Prof G Markets: U.S. Equity Market, Strong Dollar, and Semiconductors

This week on Prof G Markets, Scott evaluates the recent rise in U. S. equities, warns about external sources of downside risk, and discusses what the surging dollar tells us about currency markets, including who wins and who loses with euro parity. Then it’s the latest on the Elon/Twitter saga, and Scott’s prediction on the next front in that battle. Finally, Scott weighs in on government subsidies for the semiconductor industry. U. S Equity Market https://www.cnbc.com/2022/07/21/stock-market-futures-open-to-close-news-.html Strong Dollar https://www.nytimes.com/interactive/2022/07/16/business/strong-dollar.html Semiconductors https://finance.yahoo.com/news/heres-what-in-the-semiconductor-bill-as-the-senate-nears-a-crucial-vote-162706068.html Learn more about your ad choices. Visit podcastchoices.com/adchoices

Speaker names marked ? are inferred from speaking time and the show’s known hosts — they are not voice-verified.

• 0:01Scott Galloway?

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• 0:49Speaker 01

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• 1:18Scott Galloway?

  This week's number, 2 million. That's the estimated number of medical tourists to Turkey this year as Istanbul has become the global capital of, wait for it, hair transplants. The procedure can be done for one-tenth the cost of the United States. That means the population of Phoenix will travel to Turkey this year to have procedures, including hair transplants. Why did my producer pick this story? Hello, sexy Phoenix. Here's the thing, a little lesson here, a little lesson from the dog. Having great hair is wonderful. Having no hair actually feels pretty good. It's the in-between times that suck. Istanbul, here I come.

• 2:07Scott Galloway?

  Welcome to Prof G Markets. Today, we're talking about what's going on in the stock market, what Elon might do next, the strength of USD, the dollar, and finally, the US government's plan to support semiconductor manufacturing. Prof G Research Analyst Ed Elson has the news today. Ed, what is the good word?

• 2:26Ed Elson?

  Well, we're finally getting some good news in the stock market, Scott. We saw better than expected results from companies like Netflix, Goldman, and I'm sorry to say this, but Tesla. All three major stock indexes posted back to back gains on Wednesday with the Nasdaq up more than one and a half percent. And they're all trading at their highest levels since the beginning of June. So it looks positive. But what do you think, Scott? Have we hit a bottom?

• 2:54Scott Galloway?

  It appears that a lot of corporations have not received the memo regarding a recession. I think about 10 or 15% of the S and P 500 has reported earnings and so far more than two thirds have beat expectations. So this does look as if the market is saying we may have done much of the hard work or the heavy lifting around the decline in equity values. The interest rate increases we had to register have happened. So the question is, is this going to be a V? Have we already started the V or the latter half of the V? Or is this going to be a dead cat bounce and we're going to resume kind of the structural decline?

• 3:28Ed Elson?

  How are you thinking about it yourself? I mean, can you talk a bit about your own investment strategy right now? Do you feel like you're going to get more aggressive? Are you still hedging? How does this inform your own decisions?

• 3:41Scott Galloway?

  I try not to panic. What I have done, I've done two things over the last few years. I like to think of myself as someone who appreciates valuation. And that is I look at a stock and say, okay, does it make sense that Airbnb is trading at 100 times EBITDA? Even though it's growing 70% a year, when it was at its peak over 200 bucks, it was just trading at a crazy multiple. And as much as I love the company, as much as I love the management team, I wanted to hedge it. I didn't want to sell it. I wanted to hedge it because when you sell it, you're immediately incurring somewhere between 23% and 48% in taxes. So the question is, is there somewhere else you could put your money? You're immediately trying to find something else to do with that cash that will return at least 23% more. There's all sorts of reasons not to sell. So what I do though, is I've been writing what's called covered calls.

• 4:23Scott Galloway?

  And that is, say the stock is trading at 100, I'll write calls against it at 105. I sell those calls, meaning that if it doesn't go to 105, I make money. And if it goes down, it eases my losses a little bit because I've collected. Did some revenue on the call side. Now, having said that, you get hurt if it goes above 105, you're kind of neutral. You lose those gains. So it's a bit of a trade off, but I think of it as rent on a house that you own. And I've been writing covered calls against my positions for the last couple of years, because even I was smart enough, hopefully, to recognize this has gotten, this has gotten a little bit sort of crazy town. Now, there's a difference between writing covered calls and writing calls. When you write naked calls, if you write calls saying that you will give someone or you will deliver shares of Airbnb $100 and you get $2 in return for this. If there's a black swan event and the thing goes to 300,

• 5:07Scott Galloway?

  you could be in serious trouble. My colleague, Professor Silber at NYU Stern, says in his first class that he tells people to never write an option because it is pretty risky. But I do write covered calls. The other thing I've done is, and it may be the wrong time to do it, I have taken down leverage. I've sold some stuff and just paid off debt. Because what you want to do in these times is I think you just kind of want to hold on. And the way you hold on is you never want to be a forced seller. Because when you're a forced seller, it generally means other people are forced sellers and whatever you're selling is at a low or at a near low. It's like getting divorced. I don't care who you are. Whenever you get divorced, you're going to have to split assets and sell things at exactly the wrong time. That's kind of just the karma of divorce. So what have I've done? I've hedged a little bit with covered calls and I'm taking down my leverage because I just don't want the stress of being a forced seller,

• 5:52Scott Galloway?

  even if it means selling some stuff at what feels like lows. Everything I own is up, or I think everything I own is up. It's just not nearly up as much as it is it used to be. So I'm technically, I've been hedging a little bit and I'm trying to reduce my leverage.

• 6:08Ed Elson?

  We've been focused on economic figures for weeks now. Inflation, interest rates, et cetera. But we had Ian Bremmer, the president of Eurasia Group, on the podcast last month. And he mentioned how these shorter term market movements may be distracting us from bigger issues going on in the world, that maybe we're looking in the wrong place for risk. What are your thoughts on that? Do you agree with Ian?

• 6:34Scott Galloway?

  I think this is a super interesting point. I think Ian Bremmer is just a gift in terms of insight. I love how he calls balls and strikes. I love someone, if you read their, their thought leadership, you wouldn't be able to tell if they're progressive, conservative. And I find that occasionally he just states the obvious, and it seems obvious once he says it, but no one was thinking it before he said it. Anyways, big fan of Ian's. And what Ian is saying is that we're not in a economic recession, we're in a geopolitical recession. And that is, we're studying to the wrong test. Everybody knows what the NASDAQ is, but they don't talk about how we're going to lose 50,000 people to opioids this year. Maybe inflation is going up or coming down, but you have a nation where a third of the people in each political party think that members of the other political party are their mortal enemy,

• 7:19Scott Galloway?

  which is ridiculous. We have incredible systemic structural issues around droughts. I don't want to even use the term climate change, because then every conservative thinks I'm, I'm panicking. But if you believe in data, there's just no ignoring this shit. The Rhine River is just 15 inches away from being too shallow for shipments, meaning that millions of metric tons of stuff that's supposed to get from X and Y is going to have an artery shut off, and that will create all sorts of knock-on effects. But what we don't want to talk about is that 30-year-olds aren't doing as well as their parents were at 30. We don't want to talk about the fact that life expectancy has gone down three of the last four years in the United States for the first time in our history. We've become

• 8:01Scott Galloway?

  so obsessed with the dollar that oftentimes we're focused on the wrong thing. The thing that will probably have the most impact on Netflix's earnings or Microsoft earnings isn't technology spending or number of subscribers. It's probably going to be whether or not we can push back on our real enemy, and that is Russian soldiers pouring over the border in Ukraine. It's going to be more about supply chain, which is a function of our ability to find new sources of energy, or if Germany can actually climb its way out of their dependence on Russian gas. What happens with COVID over the next six to 12 months? The biggest hit to the market over the next two years is likely not going to be inflation or earnings. It's going to be whether one or two men show up in January of 2025 claiming that they are president.

• 8:43Ed Elson?

  We're going to pivot away from global disaster into a far more important topic.

• 8:50Ed Elson?

  We're going to talk about Elon Musk. So there's more news in the Elon Twitter saga. The latest development is that the Delaware Court of Chancery has agreed to fast track the lawsuit into a five day trial in October. So Scott, what happens next here?

• 9:09Scott Galloway?

  What we have here is the Chancery Court has already said, no, we're not going to let you delay and obfuscate. We'll see you in October and it's going to be a five day trial. If they rule against them, which pretty much any credible legal expert is saying, yes, despite what his sycophants say on Twitter, he's going to be compelled to close. And then he has basically one avenue of appeal to the Delaware Supreme Court. That will be fast. They'll probably ask for an expedited hearing here and it'll be granted. That's two weeks later. It'll be number of days, not weeks. And he'll be compelled to close. And that is why the stock is going up. It's not that Twitter's business has gotten any better. It's not that people actually believe he's going to buy it. The market is saying that a share represents a legal claim, an enforceable claim against

• 9:51Scott Galloway?

  the richest man in the world, $54.20 a share. Now, what could he do? This guy is smart, well advised. I think his lawyers are going to say to him, okay, our basic legal analysis is that you are fucked and you are going to be compelled to close. So the settlement, if he doesn't want to actually show up with $54.20, the starting point would be the difference between the stock price that day and 5420. So if the stock's trading at 40 bucks, logically that means he kind of owes shareholders $14.20. So, so that means it's in his interest for the stock to go up. Now, how could he help that happen? One, he could announce, you know what? I've done a bunch of research around the bot problem.

• 10:33Scott Galloway?

  I've gotten comfortable with it and I am now going to close at $54.20. Stock goes up. He then calls the Twitter board and says, you know, maybe I shouldn't own it and you don't want me to own it. It's 45 bucks, it's 50 bucks, $4.20 times 750 million outstanding shares. Here's, I'm just going to cut you a check for 3 billion and we'll call it a day. Would that be market manipulation? Absolutely. That market manipulation charge that would come from the SEC would probably result in a 10, 50, maybe even $100 million fine. Which is worth it, given that every dollar he can push the stock up, he saves potentially $760 million in terms of being let off the hook for buying the company at what is probably 150% premium to its natural level, around 20 bucks if you look at his peer group.

• 11:16Scott Galloway?

  So let's think one step beyond where everyone else is thinking. Everyone's still arguing over what's going to happen in Chancery Court. No, the chancellor assigned to his case doesn't care how awesome he is and she's not probably not on Twitter. I think she's going to come to play and I think he is kind of fucked with the wrong sheriff here. Anyways, after that, I think he's going to figure this out and figure out ways to push the stock price up. We're going to see some very interesting behavior on the part of Mr. Musk between now and their first hearing in October.

• 11:44Ed Elson?

  If he says, "Oh, I actually want to buy it now." Do you think that the market would respond and believe him and actually push the price up? Or is that, has he lost all his credibility? I mean, he keeps on going back on his word all the time.

• 11:59Scott Galloway?

  That's a really good point. Will the market believe him? I don't know. I don't know how the market would respond. I think if, if he said, "Okay, I'm comfortable, I'm going to close," I think the stock would definitely go up because he's secured, I think, 11 to 13 billion in debt financing. He's claiming he's going to come up with the other 33 on his own and that's possible he could do it. I think it put a lot of pressure on Tesla's stock, but I think he could find that money. What people aren't talking about though is that it's not just finding the money to buy the thing. It's, it's like buying a plane. Okay, that's a lot of money to buy a plane, but what's more expensive is maintaining the plane. And buying Twitter is expensive, but what would be even more expensive is maintaining Twitter. Specifically, right now Twitter has $5 billion in debt. So what would happen if he buys this thing? The debt is going to skyrocket.

• 12:44Scott Galloway?

  The interest rate he's had to offer on this thing, on this debt is somewhere around 14%. So you're talking about a company that's all of a sudden going to have interest expense equivalent to nine times annual adjusted earnings. When I've been on boards, we get nervous when we go above three times. And here's a guy that's going to have nine times, meaning that if he wants to fund growth, he's probably going to have to come up with another billion or $2 billion a year just to maintain this toy. So he's looked at this and said, "Okay, I got to come up with $44 billion. God, that sucks," or something worth 15 to 20 billion. And then I'm on the hook for another $1 to $2 billion a year, meaning that unless I can take this thing out at a valuation of 70 to $100 billion

• 13:25Scott Galloway?

  in the next five years after, you know, making it a platform for free speech and open debate after he blocked me. Anyway. This thing just makes absolutely no sense. So he wants out. He wants out. He's sober about the mistake he's made and the market has moved against him here. The question is, how does he get out? Well, he's not going to be able to get out for free. So how does he reduce his payment? I think he's gonna pull some stuff out of his sleeves. So look for some shady shit out of Mr. Shady or Slim Shady as we get closer to the Chance Record hearings in October.

• 13:59Ed Elson?

  All right, let's take a quick break and we'll be back with more of the latest news in the markets.

• 14:08Scott Galloway?

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• 14:54Scott Galloway?

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• 15:08Scott Galloway?

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• 16:16Ed Elson?

  Welcome back to Prof G Markets. Scott, let's talk about currencies, specifically the dollar. USD registered its strongest first half since 2010, and last week it hit a new 20-year high. It's up roughly 10% against the euro and the pound, and 17% against the yen. Now, before we get into what this will mean for markets, I have a more basic question for you, which is this. Why do currencies fluctuate in value?

• 16:46Scott Galloway?

  It's straight supply and demand, Ed, so it's no different than houses or stocks. And that is, if the number of buyers is greater than the number of sellers, then buyers need to increase their bid for that asset in order to draw more sellers into the market. That's pairing the trade, if you will. And right now, more people want to buy dollars than sell them. So that means people selling dollars can ask for a higher and higher price. So the question is, why do more people want dollars? Why is the more demand than supply for dollars right now? And it's a couple of things. One, first and foremost, interest rates. And that is, when you're buying treasury bonds, you get a certain interest rate. Those interest rates have been really modest, nominal, anemic, almost zero. They have gone up dramatically, meaning that you're now getting paid more to own dollars, or specifically treasuries.

• 17:31Scott Galloway?

  Also, the dollar is still the reserve currency and still considered the safe haven of all global currencies. So when the world feels very insecure, when there's a war in Europe... When there's COVID still persisting, when there's inflation globally, there's a risk off-trade and one of those risk off-trades is to get into dollars.

• 17:50Ed Elson?

  So what are the implications of that, of a strong currency? I mean, when I first heard the term strong dollar, I thought, oh, strong equals good for America, but that's obviously not the case. For example, Microsoft just cut its earnings guidance and they cited that the dollar's strength was a big problem for them. So can you take us through why that is and who the winners and the losers of the strong dollar are going to be?

• 18:17Scott Galloway?

  So according to Morgan Stanley, every percentage point increase in the dollar on a year-on-year basis translates to a 0.5% hit to EPS growth. And my producer just told me to say that EPS was earnings per share. So what do we have? A 16% increase in the strength of the dollar registered against a basket of currency, which means or translates to an 8% decline in earnings across the S and P 500, just based on the strength of the dollar, all else equal. Now, it hits some firms harder than other. Specifically, it depends on the firm's percentage of sales from outside the US. A Goldman Sachs report found that shares of companies that generate the majority of their sales in the US have outperformed more global businesses by 9% in 2022. Why?

• 19:02Scott Galloway?

  Because the majority of their business is held on in strong dollars, whereas the companies doing a lot of business outside the US, all of a sudden find their cash flows and their profits smaller. So high non-US revenue firms, Pfizer, 2/3 of its revenues from overseas, Nike, 61%, McDonald's, 62%, Domino's, 66%, 2/3 of Domino's revenue from overseas. Who would have thunk it? By the way, I used to get higher than a fucking kite when I was in college and order Domino's. And we had this guy, Andy Friedman, who was kind of this gigantic guy, and he mugged the Domino's pizza man, which I am not encouraging. And our fraternity was put on Domino's probation for a year and literally overnight, Andy

• 19:43Scott Galloway?

  became the least popular person in the ZBT, Alpha Rose ZBT at UCLA. What a great story. Anyways, mid-range, non-US revenue firms, Alphabet gets about half its revenues outside of the US, Microsoft, exactly half at 50%. And then there's other firms that do really well or are kind of immune from a strong dollar, and that is Target. Zero percent of its revenues. It's a domestic firm. Amazon actually only gets about a quarter, 27% from outside the US and Salesforce gets about a third outside of the Americas.

• 20:13Ed Elson?

  So how do you capitalize on this as an investor, specifically an investor living in America?

• 20:20Scott Galloway?

  In sum, the way you play this is by thinking about investing in companies that get a greater share of their revenues domestically. Now, that's probably already been played out. So buying oversea assets is a way to play this. So if you decided, okay, my thesis around investing is I think travel is going to increase post-COVID. So I want to invest in a commercial jet manufacturing company, of which there's really kind of two, and that is Boeing and Airbus. You might give Airbus a second look because Airbus has gotten 15 or 20% cheaper, the stock has, because you'd be buying those stocks with dollars. So where the opportunity is theoretically is in the arbitrage, and that is buying foreign assets with a very strong or cyclically strong or sort of unnaturally strong USD.

• 21:01Scott Galloway?

  So I purchased a home in London and I realized this is a story of privilege, thinking that it was a great deal. And one of the things that convinced me to do it was the pound was trading at what I thought was really weak at a buck 26. It's now at a buck 20. So if I just waited two or three weeks to close on the home, the home would have been 5% cheaper. So what I thought was low ended up not being as low as it went. Again, it's very hard to time the markets. Traveling is a great way to take advantage of a strong dollar. I'm in Aspen right now and it feels dead and muted. And some of that is because of pent up demand from people who weren't able to go to Europe the last couple of years because of COVID. But also, I got to think some of it is that it's just a better deal there right now.

• 21:39Ed Elson?

  All right, let's move on. Let's check in with our editor in chief, Jason Stabbers, who has a story for us on the US Chips Act. Jason?

• 21:49Speaker 04

  Thanks, Ed. So for almost a year now, Congress has been negotiating on a major legislative package of multi-billion dollar investments in science and technology research, development and manufacturing. And then on Tuesday, the Senate took a procedural vote on a piece of that legislation focused on subsidies for the semiconductor industry, and it drew 64 yeas, including 16 Republicans. So this is just a procedural vote, but it pretty much assures that the semiconductor legislation is going to pass, and it's a positive sign that the larger set of investments could pass as well. So the semiconductor provisions, they provide $52 billion in subsidies to US semiconductor companies, and it's focused mainly on expanding domestic manufacturing. Now, this comes at a pretty crucial juncture.

• 22:34Speaker 04

  Obviously, you'll recall that one of the major supply chain issues that hampered our recovery from the pandemic was a lack of chips, and that was slowing production of everything from PlayStations to Patriot missiles. Now, these subsidies won't impact these short-term shortages. It takes years to build and spin up a semiconductor fab, but lawmakers are hoping to reduce the risk of future chip shortages. Now, what's interesting here, Scott, I think, is this isn't a bailout, right? This is money going to profitable companies that have great growth prospects. In fact, they can't build manufacturing facilities fast enough. And also, a lot of the money in the larger bill would go to areas that are already receiving significant private investment, as well as large grants for pure science and academic research.

• 23:17Speaker 04

  So, Scott, it looks to me like Congress maybe is starting to go on the offense in terms of building up advanced US manufacturing capabilities.

• 23:24Scott Galloway?

  Yeah, this is interesting on a number of levels. One, we have been so obsessed, or investment capital has been so obsessed with companies that can scale, specifically services and software companies. It's hard to grow that company 200% a year when you're actually making things as opposed to just selling more and more software. It's just much easier to send zeros and ones over the internet than it is to build a car. And so there's been over-investment in software or digital technology, and there's been an under-investment in manufacturing. What we have is a situation where we've become vulnerable. I'll give an example. I was on the board of Urban Outfitters, and we woke up in the midst of the COVID pandemic and realized that a disproportionate amount of our product came from a small region in

• 24:09Scott Galloway?

  China, so we were vulnerable. And now, that's not a national security risk if people can't get cool clothes for a Coachella. Although, I would argue that's a big disappointment for a lot of people. But anyways, if we wake up one day and our missiles and our kidney dialysis machines don't work because we don't have access to chips, the majority of which are manufactured in South Korea and Taiwan, that is a national security risk. So, the investment makes sense. Now, I would argue that the right strategy, wrong implementation. This is corporate welfare. This is giving money to companies that are already very profitable. And so what I would suggest is a better way to go about it is to eliminate the incentives to offshore manufacturing. For example,

• 24:50Scott Galloway?

  If you hire someone in the US, manufacturing is more labor intensive, you have payroll taxes, you have healthcare. Whereas if you invest in a VC fund that has the disproportionate amount of their investment in software, you have all sorts of tax advantages. And I've taken advantage of this. Basically, the first $10 million of capital gains off of a company, a venture company, are tax-free, or 10 times the investment, which is nothing but a giveaway to entrepreneurs and investors typically that over-index in these technology or software-based companies. So we need just more incentive to build domestic manufacturing. And you're seeing a lot of on-shoring, but how do we encourage it across all industries as opposed to just giving AMD and Intel a handout?

• 25:35Scott Galloway?

  And Intel is in DC not only with their handout, but trying to get lobbyists to reduce or water down the legislation such that they can take that money and then build manufacturing plants overseas, which makes absolutely no sense. So do we need more manufacturing, especially in areas where we could be shut down? Supposedly, one of the weapons or one of the opportunities to really hamstring the Russian army right now is that some of these sanctions will result in mission-critical components, including microchips, where they won't be able to repair their weapons. So there is definitely geopolitical concerns here, but I think we should shape it through tax credits as opposed to giveaways to a small number of companies. So it's an interesting story, Jason. We're going to see how it plays out. Ed, what's up for next week?

• 26:20Ed Elson?

  We have a big week of earnings reports coming up. So we're going to hear from Twitter, Alphabet, Microsoft, Visa, McDonald's, Starbucks, Meta, Apple, Amazon, and Mastercard. And we'll also hear from Jerome Powell on Wednesday, who will reveal the Fed's interest rate decision. Scott, do you have any predictions?

• 26:42Scott Galloway?

  My only prediction is that I think inflation is starting to come down. I believe these interest rate hikes are going to start to take effect when people see their credit card bills. People are just going to start raining in their horns. In addition, I think energy costs are going to come down. And although I don't see evidence of this, I would just think these skyrocketing prices would create so much incentive for people to be innovative and agile, to open up new supply chains, that I would think we would start to see some unclogging of the supply chain. By the way, if you talk to people in supply chain, they don't confirm that. They say it's only getting worse. But my prediction is that we're going to see inflation, that inflation has peaked. We shall see. We shall see.

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