Tag: Educational

Small Cap, Big Potential: Capitalizing on The Widening Valuation Gap

Posted on by slightbourne@noblecapitalmarkets.com

As we progress through earnings season, a concerning trend is becoming more apparent – the widening valuation gap between small and large cap companies. Across sectors like biotech, construction, media and more, large cap stocks are trading at significantly higher valuation multiples compared to their small and mid cap peers. For long-term investors, this divergence could signal an opportunity to start positioning in overlooked parts of the market.

Valuation refers to the process of determining the current worth of an asset or company. The most common valuation metric used by investors is the price-to-earnings (P/E) ratio. This compares a company’s current stock price to its earnings per share, giving a sense of how much investors are willing to pay for each dollar of earnings.

Typically, investors are willing to pay higher multiples for larger companies perceived as higher quality investments. However, the gap in P/E ratios between large caps and small caps has expanded dramatically over the past year. The sizable disparity between the two classes is the largest it has been in over 20 years.  

For example, Pfizer trades around 13x forward earnings expectations. But the average forward P/E for biotech stocks with market caps under $500 million is only 5x. This means investors are valuing each dollar of Pfizer’s earnings twice as highly as the average small cap biotech peer. 

We see similar trends in other sectors. In construction & engineering, Jacobs Engineering trades at 25x forward earnings versus under 10x for small cap marine construction firms like Orion Group Holdings and Great Lakes Dredge & Dock. Media giants like Disney (14x) and Fox Corp (11x) also command far higher valuations than small cap peers like Direct Digital Media (DRCT), Entravision (EVC), or Townsquare Media (TSQ). 

What explains this growing divergence in how the market is pricing future earnings potential?

For one, large cap companies often have broader business diversification that allows them to navigate volatile economic conditions. Pfizer’s COVID vaccine gave revenues a shot in the arm during the pandemic. Meanwhile, smaller biotechs with narrower clinical pipelines carry more binary risk around drug development outcomes.

Bigger balance sheets also provide an advantage. Large caps can leverage financial strength to pursue acquisitions, ramp up buybacks and maintain dividends during downturns. With higher cash reserves and access to capital, they are better equipped to weather tightening financial conditions.

Many large caps also benefit from durable competitive advantages like strong branding, pricing power, high barriers to entry and economies of scale. This allows them to consistently deliver high returns on invested capital and cash flows sought by investors.

Smaller companies tend to deliver more volatile financial results. They lack established competitive positions and have less excess cash. Weaker balance sheets increase vulnerability to supply chain disruptions, rising input costs and tight financing conditions.

While these factors help explain higher valuations for large caps, the magnitude of the gap suggests investors may be overlooking the long-term potential of small and micro cap stocks.

Though more volatile, smaller companies offer greater growth potential. They can deliver exponential returns if new innovations gain traction or they carve out niche industry positions. With valuations already compressed, their risk/reward profiles appear skewed to the upside.

Noble Capital Markets’ Director of Research, Michael Kupinski states in his Q3 2023 Media Sector Review, “We believe that there is higher risk in the small cap stocks, especially given that some companies may not be cash flow positive, have capital needs, or have limited share float.  But investors seem to have thrown the baby out with the bathwater. While those small cap stocks are on the more speculative end of the scale, many small cap stocks are growing revenues and cash flow, have capable balance sheets, and/or are cash flow positive.  For attractive emerging growth companies, the trading activity will resolve itself over time.  Some market strategists suggest that small cap stocks trade at the most undervalued in the market, as much as a 30% to 40% discount to fair value.” 

Astute investors know that future unicorns often hide among today’s small and micro caps. Many current large cap leaders like Apple, Amazon and Tesla began as small companies trading at single digit earnings multiples. Yet these stocks generated huge returns for early investors.

Just because a company is small does not necessarily mean it is distressed. Many smaller firms boast solid fundamentals and growth drivers that are simply not apparent to short-term traders. Their lower valuations present a compelling entry point for long-term investors.

While large caps will remain a core portfolio holding for many, today’s environment presents a unique opportunity. The extreme valuation divergence has created asymmetric upside potential in overlooked small cap names. As legendary investor Warren Buffett said, “Be fearful when others are greedy and greedy when others are fearful.”

Digging Deeper into Valuation Metrics

When assessing valuation gaps between small and large caps, it helps to look beyond simple price-to-earnings ratios. Other useful metrics can provide additional context on relative value.

For example, the price-to-sales (P/S) ratio compares a company’s market capitalization to total revenue. High growth companies with minimal earnings often trade at elevated P/S multiples. However, small caps today trade at an average P/S ratio of just 0.7x versus 2.3x for large caps. Again, a sizable gap that favors small companies.

Enterprise value to EBITDA (EV/EBITDA) is another meaningful valuation yardstick. By incorporating debt levels and focusing on cash profits, EV/EBITDA provides a more holistic view of a company’s valuation. Currently, small caps trade at an average forward EV/EBITDA of 6x – roughly half that of large cap peers.

Across an array of valuation metrics, small and mid caps trade at substantial discounts relative to large caps. This suggests underlying fundamentals and growth prospects may not be fully reflected in their beaten-down share prices.

Small Cap Opportunities Across Industries

While small caps appear broadly undervalued, some industries stand out as particularly compelling hunting grounds.

For example, junior mining stocks have been ravaged during the recent crypto/tech selloff. But with inflation soaring and geopolitical tensions rising, demand for precious metals should strengthen. Many miners are generating robust cash flows at today’s elevated commodity prices. Yet their shares trade at deep discounts to book value.

Biotech is another area laden with small cap opportunities. Developing novel drugs carries substantial risk, so setbacks in clinical trials can decimate share prices. However, the sector remains ripe for M&A. Larger pharmas need to replenish pipelines, providing takeout potential. Investors can balance risks via diversification across promising development stage companies.

Oil and gas producers offer further value among small energy firms. Strong demand and restricted supply has sent oil prices surging. Many smaller E&Ps focused on prolific shale basins sport attractive cash flows and reserves value. Yet their shares lag larger counterparts, despite superior growth outlooks.

The bottom line is that while risks are higher with small caps, their depressed valuations provide a margin of safety. Reward far exceeds risk for selective investors focused on fundamentals.

Mitigating Volatility

Small caps carry well-known risks, including elevated volatility. Information flow and analyst coverage is more sparse for smaller companies. Major drawdowns can rattle investor nerves and sink long-term performance if not adequately prepared for. Resources like Channelchek is a great tool to help provide data to investors in the small cap space. 

Based on your age, time horizon, and risk tolerance, here are some tips to mitigate volatility while still capturing small cap upside:

  • Maintain reasonable portfolio allocation – small and microcaps should represent a smaller portion of your equity holdings
  • Diversify across sectors, industries and market caps to smooth volatility
  • Maintain a long-term mindset – don’t panic sell on temporary declines

With prudent risk controls, small caps can boost portfolio returns while diversifying away from large cap shares. Their more attractive valuations provide a compelling opportunity during these volatile times.

“In the equity markets history tends to repeat itself. At some point the smart money will start allocating more portfolio weight into these undervalued equities, which will narrow this historic valuation gap, offering potential for above average returns for small and microcaps,” said Nico Pronk, CEO of Noble Capital Markets.

What Are Small-Cap Stocks and Are They a Good Investment?

Posted on by slightbourne@noblecapitalmarkets.com

For many individuals, investing in the stock market is a pathway to financial growth and security. And while familiar large-cap names like Amazon, Apple and Microsoft may first come to mind when building a portfolio, small-cap stocks represent another promising segment of the market.

Today, we’ll take an in-depth look at the world of small-cap stocks and examine whether they can make a wise addition to your investment strategy. Whether you’re a seasoned investor looking to broaden your portfolio or someone new to stock market investing, this article will answer all your questions about what a small-cap stock is and much more.

Defining Small-Cap Stocks

First, let’s start with a quick definition – what exactly are small-cap stocks?

Small-cap stocks refer to companies that have a relatively small market capitalization, generally between $300 million and $2 billion. Market capitalization (or market cap) is calculated by multiplying the total number of company shares outstanding by the current market price per share.

So a company with 10 million shares trading at $20 per share would have a market cap of $200 million, landing it in the small-cap category.

In contrast, large-cap stocks like Apple, Microsoft, and Amazon are valued in the hundreds of billions. Small-cap stocks represent companies in earlier developmental stages with significant room for expansion ahead of them before reaching the scale of the market leaders. Some well-known examples of small-cap companies across different sectors are The ODP Corporation, Bassett Furniture, The Geo Group and Maple Gold Mines.

Small-cap stocks sit in the middle between micro-cap stocks (under $300 million market cap) and mid-cap stocks ($2 billion to $10 billion market cap). At the higher end are large-cap stocks (over $10 billion) and mega-cap stocks like Apple that exceed $200 billion in market value.

For many growth-oriented investors, small-cap stocks represent an opportunity to invest early in a company with potential for rapid expansion before they become household names. The early-stage status means small-cap companies have ample runway to grow their market share and establish themselves as industry leaders over time. With the right investments, small-cap stocks can deliver exponential returns compared to slow and steady large-cap stocks that have less growth potential ahead.

However, the smaller size and scale of these companies also leads to higher volatility and risk compared to large-caps with firmly entrenched market positions. We’ll explore these trade-offs more in the sections ahead.

Key Characteristics of Small-Cap Stocks

Now that we’ve defined what a small-cap stock is, let’s dive deeper into some of the typical characteristics of these types of companies:

Greater Growth Potential

With small-cap companies still in relatively early phases of their lifecycle, their products and services often have significant room for wider adoption and expansion. Small-cap stocks are laser focused on growing their market share rapidly during the critical early innings before competitors emerge. They pour capital into product development, sales and marketing, and geographic expansion while large-caps aim to protect and defend their existing turf.

Higher Volatility

With smaller financial resources and operational scale, small-cap stocks tend to be more vulnerable to market swings and changing economic conditions. As a result, their share prices can fluctuate wildly in short periods of time as sentiment shifts. On the other hand, large-cap stocks boast stability and steady, predictable growth.

Less Analyst Coverage

Wall Street banks and financial media outlets tend to devote the bulk of their research and coverage to large, established companies that dominate their industries. Meanwhile, small-cap stocks fly under the radar in comparison. This lack of attention results in opportunities for diligent individual investors to uncover small companies poised for growth before they gain widespread analyst and investor attention. This is where Channelchek comes in. Our market research is specific to small cap stocks and completely free as long as you join our community

Potential for Undervaluation

The limited analyst coverage and lack of institutional investor interest in small-cap stocks can at times lead to mispricing opportunities where the stocks trade at valuations that do not fully reflect their growth prospects and upside potential. Savvy investors can find hidden gems trading at deep discounts relative to their future earnings power. Of course, finding these diamonds in the rough requires rolling up your sleeves and digging into financial statements.

Liquidity Challenges

The total number of outstanding shares is far lower for small-cap companies versus large-caps, which leads to lighter trading volumes and thinner liquidity. This results in wider bid-ask spreads, premiums and heightened volatility when entering and exiting positions. Large-cap stocks benefit from abundant liquidity and tight spreads, allowing large trades to be executed seamlessly.

In summary, while small-cap stocks carry additional risk factors, their lower valuations, lack of analyst coverage and undiscovered status provide significant upside potential for enterprising investors willing to conduct their own due diligence.

The Pros and Cons of Small-Cap Stocks

Now that we understand the typical traits of small-caps relative to large-caps, let’s examine the key potential benefits and drawbacks of adding these types of companies to your investment portfolio:

Potential Benefits of Small-Cap Stocks

– Outsized Growth Potential – With the right stock picks, small-cap companies can deliver exponential returns over a relatively short timeframe that mature large-cap stocks simply cannot match. Just look at Amazon’s meteoric rise over the past decade when it was still a small-cap. 

– Undervaluation Opportunities – Due to the lack of widespread analyst coverage, small-cap stocks can become underpriced or neglected relative to their growth prospects. Dedicated investors can find hidden gems trading at compelling valuations before market awareness builds.

– Portfolio Diversification – Because small-cap stocks behave differently than large-caps with lower correlation, adding small-cap exposure can improve the overall risk-adjusted return profile of a portfolio heavy in stable large-cap names.

– Inflation Hedge – During periods of rising inflation, small-cap stocks have historically outperformed as they are more nimble in passing on price increases to customers. Large-cap names are slower to react.

Potential Drawbacks of Small-Cap Stocks

– Higher Volatility – The amplified swings in small-cap share prices require mental fortitude during periods of market stress. Their risk profile means small-caps are better suited for those with higher risk tolerance.

– Liquidity Risk – The lower trading volumes inherent with small-caps necessitates close monitoring of bid-ask spreads and liquidity when entering or exiting a position. Sudden moves can lead to dislocation.

– Fewer Resources – Compared to the robust balance sheets of large-caps, small-cap companies have less financial flexibility and capital reserves which can leave them vulnerable during recessions.

– Lack of Institutional Coverage – Minimal Wall Street research coverage means individual investors must conduct their own due diligence. Those relying purely on analyst reports will be late to the party.

All in all, while small-cap stocks carry some additional risks and challenges, their return potential merits inclusion for at least a portion of growth-oriented investors’ portfolios.

Researching and Investing in Small-Caps

Here are some key factors for investors to weigh before adding small-cap exposure:

– Assess your personal risk tolerance – The inherent volatility of small-cap stocks means they are better suited for those investors with higher risk appetites and ability to withstand routine price swings. Make sure your temperament aligns.

– Consider investment timeframe – The long-term growth trajectories of small-caps make them ideal picks for investors with longer time horizons of at least 5-10 years rather than short-term trading mentality. Have patience.

– Conduct extensive due diligence – There’s far less third-party Wall Street research available on small-caps compared to large-caps. You’ll need to thoroughly comb through financial filings, growth prospects, competitive dynamics and management track records.

– Diversify across multiple small-caps – Build a basket of small-cap stocks across different sectors to smooth volatility and avoid concentration risk. Layer in large-cap and mid-cap holdings.

– Monitor liquidity trends – Keep an eye on trading volumes and bid-ask spreads of small-caps you own to ensure ample liquidity exists when entering and exiting positions. Liquidity shrinks rapidly during downturns.

Taking these elements into account allows you to make informed decisions before venturing into small-caps.

Investing Strategies for Small-Cap Stocks

If small-cap stocks fit your risk tolerance, goals and research diligence, here are some effective approaches:

– Seek out promising sectors – Target high-growth sectors like technology, healthcare and consumer discretionary where disruption potential is highest rather than diversified small-cap funds.

– Identify company-specific catalysts – Look for upcoming product launches, partnerships, FDA approvals or expansion plans that could serve as catalysts for a sharp rise in sales, earnings and sentiment.

– Take a long-term perspective – Tune out the noise and stick to your original investment thesis during temporary price swings. Have conviction in your small-cap picks.

– Utilize stop-loss orders – Use stop-loss orders to automatically sell positions if prices breach certain thresholds as a risk management tactic. Re-enter when volatility subsides.

– Reinvest dividends for compounding – Many small-caps pay dividends despite early-stage status. Reinvesting dividends turbocharges long-term total returns. 

– Consider small-cap index funds – For diversification, consider cost-effective small-cap index funds from leading providers like Vanguard, Schwab and iShares.

– Limit overall allocation – Given the amplified risk, small-caps should likely account for no more than 10% of your total portfolio assets. Size positions accordingly.

With rigorous research and prudent strategy, small-cap stocks can boost returns for enterprising investors willing to accept the higher volatility profile.

The Bottom Line on Small-Cap Stocks

In the high-growth small-cap arena, there will inevitably be huge winners and unfortunate flameouts. But for risk-tolerant investors, the profit potential justifies the bumpy ride. By taking a selective approach, diversifying across multiple small-caps, and holding for long time horizons, much of the volatility smoothes outs while allowing winners time to fully capture market share.

While individual small-cap stocks require diligence, broad exposure can be gained cost-effectively through small-cap index funds and ETFs. Overall, small-cap stocks fill an important niche in balanced portfolios, providing a return boost that slow-changing large-caps cannot match. For investors willing to accept fluctuations in the pursuit of superior long-term returns, small-cap stocks warrant consideration.

Join the Channelchek community to keep up with the latest small-cap insights and start making informed investment decisions!

What Can You Learn From the Short Interest in a Stock?

Posted on by phoffman@channelchek.com

Using Short Interest as an Evaluation Tool

Not everyone involved in the stock market are buying stocks in expectation of them rising. Some market participants are selling, in the expectation that the price will fall. This selling is one of many factors impacting a stocks current price – and could influence future moves. Understanding short interest in a stock that you are active with may provide trading ideas or send warning signs.  Below we define short interest, its impact on stock prices, where to look to find the short interest on a particular company, how the information is used, and of course, risks.

What Short Interest Is

Short interest refers to the total number of shares of a particular stock that have been sold short by investors. In simple terms, when an investor “shorts” a stock, they borrow shares from a broker and sell the borrowed shares in the stock market. If all goes well, they buy the shares back in the future, then return them to the broker along with the interest cost (rebate rate) of the borrowed amount.  

Short interest is expressed as a percentage or a number, indicating the total shorted shares relative to the stock’s total float or outstanding shares.

What it May Do to the Stock Price

There is more than one possible meaning of a stock having high short interest. One is that the high percentage of short stock outstanding could mean that there is a large number of investors betting against the stock’s performance. This suggests a bearish sentiment and potential bearishness regarding the stock’s future price moves. If many market players continue to remain bearish, the high or escalating short interest can put downward pressure on the stock’s price.

Conversely, a low short interest might suggest a positive sentiment among investors or confidence in the stock’s future performance. It shows the stock has limited potential for a short squeeze, where short sellers are forced to cover positions and the buying causes the price to rise.

How to know the Short Interest of a Stock

Investors can find short-interest information through many sources, online brokerage platforms, financial news websites, and some stock market research portals. Notable financial websites often provide this data alongside other relevant stock information. Additionally, the U.S. Securities and Exchange Commission (SEC) requires institutional investors to disclose their short positions in certain cases, making this information publicly available.

Example of Short Interest Reported on a Popular Brokerage Platform

The short interest of GameStop (GME) on this day was 20.78% of outstanding float (Source: TD Ameritrade)

Trading With Short Interest Information

Knowing if the short-interest in a company is trending higher, lower, or is stagnant is more helpful than a snapshot of one day’s percentage.

The short interest data can be traded on in a few ways. High short interest can serve as a contrarian indicator. If an investor believes the company has good prospects and it has a high short interest, a price-moving short squeeze could occur if positive news unfolds or strong financial performance triggers buying. This scenario can push short sellers, that are perhaps faced with margin calls, to cover their positions rapidly, resulting in a sharp upward movement in price.

The use as a gauge in market sentiment toward the company, and which way it is trending, can allow you to understand investor behavior over a period of time toward the stocks. Combine this with other fundamental and technical analysis, and short interest data can aid in improving your probability of either a successful trade or successfully avoiding a potential problem.

Short Interest Not Definitive

While short interest can provide valuable insights, it is crucial to understand the risks involved. Short interest data alone is rarely enough to be the sole basis for an investment decision. It is important to conduct or gather comprehensive research and analysis of the stock’s fundamentals, industry trends, and market conditions. Evaluating short interest comes after higher level filtering of a company’s prospects.

Remember, short interest size and trend might not always accurately reflect the actual market sentiment. Market dynamics can change rapidly, and short sellers might cover their positions quickly, resulting in a shift in the stock’s performance. Therefore, investors should consider short-interest data as just one piece of the puzzle and not solely rely on it for investment decisions.

Take Away

Short-interest statistics hold a role in providing insights into market sentiment and potential investment probabilities. Investors can find short-interest information through various sources, enabling them to assess market sentiment and potential short squeezes. However, it is best to use short-interest data in conjunction with comprehensive research and analysis, as it should not be the sole basis for investment decisions. More informed investment choices, it stands to reason, lead to a higher likelihood of success or avoiding failure. By understanding short interest and its implications, investors can enhance their understanding of either a stock, or even the market in the aggregate.

Paul Hoffman

Managing Editor, Channelchek

Traders that Find They No Longer Can Monitor the Markets All Day, Might Try This

Posted on by phoffman@channelchek.com

Should You Use Stop-Limit Orders?

Would you have better results if you used stop-limit orders in your stock market transactions?

Retail traders are finding there are fewer hours where they can watch stock prices. If you aren’t always monitoring your portfolio, but you have predefined entry and exit scenarios, and you aren’t yet using this order type, you may want to consider it. Novice to advanced investors enter potential trades this way for a number of reasons including to automate trading, locking in profits, and minimizing losses.

Stop-Limit Order Characteristics

 Stop orders become automatically triggered as a live order once a set price has been reached. It is then a market order and is expected to be filled at the current market price. The stop order is filled in its entirety, even if that means there are different prices for various pieces of the order.

Limit orders are orders that are set at a target price. The order is only executed when the stock hits the limit price or at a price that is considered even more preferred than the account holder’s limit price. If price movements cause the price to move against the initial limit price, even after it receives a partial fill, the order will stop executing.

By combining the two orders, stop orders and limit orders, the investor doesn’t place as much control in the market, instead they retain some level of precision to help follow their plan.

Stop-Limit Order Usage

The primary reason a trader will enter a stop-limit order is to have precise control over when the order should be sent out to be filled. A possible downside with all limit orders is that the trade may never get executed if the stock does not reach the stop price during the specified time period.

A stop-limit order requires the setting of two price points, both the stop price and the limit price. This makes sense for those that don’t wish to get filled in a volatile market at a price in the opposite direction of the stop. The trader first sets a stop price, which is the price they want the trade to be triggered. Then, the limit price they want to execute at is set. This price is used to limit the maximum price they will pay or the minimum price they will receive if the trade is executed.

A time frame must also be set during which the stop-limit order is considered executable.

The stop-limit order will be executed at a specified price, or better after a given stop price has been reached. Once the stop price is reached, the stop-limit order becomes a limit order to buy or sell at the limit price or better. This type of order is an available option with nearly every online broker.

Downside

It’s important to note that stop-limit orders do not guarantee that your trade will be executed. If the price of the security drops quickly or there is a gap in trading, the order may not be filled at the desired limit price or at all. This may result in missed opportunities for profit should the appropriate prices not be targeted.

Opportunity cost can be another downside. There is no guarantee that the stock will ever reach the price of execution. In the meantime, you may not be acting on other opportunities as you wait to see if the market will go your way.

And, what does happen from time to time, if the price gaps or moves quickly, the order may not be executed at all. This can be especially problematic in fast-moving markets where prices are volatile.

There are retail and professional traders that know about stop-limit orders, would benefit, yet get lazy, or figure they are watching it trade by trade so they’ll just pull the trigger when need be. This leaves open the chance they may not execute their strategy.  

Upside

With a stop-limit order, you control the price at which you enter or exit a position. This means that you can set a limit price that is higher or lower than the stop price, depending on whether you are buying or selling. This gives investors greater control over the execution price and allows the order to go in before the stock reaches it, which makes it more likely their order will be closer to the front of the line.

You need not watch it. The orders will automatically be sent when the stop price is reached. This means that you don’t have to monitor the market constantly and can let the order execute on its own. This is useful for more passive investors.

More sophisticated strategies can also benefit. Stop-limit orders can be used in a variety of trading strategies, including day trading, swing trading, and position trading. They can be used to enter or exit a trade, and they can be used for both long and short positions. This flexibility makes stop-limit orders a versatile tool for traders regardless of the style of trading that investor wants to adopt.

Take Away

Many self-directed investors found they had ample time to monitor their trade orders during the Covid lockdowns and they now are trying to continue to be active in the markets. The characteristics of the stop-limit order may help them stay active.

Paul Hoffman

Managing Editor, Channelchek

Equity Investors Shouldn’t Fear Quadruple Witching if They Understand It

Posted on by phoffman@channelchek.com

June Quad-Witching is the Friday Before a Three-Day Weekend

Double, triple, and quadruple witching hours are often characterized by increased stock market activity as traders manage expiring positions in the last hours of trading. Friday, June 16th is a quadruple witching which may demonstrate increased activity as it leads into a weekend where markets are closed on Monday.

The term “quadruple witching hour” is used to describe the simultaneous expiration of stock options, stock index futures, and stock index options and single stock futures contracts on the same day. This happens only four times a year on the third Friday just before a quarter end. The same expiration date of all three types of stock derivatives can cause unusual swings as expiring derivative positions can cause increased trading volume and unusual price action in the underlying assets as traders close, roll, or offset expiring derivative positions, particularly in the final hour of trading.

Options Expirations and Futures Contracts

Stock index options, and stock options, are financial instruments that grant the holder the contractual right, but not the obligation, to buy (call option), or sell (put option) a specific quantity of an underlying security or value of an underlying index at a predetermined price (strike price) within a specified period. The final day of the period is known as the option’s expiration date.

Stock index options are options based on the broad market indexes, such as the S&P 500 or the NASDAQ-100. These options give investors exposure to the overall market’s performance rather than individual stocks.

Stock options work similarly, but are based not on index values, but on stock price.

Stock index futures and single stock index futures are contracts that obligate (not optional) traders to buy or sell an index at a specific price or a single stocks at a specific price on a future date.

Expiration Fridays often witness heightened trading activity, as investors attempt to rebalance portfolios and positions. This can cause increased volume and produce significant price fluctuations in the underlying, impacting both individual stocks and the overall market.

Arbitrage Opportunities

Though much of the trading in closing, opening, and offsetting futures and options contracts during witching days is related to the squaring of positions, this increased, and at times, frantic activity can create price inefficiencies, this may provide short-term arbitrage opportunities for those skilled and quick enough.

The arbatrageurs would generate even more volume into the close on quadruple witching days as traders attempt to profit on small price imbalances with large trades that may execute a buy and sell in seconds.

Additional Reasons To Care About Triple Witching

As four types of derivatives, with related underlying indexes and securities expire, traders, especially before a long weekend, will often seek to close out all of their open positions well in advance of the close. This can lead to increased trading volume and intraday swings. Traders with large short positions are particularly exposed to price movements that could be more difficult to manage leading up to expiration. Arbitrageurs try to take advantage of abnormal price action, this actually serves to keep prices more in synch.

The higher trading volumes can be one-sided and potentially result in wider bid-ask spreads and greater slippage. Investors mindful of the potential one-sided liquidity challenges may decide to wait for the smoke to clear the following week, or see if they can benefit by feeding into demand if they can.  

Traders who are skilled at interpreting trends, and have great execution, may find quick opportunities to make money during these multiple expiration dates.

Take Away

Quadruple expiration dates, which happen four times a year, can have significant implications for traders and investors. It is best to, at a minimum, know the dates to understand unusual price moves. Understanding the intricacies of option expiration, and multiple witching hours helps investors navigate markets. Advanced traders may even find ways to capitalize on the moves intraday.

June 2023 is unusual in that the quadruple witching hour comes before a three-day weekend; this could push more volatility to earlier periods during the afternoon.

Paul Hoffman

Managing Editor, Channelchek

An Investor List of the Industries that Can be Improved With Blockchain Technology

Posted on by phoffman@channelchek.com

Blockchain Beyond Cryptocurrency: The Potential of Distributed Ledger Technology

Does blockchain have a future beyond crypto? Since its beginning as the underlying technology for Bitcoin (BTC) and later other cryptocurrencies, blockchain has been the necessary, behind-the-scenes, engine that allow these fintech currencies to function. Dogecoin (DOGE), Ethereum (ETH), and even the 18 G20 countries developing a central bank digital currency (CBDC) need blockchain to exist.  

But what non-finance industries are being impacted or will be disrupted by blockchain? It is not with exaggeration to say blockchain has the power to revolutionize various industries and redefine everyday transactions, manage data, and establish trust. Long-term investing requires knowledge of current trends and where the future may take them. Below we explore many of the possibilities of blockchain aside from cryptocurrency and delve into its promising future.

What is Blockchain?

At its core, blockchain is a decentralized (no single control) and immutable (unable to be changed) ledger that records activity across multiple computers. This distributed character replaces the need for institutional intermediaries to ensure transparency, security, and efficiency. A person or an entity can function, even across borders directly, without the need for a middleman. Verification of activity is recorded and remains a part of a blockchain ledger.

Uses beyond cryptocurrency, or the speculative investment that crypto and non-fungible tokens (NFT) have become, include health care, finance, voting, real estate titles, and smart communities.

Health Care

The HIPAA Privacy Rule sets national standards to protect individuals’ medical records and other identifiable health information. It applies to health plans, healthcare clearinghouses, and healthcare providers that conduct certain medical transactions electronically. The purpose is to keep data ownership from improperly being passed and to maintain privacy in the industry. Current centralized systems are not able to meet the many needs of patients, health service providers, insurance companies, and governmental agencies. Blockchain technology enables a decentralized system for access control of medical records where all stakeholders’ interests are protected.

Blockchain systems not only allow healthcare service providers to securely share patients’ medical records but patients may also track who has accessed their records and determine who is authorized to do so. If blockchain-driven, all transactions can become transparent to the patient.

And blockchain-powered interoperability can enable the seamless sharing of medical data between healthcare organizations, improving patient care, research, and drug development.

Supply Chain Management

Complex global supply chains involve numerous stakeholders, some sending, others receiving, and others verifying the source of food or products. Verifying the authenticity and improving traceability of products can be a challenging task. Blockchain’s ability to create an immutable record of every transaction and movement along the supply chain enables transparency and accountability. A company will be able to securely track the origin, manufacturing process, and movement of goods. Consumers can be equipped with verified information, among other benefits, this will increase trust and reduce the risk of receiving counterfeit products.

Storing information regarding movement on a blockchain improves integrity, accountability and traceability. For example, IBM’s Food Trust uses a blockchain system to track food items from the field to retailers. The participants in the food supply chain record transactions in the shared blockchain, which simplifies keeping track.

Entertainment Products

As technology has allowed greater reproduction and distribution, including music and art, blockchain may provide creators with more control over their work. The whole entertainment industry may undergo a significant transformation with blockchain technology. Artists can tokenize their efforts, creating a digital certificate of ownership that can be bought, sold, and shared on blockchain platforms. This will enable artists to have tight control over their intellectual property, receive fair compensation, and even establish a direct connection with their followers. Beyond ownership infringement, blockchain can facilitate transparent royalty distribution, this could ensure that artists receive their rightful earnings without an intermediary and the cost that comes with anyone getting in the middle of a transaction.

The Energy Sector

Blockchain is likely to play a transformative role in all forms of energy. As renewable energy sources continue their trend, blockchain can enable peer-to-peer energy trading. Individuals and organizations will be able to directly exchange surplus energy with those expecting an energy deficit. This could create a decentralized energy market.

Smart contracts executed on the blockchain can automatically verify and settle transactions, ensuring transparency. This democratization of energy, if broadly implemented, could accelerate the adoption of sustainable practices, provide energy where needed, and reduce waste.

Governments

While the government is often the intermediary that the blockchain makes less needed or unneeded, recognizing the potential of blockchain to enhance transparency and efficiency in public services may become its greatest use. Land registries, taxation, voting systems, and identity certainty can all be improved through blockchain’s tracking and tamper-resistant design. Immutable records of land ownership can reduce disputes and increase trust in property transactions. Digital identities stored on a blockchain can streamline processes such as passport verification and border control, making them more secure and efficient. Blockchain-based voting systems have the potential to eliminate voter fraud, ensuring fair and transparent elections.

Potential

Much of what is described above has either barely been implemented or has not been put to use. This is a period in any technological advancement when most long-term investors would like to be involved. Efficiencies and improved products are poised to help the industries mentioned, and pure blockchain companies, large and small, can benefit from developing uses for their technology.

Despite its potential, blockchain technology still faces challenges. Scalability, energy consumption, and regulatory frameworks require further development and refinement. However, ongoing research and collaborations among businesses, academia, industry, and policymakers are actively finding avenues around these concerns, driving the maturation of blockchain technology.

Take Away

Blockchain is still in its infancy, and industries are just becoming aware of its power to help them. As the paradigm shifts, it could become a technology businesses could not imagine doing without. Blockchain’s decentralized, transparent, and secure nature makes it a powerful tool for revolutionizing healthcare, supply chain management, entertainment, governing, and energy sectors. As the technology evolves, we can expect innovative use and widespread adoption of blockchain that serves to elevate trust, efficiency, and transparency. And maybe the now-developed cryptocurrencies will survive within these changes.

Paul Hoffman

Managing Editor, Channelchek

Sources

https://www.investopedia.com/tech/forget-bitcoin-blockchain-future/

https://www.hhs.gov/hipaa/for-professionals/privacy/index.html

https://www.ibm.com/products/supply-chain-intelligence-suite/food-trust

https://www.investopedia.com/10-biggest-blockchain-companies-5213784

Stocks 101: The Basics of Investing in the Stock Market

Posted on by phoffman@channelchek.com

Need-to-Know for Those Starting to Dip Their Dough into the Stock Market

Maybe you’ve saved a little and know you ought to invest, or maybe school is finally out and you have time and a few dollars to build your future, but you don’t think you know enough about the world of stock market investing. It’s easy to feel overwhelmed by the abundance of information? It’s a big decision with many mysteries and unknowns for both newcomers, and veterans. This article aims to remove much of the mystery for new investors so you can be more confident in building a portfolio that can enhance your life plans.

Whether you become interested in small-cap stocks, growth stocks, or even IPOs, understanding key concepts such as valuing a stock, risk tolerance, investment goals, investment style, risk management, and portfolio strategy is crucial. Let’s dive in!

Set Investment Goals

Clearly defining your investment goals is essential so you can make decisions after comparing them to those goals. Are you investing for retirement, saving for a down payment on a house, or aiming for short-term gains? Your goals will influence the investment strategies you use. For example, if you’re investing for retirement and have decades of working years left, it may mean to buy and mostly hold for a long period stocks that have more potential given a long time horizon. This wouldn’t totally exclude mature companies with large market capitalizations but may include far more small and microcap opportunities than someone that is just a few years from retirement. If you are closer to retirement and don’t have as long for the growth to play out, the strategy may be to invest in large companies with stable dividends. If they throw off enough income, then an allocation of more speculative growth opportunities may make sense. This portfolio portion can allow for further growth.

Define Your Risk Tolerance

Before swimming in the deep end of investing, it’s important to assess your risk tolerance. Ask yourself how comfortable you are with potential fluctuations in stock prices. Small-cap stocks and microcaps, which represent companies with smaller market value, often offer greater growth potential, but they also come with increased volatility. Growth stocks, however, are known for their potential high returns over time, of course this could come with the cost of more volatility (sharp price moves) than established “blue-chip” stocks. Knowing your risk tolerance, or uneasiness with losing, or riding out drawdowns, versus gaining more than the potential loss (risk/reward tolerance) will help you make investment decisions aligned with your comfort level.

Determine Your Investment Style

After assessing your risk tolerance and setting goals, determine your investment style. Some investors prefer a more hands-on approach, engaging in frequent trading and closely monitoring stock market trends and evaluating stocks through websites like Channelchek. Others may prefer a more passive approach, investing in broad-based index funds or exchange-traded funds (ETFs) that provide diversification across various stocks. Understanding your investment style will help shape your overall investment strategy.

Minimizing Risk

Investing inherently involves risk, but there are strategies to help minimize potential losses. One approach is to conduct thorough research on companies you’re considering for investment. This includes analyzing company-sponsored research, equity research reports, and equity analysis provided by reputable sources. Understanding the financial health, competitive advantages, and growth prospects of a company can help you make informed investment decisions.

Developing an Investment Portfolio Strategy

Diversification is considered key when it comes to building an investment portfolio. Investing in a variety of stocks across different sectors and market capitalizations, including small-cap stocks and growth stocks, can help spread risk and potentially increase returns. Consider allocating a portion of your portfolio to IPOs if you have a higher risk appetite. However, it’s important to exercise caution as IPOs can be volatile shortly after their public debut.

Stay Informed

Keeping up with investment news is vital for any investor. Stay updated on market trends, company announcements, and economic indicators that may impact the stock market. Many financial news outlets provide lists of “stocks to watch” or provide insights into market trends. Regularly reviewing investment news and equity research can help you stay informed, make timely investment decisions, and expose you to opportunities you may not have discovered otherwise.

Take Away

Knowing it is time to start building an investment portfolio is a good first step. Now may be the when you should implement, especially if you have a long road ahead of you and financial security is important. It will require careful consideration of your risk tolerance, investment goals, investment style, risk management techniques, and portfolio strategy. Be prepared to conduct research, analyze equity reports, and stay informed about market developments. Investing is ordinarily long-term, patience, discipline, and a well-structured portfolio are key to achieving your financial objectives.

Paul Hoffman

Managing Editor, Channelchek

What Investors in Stocks Can Learn from Index Investors

Posted on by phoffman@channelchek.com

Why Aggregate Portfolio Return is More Important than Any Single Holding

Have you ever agonized over a stock in your portfolio that is not performing as you had hoped? While it’s the nature of investing to not bat 1000, it can be hard not to think of the decision to have bought it as a mistake. It probably isn’t. Here is a better way to look at it that uses a recent example (June 1, 2023).

On the first day of June, investors in the Nasdaq 100 (NDX) found themselves up 1.17%. That’s a decent run in one day, and since they are focused on the indexed fund that they are invested in as one investment (not 100), they are content and confident.

But what if they owned the underlying 100 stocks in the fund instead? They might be kicking themselves for having bought Lucid (LCID), or 22 other holdings that are down. Using Lucid as an example, it is lower by 15.6% (June 1); the day before it closed at $7.76, and it is only worth $6.55 today.

Ouch? Or no big deal?

The overall blend of the portfolio is up, yet at the same time, 23 holdings are down – no big deal – this is the way portfolio investing works. In fact ten of the stocks in the NDX declined by more than the 1.17% the overall portfolio is up. Most index fund investors just look at one number and don’t look under the hood for reasons to feel remorse (or glee).

Aggregate Return

There are many reasons investors, even professional financial advisors, avoid building a portfolio with individual stocks, but choose index funds. One is not taking responsibility. If you own, or if an investment manager buys a mix of stocks that are in total up a respectable amount, yet some are underperformers, laggards and drags on the overall portfolio performance, there is a feeling of responsibility for the holdings that are down, the dollar amount lost, and the drag on return that is staring them in the face possibly causing sleepless nights.

On this one day, almost 25% of the Nasdaq 100 was down while the index was up 1.17%. The biggest gainer, PDD Holdings (PDD), is only up by half the percentage of LCID’s is selloff. Yet those looking at the aggregate return and not individual return are feeling mighty good about themselves. And that’s good.

If you hold a portfolio of stocks and did your research, whether it be fundamental analysis, technical analysis, industry trends, etc., and understand why every stock is in your portfolio, you could easily be better off if you learn not to agonize over losers. The returns in most of the last five years in index funds have come because of the weighting of the stocks that have gained, not by having more winners. It has become normal for an index that is up on the year to have been carried by just a dozen or so stocks that are in the mix.

Don’t Undermine Your Portfolio

Investors can negatively impact their performance by focusing too much on one stock. When this happens, they can make bad decisions, some of these decisions might be pain-related, others ego, either way, rational decisions are based on investment probabilities, not human emotions, or overthinking; these can ruin good decisions that would have led to improved returns.

Other investors undermine their portfolio differently, by not wanting the responsibility. They buy the index, and they are done – its out of their hands. If average returns are their goal, they’ve succeeded. Or if they are a financial professional and separating themselves from responsibility is the objective, index funds allow them to blame “the market”; it isn’t their fault – they have succeeded.

If an investor can overcome both of these, they can manage their own holdings and be as or more content than an index fund investor. If they follow good portfolio management strategies including, diversification, analysis, research, etc., and then mainly focus on aggregate return, they can make bette decisions and lose less sleep. Individual stocks don’t matter as much when you are purposeful when choosing holdings. Most large indexed funds aren’t purposeful, they aren’t intended to be investments, there makeup is formulaic and meant to mimic the market, not provide stellar returns.  

Take Away

No investor bats 1000. Even top portfolios may have more losers than winners, the key is to have bigger winners and not overreact or over focus on a few holdings. For investors, a portfolio of individual companies can lead to more mental highs and lows as each stock is a personal decision with great expectations. Avoid this by thinking differently. If those one or two stocks don’t perform as expected, think of all the down stocks in all the index funds that the owners aren’t even paying attention to. All these investors are looking at is one number, aggregate return on all the holdings. Maybe you should too.

Paul Hoffman

Managing Editor, Channelchek

Source

Nasdaq Market Activity

Demystifying Enterprise Value: Unlocking Opportunities in the Stock Market

Posted on by phoffman@channelchek.com

Why Some Investors Evaluate a Stock Using Enterprise Value vs. Market Cap

Stock selection between different companies is always an apples to oranges comparison – even when the companies are in the same industry. But uncovering comparative value among the universe of stocks and other investment options is fundamental to successful investing. So successful stock market investors must sift for certain criteria, these filters are often financial measures. While data such as Earnings Per Share and P/E ratio get a  lot of attention, other metrics may help investors sort and filter to create their watch list, as some companies move toward the investor’s buy list. One of these is Enterprise Value in comparison to Market Capitalization.

Understanding Enterprise Value

Enterprise value (EV) is the total value of a company, defined in terms of its financing. It includes the current market capitalization (share price x shares outstanding) and compares it to the cost to pay off debt, then adds in asset values. The below calculation results in establishing  the company’s enterprise value, indicating what one might think should be the minimum needed to buy the company.

EV=Market Cap+Debt-Cash

The result can be thought of as the potential cost to acquire a business based on the company’s capital structure. As a concept, enterprise value gives you a realistic starting point for what one would need to spend to acquire a public company outright.  In reality, it typically takes a premium to EV for an acquisition offer to be accepted.

Trading Below Enterprise Value

When a company is trading below its enterprise value, it suggests that the market is valuing the company at a price lower than what its underlying assets would be worth if sold separately. In some circumstances, This situation presents investors with potential opportunities and indicates that further research and investigation may be prudent.

A popular example of a company that has traded below EV, or less than the net of its assets and debt, is Apple. The company has had on its books massive amounts of cash, along with longer-term assets, the value less any debt is higher than the market cap (Outstanding Shares x Price Per Share). 

Looking for Potential Buys

There are times when it may be worth considering an investment in a company that is trading below its enterprise value:

Temporary Market Pessimism: Companies may experience short-term setbacks, negative market sentiment, or sector-wide pessimism that leads to their stock price trading below enterprise value. It is important to assess whether the company’s fundamental strengths remain intact despite these challenges. If the negative sentiment appears temporary and the company is expected to rebound, it could be a window of opportunity.

Mispricing and Market Inefficiencies: The stock market is less than perfectly efficient, and mispricings do occur. Investors who identify stocks trading below enterprise value due to market inefficiencies can potentially capitalize on these pricing discrepancies. The investor may have to roll up their sleeves to do more analysis to determine whether the undervaluation is based on actual fundamental weaknesses or if it is a result of temporary market inefficiencies.

Asset-Rich Companies: Companies with significant tangible or intangible assets, such as real estate, patents, or intellectual property, may trade below enterprise value. Investors may find these stocks attractive as the underlying assets can provide a margin of safety and potential upside. Assessing the value and potential monetization of these assets is crucial before considering an investment.

In the case of Apple above, cash is easier to evaluate than real estate, patents, or other assets.

Considering Sellling

While stocks trading below enterprise value can present attractive opportunities, there are circumstances when it may be wise to consider selling.

Fundamental Deterioration: If a company’s underlying financials are weakening, for example, declining sales, increasing debt levels, or increased costs of doing business could indicate a problem. It is important to evaluate whether the company’s operational challenges are likely to persist, as this could impact its ability to sustain value.

Industry Decline or Structural Issues: Some companies trade below enterprise value due to broader industry decline or structural issues specific to the company. If the industry’s prospects are exoeriencing prolonged weakening, or the company faces inherent challenges that limit its growth potential, it may be prudent to sell the stock, even if it appears undervalued based on enterprise value alone.

Take Away

Understanding enterprise value and using it while sifting through opportunities could help bring stocks to the surface that one may not have considered.  

Using EV as an evaluation tool is not a slam dunk, if investing was that easy we’d all be wealthier. However it is a good starting point to isolate stocks and then evaluate why they may be trading below EV. Is it warranted, is it unwarranted?

Let Channelchek be your data source for small and microcap stocks, many of which can be found to be trading below enterprise value. Sign-up for a no-cost account and gain access to information to over 6,000 less talked about companies as well as insightful daily emails.

Paul Hoffman

Managing Editor, Channelchek

Sources

https://www.investopedia.com/terms/e/enterprisevalue.asp

Solid Evidence a Recession is Unlikely this Year

Posted on by phoffman@channelchek.com

Reliable Data, Not Emotions, are Pointing to a Growing U.S. Economy

In roughly one month, we will be halfway through 2023. While many point to the Fed’s pace of tightening and the downward sloping yield curve, as a reason to run around like Chicken Little warning of a coming recession, a fresh read of the economic tea leaves tells a different story. Just today, May 23, the PMI Output Index (PMI) rose to its highest reading in over a year. Home sales figures were also reported to show that new homes in May sold at the highest rate in over a year. These are both reliable leading indicators that point to growth in both services and manufacturing.

U.S. Composite PMI Output Index

Business activity in the U.S. increased to a 13-month high in May due in large part to strong growth in the services sector. This is a reliable indication that economic expansion has growing momentum. Despite the negative talk of those that are concerned that the Fed has lifted interest rates closer to historical norms and that the yield curve is still inverted, in part due to Covid era Fed yield-curve-control, the numbers suggest less caution might be warranted.

S&P Global said on Tuesday (May 23) its flash U.S. Composite PMI Output Index, which tracks the manufacturing and services sectors, rose to a reading of 54.5 this month. It indicates the highest level since April 2022 and is up from a reading of 53.4 in April. A reading above 50 indicates growth, this is the fourth consecutive month it has been above 50. The consensus among economists was only 52.6.

Home Sales

One sector that is directly impacted by interest rates is real estate. However, new home sales rose in April, this is a clear sign that prospective buyers are making deals with builders.

New homes in April were sold at a seasonally-adjusted annual rate of 683,000, Its the highest rate since March 2022. The April data represents a 4.1% gain from March’s revised rate of 656,000,. The report was from the Census and Department of Housing and Urban Development and was reported Tuesday May 23. Economists had expected new home sales to decline to 670,000 from a March rate of 683,000. It was the largest month-over-month increase since December 2022.

Leading Indicators

PMI is forward-looking as it surveys purchasing managers’ expectations and intentions for the coming months. By capturing their sentiment on future orders, production plans, and hiring intentions, PMI offers insights into economic trends that have yet to be reflected in other after-the-fact indicators.

Home sales are considered a leading indicator because they can serve as a measure of other needs and broader economic trends. Home sales have a significant impact on related sectors, such as construction, home improvement, finance, and consumer spending. Changes in home sales can influence economic activity and indicate shifts in consumer confidence, employment levels, and overall economic health.

While many economic reports offer rear-view mirror data, these reports are true indicators of business behavior as it plans for future expectations, and consumer behavior as it is confident that it will have the resources available to purchase and outfit a new home.

The upbeat reports prompted the Atlanta Federal Reserve to raise its second-quarter gross domestic product estimate to a 2.9% annualized rate from a 2.6% pace. The economy grew at a 1.1% rate in the first quarter.

Take Away

Many economists are negative about the economic outlook later this year. Market participants have been positioning themselves with the notion that there may be a late year recession. Is the notion misguided? Recent data suggests there may be buying opportunities for those willing to go against the tide of pundits preaching recession.

No one has a crystal ball. In good markets and bad, there is no replacement for good research before you put on a position, and then for as long as the position remains in your portfolio.

Channelchek is a great resource for information to follow the companies not likely being reported in traditional outlets. Turn to this online free resource as you evaluate small and microcap stocks.

Paul Hoffman

Managing Editor, Channelchek

Sources

World Economic Outlook

Barron’s (May 23, 2023)

Reuters (May 23, 2023)

Investing in Futures Contracts: What Beginners Should Know

Posted on by phoffman@channelchek.com

Basics for Individuals Looking to Use Futures in Investing

Should you use futures in investing your portfolio? Futures trading can be an exciting and potentially lucrative investment opportunity for those who are willing to assume the risks involved. The contracts allow investors to trade a wide range of assets, from commodities like oil and gold to financial instruments like stock indices and currencies. Below we’ll explore what futures trading is, what types of assets are traded in the futures market, the advantages and disadvantages of futures trading, and what beginners should know about trading platforms and the Chicago Mercantile Exchange (CME).

Background

Futures were originally designed to allow buyers and sellers of raw materials to lock in a price and know their future costs to avoid being impacted by factors affecting the commodity’s price, like weather. The market later grew to help other businesses, such as utilities and airlines, hedge against unknown fuel costs – and the products continue to expand today. Currently,  futures are being used by all manners of investors, speculators, and those that want to hedge against the risk of future cost spikes.

This has made for deep markets, the trading volume in futures contracts, is now often a multiple of the trading of the underlying physical assets. This is the case with oil futures contracts. The addition of professional and individual investors and speculators has dramatically increased trading volume. This helped make the financial products extremely liquid compared to when they just functioned as insurance against manufacturing price risk.

It is no surprise, then, that many speculators are drawn to futures trading, both for the potential of outsized profits and the ability to have exposure to assets that may otherwise not be accessible to the investor.

What is Futures Trading?

A futures contract is an agreement to buy or sell an asset at a specified price and time in the future. Futures contracts are traded on organized exchanges, such as the CME, which provide a platform for buyers and sellers to trade contracts. Unlike stocks or bonds, futures contracts are derivative products, meaning that their value is derived from the underlying asset. The underlying asset can be a physical commodity, such as gold or oil, or a financial instrument, such as a stock index or a currency.

Terms Used in Futures Trading

Before making any transaction, especially investing in futures contracts, it is critical to understand some of the most used key terms in futures trading:

Contract Size: The amount of the underlying asset covered by one futures contract.

Contract Expiration: The date when the futures contract expires.

Margin: The amount of money an investor must deposit to buy or sell a futures contract.

Settlement: The process of fulfilling the terms of a futures contract by exchanging the underlying asset or its cash value.

Types of Assets Traded in the Futures Market

As mentioned earlier, there continue to be new types of futures contracts being brought to market. The futures market offers a wide range of assets that can be traded through futures contracts. Some of the more commonly traded assets among self-directed traders include:

Commodities: Futures contracts are frequently used to trade commodities like crude oil, gold, silver, and agricultural products like wheat and corn.

Financial Instruments: Futures contracts are also used to trade financial instruments like stock indices, bonds, and currencies.

Advantages and Disadvantages of Futures Trading

Like any investment opportunity, futures trading has its advantages and disadvantages. Here are a few of the key advantages and disadvantages of investing in futures contracts:

Advantages:

Leverage: Futures contracts offer investors the ability to leverage their investment, meaning that they can control a larger amount of the underlying asset with a smaller amount of capital.

Diversification: Futures contracts provide investors with a way to diversify their portfolio by investing in a wide range of assets.

Liquidity: The futures market is highly liquid, meaning that investors can easily buy and sell contracts without impacting the market.

Disadvantages:

Risk: Futures trading is a highly speculative investment opportunity and involves significant risk. A futures position can also quickly turn against you – the high leverage could make matters worse this is because margin magnifies both profits and losses.

Complexity: Futures trading can be complex and requires a good understanding of the underlying asset and market conditions. Often there are factors that impact price movements that are well beyond the ability of an individual to account for.

Costs: Futures trading can be expensive, while commissions on future trades are very low and are charged when the position is closed, usually as low as 0.5% of the contract value, the spread between the bid and offer may be wide which could impact costs when it’s time to close out the position.

What is the CME?

The Chicago Mercantile Exchange, or The Merc is one of the largest and most well-known futures exchanges in the world. It offers a platform for trading futures contracts on a wide range of assets, including commodities, financial instruments, and currencies. The CME also provides a range of resources for investors, including market data, trading tools, and educational materials.

What Should Self-Directed Investors Look for in a Trading Platform?

Self-directed investors who are interested in trading futures contracts should look for a trading platform that doesn’t limit their growth as a trader. As such it should offer a range of broad range features and resources. Here are a few key features beginner futures traders look for:

Easy-to-use interface: Auser-friendly interface can make it easier for investors to navigate the trading platform and place trades. A complex and confusing interface can make it difficult for investors to execute trades quickly and efficiently, which could result in missed opportunities or costly mistakes. If you are currently using a platform for stock trading, see if they have ample futures capabilities. At times, comfort and familiarity navigating a platform can make all the difference.

Mobile compatibility: Many investors prefer to trade on-the-go using their mobile devices. A good trading platform should be compatible with mobile devices, allowing investors to monitor their trades and make trades from anywhere with an internet connection.

Access to market data: This would seem basic, but access to real-time market data, including price quotes, charts, and news feeds, is essential. This information can keep you looking at what is occurring now, not 20 minutes ago before a market-moving economic report was released.

Advanced order types: The ability to place advanced order types, such as stop-loss and limit orders, can help investors manage their risk and control their trades more effectively.

Educational resources: Futures trading can be complex and requires a good understanding of the underlying asset and market conditions. A good trading platform should provide investors with access to educational resources, such as articles, tutorials, and webinars, to help them learn about futures trading and stay up-to-date on market trends.

Commission and fees: Trading fees can add up quickly and eat into profits. It is important to choose a trading platform that offers competitive commission and fees, without sacrificing the quality of service or features offered.

Take Away

Investing in futures contracts has developed to include many different underlying asset types. It has also become much easier for the individual and average investor to be involved. The leverage magnifies moves, this can be a high-risk, high-reward trading experience.  

Before investing, it is important to understand the risks and benefits of futures trading, as well as the key terms and concepts used in the futures market. Choosing the right trading platform can also be crucial to success, as it can provide investors with the tools, resources, and support needed to make informed trading decisions and stay ahead of the market.

Paul Hoffman

Managing Editor Channelchek

Sources

https://www.cmegroup.com/trading/why-futures/get-started-trading-futures.html

How to Determine When a Biotech Stock Could Expect Market-Moving News

Posted on by phoffman@channelchek.com

Does the FDA Provide Information that Helps Pharmaceutical Stock Investors?

Investors with a “Stocks on the Move” or “Market Movers” window open sometimes witness a stock climb double or triple digits during a single trading day. It often turns out that it’s a drug company that just passed an FDA milestone. When this happens, these companies have the potential for large movements. The natural question investors ask is, how does one become more aware that there may be an extreme movement in a biotech, or pharmaceutical stock? For wisdom on this subject, I turned to Robert LeBoyer, the Senior Life Sciences Analyst at Noble Capital Markets. Below, cutting through many complex details and variables, is what I discovered from the veteran equity analyst.

The key is to first understand the framework of the FDA approval process. This will help an investor understand the significance of activity and even where to find key dates and imminent decision periods. Especially toward the end of the process, it is especially then when there are events that could rocket the company stock or cause it to retreat. These are PDUFA calendar deadlines and advisory panel meeting dates. Below is an outline of the process and key dates that may allow investors to position themselves to take advantage of any big jump (or even sudden decline) in a biotech’s stock price.

Understanding The FDA Approval Process

The FDA is responsible for regulating the safety and efficacy of drugs and medical devices in the United States. The review process for new drug applications falls under the legally required format called the Prescription Drug User Fee Act (PDUFA).

PDUFA requires the FDA to collect fees from drug developers to fund the review process, in exchange, the FDA has an obligation to answer the application within ten months. The PDUFA legislation has improved the process for companies seeking FDA approval helping to speed the review process. The fees collected are used to hire additional staff and overall improve the FDA’s review process. This avenue has many benefits. It accelerates the process for the companies that are seeking approval as the FDA can afford greater resources, it benefits the taxpayers as the FDA is then subsidized by those that use its service to review potential products, and it helps those with medical conditions that may benefit from a new drug or class of therapy coming to market sooner as a result of the FDA having greater resources.

The first step is pre-clinical testing in animals for indications of effectiveness and toxicity in a laboratory. If satisfactory, it clears the way for the company to submit an investigational new drug application (IND) to the FDA. The overriding goal of pre-clinical testing is to demonstrate that the product safe to then be tested in humans. The IND application outlines what the sponsor of the new drug proposes for human testing in clinical trials. Once reviewed and granted the company can move to clinical trials.

Clinical Trials

Clinical Trials are done in three phases designed to determine the drug candidate’s safety, characterization, and proof of efficacy.

Phase 1 studies (typically involves 20 to 80 people).

This phase involves testing the drug candidate on a small group of healthy volunteers to assess the drug’s safety and determine the appropriate dosage range. The primary goal is to verify safety and to identify any potential side effects.

Phase 2 studies (typically involve a few dozen to about 300 people).

This phase involves testing the drug on a larger trial group of patients that have the condition the drug is intended to treat. In this phase, the developer determines the drug’s efficacy, optimal dosage, and potential side effects. The primary goal is to assess and characterize the drug’s effectiveness in treating the targeted condition. Stocks will sometimes move on Phase 2 effiacy results.

Phase 3 studies (typically involve several hundred to about 3,000 people).

This final clinical study phase involves testing the drug on an even larger and intentionally diversified group of patients with the very condition the drug is intended to treat. These clinical trials are randomized and controlled to confirm the drug’s safety and efficacy in comparasin to existing treatments, a placebo, or both. The primary goal is to demonstrate statistically significant benefit, as defined by the trial parameters.

The announcement of Phase 3 results is a huge milestone, and by itself ordinarily impacts a stock’s price.

According to the Congressional Budget Office (CBO) only about 12 percent of drugs entering clinical trials are ultimately approved for introduction by the FDA. But it is costly; estimates of the average R&D cost per new drug range from less than $1 billion to more than $2 billion per drug. So in addition to being expensive, it’s an uncertain process – many potential drugs never make it to market. This is why full FDA approval, which isn’t automatic after a successful Phase 3 clinical trial, can create an huge upswing, even when expected.

Several things can go wrong during the three phases; these include unexpected side effects or toxicity, lack of efficacy, or failure to meet the primary endpoints of the clinical trial. The developer may even find that it is less effective than current medications. These issues can lead to delays in the approval process, additional studies, or even the termination of the drug’s development.

However, if the clinical trials are successful, the company is ready to file a New Drug Application with the FDA.

FDA Panels are experts with knowledge specific to what is being reviewed (Source: FDA)

New Drug Application (NDA)

There is a pre-NDA period, just before a new drug application is submitted to the FDA. At this time the company may seek guidance from the FDA on the new drug process.

The Submission of an NDA is the formal step that asks the FDA to consider the drug for approval to market. The FDA then has 60 days to decide whether the application gets filed for review. If the FDA files to review the NDA, an FDA review team is assigned to evaluate the sponsor’s research on the drug’s safety and effectiveness.

The FDA review includes a product label approval which includes how the drug can be used. This is very important because the drug can only be marketed within the label indications. The FDA also will inspect the facilities where the drug will be manufactured as part of the approval process.

FDA reviewers will either approve the application or instead issue a complete response letter.

PDUFA Calendar

The FDA PDUFA calendar is a schedule of dates for upcoming PDUFA decisions. These dates are important to investors in biotech and pharmaceutical companies because they represent the time period when the FDA will make a decision about a new drug application. If a drug is approved, it can eventually generate significant revenue for the company, while rejection can lead to a decline in the stock price as investors are disappointed.

Updates direct from the FDA on their calendar and meeting schedule can be subscribed to here.

Advisory Panel

In addition to PDUFA dates, there are other FDA events that can trigger movement in biotech and pharmaceutical stocks. These events include advisory committee meetings, which are meetings where a panel of experts provides recommendations to the FDA on whether to approve a drug or not. These meetings can provide insight into the FDA’s thinking and can influence the stock price.

A schedule of FDA Advisory Panel meetings can be found here.

Advisory committees make non-binding recommendations to the FDA, which generally follows the recommendations but is not legally bound to do so.

Other events that can impact the stock price include Complete Response Letters (CRLs), which are letters from the FDA that outline deficiencies in a drug application and can delay approval. Additionally, FDA inspections of manufacturing facilities can impact the stock price if there are concerns about quality control or manufacturing processes.

Take Away

Investors looking to grow their watch list to include biotech stocks that are in line to receive positive news that could drive the stock value way up or even disappointing news that would weigh on the price, could pay attention to the FDA approval process.

The process is an important tool for biotech and pharmaceutical companies, investors, and analysts. PDUFA dates represent the time when the FDA will make a decision about a new drug application, and can have a significant impact on the stock price. However, there are other FDA events that can also impact the stock price, such as advisory committee meetings, CRLs, and manufacturing facility inspections. It is helpful to stay informed about these events to make knowledgeable investment decisions in the biotech and pharmaceutical industry.

Paul Hoffman

Managing Editor, Channelchek

Sources

https://www.fda.gov/advisory-committees/advisory-committee-calendar/april-28-2023-meeting-oncologic-drugs-advisory-committee-meeting-announcement-04282023

https://www.fda.gov/drugs/information-consumers-and-patients-drugs/fdas-drug-review-process-continued#:~:text=Phase%201%20studies%20(typically%20involve,application%20(NDA)%20is%20submitted.

https://www.fda.gov/about-fda/fda-track-agency-wide-program-performance/fda-track-pdufa-meeting-management#subscribe

Can You Prepare for Hyperinflation?

Posted on by phoffman@channelchek.com

Hyperinflation, Can Investors Protect Themselves?

Inflation in Argentina so far in 2023 is running at 126.4%. Meanwhile, its GDP has declined by 3.1%. This certainly meets the definition of hyperinflation. Can this situation occur in the U.S. economy? Hyperinflation is when prices of goods and services in the economy run up rapidly; at the same time, it causes the value of the nation’s currency to fall rapidly. It’s a devastating phenomenon that has serious consequences for businesses, investors, and households. Below we explore the causes of hyperinflation, its effects on the economy, and some ways to protect investable assets against it.

Causes of Hyperinflation

Hyperinflation can be caused by a variety of factors, but one ingredient that is most common is excessive money printing by the country’s central bank. When a central bank allows excessive cash in circulation, especially if it is during a period of low or negative growth, natural economic forces that occur when there is an abundance of currency chasing the same or fewer goods, serves to drive up prices and down currency values. This inflation can quickly spiral out of control, leading to hyperinflation. Other causes could include shortages of goods or services driving prices up as demand outstrips available supply.

Effects on the Economy

Excessive inflation is not good for anyone that holds the impacted currency. Businesses can command higher prices, but they will also be paying higher prices to run their business and receiving payment with notes with far less purchasing power. This is because hyperinflation increases costs for labor and raw materials, weighing down profit margins. Less obvious, but certainly adding to the hardship, is that businesses may have trouble securing financing and loans during hyperinflation; this can limit their ability to function or grow.

For households and individuals, hyperinflation also rapidly decreases purchasing power, as prices for goods and services jump up. This lowers living standards in the country as people are forced to pay more for the same goods and services. Additionally, hyperinflation can lead to a loss of confidence in the currency. Behavior including the belief that items should be purchased now because they will be more expensive tomorrow leads to hoarding and other actions that create shortages and drives up prices even further.

How Some Prepare for Hyperinflation

Hyperinflation is rare, yet, once the wheels start turning, such as they did in Venezuela in 2016, or Germany in 1923, it is important for businesses and individuals to take steps to prepare for the possibility. Here are ways that people have prepared for excessive inflation in their native currency.

Diversify Your Investments: While some believe it is always prudent to stay widely diversified, it may offer even more protection when the economy goes through the turmoil of excessive inflation. Preparing in this way means spreading your investments across a variety of asset classes, such as stocks, bonds, real estate, and commodities. This will help by avoiding any one particular asset class that gets hit hard. Keep in mind, stocks are often a good hedge against moderate inflation, and precious metals have historically been looked to for protection in times of extreme inflation. Earnings of companies that export are not expected to suffer as much as importers.

Hold Some Assets Denominated in Other Currencies: This can include established digital currencies, foreign stocks, bonds, that are not denominated in your own home currency. By holding assets denominated in other currencies, you can protect yourself from its devaluation versus others.

Invest in Hard Assets: Hard assets, such as gold and silver, land, and even tools can be a good way to protect yourself or your business from hyperinflation. These assets have intrinsic value and can retain their value even if the currency they are denominated in loses value. Remember that if inflation remains, it is likely to cost more in the coming months for the same piece of office equipment that helps your business run more efficiently.

Cryptocurrencies: Keeping within the guidelines of diversification, more established tokens such as bitcoin and ether are considered by some to help protect from hyperinflation. A word of caution, cryptocurrencies have little history against currency devaluation and inflation. The theory however is these digital currencies are decentralized and not subject to the same inflationary pressures as fiat currencies.

Take Away

In 2018 inflation in Venezuela exceeded 1,000,000%, proving, when the recipe for higher prices is in place, the unimaginable can happen.  

While there is no consumer or investor that can proactively impact a rising price freight train, if hyperinflation is expected, there are steps one can take to reduce the negative impacts. These financial steps can be as simple as buying things today that you expect to need later, and more substantially diversifying your portfolio toward hard assets, companies that export to countries not experiencing inflation, and even bonds with either short maturities or an inflation factor as part of the return.

Paul Hoffman

Managing Editor, Channelchek

Sources

https://www.nasdaq.com/articles/argentina-inflation-seen-at-126.4-in-2023-central-bank-poll-shows

https://www.pbs.org/wgbh/commandingheights/shared/minitext/ess_germanhyperinflation.html#:~:text=In%201923%2C%20at%20the%20most,surprise%20by%20the%20financial%20tornado.

https://www.theatlantic.com/business/archive/2012/03/the-hyperinflation-hype-why-the-us-can-never-be-weimar/254715/