Moats

17 Jan

Warren Buffett famously looks for businesses that possess what he terms economic moats; barriers to entry that often involve long term established brand loyalty. His philosophy has shifted somewhat in later years, but the concept of moats has long been the aspiration of high margin businesses, particularly tech. However, this concept has been challenged recently, particularly as it relates to the businesses that Mr. Buffett currently owns; namely high profile, well established brands such as Coca Cola, Disney, etc.. An article in the FT however, astutely points out that it’s “not that someone works out how to cross the moat…. Its that the castle becomes irrelevant”. This really struck me in that it seems like there are so many “castles” that are becoming irrelevant: retail, dining, transport, etc.. In fact, technology and big data are combining to lay siege to a number of industries previously protected by anti-competitive constraints like never before.  These tensions will  have major implications for relative valuations and ultimately for the economic survival of established players versus upstart competition.

Couch Surf Count

15 Jan

With the aging of the millennials, it will be curious to see whether it will be necessary to adjust the economic indicators to better capture the shift in consumption patterns. As it becomes less and less attractive to a good number of that millennial class to actually own a car, home, etc.., do the tried and true statistics designed to capture real economic activity become less meaningful. One might assume that it is a stretch to assume that historical norms of marriage, household and family formation will shift dramatically but it does not seem like too much of a stretch to assume that how these up and coming millennials work, play, eat, and buy will differ widely from their parents and grandparents. Statistics such as housing starts, new car sales, same store sales may be inadequate to capture the real growth in an economy that is experiencing radical shifts in consumer behavior.

Battle Of The Geo’s

1 Jan

A few years ago, I wrote about the futility of making year end predictions. My point was that given the non-linear nature of markets, it was completely meaningless to try and predict what might happen with any degree of certainty. As we leave 2018( a year in which Donald Trump sits in the White House, Britain is making plans to throw off the “shackles” of Europe, and trade barriers are being re-erected all over the globe) such prognostications seem even more pointless. So,  having said that here we go: our prediction for the oil market in 2019 will be that price will depend on who wins the battle of the geo’s: Geo-politics, Geology and Geography. More specifically, the battle in 2019 will pit the technologically driven U.S. shale production, with its inherent geographic dislocations,  against the geo-politically driven OPEC/Large Non-OPEC producers. We suspect that the markets will test the mettle of the shale producers in 2019, particularly given some of the punitive differentials. However, the geo-political hotspots involving the usual suspects of Iran, Venezuela, Syria, and others will undoubtedly provide support for what might be a steeper fall in price. It is our feeling that the steep decline in price during the late fall was originally driven by Iranian waivers but was then exacerbated by dynamic hedging taking place over the 4th quarter. Imbedded in this price decline was an increasing amount of rhetoric about falling global demand despite a lack of any supporting evidence thereof. Prediction: The market tests the U.S. shale cost structure early in the year, but real geo-political concerns combined with a stable demand picture brings prices back into their mid 2018 ranges. 

Jay Make Me Pure But Not Yet

20 Dec

You know you’re approaching max panic mode when the selloff in equity markets reaches the NYT  Sunday style section. It absolutely is fascinating to watch the level of panic bordering on almost disgust. After an unceasing rise in the value of virtually every financial asset over the last 10 years, the general public (and professional money manager community) is aghast that in the midst of a relatively strong economy, real interest rates should normalize. I am now watching some commentary on Bloomberg TV discussing whether the rout in high yield will continue (there has not been a single high yield bond issued in December) and the general consensus among the panel is that the Fed is not paying enough attention to the “signals” that the market is giving them.I may be wrong, but the cause and effect used to go the other way, of course this was before the markets took the Fed stewardship of their health( no matter the level or excess) as a god given right. The basic misunderstanding is that markets do not equal the economy and in a post QE world this point is lost on most if not all market players.

Forewarned is Forearmed

19 Dec

We all know the epic line uttered by Jack Nicholson in the movie  A Few Good Men, when asked to be more forthright he screams ” You can’t handle the truth”.  One might apply this same line when discussing the action in the Global Equity Markets of late. Credit markets have been tipping their hands to stocks for months, particularly the yield curve which has continued to flatten in the face of relatively strong growth. What the markets have also known about, and seem to have ignored, is the run off in the Feds balance sheet, YTD in the amount of a not insignificant $600bln. Combine this run off with the tax cut and the resultant budgetary gap and you have a credit squeeze on your hands. That new $1trillion in budgetary shortfall borrowing needs would normally have been benign in the good old days of QE, but in this new world, borrowing at the Federal level is real borrowing and constitutes competition for lending/investing. In short, the credit pool is getting tighter, irrespective of what the Fed does with the Fed Funds rate, so when you hear that the Fed is raising rates keep in mind that this statement is only partially true, The Donald lent a hand too through his unfunded and unwarranted tax cuts. The moral of this story is this however: When liquidity is rising as in 2008-2013, Capital Markets appreciate, when liquidity is falling as it is now, Capital Markets struggle. 

Who’s The Boss

4 Dec

As we await the latest directive from the upcoming OPEC meeting, one wonders who is really driving the bus when it comes to oil prices. The steep decline in price over the past several months was exacerbated by the unique reinstatement of Iranian sanctions alongside some fairly significant waivers with respect to crude exports. While the market was  left wrong footed on this move, the Saudis have been mostly forced to keep their indignation in check lest they incur the wrath of the tweeter in chief. The question for the day is: Who controls the incremental barrel of crude, and thus has the greatest sway over price? A glance of the accompanying chart (U.S. High Yield Energy Index) might make one believe that the capital markets, with their incessant feeding of  shale production, exert the greatest control over U.S. production and thus global oil pricing.sg2018120442697

As you can see, the appetite for credit in the oil patch was waning heavily in late 2015/2016/. A spate of restructuring and some well publicized belt tightening gave the credit markets the confidence it needed to once again plunge head forth into shale.sg2018120416179 The key was that OPEC moves were not preeminent in determining U.S. production, credit was. The question now becomes: If we are experiencing a global glut of crude, will the risk appetite of the high yield market hold the key to how the U.S., and thus OPEC respond.

Rogue Wave

27 Nov

The recent demise of a hedge fund “specializing” in the selling of  energy option premia  was blamed for some of the squeeze we have seen in the Natural Gas markets. The manager of said fund blamed a “rogue wave” of speculative buying in Natural Gas as the reason for his early retirement (that and the forced liquidation by his clearing firm). OPEC might be tempted to borrow this term as the Crude Oil market has been hit recently by a significant amount of indiscriminate selling from all corners of the market. While, the factors influencing the price of crude vary widely from geo-politics to seasonal crack spread volatility, we posit that the weakness in crude oil is a direct reflection of the incessant movement of crude oil into global markets via U.S. shale producers. The blame can be laid at the feet of technology as per barrel shale costs are now in the low $50’s so the days of “punch a hole in the ground and hope for the best” are long gone with big data replacing big gutsy, risky blind exploration.