Its Not Harry

Comment and opinion for retail investors in the UK

Mark Potter

Emperor’s new clothes

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You may have read stories about an American company that will list on NASDAQ called Nikola. Unsurprisingly it is a self proclaimed competitor for Tesla.

Now readers will know that I think Tesla’s stock market valuation is bizarre relative to its business model but it has now reached the point of actually making stuff and in some cases pretty successfully – just not at a profit. I think I must own some Tesla shares through one or more of the innovations or discovery funds I like, but I would not personally buy them.

The reporting of ‘puffs’ by the owners of companies that make nothing (especially not profits) has got out of hand.

Unlike Tesla, Nikola has not yet made a single vehicle. I note that in 2016, within a year of being founded, it was reported to have taken billions of dollars of pre-orders for trucks it has ‘thought up’ (my phrase). This week’s news stories reference billions of dollars of pre-orders again (the same ones?). But it has told the American listing authority (where you have to be honest, or you go to jail) that it plans to make 600 trucks next year. 600 – in a year!

I believe Ford and GM make that many trucks each every day, and maybe more.

Yet the notional stock market valuation of the new company is claimed by its CEO to be approaching that of General Motors. Nikola is a company who say their revenue will be about 3 billion dollars in 2024 (revenue, not profit) which compares with an actual, not projected, 2019 revenue at GM of about 138 billion and an 8 billion profit.

None so blind as they who will not see, as the saying goes. They have raised half a billion dollars to keep trying to make a business. As has been said many times, it is easier to borrow a billion than a million.

There will be a price to pay when these fantasies vanish like morning mist. The direct losses may not impact you or me, but there will be an indirect impact as supposed value vanishes from the global capital markets.

Monday mashup – adrenaline junkies.

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As a child I was severely asthmatic. This generally meant missing a lot of school but in my case did not stop me exercising. One day, on a walk with my parents, wheezing heavily due to pollen, I tripped and fell off a style. My asthma vanished instantly and I was breathing better than I had all Summer.

The reason was the adrenaline boost from the fall. It is the body’s sure-fire instant booster when it detects a threat (my clumsiness no doubt triggering messaging similar to being struck by a hostile entity!).

Performance boosting drugs may help for a short time, but….

The money being poured into global economies by various organisations authorised to invent credit, most recently the European Union, is adrenaline for stock markets. In these times the stimulus feeds through to share prices as instantly as adrenaline gets to widen your blood vessels.

The relief and feeling of well being can be addictive, but in the end the treatment has to stop or the patient dies from other causes. So it will be with stock markets.

I expect either a stalling or maybe something more dramatic, likely the ‘taper tantrum’ that occurred after the US fed started talking about shutting down the money junkies’ supplies in 2013.

Another possibility this time is that the patient is accustomed to the drug in question and seeks higher doses. You can speculate about where that will take us!

So, enjoy the kicks for now but prepare for some cold turkey.

Watching Brief – June 2020

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Pottering About

As I write this month’s briefing, I am seeing headlines in the various media sources that I read which for the first time in months are not about Covid-19, but about social unrest in the USA. Such uprisings are not new in the USA, although the current President’s leadership during the crisis seems rather feeble to this distant observer.   

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If I may quote..

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Someone far cleverer than me wrote the following about 4 years ago. It has taken me a while to get there, but I did work this out myself as you will have been reading.

Truly — to mix metaphors — butterflies flapping their wings now regularly create hurricanes that stop out fundamentally driven investors who cannot remain solvent longer than the market can remain irrational.

In such a world dominated by index and algorithmic funds historically logical correlations between different asset classes can remain in place long after they have ceased to be logical. More butterflies.

Index and algorithmic fund [maneuverings] also make it very hard to ascertain what the markets ‘clean’ positioning is at any given time. All of which pushes up the cost of capital.

Letter to investors from Martin Taylor when announcing closure of Nevsky Capital hedge fund – 2016 (Source: quotation from ZeroHedge via Business Insider magazine, January 2016)

And he further added:

In summary, all of the above factors now mean that it is more difficult than ever before for us to accurately forecast macroeconomic and corporate variables. This pushes up our cost of capital and substantially increases the risk of us suffering substantial capital loss on individual positions either because of a forecast error or simply because we could be caught up in an erroneous market trend, which could then persist for far longer than we could take the pain. This has made what we enjoy most — the thrill of analyzing economic data releases and company accounts – no longer enjoyable. It is therefore time to accept that what we have done has worked brilliantly for twenty years but does not work anymore and move on. We are confident our process will eventually work again – for the laws of economics will never be repealed – but for now they are suspended and may be for some time; an indefinite period involving indeterminate levels of risk during which we think it would be wrong for us to be the stewards of your money.

Monday mashup – burning underwear

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I refer to the childrens’ rhyme about liars, of course. UK citizens have to make their mind up about who is more trustworthy: the Durham police, who say they politely reminded Mr Cummings and family about the lockdown laws, or Mr Cummings who says they didn’t. At least, that is what I read.

This is not directly of relevance to investors but as Boris Johnson is backing Mr Cummings – how could he not, it would be like switching off his own pacemaker – then we might speculate that the incident is going to accelerate the rate at which the British public, like many in the US, begin to see ongoing restrictions on their lives as an attack on their personal freedom. So the behavioural scientists on the SAGE committee of experts tell us.

That in turn raises the question of a possible profile for Covid-19 infections that is a plateau for a while, maybe even an upward sloping one, rather than the anticipated bell curve, falling away to virtually no cases.

Some Twitter extracts I have read suggest a certain frustration is building up in Blighty!

I personally don’t think stock markets will in the short term assess this as a relevant risk. I would suggest that it probably is, but may be mitigated by other factors: treatments that work, better weather, a potential vaccination (still unlikey to be soon in my view), or just something about the way the virus speads that has not been understood.

On the last point, I don’t think enough work has been done on links to industrial air pollution. With my intuitive feel for links between data sets, that has been an obvious line of enquiry for me from right back to the rapid spread in the Po valley in Italy.

So as at today, I would expect markets to sustain the positive mood. What will break that is a whole series of really poor data sets about the ecomonies of the world (a near certainty) or evidence that the pandemic is not over and may even kick off again seriously.

With those facts in mind, I would at this moment prefer to be investing in funds that are being run to be recession and virus proof (or at least have that risk hedged), or if a really cheap ‘sold off’ fund tempted me (as an experienced and adventurous investor), balance the risk by matching the purchase with something super defensive, like gold.

Free hit?

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Assiduous readers will know that I am cautious about Investment Trusts as a form of collective for anyone who does not dig deep into their structure. They have features that might ensnare a less well informed investor.

But that does not mean they are bad investments. One I have vaguely kept an eye on over the years is the JPM Morgan Claverhouse Trust (originally Fleming in my younger days). One of my first ever portfolio investors owned this share when they came to me and as a way of getting a broad exposure to a wide spread of UK shares, it seemed to me to be as good as any and I never recommended selling in it in over 20 years. It has handsomely out-performed the UK All Share index over 10 years.

The trust’s performance during the crisis has been dire – reflecting one of the current hazards of investing in classic UK equity shares that have higher yields. If dividends are cut when investors were expecting increases, share prices take a very heavy fall. Having said that, this trust paid an increased dividend this year. It does have some gearing (ie it has borrowed money), so can pay dividends out of reserves of cash if needs be.

The current manager just made some comments suggesting that now was a great time to buy good British companies at bargain prices – what he called a ‘free hit’ for retail investors. Perhaps a cynic might say he is bound to say that after such a shocking sell off in his portfolio. I would give him credit for a sensible assessment.

I report this because it fits with my recent comments about selecting investment funds (or if you prefer, ITs) where the objective allows a talented manger to buy any stocks irrespective of market capitalisation, sector or geography. Now this is a trust that owns UK listed shares, but the majority of the main holdings are global businesses. And it is ‘go anywhere’ sort of trust except that there will be a focus on dividend prospects.

The manager refers back to the ‘nifty fifty‘ idea of many years back which implied there were just a few really good stocks that you needed to own and you could be sure of reliable returns. He mentions that perhaps 5 would do for now! Of course, he is joking about the FAANGs.

This was the point that I thought chimed with my own thoughts about the right shares being the important call at the moment, not the more asset classic allocation decisions.

I do think managers buying equities can currently pick some great value investments that have been marked down with the crowd, although the growth in ‘factor’ investing means they and we may have to wait a while for the value to be appreciated and prices to climb sharply.

Now is a time to do your research carefully

I have been paying careful attention to the top 10 holdings in the funds I have been interested in recently. Furthermore, data about the fund holdings combined price/earnings ratios, growth rates relative to the market and cash flow generation are at this time highly relevant.

If you are a subscriber and want help in finding and understanding that extra information, feel free to get in touch.