Netflix Burns A Record $19 Million Per Day As Growth Slows; Q1 Forecast Disappoints

Netflix Burns A Record $19 Million Per Day As Growth Slows; Q1 Forecast Disappoints

Two quarters ago, when Netflix subscriber growth hit a brick wall and US subs actually declined, we asked  “is the Netflix growth juggernaut finally dead?” because in its Q3 letter, Netflix said it will add 26.7 million customers in 2019, fewer than it added last year, and the first annual drop in growth this decade.

Then, last quarter, the juggernaut appeared to find yet another “second wind”, with the stock surging after the company reported its Q3 earnings, which sparked a short squeeze after Netflix beat on the top and bottom line despite missing on total subs while again slashing guidance (that particular squeeze did not last long and the stock quickly slumped, only to soar starting roughly at the same time as the Fed restarted QE). And just so Apple isn’t the only “growth” company to slash various reporting metrics, Netflix joined in and announced that it would stop differentiating between domestic and international margins:

“as we self-produce and license more original content that has global rights, we are finding US vs.international segment contribution margin reporting is becoming less useful internally. We’ll stop reporting on it in January 2020 and continue to focus on global operating margin as our primary profitability metric”

Translation: international margins are no longer growing fast enough to merit their own talking point among the investment community. And with the company growth slowing rapidly, especially now that there are numerous other competing streaming services, the we can only assume that it is only a matter of time before Netflix stops reporting its subscriber numbers altogether.

Fast forward to today, when with NFLX trading at the highest level since last July (curiously, unlike most other tech darlings which made new record highs this year, Netflix is still trying to claw back to levels last seen before its 2Q’19 report in July),  moments ago Netflix appears to have found yet another “second wind” reporting a beat on revenue, earnings and Q4 subs, even as it once again trimmed its outlook for the next quarter.

First, the good news: NFLX reported Q4 revenue and EPS of $5.47BN and $1.30 both beating expectations of $5.45BN and $1.05; Q4 global streaming subs rose by 8.76MM, on par with the company’s additions a year ago, and also above the company’s own 7.6 million estimate and Wall Street’s 7.65MM forecast. Of those, just 420,000 came from the U.S., while 8.33 million came from abroad. In total, this was the third best quarter for total NFLX subscribed growth in history, following the blockbuster Q4 2018 and Q1 2019.

And yet, looking at the details, we see that domestic streaming subscriber growth continues to slow down even as international growth is picking up, which we expect will be the narrative pushed by the bulls if the stock is to rebound after hours.

Looking at the table above, Netflix was proud to announce that it hit a milestone surpassing 100 million foreign paid subscribers during the quarter.

Now the not so good news: while in Q4 Netflix added a strong 8.76MM streaming subs, the company’s forecast for Q1 was a disappointing 7.00MM, well below the 7.82MM Wall Street estimate, and it is this number that appears to be dragging the stock lower after hours, as the kneejerk response higher was quickly faded.

Commenting on its subs, Netflix said that “we generated Q4-record paid net adds in each of the EMEA, LATAM and APAC  regions” although as it noted, the North American (UCAN) region saw a sharp slowdown, with paid net adds just 0.55m (with 0.42m in the US) vs. 1.75m in the year ago quarter. According to Netflix, “our low membership growth in UCAN is probably due to our recent price changes and to US competitive launches.” And while Netflix claims it has seen “more muted impact from competitive launches outside the US (NL, CA, AU)” a look at the company’s runrate in subscriber adds suggests that the mega growth party is over and it’s all downhill from here.

Somewhat concerning, if not surprising, Netflix said some customers are leaving due to recent price increases. It says its Q1 forecast “reflects the continued, slightly elevated churn levels we are seeing in the U.S. plus an expectation for more balanced paid net adds across Q1 and Q2 this year, with seasonality more similar to 2018 than 2019.” The company also said that “this is due in part to the timing of last year’s price changes and a strong upcoming Q2 content slate, where we’ll have some of our bigger titles like La Casa De Papel (aka Money Heist) season 4.”

Perhaps tied to this, Netflix said it has changed how it measures audiences because it has titles of different lengths, from TV shows to movies: “We believe that reporting households viewing a title based on 70% of a single episode of a series or of an entire film, which we have been doing, makes less sense.” In other words, Netflix used to report a viewer who watched 70% of a show. Now it’s anyone who watched at least two minutes.

As a result, Netflix is now reporting on accounts that chose to watch a given title. The new metric is about 35% higher on average than the prior metric, Netflix says.

Looking ahead, and the reason for the stock’s big drop after hours, NFLX had this to say why it expects only 7.00MM subs in Q1 2020 vs a record 9.6MM a year ago:

As a reminder, the quarterly guidance we provide is our actual internal forecast at the time we report. For Q1’20, we forecast global paid net adds of 7.0m vs. 9.6m in Q1’19, which was an all-time high in quarterly paid net adds. Our Q1’20 forecast reflects the continued, slightly elevated churn levels we are seeing in the US plus an expectation for more balanced paid net adds across Q1 and Q2 this year, with seasonality more similar to 2018 than 2019. This is due in part to the timing of last year’s price changes and a strong upcoming Q2 content slate, where we’ll have some of our bigger titles like La Casa De Papel (aka Money Heist) season 4.

In short, the company’s visibility is suddenly collapsing as a result of too many varibales, including rising competition, a non-stop changing content, and higher prices, hardly the stuff bulls are looking for.

Now that everyone and their kitchen sink is launching a streaming service, this is what Netflix had to say about the current state of the market:

Many media companies and tech giants are launching streaming services, reinforcing the major trend of the transition from linear to streaming entertainment. This is happening all over the world and is still in its early stages, leaving ample room for many services to grow as linear TV wanes. We have a big head start in streaming and will work to build on that by focusing on the same thing we have focused on for the past 22 years – pleasing members. We believe if we do that well, Netflix will continue to prosper. As an example, in Q4, despite the big debut of Disney+ and the launch of Apple TV+, our viewing per membership grew both globally and in the US on a year over year basis, consistent with recent quarters.

And just to underscore that the competition is fickle, Netflix also added a Google search comparison for The Witcher, Disney’s The Mandalorian, Amazon’s Jack Ryan and Apple’s The Morning Show. Maybe it should also include a chart showing how many people actually finished watching the Irishman.

What about cash burn?

In Q4, net cash used in operating activities was -$1.5 billion vs. -$1.2 billion in the prior year period. Free cash flow (FCF) in Q4 totaled -$1.7 billion vs. -$1.3 billion in Q4’18. For the full year, FCF was -$3.3 billion which we believe is the peak in our annual FCF deficit. We doubt it.

What does that mean in practice? It means that in Q4 Netflix burned a record $1.7BN, or roughly $19 million per day in the quarter. In light of this massive spending to grow the business – nearly $400MM more than a year ago with fewer subs to show for it – one can ask just how much more cash burn NFLX can stomach in order to avoid a collapse in subscribers.

Among the surge in expenses, Netflix spent $283 million more on marketing last year to $2.65 billion, a 12% increase from 2018. Half that came in the fourth quarter alone, which explains the subscriber surge… and the massive cash burn!

For 2020, Netflix forecasts FCF of approximately -$2.5 billion, although we will take the over, massively. As a result, the company will “continue to use the debt market to finance our investment needs as we did in Q4’19, when we raised $1.0 billion 4.875% senior notes and €1.1 billion 3.625% senior notes, both due in 2030.” And some humor: 

With our FCF profile improving, this means that over time we’ll be less reliant on public markets and will be able to fund more of our investment needs organically through our growing operating profits.

Good luck with that. And speaking of debt, Netflix saw a steep increase in its long-term debt over 2019. It stood at $14.8 billion on Dec. 31, compared to $10.4 billion a year earlier.

Most worrying for Reed Hastings, the market appears to no longer be giving NFLX the benefit of the doubt as the stock is barely changed despite beating across the board, as more and more are focusing on the unsustainable cash burn and disappointing guidance in a time when competition is soaring.


Tyler Durden

Tue, 01/21/2020 – 16:29

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Business Finance

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McConnell Blinks, Grants Impeachment Trial Rule Changes Sought By Democrats, GOP Moderates

McConnell Blinks, Grants Impeachment Trial Rule Changes Sought By Democrats, GOP Moderates

Senate Majority Leader Mitch McConnell (R-KY) allowed a hand-written change to the ground rules for President Trump’s impeachment trial, granting House Impeachment managers and Trump’s defense team an additional day to make their cases.

The rule change will mean both sides still have 24 hours to present their case, but three days to do so instead of two.

House impeachment inquiry transcripts will also be automatically entered into evidence, as opposed to being subject to a vote at a later point in the trial, according to Bloomberg.

“The Senate’s fair process will draw a sharp contrast with the unfair and precedent-breaking inquiry that was carried on by the House of Representatives,” said McConnell in a speech from the Senate floor.

House Minority Leader Chuck Schumer (D-NY), meanwhile, says he’ll push to amend the trial rules in order to introduce witnesses and new evidence.

“The McConnell rules seem to be designed by President Trump, for President Trump,” he said at a press conference before the trial, calling Republican efforts “a cover-up.”

The trial, with U.S. Chief Justice John Roberts presiding, opened with a reading of the resolution and initial statements regarding the rules by Democratic Representative Adam Schiff for the House impeachment managers and White House Counsel Pat Cipollone for the president’s defense team. Check here for live updates on impeachment fight developments Cipollone’s statement in support of McConnell’s resolution was brief, saying the only conclusion “will be the president has done absolutely nothing wrong” and the House has “absolutely no case.” “We respectively ask you to adopt this resolution so we can begin this process,” he said. -Bloomberg

Rep. Adam Schiff (D-CA) spent much of his time discussing how unfair the Senate-GOP had made the trial, saying “I believe the most important decision in this case is the one you will make today — will the president and the American people get a fair trial?“

We suspect most Trump supporters won’t consider it a fair trial until Joe and Hunter Biden take the stand, while Democrats really want to hear from John Bolton and other current and former White House notables.

According to a Monmouth University poll released Tuesday, over 75% of Americans say Trump and other administration officials should be invited to testify before the Senate. According to Bloomberg, two other recent polls showed similar results.

Monmouth also found that 57% of Americans feel House managers should be able to introduce new evidence which was not seen during the House impeachment investigations.


Tyler Durden

Tue, 01/21/2020 – 16:15

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Politics

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Is Houston’s Affordability Just a Myth?

Houston has been held up as a rare example of an American city that is both large, thriving, and cheap, thanks to the minimal restrictions it places on building new housing. But is this affordability just a myth?

On Friday, Texas Monthly published an article with the provocative headline, “Houston is now less affordable than New York City.” The piece argues that once the costs of transportation are factored into the equation, auto-dependent Bayou City becomes much less of a bargain.

“While the seemingly endless suburban growth has traditionally offered the city the veneer of affordability, the sprawl has also spiked transportation costs, so much so that the city’s combined transportation and living costs now place it on par with New York City,” writes Texas Monthly‘s Peter Holley.

“When considering housing and transportation costs as a percentage of income,” Holley continues, Houston, with its lower median income, appears “significantly less affordable than cities with much more expensive housing, including New York, San Francisco, Chicago, and Boston.”

Holley is relying on a new report from the Citizens Budget Commission, a New York-based non-profit. Its January-released “Rent and Ride” report used data from the U.S. Department of Housing and Urban Development (HUD) to compare the affordability of 20 large American cities. It found that when median housing and transportation costs are added up, Houston is just barely more affordable than New York City. When median income is taken into account, Houston becomes much less affordable.

This counterintuitive conclusion was polarizing, to say the least. Public transit advocates felt their complaints about “auto-dependency” were vindicated.

Others were a bit less credulous.

Indeed, a closer look at how affordability is measured by HUD reveals some serious problems with the Texas Monthly article’s analysis, suggesting that the traditional view of Houston as a big, affordable place to live still holds up.

That’s largely because the way HUD calculates transportation costs actually understates the costs of taking public transit, biasing its affordability measurements against auto-heavy cities like Houston.

HUD measures a city’s cost of living by using a Location Affordability Index (LAI), which estimates median household housing and transportation costs down to the census block group level.

To calculate transportation costs, the LAI adds up the costs paid by motorists to own and operate their vehicles, as well as the fares that transit riders pay.

The trouble is that while it does a good job of capturing most of the costs commuters pay to get around by car, HUD’s LAI does a bad job of calculating the costs that transit users pay for their transit trips.

With the exception of tolls and parking fees (which obviously can be substantial in some cities), HUD’s calculation of auto ownership is pretty comprehensive, including the costs of fuel, “drivability” or maintenance, financing, and depreciation.

However, when measuring transit costs, HUD only looks at the fares commuters pay. Right away, that presents a problem, as fares cover only a portion (and sometimes a tiny portion) of the cost of each transit trip.

In New York City—which has one of the best farebox recovery ratios in the country—fares only cover about 40 percent of the subway’s operating costs, and less than 30 percent of the operating costs of the city’s bus service.

The difference is made up by taxes, including a special payroll tax, real estate transfer tax, and a surcharge on taxi and rideshare rides. The city and state also chip in additional tax-funded subsidies. These taxes are ultimately part of the transportation costs riders pay, but they are missed by HUD’s affordability index.

The result is that HUD’s LAI understates the transportation costs in transit-heavy cities like New York, while giving a more accurate picture of the transportation costs for motorists in Houston, who pay the full cost of operating their own vehicles (if not the roads they drive on).

Taken to extremes, New York could become the most “affordable” city in the country by just replacing private expenditures with tax-funded transportation subsidies. Conversely, Houston gets no credit for the money its low tax rates save residents, a point noted by Tory Gattis in a blog post published on the Houston Chronicle‘s website.

“If you move from NYC to Houston and spend the tax savings on a better house and car, your life got worse because their percentage of your income went up!” he writes.

Taxes aren’t the only thing HUD’s affordability index misses. Gattis’ post, citing data from the Bureau of Economic Analysis, also points out that Houstonians have higher buying power than their New York cousins.

Additionally, both the Texas Monthly article and the Citizens Budget Commission report weigh an already skewed measure of affordability by median income, which only distorts the relative affordability of Houston and New York City even more.

The median income in Houston is $61,000, while the median income in New York City is $69,000. That means each dollar a median-earning Houstonian spends on his housing or transportation is going to be a larger percentage of his income than the median-earning New Yorker, making Houston look more expensive by comparison.

What this misses is that Houston has a lower median income, in part, because it’s a more affordable place to live, and therefore is able to attract lower-income people who’ve been priced out of more expensive metros.

New York City, meanwhile, has experienced a 40,000-person net population decline in both 2017 and 2018, with the high cost of living being cited as one of the reasons for the outflow.

Provided that the bulk of the people moving out of the city are low- and moderate-income earners, their departure would raise New York City’s median income, thus making the city look more affordable on paper, even if it’s actually getting more expensive in reality. If these same low- and moderate-income earners moved to Houston in search of a lower cost of living, they’d make that city look less affordable by lowering the city’s median income.

So despite what a cursory look at HUD’s LAI might have one believe, Houston in all likelihood still deserves its reputation as a success story of urban affordability.

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Facial Recognition and the Danger of Automated Authoritarianism

Clearview AI, a tech startup, has created an app that enables law enforcement agencies to match photographs to its database of over 3 billion photos scraped from millions of public websites including Facebook, YouTube, Twitter, Instagram, and Venmo. For comparison, the FBI’s photo database contains only 640 million images. According to The New York Times, some 600 law-enforcement departments, including federal, state, and local agencies, have already used Clearview AI’s technology. “You take a picture of a person, upload it and get to see public photos of that person, along with links to where those photos appeared,” explained the Times.

Moreover, Clearview AI’s technology doesn’t need straight-ahead mugshots to work effectively. “With Clearview, you can use photos that aren’t perfect,” Detective Sgt. Nick Ferrara of the Gainesville, Florida, police department told the Times. “A person can be wearing a hat or glasses, or it can be a profile shot or partial view of their face.” No outside tests for the app’s accuracy have been publicly reported, but the company claims in a 2019 FAQ to users that it:

…has the most accurate facial identification software in the world, with a 98.6% accuracy rate. This does not mean that you will get matches for 98.6% of your searches, but you will almost never get a false positive. You will either get a correct match or no results. We have a 30-60% hit rate, but we are adding hundreds of millions of new faces every month and expect to get to 80% by the end of 2019.

The current Clearview AI app works basically as an investigative tool helping police identify perpetrators or victims after a crime has occurred. The company is, however, developing facial recognition software that would make it possible for wearers of augmented-reality glasses to ID folks walking down a street in real-time. Of course, such a technology could easily be harnessed to networked surveillance cameras so that government agents could track where a citizen is and with whom that citizen is interacting.

“Facial recognition is the perfect tool for oppression,” write Woodrow Hartzog, a professor of law and computer science at Northeastern University, and Evan Selinger, a philosopher at the Rochester Institute of Technology. It is, they persuasively argue in Medium, “the most uniquely dangerous surveillance mechanism ever invented.” Real-time deployment of facial recognition technologies would essentially turn our faces into ID cards on permanent display to the police.

“I’ve come to the conclusion that because information constantly increases, there’s never going to be privacy,” Clearview AI investor David Scalzo told The New York Times. “Laws have to determine what’s legal, but you can’t ban technology. Sure, that might lead to a dystopian future or something, but you can’t ban it.”

In fact, several cities have already banned police use of facial recognition technologies. And members of Congress are also now waking up to how the widespread use of this technology could impair our civil liberties. “In November [2019], Sens. Mike Lee (R–Utah) and Chris Coons (D–Del.) introduced the Facial Recognition Technology Warrant Act,” reports Reason’s Scott Shackford. “The bill would require federal officials to seek a warrant in order to use facial recognition technology to track a specific person’s public movements for more than 72 hours.”

Permitting police to track a person using facial recognition for less than three days without a warrant seems constitutionally questionable to me. After all, in Carpenter v. United States (2018), the Supreme Court required that the police obtain a warrant in order to search a person’s cell phone location data. “A cell phone—almost a ‘feature of human anatomy’—tracks nearly exactly the movements of its owner,” Chief Justice John Roberts wrote in his majority opinion. “When the Government tracks the location of a cell phone it achieves near perfect surveillance, as if it had attached an ankle monitor to the phone’s user.” Since faces are actual features of human anatomy (no ankle monitors needed), surely a warrant should be required for police to track citizens by their faces.

Harvard cybersecurity expert Bruce Schneier argued in a recent New York Times column that merely banning facial recognition is not enough to protect ourselves from government snooping. Ubiquitous mass surveillance is increasingly the norm. “In countries like China, a surveillance infrastructure is being built by the government for social control,” he wrote. “In countries like the United States, it’s being built by corporations in order to influence our buying behavior, and is incidentally used by the government.”

The data exhaust constantly emitted by our cell phones, license plates, digital payments, and credit cards is an intimate and comprehensive record of our lives. Right now easy government access is hampered by the fact that the myriad private databases tracking us are disparate and unconnected. However, it is not hard to imagine how automated authoritarianism could arise quickly in the wake of a massive terrorist attack as frightened citizens set aside concern for civil liberties and give in to government demands for access to all of the data that has been privately collected on each of us.

Given the growing prevalence of both government and private surveillance, Schneier argued, we Americans “need to have a serious conversation about … how much we as a society want to be spied on by governments and corporations—and what sorts of influence we want them to have over our lives.” To forestall a dystopian future, setting strict limits on government use of facial recognition technology is a good place to start.

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Global Stocks Sink On Wuhan Worries, Bonds Bid Back To 2020 Highs

Global Stocks Sink On Wuhan Worries, Bonds Bid Back To 2020 Highs

“My name is Coronavirus… and I remember everything”

AsiaPac stocks were not pretty overnight as Coronavirus contagion fears spread (Hong Kong was worst)…

Source: Bloomberg

European markets were punished out of the gate also on the same fears, but DAX managed to get back to close extremely minimally higher…

Source: Bloomberg

US markets were red, despite the machines best efforts to BTFD. Between Boeing’s delay effects and Coronavirus headlines, Transports were hit hardest…

 

Boeing knocked 100-plus points off the Dow…

 

While the broader market – and travel, lodging, and gaming stocks – were all hit hard on the coronavirus headlines…

Source: Bloomberg

…flu-shot makers soared with NNVC up over 300% at one point…

Source: Bloomberg

Defensives dominated trading today as Cyclicals sank…

Source: Bloomberg

Momo continues to soar in 2020…

Source: Bloomberg

Bonds and stocks remain dramatically decoupled on the year…

Source: Bloomberg

Treasury yields were down hard today with the long-end outperforming…

Source: Bloomberg

30Y Yields tumbled back near Soleimani is dead headline spike lows…

Source: Bloomberg

Long Bond Futs prices are back at their highest since early December…

The yield curve flattened back towards 2020 lows…

Source: Bloomberg

The Dollar legged higher during the US session, holding its gains on the week…

Source: Bloomberg

Yuan tumbled overnight…

Source: Bloomberg

Cryptos were flat-ish for the second day in a row…

Source: Bloomberg

Commodities were all broadly lower today with copper leading the way lower (China growth proxy), but Silver was hit for no good reason…

Source: Bloomberg

Palladium plunged around 6% today, its biggest daily drop since March 2019…

Source: Bloomberg

Gold bounced back higher after testing below $1550..

Finally, we note that there are some notable anomalies in the VIX term structure that could become problematic in the last few days. As contracts expire tomorrow, so the very steep term structure (fueling lots of short-vol-tilted carry trades) will flatten…

Source: Bloomberg

And thanks to the Super Tuesday risks, could lead to problems for those expecting the curve to roll-down faster…

Source: Bloomberg

A “potential unclenching” in the U.S. benchmark equity index may await if these options aren’t rolled, Nomura Securities strategist Charlie McElligott said.

But of course, there’s still a little further to run before this shitshow all falls apart…

Source: Bloomberg


Tyler Durden

Tue, 01/21/2020 – 16:01

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Technology Internet
Business Finance

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Lurking Risks

Lurking Risks

Authored by Sven Henrich via NorthmanTrader.com,

According to the current market action there is no risk. None. Risk doesn’t exist. Whatever wobbles there may be on occasion it’s all priced in within a few minutes and markets proceed toward their daily ascent to new all time highs.

Permanent asset price inflation. The driving force remains the same. QE by the Fed and liquidity operations via repo:

But there are lurking risks currently ignored. Risks are just that until they actually trigger. Some risks go away on their own and don’t manifest themselves in a market reaction, some hit out of the blue because they are not taken seriously until they hit. Some risks are unforeseen as they can hit out of the blue.

Here are a few known potential immediate risks currently ignored by markets:

The China coronavirus:

This one popped on the radar out of the blue and caused some temporary overnight weakness in markets. Why? Because nothing inspires fear like a contagious virus that’s deadly. The world has been lucky to dodge bullets on the infectious disease front for decades. Stunning actually considering how the population has exploded to over 7.5 billion and ever more growing. Never before has the world been so interconnected and the notion of a deadly airborne virus spreading around the globe via air travel is the CDC’s nightmare scenario. AIDS and Ebola have offered scares but are not airborne and hence inherently containable. The Ebola scare in 2015 contributed to market fears coinciding with a market correction. Medical advances over the last 100 years have done wonders to help the world contain spreading viruses. And don’t kid yourself: The risk of a new contagion is always lurking. Viruses are not static, even the flu mutates every single year and brings about new strains.

This virus here has so far resulted in 4 fatalities and several hundred infected. If it gets contained it won’t have much of a lasting impact. If it spreads and starts resulting in dozens or hundreds dead and thousands infected then I suspect markets would pay rapid attention and not ignore it as they did today. After all a spreading virus would impact behavior and creates massive uncertainty & fear until contained. Hopefully it will be contained in short order, but if it doesn’t, watch out. Risk happens fast.

Impeachment:

Wide spread and virtually unanimous consensus is that the Senate led GOP will acquit President Trump and that will be the end of it. I’ve no reason to believe that this will not be the case, but I’ll offer this caveat: Witnesses. A trial can be managed and contained in terms of risk if there are no witnesses testifying. Polling seems to suggest a sizable majority of Americans and a not insignificant number of Republicans being supportive of new witnesses to be called. How this turns out I can’t say, but if witnesses are called there’s a new element of uncertainty currently not quantified in terms of risk.

The thing with witnesses is one never knows what they will actually say. So far the impeachment process has heard from non principal witnesses. Bolton, Pompeo, and others, if called to testify, are principal actors and/or witnesses with first hand knowledge and as such may carry much more weight in the eye of public opinion. At the end of the day, whatever one may believe or not on substance, it is public opinion that matters and any damaging testimony that influences public opinion may change the impeachment risk assessment.

It’s only hypothetical at best at the moment, but this process is beginning today and markets have priced in zero risk of impeachment at the moment. If no witnesses are called risk will likely remain at zero. If witnesses are called risk may suddenly be higher than zero.

The Fed meeting:

Today even Kudlow called not QE to be in effect QE. Jay Powell may now be the only person not yet having admitted to not QE being in fact QE. Pressure is building on the Fed as the cat is very much out of the bag:

Major banks have all come out and have called the Fed’s action QE and being directly responsible for goosing asset prices. The Fed may not have intended it, and they may have desperately try to claim it not being QE, but the market has declared it to be QE by its reaction, and that’s what matters. Not to acknowledge the now obvious effects of repo and QE on asset prices would further erode the Fed’s credibility.

And now the Fed is under pressure and they have to extract themselves from their own hubris. ANY form of reduction in repo and balance sheet expansion will be in effect a form of relative tightening. Buybacks are running at a reduced pace as well, that’s in effect a reduction in relative liquidity:

All of which means that asset prices may well peak here in Q1 of 2020 in terms of the liquidity equation.

To sustain extraordinary valuations you either need extraordinary growth or extraordinary liquidity. We just had extraordinary liquidity and we don’t have extraordinary growth. A reduction of liquidity in the months ahead then is a lurking risk to asset prices and next week’s Fed meeting will then be a test of narrative and communications.

Yields:

Finally, an ongoing lurking risk currently also ignored: The message from the bond market. Where is the confirmation of reflation and a booming economy?

This market remains priced to perfection on artificial liquidity. With liquidity bound to be reduced expanding growth needs to emerge for valuations to be sustainable.

The bond markets signals no such growth emerging. Either the bond market has it wrong, or it represents a lurking risk.

This tight rope market remain vastly overbought and pushing against resistance but is currently impervious to risk. The next few days and weeks may put this risk free attitude to the test. Key to keep an eye on all of these lurking risk factors.

*  *  *

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Tyler Durden

Tue, 01/21/2020 – 15:50

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Business Finance

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Why Einhorn Hates Netflix More Than Ever, And Remains Long Gold

Why Einhorn Hates Netflix More Than Ever, And Remains Long Gold

As mentioned earlier, instead of a lengthy discussion of macro conditions and how his investment strategy is changing in 2020 as a result of the Fed’s latest intervention in capital markets, Greenlight’s David Einhorn presented an extensive recap of his top 10 largest positions on both the long and short side. While readers can read the full list in the pdf below, we focus on three of these – Einhorn’s continuing feud with Netflix, which has been a staple member of Einhorn’s short basket and to which Einhorn added even more shorts during the late-2019 bounce, as well as his view on corporate credit and finally, his ongoing infatuation with gold (which was reinforced earlier today with Ray Dalio’s latest Davos comments).

First, Netflix:

Netflix (NFLX) – Short

59x P/E on 2020 GAAP estimates, which we believe dramatically overstate the business economics

We have been negative on NFLX’s earnings prospects for a long time, and we used the late-2019 bounce in the shares to make it a more substantial investment. For years, NFLX has been an open-ended growth story, where the value of a subscription was considered to be underpriced and bulls could dream about future subscriber totals in the context of the global population. The market celebrated NFLX as the king of a perceived “winner-take-all” (or “winner-take-most”) global market for streaming video-on-demand (VOD).

We believe this narrative is finally coming to an end. NFLX is no longer the only value-priced streaming VOD provider. There are now a half-dozen subscription services and in the coming year there will be additional credible entrants with deep content libraries. Not every customer will choose to subscribe to all services, and on the margin, substitution will occur. We believe that new competitors have already hurt NFLX in the U.S. Following an unexpected Q2 subscriber loss and in response to management’s apparent optimism, analysts raised estimates for U.S. growth; as recently as September, consensus expected NFLX to add 1.5 million new customers in the fourth quarter. Instead, in October, the company guided to just 600,000. Still, Wall Street cheered the lowered guidance because it was deemed to be “conservative.” In fact, the CEO ended the conference call by saying he looked forward to “blowing away” the guidance.

It appears to us that new subscriptions are slowing and cancellations are accelerating. Competition is denting the NFLX domestic story, just as the platform loses its two most popular shows, Friends (in 2020) and The Office (in 2021), forcing management to spend aggressively to create and market binge-and-forget Netflix Originals and stand-up comedy specials, which lack staying power. In response, management has decided to stop disclosing U.S. margins and subscriber totals beginning in 2020.

International subscriptions will continue to grow, but those customers are far less valuable than domestic subscribers, in large part because the revenue per user is lower in international developed markets and much lower in developing markets. Even so, international subscriber growth is now decelerating as well. As NFLX has to compete for subscribers to maintain user growth, the pricing-power narrative should increasingly come undone.

In what appears to be a desperate attempt to achieve international subscriber growth  headlines, the company recently launched sub-$4 per month mobile-only plans in Thailand, Malaysia and Vietnam, and in December NFLX began offering up to 50% annual subscription discounts in India. Obviously, the marginal economics on these new subs are… marginal.

To the extent the market sees the NFLX growth story as “busted,” there is a lot of downside to the shares. At present, NFLX burns several billion dollars a year in cash and has accumulated a heavy debt load, even before considering future content commitments. Of course, NFLX could service the debt and de-lever by raising equity – but doing so would be a cold admission that the party is over. We doubt management will rush to do that.

Second, while much of the panic surrounding the avalanche of fallen angels and overvalued junk credits appears to have faded for the time being, largely thanks to the Fed’s boosting of all risk assets, Einhorn begs to differ and has a short basket in a variety of credit securities:

Credit Short – Macro

We have short positions in indices that track U.S. corporate investment grade and high-yield credit. Credit spreads are at cyclical tights even though (a) the economy appears to be decelerating, (b) we are far along in the economic cycle, (c) corporate debt has exploded, and (d) rating agencies have been complacent by allowing debt/EBITDA ratios to expand without downgrading the underlying credits. At current spreads, we believe that the  risk/reward in corporate credit is asymmetric and unfavorable. This short also provides a de facto macro hedge to some of our cyclical or credit-sensitive longs including BHF, CC and GM.

Finally, picking up where Dalio left off, here is why Einhorn remains long gold for yet another year:

Gold – Long

U.S. total public debt to GDP is over 100%. With unemployment at record lows, the U.S. is running an almost $1 trillion annual deficit. The bipartisan consensus is that deficits don’t matter – it implies we can always print our way out of trouble. Meanwhile, although the Federal Reserve Bank’s balance sheet is very large and interest rates are already low, the Fed has cut interest rates and begun expanding its balance sheet again. All told, we can count on aggressive fiscal and monetary policies in both good times and bad. Gold continues to be a hedge in our portfolio against adverse outcomes related to those policies.

Finally, for those wondering, Einhorn discloses the fund’s top positions, which at quarter-end, were AerCap, Brighthouse Financial, General Motors, gold and Green Brick Partners. The Partnerships had an average exposure of 127% long and 63% short.

The full letter is below.


Tyler Durden

Tue, 01/21/2020 – 15:35

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Business Finance

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Facial Recognition and the Danger of Automated Authoritarianism

Clearview AI, a tech startup, has created an app that enables law enforcement agencies to match photographs to its database of over 3 billion photos scraped from millions of public websites including Facebook, YouTube, Twitter, Instagram, and Venmo. For comparison, the FBI’s photo database contains only 640 million images. According to The New York Times, some 600 law-enforcement departments, including federal, state, and local agencies, have already used Clearview AI’s technology. “You take a picture of a person, upload it and get to see public photos of that person, along with links to where those photos appeared,” explained the Times.

Moreover, Clearview AI’s technology doesn’t need straight-ahead mugshots to work effectively. “With Clearview, you can use photos that aren’t perfect,” Detective Sgt. Nick Ferrara of the Gainesville, Florida, police department told the Times. “A person can be wearing a hat or glasses, or it can be a profile shot or partial view of their face.” No outside tests for the app’s accuracy have been publicly reported, but the company claims in a 2019 FAQ to users that it:

…has the most accurate facial identification software in the world, with a 98.6% accuracy rate. This does not mean that you will get matches for 98.6% of your searches, but you will almost never get a false positive. You will either get a correct match or no results. We have a 30-60% hit rate, but we are adding hundreds of millions of new faces every month and expect to get to 80% by the end of 2019.

The current Clearview AI app works basically as an investigative tool helping police identify perpetrators or victims after a crime has occurred. The company is, however, developing facial recognition software that would make it possible for wearers of augmented-reality glasses to ID folks walking down a street in real-time. Of course, such a technology could easily be harnessed to networked surveillance cameras so that government agents could track where a citizen is and with whom that citizen is interacting.

“Facial recognition is the perfect tool for oppression,” write Woodrow Hartzog, a professor of law and computer science at Northeastern University, and Evan Selinger, a philosopher at the Rochester Institute of Technology. It is, they persuasively argue in Medium, “the most uniquely dangerous surveillance mechanism ever invented.” Real-time deployment of facial recognition technologies would essentially turn our faces into ID cards on permanent display to the police.

“I’ve come to the conclusion that because information constantly increases, there’s never going to be privacy,” Clearview AI investor David Scalzo told The New York Times. “Laws have to determine what’s legal, but you can’t ban technology. Sure, that might lead to a dystopian future or something, but you can’t ban it.”

In fact, several cities have already banned police use of facial recognition technologies. And members of Congress are also now waking up to how the widespread use of this technology could impair our civil liberties. “In November [2019], Sens. Mike Lee (R–Utah) and Chris Coons (D–Del.) introduced the Facial Recognition Technology Warrant Act,” reports Reason’s Scott Shackford. “The bill would require federal officials to seek a warrant in order to use facial recognition technology to track a specific person’s public movements for more than 72 hours.”

Permitting police to track a person using facial recognition for less than three days without a warrant seems constitutionally questionable to me. After all, in Carpenter v. United States (2018), the Supreme Court required that the police obtain a warrant in order to search a person’s cell phone location data. “A cell phone—almost a ‘feature of human anatomy’—tracks nearly exactly the movements of its owner,” Chief Justice John Roberts wrote in his majority opinion. “When the Government tracks the location of a cell phone it achieves near perfect surveillance, as if it had attached an ankle monitor to the phone’s user.” Since faces are actual features of human anatomy (no ankle monitors needed), surely a warrant should be required for police to track citizens by their faces.

Harvard cybersecurity expert Bruce Schneier argued in a recent New York Times column that merely banning facial recognition is not enough to protect ourselves from government snooping. Ubiquitous mass surveillance is increasingly the norm. “In countries like China, a surveillance infrastructure is being built by the government for social control,” he wrote. “In countries like the United States, it’s being built by corporations in order to influence our buying behavior, and is incidentally used by the government.”

The data exhaust constantly emitted by our cell phones, license plates, digital payments, and credit cards is an intimate and comprehensive record of our lives. Right now easy government access is hampered by the fact that the myriad private databases tracking us are disparate and unconnected. However, it is not hard to imagine how automated authoritarianism could arise quickly in the wake of a massive terrorist attack as frightened citizens set aside concern for civil liberties and give in to government demands for access to all of the data that has been privately collected on each of us.

Given the growing prevalence of both government and private surveillance, Schneier argued, we Americans “need to have a serious conversation about … how much we as a society want to be spied on by governments and corporations—and what sorts of influence we want them to have over our lives.” To forestall a dystopian future, setting strict limits on government use of facial recognition technology is a good place to start.

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Kudlow: Fed’s T-Bill Purchases Are “Basically” QE

Kudlow: Fed’s T-Bill Purchases Are “Basically” QE

Back in October, when the Fed restarted permanent open market operations in the form of $60BN in T-Bills purchases each month, Powell scrambled to convince the market that his panicked effort to inject reserves into banks (such as JPMorgan which single-handedly triggered the repo crisis) so that trillions in levered hedge fund pair trades did not collapse on themselves once their repo funding was pulled, he said “growth of our balance sheet for reserve management purposes should in no way be confused with the large-scale asset purchase programs that we deployed after the financial crisis” and just to make sure there was no confusion, added “This is not QE. In no sense is this QE.”

Ever since then, anyone who was ideologically aligned with the Fed (i.e., a wealth-redistributionist, either for the people or the big banks, and in some confused cases, both), would blindly parrot Powell’s mantra, even though as we and others admitted “The Fed’s “NOT QE” Is Indeed QE… And Could Lead To Financial Collapse.”

This semantic insanity, of refusing to expose the money-printing emperor as naked, peaked last week when arguably the most intellectually-challenged Fed member, Neel Kashkari (who lacks a formal economic education and yet whose earnest desire to replace Powell has not been lost on anyone), under pressure from a barrage of media, strategists, traders, even his own Fed peers and anyone who is still capable of independent thought finally admitting that “NOT QE” is in fact “QE”,  exploded and tweeted:

QE conspiracists can say this is all about balance sheet growth. Someone explain how swapping one short term risk free instrument (reserves) for another short term risk free instrument (t-bills) leads to equity repricing. I don’t see it.

 

Well, we saw it, and we explained to Neel exactly how the Fed’s QE4, i.e., swapping of cash for T-Bills, leads to equity repricing. Alas, we doubt that for Neel even a clear, reasoned explanation carries any weight, and as such we are confident he would merely add us to the ranks of “QE conspiracists”, we wonder how he would respond to a striking admission from none other than Trump’s top economist, Larry Kudlow, who earlier today spoke at Davos and confirmed that the emperor was, indeed, naked, to wit:

KUDLOW: FED’S T-BILL PURCHASES ARE “BASICALLY” QE

Once again, consider that just three months ago Powell vowed that “this is not QE. In no sense is this QE.” 

Turns out it was QE after all.

While we are confident that this will simply make Kudlow a honorary member of the “QE conspiracist” club, at this point we simply refuse to give a shit about anything Kashkari – who we are now convinced is simply a “legacy” Fed hire in exchange for Neel’s “contribution” to bailing out his former employer (as a reminder, it was Kashkari who pulled the $700BN TARP number bailout out of thin air) – has said or will say, and instead will lay out the following three observations, now that even Kudlow has admitted “NOT QE” is in fact “QE 4”:

  1. The market highs are all an artificial byproduct of massive liquidity injections:
  2. The US economy was on the edge of a recession, and only QE prevented it from careening over the edge
  3. The Fed now appears to be directly managed by the White House, and whatever Trump wants (such as “some quantitative easing“), Trump gets.

Everything else, alongside fundamental market analysis, is now simply noise.


Tyler Durden

Tue, 01/21/2020 – 15:22

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Business Finance

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CVS, Walgreens Shares Slide As Amazon Files International Trademarks For Pharmacy Business

CVS, Walgreens Shares Slide As Amazon Files International Trademarks For Pharmacy Business

Amazon has just taken another step in its assault of the pharmacy industry.

Since the company acquired PillPack, a disruptive online pharmacy, back in 2018, pharmacy mainstays like CBS and Walgreens Boots Alliance have been rattled by the e-commerce and cloud-computing giant’s move into their territory. Their shares dipped on Tuesday as CNBC reported that Amazon had just filed trademarks for its ‘Amazon Pharmacy’ brand in several foreign markets, including Australia, Canada and the UK.

Amazon unveiled its plans to rebrand PillPack as ‘Amazon Pharmacy’ late last year, signaling to the market that it intended to pursue its pharmacy aims despite a high bar set by regulators in the US.

 


Tyler Durden

Tue, 01/21/2020 – 15:18

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