Does AMC’s surge mean curtains for the bubble?

Plus May jobs contradictions, JBS probably pays, Russia de-dollarizes, Peru votes

Hello and welcome to another edition of Contention! This week we have eight minutes of extremely abnormal dissident business news. This week we cover:

  1. Contradictions churn as May gains jobs

  2. Does AMC’s surge mean curtains for the bubble?

  3. Rapid Round: Ransomware hits beef, Russia de-dollarizes, Peru’s high-wire election

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Contradictions churn as May gains jobs

Markets ended a quiet week higher than they began, the Dow up 0.7%, the S&P 500 0.6%, and the Nasdaq 0.5%. 

But underneath the placid surface, contradictions continued to churn as the global economy moves further into something nobody has ever seen before. 

The contradictions showed up in the week’s most important news: the May jobs report released on Friday. The U.S. economy added 559,000 new jobs last month, below the 671,000 estimate, but substantially higher than April’s 266,000 pace. 

Despite this growth, workforce participation continued to slide: the unemployment rate dipped to 5.8% from the previous 6.1% as 53,000 workers exited the workforce. All told, 6.6 million workers are “discouraged” -- not even looking for work even though they’d like a job -- on top of the 9.3 million looking for work and not finding it. 

An oversupply of labor should mean falling wages, but the opposite is happening: average hourly pay was up 2% year-over-year in May. Average wages spiked during the pandemic because the lowest end of the workforce -- hospitality workers -- dropped out of the calculations entirely, but this pay surge came despite most of the new jobs coming in that sector. -- an employment site for the restaurant and hospitality industry -- has found line cook jobs going for $30-35 an hour. 

So what exactly is going on? Let’s start by looking at what we know for sure. First, the economic recovery underway is very real. 

May manufacturing and services PMIs both beat expectations last week. The manufacturing index rose from 60.7 to 61.2 and the services PMI was even better, going from 64.7 in April to 70.4 in May, an all-time record. This marked five straight months of not only growth in the composite PMI measure, but accelerating growth -- gains are getting bigger each month. Output is on a clear upward trajectory. 

Second, we know that supply chain and labor shortages are limiting this growth. The Manufacturing PMI’s delivery time index hit its highest level since 1974. This tracks with info shared in the Federal Reserve’s “Beige Book” -- a collection of qualitative reports from each of the regional banks, released on Wednesday. By definition the document is anecdotal, but it featured 29 mentions of “supply chain problems” and striking examples of labor market tightness. In St. Louis, for example, 12 local restaurants held a job fair to hire 100 new workers between them, but only a dozen applied. 

Third, we know that all of this is creating price pressures. The strength of the recovery means that businesses feel comfortable passing on costs, and households saved a record $2.3 trillion during the pandemic. The market is betting they can pay the increased costs -- for now. 

What is causing the labor market shortages? This we do not know for sure. The Fed pretends to know, with Governor Lael Brainerd assuring the Economic Club of New York last week that everything will shake out once more people are vaccinated, schools reopen, and unemployment payments run out. 

But evidence is mounting that the real problem is likely a reallocation shock: the jobs lost last year don’t match up with the opportunities this year, and the workers on the market can’t or won’t take the positions available. 

Data from sectors where this dislocation has not happened supports this explanation. Dental offices, for example, saw a big reduction in employment during the initial shutdowns, but they have fully recovered and even added headcount. These workers had the same access to benefits, concerns about infection, and challenges with childcare other sectors faced. That they are already back to work while so many others are not suggests that even rising wages and improving conditions may not clear out the backlogs.

Which brings us to the most fundamental unknown of all: what happens from here. The most important determinant will be whether industries can ride the demand wave until the supply problems work out, or if they will have to give up before they can get there. 

The construction sector lost 20,000 jobs in May and home sales have plunged back to 2019 levels as buyers give up on units they just can’t afford. If this happens in other markets -- especially in the labor market, with employers giving up on hiring at profit-gobbling wages -- the recovery could run out of steam fast. In the meantime, expect more weird data to come and more assurances from those in power that they know something they really don’t. 

Does AMC’s surge mean curtains for the bubble? 

Stock in AMC, the largest U.S. cinema chain, lost 6.7% on Friday. The decline looked small in context: AMC’s stock gained 83% on the week, 160% in May, and a stunning 2,200% since the beginning of the year. The burst makes AMC the new king of “meme” stocks, with previous champion GameStop “only” up 1,300% year-to-date.

This move, however, might be the high-water mark for meme stocks and for the economy’s speculative craze altogether. The forces feeding the fire have crossed some of the wealthiest investors of all, and their patience may be running thin. 

AMC’s big week did not feature any good news to justify the gains -- in fact, the company diluted shareholder value with new stock sales not once, but twice during the week. On Tuesday, the company sold Murdick Capital Management $230.5 million in shares, which Murdick immediately resold at a quick profit, calling the stock overvalued

This is extremely abnormal: investors rarely spend nearly a quarter of a billion dollars on something they believe is overpriced, but Murdick’s move paid off as frenzied retail investors drove AMC’s share price up 23% the day of his sale. 

Thursday did see an 18% decline following news of its second issuance of the week, this time for $587 million. The company took the extraordinary move of warning investors in the new shares that the company’s “valuation reflects trading dynamics unrelated to our financial performance or prospects,” and that buyers should be “prepared to incur the risk of losing all or a substantial portion of your investment.” 

Contention readers will find these “trading dynamics” familiar: short squeezes and gamma squeezes executed by coordinated moves on Reddit message boards. The punters -- now calling themselves “apes” -- all pile into cheap call options betting on a big stock price gain, forcing market makers to hedge “gamma,” driving up the price and creating a feedback loop. This forces short-sellers to cover their positions, amplifying the loop. 

Unlike other meme companies, AMC has embraced the retail investor army. The company created “AMC Investor Connect,” a new program that offers perks -- notably free popcorn -- to investors. CEO Adam Aron even made a large donation to a gorilla charity in a nod to the “ape” nickname. The move has paid off so far, with the company improving its balance sheet through the stock sales and insiders making millions unloading nearly a third of their shares.

Wall Street is less pleased. Goldman Sachs, Bank of America, Citigroup, and others have tightened risk controls and increased collateral requirements for hedge funds and other big investors that want to short AMC, GameStop, and other meme stocks. Bank of America has also dropped analyst coverage of GameStop while giving up on setting a price target for Bed Bath and Beyond -- which gained 62% on Wednesday from ape interest

You can’t analyze casino games, and with fundamentals meaning nothing for these assets, Wall Street is looking to get “a million miles away” from them. 

This begs the question: where will Reddit get shorts to squeeze if Wall Street stops playing along? They have problems even if they switch to less familiar names: the Fed may be getting ready to taper its asset purchases, bringing markets back to earth, crashing speculative games like meme stocks, cryptocurrency, and SPACs

Last week, the Fed announced the sale of corporate bonds and bond funds it purchased during the 2020 crisis -- a small amount, but a distinct shift in the bank’s interventionist tone. For years, the taper threat has been theoretical, with observers asking why the Fed would ever turn off the spigot. We reported on the answer last week: a “tsunami” of cash “breaking down” the economics of the money market fund industry. 

Money market funds exist to help rich people stay rich by making sure everyone with money can actually access that money when they need it most. The Fed now has to decide who it serves more: speculators like the ones running up AMC stock or capital’s bedrock institutions. 

The choice may be predictable, but the story to come is sure to surprise. Our advice: grab your popcorn. 

Rapid Round

Ransomware targets beef

FBI Director Christopher Wray compared the threat of ransomware to the 9/11 attacks, the same week as hackers targeting meatpacking giant JBS shut down a fifth of U.S. beef production. “There are a lot of parallels, there’s a lot of importance, and a lot of focus by us on disruption and prevention,” Wray told the New York Times.

The meatpacking hack came during a period of rising inflation in food prices, but the effects were relatively minor, and JBS resumed full operations later in the week. JBS most likely solved the problem in the simplest way possible: they paid the ransom. Federal officials declined to confirm or deny payment, but the scenario echoes the attack on Colonial Pipeline in April, which paid a $4.4 million ransom to restart East Coast fuel supplies. JBS’ vulnerability, also disclosed last week, turned out to be a single compromised password leaked to the dark web.

The Justice Department announced it will handle ransomware cases the same as terrorism. But one of the biggest problems is that software used by top companies -- and many industrial control systems -- were developed before cybersecurity was much of a concern. The heightened scrutiny raises big questions for the future of unregulated cryptocurrency, the lynchpin of the latest ransom wave

Russia de-dollarizes, Putin warns of Soviet path 

Russia’s sovereign wealth fund announced it will ditch the U.S. dollar next month, cutting $40 billion from the $186 billion fund. Once complete, the fund’s share of currencies held in assets will comprise 40% euros, 30% yuan, 5% pounds, 5% yen, and the rest in gold.

The move comes two weeks ahead of a Geneva summit between U.S. Pres. Joseph Biden and Russian Pres. Vladimir Putin and after another round of U.S.-imposed sanctions on the federation. The role of the dollar as the world’s reserve currency and U.S. financial institutions when settling cross-border transactions gives Washington powerful leverage when enforcing sanctions. 

Putin warned the United States about the risks of overplaying this hand during a videoconference speech on Friday. “The problem with empires is that they think they can afford small errors and mistakes, which gradually accumulate,” Putin said. “There comes a time when they can no longer be dealt with. And the U.S., with a confident step, a confident gait, a firm step, is walking straight along the path of the Soviet Union.”

Russia and China have both vowed to “de-dollarize,” reducing holdings and creating alternatives. In April, the People’s Bank of China began “technical testing” for the cross-border use of its Digital Currency Electronic Payment (DCEP) system, or “digital yuan.” Russia and China have both sought to boost the yuan’s role for payments and reserves. “The de-dollarization process is constant,” Kremlin spokesman Dmitry Peskov said. “It is, in fact, now visible to the naked eye.”

Peru’s high-wire election

Peru’s presidential election came down to the wire on Sunday as exit polls showed a tight race between left-wing schoolteacher Pedro Castillo and Keiko Fujimori, the right-wing daughter of imprisoned ex-dictator Alberto Fujimori. This comes during a worsening economic crisis and effects from the pandemic which has given Peru the highest COVID mortality rate in the world.

The 51-year-old Castillo has accused multinational corporations of plundering Peru, and called for renegotiating mining contracts in the all-important extractive industries, taxing windfall profits from record copper prices, ensuring 70% of their profits stay within the country. “Never again a poor man in a rich country,” Castillo repeated at closing rallies during the campaign.

Fujimori, who held a slight lead at press time, has long represented a particular brand of mercantilist fujimorismo economics in which companies gain market share through political contracts, combined with a mano dura-- iron fist -- political structure.

Our only investment advice: Don’t forget Father’s Day this month.

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