On Target Newsletter
In this issue:
- Moneycraft: budgeting
- Real estate
- China shares
- American politics
- Pre-Covid US weaknesses
- China’s economy
Budgeting: the Key to Financial Freedom
I’ve never experienced in my long lifetime a year such as this so disruptive of one’s personal finances. Covid-19 – or more importantly, the extreme measures taken by governments to deal with it – has had a devastating impact on investments, income, employment, personal businesses. It threatens our financial survival. It forces us to take a hard look at every aspect of family affairs.
If you’re going to manage your finances for survival and for a better life, your starting-point must be a family budget – a simple system to keep your spending under control, provide for some savings, and help you get maximum value out of your limited resources.
You’ll never impose control over your financial affairs without a personal or family budget. Don’t think that budgeting is a boring bookkeeping exercise that will cramp your style and make you feel poor and mean. It should be the key to freedom from money worries. It can enable you to improve your lifestyle. And it will give you a feeling of greater control over your own destiny. Look upon a budget as a financial keep-fit programme.
Make it a family affair. Involve each member of the family so he or she feels a sense of contribution to the common good. It teaches the children that Dad’s pocket and Mom’s purse aren’t bottomless. It helps the family to agree on common financial objectives like a holiday, a new car, or the purchase of a high-performance smartphone.
Work out how much money the family has coming in each month, and what it’s being spent on.
If you’re spending more than you’re earning, then obviously your first priority is to cut expenditure to match income. Your second priority is to cut it a little more, so you can save something. Your third priority is to plan the spending of what you’ve got left, so you get maximum benefit out if it.
Start by listing fixed payments which are difficult to reduce, such as the mortgage or the rent, loan repayments, insurance premiums, property taxes, pay of household help.
Don’t forget your regular contributions to churches, clubs or charities, school or university fees, and commitments such as music lessons for the children.
Certain running costs like electricity, water and Internet basic charges don’t vary much and are hard to economize on, so treat them as fixed payments too.
You should also treat savings as a fixed expense. Everyone should try to save something – it is one of the secrets of financial peace-of-mind.
I have always advised my children and the thousands of people who have looked to me for financial advice over the years to aim to save 10 per cent of income throughout one’s working life – the key to financial security and, eventually, a comfortable retirement.
Those with 15 or fewer years to go to retirement should save a rather higher proportion of income. Even retired people should try to save something. Everyone needs to make saving a habit.
Your first savings objective should be to create and maintain an emergency fund equal to three to six months’ normal income to meet unforeseen expenses such as an illness, a death in the family, or the cost of major repairs to your home or car.
Once you’ve done that, you should start to build up more permanent savings.
It’s a good idea to treat half of what you save as long-term (to provide for retirement, buy a second property, and so on) and half as a medium-term fund to buy big-money items for the family such a new car.
Every member of the family will be more enthusiastic about sticking to a budget if it is seen as a means to achieve clearly-defined objectives. These should include not only financial security — important but unexciting– but also specific benefits which can be enjoyed within a year or two, such as a music centre or a dream holiday.
After listing your ‘fixed’ expenses you should detail day-to-day living costs such as food and household necessities, toiletry, clothing and footwear, medical costs not covered by insurance, fuel and other motoring expenses.
What’s left over is available for pleasure spending. This covers things such as personal allowances, wine and tobacco, entertainment, holidays, hobbies and sport. The extras that make life worth living.
Cutting ‘essentials’ leaves you more money to play with
If you have to make cuts because your overall spending is too high, don’t make them all in this area. In fact you should be able to reduce your supposedly ‘essential’ outgoings sufficiently to leave more money available for pleasure.
Work out the budget at a family round-table conference. This promotes family togetherness and encourages each member to face up to realities.
Base your budget on what you’ve actually spent over the past six months. Don’t bother to find out how the ‘average’ family or the neighbours or your friends spend their money. Their priorities will certainly be different from yours. It’s your spending you want to get under control, not theirs.
Don’t stick too rigidly to the pattern of the past. For example if you bought a smartphone for cash last year, obviously you don’t need to budget for the purchase of another in the coming year. On the other hand, inflation will push up many of your costs. Allow a margin for higher prices – most people find the rise is worse than government figures claim it to be.
Don’t merely reduce your planned spending on certain items to keep out of debt or to provide a margin of saving. Cut more than that, if you can, to allow more money for forms of spending that will deliver great satisfaction for the family as a whole.
You may consider it worthwhile to cut down your spending on gym membership to save money for a new car, or move to cheaper accommodation, so you have enough cash for a nice holiday every year. Only you can decide. But whatever you do, be ruthless about scanning your spending pattern.
The average family wastes 10 or 15 per cent of what it spends. There is virtually no category of expenditure that you can’t reduce if you set your mind to it. Try to find ways to get the same value for less money.
In planning how you are going to economize, remember that economies fall into two categories – instant and longer-term. Instant ones include reducing expenditure on food, clothing, heating and entertainment. All they require is the initial decision, then the determination to follow through.
These economies are the first you will attempt, but they are the harder ones to stick to – you’ll probably find you can’t sustain them as your initial enthusiasm wanes. Longer-term economies are likely to prove more lasting, although they usually require more careful planning and time to implement.
Some examples are moving to accommodation that will be cheaper and more suitable for working from home or will cut down on your transport costs, making do with a more economical car or one instead of two, switching from hotels to camping or caravanning for family holidays.
Don’t forget that a single big expense like a car engine repair can wipe out everything that you can save in a year by careful shopping for food. Less obvious economies, like picking a car with a reputation for reliability, are often more important than immediately apparent cost-cutting areas such as saving on fuel consumption.
Once you’ve worked out a budget, try hard to stick to it. But don’t be too rigid. Don’t worry about what happens to small amounts; it’s what happens to the large ones that matter. A budget is the secret weapon of families who manage to live well on modest incomes.
Investing in Real Estate: a Changing Scene
Real estate has long been a sound investment asset. Is there still a compelling case for it, asks economist, author and company director Dambisa Moyo.
Three factors put the long-term value of property assets at risk:
► The shift to working from home has shown that it’s a viable option, leading to less demand for commercial space as businesses close or scale back offices. Big companies such as Google are telling staff made to work from home by pandemic shutdowns to continue doing so.
One consequence is going to be that many people will give up expensive city accommodation to move to cheaper suburban and rural areas, driving down residential property values.
“The shift has also accelerated digitization, automation, robotics and the adoption of technologies that will ensure companies can operate effectively with fewer employees. This trend will exacerbate reduced demand for physical premises.”
► After coronavirus governments will be looking for new sources of revenue. Politicians will favour taxing property over raising taxes on labour (income tax) at a time of high unemployment. We could see removal of tax incentives for owning property such as tax relief on the interest paid on mortgages.
There could be restrictions on the scope for one generation to pass on to the next that is provided by lower inheritance tax rates.
► Owning land and property has long been seen as a good way of preserving wealth and protecting capital against inflation, because values and rents typically increase in times of rising prices generally.
But will inflation be a serious issue in the years ahead? Although the huge government stimulus packages in the wake of the pandemic could be inflationary, there are also deflationary pressures. Technology is driving down many costs, for example in transport and telecommunications.
The shock to global demand has reduced growth forecasts. There is no sign of significant inflation in the near term; higher unemployment is more likely to keep it at bay.
► The long-term question hanging over the real estate market is that of demographic shifts. As populations continue to age in the developed economies there will be fewer economically active younger people relative to retirees. This will leave fewer buyers for property, adding to downward pressure on prices.
Covid-19 has thrown up many questions about asset allocation. As investors re-think their portfolios they will have to weigh up whether exposure to real estate will protect or erode their wealth, Moyo says.
China Share Selections to Consider
Jefferies’ Hongkong-based analyst and commentator Christopher Wood has long published in his Greed&fear newsletter suggested share portfolios for the Asia Pacific region excluding Japan, and for Japan alone, for long-term investors. They’re also sound and sometimes alerts investors to interesting opportunities.
He has now introduced a China-only portfolio of stocks listed in Hong Kong and in Shanghai encompassing both new-economy internet names and old-economy value investments.
Here it is…
oil & gas
optical lens producer
power tool manufacturer
diesel engine manufacturer
property management services
China Yangtze Power
Chow Tai Fook
online financial information
Great Wall Motor
Hong Kong Exchanges
stock & futures exchanges
Sany Heavy A
Election Issues: Voting Fraud, Riots
Voting frauds have become a hot issue in America. It’s a pity that even reputable media muddy the waters by claiming that we shouldn’t worry because there is no evidence that it happens. Which is completely untrue.
The Heritage Foundation maintains a database of proven cases reported over the past four years – the total has now reached 1,285. That includes cases of impersonation fraud at the polls, false voter registrations, duplicate voting, fraudulent absentee ballots, vote buying, illegal assistance to and intimidation of voters, ineligible voting (such as by aliens), altering of vote counts and ballot petition fraud.
The discovery of tens of thousands of fully functional fake driver’s licences with magnetic strips being imported into the US suggests that organizing vote ballot frauds enough to tip the balance of election outcomes wouldn’t be too difficult.
Quite apart from the risk of frauds, investors don’t appear to be pricing in serious disruption of the November election. The postal service clearly isn’t equipped to deal with the extra volume of work we can expect to see come from a mail-in election.
Another increasingly important issue is personal security. Americans, seeing the spread of rioting, anti-police policies and soaring crime in some major cities are increasingly looking to their own defences. Gun and ammunition sales are soaring. In June the FBI conducted a record 3.9 million background checks for firearm purchases. About 40 per cent of them were for first-time buyers.
Law and order has emerged as a major issue in the current presidential campaign and has forced the Democrats to change strategy. For three months the party and its partisan media ignored rioters’ violence or even voiced sympathy. Now they have started to condemn it. A Pew public opinion poll reveals that three-fifths of voters now say violent crime is a very important issue that will influence how they will vote.
Two other of the most interesting polls I’ve seen of late are a Cato Institute study showing that 62 per cent of American voters are not comfortable about revealing their real political views, and a Zogby poll showing that 36 per cent of blacks approve of Trump. That suggests the Democrats are losing ground among what has long been their most reliable voting bloc. The president’s numbers are much better than seen before. They are particularly high among young black voters. 54 per cent of those aged 18 to 29 approved or somewhat approved of him.
Self-Inflicted Disaster reports
Abandoning shutdowns: A first sign that governments are awakening to the need to put an end to the madness of shutdowns is the admission by transport minister Ong Ye that Singapore may have to abandon its 14-day quarantine on arriving airline passengers, substituting a “rigorous testing regime.”
The island nation has managed to limit Covid-19 deaths to just 27, with an average age of 74, but economic costs have been devastating. A near-total ban on arrivals at Changi airport, one of the world’s busiest before the pandemic, has reduced its annual rate of transit and transfer passengers being processed from 20 million to just 150,000.
Mortality risks: A new study by Columbia University confirms that those who are fat are much more likely to die from Covid-19. Those who are “extremely obese,” with a body mass index of 40 or more, are three times more likely to die; those with a BMI of 45 or more are four times as vulnerable.
42 per cent of all Americans are obese. Blacks are more likely to be obese than whites (50 per cent versus 42) but only 17 per cent of Asians are.
How can one explain the dramatic fall in deaths from all causes in the Philippines since pandemic lockdowns were imposed there in mid-March? The number of registered deaths was 259,426 in the first half of this year… 16 per cent below the figure for the first half of 2019. So 49,000 fewer Filipinos died this year after adding the fewer than 3,000 Covid-19 deaths.
Low-mortality is a mystery in Britain, too. Government statisticians report that in June, when high numbers of Covid-19 deaths were being recorded, the death rate attributed to dementia was only 77 per hundred thousand of the population compared to a five-year average of 96. Deaths caused by heart disease were 65 compared to an average of 95. Other comparisons were: lung cancer (41 v 53), stroke (37 v 51), chronic lower respiratory afflictions (29 v 46), bowel cancer (23 v 37), flu and pneumonia (18 v 37). The death rate attributed to Covid-19 was 53 per hundred thousand.
US Economy: Weaknesses Apparent Before Covid
“It was an illusion fuelled by Republicans, their media surrogates and Wall Street that our economy was on a strong trajectory before Covid-19 hit earlier this year,” Michael E Levitt argues in The Credit Strategist.
“In fact there were troubling signs that, apart from improving unemployment numbers… the economy was skating on thin ice. First and foremost, it was living on unprecedented amounts of borrowed money, most of which was not being used for productive purposes but was instead supporting consumption, speculation and financial engineering.
“The federal government was running deficits [of more than a trillion dollars a year], state and municipal finances were deteriorating sharply, pension funds were severely underfunded, high numbers of working-age people were still out of work, wealthy inequality was widening dangerously, urban black-on-black violence was exploding, opioid addiction was rampant, and people were generally highly dissatisfied with their lives.
“Prosperity was limited to a very small percentage of the population while many Americans continued to struggle with higher costs, declining buying power, and the deterioration of their physical environment due to violence and poverty.”
Both political parties were and continue to be responsible for this state of affairs.
China Gets Governance Boosts
There are three reasons, says The Economist, why the Chinese economy, already larger than America’s in purchasing-power terms, continues to grow on a much sounder basis than the past…
► Tight control over the business cycle and debt. “The days of super-sized fiscal and lending binges are over. Banks have been forced to recognize off-balance-sheet activity and build up buffers. More lending is taking place through a cleaned-up bond market.” The government’s response to Covid-19 has been restrained, with a stimulus worth about 5 per cent of GDP – less than half the size of America’s.
► Governance is more efficient. The commercial system has been made far more responsive to the needs of businesses. Bankruptcies and patent law-suits, once rare, have risen five-fold since Xi Jinping took power in 2012. It now takes just nine days to set up a company.
► State-run companies are being compelled to boost their financial returns and draw in private investors. A credit blacklisting system penalizes firms that misbehave. Instead of indiscriminate industrial policy such as the Made in China 2025 campaign there’s a shift to a sharp focus on supply-chain choke points where the country is either vulnerable to foreign coercion or where it can exert influence abroad.
Market Timing Under Attack
Market timing doesn’t make sense as an investment strategy argues Terry Smith, one of Britain’s most successful fund managers.
To succeed with it you not only have to be able to predict events such as interest rate rises, wars, oil price shocks, the impact of the coronavirus, the outcome of elections and referendums, but also what the market was expecting and how it will react.
‘Think back to Brexit and Trump’s election. We were told by most commentators that they would not happen, but if they did, the markets would plunge. Not only were they wrong about the events, but they were also wrong about the market’s reaction to events. The markets soared.
“When it comes to so-called market timing there are only two sorts of people: those who can’t do it, and those who know they can’t do it.”
Food: Plant-based substitutes are going to completely replace animal-based products in food within the next 15 years predicts Patrick Brown, founder and chief executive of Impossible Foods.
Farming is blamed for creating 630 million tons of carbon dioxide in North America every year, or 8 per cent of total emissions. In the US two-fifths of agricultural emissions come from animals; two-thirds are emitted by ruminants – cows, buffaloes, sheep – that have bacteria used to ferment food and allow them to digest foodstuffs such as grasses that humans can’t.
Livestock have been getting a bad rap as a cause of atmospheric pollution due to mistakes in research some years ago. In fact, according to the US Environmental Protection Agency, animal agriculture worldwide accounts for less than 4 per cent of greenhouse gases.
Oil: JP Morgan’s lead petroleum shares analyst, Christian Malek, predicts rising prices of “the next oil supercycle” will happen because the long-term hit to supply will be bigger than the fall in demand.
About a million barrels a day have already been wiped out by old fields being shut down that won’t be brought back into production by recovering prices; another four million of supply will be lost from delayed or deferred investment in new projects and expansions. A supply gap could open from around 2022.
Even when the switch to electric cars starts to have a significant impact on demand – which most analysts expect to happen in the 2030s – “a supply gap for what remains of the world’s most important commodity should raise prices, and perhaps to a substantial degree.”
High-profit lines: It’s understandable why there is such an abundance of politically-correct investment products that are “sustainable,” “green” or environment “friendly.” There’s plenty of demand for them, and an avalanche of promotional hysteria to boost that demand.
The one thing that you’re rarely told is that selling these investments is a highly profitable business. Managers are able to charge much higher fees for them than for standard funds.
Last year Forbes gave as an example the 0.55 per cent charged for a Vanguard fund managed according to politically-correct ESG principles – four times as much as the 0.14 per cent levied for its equivalent non-ESG fund.
Long-term outlook: Investors should prepare for a new era of inflation, but this one won’t be good for equities says Russell Napier, the independent market strategist.
Reflation “is likely, in due course, to force an aggressive form of financial repression… forcing savings institutions such as life insurers and mutual funds to buy government debt at yields below the rate of inflation… The mandated purchasing of bonds will eventually force savings institutions to dump other assets, including equities.”
In this “new age of repression” investors should hold as much gold, and as little government debt, as they feel comfortable with.
Inflation: Everyone knows that they have to pay more for food, healthcare or other necessities. But there is one exception to generally-rising prices, says strategist Michael E Lewitt – where technological improvements produce digital deflation. Products that employ technology, such as Apple’s, provide significantly enhanced features for declining prices.
Those who benefit are the 1 per cent of the population who earn the most. “Lower-income Americans can’t afford expensive iPhones, computers, autos and the like.” It’s other products and services, the ones they need, whose prices continue to rise.
Why Wall Street is so highly rated: US stocks trade at a Shiller price/earnings ratio of 30.1 compared to 16.5 for developed Europe, 18.1 for Japan. Why? It’s because America has so many technology stocks. The techs, because of their relatively high earnings growth rates and low cost of capital command far higher valuations than traditional large companies such as banks. The trailing PE ratio of the tech sector is 35 compared to financials’ 16.6.
There are highly-rated tech stocks outside the US, such as Europe’s SAP (software) and Square (digital payments), but there are fewer of them.
The South China Sea: The Philippines is wary of taking sides in the mounting dispute over ownership of the maritime region, its islands and its resources.
The US has become more confrontational, conducting naval drills in its waters. China has warned countries with rival territorial claims, and their allies such as America, not to allow their navies to exercise in contested waters.
However Filipino president Rodrigo Duterte has said he is unable to assert his country’s claims as “China has the arms; we do not.” He has ordered his admirals not to participate in naval drills that anger China.
Gold: Interesting to see that Warren Buffett, one of those best-known for pouring scorn on the metal as a barbarous relic, has reversed direction and started to buy it, using his Berkshire Hathaway to take a new stake of about half-a-billion dollars in the shares of Barrick Gold.
One consequence of the new institutional interest is that Christopher Wood of Jefferies has raised his peak price target for the current secular market to $5,500 an ounce from around $2,000 now. The methodology he’s been using since 2001 is to measure gold relative to American disposable income per capita.
Home-buying boom: “Nothing motivates people to trade up for extra space like being stuck at home with their families, day in and day out,” reports the FT. “Americans with enough cash and a stable job are taking up ultra-cheap mortgages to buy bigger properties; city-dwellers are decamping for the leafy suburbs.”
Sales of new homes are growing at the fastest rate in 14 years. Prices, up 4.3 per cent over 12 months to June, hit a new high. Shares of the nation’s four largest homebuilders has also reached new peaks.
Motor industry: Electric cars will remain significantly more expensive for European manufacturers to produce than combustion engine models for at least a decade, according to research by consultancy Oliver Wyman.
The cost of making a compact emissions-free vehicle will fall by more than a fifth by 2030, to €16,000. Equivalent petrol or diesel models will be 9 per cent more expensive, even though the cost of batteries, the key component of electric cars, is expected to almost halve.
Intangible assets: They explain why technology firms such as Amazon, Alphabet (Google) and Facebook are rated so highly by investors while their absence explains why even the most important legacy firms are ignored.
Justina Lee of Bloomberg says outdated accounting rules work to the disadvantage of value investing because they treat intangible investments such as research as expenses (liabilities) rather than capital (assets).
Big Tech stocks: They have been leading Wall Street to new record highs because they seem to offer everyone something says Mohamed El-Erian, Allianz’s chief economic adviser. “They promise growth based on the shift from physical to virtual activities in the pandemic, but also downside protection because they have massive cash holdings, low debt and positive cash-flow generation.”
Pocketing loot: American companies are awarding their top executives multi-million dollar “retention” bonuses just before declaring bankruptcy. The list includes high-profile collapses such as JC Penney, Hertz and Neiman Marcus. Creditors are furious – the payments are rewards for failure.
East Asia: China is quietly reorienting itself towards the ASEAN countries plus Japan (yes, Japan!) and South Korea, where trade already today accounts for about 15% of all China’s trade and is expected to double in the next five years.
Japanese equities: State support for the stock market is massive. The central bank now holds almost 80 per cent of all exchange-traded funds.
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