This article is excerpted from Tom Yeung’s Moonshot Investor newsletter. To make sure you don’t miss any of Tom’s potential 100x picks, subscribe to his mailing list here.
Inflationary Fears Ripple Through Markets
In October, I wrote that the Fed’s bond-buying taper would put an end to the crypto party.
“As we enter the later innings of the crypto bull run, it’s time to selectively take profits on some of the picks you’ve seen on the Moonshot Investor.” – Oct. 27 Moonshot Newsletter.
U.S. inflation has since turned into a tornado at a tailgate.
Yesterday, Bitcoin (CCC:BTC-USD) briefly fell back below $60,000, sending crypto markets into a tailspin. Meme stocks have similarly suffered: Ocugen (NASDAQ:OCGN) and Cassava Sciences (NASDAQ:SAVA) are down 50% and 30% respectively over the past two weeks.
Yet some market sectors seem immune to the storm. Electric vehicle stocks from Rivian (NASDAQ:RIVN) to Lucid (NASDAQ:LCID) are rocketing ahead, while agriculture and industrials are shining too. It’s an odd combination where both value and growth investors are partying like it’s 1999.
As markets continue to swoon, investors need to shift into other inflation-resistant companies. Happily, that involves making some interesting Moonshot bets.
The Riskiest Bets of 2022
Two weeks ago, I introduced readers to a handful of stocks that could go 10x in the coming year. It turns out these companies are the polar opposite of high-growth names like Amazon (NASDAQ:AMZN) and Tesla (NASDAQ:TSLA), which can take a half-decade or more to rise that high.
Instead, these Moonshot bets are the ugly ducklings of the investment world — highly leveraged, money-losing firms where even the slightest bit of good news can send shares soaring 2x… 5x… or even 10x. No one ever bought Gamestop (NYSE:GME) thinking it would magically revolutionize American malls.
Characteristics of 10x stocks (Nov. 9 newsletter)
Meme stock mania has only highlighted these risks. Consider the two companies I predicted could be the next GME/AMC back in August. Even though these companies had elements of meme stocks, Redditors were never guaranteed to bite (though they happily did with BGFV).
We got winners… we got losers
But two things ring true about these Moonshot bets.
Firstly, they’re driven by company-specific (i.e., non-systemic) risk. Popular Reddit Moonshots like iBio (NYSEAMERICAN:IBIO) and GameStop go so far as to have negative betas, making them unintuitively volatility-reducing for typical portfolios.
Secondly, these wagers are rewarding, at least on average. Academic studies have repeatedly shown that smaller, riskier stocks tend to outperform their larger peers.
In other words, fortune favors the bold. Low Moonshot “win rates” are offset by massive potential upside and low market correlation. They’re an invaluable addition to a well-diversified portfolio, particularly in times of market volatility.
Trillion Energy (TCFF)
Experienced Moonshot investors will immediately sense the potential of natural gas firm Trillion Energy (OTCMKTS:TCFF).
- Insider Purchasing. CFO David Michael Thompson has been accumulating shares at the 15-cent level.
- Cheap Price. At current values, markets price TCFF at one-third of its proven reserves.
- Strong Momentum. Rising energy prices have pushed stocks of fossil fuel companies to pre-pandemic levels.
A deeper look shows why investors should get excited.
Trillion Energy is about as risky as natural gas plays come. The firm owns a 49% stake in the SASB Field in the Black Sea, a geopolitical area with all the stability of a two-legged stool. The Turkish Lira has fallen 26% this year alone. And Russia-EU tensions have turned natural gas pipelines into real-life bargaining chips.
Yet Trillion Energy has the elements of a 5x stock in 2022 (and perhaps 10x in the longer term). Currently, the company sits on $75 million of proven and probable reserves, with another estimated $83 million in six prospective wells.
Gas prices have also helped. The Turkish government hiked natural gas prices by another 47% to 48% for industries and power plants in October. And with BOTAS gas prices typically $5 higher than U.S. Henry Hub, these increases will be magnified on Trillion’s bottom line.
Armstrong Flooring (AFI)
Turnaround investors will likely remember Lumber Liquidators (NYSE:LL), a company that excelled at massaging Wall Street’s expectations. In 2013, the flooring company’s share price rose from $20 to $110 after a series of unexpected earnings beats and guidance rises. CEO Rob Lynch would later resign in disgrace as the stock crashed back to earth.
Armstrong Flooring (NYSE:AFI), on the other hand, is cut from a different cloth.
AFI was spun off from parent company Armstrong World (NYSE:AWI) in 2016 to separate the underperforming division. It was a prescient move by owners ValueAct: AFI would subsequently lose nearly 90% of its value. Unlike Lumber Liquidators, AFI failed to achieve significant “beat and raise” quarters to shore up its stock.
But as meme stock investors know, there is such a thing as “too cheap.” And at $2.15, AFI now looks like a loaded spring ready to go 2x… and potentially 5x in 2022.
A Temporary Setback
AFI has suffered under the indignities most U.S. businesses now know far too well: inflation and supply chain disruption. Q3 losses widened from $11.3 million to $31 million, even as topline revenue increased.
But much like other Moonshot bets, the company’s high leverage (operating leverage, in this case) means minor improvements will send the stock soaring. All else equal, a 10% revenue increase would double gross profits and instantly turn the company net-positive.
CEO Michel Vermette has also been making the right moves. The 20-year veteran from Mohawk Industries (NYSE:MHK) has been busy cutting lower-margin products, selling off assets and streamlining the business.
It’s still uncertain if the company will succeed. But with one of the cheapest valuations in the business, AFI is a bet that many investors should be willing to make.
The Glass Cannons (or Spaceships?) of the Investment World
Any experienced RPG gamer will know the term “Glass Cannon” — a description of characters with high damage output and very low health. It’s an ideal style for the impatient player: fights are either won or lost in the first 10 seconds (If only Twitter (NYSE:TWTR) feuds played out that way).
Investors can also use the term to describe 10x investing.
Last week, I wrote about five stocks set to 10x in 2022. There were plenty of caveats, of course. Stocks that could go up 10x in a year are far riskier than traditional high-growth companies, and many of them will go to zero. Essentially, they’re the glass cannons of the investing world.
It was only a matter of time until one of them blew up.
Taking One for the Team
On Friday, Team (NYSE:TISI) announced Q3 results. Revenues were flat, while gross margins declined from 29.1% to 24.5% on inflationary pressures.
Ordinarily, these results would have elicited a shrug from Wall Street. Much of the unexpected decline was from Hurricane Ida — a storm that shut down vast sections of Gulf Coast refining. Wall Street analysts expect TISI’s gross margins to recover by 2022.
But Team isn’t a typical stock. With extraordinarily high operating and financial leverage, that news was enough to send the stock down 45% in a single trading session.
The company now looks much like AMC Entertainment (NYSE:AMC) did back in early 2020 — piling on expensive leverage in the hopes of staying afloat long enough for good times to resume. Whether TISI can do so or not will make the difference between a 10x stock and a “zero.”
Do Entrepreneurs Take More Investment Risks?
Imagine that an immortal Ancient Mesopotamian managed to save $100,000 per day since the start of human civilization. Six thousand years later, they would have accumulated $207 billion, assuming it was all held as cash.
But to reach Elon Musk’s reported wealth of $270 billion, they would need to wait another 1,800 years!
So how do modern-day business owners generate so much wealth? Simple. Entrepreneurs from Elon Musk to Bill Gates generally put their eggs all in one basket: their own companies.
The high-risk, high-reward strategy pays off handsomely for some — witness the massive crypto fortunes that hundreds of amateur investors have accumulated. But it also opens people to losing their entire net worth in a single trade, as one unlucky Shanghai investor found after putting his life savings into SQUID token.
As markets continue their taper tantrum, investors should rebalance to reduce any single outsized position. No matter what Fed Chairman Jerome Powell does next, no one can afford a lost decade — let alone 1,800 years — for their portfolio to catch back up.
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On the date of publication, Tom Yeung did not have (either directly or indirectly) any positions in the securities mentioned in this article.
Tom Yeung, CFA, is a registered investment advisor on a mission to bring simplicity to the world of investing.