US stocks end winning streak, bitcoin sell off continues, the rise of prediction markets and risks

Key Concepts

• Prediction Markets: Platforms where users can bet on the outcome of future events, often framed as a new asset class or a form of gambling.
• Credit Risk: The potential for consumers to overextend themselves financially through activities like sports betting and prediction markets, impacting lenders' underwriting models.
• K-Shaped Economy: A narrative describing economic recovery where different segments of the population experience vastly different outcomes, potentially exacerbated by increased financial risk for lower-income individuals.
• Yen Carry Trade: An investment strategy where investors borrow in a low-interest-rate currency (like the Japanese Yen) and invest in higher-interest-rate assets elsewhere.
• Bitcoin ETFs: Exchange-Traded Funds that track the price of Bitcoin, making it easier for traditional investors to gain exposure to the cryptocurrency.
• Holiday Shopping Season: The period encompassing Black Friday, Cyber Monday, and the lead-up to Christmas, crucial for retail sales performance.
• Omnichannel Retail: A strategy that integrates various sales and marketing channels (online, in-store, mobile) to provide a seamless customer experience.
• Agentic Shopping: A new trend where consumers use AI tools like ChatGPT for comparison shopping and decision-making.

Prediction Markets and Financial Risk

The Rise of Prediction Markets

Prediction markets, once a niche area, are experiencing a surge in popularity, attracting significant investment and major players. Platforms like Poly Market and Kelshi are drawing substantial capital. This growth raises questions about whether these markets represent a new asset class or are simply another form of gambling.

Classification and Consumer Finance Concerns

Mahir Batia, a BFA securities payments analyst, classifies prediction markets and sports betting more in the camp of "gambling and wagering" rather than an asset class. From a consumer finance perspective, the primary concern is credit risk, specifically consumers becoming overextended and losing money. This can lead to increased bankruptcies and credit delinquencies.

Impact on Credit Scores and Underwriting

Academic research and data suggest that the widespread availability of sports betting, particularly online and via mobile apps, can negatively impact consumers' credit scores and lead to higher rates of bankruptcy and delinquency. For lenders, this introduces a new risk vector into their underwriting models, which were historically built on data from a world without such readily accessible betting platforms. This could lead to a mispricing of risk as lenders may not have adequately accounted for this new consumer behavior.

Vulnerable Demographics

The most significant impact of these markets is concentrated among younger men, lower-income consumers, and subprime populations. These groups are often more vulnerable due to:

• Less income and savings: They have fewer financial buffers to fall back on.
• Less responsible credit management history: This is often why they are in the subprime tier.
• Gamified interfaces: Prediction market and gaming apps are designed to be engaging and incentivize more betting, which these populations tend to engage with more actively.

Worsening the K-Shaped Economy

The increased financial risk for lower-income individuals engaging in these markets could potentially worsen the K-shaped economy narrative. If those at the lower end of the economic spectrum are losing money due to susceptibility to advertising and incentives, it exacerbates existing economic divides.

Regulation and Lender Responsibility

While regulatory guardrails from Congress or other government entities are possible, Batia emphasizes that issuers and credit card lenders cannot wait for regulation. They must proactively monitor their portfolios, manage their credit books closely, and account for this new risk vector themselves.

Market Performance and Economic Indicators

Rocky Start to December for Stocks

The month of December began with a significant sell-off in the stock market. Major averages closed at the lows of the day, with selling pressure in Bitcoin and cryptocurrencies spilling over into the broader market. This followed a strong November, with the S&P 500 and Dow Jones Industrial Average experiencing seven consecutive up months.

Key Market Movements and Factors

• Dow Jones Industrial Average: Closed down 0.90% at the lows of the day, leading the major averages lower.
• Russell 2000: Underperformed the Dow, down 1.25%.
• Dow Jones Transports: Showed resilience, continuing its winning streak with a slight gain of 0.02%.
• 10-Year Treasury Yield: Saw a significant move of 8 basis points to the upside, the largest in three to four months. This rapid rate of change, rather than the absolute level, is often a concern for stocks.
• 30-Year Treasury Yield: Also rose by 8 basis points.
• VIX (Volatility Index): Showed only a slight increase, indicating that the market's fear gauge was not significantly elevated by the day's action.

Bank of Japan and Yen Carry Trade Influence

Chatter about the Bank of Japan potentially raising rates later in the month caused Japanese yields to soar. This, in turn, led to a sympathetic rise in U.S. bond rates as they needed to remain competitive. This event also impacted the yen carry trade. When the yen strengthens (as it did briefly overnight against the US dollar), it can lead to unwinding of these trades, affecting foreign exchange and bond markets. While the overnight move was described as a "total non-event" and a "blip" compared to the significant slide in August 2024, it highlights the interconnectedness of global financial markets.

Bitcoin and Crypto Market Slide

The slide in Bitcoin and other cryptocurrencies has been ongoing since October, preceding the weakness seen in equities.

• Bitcoin: Down 5% in the last 24 hours.
• Ether: Down 7%.
• Solana: Down 8%.
• Technical Levels: A key support level for Bitcoin is identified around $75,000, which also represents the high from a previous year. Bernstein suggests resistance could be between $70,000 to $100,000.
• Correlation with US Stocks: While US stocks and Bitcoin have shown correlation, Bitcoin's movements have been a magnified version of what has happened to US tech stocks. Bitcoin has not recovered as strongly when tech has rebounded.

Holiday Shopping Season Performance

Black Friday and Cyber Monday Expectations

The holiday shopping season is in full swing, with Cyber Monday spending expected to exceed $14 billion. Black Friday saw strong performance in young fashion, beauty, and specialty retailers, with robust store traffic at Macy's.

Retailer Performance and Sentiment

• October Lull: There was a noticeable lull in shopping sentiment and activity during October, which Corsite Research tracked.
• Renewed Impetus: The resolution of the government shutdown and stabilizing sentiment, coupled with a strong Black Friday, is expected to provide a renewed impetus for holiday shopping.
• Black Friday Sales: While store traffic was slightly down, online sales were up strongly. Overall, Black Friday was considered a good start to the holiday season.

Macy's Performance and Strategy

Macy's has been a surprise performer this year, reporting positive comparable store growth in the last quarter. Key factors contributing to its success include:

• Strong Black Friday Traffic: Consistently a winner on Black Friday.
• Investment in Stores: Improving the store environment and basics.
• Focus on Service: Investing in staffing to enhance the in-store customer experience, which is crucial for justifying its position against value channels.
• Middle Market vs. High-Income Shopper: Macy's spans both high-end (Bloomingdale's) and middle-market segments. Management commentary on which consumer segment is driving spending will be closely watched.

Inventory Management and Tariffs

Retailers generally managed their inventory well for Black Friday, with well-stocked shelves and consistent replenishment. Department stores slightly pulled back on inventory in the second quarter year-over-year. Other retailers had proactively reduced inventory earlier in the year to get ahead of potential tariffs. Solid inventory availability on Black Friday sets retailers up for a strong rest of the holiday season.

Labor Market and Staffing

Despite a tight labor market, holiday hiring is at its lowest level since Corsite began tracking it. Many retailers have not disclosed their hiring numbers, signaling a cautious approach. However, investing in service and staffing remains critical, especially for companies like Macy's, to differentiate themselves and justify their value proposition.

Digital Channels and Agentic Shopping

Digital channels are growing rapidly, with agentic AI support playing a role in sales growth. Consumers are increasingly using tools like ChatGPT for comparison shopping, gathering information, and making purchasing decisions. This makes shoppers more digitally equipped. While online experiences have traditionally been functional, there's a growing emphasis on experience, both online and in-store, with retailers offering giveaways, product launches, and creating excitement to attract customers.