Bitcoin Getting Larger But Not Safer

In a previous article it was mentioned that with the recent excessive speculation in bitcoin, that bitcoin’s volatility since has been increasing after it went through a stretch of relative calmness. This aspect is important to review because in the past few years, bitcoin proponents have said that the volatility in bitcoin would decline as it got older and larger. With bitcoin only a few years old and worth about $10 billion, it was easy for a few investors to manipulate the price action causing it to sway rapidly without any fundamental catalyst.

Bitcoin is now 8 years old which is relatively young compared to the US dollar. It’s also still small relative to other currencies as it’s worth $137 billion. This means you wouldn’t expect calmness like the dollar. However, as it gets older and becomes worth more, you’d expect the volatility to rescind. The chart below shows that isn’t happening. As you can see, the volatility has ramped up in the past 12 months as the price has rallied. This doesn’t help the chances of it being considered a viable currency.

Volatility doesn’t sound like a big deal on the way up, but it’s a disaster on the way down. One of the ways bitcoin would be legitimized would be if Amazon began to accept it. Many claim that regulations would help it, but I think being accepted by Amazon would be more important because the ubiquity of the site would answer the question “what can you do with it?” easily. I recognize that there are end arounds to use bitcoin in more places such as buying a Gyft gift card, but Amazon accepting it would inspire confidence. I think Amazon would only consider accepting it if the volatility declined. Regulations could help, depending on what they were. The other reason for Amazon to start accepting it would be to juice sales growth. With the company gaining market share and dominating the cloud industry, there’s no reason to reach for growth now.

How Big Is Passive

There is a debate on how large the passive investing flow is because even though ETFs only make up 6% of investment funds, some of the money in other segments such as mutual funds invest in ETFs. Therefore, some argue the effect passive investing has on the market is unknown. The chart below takes a stab at this situation. As you can see, the breakdown of investments are shown to be 38% in passive funds and 62% in active management. Those who say this is a problem tend to be active managers. This makes finding an unbiased opinion tough. Besides the fact that it will push fees for active management down, the effect on the market isn’t clear. The volatility has gotten lower in the past couple of years, but the increase in passive management isn’t the only potential cause of this. The most obvious tradable recommendation I can give because of this change is to say that picking individual stocks should become easier.

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Q3 Earnings Season Finalized

As of the Thursday of last week, 95% of firms in the S&P 500 reported earnings. At this point, the changes in Q4 estimates are more important than the Q3 earnings reports. The chart below shows an interesting summary of the 30 Dow Jones companies’ earnings reports. As you can see, the median difference between non-GAAP and GAAP earnings in Q3 was 10.1%; this is the lowest difference in at least the past 6 quarters. You’d expect the difference in non-GAAP and GAAP to increase when the earnings quality is low. During recessions, firms are more likely to fudge their numbers through creative accounting techniques. However, when you look at the chart, when earnings improved in Q1 and Q2, the difference was larger. Either way, it’s a good sign that the difference declined in Q3. The earnings quality in Q3 for the Dow was high.

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The chart below shows an alternative viewpoint of whether the earnings quality was good; this time it reviews the S&P 500. As you can see, it shows the difference between the adjusted EBITDA in S&P 500 firms compared to the unadjusted EBITDA. This chart shows a longer time frame. It makes the 2016 earnings quality look very poor and shows this year has moved closer to the average of the past few years.

Besides showing the earnings quality of Dow firms, FactSet also showed that the revenue growth these firms had in Q3 in Europe was 2.5% on a YoY basis making it the fastest growth rate since Q2 2014. That’s consistent with the positive macroeconomic numbers we’ve seen coming out of Europe. The updated metrics for Q3 from FactSet is that earnings grew 6.2% which is up one tenth of a percent from last week and up from the original expectations of 3.1%. Revenue growth is now at 5.9% which is also up one tenth of a percent from last week. It was helped by beats in the consumer staples sector. The expectations at the beginning of the quarter were 4.9%.

The chart below shows Q4 earnings expectations. As you can see, there has been no movement in the expectations which is good news. 61 firms have given out negative guidance and 32 firms issued positive guidance. The current expectation is for 10% earnings growth and 6.4% revenue growth.

The S&P Dow Jones earnings summary shows operating margins in Q3 will be 10.24% which is a new record. 66.3% of the 475 firms which have reported earnings beat sales estimates. 344 of 477 beat earnings estimates. The sector with the highest earnings beat rate was technology which had 90% of firms beat, 5% miss, and 5% meet estimates. Tech also has the lowest number of firms which have reported earnings as only 86.96% have done so. This could mean the numbers will be lifted further when the earnings are done coming out because tech has been one of the strongest sectors this quarter. The weakest sector was utilities which had 42.86% of firms miss estimates and only 50% beat them.