As Fed Chair Jay Powell reminded us yesterday, the damage done to the U.S. economy over the last couple of months is huge and threatens to be long-lasting, even if the result of the lifting of restrictions is smoother than expected. Given that, buying the hardest-hit stocks now in expectation of a rapid bounce back before too long looks somewhat optimistic, maybe even a little naïve. It makes more sense to look for things that will actually derive benefit from the societal changes wrought by the pandemic, but that presents a problem.
Everybody else is thinking the same way, and in most cases, have already bought those stocks.
Obvious potential beneficiaries, such as Netflix (NFLX) for example, or Amazon (AMZN) and Shopify (SHOP), are already at or near their all-time highs. As I said a couple of months ago, it made no sense for Amazon, as a potential beneficiary of everyone staying home, to be down 20%. At those levels, AMZN was a bargain, but now, not so much:
Even stocks that potentially stand to benefit in one way but face risks to other parts of their business, such as Microsoft (MSFT), are now at levels that suggest that the last three months never really happened. Most of the value has already been snapped up.
As mush as we want to find value if we are looking forward to more normal times, that is proving increasingly difficult to do. The stocks like those mentioned above deserve to be where they are; it was the selloff that was illogical, not the recovery. However, if you are looking for value at this point, you’ve missed the boat. You need to look beyond the obvious beneficiaries from what has occurred.
One answer may be a recent Nasdaq listing, DraftKings (DKNG).
Lest you are unaware, DraftKings started out as a fantasy sports site but branched out into sports betting as a few states began to legalize that activity, starting with New Jersey in 2018. There are now fourteen states that allow online sports betting in some form or another. Some, like New Jersey, have multiple privately run sports books and tax transactions, while some others run a state monopoly on the game.
There are two main reasons why DKNG can be considered value.
First, simple timing. Their listing (because of an unusual situation, it wasn’t an IPO in the traditional sense) came at a time when sports of all kinds around the world had been suspended. That obviously makes the stock a riskier proposition than it might have been, but it also meant that the initial pricing was significantly lower than it might have been too.
As you can see from the chart above, DKNG has performed well since then. That has been helped by the fact that some big players, most notably Disney (DIS) and George Soros’s Quantum fund, have been revealed as investors. So why are they putting money into a business that has nothing right now off which to make money?
To understand that, you have to think beyond the end of the pandemic. The most important factor in the future growth of DraftKings is largely out of the company’s hands. They can only fulfill their potential if more states legalize online gambling, and that looks a lot more likely now than it did a year or so ago.
Unlike the Federal government, states are required to balance their budgets, and they have all been hit hard by the lockdown and subsequent economic collapse. The Federal government will cover some of that shortfall, but there has already been some talk of cutting off that aid and even allowing states to declare bankruptcy. That may be political posturing that won’t really amount to very much, but when all is said and done, a lot of states will face a big hole in their finances.
Online sports gambling is an easy way to fill that hole.
As of now, all but five U.S. states already have legalized gambling through a lottery, and one of those, Nevada, more than makes up for it in other ways. The moral and practical arguments against the state profiting from gambling went by the wayside a long time ago. Legalizing sports wagers is just the next step in a logical process, or at least will look very much like that to states starved of revenue from other sources.
So, as bad as the timing of DraftKings’ listing may look on the surface, it could actually be an enormous opportunity for investors, even after the immediate gains in the stock. The benefit they derive from the current situation is not as obvious as it is for a company like AMZN, but in terms of potential for future growth, it may be a lot bigger. DKNG will release earnings tomorrow, so more cautious investors may want to wait for that release before doing anything, but from a long-term perspective, the stock certainly looks like a good bet.
*Disclaimer: The author is currently long DKNG and intends to stay that way.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
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Martin Tillier
Martin Tillier spent years working in the Foreign Exchange market, which required an in-depth understanding of both the world’s markets and psychology and techniques of traders. In 2002, Martin left the markets, moved to the U.S., and opened a successful wine store, but the lure of the financial world proved too strong, leading Martin to join a major firm as financial advisor.
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