Happy Friday!

📝 Focus

• Amazon on Drugs

📊 In the Markets

• Evergrande Evergone

• Walmart and Target

• German Supermarket Invasion (Aldi and Lidl)

📖 MoneyFitt Explains

🎓 Fed Minutes in Minute Detail

📝 Focus

Amazon on Drugs

Shares in CVS Health fell more than 8% on Thursday on a decision by Blue Shield of California, a huge insurer with 4.8mn customers, to drop CVS’s Caremark unit as its main pharmacy benefit manager (PBM) in favour of other companies, including Amazon and the Mark Cuban Cost Plus Drug Company. It expects to save $500mn in annual drug costs from the change. Terrified traders then sold Cigna, which also has a PBM unit, down by 6.4%. In the US, a pharmacy benefit manager (PBM) is a third-party administrator of prescription drug programmes for private and government health plans and is responsible for securing lower drug costs by negotiating with pharmacies and drug manufacturers. According to a report by the non-profit RAND Corporation, prescription drug prices in the US are significantly higher than elsewhere. Prices average 2.6 times those seen across the OECD, with the gap even larger for brand-named drugs at 3.4 times.

..... ▷ It's one of those industries that seem ripe for disruption, and that's exactly what Jeff Bezos (and Mark Cuban) are doing. Amazon only launched its own online pharmacy business, Amazon Pharmacy, in November 2020, two years after acquiring PillPack. It offers free, two-day home delivery of prescriptions to Amazon Prime subscribers as long as they have a secure pharmacy profile to manage insurance and medical information, with plans for a discount program for uninsured customers. The day it launched, the retail pharmacy sector tanked, with GoodRx down 20%; Rite Aid losing 16%, and Walgreens and CVS off 9% each. Thursday's move by Blue Shield of California to stop using CVS’s Caremark as its PBM can be seen as an escalation of the disruption of the pharmacy and entire healthcare industry, and at a minimum points to the massive potential for other cost-cutting health insurers to abandon the traditional PBM system.

..... ▷ In a 2020 interview with CNN, NYU marketing professor Scott Galloway said that the US pharmacy business is "a $400 billion market that is completely broken." He pointed to the fact that drug prices in the US are much higher than in other developed countries and that this is largely due to the market power of the middlemen that negotiate drug prices on behalf of insurers and employers, i.e. pharmacy benefit managers. Galloway argued that PBMs are "essentially rent-seekers" who take a cut of every prescription drug dispensed but do little to lower prices.

..... ▷ Even before the 2018 PillPack acquisition, Amazon had been in talks with PBMs as part of its long-term move to dominate healthcare, which Galloway says is essential for Amazon to attack to maintain growth given the enormous base effect of its existing business. Just earlier this month, Amazon rolled out Amazon Clinic, a virtual platform for users to connect with healthcare providers to treat common conditions. (Past efforts have had mixed success, such as its own telehealth service and OneMedical, the healthcare provider it bought for $3.9bn, both of which were shut down.) Just a matter of time.

📊 In the Markets

"No landing"?: Interest rates, not shares. Wall Street's main indexes closed lower, with healthcare stock losses outweighing gains in Cisco and energy shares. CVS Health tumbled 8% after news that one of California’s largest health insurers would reduce its reliance on the company (see above), dragging down the broader healthcare index by 0.8%. The S&P 500 has fallen 2.7% over the past three sessions, while, in its third day of an over 1% drop, Nasdaq has dropped 3.4%. Higher oil prices - despite China slowdown fears - lifted Exxon Mobil and Chevron. A fall in jobless claims last week signalled that the labour market remained tight, while a closer reading of the minutes from the Fed's July meeting🎓 showed most policymakers prioritising the battle against inflation, implying a "higher-for-longer" outlook to interest rates. The markets took it as bearish vs their sheep-like view of a "soft landing" (meaning: falling inflation without a recession or mass job losses) or even "no landing",... but which is actually totally consistent with it. All this pressured shares and boosted the 10-year Treasury yield to 4.3%, a 16-year high. This comes alongside US mortgage rates soaring to 21-year highs, with the average 30-year fixed-rate mortgage at 7.09%, up from 6.96% last week and the highest since the peak of 7.13% in April last year.

..... ▷ Following big-box retailer Target's strong share price performance after better-than-expected earnings (despite falling sales), you'd expect even bigger-box Walmart to do better. The world’s largest retailer beat both the profit AND sales forecasts by Wall Street's Finest AND lifted its own guidance... but the shares ended down a couple of per cent. It kept doing well last quarter as budget-conscious consumers from all income levels continued to seek out low prices amid persistent inflation. Among the differences between Walmart and Target are the product mix, which for Walmart includes far more essentials like groceries which are priced to draw in customers for all products.

German Supermarket Invasion

While on supermarkets, Germany's huge, privately-owned Aldi supermarket chain is making a continued push in the US with the acquisition of 400 Winn-Dixie and Harveys outlets in the (arguably underserved) Southeast from a bankrupt seller.

..... ▷ Aldi has seen success in Europe and the US from its highly efficient small-box format, delivering high quality and low prices and stocking few lines but with a very high proportion of private-label or own-brand items. Aldi is already bigger than its close competitor Lidl in the US, having had a head start, but it's the reverse in Europe. Sadly both German retailers remain family-owned and unlisted!

Evergrande Evergone

From the "I thought it was already bankrupt" file. China Evergrande, once the world's most indebted company and also once China's largest property developer by sales, filed for bankruptcy protection in New York on Thursday evening. It is using the Chapter 15 process for foreign companies seeking recognition of their restructuring in the US while involving more than one country and is pursuing parallel schemes in the Cayman Islands and in Hong Kong.

..... ▷ It was only in this March year that Evergrande, with more than $270bn in total liabilities, unveiled a multi-billion dollar restructuring plan to pay off its international creditors. Its collapse in 2021 sparked China's worst property market crisis on record, which, as MFM readers well know, continues to this day (viz Country Garden) and will likely have ripple effects far beyond real estate and probably China's borders as well.

..... ▷ Though the starting point was an unsustainable business model industry-wide that some have likened to a Ponzi scheme (though not exactly - see below), Evergrande's problems really began in 2020 when Beijing cracked down on excessive borrowing by property developers. This made it more difficult for Evergrande to raise money, and the company's debt load became unsustainable, eventually reaching $300 billion by the end of 2021, the year it defaulted on its debt payments (which is close but not quite the same as insolvency, a legal term that refers to the inability of a debtor to pay their debts as they become due.) And of course, prices and sales volumes started to plummet, making the problem exponentially worse... and completions (see below) fell off a cliff.

..... ▷ The Chinese property market is sometimes described as a bit like Ponzi scheme because it relies on a constant flow of new investment to keep going. Developers sell homes before they are built, using the money from those sales to finance the purchase of more land and the construction of more homes (rather than holding sales proceeds in escrow or using stage payments to finance the property itself.) This creates a self-reinforcing cycle, where new investment fuels more construction, which in turn leads to more sales powered by cheap loans and the active encouragement of cash-starved local governments. (Hence the ghost cities and Potemkin malls that have sprung up all over.) However, such a cycle is unsustainable, and it was only a matter of time before it would collapse on itself and potentially bring down many other parts of the economy.