On Target Newsletter
In this issue:
- Wealth taxes,
- Time to exit the bubble?,
- American politics,
- Oil shares,
- Electric cars,
- Precious metals,
- The dollar,
Looming Threat to Your Personal Wealth
The pandemic has devastated government finances around the world. Savage shutdowns have destroyed millions of businesses and crippled many more, pushing them into debt to survive. Panicked governments have abandoned all worthy ideals of fiscal and public debt responsibility as they spend trillions of dollars to counter the damage done by their own measures. Yet we haven’t come to the end of the bad news.
Not surprisingly, policymakers and commentators have turned their thoughts to rectifying the financial damage. What’s to be done? Restive populations are resistant to tax hikes and a return to fiscal austerity. They are likely to become angrier as they recognize that anti-pandemic measures were unnecessarily pressed to extremes.
The solution, it seems certain, will be to impose special “emergency” taxes on the rich, both individuals and businesses. It’s an idea favoured with enthusiasm by the intellectual classes who see an opportunity to reverse the long trend towards inequality brought about by globalization, A trend of which they have been the main beneficiaries == but which they recognize is behind the rising power of populist leaders who endanger their dominance.
Karl Schwab – the founder of the elitist Davos club, the World Economic Forum – has made as the theme of its annual conference this year a “great reset of capitalism.” Its key will be that wealth “needs to be redistributed.”
Worldwide governments are responding with alacrity to an idea that offers the potential for huge financial rewards with intellectual respectability… and popular appeal. Taxes are to be imposed on wealthy individuals, levies on the fabulously rich infotech giants such as Alphabet and Amazon.
In America the new administration is looking to raise taxes on everyone earning more than $400,000 a year. But that won’t bring in a fraction of what’s needed to pay for the avalanche of spending that policymakers are hungry to make. That makes it a near-certainty that the attack on personal wealth will be broadened, and sustained.
Joe Biden himself is said to be opposed to taxing wealth directly, beyond income and capital gains. But his record suggests he will probably flip under pressure from progressives. Democrats in Washington state are planning to introduce a wealth tax on the billionaires “who have benefited most from the pandemic. It’s a state that is home to some of those with the world’s biggest fortunes such as Jeff Bizos, Bill Gates, Steve Ballmer.
In Britain an independent commission has called for a levy on individual wealth of everyone owning assets of more than £500,000 (that’s about $685,000), which would bring in more than £260 billion ($356 billion), or about a third as much as all government revenue in the last fiscal year. Others have mooted the idea of a special levy on all second homes, which are widely owned as family investments.
In Europe a wealth tax would hit hardest in Germany, the nation on the Continent with the most billionaires The Social Democrats and the radical Die Linke party have already come out in favour of such a levy. Chancellor Angela Merkel is hostile to the idea, but she’s another politician known for giving way to pressures from the Left. And in any case, she won’t be in power for much longer.
In Latin America Argentina approved a one-time wealth tax last month. In several other countries in the region, such as Chile, Bolivia and Peru, lawmakers want to follow suit.
Wealth taxes are not a new idea. In fact they’re an old one that has been going out of fashion. In Europe there were a dozen countries that used to have wealth taxes; now there are only three.
The problem is such taxes are very expensive to administer.
If limited to those taxpayers who a very rich, those are the very ones best able to hire the brightest experts to design and implement evasion strategies, or even relocate to the nicest tax havens, such as Monaco.
If broader-based, such levies would tax personal capital such as family homes and pension pots and generate intense opposition. The one-off levy proposed in Britain would hit more than 16 per cent of the adult population.
Nevertheless, hard times such as these could lead policymakers to grab what seem to be easy “temporary” solutions and ignore the deficiencies of wealth taxes.
If you are wealthy – or even just have enough to bring you within the scope of a relatively widely-drawn universe of potential targets – what should you consider doing?
One adviser says it’s probably too late to implement tax avoidance measures, but that’s not necessarily so. Among the options worth consideration, depending on your tax residency, are trusts, holding companies, real assets such as precious metals or property, gifting to children, deferring income, option programmes, international diversification of where your wealth is held.
You may even consider relocating yourself to some nice place to live where the authorities won’t be hungry to tax your personal wealth… if at all.
Vietnam: a Spectacular Emerging Economy
Crossing a main street in a Vietnamese city is unnerving. As you follow the tourist guide advice, ignoring traffic risk as you step out, boldly striding forward at a steady pace, you are engulfed by a torrent of motorcycles. They swerve as they sweep past you, never touching you.
It’s a breathtaking experience that captures the spirit of a nation charging forward to claim the title as Asia’s most spectacularly successful emerging economy.
Not long ago Vietnam was one of the world’s poorest countries. Now it has one of the fastest-growing middle classes. They constitute 13 per cent of the total population, and that proportion is expected to double in just five years’ time. Exports have been growing so strongly that the US administration has threatened to penalize its trade.
The country is predicted to achieve the best economic growth in Asia – more than 6 per cent annual average – over the next few years. It is, says one analyst, “on track to become the second-largest manufacturing country in the world after China.”
MultinationaIs seeking to cut their China-dependent supply chains are pouring in. Last year, despite Vietnam’s savage and highly successful borders shutdown to fight the pandemic, more than $18 billion of foreign direct investment arrived. Half the inflows are going into manufacturing — new factories and research facilities for major electronics firms such as Foxconn, Samsung, Qualcomm, Pegatron and Wistron. Others such as Apple, Uniqlo and Lotte are looking for local partners.
The nation’s transformation began in 1986 when its Communist dictatorship decided to follow the example of neighbour China, allowing incentives to be shaped by market forces, private ownership and foreign capital. It offered generous tax breaks to foreign companies attracted by low wage costs.
The first major company to capitalize on the opening-up was the South Korean titan Samsung Electronics. It has been extraordinarily successful. It now makes in Vietnam about half the mobile phones it sells worldwide. By 2018 its subsidiaries there employed 100,000 workers and accounted for a quarter of the nation’s exports.
In recent years Vietnam has strengthened its international ties by signing up for important free trade deals with the European Union, the Trans-Pacific Partnership and the Regional Comprehensive Economic Partnership. However the US is its biggest export market, taking a quarter of shipments.
The escalating trade conflict between America and China, and the way the pandemic has exposed the risks of dependence on China for strategic supplies, is encouraging multinationals to consider developing Vietnam as an alternative source. However, there are significant obstacles.
Although Vietnam has a large, energetic and well-educated work force, expanding at a million every year, it lacks the abundance of high-level technical and managerial skills readily available in China. And its labour is no longer cheap compared to neighbouring peers’.
Its economy is still far too small to allow the development of intermediate industries. Vietnam does not have the vast galaxies of companies churning out specialized components and materials like those that manufacturers can call upon in China. Land can be expensive. Ready-to-use factories and warehouses are in short supply. Infrastructure is insufficient to support a major new wave of business growth.
Nevertheless, Vietnam has become increasingly attractive to international businesses.
Its economy is soundly managed — it was only one of perhaps a dozen countries to achieve growth last year. Its currency, the dong, is kept in a stable relationship with the US dollar. Inflation is low… 3 to 4 per cent. Interest rates are low, too – the ten-year government bond trades on a yield of about 2.3 per cent. It has a high current account (foreign trade) surplus. Its legal framework has been reshaped by the passing of new laws governing financial securities, business enterprises and public/private partnerships. Local consumer demand is picking up strongly.
There is growing international interest in investing in its listed shares despite limits on what foreigners can buy. As the pool of those they’re allowed to hold is effectively fixed, virtually all companies they’re likely to favour have to be traded among themselves, cannot be bought from domestic investors. Nevertheless Vietnam has grown to become the biggest single constituent of the MSCI frontier markets index.
The shares are ‘still quite attractive’
There is a handful of country funds available to international investors: a US ETF, Van Eck Vectors Vietnam; the long-established London-listed closed-end fund Vietnam Enterprise Investments; Hong Kong-based Asia Frontier Capital’s Vietnam Fund (favoured by well-known adviser Marc Faber).
Its Thomas Hugger says the Vietnamese market is “still quite attractive” with a price/earnings ratio of 17.6 compared to local Asian peers’ Singapore (21), Malaysia (23), Thailand (24.7), Philippines (28.4) and Indonesia (28.5). At the end of last month his Vietnam Fund’s largest positions were: Agriculture Bank Insurance, VNDirect Securities (an on-line brokerage), the LienViet bank and the Dinh Vu port owner and operator. It delivered growth of almost 28 per cent last year.
Bangkok-based NTAsset manager doesn’t offer an exclusively-Vietnam fund but does have the highest proportion of its regional small-cap Discovery unit in Vietnamese shares. Its favourites include Mobile World, a consumer play focused on electronic goods and groceries; the leading jewellery retailer Phu Nhuan; infotech’s FPT (software outsourcing, broadband, cloud); the affordable housing developer Nam Long; Binh Minh Plastic (PVC piping); airfreight terminal operator Saigon Cargo Services.
The fund’s Kenneth Ng says Vietnam is “one of the most attractive markets” in the region in terms of valuation. Earnings growth is expected to be greater than 20 per cent this year and stocks are “particularly inexpensive” on a growth-adjusted basis. For its Vietnamese portfolio NTAsset is looking at a price/earnings ratio of 10.2 times for this year and earnings growth of 33 per cent.
Domestic investors have become increasingly important drivers of the market as the new middle class see equities as a “proven asset class to park their ever-increasing wealth.” The strong performance of small- and mid-cap stocks last year lured a record number of new local investors into the market.
Time to Exit the Bubble… Or Not
Those of us who have been around long enough know something about booms and busts (I was lucky enough to choose to exit the dotcom mania on the day the market peaked). So, is this the right time to flee the share markets? Not yet. I agree with Eoin Treacy that although “there is clear evidence a mania is evolving… there is no evidence it has reached its peak.”
There’s no doubt that stockmarket conditions are frightening. And extraordinary. Tesla, the electric-car pioneer, has been changing hands at 1,000 times its net income and 135 times the ratio of its enterprise value to EBITDA. At a recent market valuation its shares were worth $1¼ million for each car sold each year compared to just $9,000 for GM.
FullerTreacyMoney recently calculated there were 152 large listed companies in the US with share price-to-sales ratios higher than ten – ones that only make sense if you make assumptions such as zero costs of goods sold, zero employee expenses. Here are a few notable price-to-sales ratios: Visa and Nvidia (both 22 times), Zoom Video (49x), Shopify (57x), Moderna (179x).
It’s not only the share markets that have gone mad. At the end of last year there was nearly $18 trillion of fixed-income securities trading on negative yields. In just one year the world’s three leading central banks accumulated nearly $8 trillion of additional debt on their balance sheets.
Jeremy Grantham, one of America’s most successful fund managers, says: “The long, long bull market since 2009 has finally matured into a fully-fledged epic bubble featuring extreme overvaluation, explosive price increases, frenzied finance and hysterically speculative investor behaviour.” He believes we are experiencing one of the great bubbles of financial history like those of the South Sea, 1929 and 2000.
However, as all experts know, an investment bubble can go on inflating for a long time. You may be able to make a fortune if you stay for the ride in the final stages. And exit in time.
Mohamed El-Erian, the renowned American commentator, says that tactically it makes sense to stay invested. “Be like a surfer on a wave, knowing that the liquidity [driving up asset values] will end at some point.” Looking around, you can see that many other surfers are riding the same wave. What happens if you get into each other’s way, or if the wave breaks? “I would be a very nervous investor.”
Tim Price, the British adviser, says because he believes that market timing “is essentially impossible,” his approach at Price Value Partners to investing is to be more or less fully invested at all times. But where? “We diversify our own, our families’ and our clients across three core constituents…
► Attractive highly-cashflow-generative ‘value’ stocks trading for sometimes mysterious reasons at extremely undemanding multiples. The net is cast as widely as possible. “We have no interest whatsoever in index weightings or benchmarks”. With the US stock market “wildly overpriced… we search quite happily for diamonds in markets like Asia (but not China).”
► Systematic trend-following funds. They can be expected to provide zero, sometimes negative, correlation to stocks and bonds. When markets really hit the skids they offer the potential for strong positive returns – not least because such funds are content to be short of all types of assets.
► Real assets, including but not limited to the monetary metals gold and silver. This year allocations will probably be raised to broader commodity markets.
We may soon find out how successfully defensive is such a charity. Graham says: “My best guess as to the longest this bubble might survive is the late spring or early summer, coinciding with the broad rollout of the Covid vaccine.”
America: Deeply Divided
There must be many non-Americans like myself who are appalled by the extremism that has developed in American politics. It’s a struggle to form balanced judgments when there is such extraordinary bias in reporting by almost all media. Even publications and agencies once renowned for balance in their reporting pollute their work by emotionally describing claims as facts. On the opposing side, claims are castigated as hoaxes and lies.
The latest nonsense has been the mania over the Capitol riots, which my old and wise friend Bill Bonner rightly dismissed as a fake. The Democrats’ Senate leader Chuck Schumer ridiculously described it as a threat to democracy like Pearl Harbor, the event that initiated the Pacific second world war. As Bill says: “These were no terrorists, no revolutionaries, no insurrectionists. They were just a hopeless, low-IQ mob… clueless, aimless and thoughtless.”
Less than a year ago there were riots in major cities by radical Leftists. Violence, looting and property destruction. Not an isolated disgrace like the invasion of the Capitol, but repeated violations. Those were widely excused by leading Democrats who instead called for the crazy “defunding” of police.
Professor Michael Lind Such says the similar shocking events “symbolize the abdication of authority by America’s ruling class… A slow-motion disintegration of the USA in its present form.” Many Democrats claim that the Republicans are destroying the republic. Many Republicans claim the reverse. “They are both correct.”
The US country is increasingly embroiled in a mounting political crisis. It’s one, Lind says, brought about by “centralization of power in a small number of ambitious elite factions and coteries. American politicians today tend to be picked by the small number of zealots of various kinds who show up to vote in party primaries.”
Is It Time to Invest in Oil Shares?
Oil prices have recovered to top $50 a barrel – the level above which marginal producers such as American shale miners can start restoring production, even considering expansion. Is it again an industry to invest in?
Energy bears argue that long-run secular trends are in their favour. The whole thrust of government policies worldwide is towards abandoning fossil fuels and promoting renewables. There is still an enormous glut of spare production capacity. Demand may be recovering, but growth is weak. Even polluters such as China are showing increasing determination to abandon coal, to prefer natural gas to dirtier oil. “The industry,” says one analyst, “is stuck with too much refining capacity, too pipelines and too much supply.”
Energy bulls point out that fossil fuels still account for an overwhelming proportion of energy demand and will continue to do so for a long time to come because economies have such dependence on them. The International Energy Agency estimates that the world will need to invest $20 trillion in oil and natural gas supplies over the next 20 years. There’s no sign that resources will be available on such a scale as producers are cutting their capex in the face of an avalanche of anti-fossil fuel forecasts and propaganda.
A major supply/demand imbalance lies not far down the track. That will mean higher prices and a bonanza for companies that have spent enough on sustaining, even increasing, their resources.
Investment bank CLSA suggests giants like Exxon Mobil, which has held its dividend (a lush 7½ per cent) while its rivals have been cutting theirs; the Chinese major CNOOC (its “growth momentum intact”); and promising juniors such as Australia’s Beach Energy.
Are Electric Car Stocks a Better Choice?
It’s easy to argue that we’re seeing a bubble in electrics. The stock-market value of Tesla, the electric-car pioneer, is as much as all seven of the world’s biggest established car manufacturers. However The Economist argues that positive fundamental factors “can explain more than a fair chunk of what is going on.
Since November 9, when news broke of an effective Covid-19 vaccine, cyclical assets such as commodities have surged in value, signalling market expectations that businesses generally are going to improve. Container freight rates have risen to all-time highs. Oil prices have topped $50 a barrel.
Interest rates are low and expected to stay that way for years. Markets suggest that future inflation is likely to remain low, too. The rise in share prices alone, heralding the return of growth and profits, “is probably not enough to indicate a mania.”
Eoin Treacy says that despite much talk about bubbles and late-stage activity, “not everything is in a bubble.” Valuations remain attractive in the world’s highest-growth economies, which also have the best demographics. Dollar weakness will make them relatively attractive.
The UK, Europe, Japan, Taiwan, South Korea, Vietnam, Thailand, Indonesia, Singapore, India and China all have stock markets that are breaking out of long-term ranges on a constant-currency basis. “Base formation completions generally signal the beginnings of new bull markets.
“The conclusion… there is clear evidence a mania is evolving – but there is no evidence it has reached its peak.”
The Outlook for Precious Metals
Factors favour another good year for gold, says the Swiss bank UBS – negative interest rates in real terms, accommodative central bank policies, dollar weakness. Gold is also benefitting from the reflation theme and higher oil prices. Although there’s a lot of optimism about the economic lift to be expected from the rollout of vaccines, the negative impact on gold has already been adjusted for in prices.
Canada’s RBC says that gold shares are well-positioned to withstand a period of fluctuating prices and in fact their valuations don’t yet factor in the prospect of continuation of current higher prices.
Silver has been outperforming gold from the same factors, as well as the strength in base metals and in commodities generally. The platinum group metals hav e been boosted by supply disruptions in South Africa, the world’s largest source.
Bloomberg’s Mike McGlone says the precious metals and copper are likely to outperform equities this year as they did in 2020, when gold rose 26 per cent in dollar terms.
Prices of the extremely rare but important metal rhodium are soaring – up from $2,500 to $17,800 an ounce in just two years.
Rhodium is found with platinum and palladium, but in tiny proportions. Four-fifths of global demand is for use in auto catalytic converters, where it is better than other catalysts at destroying nitrogen oxide pollution.
Car companies in Europe and China are using ever-more rhodium to meet tougher clean air legislation. Shares of the largest producers – all operating in South Africa and listed in Johannesburg – such as Northam Platinum and Impala Platinum, have rocketed.
Will the Greenback Continue to Weaken?
Longer-term forces are stacking up against the world’s reserve currency, says the FT’s Michael Mackenzie.
The dollar has been falling for several months in trade-weighted terms under pressure from increasing trade and budget deficits, with expectations that ultra-lo w interest rates are set for an extended stay.
The Chinese currency has been strengthening, buoyed by a surge in exports and foreign institutional investment flows into Chinese bonds. Beijing may be moving away from the dollar-denominated assets that for years have been helping to plug US trade deficits.
International investors are moving out of the greenback into alternatives – not only the renminbi but also gold, the euro, the Japanese yen and the Australian dollar. An improving global economy may ultimately trigger sharp foreign outflows from Wall Street. “After a nearly decade-long rally for the dollar, global investors are overweight US equities that look expensive compared with the rest of the world.”
Although the dollar is still overvalued in terms of most other currencies. it has been weakening for several months. Europe, the UK, Japan and emerging markets, and commodities, have been rallying when their currencies strengthen, which suggests a significant flow of investment assets away from the US
Growth prospects: The majority of consumer electronics companies at the industry’s recent annual conference see the car as the next big market they can break into, Eoin Treacy reports. Driver assistance, in-car entertainment and traffic management software are all on the menu.
Apple is in talks with Hyundai about manufacturing its cars, so it appears to be intent on pursuing an original equipment model. At today’s valuations one is taking a big bet that they will be as successful with cars as they were with phones – and that Apple will take 10 per cent of global market share within the next 15 years.
It represents a massive leap into the unknown and a product will not be available for sale for at least another four years. At the same time, competition in the sector is reaching fever pitch.
Travel and tourism: Although air travel will almost certainly recover this year as social distancing policies are eased, the industry is not expecting a quick recovery. Its representative body expects global spending to be just half what it was in 2019.
Although analysts generally anticipate a bounceback in short-range holiday travel, they’re less confident about the business sector. Firms that have grown accustomed to Zoom meetings may be less keen to splash out on high-priced tickets for long flights. That would have ominous implications for airlines. In the case of the transatlantic, business flyers account for only 10 per cent of total custom but pay ten to 12 times as much per ticket as economy passengers.
Sexual politics: I was surprised to see that the mass media failed to mention, in its ecstatic coverage of Joe Biden’s first day in office, that what he regarded as important enough to deserve inclusion in the 17 executive orders of anti-Trumpism was one dealing with transgenders. He restored Obama-era regulations allowing biologically male transgender athletes to compete in women’s sports. As the scientific evidence is clear that males generally have greater muscle mass, bone structure and lung capacity than females, this amounts to imposing a general advantage for the handful of athletes who are transgender over millions of females.
Leadership in science: China’s success in landing a spacecraft on the moon – only the third country to get there, collect surface samples and return to earth – has highlighted intense effort to develop its science base.
Back in 1965 the US allocated 11.7 per cent of federal spending to research and development; by 2019 the proportion had fallen to 2.8 per cent. China has come from far behind, but has been closing the gap rapidly. Its national spending on R&D grew at an average annual rate of 17 per cent between 2000 and 2017.
A shorter working week: The move by the global giant Unilever to put its New Zealand staff on to a four-day working week – for a five-day salary – is an idea that has started to interest businesses. It’s claimed that the no-Fridays strategy makes employees happier without loss of productivity. In fact a study by Henley Business School showed that firms that introduced the strategy actually reduced their costs equivalent to 2 per cent of sales.
The Arctic: Russia is investing heavily in infrastructure to develop its 24,000-kilometre Arctic coast, which it expects global warming to open up as a shorter sea route between Asia and Europe. In November it christened a nuclear-powered icebreaker that can crash through ice three meters thick. It’s a 33,000 tonner – the size of a world war two aircraft carrier. Three even larger ones – 70,000 tonners – are planned.
Equities: One metric that shows how clearly American shares are currently overvalued is that although the S&P500 index is now 170 per cent higher than it was at the end of 2012, there has been almost no growth in corporate profits. They have risen at an average annual rate of just 0.2 per cent since the start of 2013.
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