L’interview de Fred Hickey à la NZZ

Je suis Fred Hickey depuis 1988; c’est un bon parmi les bons, sur la technologie.

Tensions are rising. This week, the earnings season is picking up pace. After the S&P 500 recently went from record to record, an atmosphere of uncertainty has spread over the stock market.

«As insane as the 2000 bubble was, this is more insane - and it’s broader»: Fred Hickey.
«As insane as the 2000 bubble was, this is more insane – and it’s broader»: Fred Hickey.

To Fred Hickey, this environment calls for caution. «This is a very dangerous market,» says the renowned contrarian with nearly four decades investing experience in the tech sector. «We have the highest valuations in history, margin debts are going through the roof, and retail investors are participating to an even greater extent than in 2000,» he adds.

In this in-depth interview with The Market NZZ, which has been edited and condensed for clarity, the editor of the popular investment newsletter «The High-Tech Strategist» explains why he spots the best opportunities for investments in gold and energy stocks and which tech names are most at risk of crashing.

Mr. Hickey, the stock market has lost some momentum recently. Nevertheless, the S&P 500 is hovering near its record high. Where do we go from here?

The answer is I don’t know for sure, but what we know is that this is a very dangerous market. We have the highest valuations in history, margin debts are going through the roof, and retail investors are participating to an even greater extent than in 2000. That’s what you typically see at tops: Ten million new retail accounts were established at brokerage houses in the first half of this year on top of last year’s enormous amount when everybody was speculating while they were staying at home. Now, we have meme stocks, SPACs and all kinds of craziness. That’s what I know.

There have been signs of exaggeration for some time. Nevertheless, this has not impaired the bull market so far. On the contrary.

This market is insanely overpriced. The price-to-sales ratio for the S&P 500 is at 3x. That’s 30% above the peak of 2000 which was crazy. Market cap-to-GDP is at record highs, too. Basically, every indicator other than the P/E ratio is at a record high. The only reason the P/E ratio is slightly below the 2000 record is because of all the financial engineering that’s done to try to pump up the earnings. As insane as the 2000 bubble was, this is more insane – and it’s broader. It’s a direct result of the Federal Reserve and the other central banks pumping enormous amounts of money into the system.

What is the best way for investors to navigate this challenging environment?

The economy is dependent on the stock market which could fall apart at any time. We don’t know where the exhaustion point is. But I can tell you that your risk level should be taken down. The market could crash if the Fed starts to pull back a little bit. They’re talking about tapering, and every time they’ve tried to tighten policy in the recent past, they had to reverse their positioning. The other thing is that the money supply growth is slowing down which might be a problem. In addition to that, China’s credit impulse is on the decline. All of these factors might lead to serious problems.

The key question is what’s going to happen with respect to inflation and thus interest rates. What do you think?

If you are out in the real world, you see higher gas prices, massive increases in food prices and shipping container costs quadrupling. Some of the cost increases are transitory, but a lot of them aren’t. Labor costs are going up, and some of the factors that kept inflation down like globalization are receding. These are longer-term trends that aren’t transitory. At the same time, you might have an economic slowdown, so there is a possibility of 1970s-Style stagflation, when we had slow economic growth occurring simultaneously with high rates of inflation. That was a time when oil prices were rising as well, and government policies were poor. Back then, they established wage and price controls, and they tried all kinds of cockamamie things. Today, politicians have even crazier ideas.

The climate in the seventies was toxic for equities. Yet today, the consensus remains bullish. Large tech stocks in particular are staging a comeback.

This market has become terribly narrow which is another big risk. The record highs are driven mostly by five stocks: Apple, Microsoft, Amazon, Google and Facebook. Their combined total valuation is $9 trillion, and people continue to pile into this small group of names. This trend has been accelerated by the movement of passive investing where everybody just piles into the same ETFs.

Why is this a risk?

The market cap of the S&P 500 is $36 trillion, and those five companies are now 25% of the index. So when people put money into the ETFs, they essentially buy more of these big tech stocks. It’s a self-perpetuating phenomenon until it ends – and when it ends, the market is going to collapse because the valuations don’t make sense. Look at Apple: Only a couple of years ago, people were getting excited about Apple hitting $1 trillion. Now its market cap is $2.5 trillion, and the stock trades at 33x peak earnings. That’s absolute insanity!

What do you mean by «peak earnings»?

Apple’s earnings were all pumped up by easy comparisons. They had big jumps in their iPad and iMac sales because people were staying at home. The PC market for example, which had seven years of declines because it was saturated, grew 13% in 2020, and then it soared 55% year-over-year in Q1 of 2021. That’s not sustainable. Same thing with iPad sales. Kids are going back to school, and people already bought their computers they needed for at home. I know that the PC market is slowing down, distributors like CDW are already talking about it. I believe the smartphone market is slowing down, too. As a result, we’re starting to see a black hole. What’s more, last quarter Apple’s CFO warned about lower margins because of higher commodity costs. Semiconductors are still in shortage, and prices of those have all gone up, and so did shipping costs. This means Apple’s earnings growth is going down significantly, and you are going to have a giant bust.

The semiconductor sector has experienced a tremendous boom. At what point is the cycle currently?

It really depends on which types of semiconductors because there are still shortages. For instance, if you’re an auto supplier, you’re maybe O.K. But there’s a problem with components tied to PCs and smartphones where device sales are starting to decline. The stock of Micron Technology, the leading U.S. DRAM manufacturer, is acting like death. It dropped 23% since mid-April. So something’s wrong, and I know what it is: Their major customers bought too much inventory. When there are shortages, customers double and triple order. They do anything to get as much product as possible so their business is not affected. But at some point, they don’t need any more chips, and they stop ordering. That’s what’s happening. They overbought, and now the demand is slowing down. Micron doesn’t admit that, of course. But the stock is clearly telling you that something is very wrong.

What other semiconductor stocks are at risk against this backdrop?

Nvidia. This is the craziest of all semiconductor stocks I’ve ever seen, and I’ve been doing this for forty years. The stock is up 330% over the last two years, and the company is valued at a $450 billion market cap and a 90 trailing P/E ratio on peak earnings. This thing didn’t sell for 27x earnings, and now it’s selling at 27x sales. Like Apple, Nvidia benefitted from the stay-at-home phenomenon, leading to strong gaming PC sales and Nvidia’s graphics chips. Now, they’ll have tough compares. What has also picked them up was crypto mining, and that’s starting to fall off too. Prices have collapsed, and the Chinese are cracking down on all that stuff. In the case of Nvidia, we don’t know the exact extent of the crypto benefit. The company is trying to downplay it. But the last time they did get a benefit from people who were buying their graphic cards to use them to mine crypto currencies that business collapsed.

How have you positioned yourself when it comes to tech stocks?

I’m shorting Nvidia and HP with puts, but it’s a very small amount. HP is basically the same theme: They’re in PCs and printers, and they had a huge benefit. But now, I see the black hole in there. I’m also betting against Apple and against the ARK Innovation ETF which I call my «one-stop shop» for the insanity in the market. Cathie Wood only buys the craziest stuff. 80% of the companies she owns don’t make any money. It’s a big bet on the future, and the future ain’t so bright as far as I am concerned. 10% of her fund is dedicated to Tesla, and the valuation there is a joke. So put options on the ARK ETF give me exposure to Tesla, to all these cloud companies selling for 50x sales, and to a bunch of biotech companies that don’t make any money. It reminds me much of the dotcom companies, but on steroids.

Are there also stocks in the technology space that you are bullish about?

I own KT Corp. It’s a Korean leader in broadband, and I like the high dividend and undervalued price of the stock. I also own Verizon and Nokia. One of the biggest themes we have right now is 5G. Nokia is one of the leaders there and a turnaround story. They’ve had a hiccup, but now they’re starting to catch up. They have a large market share and they’re severely undervalued relative to Ericsson. And then, you have Huawei being punished by the western world and banned in a lot of places. So telecom providers, if they were using Huawei’s equipment, have to go to somebody else. And there are only three other options: Ericsson, Nokia and Samsung. That’s only starting to accelerate.

Where do you spot further opportunities for investors?

I hold a big position in energy stocks. Even with the recent pullback, they have been the best performing group so far this year, and they’re paying attractive dividends. Exxon has a 5.9% dividend yield; Chevron pays 5.3%. These are big yields when interest rates are negative in some parts of the world and zero in the US. And, you have covered the inflation risk with these stocks, too. Even after their big run up, they’re still undervalued. Their P/E ratios are in the low 10s. That’s half of where the stock market is, and they have massive growth coming.

In your monthly investment bulletin, you write that you have positions in Exxon, Chevron and ConocoPhillips. What do you like about these stocks?

Chevron bought Noble Corp last year at the very bottom, when oil stocks had collapsed. ConocoPhillips made a similar move. They bought Concho at really dirt-cheap prices. Now, Chevron and Conoco are far better positioned, yet Chevron’s stock is 21% below where it was in the fall of 2018 when the oil price was at a multi-year high of more than $70 like today. Exxon trades 33% below where it was in 2018, and Conoco is 29% lower. With oil prices above $70 a barrel, and all the cost cutting these companies have done, they are going to have blow-out numbers for the rest of the year. They are going to generate tremendous cash flow, and they are going to raise their dividends. They’re just going to kill it.

Then again, unlike the leading European energy companies, the U.S majors are doing little to position themselves for a future with less CO2 emissions.

I wouldn’t touch them. The governments in Europe are forcing Shell, Total and other major producers to cut production because of climate change concerns. But when the number of oil rigs in the US is 60% lower than three years ago, when spending for exploration and production is at half the level it was at the top of the last cycle years ago, and after scores of oil and gas companies went bankrupt in last year’s collapse, the last thing you want to be doing is cutting production. The US companies are under some pressure, too. But not anywhere as near as much. They’re going to be keeping their production stable, and they will benefit from the increase in oil prices more than their European counterparts.

However, more and more investors are focusing on ESG criteria that are in line with environmental aspects, ethics and exemplary corporate governance. U.S. energy companies are left out in the cold here. Exxon was even banned from the Dow Jones last year.

Here is the thing: The European producers are going to waste a lot of money in areas they don’t really understand. They are going to be forced to blow money on things like biofuels, solar and that kind of stuff, and they’re not leaders there. The US companies are maybe going to invest in carbon capture and that kind of thing. But they’re leaders in that space, and they won’t have to put anywhere near as much money into those projects as the Europeans will. I imagine the big European producers have not performed for those reasons. So if you are a pension fund, you might like ESG. But if you’re a hedge fund or a similar type of investor, how do you not invest in the best performing group? How do you not invest in stocks with P/E ratios in the low 10s, massive growth and dividends you hardly can’t find anywhere else?

Perhaps most likely when it comes to gold and silver stocks.

That group is the most hated of all. The miners are the cheapest group you can find. Period. That’s what I like as a value buyer – especially, if there is an upside story, and there’s a huge story here. We talked about inflation. Even in the 1970s, when inflation was rising, real yields were negative or slightly positive. That’s the best environment for gold in the long-term. Today, the yield on ten-year Treasuries is at 1.3%. That’s almost a 4% negative real yield for bonds. It’s a disaster for bond holders. The other factor that gold is correlated with are rising deficits; both trade and budget deficits, and particularly budget deficits. So with all sorts of government giveaways and the US budget deficit skyrocketing, you have another major propellant for gold.

At the beginning of June, you correctly warned that gold stocks might be in for a temporary setback. Is the worst over after the correction of the past weeks?

Even at today’s gold price of around $1800 per ounce, mining stocks are down from the highs of last August. That’s no surprise. When you have new highs like that, you typically get a back-off, and that’s what’s happened. But seasonally, gold does best starting right about now. One of the main reasons is that demand from China and India is set to improve and continue to do so as the year progresses and seasonal demand kicks back in. These two countries are the primary buyers of real physical gold, accounting for 50% of demand. So the physical demand from China and India normally puts a floor under the gold price, and then Western investors are the ones who will drive the price higher. Recently, we went to severely low levels of institutional interest. The institutions aren’t there, but that’s potential buying demand. That’s why I think there is a good possibility that gold will surge again.

What does this mean for mining stocks?

I’m like a kid in the candy store because the prices are so low, especially relative to the gold price. This could be a really good time to be a buyer. After years of cost cutting, the miners have $1000 all-in sustaining costs. At a gold price of around $1800, that results in a margin of $800 per ounce. That’s basically a record level. These companies are generating cash like there is no tomorrow. Barrick Gold for instance has generated so much cash that they went from $13 billion in debt to a positive cash position. They have increased their dividend multiple times, so the dividend yield is 4.4% and the stock sells at a 15 P/E. These companies do buybacks, there are dividend increases all over the place, and yet the market is driving their stocks back into the dirt again.

Which individual names have the most potential?

My absolute favorite is Alamos Gold. The market hasn’t recognized that this company has changed. In 2017, they acquired the Island Gold mine in Canada for practically a song. That has transformed Alamos into a very strong intermediate miner. Still, the stock is selling at 0.7x net asset value. That can happen, if you’re a developer, but this is a producer with prospects of high growth for several years. Their mines are all in North America, in geopolitically safe locations, some of the best in the world with very high grades. Normally, in good bull markets, a stock like that might sell for 2x or 3x net asset value. What’s more, Alamos has no debt, it’s raising the dividend and it’s buying back shares. At a 1.3% dividend yield and 13 next year’s earnings it doesn’t get any better than that.

What other miners do you like especially at this point?

Kirkland Lake Gold. That’s a steal: The stock has a 2% dividend yield, and the company is buying back shares. They said that their lowest production quarter will be Q1. So every quarter going forward, production and earnings are going to increase. Everything is in the upswing for them as long as the gold price holds up. But the stock trades only at 11x next year’s earnings and 13x this year’s earnings.

What would you advise an investor to do in the gold mining sector if they’re prepared to take even a bit more risk?

In this recent downturn, the junior miners are performing the worst. That typically happens at bottoms. Since I’m not a geologist, I usually stick to companies that are producers or about to produce; where the gold has been found. But in Canada, there are two major developing projects; big, multi-million-ounce deposits with the highest grades. These resources have been discovered, drilled, and they’re about to come online. One of them is Sabina Gold and Silver’s Back River project. Sabina’s net asset value is $900 million, using a conservative gold price. At the beginning of the year, it’s market cap was around that number, but now it’s $460 million, down close to 50%. The company has no debt, and $67 million in cash. They also have a Chinese investor with a nearly 10% stake which is a validation that these ounces are really there. This means this stock is dirt cheap, undervalued and hated in the most hated sector. So despite much of the market being overvalued today, there are pockets that are severely undervalued – and that’s where I play.

Fred Hickey

When it comes to tech stocks, few investors have more expertise than Fred Hickey. That’s why his monthly newsletter is a must read for money managers around the world. «The High-Tech Strategist» is a unique treasure of deep insights which go way beyond the tech sector. Having grown up in Lowell, Massachusetts, in the heartland of the computing cluster around Route 128, Hickey has been fascinated by technology since his youth. After graduating from the University of Notre Dame, he started working for the former telecom giant General Telephone & Electronics. In 1987, he began writing his newsletter for his friends and family. After five years it went so well that he could make a living out of his investing tips. Today, Fred Hickey lives far away from Wall Street’s daily noise in Costa Rica and in Nashua, New Hampshire.

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