This will be interesting – Bitcoin

Bitcoin is taking a dive:

Today’s price action so far:

This looks like a margin-propelled crash with today’s 20% takedown. From peak (US$65,000) to trough today is just over a 50% haircut, and not many people have the intestinal fortitude to handle such a drop – especially when they are leveraged.

The question going on in my mind is cross-margining – have people collateralized loans with their Bitcoin holdings? If so, what else are they going to be forced to sell as a result of today’s price drop?

Always be conscious that a trade involves a swap of asset for cash; the amount of cash nor the amount of asset changes on net. Only the valuation of the asset in question changes.

Now you have the people speculating on BTC from the middle of February to yesterday all underwater; the people that speculated from the beginning of 2021 to the middle of February are roughly in a break-even position; while you still have a dedicated ‘fan base’ holding prior to that – all trading against each other in one massive zero-sum game. The only person that really doesn’t have much choice in the matter is Microstrategy (MSTR), who’s CEO cannot possibly reverse his decision as right now he appears to be willing to be the last bagholder.

Rocket Lab SPAC

Vector Acquisition Corporation (VACQ) is a SPAC that has an agreement to merge with Rocket Lab.

Rocket Lab is SpaceX’s number one private competitor, but it has several competitive disadvantages. One is that Rocket Lab’s product offerings do not include heavy launches. The other is that their rockets do not land by themselves (although they are reusable to a certain extent).

As such they are receiving a valuation of much less than SpaceX’s private placement valuation (SpaceX was estimated to be around $70 billion). Rocket Lab’s enterprise value was estimated to be around $4 billion.

The revenues scale accordingly – Rocket Lab estimates around $70 million in 2021, while SpaceX is reported to be around $2 billion in 2019.

Just like most SPACs, they promise a quadratic increase in revenues:

If I had a nickel for every SPAC that promised such a revenue trajectory… I’d be richer than had I invested in these SPACs!

Space launch systems are very capital intensive and there is a certain economy of scale that is required to do this successfully. Blue Origin (Jeff Bezos’ firm) is another competitive in this domain (and of note, they have seemingly failed to get that point of scale). It could entirely be the case that the launch for small satellites (especially constellations of micro-satellites) is a competitive space where no firm will receive outsized profits – instead, the profitability will be through differentiation and also cost controls (SpaceX’s landable rockets would likely give them a cost edge over competitors at present). The differentiation will most certainly be with maximum launch capacity – there is only so much you can do with weight limitations on satellites.

The other component of competitive advantage in space is government relations. They are a significant source of revenue, especially in the military domain. Nobody is better in GR than Elon Musk.

I’ll be watching this one, but at the offering price I’m not interested. SpaceX receives a premium valuation for very good reasons.

Who falls for these types of offers?

Ag Growth (TSX: AFN) sold off heavily today as a result of overall market weakness coupled with the markets not liking the fact that their costs are going to be increasing in the upcoming quarters due to the surge in steel pricing, coupled with a likely re-valuation of their technology platform. It’s not great having your top holding taking a haircut like this, but that’s how markets work – things go up and down, and this is also buffered by other things in my portfolio which take advantage of inflation.

However, what really got my attention was a tender offer from a “Sustainable Agriculture & Wellness Dividend Fund“, which will soon by listed as AGR.UN on the TSX.

They want me to flip my AFN shares in exchange for yet-to-be listed units in their fund, based off of the average trading price on June 1-3, at a par value of $10/unit.

I can only assume it was also offered to other securities they plan on holding in their fund (they list the prospective holdings on a one-pager, including companies such as Beyond Meat, Farmers Edge, Goodfood Market, Rogers Sugar, etc.).

I have stronger wording which I will not type in, but will state that this offer is highly unattractive for a few reasons. I’ll list a couple.

One is that right away, such an offering will involve a 4.5% payment to the agents, so effectively your $10 ‘value’ will be reduced to $9.55 immediately, plus another $500k in expenses associated with the offering (it costs legal fees to process partial tender requests such as these).

Assuming you were silly enough to go with it, the MER of the fund in question is 125bps.

I just shut off the prospectus from my computer screen before I wasted more mental space on it. But it was worthy of a post – who actually falls for these types of offers?

Small portfolio note

The universe of Canadian convertible debentures is ever-shrinking – there are 92 issues remaining, and three of them (Atlantic Power, Great Canadian, Yellow Pages) will be going in a month, and there are a few more that are obviously slated for rollover/maturity in the coming months after.

I’ve recently unloaded my last convertible debenture today. It is a statement on this particular market that there isn’t much point in putting capital into this when returns are so weak in relation to the apparent riches available in the equity market (of course, this could be a sign that equities are topping out!).

Junk bond yields are also at lows (ETFs include JNK, HYG). An interesting hedge here is longing puts on these in anticipation of some credit action.

My only material debt instruments I currently own are the Gran Colombia Gold notes (TSX: GCM.NT.U) which continue to happily slide into maturity (and if the underlying corporation has any financial sense whatsoever, will be called out before July 31st).

The pivot out of garbage into value

The year 2000 to 2002 was a fairly good barometer of what I think is to come with respect to these high-flying companies that populate the SaaS, ‘alternate energy’ and SPAC domains (I know SPACs are a financial characterization and do not necessarily reflect the entities that emerge from SPACs, but most of these are complete garbage reminiscent of the dot-com era of 1999-2000). There is also the market for crypto-garbage which many people in their 20’s are enamored with.

The poster child for all of the equity froth is the ARKK ETF:

There will be ups and downs, but the prevailing trend will be down as valuation eventually has to settle into the equation. Even after a major period of volatility in the spring of 2000, it took a couple years for the Nasdaq to fall roughly 75% from peak to trough before it began to recover again. Think about this – a 75% drop over 30 months.

During this same time, companies that generated real cash flows and provided economically valuable goods and services did reasonably well. Berkshire was a great example of this. Warren Buffet prior to 2000 was criticized as being behind the times, just as he is today. Once again, he is going to get his revenge:

I think Warren wants to live to see the day when Berkshire Class A shares trade for US$1,000,000 a piece. He’s accelerating the process by buying back shares. Just imagine the headlines then.

In Canada, it’s actually not that bad in terms of the froth. When dredging up a list of winners over the past year, while there are a few obvious examples of “stinkers” which I will not mention here, there are many companies which are riding the resurgence of commodities and are well positioned to generate huge amounts of cash.

A good example of this is Teck, which exists in the sweet spots of being the leading metallurgical coal producer in Canada (also go look at a chart of Stelco for an idea of how the steel market is being treated currently), coupled with having a very large copper operation that will get even larger with the completion of the QB2 project in Chile – with current commodity pricing they will be minting billions in the upcoming years.

One might be fearful that a drop in the high-flying sectors of the stock market will translate into drops in valuations of “real economy” firms. While this might occur in the short term (as portfolios inevitably will de-leverage to some degree), past experience would suggest that sentiment will flow favorably to companies that can demonstrate profitability and valuations will receive a boost accordingly, especially since the alternate is much less attractive in our very low interest rate environment.