To The Moon

In the course of Tesla’s ( $Tesla Motors(TSLA)$ ) annual shareholders’ meeting on the 13th of June, shareholders once again approved the “all or nothing” pay package deal to Tesla CEO Elon Musk. Originally granted to Musk in 2018 and struck down by the court system in Delaware – where the company is incorporated – on account of the deal being formulated by a board that didn’t seem to be wholly independent of Musk, the re-approved deal isn’t entirely out of the woods yet in terms of a potential for another legal challenge.

The deal also has the potential to significantly affect the company’s bottomline.

Breaking Down the Deal

The pay package deal awards Musk the option to be given 304 million shares at $23.33 per share. At 3.19 billion shares outstanding, the deal hands over just 0.1% of the company’s shares available to Musk, who already owns around 13% of the company’s shares. Overall, it adds virtually nothing in terms of control of the company. However, in terms of cost to the company, it’s massively significant.

As of the 19th of June, Tesla’s share price closed at $184.86, which is nearly 8 times the value of the deal value. If Elon had exercised his option in its entirety as of the 19th, the company will have to expend nearly $49.1 billion to grant him his right. Presently, the company’s Trailing Twelve Month (TTM) free cash flow stands at $1.38 billion. The company’s average cash flow position over the past three full calendar years is at $5.13 billion. In the event of the options being exercised yesterday, the company would have to commit nearly $56.2 billion in resources to purchase the stocks. That amounts to nearly 11 times the 3-year average cash flow position and 41 times the TTM cash flow position. If Musk were to exercise his right, the resulting strain on the company’s net financial reserves would be intense. In all likelihood, the company will have to finance its obligations. In the TTM, the company has issued $4.71 billion in debt. The required amount of fresh debt to be issued — absent all other purposes for issuing debt — would be nearly 12 times that.

This is precisely why many major shareholders felt obligated to say “No” to the deal; it has the potential to be a sword perpetually hanging over the company as per the will of Musk, who became a part of Tesla in 2004 by investing $6.5 million to become both its largest shareholder and the chairman of its board. Musk went on to become the CEO of the company in late 2008 after a series of departures and has received no cash salary since.

The proverbial sword is another cause for concern for institutional shareholders and associated parties such as index providers who create the basis for ETF-driven investment into the company’s stock. Tesla was inducted into the Nasdaq-100 in 2013 while it took till 2020 for the stock to be inducted in the S&P 500. The delay by the latter is generally considered to be due to the fact that the stock had long been subjected to overvaluation — and the resulting volatility — at least partially due to the stock being “memed” as being the next edge in the automotive industry. The potential for the deal being detrimental to the company’s finances at a time when the company’s global market share is steadily eroding might become grounds for institutional shareholders to seek means to pivot out of the stock into other alternatives.

“Magnificent Seven” and Investor Behaviour

Over the past year or so, investors have been increasingly fixated on a steadily-decreasing number of stocks. As a result, only a small number of stocks have been rising on the backs of rising buy-ins at the expense of nearly every other stock in the U.S. equity universe. At present, the highest-favoured stocks have been the “Magnificent Seven” of which Tesla is a part of. As of the 15th of June, this group of seven collectively accounted for $15 trillion in market capitalization, with a $2 trillion surge seen over the past two months alone. Together, the valuation equals well over half of the U.S. Gross Domestic Product in 2024.

Of the “Seven”, Tesla decidedly lies in the lower spectrum of performers. As of the 17th of June, the stock is down 25% in the Year to Date, with Wells Fargo’s analysts famously declaring nearly three months ago that the company is now “a growth company with no growth”. While it had a “first mover advantage” in the EV space, Tesla is no longer alone here and is dealing with a damaging price war with other manufacturers along with the prospect of heightened tariffs affecting exports of its China-made vehicles.

What does work to an extent in making Tesla a member of the “Magnificent Seven” is Elon Musk, whose acerbic and staccato commentary on Twitter (now X) has helped him – and his companies – achieve “meme” potential and a certain level of brand equity in the eyes of some investors, regardless of advances made by the competition.

This is exhibited even in Leverage Shares’ products (referred to as “ETPs”) which are built on top of Tesla stock and are among the most-traded products in London Stock Exchange as well as other bourses across Europe. These ETPs come with a leverage factor – which determines the daily return magnification – of 1X, 2X or 3X in either direction, i.e. “leveraged” which signify a “long” or “inverse” which signify a “short”. Since the start of 2023 till this past week, turnover trends indicate a distinct flavour for the “long” versus the “short”.

Source: Leverage Shares

ETPs with a leverage factor greater than 1 are tactical instruments designed to take advantage of trajectories in the short term. Through most of 2023, it can be seen that turnover favoured the “long” over the “short” in tune with stock performance. The pattern breaks, however, in the final month of 2023: with the stock trending downwards since then and through most of the current year, the bulk of investor conviction shifted towards piling into the “long”. While there are signs of a downtrend favouring the “short” after the shareholders meeting, the “long” continues to stay strong.

It should come as no surprise that in the earlier part of 2023, turnover performance – which measures the shift in 15-day average rolling turnover on a daily basis – of the “long” ETPs significantly outpaced that of the “short” ETPs. What’s significant is that the magnitude of turnover remained intact despite signs of the stock flagging.

Source: Leverage Shares

This is a prime example of investor conviction running strong despite the fact that tactical instruments aren’t to be used the same way as stocks are.

Now, since leverage factors greater than 1 magnify the trajectory of the ticker being tracked based on the direction, the “long” ETPs – despite momentary “snapbacks” in 2024 so far – have been largely unprofitable when compared to the “short” ETPs but more profitable than holding the stock itself.

Source: Leverage Shares

Tesla stock tends to “snapback” pretty powerfully since it is a part of the “Magnificent Seven”, which continues to attract inflows as a whole. However, the downtrend remains resolute which implies that investor conviction in the “long” tactical instruments tends to cost them on a long-term basis. On the other hand, investor conviction in the “short” – while lower – has remained fairly consistent and relatively rewarding.

In Conclusion

Much like before, Tesla continues to remain at a crossroads with little by way of actual encouraging forward outlook at present. The deal does little to lift this outlook and its membership in the “Magnificent Seven” comes with diminishing returns, as exemplified by the stock’s YTD performance.

While it isn’t unusual for an investor to have conviction in a stock despite the odds, the tactical instrument space is a different beast. It literally pays to consider trajectories for maximizing profit potential by shifting between directions and consider ETPs to be an entirely separate matter from actual stock ownership.

Note: In addition to the Tesla ETPs highlighted here, professional investors have also begun making significant plays on the “Magnificent Seven” itself via the 5x Long Magnificent 7 ETP (LSE ticker: MAG7), which offers magnified exposure to the upside of a basket containing all seven “Magnificent Seven” stocks in equal weights, and the -3x Short Magnificent 7 ETP (LSE ticker: SMAG), which does the same albeit on the downside.

******************

For broader articles that deep-dives into business and culture in Asia, visit asianomics.substack.com. A portion of this article was derived from the fullness of my conversation with Reuters that was featured on Reuters and other media publications. Another recent article features the fullness of my rationale behind geopolitical risks for American chipmakers that drove my commentary featured in Investing.com and Business Insider. Other articles include a comparison between Indian and Chinese market trends that formed the core of my commentary to Bloomberg and commentary on EV markets that was featured in CNN and Investing.com.