Faster, Higher, Stronger
If you’ve played or watched a team sport, you’ll be aware that each player has a different role. A variety of factors influence the decision making of a coach, such as individual and collective talent, the conditions, fitness, and the opposition. As sport has evolved, we’ve witnessed bigger hits, faster sprints, and smashed records. More fans and players of all levels have joined, as the value of broadcast deals has exploded, cricket bats have got bigger, boots lighter and America’s Cup yachts more akin to Formula 1 cars.
Financial markets have experienced a similar advancement over the past decade, underpinned by an abundance of (cheap) money from central banks. With the benefit of hindsight, you as the coach, could have selected a great team. Most asset prices soared (with the exception of cash) and records tumbled. The network effect has been enormous
Whilst kids were training at the park, mimicking Steve Smith smashing sixes, the next generation of Warren Buffett’s were broadcasting their success on TikTok. Until things changed and global shares had the worst 1H in 50 years, real estate prices softened and venture capital write-downs have been significant (50-80%).
However as the coach, that’s history. All that matters is what happens next and that the team execute.
As we engage with companies, industry specialists and policy makers, we are seeing evidence of change, that may have substantial impacts on asset prices, including:
The probabilities on these vary, yet as part of our process we consider scenarios. If you would like to discuss our research in detail, we are happy to do so. Change creates opportunity and we are excited.
For example, US stock markets had their largest fall on Tuesday since the financial crisis (ex Covid), as expectations of higher interest rates increased. Ironically the strength of the US economy, which has attracted outsized investment over the past decade, may be to the detriment of asset prices and financial markets as central banks grapple with inflation.
Critically, foreigners own $18trn more of USD assets, than Americans own of foreign assets (see chart). If foreigners were to diversify or sell for strategic reasons, such as the Chinese Government, the largest foreigner owner of US Treasuries, the volume of supply
would clearly impact pricing. Higher funding costs are all but inevitable and the risk to selective US assets is real. Whilst we have been investing in specific high quality, market leading US listed businesses during the sell off, we have been underweight US shares for 12 months, in contrast to most long only investment firms. At an index level they are not cheap, and with sales 10-15% above trend, we are finding more compelling ideas elsewhere.
This is one example of how investors may adapt to make as the game changes.
European Energy Dependence to Independence:
The concept of energy independence in Europe is a pipe dream, as has been painfully exposed – reliance on Russia, underinvestment, environmental regulations, and a bureaucracy which is often indecisive. “Experts” shared a similar view 10-15 years ago about the United States, which proved incorrect. What followed was a shale/cheap energy inspired investment boom, record profitability, a 25% increase in annual GDP growth, improvement in the US’s political position and 30% surge in the USD. The US went from a net importer to a net exporter, with consequences across industries and asset classes. I first saw indications of this in 2011 as I was trawling through company earnings calls looking for opportunities, as a junior burger at an investment bank in London. If you would like to see the presentation I drafted in 2012 calling for the rebirth of America, I can share.
Have we approached a similar moment in Europe? The stoppage and interruption of energy flows from Russia to Europe, pushing prices up 14x compared to the seasonal average over the past five years, has catalysed the strongest political and corporate unity since the EU’s formation in 1999, in parts of Europe. This situation requires immediate and collective action, plus a commitment to invest in alternatives (encouraging progress has been made).
In contrast, the financial crisis of 08/09 and the sovereign crisis of 2011/12, were addressed by the financial tool kit and by kicking the can down the road. Youth unemployment surged as high as 50%, yet Germany had full employment and as the third largest industrial exporter globally, benefitted from a weaker Euro. A challenge for peripheral Europe is handled differently to a challenge impacting the core. Goldman estimates up to 2 trillion of steeper energy costs across the continent. It is a perfect storm with German manufacturing facing a substantial contraction (20% of GDP), French nuclear reactors aging with shut downs forecast, delayed coal mine reopening’s and droughts impacting hydro power.
We are hearing a consistent message from European companies we speak with, across industries – an uncompromising focus on reducing energy and developing alternative solutions. The data reflects this with year on year and month on month declines of 20%+ (see chart). Further, energy inventories imply Europe is well prepared for the winter, albeit the medium term is unclear. The collective fight to adapt is unambiguous and being reflected in the data.
Whilst we are a long way from the corridors in Brussels, this challenge is a political and ideological fight for Government – survivorship, living standards, employment and democracy. Europe has much more political incentive today than the US in 2011, to address energy security.
What about assets?
The market has moved ahead of earnings estimates and is reflecting anxiety. Valuations are below historical averages, albeit not at the trough. Despite what is happening at a company and political level, few assume Europe can find solutions, or invest in new sources of energy and progress. It is complex, timing is unknown and there is work to do, yet if Europe did pull together to address energy, the intended and unintended consequences would be multi-faceted and mark a regime change, comparable to the US over the past decade. Irrespectively, some businesses will take market share and thrive, whilst others will be unable to survive. This is the opportunity.
Talk is cheap, what have you done about it?
We have been reducing our cash and investing in select European businesses that dominate their industry. We are investing at valuations below medium- and long-term averages, with dividend yields of 4-5%. If you want to invest in global companies, European listed shares offer the best value in a decade, in our view.
The energy crisis has accelerated the irreversible adoption of select green technologies and products. One of our themes is the Green Revolution, a core belief for Millennials & Gen-Z, who by 2030 will represent 70% of the global population. Examples of what we have been buying:
Our portfolio can be seen in real time by all investors. We have a balanced portfolio of leading businesses in Europe, the US and China. We have used the volatility to buy quality companies at valuations not seen in years.
Now is the time to pick your team:
We are in an era of rapid financial, political, social and demographic change. These periods have historically been tumultuous yet presented terrific opportunities. We are excited about the potential to generate returns for our clients.
We are launching a fund (wholesale unit trust) in October to capitalise. We will be fully invested, with monthly liquidity. As part of our growth as a business, combined with the opportunity set, we are exploring a cornerstone investor, in exchange for equity. This marks a natural progression, following two years of managing individual accounts for clients, and our commitment to grow.
If you would like to learn more about an investment in the fund, or a cornerstone investment, please contact me or a member of the team.
Thank you for your support.
What an exciting time to be alive!