Chart of the Month
Every year there’s something odd or weird about the market. Last year was the absence of volatility. This year the anomaly is that most asset classes are flat or down for the year. Ned Davis Research looked at eight broad asset classes and found that not a single one is on track to post a return greater than 5% for 2018. This is the first year since at least 1972 that this has happened.
Anyone with a memory of the gasoline lines in the 1970’s could be forgiven for thinking this headline a hoax. But it’s true. The U.S. Energy Information Administration (EIA) reported this month that in June U.S. crude oil production has surpassed that of Saudi Arabia and Russia.
A few months ago, we outlined the waning energy intensity of the U.S. economy. The picture on the supply end is similarly favorable. OPEC, despite expanding to 15 members from five at its founding in 1960. has seen its share of global production reach a 27-year low - while the U.S. has ramped production, countries like Venezuela and Iran have seen declines.
Harry Markowitz, in 1952 essay in the Journal of Finance, laid out the mathematical framework for what became know as “Modern Portfolio Theory”. Thirty-eight years later, Markowitz shared the Nobel Prize in economics for proving that diversification works - the math showed that owning a mix of assets with different risk and return characteristics can lead to a better investment portfolio over time.
Quite a bit has changed since the founding America. For one, the Department of Energy estimate that the country uses 400 times more energy than in 1776. The relentless rise in emissions is sparking environmental concerns. But there is hope. For the first time in over 200 years, the Americans actually decreased their energy usage. The chart below shows the increase in energy usage by a decade - you can see the bar dips below the line in the new millennia.
Ray Kroc, the longtime force behind McDonald’s, is credited with managing the company on the principle of KISS - Keep It Simple Stupid. Kroc, at the age of 52, was making the rounds as Price Castle Multi-Mixer salesman when he came across a small hamburger shop run by Richard and Maurice McDonald. He was struck by the simplicity and efficiency; the menu consisted of hamburgers, fries, drinks and shakes. He later bought out the McDonald brothers for $2.7 million and credited the KISS philosophy - Keep It Simple - as a key building a global powerhouse.
In a year of historically low volaotitiylity for almost all assets - U.S. stocks, bonds and oil all have multi-year low levels of price volatility - bitcoin stands out like a punk rock band at a polka festival. Bitcoin is up nearly 1,400 % this year with a high that approached $20,000. This is a far cry from the half penny ($0.005) price when the digital currency was being launched in 2009 and a programmer paid $50 for 10,000 bitcoins.
In an age of instant information and analysis, as long-term investors it can be helpful to stand back and consider trends over the long sweep of time. In this case, we’ll consider that track economic history over the past 2,000 years.
First, note that this chart is not to scale - the first 1,500 years are squished on the far left. That’s because there is not much data from that period. Still, the chart shows that China and India dominated world economic activity for much of the last two millennia. For thousands of years, economic growth was tied to population growth - without machines one person could accomplish only so much.
One of the ongoing dramas in Washington is reaching an agreement to raise the debt ceiling. It has never made sense that Congress approves all of the spending, and then in a different debate needs to agree to pay for the spending. Recently, President Trump sided with Democrats to push the debt limit discussion out to December. Now focus swings to the prospect of tax reform.
The rise and fall in corporate America can be charted by how investors have valued firms at different points in time. Below are the largest global companies by market capitalization over the past 15 years.
The Federal Reserve recently hiked interest rates for the fourth time since December 2015. The Federal Reserve is charged with two mandates - 1) doing its best to foster full employment and 2) combating inflation. With unemployment at 4.3%, a level not seen since March 2001, the Fed’s job on employment is fulfilled. The question of the day is whether they have a handle on inflation.
We all know that much of the world is lightly inhabited while a few areas are jam-packed. The orange region shows Bangladesh and parts of India which nearly 400 million people call home. The blue region is about half of the world’s land mass and contains whole countries including Australia, Kazakhstan, Sweden and Norway. The rest of us, the 90%, have found a home in the spaces in between. It’s also where most economic activity takes place.
In late February, the S&P 500 marked a milestone by notching its 90th straight day without declining at least 1%. It has been over 40 years since that has happened. Given the political turmoil here and abroad, this is somewhat surprising. But corporate earnings have been decent and investors to be nervous about. But, there’s always something to be worried about.
Quarterly Market Letters
Assets class performance deviated from the global economic picture during the first quarter of 2019. U.S. equities end the quarter with strong gains of more than 13.5%, and non-U.S. developed and emerging marketing equities were not far behind. Despite this strong equity growth, the global economic picture became increasingly cloudy. Corporate earnings in the U.S. were weak and the yield curve inverted during the quarter, often a sign of impending recession (within 6 to 18 months). It seems that, for now at least, the inversion was only temporary.
In a time filled with drama and intrigue for investors, we were struck by the current Federal Reserve (Fed) Chairman joining a panel discussion with his two predecessors in early January. We can find no precedent. Powell wasn’t there to gather advice. Yellen and Bernanke didn’t offer it. Instead, they were there to discuss the role of the Federal Reserve and to defend its independence. President Trump is irritated that recent Fed rate hikes may be dulling the impact of the stimulus from the recently enacted Tax Cuts and Jobs Act and has reportedly considered firing Powell. Powell took the opportunity in Atlanta to say he would not resign if asked.
There have been many cross current this year; seemingly more than most years. The U.S. has had ongoing discussions with other countries over long standing trade practices. The Federal Reserve has been raising rates and removing accommodation while the recent Tax Cut and Jobs Act has served as a renewed stimulus to corporate bottom lines. Fresh anxieties have surfaced as a populist-led government in Italy pushes back against status-quo budget rules in the European Union.
China’s foreign policy was long guided by a doctrine summed up in 1990 by Deng Xiaoping, its former leader as “hide your strength and bide your time”. Last fall, China’s current leader, “President for Life” Xi Jinping, altered the narrative when he stated “It is time for us to take center stage in the world and to make a greater contribution to humankind.”