In the midst of a sea Wall Street buffoonery that almost, but not quite, included suggestions that the COVID-19 outbreak could actually be a good thing for stocks or for anyone in the world -- in that it gives Apple (AAPL) time to clear inventories ahead of the launch of the iPhone 12 -- I had a eureka moment yesterday.
It's disappointing but not surprising to me that the Street is overlooking the human toll of the coronavirus, but the death toll, now above 2,000, is not really the point. Except on an extremely localized basis, there's really only been one occurrence since World War II where the actual mortality of an event could impact economic activity. That's the tsunami of 2004, which killed an estimated 200,000 people, but spared China as it does not border the Andaman Sea/Indian Ocean.
Of course, I would never minimize the tragic impacts of events such as 9/11, which saw several friends of mine perish, or other outbreaks such as H1N1, SARS or MERS. But the impact to economies from such shocks is, for better or for worse, the same as it was from economic shocks such as Lehman Monday or the bursting of the tech bubble.
Confidence declines. That's it. In two words.
In a U.S. stock market that hasn't been this confident for nearly 18 years -- if we use forward P/E as an indicator, which is holding above 20x for the first time since 2002 -- confidence will decide the fate of the markets. The impacts of a decline in confidence are felt far and wide and have the greatest impact on entities that are leveraged. If the Chinese economy is dealt a massive, lingering blow from COVID-19, the impacts will not only hit China but other nations that are dependent on Chinese consumers as marginal consumers. That would be just about all of them.
So, who gets it worst? Well, a less confident consumer is much less likely to purchase durable goods, which may even include an iPhone now since it is so expensive, but most certainly includes cars and houses. The car industry has been dependent on China for growth from the day VW opened its first JV plant there in 1984 to the day in December when Elon Musk was dancing across a stage in Shanghai.
The coronavirus will turn China's auto recession -- two consecutive years of sales declines including monthly declines in 17 of the last 18 -- into a depression. This will also turn dreams of an electric car revolution in the Middle Kingdom into pipe dreams as sales of BEVs there have plummeted to a much greater degree than sales of gas-powered cars since federal subsidies were halved in July 2019.
I spent 11 years following the global auto sector, and this is one of the all-time low points. Yes, this includes Tesla (TSLA) , and Musk's Giga 3 factory in Lingang is quickly turning into an albatross, as the market begins to realize how much money it is possible to lose on an underutilized new facility. Adam Jonas of Morgan Stanley now estimates Tesla will lose $440 million at the operating line in the first quarter; I think it could be double that. For once, though, I would prefer not to focus on Tesla and will reserve the other 167.5 hours a week for those discussions in my inbox and on social media.
The world's most levered balance sheet belongs not to a company, but to a country: Japan. With a debt-to-GDP ratio of 237% according to the World Bank, Japan is incredibly levered and its economy is highly levered to Chinese consumers and tourists, as China is now Japan's largest trading partner, not the U.S.
The Nikkei index currently sits below its levels of 1985 (no, that is not a typo) and Japan's aging population simply cannot support the tax receipts necessary to service its debt.
I think we are about to enter a state of enyasu, a prolonged period of decline in the value of the yen. This should be good for exporters, but certainly is not good for stock values, and when I think of Japan I think of the amazing car companies, the managements all of whom I have met on my trips to that beautiful country.
I am a huge fan of Japanese culture, history and bar crawls through Tokyo's narrow alleyways, but I hate the stocks of the car companies here. Honda (HMC) and Toyota (TM) are probably the best shorts for U.S. investors owing to the liquidity of their ADRs, but I think things will be much worse for Nissan (NSANY) . I see very little chance Nissan survives in its current form, and there is just not enough "there there" for Toyota to buy it.
So there's an unfortunate but glaring trading idea. Short Japanese car makers. Things are going to get much worse for them.