International and Global

Pyrspectives Q1 2021

The economic reality since the middle of last year has not been anything close to a ‘normal’ reality.
April 2021

There’s no jab like a Covid jab. Amongst the larger countries the US and UK lead the way in terms of doses administered per head of population. The UK, finally freed from the bureaucratic entanglement of the EU, has now delivered the initial vaccination to more than half its adult population. Very impressive. Europe lags far behind, prompting predictable but unattractive scenes of vaccine nationalism. Many in the EU will never forgive the UK for leaving its embrace and will continue to erect obstacles to frustrate progress. This is crazy as a healthy UK economy is important to the EU and vice versa. Sometimes common sense plays second fiddle.

The Covid case-load in both the US and UK has dropped dramatically. The US peaked at a scary 7-day moving average of 257,000 on January 12th whilst the UK peaked at 61,000 on January 8th. Since then the US average has fallen to around 63,000 and the UK just 5,500.

US & UK new cases of COVID-19 - 7-day moving average - thousands

US & UK new cases of COVID-19 7-day moving average - thousands

Source: Refinitiv Datastream

The interesting thing is that the sharp drop in new cases commenced before the roll-out of the vaccine. So either the internal distancing and other restrictions in both countries were starting to bite or the much vaunted ‘herd immunity’ impacted in a meaningful fashion. Combined with the vaccine we should see new cases continue to fall. The finishing line is in sight.

Do not get the impression that we are being complacent as we recognise that the virus is going nowhere. New cases will continue to crop up – witness the recent upsurge in France and Germany. However, it does seem likely that a semblance of economic and social normality will gradually return as 2021 progresses.

As in previous Pyrspectives we like to highlight countries that have performed extremely well in terms of Covid-related deaths – deaths at the astonishingly low rate of 0.5 per million or less. To give perspective to this statistic the deaths per million in the UK amount to around 1860 and in the US 1685. Counting only those countries with a population of more than 7 million the honour board reads: Laos, Cambodia, Tanzania, Vietnam, Taiwan and Burundi. This extraordinary performance needs to form part of an investigation by the World Health Organisation. Why have many developed countries achieved such poor results and so many emerging/developing countries performed so well? As Winston Churchill once said: “It is a riddle, wrapped in a mystery, inside an enigma…”

Myanmar (formerly Burma)

How sad, how very sad. Myanmar has been thrust back under military rule after a coup on February 1st. In 2015, after decades of repressive military control Myanmar finally gained a semblance of democracy when ‘the Lady’ – Aung San Suu Kyi – won a massive parliamentary majority with her party the National League for Democracy. (NLD). However, and it is a big ‘however’, the military retained a mandated 25% of the Parliament. This severely curtailed the freedom of expression by the NLD. Now, even that has been swept away as the military resume complete control.

In the decades of previous military rule the economy was run into the ground and Myanmar became one of the poorest and most secretive nations on earth. It was only after 2010 that some of the controls were eased and reforms gradually introduced. Westerners finally gained some insight and access. Following the election in 2015 the economy burgeoned, with significant inflows of foreign capital and know-how. It became one of the fastest growing developing economies in the world.

Your correspondent has visited Myanmar twice in recent years and on both occasions came away impressed by the resilience, enterprise and determination of the people to make a go of their new-found freedoms. A little like Hong Kong in its hey-day this was a country with a vibrancy that was infectious. Hotels were full of investment bankers and others doing deals. They could see and feel the potential. Tourist numbers were ramping up. The military were the subject of scorn.

We feel for the beautiful people of this country. Given the previous history of the military and the manner in which they have quelled protests since February 1st – more than 200 deaths and counting – it is difficult to feel any sense of optimism. The internet and other forms of communication have largely been shut down making it increasingly difficult to assess the situation. The UN has so-far sat on its hands and many of Myanmar’s neighbours are noisily dithering but doing nothing.

Again we say, how sad, how very sad.

Central Banks and the Markets

It wouldn’t be a Pyrspectives without an update on the cash splash by the world’s central banks.

Since January 2020 – immediately prior to the declaration of the pandemic – the four major central banks (Federal Reserve, Bank of Japan, Bank of England and the European Central Bank) have injected the equivalent of 9 trillion US dollars into the world economy. That is roughly the size of the combined German and Japanese economies. Whichever way you count it that is a lot of moolah. And that is not including the ‘printing’ by the other central banks around the world.

Surprise, surprise, after the initial Covid-induced shock stock markets boomed. It’s funny what happens when you create a vast chunk of money not attached to anything real – such as capital investment, economic output and productivity.

 

Change in Central Banks’ Balance Sheet Assets Trillions of US$ (Federal Reserve, BOJ, BOE, ECB)

Change in Central Banks’ Balance Sheet Assets Trillions of US$ (Federal Reserve, BOJ, BOE, ECB)

Source: Refinitiv Datastream

If we take a look at stock market performance since the previous global economic shock – the 2008-9 crisis – it is apparent that central banks have underpinned the markets through a period of desultory economic performance.

Stock Market Performance since 01 July 2008

Stock Market Performance since 01 July 2008

Source: Refinitiv Datastream

Now let’s look at economic growth over the same period.

Real GDP since 01 July 2008

Real GDP since 01 July 2008

Source: Refinitiv Datastream

Let’s quantify this:

The UK has achieved annualised real GDP growth of 0.53% and stock market growth (excluding dividends) of 2.42%.

The US: 1.46% and 8.15%
Japan: 0.33% and 5.9%
Germany: 0.78% and 6.42%
Canada: 1.24% and 1.55%
Australia: 2.15% and 2.26%

(Note: All stock market returns calculated to December 31st, 2020 to coincide with the GDP data).

It is interesting that Australia has achieved the fastest rate of economic growth but, with the exception of Canada, the most anaemic stock market uplift.

It is not a fluke that stock markets have outpaced underlying economic performance. The central banks have ensured that Wall Street and its equivalents have had a splendid time. One of Pyrford’ s team refers to this as ‘gaming’ the system. The US Federal Reserve Chairman recently disputed that central bank action fuels asset price bubbles. Wow. Take the goodie plate away and see what happens. When players at our local tennis club start discussing stocks between games it is clear that a fully-fledged boom/bubble is underway.

Will central bank and government largesse trickle into the real economy? Inevitably it will but we are sceptical that growth will catch up with the pace of debt expansion. The problem is that each extra dollar of debt produces less than a dollar of income/output. The wheels have been spinning in the sand for some time because the existing quantum of debt is simply too great. To put it in technical terms, the velocity of money slows.

Covid has given governments an excellent excuse to blow up their deficits and take overall debt levels to new highs. Politics is all about staying in office and there is nothing like spending money to curry favour with the voters.

General Government Debt as a % of GDP Selected Economies

General Government Debt as a % of GDP Selected Economies

Source: Refinitiv Datastream

Government deficit and debt expansion has attracted scant criticism. Hands go out everywhere as soon as cash starts being doled out and it is a hard tap for politicians to turn off. The new US President has just secured approval for a stimulus package amounting to around 9% of GDP. The IMF recently forecast that the US fiscal deficit in 2021 would total 11.8% of GDP – the highest in the developed world.

Your correspondent is aware of many who have taken advantage of the handouts to feather their nest during the pandemic despite their circumstances in no way warranting the receipt of taxpayer money. They are proud they have been able to manipulate the system to their financial advantage. It has been all too easy. Something else to be sad about.

Boats, cars and other pricey things

If you had advance information that the world was going to experience a pandemic in 2020 causing massive drops in economic output to depression-like levels how would you have prepared? Would you have bought the stock market? Probably not. What about an expensive car? We doubt it. A superyacht? Again doubtful. Pricey works of art? No. A brace of hi-end watches? Probably not timely. A new house? Unlikely. Bitcoin? Who knows on that one? Our guess is that for most people it would have been a time to hunker down. Stash cash under the mattress.

Hunkering down was precisely the wrong action. Everything that has happened has turned convention on its head. It took a few months into the pandemic but then the world went back to the races.

We keep track of the superyacht market (dreaming, just dreaming) through the market oracle ‘Boat International’. For the uninitiated superyachts are roughly those exceeding 100 feet in length. Very big toys. In the last quarter of 2020 there were more superyacht brokerage sales than at any time on record. 246 superyachts were sold in the last six months of 2020.December was the strongest single month for sales since 2009. Go figure.

New cars? Flying off the assembly lines – especially the very expensive ones. Used cars? Prices are rocketing. New caravans or motor homes? Can’t get them without a long wait. New high-end bicycles or motorbikes? Same story. Houses (not all, but most countries), prices are up, up, up. Watches? Try getting your hands on a new Rolex submariner. Expensive televisions, media equipment, IT paraphernalia. Boom time. The art market – check-out burgeoning auction room sales. Stock markets? – we have already discussed that phenomenon.

The history books will have fun writing about this extraordinary time. Keep people away from work, push taxpayer money into their pockets and a spending spree on leisure pursuits and pricey trinkets ensues.

This is despite the fact that a significant percentage of ‘workers’ in any economy have slim savings to fall back on – they are spending the temporary windfall and when it is gone they will have nothing left.

Will the spending end and the bubble burst? Of course. When the ‘new normal’ arrives there will be a reckoning. How soon? Now that’s the tough one.

Bitcoin

We have discussed Bitcoin in previous Pyrspectives but as it keeps doing extraordinary things we must give it another brief run. But first, the latest price graph.

Bitcoin Price (US$)

Bitcoin Price (US$)

Source: Refinitiv Datastream

If you had invested US$10,000 into Bitcoin at the beginning of 2015 you would have acquired 31.9 Bitcoin with a market value today of around US$1.8 million. That’s an annualised return of 130%. Not too shabby. Of course, you would have experienced some hair-raising volatility over the period and the average punter would probably have sold part or all of the holding at some point.

We are regularly asked for our views of Bitcoin – or crypto currencies in general. We explain that the fundamentals are similar to trying to catch a puff of smoke – you think you might have grasped it and then it slips between your fingers. In other words, the fundamentals are so elusive that they are probably non-existent. Bitcoin keeps going up in price because it is going up in price. Interest rates offer no competition. Again, using our tennis club experience, the topic is frequently canvassed between sets by people who could no more describe what a Bitcoin is than they could wire an IBM mainframe. Is it the greatest bubble in market history? It has a few rivals but in our view it is well up there.

We are surprised that the climate alarmists haven’t tried to jump all over Bitcoin. The ‘mining’ of each new Bitcoin allegedly uses the daily computing power of a country as big as Ireland. Immense processing power is required.

We, more than many perhaps, share scepticism about the long-term future of fiat currencies given the astonishing level of government debt in the world but it doesn’t lead us down the Bitcoin path. We’ll stick to simple investment principles – buy things that generate increasing revenues through productive economic activity. That works for us.

Bond Yields

No doubt you will have noticed that contrary to all ‘expert’ forecasts long-bonds have recently experienced a marked increase in yield. Central banks have kept their foot on short yields but at the long-end they have watched in dismay as prices fall and yields spike. Some have likened this to the relatively short-lived bond bloodbath in 1994.

Let’s take a look at recent movements.

Benchmark 10-Year Government Bond Yields

Benchmark 10-Year Government Bond Yields

Source: Refinitiv Datastream

The yield spike commenced in February – generating significant book losses for participants in the US, UK, Australia, Canada and several other countries. As usual, Germany and Japan marched to their own individual drumbeat.

Optimism about the weakening of the Covid threat thanks to the vaccines and a scare about potential inflation due to recovering economies and the swelling trillions of dollars pumped by central banks appear to be the reasons behind the yield move.

The IMF expects world real GDP to grow at 5.5% in 2021 and 4.2% in 2022. The 2021 forecasts for the six countries in our graph are: US:5.1%; UK:4.5%; Canada:3.6%; Japan:3.1%; Germany: 3.5%; Australia: 3.5%. Are these growth rates (even if optimistic) compatible with 10-year bond yields scraping along the floor? We don’t believe so.

The IMF expects consumer price inflation in the advanced world to average 1.3% in 2021 and 1.5% in 2022. Now the IMF doesn’t have a great forecasting record so could these numbers be wildly wrong? Yes, indeed, but no-one is better placed to present a different set of forecasts.

Let’s assume the 1.3% inflation number for 2021 in the advanced world is roughly correct. Is that compatible with long-bond yields of less than 1% in many countries and only marginally above 1% in others? No.

In our view long-bonds have recently been encased in a stupendous bubble. Way back in the early 1980s inflation went into secular decline. The market shock in 1994 was a brief aberration. Short of another depression, inflation is no longer in secular decline. In fact, central banks seem determined to crank it to around 2% (although why 2% is chosen is never satisfactorily explained).

The yields remain very volatile and could fall from these levels – or, possibly, do quite the opposite. In either event this is one game we are content to watch from the sidelines.

A Perspective

Some years back the OECD published an estimate of global economic growth over the last 2000 years. The table is reproduced below.

Rate of Real GDP Growth
(Annual average Compound growth rate)

0-1000 1000-1820 1820-1998

Western Europe

-0.01

0.34

2.13

Western Offshoots

0.05

0.35

3.68

Japan

0.10

0.23

2.75

Latin America

0.07

0.14

3.05

Eastern Europe

0.05

0.29

1.92

Asia (ex Japan)

0.00

0.20

1.84

Africa

0.07

0.10

1.99

World

0.01

0.22

2.21

Source: OECD

What is striking is that for 18 centuries the world economy barely grew. Any purveyor of history books will be familiar with the stories – the conditions a person was born into barely changed over a lifetime – and that went on for generation after generation.

It all changed with the industrial revolution. Growth leapt – everywhere. The real standard of living simply rocketed. The uplift in living standards was not confined to the few – it was widespread.

Technological innovation was the key to unlocking growth potential. It still is, although the impact fades over time. Arguably, the biggies – electricity, internal combustion engine, railroads, the telephone, sanitation etc. are unlikely to be duplicated in their overall impact. Some would argue that the internet is a ‘biggie’ – and yes, it is, but it can’t be on the same transformative scale as say, electricity.

We are not trying to prove or disprove anything here – rather we simply want to make the point that the serried ranks of complainers who currently inhabit the world have never had it so good. It’s a tough message to get across but it doesn’t make it any less true. It’s all about perspective.

Lithium

Whether you agree with the electric car revolution or not it is clear that world production is going to skyrocket over the next decade. And that means lots and lots of batteries and copious supplies of lithium – a key component.

In a 2020 paper published by Australia’s CSIRO (Commonwealth Scientific and Industrial Research Organisation) it was speculated that in the years to the end of this decade the world will need to produce more lithium than in all of history to keep pace with electric vehicle demand. The world’s known reserves of lithium will be exhausted by 2040 – although, as the CSIRO comments, no doubt more economic reserves will be discovered by then. It is not surprising that there is a scramble by Elon Musk and others to secure a reliable lithium supply channel.

Other vital ingredients – Graphite, Nickel, Manganese, Cobalt, Copper, Aluminium, Steel. It seems to us that the world’s mining industry is in for a robust time. Is that compatible with the Green revolution?

The Final Word

The Markets expect strong economic growth, the prognosticators (IMF, OECD etc.) expect strong economic growth and yet, and yet…we have our reservations. The economic reality since the middle of last year has not been anything close to a ‘normal’ reality. The world economy is floating on an artificial sea of subsidies, handouts, debt repayment moratoriums and the like. Bit by bit it will all end and what are we then left with? Massive government indebtedness and an economic growth path that is unlikely to be any better than that experienced over the last decade – that is, desultory. COVID-19 and its attendant restrictions will have modified behaviours, perhaps permanently, but we see no reason to expect this to lead to an acceleration of growth above pre-Covid averages. In the meantime we have pushed on to new stock market highs, crypto-mania and absurdly low official interest rates.

The latter has distorted the efficient allocation of scarce resources. If the price of money is next to nothing it is easy to make foolish capital investment decisions. Or pay a silly price for a house. It is easy to maintain businesses that are effectively ‘zombies’. It is also too easy to build debt on a scale that eventually leads to a crisis.

One of the after-effects of the pandemic is to help institutionalise the view that the government will always provide. Whatever the problem just hold out your hand and it will be greased with newly printed cash or support in one fashion or another. Self-reliance – never heard of it. Now here’s a contrast – your correspondent recently spent some time in the Australian ‘bush’, where life is hard and distances are enormous. One cattle station visited had a land area the size of Wales. The point is this – these farmers work incredibly hard through all sorts of climate extremes but they remain cheerful, don’t complain or ask for government assistance. Quite the opposite. They want the government out of their hair. They are tired of red tape and bureaucracy. They just want to get on with their job. Perhaps some of our politicians should spend some time ‘up bush’.

And so we leave it for another quarter. The world has rarely been crazier or more interesting. We doubt we’ll lack for topics.

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