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Equity Long-Short Trade #3 // Netflix vs SPDR Gold Trust
As we navigate volatile markets and busy work schedules in the past two weeks, we were pleased to see that Trade #1 is up 15% while Trade#2 is currently flat.
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Today, introduce Long-Short Trade #3 as below, with a commodity ETF as the long leg.
Trade #3 / We call for the following pair trading idea.
Long 2 units of SPDR Gold Trust (NYSEACRA : GLD) @ USD 118
Short 1 unit of Netflix (NASDAQ : NFLX) @ USD 265
Our one year target as follows.
SPDR Gold Trust : USD 140
Netflix : USD 150
Trade thesis as below
Tough competition, unfortunate business model and overly optimistic growth
Netflix Inc. (NASDAQ:NFLX)
Netflix is the world's leading internet entertainment service with over 130 million paid memberships in over 190 countries enjoying TV series, documentaries and feature films across a wide variety of genres and languages. Members can watch as much as they want, anytime, anywhere, on any internet-connected screen. Members can play, pause and resume watching, all without commercials or commitments.
With a high of $423 and a current price of $265, the question is how the price will move in the next few quarters.
Insights are as follows:
NFLX has 2 reportable segments, namely the international and domestic segment. The international segment has a significantly lower margin due to the lower density of subscribers across multiple countries and continents together with the cost of purchasing and producing content. However this is also the segment with the focus and opportunity
For NFLX, it is all about adding content and subscriber growth.
The 3 major categories of content are as follows
#1 licensed non-first window content - content that is broadcasted on multiple networks #2 licensed original first-window content - content created for NFLX #3 film and TV studio – content created by NFLX
Subscriber growth was +6m QoQ and +28m YoY to 137m subscribers globally. This impressive growth is a QoQ growth of 5% and a YoY growth of 25%.
There is also a risk that forecasted subscriptions do not eventuate and NFLX fails to cover liabilities arising from content #2 & #3.
Failure in content #2 & #3 arising from an online subscription company like NFLX is vastly different from similar failures by TV networks and Film studios. This is because the waiting time needed for the next successful content that is currently in the production pipeline will cause the Company to lose subscribers that may not return for a period of time. TV networks and Film studios can view this as individual project failures
Our key takeaway here however is that the scalability of NFLX is not like any other FAANG stocks. NFLX stands out by its breadth and depth of content but is not unique. There are countless albeit smaller competitors globally that cater to various preferences.
NFLX does not aim to capture every paid tv subscriber in the market, the aim is to acquire or create content that can generate the largest number of views (i.e. highest gross margins) We expect growth to reach a mature stage soon where the subscriber churn offset by new subscribers may lead to negative growth in some quarters
The Company has about $18b in liabilities arising mostly from deferred content payment and long term debt with a trailing 1 year negative operating cashflow of $2b.
The Company also has a further $10b in unrecognised liabilities arising mostly from obligations to acquire subsequent content of current titles (i.e. subsequent seasons of hit series). We view this as sunk and incremental cost of acquiring and maintaining subscribers, if the liability goes away due to the titles discontinuing, users will cease subscription.
Current outstanding bond issues with maturity as below chart
We currently do not doubt the Company’s ability to raise further funds but caution that there will come a point in time where the business needs to transit into a mature stage allowing operating cashflows to become positive and this time may be sooner then we think.
What we are saying is we think the growth stage is coming to an end soon, and there would be possible equity dillution as the company seek to raise funds for further operations.
The Company has a NAV of $12 based on $23b of equity and a latest quarter EPS of $0.90. We do not expect FY19 EPS to be more than $6 and caution against overly optimistic expectations and extrapolations into the future
We hereby issue a 1 year target of $150 from today’s close of $265
SPDR Gold Trust, the play for the weak dollar on fed hike stop in 2019
SPDR Gold Trust is a Gold ETF listed in the US, which allows market participants to take on exposure to gold as its tracks spot gold prices with a small expense fee.
We have held on to the view for bullish gold for most of 2018 on both geopolitical crisis and weakening global growth. It seem to us now that the final and biggest catalyst have occurred which is a weakening US Economy, alongside very strong positive signs on the technical charts.
Let's first look at the recent comments from FOMC participants in the recent week.
Rather bearish comments from the Fed even while the S&P500 is still hanging well above 2600 level. It just seem to us that they are trying to restart the Fed Put given how much risk they know a Minsky moment in the financial markets will bring about to the real economy.
It is however depressing to see that even with such comments and dovish comments from Fed Powell last month, S&P500 closed at lows for the week 2633 level, just 2% more to carnage levels.
We remain extremely bearish in the US Equity markets, as we have commented many times once key levels are broken, lack of liquidity means we trade significantly lower in a matter of days and trigger the Minsky moment where by credit confidence is loss and repricing of assets would a large hole on many balance sheets.
This risk in our view will stop the Fed from hiking in 2019. We are currently expecting a final Dec18 hike of 25bps, which will be accompanied by a dovish fed statement with them acknowledging risk of lower energy prices which likely is not transitionary, and also warnings over credit confidence in the USA.
Next, lets take a look at the technical charts for Gold.
Just one indicator we would look at today, which is the 200 WEEK Moving Average at $1234. It has finally broken though upside levels this week, along side bearish comments from the Fed which we deem now safe to buy for a major upside as the dollar weakness has just settled in at the very early stage.
We expect a 20% jump in gold prices for 2019, and thus have a target of $140 for the SPDR Gold Trust.
Good Luck Trading!
Prowl4equities + The Bad Bear
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