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Carvana’s Equity Is Worth Zero
The following analysis and commentary is from the most recent Short Seller’s Journal. In the context of the stock market going “full idiot” right now, CVNA’s share price has been squeezed up to an absurd valuation. My rationale for shorting CVNA is that the equity is a bagel. You can learn more about this newsletter here: Short Seller’s Journal Information.
CVNA reported its Q2 numbers on Wednesday (July 19th) along with announcing a debt restructuring and sale of equity to raise up to $1.3 billion. I’ll briefly review the financials. Net sales of $2.9 billion (retail, wholesale, other) were down 23.7% YoY and up slightly from Q1 2023. The Company managed to slash costs enough to generate a small operating profit in Q2, though after interest costs net income before taxes was negative $105 million. A big improvement over the 2022 Q2 NIBT of -$438 million. However, I suspect particularly with used car prices heading south quickly that Q3 for CVNA will show lower revenues and a much wider operating/NIBT loss.
The nuts and bolts behind the revenue numbers are ugly. Retail units sold dropped 35% YoY. The wholesale operations acquired in the ADESA transaction are small compared to retail so I’ll leave that out. The operations generated $509mm in cash but that’s because CVNA continues to sell more vehicles than it replaces. Inventory has declined from $1.87 billion at year-end 2022 to $1.3 billion at the end of Q2. This is not a sustainable business model. CVNA slashed operating costs substantially but cut headcount by more than 4,000 and slashing its marketing expenditures.
Fundamentally CVNA’s business is shrinking. This will get worse in Q3 as both the Company and Autonation (see below) warned that used car prices will fall further in Q3. In all likelihood, the average cost per vehicle in CVNA’s inventory is not much lower that the price it can realize in the market now.
CVNA also announced a debt restructuring that will involve exchanging $5.6 billion in debt that matures between October 2025 and May 2030 for $4.3 billion of new notes that mature in December 2028 through June 2031. The new notes have a PIK feature for up to two years (pay-in-kind, meaning the Company can pay the interest expense for up to two years in more bonds rather than cash). However, the PIK feature comes at a steep cost. The existing debt carries an average coupon roughly of 8.9%. One tranche of the new notes has a PIK coupon rate of 12% and 9% cash thereafter while a second note tranche carries a PIK coupon of 13% and 11% cash thereafter and the third new tranche has a 14% PIK and 9% cash thereafter.
The weighted average cost of the PIK debt payments is roughly 13.1%. If CVNA chooses to PIK the notes for the first two years, after two years there will be roughly $5.6 billion in notes outstanding ($4.3 billion compounded 13.18% over two years). Not really a debt restruc-turing, is it? In conjunction with the debt restructuring CVNA will try to sell up to $1 billion in new shares via a series of ATM transactions (at-the-market in which the brokerages representing CVNA will intermittently dump new shares on the open market).
The mainstream media stated that the debt deal will save CVNA $430 million in interest expense over the next two years. But per the math I showed above, CVNA’s total cost of interest rises. To be sure, the deal will save CVNA from making cash coupon payments on the debt for two years. But from an accounting standpoint, it will still have to recognize the PIK payments as a GAAP interest expense.
This deal doesn’t help CVNA financially at all except short term from a liquidity standpoint. In fact, S&P said it views the restructuring as “distressed and tantamount to default.” The debt ratings were put on negative watch. The next downgrade would assign a “D” for “default” rating. Given that new notes will be secured by a 1st priority lien on all of the assets that are not used to secure the Ally Financial inventory financing facility. The notes will have a 2nd lien on those assets (used cars).
CVNA’s balance sheet is thus still a mess, with what ultimately will be $5.6 billion in debt outstanding on a company that continues to generate operating losses and whose business is shrinking. Website visits are down nearly 40% YoY and the number of vehicles listed online is down almost 50%. In the context of the debt “restructuring” and the need to raise a lot more cash, CVNA is on life support. This Company in my view will hit bankruptcy sometime in the next 12-18 months.
The stock is another matter. The stock price has shot up from under $4 at the end of 2022 to as high as the $55 close on Wednesday. Make no mistake, this was 100% the product of a short-squeeze and a call option gamma squeeze. The short interest at the end of June was over 50% of the float. It was 43% of the float on June 15th. This stock is such an obvious short that any entity that can secure a borrow and finance it is short the stock. On Thursday the stock dropped 16.2% and another 2.4% on Friday.
Carvana’s market cap is absurdly disconnected from reality, notwithstanding the fact that the stock is intrinsically worthless, it does not even have “optionality” value. Autonation (reviewed below) is still extremely overvalued even after Friday’s cliff dive. But here’s a comparison of the two companies:
Carvana is probably one of the most obvious shorts on the NYSE, which is why the short interest at times exceeds 50% of the float. The put options have a high amount of implied volatility but if you go out far enough and play OTM puts, it will pay off eventually. Short calls to take advantage of the high option premium is probably the best way to express a short view on CVNA. If you can obtain, finance and hold onto borrowed shares, you will never have to cover because ultimately the shares will be canceled in a bankruptcy restructuring or liquidation scenario.
The “Echo Bubble” May Be Popping – Short Autonation
The following commentary and short idea is from the latest issue of my Short Seller’s Journal. This is a weekly newsletter with economic and general market analysis as well as my favorite short ideas based on in-depth fundamental analysis. You can learn about the newsletter here: Short Seller’s Journal information.
I truly believe that what we’re seeing in the stock market is the anticipation of the Fed abandoning rate hikes after this month’s and possibly cutting rates starting in early 2024. In addition, I think the market actually believes in Santa Claus in the form of a soft landing or even no recession. Ironically, the economy is already recessing – just look at the latest retail sales report. The expression of the market’s view is in the format of hedge fund algo gamma squeezing, rabid short-squeezing and drooling retail idiots throwing everything they have at tech stocks and risky call options.
Investors are heaving cash at tech stocks. According to data from EPFR (EFPR is a provider of fund flows and asset allocations data), another $1.9 billion flowed into tech funds for the week ended July 19. This is cash from individuals – high net worth/retail – who in my opinion are being led to a slaughter. This was the pattern after the tech bubble popped. After the first part of the bloodbath, retail doubled down on their tech bets and lost even more money in the next big leg down in the stock market. In addition, per the NAAIM (National Association of Active Investment Managers), active managers’ exposure to the stock market has soared to 99%, up from less than 20% in October 2022 and the highest since November 2020.
Consumer spending is also slowing. A Fed survey released on July 16th showed that credit applications for any type of credit declined to its lowest level since October 2020. The overall rejection rate of credit applications increased to 21.8%, the highest level since June 2018. The rejection rate for mortgage purchase applications rose to 13.2% – i.e. 13.2 applications per 100 are denied. Auto loan rejections are at an all-time high. Based on real retail sales and credit applications, the consumer is in a recession.
But there’s more. It would appear that a lot of consumers are squeezed for cash. A report on July 7th showed that Google searches on the term “pawn shop near me” started rising in January and hit an all-time high at the beginning of July. This is further evidence that households are getting squeezed by the depletion of savings and persistently high inflation for necessities.
The Philly Fed index remained at -13.5 in July, which was its level in June. Wall Street was forecasting -10. This is the 10th straight month of contraction. The index continues to reflect the contraction of manufacturing activity in the Philly Fed region. The new orders index further declined to -15 from -11 in June. This is probably the most telling indicator of manufacturing activity and wholesale/retail demand for manufactured goods.
Retail sales rose 0.2% in June from May, missing the Street forecast of 0.5%, and were up just 1.49% YoY vs Wall Street’s consensus of 1.6%. There’s not a lot to dissect in the report but I’ll note that using just the CPI measured inflation real retail sales (“unit” sales) declined in June on a monthly basis and declined even more on a YoY basis. If the Shadowstats number for inflation is used, the decline in real retail sales is deepe. The Redbook index of same-store sales declined 0.2% vs the same week in 2022. It was the second week in a row of YoY weekly declines. Of course, ex-inflation the decline is larger. Put a fork in the consumer.
Existing home sales for June were down 3.3% from May on a SAAR basis (seasonally adjusted, annualized rate) and down 18.9% YoY from June 2022. Not seasonally adjusted existings fell 17.2% from June 2022. I think that metric is a cleaner indicator of the demand for used homes because it isn’t cluttered with statistical hocus-pocus. The Chief Goon for the NAR, Larry Yun, remarked that falling sales are a product of low inventory. Yet, new home-builders are sitting on a record amount of inventory with plenty of supply of finished new homes nationally. Moreover, the months’ supply of used listings rose to 3.1 months, up from a 52-week low of 2.6 in March, 2.7 in 2022 and 2.3 in 2021.
It would be more accurate for Yun to just admit that the average potential homebuyer just can not afford to buy a home if they are renting or move-up to a better home if they own their home (more like, rent it from the bank). And now that the Fed loosened up financial conditions in the banking system to prop up regional banks, home prices are quite “sticky,” further exacerbating low affordability conditions. In June the average price of a used home was $410k, up from $361k in January 2023 and up 3.3% from May. $410k is the second highest average price ever for used homes.
I have been pounding the table on Autonation (AN – $150) as short for a while. I reiterated that call two weeks ago as the stock was cresting at $180. AN’s share price was hammered for $21.81 (12.33%) Friday despite posting the customary earnings “beat.” Revenues basically were flat YoY for the quarter but the gross profit on new and used vehicle sales declined due to heavy price discounting. Operating income dropped 3.7% and net income plunged 27.6%. Part of the reason for the hit to net income is the Company’s interest expense more than doubled YoY (floorplan financing, which is short term-based rates and general debt expenses).
Management said that it expects profit margins to continue falling as the Company attempts to maintain unit sales via discounting, with fewer vehicles sold at the sticker price. Though new vehicle revenue increased by $345mm YoY (12%), this was more than offset by the $432mm decline in used car revenue (17%). Autonation further said that it expects used car prices to fall further in Q3 (on average, used car prices are down 17% YTD). Inventory continues to balloon as sales slow. Currently new vehicle inventory is at 26 days of supply, up from 19 days at the end of 2022. Used vehicle supply is 35 days vs 31 days at 2022 year-end. Lower inventory turns also hurts profit margins.
With AN’s market cap nearly doubling since the beginning of October 2022 in the face of deteriorating business fundamentals, it was just a matter of time before the stock chart served up a daily candlestick like the one on Friday. I mentioned in last week’s issue that I was looking at August or October puts. I ended up buying October $155’s on Monday and added to the position on Tuesday nearly a dollar lower in price. Little did I expect that the puts would be at the money this quickly. I sold half Friday morning but I plan to hold the rest for a while. If the stock trades higher from the current level, I’ll likely invest in some even longer-dated, further OTM puts. I see no reason why this stock shouldn’t retrace back to $95 or lower by year-end.
Gold And Silver Prices: Anticipating Another Price Rise in 2023
I wrote the following commentary for Kinesis Money – you can read the source article here: Kinesis Money Blog
I argue that a new bull cycle for the precious metals sector began in late October 2022 – when it appears that gold and silver had bottomed and turned higher, after a downtrend since August 2020.
I believe that the precious metals sector will soon begin a cyclical, sustained move higher that will see gold surpass $2,000 and silver trade up to $30, for starters.
The chart above shows the GDX mining stock ETF from the beginning of 2020 to the present. GDX does well to illustrate my point because often stocks will begin to price in an event or trend in the market ahead of the other areas in the financial markets.
Since hitting that post-August 2020 low at the end of October 2022, the mining stocks have traded in a steady uptrend for nearly nine months in a trend pattern characterised by higher highs and higher lows – a pattern that often occurs when a market is a bull trend.
This conclusion is based on several signals that have marked the bottom of similar painful cyclical precious metals sector declines in the past. In no particular order of significance, the indicators to which I refer include sentiment, trading action, demand for physical silver and gold and, last but not least, fundamentals.
As precious metals sector investors understand, investor sentiment toward the precious metals sector could affectionately be described as approaching the bottom of the Mariana Trench (the lowest point on the ocean floor). Last week, the Hulbert Gold Newsletter Sentiment Index hit one of its most negative readings in the last several years. This index has been a remarkably reliable contrarian indicator, meaning that extreme negative readings are associated with impending large moves higher in the sector.
Retail investor investing patterns also tend to be another accurate contrarian signal. Precious metals mining stock funds have been experiencing large outflows, likely primarily coming from retail investors. Based on historical patterns, the majority of retail investors are prone to chasing momentum in either direction but don’t usually introduce their cash until the late stages of a move.
Based on the flow of funds data, over the past four weeks, a record amount of retail funds for that time period has flooded into tech funds, individual tech stocks and single-stock call options. Conversely, volume in the gold and silver mining stocks until the last week or so has been quite low, particularly in the highly speculative, micro-cap junior exploration stocks.
The demand for physical gold and silver has been well-publicised and the record rate of gold buying in 2022 by eastern hemisphere central banks has continued into 2023. As reported in Bloomberg, according to the World Gold Council, China “officially” increased its gold holdings for the eighth month in a row in June.
These central banks are increasingly repatriating their gold bars to further ensure the security of their gold holdings. This is bullish because it removes the repatriated bars from the LBMA and COMEX custodial vaults, which thereby reduces the visible supply of gold. This, in turn, reduces the amount of bars available for hypothecation activities like lending and leasing.
From the Reuters article:
“One central bank, quoted anonymously, said: ‘We did have it (gold) held in London… but now we’ve transferred it back to own country to hold as a safe haven asset and to keep it safe.’”
The fundamentals that support higher valuation levels for gold, silver and mining stocks are as strong, if not stronger than at any time in the last 22 years. Despite the Fed’s “hawkish” rhetoric, real interest rates are still negative, if you use a realistic measure for inflation rather than the “highly massaged” government CPI.
The Fed has made very little progress in reducing its balance sheet. Also, the amount of debt issued and outstanding by the U.S. government, while existentially beyond management, is about to go much higher. This is highly bearish for the dollar and bullish for precious metals.
The US dollar has declined 13% from its recent high in September 2022. Since the beginning of July, the dollar appears to have gone into free fall. This could reflect the fact that the market is anticipating a “pivot” by the Fed on its rhetorically hawkish monetary policy.
This also reflects the anticipation that the Fed could start printing more money to support the financial system. This is primarily why I believe that the precious metals sector has begun a new bull move in which gold is poised to make a run for a new all-time high and silver could run up to over $30.
I publish the Mining Stock Journal newsletter. Each issue features original market commentary and updates of the stocks I recommend. With junior project development mining companies I search for ideas that are not well-covered yet by brokerages and other newsletter publishers. With the larger cap, producing miners I recommend, I look for companies that I believe are undervalued relative to their peers and which offer the opportunity to earn “alpha.” You can learn more about my newsletter here: Mining Stock Journal information
Fed Monetary Policy, The Economy and Gold, Silver And Mining Stocks
I believe that the cyclical down trend that began in August 2020 may be exhausted. I further believe that the precious metals sector will soon begin a sustained move higher that will see gold go well over $2,000 and silver trade up to $30, for starters. I am comfortable making this assertion, sans a specific timing prediction, based on several signals that have marked the bottom of similar painful cyclical precious metals sector declines in the past. Not in any order of emphatic significance, the indicators to which I’m referring include sentiment, trading action, demand for physical silver and gold, technicals and, last but not least, fundamentals – That’s an excerpt from the intro to the latest issue of my Mining Stock Journal
Craig Hemke invited me on to his Thursday podcast to discuss the Fed’s monetary policy, the current state of the economy and U.S. dollar and, of course, the precious metals sector. Certainly to describe the Fed’s policy stance as “hawkish” is a joke and I explain why:
I also publish the Short Seller’s Journal. The latest run higher in stocks will soon end. At current levels using standard valuation metrics, stocks are as overvalued now relative to fundamentals as at any time in history. I offer fundamentals-based short ideas in my newsletter. You can learn more about it here: Short Seller’s Journal
Gold and Silver: The Bottom Is Likely In, A Move Higher Coming
With rumors flying and heavy anticipation that the BRICs alliance along with the Asian/ Eurasian allied bloc of countries will unveil a gold-backed digital currency in August, several subscribers have asked my opinion on whether or not it will happen and, if so, what are the implications. First, I think the inevitability that a gold-backed currency will be issued by the growing, economic/geostrategic alliance of countries is certain. The timing of this move, however, is questionable. I further pursue this discussion in the latest issue of my Mining Stock Journal.
In this bi-weekly Arcadia Economics episode, Chris and I discuss our visit to Fortuna Silver’s new Seguela Mine operation in Cote d’Ivoire, Africa as well as my view that the precious metals sector is percolating for a big move higher: Gold, Silver Surge Higher On Low Inflation Reports
Diarrhea Of The MSM Keyboard Is An Indicator Gold And Silver Are Bottoming
For the most part, it usually seems like the mainstream media just ignores gold and silver, and has little interest in even covering the precious metals at all.
Whether that’s due to a desire to keep people focused on the stock market, or just a lack of interest, is a fair debate. However, as Dave Kranzler points out in today’s episode of the show, on the rare occasions when they do mention gold or silver (typically to say how useless they are), it’s often been a sign that a bottom is in.
So in today’s show, Dave talks about a recent article (keyboard diarrhea) that suggested how gold has no purpose and isn’t an ‘exciting’ asset. He addresses some of the assertions put forth in the piece, and why they’re not accurate in terms of how people would be wise to view the gold market. And he also raises the proposition that seeing this type of coverage could be indicative that a bottom is in for the current cycle.
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Many mining stocks are in a wide uptrend channel that began in late September 2022. The latest sell-off in the sector has taken them to the bottom of the sector. I review a larger cap producer that fits this description and that also has a fat dividend yield while we wait for the next bull move in the latest issue of my Mining Stock Journal
Brief Summary Of My Latest Short: EXP World Holdings
The following commentary is an excerpt from the June 18th issue of my short selling newsletter. EXPI is an MLM dressed in drag as competitor to Redfin and Zillow. Regardless, with sales activity in the housing market declining and with nothing in sight that will reverse that trend, the revenue pie for these “digital” realtors is shrinking – fast. You can learn more about my newsletter here: Short Seller’s Journal
I started looking at EXPI as a short in late August 2022 when the stock was trading at $20. It sold down to $10 before I could finish evaluating it. It traded back up to $18 by February 2023 and then quickly sold off back down to $10. It started another levitation up to $15 by late May, then shot up to $21 a week ago Friday when it replaced Heska Corp in the S&P 600 small cap index.
EXPI provides cloud-based residential real estate brokerage services. It boasts that it hosts over 88,000 real estate brokers globally. It has lavish equity award programs, including the ability to receive 5% of commissions in stock at a 10% discount and $400 in stock for each agent recruited to join the company after that agent closes its first transaction. That latter aspect makes it similar to a multi-level marketing operation and thus the operations closely resemble a pyramid scheme. One of the big problems with this model is that stock awards are often dumped into the market as soon as the can be registered. The compensation model is heavily dilutive. As an example, at the end of 2019 the Company had 60.6 million shares outstanding. But by the end Q1 2023 there were 174.5 million shares outstanding.
As you can imagine, revenues grew quickly between 2020 and the end of 2022. Revenues for the full-year 2022 were $4.5 billion. But in Q1 2023 revenues declined by quite a bit, falling to $850 million YoY from $1 billion (a 15% decline). The Company incurred a $1.6mm operating loss vs $4.4 million of net income in Q1 2022. $26mm of SG&A in Q1 was non-cash stock compensation. Thus, the operations generated $56 million in cash but this was down nearly 50% YoY from Q1 2022. In other words, heavy share dilution continues but the actual economics of the business model is deteriorating quickly.
The company’s market cap of $2.93 billion is far too high for a company that is barely producing any operating income. To give you an idea of how quickly the profitability is deteriorating, 81% of its 2022 operating income was generated in Q1. On a trailing 12 month basis, the company generated a small operating loss. Let’s look at the market cap to “cash flow from operations” metric instead. The Company is trading at 20x what might be operating income if it didn’t hand out a heavy dose of stock as compensation. But then again, if it didn’t attract brokers with the allure of stock, it might not have a business to operate. Regardless, a 20x multiple of what tenuously might be regarded as operating income is an insane multiple, especially for a company in a highly cyclical business.
This stock is going to crater back to $10 again. Since getting inserted into the SPX 600 small cap index, volume has dried up precipitously. The MACD is rolling over from its highest level since early November 2021, which is when the housing market and homebuilder stocks rolled over. The RSI suggests the potential for a rapid, steep retrace of the breakaway gap. I think this stock will be back at $10 before the end of August. I started to accumulate July $17.50 puts last week. If the stock doesn’t drop below $17 by the end of next week, I’ll move the position out to August and add to it. I don’t think it’s unreasonable to expect a triple in the August $17.50’s.
Something Interesting Could Be Unfolding In Gold And Silver
Note: The commentary below was published by Kinesis Money. It also was the opening commentary in my latest issue of the Mining Stock Journal.
In my opinion, the precious metals sector is beginning to “sniff” the prospects of a likely reversal in the Fed’s monetary stance, possibly before the end of 2023.
Recently, I presented the argument that, based on the set-up between the bank net short position and the hedge fund net long position in COMEX gold and silver futures, the prices of gold and silver likely were headed lower, with help from the COMEX banks, based on previous cyclical open expansion and contraction patterns.
Well, it seems that this cycle may have been interrupted and that interruption may be coming from the physical gold and silver markets.
Gold and silver to rise in Q3 2023?
The chart above is a 1-yr daily of the gold price. The price has bounced off the uptrend line I sketched. The RSI & MACD (not shown) are both extremely oversold and have turned higher.
Please see the rest of this commentary here: Latest Gold & Silver Market Developments: Into Q3 2023
The Stock Market’s Echo Bubble
The following commentary is an excerpt from the latest issue of my Short Seller’s Journal. The newsletter is published weekly. It reviews the weekly stock market action, economic numbers and some short ideas. Tesla is reviewed weekly. You can learn more about this newsletter here: Short Seller’s Journal
The run higher in the Nasdaq has become insane. It’s an “echo bubble” from the bubble that popped in November 2021. The Fed fueled this when it juiced its balance sheet by $400B in order to bail out uninsured depositors at the regional banks. But don’t be mistaken, Citigroup was feeding hungrily at the Fed trough as well. That $400B is now being drained. That along with the liquidity sucked out of the financial system should lead to another Nasdaq crash sometime this summer and possibly usher in the next round of QE.
All of the classic “blow off top” indicators are flashing again. The Vix is back to where it was in November 2021, when the bear market began with the Nasdaq heading south:
The chart above compares the Vix “fear” indicator with the Nasdaq composite index over the last two years. Based on the Vix, which measures equity call premiums vs put premiums, investors are as fearless as they were in November 2021.
The put/call ratio is at its lowest level since March 2022:
The previous two times over the last two years that the put/call ratio was as low as it is now, it preceded a big sell-off in the stock market.
The negative divergence between the Nasdaq and its advance/decline line is astonishing:
The advance/decline line is calculated by taking the difference between the number of advancing stocks net of the number of declining stocks. When the ratio is declining, it indicates that there’s more stocks selling off than moving higher. This chart is another to illustrate that the run in the Nasdaq has been driven by just a handful of the largest cap stocks in the Nasdaq composite.
Finally, last week a weekly record of $8.5 billion flowed into tech mutual funds.
The stock market – particularly the Nasdaq – is showing all of the classic signs that a speculative blow-off top is forming. In addition to the above indicators, the RSI and MACD momentum indicators for the Nasdaq are in nose-bleed overbought territory. The Nasdaq also has outperformed the Dow and the SPX by a considerable amount since mid-May. The momentum indicators for the SOXX index, which is subject to the highest degree of retail speculative frenzy, are extremely overbought and the parabolic rise in the SOXX has been accompanied by rapidly declining volume. It’s impossible to know when the rug will be pulled out from under the market, but in my opinion the sell-off will be sharp and swift.
Extraordinary Bullish Conditions For Gold (A Couple Of Stock Picks Too)
Banking crises, debt ceiling crisis, a U.S. recession (yes, real economic activity is contracting particularly in housing, manufacturing and consumer spending) and geopolitical crises – the fundamental conditions supporting considerably higher gold and silver prices strengthen by the day. Bill Powers invited me on to his Mining Stock Education podcast to discuss the prospects for the precious metals. I also offer a couple of my favorite current mining stock ideas.
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If you are looking for mining stock ideas that should outperform the sector, especially junior microcap ideas, I publish the Mining Stock Journal, which now offers Stripe as a payment alternative to Paypal