Thursday, May 19th, 2016
In August, Mohnish Pabrai took part in Brown University's Value Investing Speaker Series, answering a series of questions from students. Q3 2021 hedge fund letters, conferences and more One of the topics he covered was the issue of finding cheap equities, a process the value investor has plenty of experience with. Cheap Stocks In the Read More
Markets are generally soft this morning with stocks in Europe off their low levels of the session but still below yesterday’s close. Futures are showing the same here, but could be worse for Canada given the pressure on energy in early trading.
As we would expect, loonies are trading lower, down to 76 US cents per dollar, which seems like a swift move since briefly touching 80. Yesterday’s move is largely thanks to the release of the FOMC minutes, discussed below.
This article from MarketWatch discusses the returns expectations of institutions and pension funds. We think it is particularly important, in a world where the risk free rate is sub-1%. Are returns expectations – some of which are required to be priced into models like defined benefit pension plans – too high?
Given we just completed Richardson GMP’s alternatives conference yesterday, this note from Ben Carlson was timely. The focus of alts is on risk management and absolute returns, so it begs the question: How should Alternative Investments be Benchmarked?
The Fat Pitch writes on fund managers current asset allocations. Using data from the most recent BAML survey of global fund managers they note that equity allocations are back to their low point over the past eight years. The U.S. dollar is no longer considered overvalued, but the long dollar trade is one of the most crowded trades at the moment. Cash levels are at their highest levels since 2001 matching peaks form the Lehman crash and peak Grexit fears. With Brexit around the corner, maybe this is one reason for fund managers moving to the sidelines.
Pemex: time for turnaround
Mexico’s state oil company, Pemex, is on a big streak. Unfortunately, it is not a positive one. Pemex has lost $70 billion over the past 14 quarters as a result of falling oil production and rising debt-servicing costs. Since the beginning of 2014, Pemex’s oil production has fallen by ~300,000 b / d. Sales for Q1’16 were $12.9 bn vs. $31.1 bn in Q1’16. Low oil prices are making it hard to the company to pay down its debt load, which stood at $93.3 bn at the end of Q1’16. Pemex also has massive pension obligations. Another issue is that Mexico relies on Pemex to fund ~12% of its budget. This has made it very difficult for the company to operate. According to The Petroleum Economist, “last year, Pemex lost $30 bn, but $23bn was taxes and duties paid into the treasury.”
Pemex is in bad shape; however, things may start to get better. The company recently brought in a new CEO. Moreover, the government is also changing its tune. It recently injected $4.2 billion into Pemex and will give Pemex a tax break on its operating costs. This support is contingent upon Pemex reducing CapEx, which may weigh on production. Even so, cost-reduction efforts and asset sales may be necessary to restore Pemex’s financial position. Joint ventures and other private partnerships could also help the company. These kinds of deals would bring new investment and technologies into Mexico. More from The Petroleum Economist here.
Diversion: Ryan Gosling lookalike creates a trailer for a Drive sequel, starring as an Uber driver.
Wal-Mart shares were up nearly 9% this morning in pre-market trading after a strong earnings report. Their initiative of fixing up their 4,600 stores and improving customer service seem to be paying off. They have also been able to retain and attract higher quality workers with the increase of the minimum wage. Maple Leaf Foods CEO was quoted yesterday as saying they are looking for strategic acquisitions down south but that growth in Canada will be organic in nature. Disney’s newest revenue stream “Shanghai Disney” has seen already 1 million visitors and it hasn’t even opened. The park is open to family and friends of employees as a trial run before the park opens. But there has also been hundreds of thousands of people coming to the grounds just to see the grounds and visit the restaurants built outside. Bayerformalized its offer for Monsanto, which could be the largest ever foreign takeover by a German company.
The wildfires in Northern Alberta which have lowered Canadian production of oil by 1.2mm barrels are narrowing the contango spread on WTI futures in the front two months to the lowest level since the fall. The wildfires have spread again further delaying the restart of production facilities. Vale the world’s largest iron ore producer is saying the run up in prices has been unjustified and that more low cost supply is set to come online. Also that they are ready to compete at any price. Iron ore fell 5.8% yesterday after peaking around $70 a ton earlier in 2016. A very rare diamond was found in Canada’s north. The stone was 188 carats and miraculously avoided being crushed as the trammel was not configured to let stones that size pass through. The stone was found by Rio Tinto.
FIXED INCOME AND ECONOMICS
“It’s discouraging to think how many people are shocked by honesty and how few by deceit.” — Noel Coward
Markets were sent spiraling yesterday following the release of the Fed minutes that on the whole suggested that there is a strong chance officials will raise the policy rate in June. We have argued the probability of a tightening move this summer was being significantly underpriced by the marketplace given the bout of good economic data coming and especially with recent Fed speakers (Mester, Rosengren, Williams) essentially confirming this thesis. Suffice to say, markets were really caught off guard by the hawkishness of the release that saw most of the scrutiny focused on the key passage that “Most participants judged that if incoming data were consistent with economic growth picking up in the second quarter, labor market conditions continuing to strengthen, and inflation making progress toward the Committee’s 2 percent objective, then it likely would be appropriate for the Committee to increase the target range for the federal funds rate in June”. Good data? Check. This was followed up on page 7 by how “Some participants were concerned that market participants may not have properly assessed the likelihood of an increase in the target range at the June meeting, and they emphasized the importance of communicating clearly over the intermeeting period how the Committee intends to respond to economic and financial developments”. Market complacency? Possibly. Need we remind readers that these are the minutes from the April 27 meeting and are historically viewed as stale, an exercise in procedure, and secondary to the actual headline decision. Reaction post-2:00PM was pretty swift — the U.S. dollar weighted index rose by 60 ticks to +95.20 that sent commodities (WTI -2.0%, gold -$30), Treasuries (2 year benchmarks sold off by eight basis points to 0.91%) and equities (S&P 500 with a 23 point swing) all lower. The momentum is continuing this morning with all of the aforementioned building on their respective gain/losses at time of writing.
Now that we know the June meeting is considered live and definitely on the table for debate,economic data watching will be even more scrutinized between now and then. Good news will be viewed as bad for markets. Case in point — U.S. weekly jobless claims just released showed that first-time applications for unemployment benefits fell by 16K for the period ending May 14. This is not normally a market moving headline especially with the relatively small directional change. However, markets equity futures are accelerating losses while Treasury yields on the short end rise by 2.5 basis points. Fed futures for a June 15 tightening move are up to 34% right now after being 32% prior to the 8:30AM number, 12% just 24 hours ago, and a paltry 4% this past Monday. A July 27 hike is dead split at 50/50 this morning as well. If you haven’t had enough of the Fed talk yet in these comments, we will remind readers that Fed-speak will remain front and centre today with Vice-Chair William Dudley and Board of Governor member Stanley Fischer both set to speak in previously prepared engagements. Expect their speeches to have just a few more attendees than
CHART OF THE DAY
QUOTE OF THE DAY
Just remember, once you’re over the hill you begin to pick up speed.
– Arthur Schopenhauer