Some Past Errors Create Future Problems - Weekly Blog # 798

 

Mike Lipper’s Monday Morning Musings

Some Past Errors Create Future Problems

 

Editors: Frank Harrison 1997-2018, Hylton Phillips-Page 2018

 

 

 

Employers can't find suitable candidates to hire due to both faulty education and attitudes toward work. This is one of the reasons the US is losing the productivity of labor battle. In at least 16 states a large percentage of students are failing third grade reading tests e.g., 60% failed in Tennessee. (In our machine era, if you can't read instructions, you can't operate various machines.) I suspect that teachers are taught to teach to the test, test scores are used for hiring, and schools are retaining teachers in union jobs.

 

Teachers should be teaching students how to use information to gain knowledge. This is not what is happening today. (A classic example is a problem I had with my late daughter. She drove me crazy with her disability, which caused her to have problems adding a simple column of numbers correctly. So, I changed focus and concentrated instead on how she kept track of spending money. She always had money in the bank and her bills were always paid. In explaining it to me, she said that was easy. She said she was conserving the money by keeping it intact at the bank, while we paid her credit card bill. Thus, she was the best money manager in the family. The key was that she figured out what none of her teachers or aids did. The teachers need to learn to teach life lessons.)

 

The biggest problem with what is being taught is the integrity of our history, which pivots on one word: Tariffs. People don't like paying taxes. Politicians throughout history have given popular reasons why people should make these payments, without focusing on the real reasons. Three examples in US history still hurt us today.

 

The “Boston Tea Party”, staged by American Colonists dressed as Indians, threw the first shipment of taxed British tea into Boston Harbor. The Colonists were protesting the payment of a tax without being represented in the British government. The truth of the matter was that Lord North, an unpopular British Prime Minister, needed to pay for a six-year war with the French to protect the American colonies during “The French-American War”. Lord North and many in England thought that America was costing too much. It was being totally financed by revenues derived from goods purchased from “The Mother Country”. The Tea Party thus became one of the initial political events leading to the American Revolution.

 

The second misappropriation embedded in our history is the Civil War. In this weekend’s Wall Street Journal there is an opinion piece by Jim Webb, a US Marine Officer who served in Vietnam and a Secretary of the Navy. He was also an independent director of a respected Mutual Fund. In the article he commented that there were very few confederates who owned slaves. He also noted that more slave owners fought for the North than the South. Yet it remains a popular belief today that the war was about slavery. In truth, the war was about tariffs. The North wanted high tariffs to protect its manufacturing, while the South wanted low tariffs to aid the British who were major buyers of their’ cotton and were suppliers of cash to the Confederacy.

 

Post Civil War through the Wilson administration, Americans were fed a political diet about slavery. For about the fifty years this was happening, the German General Staff made many trips to study American war battles, particularly battles in the Shenandoah Valley with Stonewall Jackson. The study of these battles played a critical role in both WWI and WWII, particularly in their attacks of the ”low countries”.

 

I also believe the German underground political movements in the US led to delays in the US entering both world wars, despite British efforts. (The US recognized the importance of the war and placed its War College in Pennsylvania, hoping to understand both battles and the infrastructure challenges.)

 

The third misappropriation is still taking place today, with the last two administrations selectively using tariffs for domestic political purposes. These tariffs caused inflation that was importantly paid by low-income people. The current administration is attempting to hurt Republicans by damaging corporate earnings through the restriction of sales, while at the same time trying to raise labor union wages and their contributions.

 

With All This Good News-How to Invest?

Like Ronald Regan, “I won't exploit my opponent’s youth and inexperience”.  Neither party is serving up a long-term leader or a set of policies. Most people can see through their own accounts that there is no great future for them. Around the world young people have lost confidence in the "system".

 

With most equities around the world declining in real terms, one should consider a careful plan to dollar cost average into the markets. The more China suffers, the more attractive long-term investment in China becomes. Foreign car companies will benefit compared to ‘the big 3”, as the UAW forces prices higher.

 

Recognizing my COVID Brain does any of this makes sense.

 

 

 

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Mike Lipper's Blog: Inputs to Implications - Weekly Blog # 797

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Mike Lipper's Blog: Possible Investment Lessons - Weekly Blog # 795

 

 

 

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Investors Are Worrying About Wrong Assets - Weekly Blog # 606

Mike Lipper’s Monday Morning Musings

Investors Are Worrying About Wrong Assets

Editors: Frank Harrison 1997-2018, Hylton Phillips-Page 2018 –

Historic + Present Background
Ever since there were publicly traded securities they probably faced questions about how to mix and match them. Starting in the United Kingdom in the mid 19th century, the public was offered a portfolio of securities in a single trust, launching the beginnings of the mutual fund industry. The early providers of these products were established money managers for the wealthy. The wealthy almost always have poorer or younger relations that should have their money managed for them. Thus, wealth managers developed a lower capital base solution, ”retail” as an additional service for their wealthy clients.

From this base of collective investment vehicles, mostly mutual funds, it became a global multi trillion-dollar vehicle to satisfy the needs of both individual and increasingly institutional investors. For regulatory reasons, funds were required to disclose their performance, portfolios, fees and expenses, as well as some other things. Today, most mutual fund managers run separate accounts for institutional and wealthy individual investors. Their publicly available vehicles generally being representative of their overall investment thinking. Thus, I believe that studying these most disclosed vehicles can impart a good bit knowledge about the publicly traded global securities markets, which has application for many investors.

Fear of Loss May Come with the Pleasure of Gain
As securities prices fluctuate, each individual security can by definition lose money from their initial acquisition price. To reduce the chance of loss, investors can largely use two tools, selection skills and diversification. Good diversification appears to be easier for most than selection skills. Thus, an analysis of diversification practices reveals a great deal about an investors’ worries. Security selection deals with a narrower based view of the future. (Most entrepreneurs and a few a great investors, like Charlie Munger, prefer a very limited number of investments to broad diversification.)

The two tales below show the amount of total net assets invested in Trillion-dollar US mutual fund categories:

Mutual Fund Total Net Assets in $ Trillions by Investment Objective 
Core Equity (*)           $5.95
Growth Equity             $3.36
Taxable Money Market (*)  $3.39
Other Fixed Income (*,**) $3.32
Mixed Assets (*)          $2.68
International Equity      $2.17
Value Equity              $1.19
Sector Equity             $1.01

(*) Perceived to be less risky
(**) Taxable

By Market Capitalization within Equity Portfolios
Multi Cap                 $3.75
Large Cap                 $3.33
Small Cap                 $1.10

Interpretation
Mutual Fund investors in aggregate believe in diversification and reasonable exposure vs. perceived risk of growth and small caps.

Major concern - Reduced equity risk exposure comes with increased sensitivity to interest rates. At some future point in history, government deficits suggest that interest and inflation rates will rise, possibly with a shock.

“Canary in the Mutual Fund Mine”
This week, my old firm’s owners Refinitiv highlighted the combined net positive inflows going into Ultra-Short Obligation investments through Mutual Funds and ETFs. These funds on average keep their maturities below one-year. Money market funds by comparison have more limited maturity and quality constraints. Currently, the assets in this category are more than twice their year-end 2017 level. This is another sign of perceived equity risk reduction, particularly by ETF investors.

Longer-Term Observations After Historical Thoughts
It is popular to state that the market is “climbing a wall of worry”. Another way to look at that statement is to say it’s signaling a lack of confidence in a positive future. Good investments begin with good entry prices, but not those exclusively based on the past. A good investment for the future will be a bargain purchase, viewed from the future, not the past. Suggesting a view of confidence about the future.. Part of the problem, particularly for those of us who have dwelled in past performance records, is that due to technology, globalization, and political currents, the future may be quite different than the past. (“Quants” pay attention.)

Some of the earliest fortunes made in America existed at the time of our first Thanksgiving in Massachusetts. These resulted from skills in farming and negotiating, although their greatest skills evolved into estate management. Sometime later in Boston, a small group of lawyers were put in charge of the money of successful Sea Captains away for more than a year working the China Trade. They were paid a percentage of the revenues/profits. The skills of these lawyers, not only in management and financial planning but in selling to the rich, was an important factor in the growth of the mutual fund industry. Also, perhaps as a tribute to the “Boston Tea Party”, they demonstrated against taxation imposed from across the water, a familiar complaint today. 

In using history to guide future actions, one of the critical tasks is to not focus on past numbers, but the circumstances that created the working equation of a situation. The understanding of these relationships is why I suggest that those lessons from Massachusetts are important to managing money today. The consideration of financial planning, development of successors, understanding taxation implications and  working hard.



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1776 Can Make Us Independent Again

Historical Introduction

Most Americans believe the single most significant act of 1776 was the signing of the Declaration of Independence. I suggest that when facing today’s economic problems we consider a still more important event that occurred  in 1776, the publication of Adam Smith’s The Wealth of Nations.  (Not to be confused with the very insightful contemporary author and television personality who uses Adam Smith as a pseudonym.)

The two events are very much related. Our Declaration of Independence was driven by the colonists’ abhorrence to the Navigation Acts and other laws of Great Britain that raised the costs of imports into America and restricted the transportation of our exports. Remember the famous Boston Tea Party was caused by the tax on imported tea.

These laws were an outgrowth of the mercantilist philosophy of European governments to promote their own exports and restrict imports into their lands. This governing philosophy reigned between about 1500 and 1800, and was based on the need to get trading partners to ship gold to those countries where they had an unfavorable balance of trade. The importance of gold was not primarily economic, but rather to pay for their constant wars. In the minds of the European leaders, particularly the British and French, this was a matter of survival.

What Adam Smith advocated was that nations should specialize in their production of items to be exported and import those items where they did not have a cost advantage. Over the succeeding generations his ideas were finally accepted.

Today and for some time American Presidents have announced policies that would make the US independent of foreign oil. In response to questions and comments from a number of regular blog readers, I will attempt, in a small way, to play an Adam Smith role.

My biases

I have never seen a totally unbiased report. Most of the authors are not fully conscious of their own biases, particularly those that were inculcated into them at their universities. As we are all captives of our experience, biases cannot be completely avoided. The best we should do is to identify either the biases or the sources of our biases. Mine starts with a college course in Middle-Eastern history, geology and geo-politics. I learned that in Saudi Arabia, the direct lifting cost of a barrel of oil was approximately four dollars and did not change much over the years. From time to time I have invested directly into domestic gas producers to make money or energy-focused mutual funds as an inflation defensive move. When I was lucky enough to become a trustee of Caltech I was exposed to numerous professors who were focusing advanced scientific approaches to find energy and use it more efficiently. These inputs allow me to think about a problem from different viewpoints, and therefore biases. 

Parsing the search for energy solutions

The three main fuel sources of energy are oil, gas, and coal. (For the purposes of this search I am ignoring nuclear, solar, wind, hydro, and geothermal with the belief they will play an expanding role, but won’t provide sufficient power in the short to intermediate future.) I believe that each of the age-old big three should be addressed individually.

Oil

This is where I put my hat on as a modern Adam Smith. The popular view of Americans from the White House to Main Street is that it is dangerous for us to rely on the importation of oil from those nations that  “don’t like us.”  The fear is that in time of military conflict those that supply us with oil will cut off flow, or at least hold it up for ransom. There are many counter arguments to this fear. First, our military has developed lots of means to defeat an enemy without the need for the quantities of petroleum products required in World War II and subsequent engagements. Second, we have built a strategic oil reserve which is intended for military emergencies. (Not to be used as a politically-inspired price mechanism.) Third, if needed, government agencies believe that there is more oil underlying US government-owned land than has been discovered in the rest of the world.

There is another set of economic arguments which update Smith, the canny Scotsman. If oil is a scarce resource and cannot be easily replaced, we should deplete other countries’ reserves and political power by buying all that they will sell to us. Further, a rise in the international price of oil, while somewhat painful to the US in the short-term, dramatically changes our competitive position in the world. The US is less dependent on foreign oil than Western Europe, Japan and China. If petroleum manufacturing costs for the rest of the globe goes up and we have competitive products at a lower price, the US share of market will go up which can aid our job growth. Based on what we have already seen, the threat of higher priced oil will trigger greater conservation efforts and the development of more efficient uses of energy.

Gas

There are reasons to believe that the US and certainly Canada can be net exporters of natural gas. Other countries are also developing their gas properties. From a strategic viewpoint, I might be reluctant to become too reliant on imported gas except from Canada. Over time I would expect the bulk of our heating requirements will be filled by natural gas. We are likely to see both the military and large trucking fleets switching to hybrid or fully dependent upon “nat. gas.” The environmentalists will need to prove that fracking is dangerous to the neighborhoods of gas extraction and then our technologists will probably find solutions.

Coal

Some politicians have proclaimed that there is no such thing as clean coal. Considering the US has a reported 250 year supply of coal, I hope they are wrong.

If the price of energy goes up, I believe that there will be enough room in the final price of coal for both steel-making and heating to cover the costs of technological fixes that are underway.

Conclusions

Just as 1776 brought forth thoughts and actions that changed the world, I think we are at the point of achieving meaningful economic energy independence in the near-term future as we modernize our thinking.

As is my wont turning to investments, I would suggest investments in stocks of companies that are devoting some of their efforts to new ways to make our search and use of energy more efficient. These areas could be mining and extracting efforts, transportation efficiencies, and battery producers among many other beneficiaries of the application of new and improved technologies. These could include some, but not all, of the major oil, gas and coal companies.

Are you ready to be independent in the new world?  Let me know.

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