“To defeat the aggressors is not enough to make peace durable. The main thing is to discard the ideology that generates war.”
- Ludwig von Mises
Von Mises is considered by many to be one of the fathers of libertarian thought in the United States. He wrote, lectured and taught broadly on many topics beyond economics, including sociology, philosophy, and engineering. As his student F.A. Hayek said, he was “one of the best educated and informed men I have ever known.”
Despite von Mises massive amount of writing and incredibly influential friends and students, such as Jacques Rueff the monetary advisor to Charles de Gaulle, Italian President Luigi Einaudi, and novelist Ayn Rand to name a few, there were periods in his career in which von Mises work was largely ignored. Nonetheless, his ideas remained durable.
The animal kingdom has some profound examples of durability as well. Three of the best examples of durability include:
- Planarian worm – Can regenerate large portions of its body and if cut in half can become two separate functioning worms;
- Cockroach – Has extreme radiation resistance (likely to survive a nuclear war), can survive for weeks with its head cut off and can live for months without food; and
- Rat – Fine swimmers, can chew through steel, can go for a couple of weeks with no food or water and can eat almost anything as a diet.
Luckily, living in the modern world doesn’t require us to go for weeks without food or chew through steel, but as stock market operators the first two months of the year have required durability. Specifically, January started with an almost 6% dive in the SP500 and February has seen more than a hundred point positive recovery. Obviously timing the markets is a much chagrined strategy, though an ability to do so would certainly have helped in the first two months of the year.
Back to the Global Macro Grind...
On the topic of durability, any investor that has put money into Brazil over the past four years has had to endure a halving (think Planarian worm) of the Brazilian stock market. In part, which is highlighted in the chart of the day, this has been driven by the dramatic decline in Petrobras (PBR), the largest single component of the Bovespa. As the chart of the day shows, from its peak PBR has lost more than 80% of its value.
This coming Thursday at 11am ET, we are going to host a conference call on Brazil with the explicit title, “Brazilian Equities Down -50% From 2011 Peak, Time to Buy?” On the call, we will review the bearish thesis, but take a more opportunistic look at getting long of Brazil. At ~ 7.0x earnings versus a peer mean of ~12x earnings, PBR may be an interesting way to play a recovery in Brazilian equities. If you aren’t currently a Macro subscriber, please email for details on how to access the call.
On the macro news flow front this morning, China is once again dominating. While most global stock markets are either up or down small, the Shanghai Composite is down just over 2%. There are three key factors that appear to be weighing on Chinese equities:
- The Shanghai Property Index closed -2.2% and hit a fresh 8 month low;
- Many of the major publicly traded developers continued to sell off, even as the major banks all said there was no change to real estate related loan policy and have not halted real estate financing operations; and
- Finally, there was a report that an Executive Director of the Bank of China was arrested in a corruption probe.
The key benefit to Chinese investors of increasingly liquid stock markets is that they can get out of the way, and remain durable, by selling, which they did in spades in the last 24 hours.
Flipping back to the U.S. for a second, it is interesting to note that the SP500, and equities generally, have recovered nicely in February, the assets and sectors that are performing the best remain those that most embody slowing growth and accelerating inflation. Specifically, while the SP500 is now down only -0.04% on the year, gold is up +10.9%, healthcare is up +6.9%, and utilities are up 6.5%. So, yes, slowing growth and accelerating inflation endures!
Interestingly, from a stock perspective, the fact that lower yielding stocks outperformed last year actually benefited a number of short calls we made in the MLP sector. Disappointing MLP fundamentals only added to the macro tailwind last year, which carried into this year when one of our Best Idea shorts Boardwalk Partners (BWP) got cut in half after reducing their distribution by 80%.
The next big short on our horizon, and on our Best Ideas list, is Kinder Morgan (KMI). Barron’s kindly quoted my colleague Kevin Kaiser and wrote this weekend:
“Kinder Morgan's valuation is crazy," says Kevin Kaiser, an energy analyst at Hedgeye, an independent Connecticut research firm and the company's most visible critic. "The distributable cash flow is overstated because the maintenance capital is understated." He thinks Kinder Morgan MLP units could drop below $50 and the GP below $20 -- both roughly 40% lower than the current quotes.”
Tomorrow, Kaiser will be discussing the durability of Kinder Morgan and MLP accounting in a conference call with energy accounting expert Julie Hannink from CFRA (email for details). It’s not clear to any of us that MLPs or their distributions are durable enough to be starved of capital expenditures.
Our immediate-term Macro Risk Ranges are now as follows:
UST 10yr Yield 2.68-2.81%
Keep your head up and stick on the ice,
Daryl G. Jones
Director of Research