Blain's Morning Porridge - Sentiment vs the positive macro picture.. what's the call? Altern
Blain’s Morning Porridge – May 4th 2017
"You really do not want Jean-Claude Juncker to be on your side. You want Angela Merkel to be on your side.”
Ah.. the joy of politics and policy! Another day struggling under this rosy macro outlook: Macron is cruising towards victory in France, the Fed says nothing to worry about in terms of the outlook for US growth, the UK election looks like a formality, crowning Theresa May with Thatcher’s mantle! (About the only thing unpredictable in the UK is just what classic comedy moment Diane Abbot will give us next.)
I got loads of comments from clients yesterday on the real Macro picture, and my deeper doubts that the current buoyancy in markets can be sustained:
A number of readers asked where the growth actually is – pointing to the apparent GDP lethargy in the US and UK, and “zero-plus-a-smidge” hardly being indicative of a booming economic picture in Europe or Japan.
Others asked about low volatility: “the only reason vol is so low is because the vast number of market participants are sitting on their hands doing nothing!”
Another strand was that spread compression isn’t a positive thing – it’s a clear signal of irrational exuberance as investors scrabble for assets.
A number asked about why assets are so tight – the unintended consequences of monetary policy, QE and not real macro factors.
Yet others asked is there is real global discussion and movement towards open trade and new trade negotiations – lots of noise and little fact.
So what’s the right thing to do?
Don’t forget the classic investment rule: the market can stay irrational longer than you can stay solvent. The most painful trade is to be invested in raw cash when a market you are absolutely sure is going to dump doesn’t. Every single point higher leaves your cash position a massive opportunity cost.
Are there any alternatives?
In my case its “Alternatives”! On the basis all financial assets are suffering massive distortion from the effects of years of QE pushing bond and stock prices higher, and the markets persuading itself these rises are justified.. I would seek to invest in assets that are largely uncorrelated and independent of these forces. We call these “Alternatives”. An increasing number of funds focus on them.
The classic problem with “Alternatives” has always been liquidity. Not everyone can buy unlisted, private placement, unrated instruments. They may appear attractive and uncorrelated, but they tend to trade wholly by “appointment only”, and just when you want to exit to invest back in real assets after the correction, you find yourself locked in. I argue this isn’t such a problem anymore – there is a growing breed of smart, intelligent brokers who understand who to sell “Alternative Asset” stories. And liquidity is a factor of the number of participants – which is growing!
But lets go back to some examples of what’s possible in the Alternatives Market.
One of my favourite alternative assets is aircraft. We all need them, demand is rising, and the major aircraft manufacturers simply aren’t building them fast enough. Sure there are problems in the Aircraft Sector – this week its Alitalia going bust. That Italy’s flag carrier has gone down really shouldn’t be that great a surprise – a simple examination of its history would set a dozen alarm bells ringing. Plus, flag carriers across the globe are being slaughtered by the cheaper economy airlines.
But, forget airlines. The interesting and predicable value assets are the aircraft. Some of these will immediately be snapped up for the successor airline to continue delivering Alitalia’s core routes – Milan-Rome, Italy- USA, and Italy – Asia. Some of the older wide-bodies may struggle to find new owners and will end up parked in a desert somewhere waiting for a pick-up in that sector.
The key points are: some aviation assets are in demand and more valuable than others – regional jets versus widebodies. You can find deals based on aircraft in demand or some of the more distressed classes – and the returns reflect the underlying risks.
As an example of where value lies I’ve been selling aircraft bonds based around the most attractive aircraft classes with a 7% yield. These are secondary, not primary bonds, demonstrating that although the liquidity isn’t that of a Treasury Bond, with some work we can find buyers.
Another Alternatives market i’m currently working on is renewable green energy. Not so many years ago, the leading edge of that market was Windpower. Deals were getting funded at wide spreads. Over the years Wind has become mainstream. Based on long-term power contracts, the farms now throw out predictable, dull and boring long term cash flows.
The same thing is going to happen in waste energy – many of the early deals suffered from underperformance as the plants failed to match the expectations of the developers, but these wrinkles are being ironed out and they are becoming more predictable. With senior debt around 6% on a new deal, we expect these spreads to tighten in line with what happened in wind.
In the examples above – Renewables and Aircraft – they are both uncorrelated high return assets. No matter what stock markets or bonds later this year (remember years ending in a 7 are never good!), folk are still going to need power and fly..
A quick comment on Europe. What’s Euro 100mm between chums?
Legal advice given to the EU committee about the UK’s ongoing liabilities towards Europe after article 50 are invoked is quite clear: “Article 50 TEU allows the UK to leave the EU without being liable for outstanding financial obligations under the EU budget, unless a withdrawl agreement is concluded which resolves this issue”. Moreover, under international law, the EU could pursue the UK of perceived outstanding debts, but it would be impossible to enforce, and would have no basis under International Law on Treaties; the Vienna Convention.
Suck on that Junjerk!
Finally…
I have declared war against a well known Seafood Chain in London.
Last night we were in the City and went to a place serving Lobsters and Burgers. We had some cocktails and went to our table. The waitress asked if anyone had any allergies. I told her I’m allergic to crab, but no problems with Lobster. She came back a few moments later to say they couldn’t serve me anything because there is crab in one of their starters and it would kill me. I was amazed – that’s never happened before. I said, no problem, I’ll take the risk.
The manager then came over and said he wasn’t happy serving me any food – in effect discriminating against me because of my allergy. Eventually he allowed I could have some chips while the rest of the Party ate. Feck that they said, and we decided to leave.
The attitude of the manager was to get me out of his establishment asap in case they cross contaminated my meal. I was a health and safety risk. But was he nice about it? No. He was nasty. Did he offer to cover our drinks – of course he didn’t. A really stroppy letter to the company will be sent later today.
We went up the road to the excellent Loch Fyne restaurant in Leadenhall where I had an excellent Burger and Lobster. If was cheaper and better than the other shop!
Out of time
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Bill Blain