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‘Peak’ everything?

In the 1980s I remember writing an economics homework essay about how the world was going to run out of oil by the year 2000 

In the 1980s I remember writing an economics homework essay about how the world was going to run out of oil by the year 2000 — Marion King Hubbert’s original ‘peak oil’ thesis. Well, predictions are tricky, especially about the future as they say. However, the peak, and indeed trough, thesis seems particularly appropriate to the rather odd world we currently live in.

Peak stuff

Sure, we have had peak government and peak car but new terms are entering the lexicon: peak stuff, peak globalisation and even peak tech. We in the West actually consume less stuff than we did ten years ago. My garage is full of stuff, which I have no need for even though ‘Aunt Amazon’ keeps knocking at the door (not sure my wife subscribes to the peak stuff philosophy).  Maybe I am not the only one who wants nothing for Christmas; my wife says I’m miserable — I probably am!

Peaked or troughed?

It seems everything has peaked out or indeed the opposite; many seem to be going through a trough. Virtually every industry we can think of has too much capacity — airlines, shipping, steel, autos and retail — all with no pricing power. As seasoned readers will know we don’t lend to these industries; if it ‘flies, floats or rolls’ or indeed, if it is one of the three Rs, ‘retail, restaurant or the rag trade’. Take shipping for an example; it is an appalling industry, plagued by capacity build ups and no growth — witness the recent demise of South Korea’s Hanjin Shipping among others. 

On a recent holiday to the Seychelles, I was amazed to read in the airport that there are 35 international flights a week into the Seychelles at an average capacity of 40% (the breakeven load factor for airlines - the point at which operations start to make money - is currently around 60-65%). The Arab carriers, among many others, are throwing capacity at this route, increasing their market share and aiming to dominate it. Granted, this is good for cheap holidays as someone else is subsidising the costs.  Airbus have recently cut production of their flagship double decker A380 plane (the best solution for 21st Century growth according to Airbus) to only 12 a year – aviation finance bonds anyone?  One of my favourite pictures of all time is all those planes rusting in the desert – I wonder when the first A380 will be parked up there?

Enter the ‘sharing’ economy

It was the Ikea executive, Steve Howard, who recently spoke about peak stuff; how it was unlikely they could sell any more furniture as everybody has enough already. This chimes a chord with us and seems hugely relevant to the shared economy. The average car only moves 4% of its life. So in the future we will need less cars and will simply be sharing them (arguably US car production is peaking out at the moment). 

Airbnb could hugely lower the need for extra hotel rooms as we simply share existing houses; peak RevPAR2? The effects could be hugely deflationary. Just look at the effect Uber is having on London private hire firm Addison Lee’s profitability, where they have recently fallen by two thirds.

So we can add to our list peak taxi fare, peak hotel room and peak car ownership.

Growth troughs, asset inflation peaks

Post the Global Financial Crisis, economic growth has been pitiful. Economic growth, inflation, defaults, volatility, productivity, trade, credit demand and bond yields all seem to have troughed while asset inflation peaks (S&P 500, NASDAQ indices) on an almost daily basis. There are a number of complementary theories to explain this. 

Jenna and I have spoken about Richard Koo’s balance sheet recession view of the world for over five years now. This is where individuals or corporates do not want to borrow when interest rates are lowered, as they just want to reduce their debt — peak credit perhaps? Larry Summers’ secular stagnation is a similar view but emphasises excess savings as the cause of the lack of aggregate demand.

Demographics or deflationary effects of technology?

More recently demographics have been getting another airing — not enough producers/consumers and too many older savers — those dependency ratios just keep getting worse. 

Other theories focus on the chronic lack of productivity and the deflationary effects of technology and the shared economy. One such technology is artificial intelligence. It has been around for years, but more recently advances in machine learning, sensor technology, and computer power has meant new generation software and hardware robots are being applied across almost every industry, replacing humans and driving down operational costs.

Indeed in our very own asset management industry we’re seeing the creeping use of A.I. to do varying parts of the fund management process, from risk analysis to asset allocation to using algorithms to picks stocks.  It is enabling disruptive start-ups - known as robo-advisors - to strip-out human costs and charge much lower fees, pressuring fees from ‘active’ managers and driving a recent wave of mergers and consolidation (this year Henderson merged with American firm Janus Capital). Could this be peak active fund management?  We hope not.

Behavioural changes matter

But more importantly, we think the behavioural change in the consumer is significant. My colleague, Arjun Bhandari, has highlighted the reduced desire and ability for millennials to consume as this demographic would rather purchase experiences than consumer durables. 

Behaviours vary by generation but also by culture. We heard a story from a respected Japanese economist the other day — if you go to the consumer electronics district of Tokyo you will find canny Japanese consumers buying cheap ‘value’ Chinese made rice cookers. Whereas the ‘bling3‘ Chinese tourists tend to buy overpriced, over‑engineered Japanese rice cookers. It is not until we have a change in consuming behaviour, that we may have the remotest chance of getting out of the current economic malaise.

Did we mention ‘lower for even longer’?

We are sympathetic to all of the above theories. We have talked about ‘lower for even longer’ for years but now it is getting much more mainstream acceptance among our client base. In this regard, in recent years we have favoured quality, long‑dated (higher duration), large‑cap, non‑cyclical corporate bonds over high yield bonds. This has worked very well, whereas some of our competitors are still in the reflation camp. 

In a well-behaved world, business cycles follow the pattern of growth, boom, recession and recovery. In the boom phase excess demand leads to rising inflation, which in turn translates into higher interest rates to dampen the demand (hurting bond returns). The current prolonged period of recovery has naturally led to reflation theories. But such theories miss the important fact that the economy has now moved on from an excess in demand to an excess in supply, making the prospects of inflation even more remote.  Indeed, the lack of inflation is a global problem.  It does not feel temporary or idiosyncratic to us.  But the Fed, run by labour market academic economists continue to place too much emphasis on the broken Phillips curve analysis (please see article on this subject due to be released week of 14th August 2017).

Thus the current consensus that the boom in bonds is soon to go out with a bang, may actually turn out to be only a whimper. In reality, however, it is impossible to predict.

Meanwhile, in a little corner of the fixed income market …

The current economic environment has been a great time to be invested in corporate bonds. Central bank quantitative easing programmes, and more lately bond purchases by the European Central Bank and the Bank of England have made the bond drought even more severe.  Peak bond maybe, but we are not convinced. 

Remember, a golden rule of investing is ‘don’t fight the Fed’ and another is ‘respect the technicals4’. Today’s bond markets are technical, technical and technical. If anything we prefer a more credit sensitive market, one that is more focused on the likelihood of company defaults and future earnings, but hey, who’s complaining?

We continue to like large reliable lower end investment grade and top end high yield corporate bonds, in our efforts to deliver a reliable income stream for our investors.

1The tide of globalisation is turning, Martin Wolf, Financial Times, 6 September 2016

2RevPAR = revenue per available room

3Refers to the propensity of Chinese consumers to buy luxury brands

4Supply/demand and investor positioning (among other causes) influencing markets rather than fundamentals such as economic growth or corporate health


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Jeremy Corbyn supporters should stop excusing Labour’s anti-immigration drift

The Labour leader is a passionate defender of migrants’ rights – Brexit shouldn’t distract the new left movement from that.

Something strange is happening on the British left – a kind of deliberate collective amnesia. During the EU referendum, the overwhelming majority of the left backed Remain.

Contrary to a common myth, both Jeremy Corbyn and the movement behind him put their weight into a campaign that argued forcefully for internationalism, migrants’ rights and regulatory protections.

And yet now, as Labour’s policy on Brexit hardens, swathes of the left appear to be embracing Lexit, and a set of arguments which they would have laughed off stage barely a year ago.

The example of free movement is glaring and obvious, but worth rehashing. When Labour went into the 2017 general election promising to end free movement with the EU, it did so with a wider election campaign whose tone was more pro-migrant than any before it.

Nonetheless, the policy itself, along with restricting migrants’ access to public funds, stood in a long tradition of Labour triangulating to the right on immigration for electorally calculated reasons. When Ed Miliband promised “tough controls on immigration”, the left rightly attacked him.  

The result of this contradiction is that those on the left who want to agree unequivocally with the leadership must find left-wing reasons for doing so. And so, activists who have spent years declaring their solidarity with migrants and calling for a borderless world can now be found contemplating ways for the biggest expansion of border controls in recent British history – which is what the end of free movement would mean – to seem progressive, or like an opportunity.

The idea that giving ground to migrant-bashing narratives or being harsher on Poles might make life easier for non-EU migrants was rightly dismissed by most left-wing activists during the referendum.

Now, some are going quiet or altering course.

On the Single Market, too, neo-Lexit is making a comeback. Having argued passionately in favour of membership, both the Labour leadership and a wider layer of its supporters now argue – to some extent or another – that only by leaving the Single Market could Labour implement a manifesto.

This is simply wrong: there is very little in Labour’s manifesto that does not have an already-existing precedent in continental Europe. In fact, the levers of the EU are a key tool for clamping down on the power of big capital.

In recent speeches, Corbyn has spoken about the Posted Workers’ Directive – but this accounts for about 0.17 per cent of the workforce, and is about to be radically reformed by the European Parliament.

The dangers of this position are serious. If Labour’s leadership takes the path of least resistance on immigration policy and international integration, and its support base rationalises these compromises uncritically, then the logic of the Brexit vote – its borders, its affirmation of anti-migrant narratives, its rising nationalist sentiment – will be mainlined into Labour Party policy.

Socialism in One Country and a return to the nation state cannot work for the left, but they are being championed by the neo-Lexiteers. In one widely shared blogpost on Novara Media, one commentator even goes as far as alluding to Britain’s Road to Socialism – the official programme of the orthodox Communist Party.

The muted and supportive reaction of Labour’s left to the leadership’s compromises on migration and Brexit owes much to the inept positioning of the Labour right. Centrists may gain personal profile and factional capital when the weaponising the issue, but the consequences have been dire.

Around 80 per cent of Labour members still want a second referendum, and making himself the “stop Brexit” candidate could in a parallel universe have been Owen Smith’s path to victory in the second leadership election.

But it meant that in the summer of 2016, when the mass base of Corbynism hardened its factional resolve, it did so under siege not just from rebelling MPs, but from the “Remoaners” as well.

At every juncture, the strategy of the centrist Labour and media establishment has made Brexit more likely. Every time a veteran of the New Labour era – many of whom have appalling records on, for instance, migrants’ rights – tells Labour members to fight Brexit, party members run a mile.

If Tony Blair’s messiah complex was accurate, he would have saved us all a long time ago – by shutting up and going away. The atmosphere of subterfuge and siege from MPs and the liberal press has, by necessity, created a culture of loyalty and intellectual conformity on the left.

But with its position in the party unassailable, and a radical Labour government within touching distance of Downing Street, the last thing the Labour leadership now needs is a wave of Corbynite loyalty-hipsters hailing its every word.

As the history of every attempt to form a radical government shows, what we desperately need is a movement with its own internal democratic life, and an activist army that can push its leaders as well as deliver leaflets for them.

Lexit is no more possible now than it was during the EU referendum, and the support base of the Labour left and the wider party is overwhelmingly in favour of free movement and EU membership.

Jeremy Corbyn, John McDonnell and Diane Abbott are passionate, principled advocates for migrants’ rights and internationalism. By showing leadership, Labour can once again change what is electorally possible.