|By Matein Khalid| Jamie Dimon, the unanointed king of Wall Street and chief executive of New York banking colossus J.P. Morgan did not mince his words. He called Bitcoin “a fraud”, a speculative bubble comparable to the Dutch tulip mania of the seventeenth century and declared he would fire any trader at his bank trading in the cryptocurrency “in a second” for “stupidity”. This has only reinforced the bloodbath in Bitcoin, which has plunged 30% from its recent peak of $5014 on September 2 saddling credulous “investors” with $20 billion losses. The Economics 101 definition of money includes that it be a medium of exchange, a store of value – and a currency whose US dollar value plunges 25% in six consecutive sessions is obviously a poor store of value or medium of exchange. The world’s central bankers and securities regulators have also begun to crack down on Bitcoin. The Chinese government banned its use as a unit of account in initial public offerings on the domestic stock exchange. Even the DFSA, the regulator of Dubai’s international financial centre, has issued a warning, to the public against Bitcoin fraud.
Gold has accepted by humankind as a store of value, de facto money, millennia ago and the gold standard once anchored the monetary policies of Britain and America. The rise of sterling as a global reserve currency correlated with the British Empire’s role as the sole global superpower after the battle of Waterloo in June 1815. The US dollar replaced sterling as the world’s dominant reserve currency after the United States emerged as the world’s banker and military/economic hegemon after World War Two. The $5 trillion daily turnover foreign exchange market, the Eurobond market, the IMF special drawing rights, global trading in oil and commodities, World Bank project finance lending and the syndicated loan market all backed by the US dollar, which in turn is backed by the “full faith and credit” of Uncle Sam, history’s wealthiest and most powerful issuer of paper currency. Bitcoin, in comparison is a joke, a cryptocurrency prone to speculative mania, with daily volatility that exceeded 10% in a single session last week. This is no unit of account. This is no medium of exchange (Try paying for a Dubai taxi ride with Bitcoin!). As more central banks ban its use, Bitcoin will become even less convertible than a Third World banana republic’s currency. Crypto currencies have been used in the dark web by terrorists, drug dealers and money launderers, making Bitcoin classic fool’s gold or, as we say in Wall Street, the ultimate suckers bet. It is only matter of time before cryptocurrencies are banned by governments worldwide and become worthless.
As in any speculative bubble, the only winners will be those who get in early and got out well before the bubble burst in September 2017. This will be a miniscule fraction of current Bitcoin investors. Most investors will be, sadly, wiped out. There are dozens of crypto-currencies that are in the pipeline that use block chain technology. Sooner or later, the world’s most powerful governments will collude to destroy this embryonic threat to the usage and value of their national currencies. This much, at least, is certain.
As I wrote last week, the Japanese yen depreciated sharply as risk sentiment stabilized while the prices on the ten year US Treasury note bond plummeted. The US dollar, more than two sigma (standard deviations) below its 20 day moving average, was a no brainer buy once the yield on the ten year Uncle Sam note rose 17 basis points from its panic lows. In essence, despite another North Korean missile launch over the Sea of Japan and the US demand for draconian UN sanctions on the Pyongyang regime, the yen fell against the dollar as interest rate spreads widened. Hurricane Irma’s fury was spent over south Florida and the Trump White House gave strong smoke signals of an imminent tax reform deal.
It is significant the President Trump dilute his demands for North Korea sanctions in the UN to achieve Chinese and Russian consent for a unanimous vote in the Security Council. The North Korean volcano is still active and can erupt on the world financial markets at any time.
Sterling’s spectacular surge is related to the British Chancellor of the Exchequer’s statement that the UK will seek a transition period in its negotiations with the EU, de facto soft Brexit, though the strong August CPI reinforced the sterling bulls. However, negotiations with the EU will not progress seamlessly and the currency market is disproportionately positioned for a base rate hike from the Bank of England.
Wall Street – Investing in software shares amid cloud transitions
At first glance, Oracle’s June to August quarter results seemed impressive. Revenues rose at a 7% annual rate to $9.2 billion, $200 million above consensus. Earnings per share were 0.62 cents, above the 0.60 cents EPS consensus. Most important, Oracle’s “cloud software as a service” business revenues rose 62% to $1.1 billion. This is the growth engine of the new Oracle, not its legacy database and business software business. Yet the company disappointed sell side software analysts on Wall Street at its conference call. The shares, trading well above 53 after its results were unveiled, plunged below 49 on Friday. The consensus holds that Oracle’s transition from a licensing to a cloud based subscription model can well pressure margins, as the company forecasts suggested. Wall Street expected a rosier growth forecast from Oracle and it did not get it, hence the public execution in its shares.
I believe Oracle is not expensive at 16 times forward calendar earnings, a significant discount to Microsoft. It was dead money in 2013-16 as it began its transition, as Microsoft was dead money in 2010-2013. Yet the stock market cottoned on to the growth transition in Oracle. This was the result the shares were up 35% in 2017 before last Friday’s sell off, when Oracle was the worst performing major tech share on NASDAQ down 7%.
Mark Hurd himself noted that Oracle 62% cloud revenues growth was double the growth rate of its Silicon Valley archrival Salesforce.com. So the stock market’s visceral bearish reaction to management’s slower cloud growth after its conference call seems excessive. Yet it is a fact that Oracle now expects a 0.64 – 0.68 range for its November end quarterly forecast, below the Wall Street 0.68 consensus. Yet this does not negate Oracle’s cloud transition story. Management forecasts of a 39 – 43% cloud bookings growth rate is from a far higher base. Note Oracle expects to hire 5000 software engineers and consultants in response to its cloud bookings growth. The options packages for Mark Hurd, Safra Catz and even Larry Elision is designed to target $20 billion in cloud revenues in a single year, up fourfold on current annualized cloud revenues. The Oracle story is intact.
Symantec is unquestionably the champion of the $35 billion enterprise security and storage software market. The cyber-hacking attacks that have just gutted Equifax and even poisoned US-Russian international relations make Internet security software a secular growth business. Symantec is the leader in the design of digital security protection and management systems for the world’s leading businesses. Its growth strategy, rising margins and opportunistic acquisitions lead me to believe the shares could well trade to 40 or 22 times its 2018 earnings.
Microsoft has been a must own stock even since Satya Nadella replaced Steve Ballmer as CEO and led the company’s restructuring and cloud strategy. The Azure and Office 365 commercial cloud platforms have transformed Microsoft’s growth potential. Cloud revenues could well grow at a 30% annual compound rate in the next three years and contribute almost a third of global corporate revenues even as gross margins expand to 48% in the next three years. The tsunami of free cash flow Microsoft will generate will only lead to an acceleration in the share buybacks. True, Microsoft’s spectacular performance in 2017 has captured most but not all of the cloud related valuation rerating potential in the shares. Satya Nadella has also attracted income investors by increasing dividends for the past three years. The scale of Microsoft’s $40 billion shares buyback scheme is such that it has reduced its share count by 25% in the past decade. This trend will continue. Even as this late stage, I would use any NASDAQ correction to accumulate the Evil Empire of Redmond since I believe Microsoft can well trade at 85 – 90 in the next twelve months.
Stock Pick – Does the iPhone X mean a trillion-dollar market cap for Apple?
The launch of the iPhone 8 was the biggest event in Silicon Valley and the most awaited new product offering from the colossus of Cupertino since at least 2013. However, Apple shares are up 40% since December 2016 and even sleek Apple TV streaming video boxes and LTE enabled watch were not enough to scale new highs above 163 after CEO Tim Cook unveiled the new Apple devices. A decade after the launch of the iPhone changed the nature of human communications on a planetary scale, it is an opportune moment to analyse the investment potential for Apple shares.
The investment case for Apple is still not over as the global iPhone upgrade cycle accelerates and Wall Street prices in secular growth in service revenues. The other catalysts for Apple is its stock buyback program, its valuation discount relative to its FANG peers and innovation based, artificial intelligence software intensive new product pipeline. As the iPhone X demonstrates, Apple has ushered in a brave new world of 3D sensors, cameras and augmented reality technologies. In any case, the global excitement about these new features/technologies will tilt Apple’s product mix towards the higher end $999 phone, making the next iPhone cycle a financial windfall for the company. The cellular enabled Watch and Apple TV are only an icing on the cake for fiscal 2018 revenue growth. Apple is still not expensive at 15 times forward consensus earnings estimates though the Street sell side consensus reflects inflated expectations for iPhone unit growth and average sales prices.
The iPhone sales are 64% of Apple’s 2016 sales, with the rest from services (iCloud, Apple Care, store sales). Apple’s third quarter results and guidance were both impressive – with 3 – 6% unit growth in iPhone 7, Mac, iPad sales and 21.6% services revenue growth on App Store. Services is a proven growth segment in Apple and is a hedge against any slowdown in the global smartphone market, with the App Store the segment’s growth engine. Apple pay, Apple Music, Car Play are all services killer apps, as is original video content. Ultimately, hardware is 82% of Apple revenues (iPhone, iPad, Mac) but its future will be dominated by the explosive growth in services over the next decade.
Apple needs to trade at 194 to become Silicon Valley’s first trillion-dollar value business. Will it trade at this milestone sometime in 2018? Absolutely. Yet I would not be surprised to see a short term, profit taking correction. I expect Apple’s buy/sell range to be 140-170 for the rest of 2017. Apart from competitive and regulatory risk, I believe production constraints and switching trends could disappoint investors and enable, optimal entry strategies.
Semiconductor chip makers Intel and Qualcomm supply wireless modem chips for the iPhone. Qualcomm supplies the baseband for the CDMA version of the iPhone while Intel supplies the baseband to the GSM version. Given the critical role of CDMA networks such as Sprint, Verizon, NTT Docomo or China Telecom, I expect Qualcomm to be a relative beneficiary of the new iPhone paradigm. However, Qualcomm is in a steep downtrend and I am frankly enable to evaluate the outcome of its legal woes.
The November 3 shipment date of the iPhone X means that Wall Street may have to revise its 85 million estimated unit sales to spill over into 2018, the reason Apple shares sagged to $158 after the Cupertino event. Yet it makes intuitive sense that Apple’s higher end product mix means that Wall Street tech analysts will continue to raise their average selling price (ASP) of the iPhone. So the late shipment date of the iPhone X does not at all negate the bullish case for Apple. Yet it is inevitable that Apple has done its best to nudge iPhone customers to higher priced products and stimulate global demand for iPhone X, whose shipments will ramp up nest year and ensure that Apple achieves a trillion-dollar market cap. Losers from the new Apple iPhone? Western Digital and T Mobil. Margin pressure could also hit Taiwan’s Hon Hai Precision and LG Innotek. The winners? Optical firms in Hong Kong and Germany that supply 3D sensors to Cupertino, Micron and Samsung Electronics.v
