The volatility and rebalancing trade continued into and throughout August. The technology sector continues to underwhelm the broader industries that lagged in performance for the last twelve months. The benchmark S&P 500 appreciated by 2.28% for the month. In August, the tech-heavy NASDAQ and the Dow Jones Industrial Average gained 0.65% and 1.76%, respectively. Our precious metal gold tracking position (Ticker: IAU) grew by 2.12% while trading range-bound the last week of the month. The separation between asset classes and their expectations is very stark. The gap between what equities and fixed-income markets are projecting remains massive: consensus S&P 500 EPS growth estimates are double-digits through 2024 and 2025, while money markets futures are pricing a number of cuts that typically only occur during recessions.
While a swift global market correction (more on this in a bit) garnered most of the headlines early this month, Fed Chair Jerome Powell’s appearances in Jackson Hole, Wyoming, generated lasting buzz. Perhaps the most noteworthy of his conversation points was the development in which he recognized the continued softening of the labor market and the need for the Federal Reserve to cut interest rates at the next meeting (in a couple of weeks). A few days after his proclamation, market participants received a significant jobs revision to the 2023 labor market data. Bureau of Labor Statistics data showed that the number of workers on payrolls will likely be revised by 818,000 for the 12 months through March, the most significant downward revision since 2009. We have routinely warned about our concerns regarding the quality of data monitoring the labor market. Additionally, a few days ago, we received another batch of jobs data showing that continuing jobless claims continued to move higher moderately. This current state of the labor market reflects businesses’ unwillingness to hire with any degree of strength and unwillingness to let anyone go. Overall, we experienced a significant shift in the Fed Funds Futures market, as participants now expect 200 basis points of rate cuts through 2025. This expectation of materially low borrowing rates has provided a tailwind for stocks that were the most adversely affected by the rate hikes of years prior.
During the month, we experienced a brief and material spike in volatility. On August 5th, the VIX index spiked to 61.3 after Japan’s Nikkei index collapsed overnight by more than 12% as a part of a more prominent global sell-off. This global sell-off prompted a wave of put option buying, which created a big move in the widely followed put/call ratio rising above 0.95. When you buy a put option, you believe the stock price related to the derivative will fall. When you own a put option, you have the right to sell a stock at a specific price to the person who sold the put option. This wave of fear subsided as markets settled. This quick sense of calm is a valuable human behavior indicator for us. When we observe events when the VIX spikes (fear) and then declines more than -35% (calm) in six days for the first time in three months (this combination of events has occurred twelve times since 1986), the S&P 500 has appreciated twelve months later 100% of the time. The appreciation has been uneven, with returns ranging from +1.8% to +28.4%, but the experience overall has been positive after a year post-signal. With the current mix of variables at play, an investor needs to be invested in specific companies and sectors rather than mindlessly and broadly invested.
Please see the following updates on existing positions held at the firm:
Cheniere Energy (Ticker: LNG)- Cheniere generated light second-quarter earnings but issued strong guidance into the end of the year. LNG exports are expected to rise as the company expects to make up for lost production due to freeze-related feed gas issues. Additionally, maintenance at both terminals was completed during the second quarter. Overall, portfolio optimization via gas procurement and vessel subchartering gave LNG management the confidence to issue increased and tighter guidance for the remainder of the year. Finally, the company leadership increased their capital return policy by increasing the share repurchase program by $4 billion and the cash dividend by 15%.
Mid-America Apartment Communities (Ticker: MAA)- The multifamily-focused REIT hit its 52-week high in August as MAA continues its strong run through the summer months. Fundamentally, Mid-America’s concentration in the Sun Belt, which still has an excess supply of newly built apartments, has damaged AFFO growth. Management believes 2025 will be when the positive population trends in their key markets absorb the excess supply. Additionally, the REIT will look to acquire any distressed multifamily assets that may come to the market over the next few years, taking advantage of its strong capital structure.
Dominion Energy (Ticker: D)- Dominion continues to advance its plan to repair its balance sheet and bring its leverage down to the 15% FFO-to-debt target. The utility is on track to pay down $21 billion of parent debt by year’s end. Dominion still plans to issue $3.5 billion of equity between 2025 and 2029. The cash dividend will remain unchanged for the time being. Data center electricity demand still gives us the chance for an upside surprise in earnings. Favorable weather in July allowed for a $0.03 bump to earnings per share. Finally, the utility company is seeing minimal effects on the surging capacity pricing on customer bills.
Sila Realty Trust- (Ticker SILA)- The newly listed REIT announced another share repurchase on August 19th. This stock buyback follows the estimated 4.5% shares outstanding repurchase in July. We continue to like this investment’s value (risk/reward). The closest comparable companies trade at P/FFO multiples at more than 2x SILA valuation. We believe this is incorrect as SILA’s model of triple net leases and underleveraged capital structure should give Sila Realty shareholders at least an equal valuation. We will continue to collect a 7% cash dividend as we wait for multiples to come into balance.
We believe the market rebalancing will continue for the next couple of quarters. We are positioned from a position of strength and will continue to allocate capital to new investments as opportunities are presented to us (like SILA recently). The volatility in the market will persist around upcoming events. If you have any questions, please feel free to contact the team; we will be glad to discuss them with you. Finally, in early October, Mike and I will be hosting our quarterly live video call; as a result, be on the lookout for the signup information in a couple of weeks.
Best regards,
Stash J. Graham
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