Odey European Fund Jan Letter: The boom in car sales could look very ill advised

Updated on

Odey European Inc. commentary for the ended month January 31, 2016.

  • In January-16 the EUR class returned +7.2% against the MSCI Daily TR Net Europe (EUR) return of -6.2%.
  • After currency hedging the short equity book made a positive contribution for the month (+7.9%). Positive contributions before currency hedging came from a number of positions including LafargeHolcim (+65bps), Fiat Chrysler (+52bps) and Advanced Micro Devices (+51bps). These outweighed the negative contributions, the most notable of which were attributable to Las Vegas Sands (-42bps), Home Retail (-19bps) and LVMH (-18ps).

Odey European

  • The long equity book made a negative contribution after currency hedging (-3.4%). The largest positive contributions before currency hedging came from Randgold (+18bps), Tungsten (+17bps) and Bank of America (+17bps). These were outweighed by negative contributions, the worst of which came from Sky (-65bps), Pendragon (-49bps) and Sports Direct (-44bps).
  • Elsewhere, active currencies returned +1.1% with commodities, government bonds and index futures returning +1.7%, -0.5% and +0.5% respectively.

Odey European

Odey European – Manager’s Report

It is getting interesting. Attention has been focused since August 11th on the class. unsustainable nature of the Chinese problem. What China needs, given the over-investment in non-productive assets estimated at $1.7 trillion a year for several years, is a deep recession, the writing off of several trillion dollars of debt and the refinancing of the banking system. You cannot do all that without interest rates at almost zero and a weak exchange rate.

Equally the United States has a different problem. Since 2014 consumer lending in all its forms – credit card, auto loans, new housing – has been picking up and is now averaging some 9% growth in real terms. Given these loans are typically 2x GNP, it means some 18% more dollars are in the economy and makes estimates of 4% nominal GNP growth look unlikely. More likely is that nominal GNP growth is up around 6%, with interest rates at only 0.5%, wages now annualizing on Friday’s number at 6% and employment growing at 3%. All of this would point to a rise in interest rates by at least 1% over the next year.

The only offsets to this good news is that the US has overinvested itself over the last four years, much of it related to the Chinese boom. As a result many businesses are now operating with the price of their output way below the cost of production. Oil is the easy industry example. Much of their debt is trading at 55 cents in the dollar, on coupons of 5 or 6% and yielding 20% to maturity. Thus in the US there is both strong consumer-fueled lending taking place even as corporates are finding life difficult.

No wonder that the stock markets are also finding life difficult. Earnings are falling and wage costs are rising. At the same time the Fed is already very behind in raising interest rates. The boom in car sales could look very ill advised, two years from hence, even as the rise in wages, employment and lending mean the US economy is unlikely to roll over as easily as Wall Street would like. All of these problem loans have a habit of ultimately ending up with the banks. Deutsche Bank now has its CDS trading at 4% over Libor. How can it survive at such a funding rate?

Odey European

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