Welcome to another edition of What mattered. Newsflow, earnings, IPOs – the money game was firing on all cylinders this week. Global markets posted healthy gains as they digested positives coming in various shapes and forms. Lets get right to it.
Crypto goes legit – Coinbase IPO
Ever since Coinbase had filed its S-1, it seemed like everyone had marked their calendars for this day. Coinbase became the first every cryptocurrency company to go public in the U.S by listing on one of the biggest equities market in the world.
Because of the nature of cryptocurrency markets, Coinbase also has few parallels in traditional finance. It acts as a broker, such as Charles Schwab; holds assets in custody for large clients, similar to State Street; operates an exchange; and sometimes acts as a market maker.
The direct listing
Coinbase chose the direct listing route, which is quite different from a traditional IPO (investment banks, syndicate, anchor investors, book building and more). In a direct listing, no new shares are created, just the outstanding shares are sold with no underwriters involved. So $COIN sold shares to the public without any intermediaries involved, with a reference price (an anchor, if you will) of $250. The markets weren’t taking any of it, and the stock opened at $381 giving $COIN a hefty valuation of $76bn. Right from the get-go.
Why is it special?
The IPO created a lot of buzz in the markets. First, because a public listing gives a sheen of credibility to crypto. This is the watershed moment as they say, when crypto goes legit. A part of the excitement could have been due to the scarcity value of the stock. A chance to get your hands on the first ever pure-play listed cryptocurrency business. We will take it.
What also makes it special is the visibility it provides you to the underlying growth in the crypto-world. Coinbase had 6.1 million monthly transacting users (MTU’s) and 7000 institutions transacting on its platform and has seen phenomenal growth over the last three years. It has more than $200bn in assets, which is almost equal to 11% of the total crypto market capitalisation.
As you can see, the company just smoked it in Q1 2021. Almost 88% of that revenue is via transaction fees, the fee you pay when you transact on its exchange. Its take-rate (percentage of total transaction value it takes as fees) for retail transactions is substantially higher than institutional accounts (on average its close to 1.4% for retail vs around 40-50 basis points for institutional accounts).
It says lower fees for institutions acts as an incentive for them to trade and add much needed liquidity to the crypto markets. The higher bid-ask and volatility, and perhaps its established brand allows it to charge a higher rate to its retail customers. You would pay $1.4 on a $100 purchase with your eyes closed, if it means your coins are safe. Its closeness to regulators and better security also gives it an edge against other crypto platforms. I believe as competition picks up, that spread on the fee is likely to converge towards a retail broker like commission.
Why buy $COIN
Would you buy $COIN? It looks like a play on the overall crypto-ecosystem. As cryptocurrencies gain more acceptance, more users and more institutions sign up and transact thus helping Coinbase grow. Then, isn’t crypto like a Veblen good? The higher the price, the more attractive it gets. For institutions who are not allowed to buy bitcoin directly, this could be a nice way to get some indirect crypto exposure. I heard Cathy Wood at ARK bought a ton of shares ($352million stake in 2 days). Others might follow soon.
Coinbase’s future is closely tethered to the success and failure of bitcoin at the moment. This might change as the company introduces more products and grows its other revenue streams. It provides coin storage, custodial and staking services which are only a tiny fraction of its overall revenues. So at present, it’s an exchange with a custody and coin storage arm built in. It aims to become a vertically integrated crypto market-place providing brokerage, custodian and payment services. The competition is bound to get tougher as Robinhood is nipping at its heels already with its own crypto trading platform. But this stock is the one to follow – add to watchlist please.
Banking on the recovery – Exceptional Bank Q1 earnings
All major banks in the U.S delivered exceptional Q1 results, beating analyst expectations by a wide margin. Lower default rates, a record government stimulus and a hyperactive dealmaking and underwriting markets allowed banks in the U.S to not just quash the bearish scenarios last year but also position themselves for the economic recovery currently underway in the U.S.
My pick of the lot was Morgan Stanley. Despite the $1bn loss in its prime brokerage division from the Archegos saga, the bank delivered exceptional results with net revenues increasing 60% to $15.7bn with IB surging 128% and FICC revenues up 44%. Another reason I like this stock is its diversified revenue base – it now runs an integrated unit with E-Trade and Eaton Vance acquisitions that has allowed its wealth management division to drive further growth and get to a scale where it can compete with global integrated financial firms.
J.P Morgan and Goldman Sachs look attractive as well, with the former more exposed to the core banking activities and run by an exceptional management and CEO. The money centre divisions showed almost no growth, which goes to show that lending has not picked up yet. Lower defaults allowed banks to release their loan-loss reserves thus boosting their net incomes all around. The effect of a steeper yield curve could show up in Q2 results with better net interest margins.
Banks are like a levered play on economic growth. Big money centre banks like BAML and JPM look attractive (even though they’re up 20+% YTD). MS and GS could outperform if capital markets activity stays strong. The XLF ETF is a nice way to play the economic recovery in the U.S, although some might say that the optimistic scenarios are already priced in. I’m keeping an eye out for a correction to get in.
In other news
The overall global markets showed no signs of weakness with FTSE 100 crossing the 7000 mark this week. The reopening play looks like gathering steam here. The markets in the UK look quite interesting from an investment POV with so much going on that it might need a separate post altogether (coming soon).
ETF of the week
Now time for our ETF of the week! This time around we have SOXX, the U.S semiconductor ETF. Unfortunately, this does not give you exposure to other important semiconductor businesses like TSMC and Infineon.
Semiconductor shortages have been in the news forever now and supply is expected to be constrained for some time to come. Meanwhile, the demand for semis (via autos, electronics and other tech products) has come back soaring. How much pricing power this imbalance would give the suppliers is hard to estimate, but the market is expecting the growth in semiconductor demand to continue. Here’s how the top holdings look like:
Have a great week ahead. I’ll be back with more interesting market updates and business news.
The Atomic Investor