Will the AI infrastructure frenzy backfire, and is the Trump trade coming to an end?

Countdown to the U.S. election, the answer will be revealed on the 6th if there are no abnormalities, while the Federal Reserve's interest rate meeting will be held on the 7th. The National People's Congress Standing Committee meeting will conclude at 8 AM Beijing time on the 8th. The earnings season for U.S. stocks has just passed its peak, and this week is packed with macro events.

Where exactly is the current market trading, and how should we view it moving forward? This article aims to clarify the current situation from the perspective of not making predictions but considering responses under different scenarios. The first question is to take a look at market trading:

1. U.S. Economic Data "Slightly Cool"

Last week, in addition to the earnings reports from major companies, another very important macro data was released—the non-farm employment data for October. The results showed that only 12,000 new non-farm jobs were added in October, and the previous month's data was revised down from 250,000 to 220,000. However, since some institutions in the market had even predicted negative growth, the originally poor numbers didn't seem so bad.

The main reasons for the poor performance are the temporary unemployment caused by two hurricanes in the southeastern U.S. and the Boeing employees' strike. These correspond to three major sectors with relatively poor employment:

a. Manufacturing: The transportation equipment manufacturing sector lost 44,000 jobs in a single month. Excluding transportation, manufacturing did not show significant differences from the previous month.

b. Leisure and Hospitality: The leisure and hospitality sector had a net increase of 40,000 non-farm jobs in September, but in October, it turned into a net decrease of 4,000 jobs. The reduction mainly came from the restaurant sector, which is employment-intensive, followed by accommodation jobs, with little change in other areas.

c. Professional and Business Services: The temporary workers in this sector are still experiencing significant losses, possibly related to natural disasters. However, the real employment issues seem to be in computer system design and other professional services, or there may be special circumstances affecting October, but it also reveals signs of weakening.

In addition to the above three sectors, another area where non-farm job growth has slowed is in education and healthcare, particularly in hospitals and nursing jobs within healthcare, as well as slow growth in social assistance, leading to a noticeable decline in month-over-month increases.

Overall, it can be seen that the employment data for October was significantly affected by special weather and strike events, making its visibility much poorer. However, excluding the impacted sectors, there is still a gradual slowdown trend in overall employment. At least, this report indicates that as the current core driving factor of the economy (from the perspectives of total employment and per capita wages creating residents' domestic purchasing power), the employment numbers are not something to be pleased about.

At the same time, from the perspective of leading economic indicators, the ISM Manufacturing PMI data for October is also not good, with the output index falling to 46.2, while the price index has risen, and there is marginal improvement in new orders. However, the overall PMI still dropped by 0.7 percentage points to 46.5, indicating no improvement in manufacturing.

Conversely, let's take a look at the recently released U.S. economic data for the third quarter: the annualized year-on-year GDP growth for the U.S. in the third quarter was 2.8%, which is noticeably lower than the 3% expectation previously seen by Dolphin.

Among the three main drivers of economic growth—residential demand, corporate demand (investment), and government investment/consumption—strong residential demand is quite evident, while corporate demand was relatively weak this quarter.

In terms of the two main types of corporate demand—inventory replenishment and fixed asset investment—this quarter saw weak inventory replenishment actions, instead focusing on digesting the high inventory growth from the second quarter, with a contribution of $54 billion in inventory replenishment turning into a $11 billion drag from inventory reduction.

As for fixed asset investment, the marginal weakness mainly lies in the expansion of infrastructure such as factories, while corporate investments have started to shift towards information processing, industrial, and communication equipment. Additionally, the previously strong corporate investments in intellectual property (IP) have seen little growth for two consecutive quarters this year. This seems to corroborate with the "frenzy" surrounding AI servers from U.S. tech giants that Dolphin has observed.

2. Is the Trump trade really that steadfast?

Last week, several economic data points were relatively weak. Normally, the dollar and U.S. Treasury yields should have retreated, but last week's performance was quite remarkable—the yield on the 10-year U.S. Treasury even reached a short-term high, approaching 4.4%. At the same time, the dollar also refused to decline. Clearly, market funds seem to be casting a genuine vote for Trump's victory.

However, considering the weak economic data in October, it might be worthwhile to take a step back and think about the soaring Trump trade in the market:

a. If Trump does win, how much more upside is there for assets related to the Trump trade? At this point, how much more can one gain by getting in? At least in the context of marginally declining economic data and the current CPI environment, with the yield on the 10-year Treasury being pushed close to 4.4%, Dolphin believes there is limited short-term upside.

b. If Trump ultimately loses, these assets are bound to experience a larger pullback.

Therefore, overall, there is little significance in continuing to chase the Trump trade.

Conversely, looking at the performance of the giants during this earnings season, aside from Netflix, Google, and Amazon (which benefited from the release of profits in international retail), the overall performance of the giants has been relatively stable in terms of revenue. The giants in the third quarter are still in the phase of generating revenue from AI contributions and improving operational efficiency, while the depreciation period for original CPU and other server assets has been extended, and the depreciation of new GPU assets has not yet been fully reflected in the financial statements

Therefore, looking ahead to next year's US tech giants at this point, after a large amount of AI server depreciation comes into play next year, if there is no corresponding revenue growth to match, the pressure on the financial statements will truly manifest.

Overall, Dolphin believes that unless there is a significant stimulus from interest rate cuts (which is unlikely in the short term), the current leading tech stocks and AI in the US market do not have very good excess return opportunities.

The market's sensitive response to China's policy shift also reflects its efforts to find any potentially undervalued assets. Recently, after a continuous decline in Chinese concept assets, overseas funds' allocation to Chinese assets remains at a low level. Attention can also be paid to the subsequent policy stimulus, including the economic work conference at the end of the year, to see if Chinese assets can once again welcome a trading opportunity against deflation.

3. Portfolio Adjustment and Returns

There was no adjustment to the portfolio last week. The Alpha Dolphin portfolio's return fluctuated at -0.9%, which is in line with MSCI China (-0.9%), but better than Hang Seng Tech (-1.2%) and CSI 300 (-1.7%) as well as S&P 500 (-1.4%).

From the start of the portfolio testing (March 25, 2022) to last weekend, the absolute return of the portfolio is 66.8%, with an excess return of 75% compared to MSCI China. From the perspective of net asset value, Dolphin's initial virtual asset of 100 million USD has exceeded 169 million USD as of last weekend.

4. Individual Stock Profit and Loss Contribution

Last week, Dolphin's holdings outperformed the market returns primarily because of timely profit locking earlier, with a relatively low equity position of only 32% and a cash position of 40%, along with low drawdowns in US Treasuries and gold, which helped maintain overall returns without significant declines.

The equity assets themselves did not outperform the market. The equity asset direction mainly relied on the two well-performing giants, Amazon and Google, for slight support, but the decline of AI stocks like Micron, Uber's performance falling short of expectations, and the return of SMIC to a declining fundamental situation have all significantly dragged down equity assets.

The specific analysis of individual stock gains and losses last week is as follows:

5. Asset Portfolio Distribution

The Alpha Dolphin virtual portfolio holds a total of 14 individual stocks and equity ETFs, with a standard allocation of 3 stocks and 8 equity assets being underweight. The remainder is distributed among gold, US Treasuries, and cash in USD. As of last weekend, the asset allocation and equity asset holding weights of Alpha Dolphin are as follows:

6. Key Events This Week

This week, three macro events are truly important—the results of the U.S. election, the Federal Reserve's interest rate meeting, and the Standing Committee of the National People's Congress in China. Among these, the election is the most important, the interest rate meeting is the least important, and the extent of China's economic stimulus can to some degree determine whether there are still opportunities for Chinese concept assets for the rest of this year.

This week marks the peak of the earnings season for U.S. stocks, which has passed, mainly featuring some second-tier or niche sector performances. Specific stocks, release times, and the points of focus summarized by Dolphin are as follows: