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"A plumber is an adventurer that traces leaky pipes to their source."
~ Arthur Baer
Bank drama in March put a head wind against the market, but indices rode big tech higher. Returns year to date for markets are coming from a narrow set of very large companies at the moment, Nvidia +88%, Tesla +72% and Meta (formerly Facebook) +70% are examples. Nvidia is a big AI bet as they make the graphics cards that provide the hardware rails for AI and Meta recently re-allocated a number of their metaverse teams to AI projects, we wonder if another name change is in the cards.
The broader market still sees analysts and investors cautious. Banking problems that arose sent tremors that might affect credit supply, so bond yields began to price in rate cuts in the back half of the year and 2024 leading to lower yields. Rhetoric from the central banks globally remains firm against inflation and in opposition to what the bond market is pricing.
We look forward to first quarter results in a few weeks overseas. While we do not expect the murky waters to completely clear, earnings figures always bring a measure of reality to a world of speculation.
Plumbing Problems
Our thesis of a capital expenditure led market resurgence for the balance of the year was severely tested in March as the “Dude Bro’s” in charge of running Silicon Valley Bank forgot the elementary rule of banking and were borderline negligent managing their short term liquidity. A golden rule in banking is diversity - investments of the deposits you take need to be diverse and match the liability profile of the funding. There are plenty of short term near riskless government securities, but they went big and blew up.
The banking crisis that has hit markets was short, sharp and while present market performance indicates that participants have accepted regulators have a plan, our view is that the resulting crisis has further to run. Regional banks in the US are responsible for the majority of funding for small business capex and commercial property exposures, and they are suffering continued deposit withdrawals, which will ultimately curtail their ability to fund capex expansion without a substantial monetary policy response.
While we expect bail outs to come if necessary, the risk of a monetary policy mistake from the Fed is a clear and present danger. Their last increase was arguably the “one too many” and it came at a time when key funding markets that drive certain economic activity were essentially closed as banks took a “wait and see” approach (prudently) while awaiting the Treasury Secretary’s response to shore up the US and by extension the global banking system. The closure of these markets will prove to be disinflationary - predictably slow economic forecasters and media pundits will catch up in a quarter and the bears who were talking recession are now closer to being right… but likely for the wrong reasons.
In summary, March was about what happens when you have the choice between two tools a hammer and a screwdriver and you choose the wrong one - in this case the hammer (interest rate increases rather than balance sheet reduction) - something leaked this month - the plumbing of the financial system. How bad the break remains to be seen.
Geography and Demography (Matters)
We have talked consistently about the themes of energy transition, food production, population demographics and infrastructure renewal. These themes remain intact as does the need for old economy capital expenditure expansion as a result of reshoring (albeit potentially challenged by the previously mentioned financial system plumbing issues).
Markets themselves continue to behave in a way that shows that geography and demographics continue to matter - and in a way that is far more important than it has been in the past three decades. For the last 30yrs the growth the world experienced was a function of trade de-globalisation - the scarce resources of food, energy, capital goods and the navigable paths by which these were moved were largely open without impediments when China and the ex-Soviet Bloc countries re-engaged with the world. It is our view that since Trump, Covid and exacerbated by Putin (and likely others) that the world will not see conditions similar to the last 30 years for the near future.
Likely winners from the next 30 years will be countries that have the key things that led to economic growth for the previous two centuries - arable land to feed its population (missing in Russia and China), energy security (missing in China), navigable roads and waterways that facilitate the movement of goods and services (so few countries other than the US are blessed with these natural advantages) and a demographic makeup that has the capacity to ensure that a future population time-bomb can be mitigated (smaller generations beget smaller follow on generations which can only be mitigated by migration).
Arguably, the US, India and Australia are the countries best positioned here, although India is comparatively weak in energy self-sufficiency (but has a more mature view on nuclear than Australia).
From a market perspective, to see how this is playing out, carefully watch corporate activity in fertliser, battery metals, traditional energy and food production. Glencore’s takeover offer for Canada’s Teck mining is about combining two large players in energy and battery metals in key regions (geography matters). Expect to see much more activity in owners of fertliser materials like potash if the war in Ukraine drags on and impacts on the world’s ability to feed itself (e.g. Brazil has the ability presently because it uses copious amounts of fertliser on claimed rain forest land which is completely unproductive without this input - without it, it will be competing for supply from places like Canada.
All The Way With LBJ(im)
We recently had the pleasure of hearing our Treasurer, Dr Jim Chalmers speak in Brisbane about the economic challenges faced by Australia and his relative optimism for our future. It is fair to say that our last “View from the Top End” was direct and to the point about Dr Chalmers essay and our concerns about the path that Australia may find itself on.
In person, Dr Chalmers is a very engaging speaker. As is the right of anyone in public life, his address sought to clarify his views from his essay, the partnership between private capital and social infrastructure development and the responsibility he feels for the welfare of Australians as Treasurer. He also for those that care, emphatically answered the question of which Brisbane Rugby League team deserved support (of which the Broncos received his unequivocal backing).
We often question the ability and character of our political leaders. After a direct and somewhat brutal assessment of Dr Chalmers essay, we thought it appropriate to give an opinion on the man we heard speak and briefly interacted with. Dr Chalmers is warm, competent and considered. He acknowledges the partisan positions he represents and the need for him to walk the line between the roles that private sector and government should play. Our medium term concerns on how Dr Chalmers would pursue his agenda and its impact on inflation and tax policy remain, but are tempered with some optimism that Dr Chalmers has a quality of intellect and character that may navigate a path that helps Australia succeed.
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