Investing In The Real Deal

I’m having the weirdest dreams these days. Last night I dreamed of a GB News TV chat show hosted by Jacob Rees-Mogg (now true) and Enoch Burke as a guest who refuses to leave the studio (very possible). Oh well, we live in hope or horror. Back in the real world, my daytime thoughts are dominated by three structural themes which will be overshadowed by short-term earnings results on Wall Street this week but which merit closer scrutiny. First, let’s move from the clouds to the earth, and I literally mean that.

Arguably, not much has changed in 50 years in activities like flying(Boeing 747s), cars(internal combustion engines), education(Leaving Cert, A-Levels), power(coal, gas, nuclear, oil), healthcare(trolleys) and construction(Dublin house build costs). Clearly, there has been massive progress in other areas, or in the cloud. The digital revolution driven by Microsoft, Apple, Intel, Amazon etc. in a global ‘techtonic’ shift has invested trillions and generated multiples of that in wealth and productivity gains but possibly at the expense of innovation in real things. This was put well by Not Boring writer, Packy McCormick, as a post-Industrial Revolution shift “from shaping Atoms to the world of Bits”. I’d go a bit deeper and suggest a return to earth, or the metallic atoms in the earth. In fact, I highlighted the mining sector in a recent piece “Early Doors But Watch The Scores” and was intrigued by US mining company, Albemarle, and its communication this week with the investment community.

We have written before about the enormous ramp-up in battery manufacture required to meet the demands of a shift to electric vehicles(EVs). In Europe alone, capacity must expand 5-fold by 2030 as the likes of Tesla, Northvolt, FREYR and VW roll out their battery gigafactories. However, these batteries need metals to make the chemistry work, lithium being the in-demand metal du jour. So, it was reassuring, if a bit amusing, that Wall Street media heavyweight, Barrons, described Albemarle’s projections as “amazing guidance”. The reality is that these mining companies must deliver lithium production/sales growth of at least 25% each year until 2030. Albemarle’s views are hardly ‘amazing’ but the company’s need to bump up their forecast of 2030 global lithium demand by 15% just 2 months after their last projection tells its own tale of acceleration. Let’s be very clear, the use of batteries and metals to store energy in a more efficient and cleaner global economy is a huge double investment in Earth.

So, when you consider the value of the entire global equity market is circa $120 trillion would you be surprised the mining sector is valued at just $2 trillion, not even 2% of total value? If we put our heads back in the cloud you’d see that the US technology sector on its own is worth $15 trillion. The relative value of both sectors to the global economy could be due a re-set. And, I am reminded of my first boss on a trading floor roaring at me “they’re not fackin’ doooor numbers, they DO change”. Also, I seem to recall that the gold and equities markets were similar in total value as recently as 1980. I see change and I believe Microsoft does too. Here’s the next real deal.

The explosion of interest in Artificial Intelligence(AI) generated text and images is no accident. Only yesterday, the most famous of these AI assistance tools, Chat GPT, was reported to have passed an MBA exam set by a Wharton professor. The possibilities, opportunities and threats presented by AI are very real. And that means deals. Note in just the last week that Microsoft (MSFT) has taken a stake in ChatGPT’s parent company, OpenAI, in exchange for a rumoured $10 billion investment. Me thinks Microsoft see change. So do Google. But maybe not in a good way, for them. The general perception is that AI text generation tools (in conjunction with MSFT workflow tools?) could be a threat to Google’s search engine and its enormous $150 billion annual search revenues. Of course, Google has its own(possibly superior) AI tools but it is fascinating to see its founders, Sergey Brin and Larry Page, re-engage with the company’s leadership to strategise next steps. You might think Microsoft and Google are on the defensive. Or on a relative basis, you might ask where is the next “bit” of opportunity for the giants of Web 2.0? It feels like we are at an interesting inflection point for big tech. But…. for certain pension plans the “real” deals and opportunities may already be over…

First, a quick quiz question. Was 2022 a worse year for investors in the tech-heavy Nasdaq 100 index or for conservative investors in boring 30-year US Treasury bonds? Amazingly, the boring bonds lost slightly more with a 33% valuation implosion (vs 32.4% on Nasdaq). The point I want to make on pensions is not the obvious one. It’s just one calendar year, and they ain’t door numbers. Performance will return. However, the awful carnage in bond markets has permanently changed one particular type of pension deal. Defined benefit (DB) pensions which had a contractual stream of cash flows paid for by employer companies until death(like a bond) in a zero interest rate environment with minimal inflation were valued extremely highly(by actuaries). Many companies were prepared to pay huge amounts up-front to escape these multi-decade commitments ie. companies were paying pension plan beneficiaries/employees big lump sums to end the contractual relationship. Now, no more. Thanks to inflation and higher interest rates those deals have plummeted in value, many by a lot more than 33%.

Apart from those pension deals, the bigger point is that, if inflation and interest rates settle down at a higher level than the levels experienced in the 2010-2022 period, then real assets like property, infrastructure, commodities and land will have to generate higher returns to justify lofty valuations. In fact, the 2010-2022 period is increasingly looking like a hiding place for lazy capital. And, thinking. Coincidentally, that period coincides with the governing reign of the UK’s Tory omnishambles and, as I write, currently reported to be in “hideaway” strategy session in Chequers. Oh, to be a fly (or red wine) on those walls to ponder clouds, rather than sunlit uplands, and earthy reality. Or, as Liz Truss would say, “ready to hit the ground from day one.”


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