Record Highs & Finding Volatility 💸🎢
Harsh is still in the jungle this week... he may be lost... we may need to send a search party 🔦
We're not the only ones! Investors in the stock market may also be sending a search party to find where the volatility in the stock market went?
You may have heard of the VIX index, if you haven't, it might be time to check inn to 'The Library' and find some great reads, like 'what is the VIX index?' - link here.
The VIX measures the volatility in the market ie. price fluctuations. So far, November has had the lowest monthly average, in terms of volatility, in over a year! More specifically, since August 2018.
Since October 1st, the decline in volatility has been significant compared to the preceding two months. So right now, volatility is declining and therefore moving in the opposite direction when compared to the October / November period over the past 5 years.
Volatility is a natural part of the stock market, I mean, it is a live auction/negotiation with people buying and selling which translates to the bid/ask spread, i.e. the difference in what someone wants to sell for and someone's prepared to pay. With this type of dynamic, there's bound to be fluctuations in price!
For now, it seems like investors (buyers and sellers) are closely aligned on price because the The Dow Jones Industrial Average didn't move in price at all last Tuesday.
Big deal? Doesn't seem like it, but, the actual price of the Dow index is calculated to 10 decimal places and the price remained unchanged, even out to the 10th decimal place! According to the Wall Street Journal, this has only occurred three times in the last 19 years.
As an added bonus to the little volatility in the market, US stocks reached another record high, rising for the sixth straight week - the longest streak in two years.
Of course, good news doesn't sell those newspapers, so investors are quick to bring out the famous line they've been using for the past few years, "we're about to enter a recession" - *hit snooze several times here.. it's not time to wake up just yet*.
But, not all things 'got up' this week. Bond yields took the spotlight with their fall - but when bond yields drop, that means bond prices are up 😉(more on bonds here) and so are the 'bond proxy' groups.
As a quick recap, and so we're all on the same page, bond prices have an inverse relationship with interest rates, so when interest rates drop, bond prices rise.
Interest rates don't just have an inverse relationship with bonds, they typically have an inverse relationship with certain industries, i.e. when interest rates drop, stocks in the financial sector will typically underperform.
If your bank makes money by charging you interest, when interest rates drop, they can't charge you as much interest and therefore they don't make as much money. Lower revenue, means lower profits, which means lower stock price.
So which stock sectors are set to perform better in a low interest rate environment? Real Estate, Infrastructure, Utilities - low interest rates, mean less debt obligations / less costs, which means more cashflow / more revenue.
So, what is a bond proxy?
Bond proxies are shares that are likely to offer predictable returns, and they can sometimes have higher yields than bond market offerings.
So when bond yields fell this week as a result of falling interest rates, this made the interest rate-sensitive “bond proxy” groups – utilities, real estate etc, among the best sector performers in the S&P 500! No surprise that while bond proxies were rising this week, the financials sector was falling.
Typically when interest rates drop, investors re-balance their portfolios and buy bonds for stability to offset expected volatility in the stock markets. But, if you're like me, you like to buy bonds before interest rates start dropping.
As interest rates drop, the bond market becomes more 'in-demand' (because of investors re-balancing their portfolios) and where there's demand there's growth, meaning bond prices rise - if you bought in beforehand you can say hello to those capital gains! If you're only buying in when bonds are already in higher demand, it means you're likely buying the bond at a premium price ie. overpaying for it.
It is also important to remember that if you wanted to sell the bond before its maturity date (when the bond expires), you may not get back the full amount that you invested. This is because bonds typically trade at a discount or a premium and rarely at their true or face value.
This means that you will need to make enough money from the coupons (interest) the bonds are paying to make up for the capital loss to break even or to exceed the capital you invested to make a profit, if you buy when interest rates are going up.
Something to consider when 'following' the market. 😉🍿
What Else is Going On?
The price of oil 🛢️
The world's most profitable company is about to go public. By now you've probably heard of Saudi Aramco - if you haven't, it's a Saudi Arabian state owned oil company that officially announced its plan to go public for the first time in the company's 86 year history on November 3rd.
Aramco is all set to start the offer period on November 17 and close on December 4. The company will price its shares on December 5, with trading on the Saudi stock exchange — the Tadawul — expected to start in mid-December.
So what made Aramco the most profitable company in the world?
The really key year here is 1972. The United States could no longer pump more oil to meet rising demand. So instead of being able to accommodate America’s vast thirst for oil at the time, they had to import oil from elsewhere. And one of the big sources of that was Saudi Arabia.
But as the world moves away from oil and further toward sustainable resources and electric cars, how will this impact Aramco's financials?
Saudi Aramco made $111 billion dollars in profit last year. To put that into perspective, Apple made $60 billion - and they're the second-most profitable company in the world. I mean.. wow! Irrespective of what your views may be on oil - that's impressive!
So why are foreign investors not impressed?
The world remembers that just last year a Saudi prince assassinated a journalist that criticised the Saudi government, so the idea that the money from this share sale would go to support the Saudi Arabian monarchy has been a deterrent for many foreign investors. Politics aside, they're only offering 0.5% of the company to the public at a $1.2 trillion plus valuation.
Private companies typically grow faster in terms of valuations compared to public companies - as private company valuations don't fluctuate on a daily basis and aren't subject to public scrutiny. But once a private company reaches a 1 billion valuation, if their goal is to IPO, this is usually the time to do it.
When you take a company public you need to show investors that you can continue to grow so they can gain a 10x plus return.
At a $1.2 trillion plus valuation already, that could be a challenging feat, particularly when the supply of oil may be high but the future demand is relatively unknown as the world moves further towards other, more sustainable resources.
Either way, this IPO would make history and we'll be watching it. 🤓
Please know, the value of investments can go up as well as down and you may receive back less than your original investment, meaning, when investing your capital is at risk.
Disclaimer: At Evarvest we believe in making investing and investment education more accessible, but we don’t provide investment advice and individual investors should make their own decisions. While we try our best, we cannot ensure the accuracy of the information we provide.
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