Stock of the week: how to trade US labour market strength
Two things caught our eye at the end of last week, firstly, the huge jump in US Non-Farm Payrolls for July and the sharp drop in the unemployment rate, and secondly, the news that short sellers have ramped up their bets against a well-known fund manager’s flagship ETF fund, the Ark innovation fund. As we will describe below, these two events are linked, and they can be key to deciding what to trade at the start of a new week.
Solid US labour market as the world learns to live with Covid
The US NFP report was solid: 943k jobs were added and the unemployment rate fell to its lowest level since the start of the pandemic at 5.4%. This data suggests that the labour shortage that had threatened to disrupt the economic recovery in the US is coming to an end, and the 380k jobs created in the restaurant, leisure and hospitality industries suggests that the US economy is back to life. While some will argue that the Delta variant is a serious concern, we believe that the rapid spread of this variant around the US is manageable. In fact, the silver lining to the resurgence of Covid in the era of vaccines is that the US, and other parts of the world, are learning to live with Covid, which is not going away any time soon. More and more businesses in the US are mandating vaccination before returning to work in offices, and many are enforcing mask-wearing rules. This is another sign that the economic recovery is likely to continue at pace into Q3 and beyond.
Super tech fund falls from grace
So, what does a strong labour market and rising wages along with a hiring spree for US restaurants have to do with the rise of short sellers in Cathie Woods’ flagship Ark Innovation Fund? This fund was one of the top performers in the time of Covid, and in 2020 it made returns of 150%. The fund is tech-heavy and has a particular love for Tesla and Bitcoin. Its fortunes have changed recently, and although the value of the fund has only fallen by 1% so far this year, there has been a surge in interest to short the Ark Innovation Fund, suggesting that many investors see further declines on the horizon. A record 12% of Ark stocks are being shorted by investors betting on a further decline in the fund. This is the equivalent of a bet of $2.3bn against the fund, versus a $40mn bet against the fund last year. Part of this huge short interest is that some investors will have run out of patience with the fund, expecting it to perform to the same high standard that it did in 2020. However, the sheer size of the wave of interest against Ark means that stock traders should take note.
Ark: the big names that could be at risk of further downside
The fund is made of names such as Tesla, Roku, the TV streaming platform, Teladoc – an online doctors’ service, Shopify – the ecommerce platform, and Zoom. It’s share price plunged another 3.5% at the end of last week, after it was fined $85mn by US regulators for lying about its end-to-end encryption claims. However, that is merely one of Zoom’s many woes, the better than expected jobs figure and the public announcements from many large US companies that employees will be returning to offices around the US, has started to weigh on the video communication platform; added to this, its share price has not recovered from the vaccination discovery last November.
Tesla – the technical picture starts to weaken
Some investors believe that there is no further upside for the likes of Zoom and Roku, which also fell 2.5% at the end of last week. For some investors, the tech sector looks overpriced and bloated and most likely in bubble territory. Those who have made bets against Cathie Wood are expecting further declines in these stocks, as highlighted by the fact that outflows from the fund have been growing week on week in the past month. Perhaps the decline in Tesla in recent weeks is a key sign of the fall from grace experienced by the Ark fund. Tesla was down nearly 2% on Friday, and it had a prime position in the fund. This stock is now at an interesting junction. It is close to the 38.2% Fibonacci retracement of the October 2020 – January 2021 uptrend, which is a major support level. If Tesla’s stock price breaches the $696 level, then it would be a deeply bearish development that would open the way to further declines to around $635 – the 50% retracement level, as you can see in the chart below.
What next for Ark’s flagship fund?
As for the Ark Innovation Fund, short selling is a risky strategy and not one that we advocate for part time traders, however, the sheer number of short sellers betting against its future success suggests to us that the reflation trade is back on, and at its most basic that means that some of the key tech names that performed well last year (excluding the likes of Amazon, Apple and Microsoft) could underperform compared with gains for financials and energy stocks in the coming weeks.