🗞️ The apple doesn't fall far from the tree

WHILE YOU POUR THE JOE… ☕️
Uncle Buffett Calls the Shots Again

During the latest quarterly earnings report for Berkshire Hathaway, Warren Buffett’s behemoth of a holding company, a holdings rotation created some worries for investors across the board.

Cutting as much as 50% of Apple Inc. (NASDAQ: AAPL) and also looking to get away from Bank of America Co. (NYSE: BAC) will send a very clear message.

One of them is that the market’s darling (Apple) is going to cause capitulation for investors who are losing hope. Unrealized losses in bond holdings for Bank of America and other banks might prove to be a bigger systemic risk to the economy 📉.

Think of the 2008 toxic bubble, which blew up from a few billion in mortgage loans and ended up with trillions in risk, bringing down the entire system.

Speaking of the system breaking down, let’s get on with today’s email 📧…

CRYSTAL BALL TIME
Indicators be Indicating

It’s the start of the month, and you already know what that means. ISM PMI indexes, employment numbers, inflation, and building permits.

All of these get together to decide where the economy will be headed and, therefore, where the S&P 500 will go 👀.

Let me spoil the party for you; it’s not looking good today. Starting with the - arguably - most important report of all, the ISM manufacturing PMI index, which came out last week:

This is what it looks like. The index has been contracting for 21 months straight, and after we ran the numbers, we found an 88% correlation between the PMI and the S&P 500.

You can probably guess that this is bad news for the stock market. But there are still plenty of other indicators to consider.

** Quick Tip 🔎: We sent out an email yesterday sending out the FREE Excel model we keep to generate ideas based on the PMI. To get this model yourself, email us at [email protected] with the subject “Ready for my model.”

This morning, at 10 A.M. EST, the services PMI will be released. Either it will match manufacturing and post another month of contraction to continue the selloff in the S&P 500 or report an unexpected expansion in sectors like real estate services and tech, sending us into a recovery rally 📈.

Remember also that the Fed’s interest rate cuts are on the table to give most people hope of a rally, but inflation and employment need to be in line for this to happen first.

Prices within the manufacturing PMI are still above 50%, which is expansion territory. The services PMI looks the same, so that’s a worrying point for us when timing the following Fed cuts.

Regarding employment, July had the second-worst reading in the year, with employment being one of the worst segments inside the PMI index. Hence, at least that’s good news supporting the rate cut coming up.

Here is how we know that the rate cuts might be in play for the next few quarters; it’s all in how foreign buyers act regarding our U.S. dollars.

Countries like China, India, and Turkey are stockpiling gold, which can be taken as a vote of no confidence for our economy and currency. We wrote about the whole thing in this post a few weeks ago.

Now, it makes sense to see the balance of exports and imports go in a direction that favors the view of a weaker dollar ahead 💵.

Since lower rates typically bring down currency values, and cheaper currencies usually spark export activity, we are comforted seeing the above spread (Exports minus Imports) move upward.

Stocks Headed Lower?

Despite this trend supporting the case for Fed interest rate cuts, which in theory should be bullish for stocks, you just can’t escape the fact that the economy is kinda bad right now. The disconnect between stocks and the economy has been the widest in this cycle.

To put our doubts to rest, we looked at the yield curve. What we found is that it has been in the longest inversion in history, which is typically followed by a steepening (happening now), and that 100% of the time brings on a recession and stock market crash with it.

So, accepting that the negative evidence is stacking up against us, where should we expect the S&P 500 to go from here?

Wall Street defines a bear market as a 20% or more selloff from all-time (or recent) highs. So, to avoid the noise, we used a naked chart on the $SPY and drew the thick white line at this selloff point.

Historically, you can take any high, mark a 20% selloff, and see that, typically, two things will happen in that zone:

1. This is a period of sideways activity during which markets will wait for further economic confirmation to either sell or trigger a recovery buy 🔥.

2. After the sideways period, margin calls will come in. After more disappointing data, a sharp selloff will eventually be triggered 📉.

As traders, we are not just going to sit around and wait for the S&P 500 to get to that level, so we are jumping into the cycle trade in the following ways:

Psyche, it’s good enough that all of this is free. Just head over to this post where we pitch our portfolio coming up for the cycle, one that (if you’ve kept up with our Twitter) you’d have noticed is already up by nearly 50-55%.

WEEKSTARTER STOCK
An Unmissable Dip

After shares of DexCom Inc. (NASDAQ: DXCM) crashed by over 40% recently, citing lower demand for its weight loss and diabetes watch medical devices, other stocks in the weight loss and GLP-1 industry were also dragged down.

While there is some truth to this bearish trend, it doesn’t justify the market bringing down ALL of the stocks in this group, as there are some innocent names.

One such innocent name is found in:

Hims & Hers Health (NYSE: HIMS)

There has been a lot of hype behind the new weight loss division at Hims & Hers, which deals directly with GLP-1 treatments. So, being highly exposed to this area made it a target for those short sellers to sweep in.

However, the company had been successful before 📈 it even went into weight loss markets, so we don’t think there’s anything to worry about here.

And markets are in line with this belief; this is how we can tell:

Finding the positive outliers is key when spotting where the markets are willing to overpay for a stock, and paying above the peer average is always a good sign when making short-term trades.

On a price-to-book (P/B) basis, the Hims & Hers stock trades at 11.5x, significantly above the average valuation of the medical information systems industry, which is 3.9x.

More than that, Wall Street analysts forecast up to 90% earnings per share (EPS) growth 🔥 for the stock. This is also above the industry’s average 53.8% expected growth.

Leaning on this expectation, markets are also willing to overpay today for tomorrow’s expected earnings, as you can tell in the forward P/E ratios (EG2 column).

Trading at 46.3x is way above the industry’s average valuation of 32.0x, giving us another green light ✅.

Notice the triple-digit growth in users for Hims & Hers over the year, and more importantly, notice how only ONE of these products is reliant on the weight loss category.

So, Here’s where we’re buying the stock:

Those gray areas are known as low-volume nodes, where no traders are looking to buy or sell a stock. When a stock reaches these levels, a vacuum to the upside or downside tends to be triggered.

Now that we’re back to one of these nodes, we expect to see the stock crash down or bounce back to the next node above (in the next gray area).

Zooming in, we’ll see what is actually happening in these levels today, whether there’s been buying or selling:

There has been nothing but buying over the past two days since the stock crash.

The turquoise bars below the red bars mean buying below the value nodes, essentially buying pressure for the day and bullish for us.

Secondly, on the last day of trading, there was another area of buying pressure, and the yellow bar (value area) saw over 20 30-minute time stamps.

This means that markets refused to break below the value area, rejecting any price lower than this, which typically signals a bottoming and potential turnaround (especially on a day with buying pressure).

We bought the stock and will cover our position live on Twitter this week.

NOW GO AND MAKE IT HAPPEN
Wizardry in the Markets

To find other examples of trading methods from successful players, today’s book recommendation 📖 will help you identify what’s being offered to you to see what fits your personality and lifestyle.

I can’t be an all-out value investor; I get too bored. Neither can I be an all-out trader; I get emotional quickly. So, I found what worked for me: trade on the profits I make from selling options on my long-term holdings.

That way, even if I lost, it was free money.

To your success,

G. 🥃