They'll be laughing at that in Hawick
February 11, 2019

Blain's Morning Porridge 

"A little bit of an altercation in the scrum, they'll be laughing at that in Hawick."

What a fascinating world we live in. Amazon boss Jeff Bezos exposing himself, and exposes the National Inquirer for attempted blackmail. A young senator, Alexandria Ocasio-Cortez, snaring the headlines and proposing a preposterous New Green Deal – while further splitting the Democrats. Europe plunging back into recession. The UK no closer to a Brexit Deal (hang-on, that's not a headline… that's just… normal..) Deutsche Bank paying up to demonstrate it can borrow in markets. Santander facing a EUR 50 billion breach of promise lawsuit from Andreas Orcel (proving the Spanish banking adage: At Santander – you are either a Botin or a.. servant..) So much out there…

Are all these things linked? Yes – the world we live in determines the functionality of global markets. You might believe Washington Post owner Jeff Bezos was the victim of an Inquirer effort to "catch and kill" a story the paper has on president Trump's activities in Moscow, or you might believe Deutsche Bank's problems are part of a deeper malaise across European banking. Whatever… the news changes our perceptions. 

The trick is to separate the chaos of new flow from the tau of markets. Markets are linear functions of buy/sell – they are not necessarily about common sense. To illustrate: last week I wrote about Italy, pointing out just how hopelessly it's ensnared and entrapped within the straitjacket of the euro, with little prospect of growth, employment or upside.

Yet Italian bonds are one of the top performing assets – AND WILL REMAIN SO – because the European Central Bank can't afford to let Italy go, and Europe sliding back into downturn pretty much ensures they'll continue to bailout Italy and likely resurrect quantitative easing in some form – watch out for something like long-term repos. An article in one weekend paper says the EU is now turning a blind eye to European governments spending their way out of austerity-driven recession.

Therefore, smart investors might agree with my analysis of Italy as unsustainable, yet keep buying Italy, and will keep on buying right up to the moment the arbitrage cracks. According to the theory of flight bumble-bees can't fly – but they do. That's why the smart hedge fund bosses are watching the succession for Draghi's job at the ECB so carefully, and weighting populism in Germany so carefully – as it requires a complicit German electorate to keep the euro illusion going, a bit like the tower blocks created by a hypnotist in a classic Monty Python's Flying Circus sketch. I suspect they care considerably less about the current spat betwixt France and Italy – entertaining as it is..

On a purely common sense macro perspective, you should probably ignore Europe completely. Who cares about counties with sub-1 percent growth, demographic time bombs ticking away, and a hopeless mish-mash of unpredictable populist politics coming to the fore? Go invest in the fast-growing economies of Africa and Asia instead. Yet, it still makes sense to arb the European game.

Such things are just facets of the siximpossible things before breakfast approach to investment. Using the same logic, you might see US stock and bond markets as a screaming buy! US growth remains robust – despite the Federal Reserve's clearly indicating it's dialling back rate hikes. Essentially rates will remain flat. Is that a problem? From the market's perspective – get out the party hats! There is no long-term inflation threat because there is zero wage pressure. Despite "full employment" US companies pay as little as they can. Wages aren't rising.

Low rates will fuel yet more share buy-backs for Bernie Sanders to fulminate against. Share buybacks are great for the market and excellent for senior executives and owners of businesses – converting equity into massively underpriced debt and handing more capital back to them. More highly levered companies don't actually build anything more, or create new jobs… but the rich get richer – and, heck, isn't that what capitalism is all about? In the short-run….

Last week I commented in the Morning Porridge about squalour and creeping poverty in San Francisco. It was an eye-opener. It got about a quarter of a million views on Zerohedge, I got trolled and called a communist /socialist /democratic know-nothing stooge. (On the plus side, I got over 300 comments from Porridge readers, and only one was nasty. The rest ranged from supportive to constructively critical.)

It's a difficult one: the current iteration of capitalism has spawned increased global poverty, income inequality, urban deprivation, squalour and filth. Yet, somehow, such iniquity isn't actually bad for markets? Should I therefore hurrah the continuation of low rates as good for markets and ignore the bad for people thing? What's to worry about when share-buybacks push up stock prices, and the Fed is keeping rates artificially low to i) placate the president, and ii) counter the president's trade policies?

Long term – even my most hardened sink or sink free-market capitalist critics admit we face a disruptive inequality crisis. We can address it sooner or later. The imbalances are growing and the rules of mean reversion apply as much to society and politics as they do to markets! Long-term markets would probably function better if everyone is positively motivated. Adam Smith, the father of modern capitalism and economics got it. So do most people – but the sad reality is Change is Difficult – especially when the market leads opinion!

I've been thinking about the "hows" of making the world a better place all weekend, but I don't know enough ‘ologys or medicine to cure drug abuse, chronic greed, urban mental illness, virtue-signalling philanthropy, or how to reform our education systems and society to improve everyone's opportunities.

What I do suspect is markets are building up great long-term underlying weaknesses, but in the short term low interest rates for longer is a distortion, but positive for financial asset prices. That can't be a good thing?

Out of time, and back to the day job…

Bill Blain 

Shard Capital





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Blain's Morning Porridge 

"A little bit of an altercation in the scrum, they'll be laughing at that in Hawick."

What a fascinating world we live in. Amazon boss Jeff Bezos exposing himself, and exposes the National Inquirer for attempted blackmail. A young senator, Alexandria Ocasio-Cortez, snaring the headlines and proposing a preposterous New Green Deal – while further splitting the Democrats. Europe plunging back into recession. The UK no closer to a Brexit Deal (hang-on, that's not a headline… that's just… normal..) Deutsche Bank paying up to demonstrate it can borrow in markets. Santander facing a EUR 50 billion breach of promise lawsuit from Andreas Orcel (proving the Spanish banking adage: At Santander – you are either a Botin or a.. servant..) So much out there…

Are all these things linked? Yes – the world we live in determines the functionality of global markets. You might believe Washington Post owner Jeff Bezos was the victim of an Inquirer effort to "catch and kill" a story the paper has on president Trump's activities in Moscow, or you might believe Deutsche Bank's problems are part of a deeper malaise across European banking. Whatever… the news changes our perceptions. 

The trick is to separate the chaos of new flow from the tau of markets. Markets are linear functions of buy/sell – they are not necessarily about common sense. To illustrate: last week I wrote about Italy, pointing out just how hopelessly it's ensnared and entrapped within the straitjacket of the euro, with little prospect of growth, employment or upside.

Yet Italian bonds are one of the top performing assets – AND WILL REMAIN SO – because the European Central Bank can't afford to let Italy go, and Europe sliding back into downturn pretty much ensures they'll continue to bailout Italy and likely resurrect quantitative easing in some form – watch out for something like long-term repos. An article in one weekend paper says the EU is now turning a blind eye to European governments spending their way out of austerity-driven recession.

Therefore, smart investors might agree with my analysis of Italy as unsustainable, yet keep buying Italy, and will keep on buying right up to the moment the arbitrage cracks. According to the theory of flight bumble-bees can't fly – but they do. That's why the smart hedge fund bosses are watching the succession for Draghi's job at the ECB so carefully, and weighting populism in Germany so carefully – as it requires a complicit German electorate to keep the euro illusion going, a bit like the tower blocks created by a hypnotist in a classic Monty Python's Flying Circus sketch. I suspect they care considerably less about the current spat betwixt France and Italy – entertaining as it is..

On a purely common sense macro perspective, you should probably ignore Europe completely. Who cares about counties with sub-1 percent growth, demographic time bombs ticking away, and a hopeless mish-mash of unpredictable populist politics coming to the fore? Go invest in the fast-growing economies of Africa and Asia instead. Yet, it still makes sense to arb the European game.

Such things are just facets of the siximpossible things before breakfast approach to investment. Using the same logic, you might see US stock and bond markets as a screaming buy! US growth remains robust – despite the Federal Reserve's clearly indicating it's dialling back rate hikes. Essentially rates will remain flat. Is that a problem? From the market's perspective – get out the party hats! There is no long-term inflation threat because there is zero wage pressure. Despite "full employment" US companies pay as little as they can. Wages aren't rising.

Low rates will fuel yet more share buy-backs for Bernie Sanders to fulminate against. Share buybacks are great for the market and excellent for senior executives and owners of businesses – converting equity into massively underpriced debt and handing more capital back to them. More highly levered companies don't actually build anything more, or create new jobs… but the rich get richer – and, heck, isn't that what capitalism is all about? In the short-run….

Last week I commented in the Morning Porridge about squalour and creeping poverty in San Francisco. It was an eye-opener. It got about a quarter of a million views on Zerohedge, I got trolled and called a communist /socialist /democratic know-nothing stooge. (On the plus side, I got over 300 comments from Porridge readers, and only one was nasty. The rest ranged from supportive to constructively critical.)

It's a difficult one: the current iteration of capitalism has spawned increased global poverty, income inequality, urban deprivation, squalour and filth. Yet, somehow, such iniquity isn't actually bad for markets? Should I therefore hurrah the continuation of low rates as good for markets and ignore the bad for people thing? What's to worry about when share-buybacks push up stock prices, and the Fed is keeping rates artificially low to i) placate the president, and ii) counter the president's trade policies?

Long term – even my most hardened sink or sink free-market capitalist critics admit we face a disruptive inequality crisis. We can address it sooner or later. The imbalances are growing and the rules of mean reversion apply as much to society and politics as they do to markets! Long-term markets would probably function better if everyone is positively motivated. Adam Smith, the father of modern capitalism and economics got it. So do most people – but the sad reality is Change is Difficult – especially when the market leads opinion!

I've been thinking about the "hows" of making the world a better place all weekend, but I don't know enough ‘ologys or medicine to cure drug abuse, chronic greed, urban mental illness, virtue-signalling philanthropy, or how to reform our education systems and society to improve everyone's opportunities.

What I do suspect is markets are building up great long-term underlying weaknesses, but in the short term low interest rates for longer is a distortion, but positive for financial asset prices. That can't be a good thing?

Out of time, and back to the day job…

Bill Blain 

Shard Capital



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