Morning folks,
Some updates this Friday:
- Future (LON:FUTR)
- CMC Markets (LON:CMCX)
- Foxtons (LON:FOXT)
- Tracsis (LON:TRCS)
- Tclarke (LON:CTO)
Timings: finished at 14:40.
Central Banks to the rescue - Zero Interest Rate Policies (but no QE)
Perhaps I shouldn't complain, since this news may have helped to erase some of the losses on my long FTSE trade.
Let's just spend a few moments reflecting on the latest act of monetary desperation.
The new Governor of the Bank of England, Andrew Bailey, has presided over the second emergency rate cute in a week.
Already this month, former Governor Mark Carney erased the two 25 basis point increases he made in 2017-2018 by announcing a 50 point cut in Base Rate.
That decision brought us back to the all-time low of 0.25%.
It's not enough, and the new Governor wants an even more extreme stance to deal with the Coronavirus-related financial panic.
Over recent days, and in common with a number of other advanced economy bond markets, conditions in the UK gilt market have deteriorated as investors have sought shorter-dated instruments that are closer substitutes for highly liquid central bank reserves. As a consequence, UK and global financial conditions have tightened.
At its special meeting on 19 March, the MPC judged that a further package of measures was warranted to meet its statutory objectives.
The result: a cut in the interest rate to a fresh all-time low near the zero bound, at 0.1%, and £200 billion in additional QE.
"When all you have is a hammer, everything looks like a nail" - this is my analysis of the BoE's decision-making process. They are able to cut rates and buy bonds, and so that is what they do whenever the financial markets are scared.
If we weren't already near the zero bound of interest rates, I am certain that they would have cut rates by at least 25 basis points. Maybe even by 50.
But the Bank is not yet ready to announce zero or negative interest rates. Can you imagine the public reaction when they do that?
It can't be too long before they capitulate. Remember that the ECB is stuck at minus 0.5% for overnight deposits.
And I note that the Bank of England appears to have stopped using the phrase "Quantitative Easing".
They were using this phrase until 2016.
The Federal Reserve has also dropped "QE". See the statement it issued last week.
Like the Bank of England, the Fed merely says that it will "increase its holdings" of various securities.
Why can't central banks use the word QE?
Warning: there is a risk that I am entering tin foil hat territory.
However, I do believe that central banks are acutely aware of their image and reputation (bear in that managing the market's expectations of their actions is one of their key objectives).
For this reason, I think it's very important for them to dress up their actions in effective phraseology.
"QE" was a phrase invented in the mid-1990s and used by central banks during the great financial crisis from 2008 onwards.
But why the phrase was used in the first place is not very obvious.
There are plainer and much more descriptive ways of referring to bond purchases by central banks. For example, "debt monetisation", is simple and clear.
On the other hand, "debt monetisation" doesn't sound like a terribly good idea. It sounds risky, and not very clever.
The beauty of "quantitative easing" is that it sounds very boring, and doesn't describe the thing that it refers to. That's ideal, from a central banker's point of view.
But this "QE" phrase has been bandied about for years, through the crisis and subsequent economic recovery.
And central bank balance sheets never went back to normal, despite promises that they would.
The notion that their balance sheets would go back to normal was the main argument that their asset purchases from 2008 weren't "really" monetising the debt.
It never happened:
Total assets of the Federal Reserve. Source: FederalReserve.gov
Now that markets are panicking again (as they occasionally do), interest rate rises are being swifly reversed and asset purchases are back on the agenda.
Unfortunately, this time around,, we are coming from a position where interest rates are already near or below zero, and central bank balance sheets are already huge.
The promised normalisation never happened.
So are we any closer to understanding why the BoE and the Fed don't want to use the phrase "QE" any more?
I conjecture that if they used the phrase "QE", it would be seen as an admission that the original QE, from 2008 onwards, didn't work.
Because if the original QE had worked, then why would they need to do keep doing it over and over again?
Instead, I think the desired narrative is that the original QE did work, and they are now employing a different set of tools for this new, different crisis.
But it's just more of the same. And the result is that savers and lenders will continue to have wealth redistributed away from them, in favour of borrowers. This is seen as being especially necessary now, during the coronavirus crisis, to prevent a wave of restructurings.
For an investor, the best techniques I know to protect yourself from this trend, are to own hard assets (such as property) and inflation-proof companies.
Borrowing at these low very rates, if you can access credit and use it responsibly, is another option. That brings with it special dangers, so it's not for everyone.
I wish I could say that monetary policy would normalise soon, across the West, but
- I doubt that it will, and
- I should be careful what I wish for, since a "normal" base rate of 5% would take a lot of adjusting to, for everyone!
Let me know what you think in the comments!
Right, on to some company news.
Future (LON:FUTR)
- Share price: 780.5p (+30%)
- No. of shares: 98 million
- Market cap: £765 million
With the FTSE having tentatively found support at 5000 (now nearly at 5300), some shares have been snapping back.
In names like Cineworld (LON:CINE) (up from 21p on Tuesday evening to 57p today), there is likely to be an element of short-covering. The stats there confirm that shorters have been closing their positions.
Future also has some noteworthy short interest (and you might remember a bear recently launched a very public attack on its acquisition strategy).
Every short-seller is a future buyer. Perhaps some of them have been buying this morning?
Today's update is very soothing. It follows on from another calming update last week, when the company said there was "limited impact" from COVID-19 on its business model.
Latest update:
- H1 (ending on 31 March 2020) will be in line with expectations, thanks to a strong start.
- Business continues to trade robustly, "continue to expect trading to remain in line with our previous expectations". Magazine buying in travel outlets are done, partly offset by grocers.
- Some "profit protection measures" in place, due to the increased volatility.
Balance sheet: Future will have headroom in its debt facilities of £30 - £40 millin, if a planned acquisition goes ahead. The expected net debt/EBITDA multiple will be 1x, well within covenants
My view
While I have sympathies with the shorters that Future was overvalued at higher levels, I'm not sure if there is much else that is very interesting to say about it.
The company's insiders probably agreed with the overvaluation thesis, so it's not all that controversial. Insiders sold £43.7 million of shares late last year at a price of £14 per share. Well done to them.
Future owns decent magazine titles. While it may not deserve an above-market multiple for its earnings, it's now trading at just 9x.
One broader takeaway from Future's confidence is that online media (in certain forms) and magazines might be able to trade through this crisis, without severe depression.
CMC Markets (LON:CMCX)
- Share price: 156.6p (+16%)
- No. of shares: 289 million
- Market cap: £453 million
Lots of private investors seem to be thinking about IG Group (LON:IGG) at the moment (I hold a long position in IGG).
With all of this volatility, spread bet companies tend to enjoys lots of action from their customers. I've done my bit, putting a long trade on the FTSE a few weeks ago (would be richer if I hadn't done that).
Yesterday, IG reported that it had earned revenues of £52 million in the first 12 trading days of Q4.
That's 37% of the revenues generated in all of Q3, but after just one fifth of Q4's total trading days.
In other words, IG's revenues over the last three weeks have been spectacular.
What are the risks? The following threats have been pointed out to me:
- the risk of markets closing (I consider this unlikely)
- the risk of punters getting carried out by this volatility, and giving up on financial trading
- the risk of competition from competitors whose systems didn't crash
That last risk is one which I've been highlighting myself.
During the frantic action of recent weeks, IG's systems have cut out, again and again. I've been frustratedly clicking and clicking, hoping that my account data would load.
Thankfully, I didn't need to top up my account when the system failed. My leverage is extremely modest, so I could afford to be relaxed about it.
But for the average trader who uses significant leverage, I can imagine that they were fuming. There must have been a lot of angry phone calls (but I know that IG's phone lines were overwhelmed by the events, too - so people were locked out of their accounts during the biggest market moves).
This is where CMC comes in. If its systems can handle a bigger load, even during times of extreme volatility and trading activity, then they deserve a bigger market share.
Peter Cruddas, CEO and majority shareholder in CMC, reports as follows:
I am pleased to say that our technology infrastructure has held up well, including our B2B and stockbroking platforms, despite record trades in the underlying markets and exchanges. At times like these it is not just about our financial performance, which is clearly very good, but it is about protecting the business, our clients and our staff and that is my major concern now. However, I can confirm that we are operating very well and there are no major commercial or technology issues that concern me at this time.
Wonderful stuff. I'm not aware of CMC's systems crashing in recent weeks - does anybody know differently?
Trading update - client trading activity has more than doubled since the end of February. That sounds in the ballpark of IG's performance, maybe better.
As a consequence, CMC expects to beat the market consensus for operating income this year (FY March 2020).
IG was much more circumspect yesterday. It argued that conditions were so abnormal that it did not wish to make any predictions for its financial year ending in May.
I don't mind IG being cautious, but its share price fell by 10% at one point, as investors read bearishly into its unwillingness to make any predictions.
On the other hand, CMC can afford to be more optimistic about its full-year result, since its financial year is over at the end of this month.
My view
I remain bullish on the prospects of these firms, but the market doesn't seem to be convinced.
While there are no guarantees in the world of equity investing, I personally think that IG and CMC are both likely to do well out of these conditions, and not just in February and March.
Volatility will destroy some client accounts, yes, but it will also bring new investors into the market who notice the hype in the financial news media and want to bet on the outcomes.
In other words, the volatility will accelerate the trends which are happening all the time: some traders give up, and others start for the first time.
Poor economic conditions could see less disposable income available for trading purposes, but I view that as secondary to the key metric, which is volatility. Volatility equals excitement and uncertainty, and those things always lead to more trading.
The VIX Volatility Index made an all-time high this week (on a closing basis) and is still at the ridiculous level of 72.
Foxtons (FOXT)
- Share price: 37.45p (+13.5%)
- No. of shares: 275 million
- Market cap: £103 million
Trading so far is in line with expectations.
But:
the Company notes the necessary defensive measures taken by the Government affecting London and the UK along with the significantly weakened economic outlook... we do anticipate an inevitable material disruption to trading in the coming months.
With FOXT shares dropping from 78p at the start of the month to 33p yesterday, this was priced in.
The company's available cash balance is £21 million. This is roughly three and a half months' worth of last year's operating expenses.
When put in those terms, it's not such a huge cash balance. Therefore:
The Board is currently evaluating a number of actions to preserve cash and will take all necessary steps to balance these measures with preserving the long term capacity of the business.
My view
A little faith is required that viewings will go back to normal over the course of the next 3-6 months. I reckon that is more likely than not, but who can say?
Maybe I should be more accepting of the VIX at 72, when the outlook is shrouded in so much uncertainty.
Tracsis (LON:TRCS)
- Share price: 472.6p (+1%)
- No. of shares: 29 million
- Market cap: £137 million
Tracsis is a leading provider of software, hardware and services for the rail, traffic data and wider transport industries, and in response to the rapidly evolving Covid-19 situation has been evaluating the potential impact on the Group.
This company's share price had collapsed from 800p to 470p as of last night.
Elements of this update:
- recurring product sales in Rail Technology & Services to offer resilience
- Traffic & Data Services to take a hit. Outdoor events have been cancelled or postponed, and more will suffer the same fate.
- Traffic Data Collection and Passenger Analytics will be disrupted, since traffic and travel will be so heavily reduced.
FY 2020 guidance is withdrawn.
Balance sheet: checking the final results, I see that Tracsis had cash of £24 million as of July 2019, and no debt.
Last week, however, Tracsis made an acquisition that cost c. £16 million in cash, using its reserves. It might cost up to an extra £8.5 million in contingent consideration over the next three years.
Excluding the company's other cash flows since July, the Tracsis cash balance has therefore reduced to c. £8 million.
Administrative expenses for FY 2019 were £19 million.
So the company is not quite as comfortable as it would otherwise be.
Rules of thumb
There are some simple ways of figuring out how long a company's balance sheet can survive a rough patch.
As you can see, my first port of call is to check annual operating expenses, and compare that to the cash balance plus headroom in the banking facility.
Another way of doing it would be to use cash and receivables, instead of just cash. This works for companies whose receivables will readily turn into cash. Receivables at Tracsis were £9.7 million as of July 2019. That could help.
It's also possible that Tracsis could borrow, if it had to, in order to get through this situation.
Overall, I would expect the Tracsis balance sheet to survive. It would be far easier, however, if last week's acquisition could somehow have been postponed.
Tclarke (LON:CTO)
- Share price: 79p (+5%)
- No. of shares: 43 million
- Market cap: £34 million
2019 was "highly successful" for this building services company.
One of the reasons I personally don't bother with this sector is its low margins.
The TClarke CEO reports that the company has achieved its target of a 3% operating margin, and will "instill a discipline that ensures we evaluate every potential bid and monitor each phase of our projects to ensure this level of margin is maintained" - good!
EPS is up 22% thanks to the delivery of this small improvement in the operating margin (to 3% from 2.7%).
Pension - annual payments of £1.5 million into the pension deficit have been agreed. It is expected to take c. 12 years to sort out.
That's not a stretching amount vs. the latest annual operating profit of around £9 million.
Balance sheet - cash was £12.4 million at year end, and the company carried no debt.
It also has access to a combined £25 million in bank facilities. Sounds good. This means headroom was £37 million (assuming compliance with bank covenants).
Administrative expenses last year (excluding amortisation) were £30 million.
Looks quite strong to me.
Virus - there isn't a specified "outlook" section in this report, and nothing on how the virus pandemic is affecting the company.
All they say is "it is not possible to forecast the short-term impact on our industry". I suppose if it's not possible to forecast, then why bother?
We do have some clues about the thinking of the directors:
- The forward order book at year-end was nearly as strong as it was a year ago (around £400 million), and there is no mention in the report of cancellations.
- The Board proposes an increase in the final dividend. The total dividend for the year is up 10%.
- the CEO concludes his remarks by saying there is "no shortage of new opportunities".
I imagine that T Clarke will experience some sort of impact from the pandemic, but you could be forgiven for thinking otherwise after reading this statement.
My main point would be that they deserve a lot of credit for hitting their margin target. Long may it continue! It's probably tempting to go for extra revenue at the expense of margins, but that does nothing good for the company's investors.
That will do it for today. I hope you enjoyed my rant at the start!
Have a great weekend and here's to better times in the stock market in future.
Cheers
Graham
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