Diary of a Fund Manager - Lazy Ocean - 7.6.2021

In this week’s Diary, turbulence beneath the surface of stable stock markets, strange news from an altered world and the implications for investment. Finally, a new way of looking at the global economy.
In the absence of anything unexpected, markets continued to move ahead. Both equities and bonds ended higher, currency markets broadly unchanged and gold down. The price of a barrel of oil remains in a quiet uptrend. US employment numbers announced on Friday were just good enough for those optimistic about economic growth, but not too good to scare those fearing higher interest rates sooner than expected. I only heard one commentator say ‘Goldilocks’, but that just about sums up the mood of investors at the moment.
Beneath the surface there is more turbulence. Supply chain bottlenecks continue to cause trouble. Companies caught between shortages of materials and components and stingy consumers are finding the recovery difficult to navigate. Either profits, revenues or both could be lower than what might have been hoped. On average wages are rising at about half the rate of inflation, if the increases this year are annualised, putting disposable income under pressure. That is unless you have a skill that is in short supply. For example, in the US sign-on and loyalty bonuses for construction workers are increasingly common. In response to my comments last week about the future of tall office buildings, a reader wrote to me about visiting his bank in downtown Minneapolis; deserted streets, bored security guards, empty floors where social distancing is irrelevant and a sign outside the reception area noting its closure on 17th March 2020.
These are undoubtedly unusual times. Last year European household income increased by 0.3%, whilst the economy contracted by 6.6%. Negative interest rates now seem normal but remain a strange concept as this suggests that the future will be more certain than the present. Quoting a well-respected strategist; ‘governments are now spending money that they don’t really have on people who did not ask for it.’ Investors continue to swim in a lazy ocean of free money, but without the confidence to venture far from shore. Hence the directionless volatility of recent months.
As we sway towards the mid-point of 2021, attention is shifting to next year. Not content with coming through a pandemic induced mega-recession in reasonable shape, investors are now trying to decide whether there might be a more normal recession in 2023 or possibly as early as the last quarter of 2022. The thought that some people are never happy should be put to one side as none can be certain what will happen when the stimulus cheques stop and savings accumulated during lockdown have been spent. The implications for stock selection are significant. At the moment buying cyclical recovery, sometimes described as value investing, is all the rage, but not if the bounce this year proves to be unsustainable. Economic cycles seem to be getting shorter with share prices acting as the barometer of change as always. Buying profitable companies at a reasonable price is never out of fashion for long.
Discussing these issues and many more with a long-standing contact with many different business interests highlighted some of the challenges to come. The official reason given by car manufacturers when halting production is a lack of computer chips. Could it be, however, that we no longer want to buy brand new diesel powered state of the art motors because they may prove to be unsellable in four years’ time. There is evidence that we are increasingly interested in fully depreciated used cars that will ‘owe us nothing’ when we scrap them before moving on to electric. Hence the shortage of used cars and rising prices. On other matters, we debated the need for damaged companies to re-capitalise by converting Covid-19 loans into equity. Existing shareholders may find themselves at a disadvantage during this process. More generally, technology has flattened the business world making it easier than in the past for companies to thrive in many different parts of the world. The concept of globalisation may be changing, but it hasn’t gone away.
Flat earthers long ago had to admit that they were wrong. Now the image of the global economy as a mountain with the US at its summit may have to be replaced by a flatter world with many smaller peaks dotted around. From flat Earth to flat world is a pleasing irony.

Written by

David Miller
Investment Director

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Winner, Outstanding Achievement – City of London Wealth Management Awards 2016