. It becomes the dominant theme on wall street and everybody crowds into that trade because, “that’s what works”.

I have no doubt growth stocks are set to bottom, soon. Wall Street is 100% dead set on 4 rate hikes happening this year and QT at the end of the year. What if they’re wrong? What if inflation abates? What if they only hike twice? What if they only hike once?

The worst case scenario is already price in. A 1970’s style rate hike would be detrimental but very unlikely. My thesis in the above article.

I Couldn’t be More Bullish Right Now

The market is pricing in four rate hikes and quantitative tightening as if it has already happened. This is INCREDIBLE, Jerome Powell literally jaw boned the markets to voluntarily raise rates WITHOUT HIM HAVING TO DO ANYTHING! Likely taking froth out of the markets while impacting the economy very little.

The entire market and fed officials are dead set on this scenario being what is to happen but he has deliberately said multiple times, “the data will drive our decisions”. This means that as economic data comes out, including inflation data, the market may be pricing in something that will never happen.

Institutions have voluntarily sent growth stocks into a bear market because they’re so convinced and set on a future they don’t know. In turn, they’ve scooped up companies with no real future of revenue growth or earnings growth. The secular decliners.

Value and low to no growth is literally the most dangerous place to be in the market right now. *cough* Ford *cough*

Wall Street Herd is Gone From Growth

The market is irrational right now and valuation doesn’t matter. They say that it’s because “rates” or “valuations are too high” but here’s a list of profitable growth stocks with strong P/E ratios:

• D-Local, PEG ratio less than 1 $DLO

• MercadoLibre, PEG ratio less than 1 $DLO

• Digital Turbine, forward P/E of 27x

• InMode, forward P/E of 30, gross margins 80%+, and a world class balance sheet

• Brilliant Earth, forward P/E of 23

• PubMatic forward P/EBITDA of 15x (didn’t use P/E here because EBITDA is easier to calculate)

This isn’t about valuations or growth stocks with P/S too high. This is about clumping everything together with over 30% growth and tossing it out the window. It’s irrational, irresponsible, it’s awesome, and it’s opportunistic.

The Market Can Stay Irrational for Awhile, but When Reality Comes Around it is Very Rewarding. Trust Me, the Markets Will Come Back to Rationality. Fundamentals and Business Metrics Matter.

I Leave you With This

There’s going to be a ton of stocks that are NEVER going to come back. Like Peloton could realistically never come back, ever. But, there are going to be a lot of great, fundamentally strong growth companies that are going to go on an absolute tear.

I wrote this article for members

With the right mindset and the right risk management strategies, now is the time to buy wonderful companies for great prices. The long term risk reward is incredible at these levels. Even if you want proven winners, look no further than PayPal, Square, MercadoLibre or Shopify.

Stay Tuned, Stay Classy

Dillon