Dan Niles' 2024 Market Breakdown: Where the Rubber Hits the Road"

Uncover Investment Insights for 2024 with Hedge Fund rocks star Dan Niles on The Money Runner! Join David Nelson as he delves into the crucial investment questions of "What's working, what didn't, and what's next' with Dan Niles founder & senior portfolio manager for the Satori Fund. This in-depth discussion offers valuable perspectives on 2023 and potential market surprises for 2024. 

00:00 Where the Rubber Hits the Road
00:51 Not afraid to make the big call
01:38 Consensus has been wrong
02:59 Apple
03:54 Wide range of outcomes
04:34 Fed will cut in March
06:38 Market PE
07:49 Down 30%
10:17 Friday will be a good test
11:32 Why Amazon?
14:49 What makes a good short?
16:58 Buying Intel at the bottom
19:00 You need a catalyst
19:53 China
23:37 Massive deficits & De-dollarization

Transcript

0:03

So I think you're kind of at the spot where the rubber hits the road, where these companies in a couple of weeks are going to have to put up numbers that justify these monster moves. They've had, because last year, it really didn't matter whether you made earnings or not. What's working, what didn't, and what's next. Those are questions every investor wants answered at the start of every year. Hedge fund rock star Dan Niles is here to help us out. Welcome to The Money Runner. I'm David Nelson. Dan Niles is not afraid to make the big calls. And that's why advisors and portfolio managers love his work. I first came into contact with Dan when he joined Lehman Brothers in 2000. He went on to be a managing director at Lehman's Neuberger Berman unit. And, of course, today is the founder and senior portfolio manager for the Satori Fund. Dan, thanks so much for being with us today. Welcome to The Money Runner. Thanks for having me on, David. Then, you know, we're coming off a monster year 2023. A lot of people didn't see it. I certainly didn't. We seemed to stumble out of the gate last week, kind of repaired a little bit yesterday. Today, kind of wish you washy. But we're right in front of a very important earnings season, maybe 30,000 foot view. What can you share with us? Well, I think the first thing is that consensus has been kind of wrong coming into each of the last three years. So if you think of 2021, the thought was, well, you could invest in innovation regardless of valuation. And then the Ark Innovation Fund underperformed the S&P 500 by 50%. Then coming into 2022 of the thought was, well, interest rate hikes, the big cap tech companies, they're just going to sail right through that. And then in 2022 of the magnificent Seven were down 46%. And then 2023, obviously, and I was in this camp as well. Most people thought we get a recession towards the end of the year. Clearly, that didn't happen. And then The Magnificent Seven were up 111% last year. And so that's kind of what concerns me going into this year, which is everybody is expecting a soft landing or no landing and is all bulled up for that scenario and the stocks have run into it. Which then gets to the question you asked, which is now that the stocks have all gone up big into earnings season, are companies going to be actually able to put up the numbers to justify that. And in a lot of cases, I think you're going to see some disappointment because if you look at last year, a lot of the stock moves for some of the biggest names had nothing to do with earnings. So Apple's a great example. If you look at the December quarter, I think that they're going to report in two weeks. The EPS for the December quarter has gone down 10% from where it started last year and the stock went up 48% last year. If you look at Tesla, a similar situation in that EPS estimates for the December quarter that they're about to report went down 50%, five zero over the course of last year and the stock doubled. So I think you're kind of at the spot where the rubber hits the road, where these companies in a couple of weeks are going to have to put up numbers that justify these monster moves. They've had, because last year, it really didn't matter whether you made earnings or not. Obviously, if you did well, like Facebook, which is one of our top picks, there are earnings estimates for this December quarter went up 90%, nine zero. So the fact that the stock doubled. That makes some sense in their case. Seems like it seems like then there's a pretty wide range of outcomes and it seems like a lot depends on whether or not we engineer this soft landing to do that the first time in a half century, the yield curve got it wrong. Are you expecting to actually let's stick it? Are they going to do that or is it just this higher for longer? And eventually it catches up and we end up with a recession? You know, for me, the way I thought about it and I'm not I'm not having long term forecasts, I'm sort of managing this day by day, which is what I think you have to do, because the range of outcomes, as you pointed out correctly, David, is so wide because I look at the first half of the year, I fully expect the Fed to cut starting in March, because Powell said during his press conference that the reason you wouldn't wait to get to 2% inflation to cut rates is that the policy would be too late. So he's basically told you he's going to preemptively cut. So I think with that scenario and the fact that you probably do have inflation sort of continuing to be declining and the economy wouldn't have slowed down that much, that the market probably rallies would be my guess in the first half of the year. But then, you know, every recession starts off looking like a soft landing, right? Because you go from positive GDP growth down to lower GDP growth, lower inflation. And the problem is, it doesn't stop there. Does it go right through that to a recession? And you, as you rightly pointed out, an inverted yield curve has rarely, if ever, been wrong. And so, you know. Let's pick up a chance right here. Dan, I want to bring up a chart ten. That's interest rate probability, because a lot depends on if the Fed, the market is expecting cuts here. And and right now, you know, it seems like there are some people out there looking for for March and everybody is you know, everybody's kind of like all in by by May. What if that gets pushed out? And and, you know, what what do you expect for a market reaction with that? Well, you know, it's one of those things. It's why. So if it comes out that the economy's really strong, but inflation's not that bad, then that's okay. And that the Fed pushed it out. But if it's a situation you know, where inflation takes off, and that's why the Fed pushed it off, even though growth slows, then you've got a problem. And so it's really situationally dependent. The one thing we haven't talked about, which is obviously relevant here, is the fact that if you look at the p e for the market right now, the S&P is trading at a p e of 22 times. And if you look through history, when you've had CPI of 2 to 3% and we're just a little bit above that, but let's make the optimistic assumption. We get into that 2 to 3% range in the next couple of prints. The average PE looking back through time is 19 times, so you're already three multiple times higher than where you should be on a normal basis. And so there's really no room for error in this. And that's what makes me, you know, really wonder what will what will occur. Because you've already had some negative earnings come out like Mobileye a couple of days ago, and the stock was down 25% the next day when they negatively preannounced. The flip side is, you could say last night microchip preannounced negatively and the stock was barely down. So this has been a very. Confusing. Start to. The year because you're painting that that that would be a dark scenario. So if they don't stick the landing and I've actually seen you in another interview, you talked about this, the potential downside for the market. Guys, bring up a chart of the S&P 500 s number nine. What is the downside like if. They easily 30%? Yeah, I think the downside is easily 30% because you say, all right, you end up with a garden variety, not a really bad recession. So your earnings go down 10% instead of expectations if they're going to be up ten. And then you say, well, as I said earlier, the S&P is 22 times and when CPI is between 2 to 3%. So I'm being I'm giving you credit for inflation coming down. The average trailing PE is 19 times. And so you say, all right, the multiple contracts by 20% with a 10% earnings contraction. And so you could end up with a 30% drop and so what I'm watching to try to figure out which one of these scenarios is it or is it something in between is the weekly jobless claims? Because the reason I'm more in the camp of it's likely to be a soft landing hopefully is if you look at weekly jobless claims and you look at, more importantly, the number of people unemployed versus the number of job openings out there, the number of job openings is 40% greater than the people that are unemployed. So it's hard to imagine that you get a very hard recession in that kind of scenario. And so that's what that's the big reason. One of the big reasons, I think, why we didn't get a recession last year, by the way, that number used to be you had twice as many job openings as people are unemployed. And so that's come down from two times as many to 40%. So do you at all does it bother you at all with the BLS numbers that, you know, we're getting the revisions almost every month. I think it's ten months in a row. We've had a revision to the downside and kind of a disconnect between that and household employment. Yeah, I mean, obviously that's a big issue for me. But the bigger thing for the market and total, I think is going to be let's see what happens this earnings season, because you had a monster rally in Megacap the entire market. You know, small cap didn't matter. Everything went straight up from November through December. And now you've got to put up the numbers and let's see what occurs. I mean, Friday will be a good test of that, right? Because we've got the megabanks all reporting on Friday morning. And, you know, there should be some good things in there, like net interest margins. You know, hopefully they'll talk about those improving going for right. Because the ten year has come down a bit and if the Fed's cutting, then hopefully you end up with this yield curve uninverting. The flip side of it is, is that you would expect problematic loans to be increasing during this environment. And the most important thing will be, well, how does the market take all of that in combination? Because obviously the bank stocks have also rallied towards the end of last year. So the biggest concern should be for everybody. The valuations are are not supportive at these levels. And that's that's especially for megacap tech and that's really where the problem is. But that's really what's driven the entire market. And that's why you've had so many people spend time talking about how poorly Apple's acted to start the year. I want to focus on I want to get to some of your picks here. Thank you for sending over a list. But you know, META is pretty easy to understand and your call on this. A couple of years ago, it was at or very close to the bottom when you made that call. So it's a monster move and it's pretty easy to understand the valuation versus the growth. I get that. Why? Why Amazon? Why is Amazon at the top of your list? Well. I like Amazon a lot for the simple reason. If you look at stocks, what drives them? It's the earnings and the multiple you put on it. Well, if you look at last quarter, Amazon beat their operating profit number by 40% or zero was a monster beat. Now, what drove that? It was their retail business. Now, what's happening with their retail business is that during COVID, they built a ton of capacity. Then as the world opened up again, people went out and bought things in physical stores and revenue growth and e-commerce slowed down massively. And so they had all of this capacity, but they didn't have enough volume running through it. And what you saw last quarter was that they had the best operating margin in the company since late 2021. And what you should continue to see is as that retail business continues to ramp up, that that margin leverage continues to come through. In addition to that, AWS looks like that growth rate has bottomed. It was at 40% in the fourth quarter of 2021. It's now the last two quarters. It's been at 12% with generative API more companies deploying that you should see that start to edge up and that's hugely profitable business. And the final piece is they're really ramping ads on Amazon and that's incredibly profitable as well. And Amazon gains share during recessions. And so I think you could see the EPS go from about to 2.70 GAP eps this year to double that level in a couple of years from now. And so for me, this is an earnings story going forward. That would be supportive of this next one is is is my favorite. You have to walk me through this. You are a global x uranium ETF. You know, I'm old enough to remember a three mile. Line that was actually that was actually a David. That was a pick last year actually. Oh, that was a pick last year. Oh I got that wrong. Sorry. So that the last three are Texas. Yeah. I still like uranium. I mean, it was obviously a monster move last year if you include the dividend payments, it was up over 40% last year. I still like it. I still own the position. It's just I put in three, three different ones. One is Texas Instruments, one is the biotech F ETF called XBI And then KWEB Those were my final three for this year. But I still like the Uranium Pink because my my view last year was that as people focused on clean energy as well as energy security, because don't forget, Russia's invasion of the Ukraine, etc., that people would start looking at nuclear again, which they did. And that's why you saw such a huge move in the uranium ETF. And I still like it this year. I still want. I want to make sure we cover an outside call that you're making, not a consensus call, and that's the Chinese ETF KWEB. But before I do, I want to shift gears just for a second. Most investors, most investors are long stocks. I'm long stocks. I'm a long only manager. I tried the hedge fund route shortly after I left Lehman. I was a hit fund manager for about ten years, maybe the most miserable ten years of my life. I got no sleep. I have no idea how you do this. But people buy stocks. They want to be in the index. They know the company. They like the product or they do the research like I do. You run into a story and all weather fund. For me that's code for four obviously. Long, long, short. So you're hedging a lot of positions. I don't want any names because I know there are a lot of regulatory issues with that. But what do you look for in a short position? I mean, if you're good at what you do, the short is really the exact opposite of the long. So it's really no different, which is you do research on companies and you say, okay, this company is one where the valuation is high. I think there's some event that's going to make people look at the stock differently. In a lot of cases, that's just earnings, and in which case you combine the valuation with a change in the underlying fundamentals. And if it's a very big and liquid stock as well, then it gives you the ability to get short name and hopefully hedge out something on the long side. And so that's why if you go back two years ago when the S&P was down 18%, NASDAQ was down 33% or so. We did just fine because our shorts, more than made up for the issues. We know the longs in terms of them coming down. And then, you know, we had some really good buys, such as, as you mentioned, we were on television talking about buying Facebook when, you know, they had a disastrous October quarter of 2021 and they talked about, sorry, 2022 and they talked about, you know, spending an exorbitant amount. That tends to be a focus for you with some stocks you did with Facebook, you were in pretty near the bottom. I quite certain you were in near the bottom with or at the bottom with Intel. I remember when you made that call, it was after the absolutely disastrous quarter. And they cut the dividend as well. But I mean, again, for me, it's not about what you're trying to do is bottom fish. It's you have to have a reason to like it. With Facebook, it was really easy. They said they were going to spend billions on the metaverse. And my view was Mark Zuckerberg's not stupid. He can go and change his mind on how much he wants to spend. And literally two weeks after they said they were going to spend a lot of money on the metaverse, they cut that spending and the stock took off. Never look back with same thing with Intel to some degree is that they cut the dividend. But I was looking at what they were doing building all this domestic fab capacity and thinking, you know what, people are going to really start to value that a lot more because who wants to have fab capacity sitting in China where sorry, in Taiwan, where if China walks into Taiwan one day and decides to reunify them, which I firmly believe will happen at some point, that's going to be a problem given TSMC, you know, supply 60% of the world's chips that aren't produced by the companies themselves. So and Intel was trading at about 1.2 times, book value, which is incredibly low for a company that's making money. So it's all it's always about trying to find a fundamental reason if it's good, because some stocks just turn out to be value traps and intel finished last year, up 90%. And so obviously it did well. And then people started to think about it. It was a it was a it was a home run at a consensus trade because there were nothing but downgrades on that day when that happened. I know we're going to run out of time here, but I do want to make sure we get to this next one. And that's K Web guys, if you can bring that up, that's the Chinese Internet ETF up. This is down, what, maybe 80% from the highs. Walk us through the thinking on this. So again, you need a catalyst and the fact that it's been down so much from its highs is not a catalyst. The catalyst, I think, is the following is that K Web is below where it was during the lows of COVID. It's below where it was during the lows of 2022. And the government then stepped in and started to buy stocks to try to support the market. So that's a change in terms of the way they're trading the stock prices, because they started punishing these companies ever since they blocked the ant financial IPO by Alibaba in November of 2020. So that's three years ago. The second thing is that they changed the regulation of the gaming companies from one branch of the Chinese government to another. And as soon as that other branch got it, they put some new rules and the stocks got absolutely killed. And then the very next day, they approved the most number of games they had approved in a very long time. And the head of that government organization then got fired. So as in most a lot of governments, I don't think one arm was talking to the other arm. And so when the stocks got murdered, somebody that tells me that they are very focused now with these stocks down so much because remember, their economy is doing very poorly. They came out of COVID and unlike most of the rest of the world, their economy didn't really rip back like everybody thought it would. And so now I think you've got a lot of social unrest. There's talk about youth unemployment being at 20, 25%, which is really bad. And so how are you going to solve that problem? Well, you need strong companies that are growing. And so I think if you just go from this aggressive persecution to just benign neglect, you've got the big three companies in China called in the acronym there is BAT in the U.S. it was Fang, which is Baidu, Alibaba and Tencent. Those companies are trading at 13 times p e. And by the way, since 2020 to 2023, the revenues for those three companies went up 33%. The stock's went down 53%. Living within this top line problem. Let me push back a little bit on this. How do you get around the concern for a lot of these companies? They're really not stocks to the US investor. They're variable interest entities that are domiciled in offshore companies holding companies in the Cayman Islands. What about the risk of of that if somehow China just steps in and changes the rules? Well, I mean, that's been a risk ever since these companies have existed. And to some degree, it's a lot like last year. Right. The Magnificent Seven were down 40 something percent in 2022. And was it the earnings that drove Tesla up or Apple? No, it was a change in the environment, the the environment, which is the Fed stopped raising rate. And so the question is, the Magnificent Seven traded a 30 4pe and by the way, over that same time period of 2022, 23, the revenues for the Magnificent Seven were up 54%, but the stocks were up 69. And as I said earlier, for BAT it was up 33%, revenues in down 53. So at a certain point, you're going, am I discounting this risk? And if I just end up with a better environment where the government needs to feels like they need to support stock prices, that's all you need. You don't need a lot. And so that's how we're looking at that. And don't get me wrong, as I as I put out in my social media posts, this is definitely the riskiest of the five picks that I had, but it also has the most upside. Much like I remember when I was on talking about Facebook and how I liked it in the low nineties after that disastrous guide for the metaverse. Like, everybody hated it and now everybody loves it, which is the one thing that makes me my boss. My boss would embrace this one. My boss is Greg Skidmore He's done a lot of work on asset classes that for 70 to 80% are. It's generally an area where all the bad news has been discounted and now it doesn't need a lot in there. So I'm actually looking at this one myself, in part because you brought it brought it to us. One last thing. We're heading into an election year, and I want to I don't want to get into the politics of it. But, you know, we're running massive deficits. You know, much of the world is on a dollarization kick in the global community right now doesn't seem to like our debt as much as it used to. Any thoughts here? How serious is this for, say, US investors? I think it's very serious because as soon as we cut off Russia to their US dollar denominated assets, then the rest of the world, especially China, said we've got to get off the dollar. And so now I think you can pay for something like 20. 25% of oil transactions happen in a currency outside the US dollar. And so when we weaponize the dollar that had other countries going, okay, well then we really don't want to have dollars if we can avoid it and so that is an issue. You're obviously the bad bond auctions you had last year kind of spoke to that and you've got a lot more debt. You've got about, I think, 7 trillion in debt this year of U.S. Treasuries that have to be refinanced. You've got another 2 trillion or so or actually sorry, 7 trillion total. So you've got a couple of trillion of new debt that needs to be issued and you've got about like 5 trillion or so that needs to be refinanced at least. So you've got, let's say, 7 trillion in debt that in total will need to be issued to the market. And the entire Treasury market's only 26, 27 trillion in size. And so that's a lot of new debt that's going to hit that hit the market, and then we'll see where yields go. So it's something I'm watching very closely, but the good news is you can look at the yields every single day and see what they're doing. And it's always one of those cases of it. It's not a problem until it is. And when it is, it can be a real issue. As we saw. You know, you bring up the weapon, you bring up the weaponization of the dollar. Is it a situation where world leaders out there, they see that we, you know, put sanctions on on our adversaries like Russia and certainly Iran. But they're kind of saying to themselves, well, today it's Russia. You know, someday it could be us if we fall out of favor with the US. Well, absolutely. I mean, if you're China, especially where they've made no bones about the fact that they consider Taiwan part of China, I my view and I've said this before is I think Russia was sort of the crash test dummy for China to see what would happen if they made a move on Taiwan. And obviously, that has not gone well for Russia, which I think pushed out China's timetable in terms of dealing with Taiwan. And so I think from China's perspective, that's certainly something that they're looking at and saying, okay, we need to make sure that we're in good shape so that when we do do something, then they can't the United States can't do the same thing to us. Going to have to leave it there. Then we're out of time. But I hope you can come back sometime soon. Thanks a lot for having me on, David. Appreciate it. That's it for today, guys. You've been listening to Dan Niles, founder of The Satori Fund. I'm David Nelson. And this is The Money Runner.