Being long Growth/Momentum over short Value stocks has been one of the best relative value trades for the past five years or so. It has been sort of a no-brainer trades of sorts especially being Long Technology over short Energy. It made sense from a top down macro point of view given real yields had been moving lower which supported higher valuations for Technology. From a fundamental point of view, Oil has been burdened with excess inventories due to a lack of demand, so the price has stayed muted despite OPEC+ taking 7.7 mbpd of Oil off the market. This justified the trade from both directions.
But last Monday, everything changed. Pfizer (PFE) came out with news that its vaccine was 90% effective, and BOOM, we saw a 15 sigma move in stocks that crushed portfolios across the board as investors saw that as a green light to cover all their Energy shorts and close their Technology longs. What this means in lay man's terms is that the chance for this long/short trade unwind to happen to this extent was one in a million chances - almost impossible and so not positioned for at all. No one bothered to read the detail or how logistically hard it would be to produce and distribute the vaccine to people. Quant funds blew up overnight and had to cut risk. To add insult to injury, Moderna (MRNA) came out with another vaccine headline yesterday saying their drug was 94% effective. Rinse and repeat, the last two weeks has seen such harsh moves, most funds are sitting licking their wounds. Act first, ask questions later has been the mantra.
There is no doubt that once a recovery takes hold, and we are past Covid lockdown restrictions, these stocks are super cheap and can see a bounce. From a longer-term perspective, the risk vs. reward is compelling. But the timing is what is being debated. Tactically, one could be 3-5 months too early and that can change everything. If one plots the actual drivers of the Oil price or yield curve, it seems the respective Equities have gotten way ahead of their drivers. For instance, the price of Oil is up 15% from the lows, and still below the September peak below $45/bbl Brent. It has not really made any new ground, yet these stocks have made new highs above their September levels? Even Financials are trading well above what U.S. and German Bond yields have done. Which one is right? It seems the yields need to move a lot higher to justify the story being told by the Equities. So, who is right?
The Oil price is certainly seeing a demand pick up in India, Japan and parts of Asia as seen by the physical market, but Europe and the U.S. are stalling as they go further and further into lockdown mode. At the end of the day, the Oil price is a measure of the inventory balance. One can hope whatever they want in the future, but every day that goes by and we have excess supply, price will be capped and move lower. The Equities, especially the Oil majors and Oil Focused Equities cannot trade at higher multiples when their main revenue driver is not moving. As usual, Equities get ahead of themselves. Perhaps funds are so busy unwinding their books, no one has bothered to look at the actual company and commodity market fundamentals in isolation.
Moreover, it is interesting to see Technology stay flat over the past few days despite all this selling. The technicals look supportive and earnings even more so with 25%+ EPS year over year growth rates. After all this technology large caps selling, it seems the pain trade is higher, not lower.
It is important to separate the headline news from fact. Sector rotation has been so harsh that it has masked the real fundamentals. Choose your picks wisely, and there is nothing to say that both sectors and stocks cannot be up. It will be much more of a stock picker's market going forward.
