4th February 2022

Posted by: Andrew McNally

When real rates turn


The spectre of inflation has spooked stock markets since the end of last year with headline rates in the US for example above 7% – the highest since 1982. The Bank of England this week suggested that the UK will see a similar rate by April.

There are clear reasons why this inflationary impulse has occurred. Central banks around the world have supported a significant increase in deficit spending through the purchase of government debt and so we have witnessed the biggest Keynesian stimulus since World War Two. The Federal Reserve has more than doubled the size of its balance sheet since the outbreak of COVID-19. Moreover, this massive monetary expansion has been accompanied, for the first time in history, by government policies to shut down large sectors of the economy and impose working practices that have made it impossible for businesses to function as normal.

The outcome has been supply-chain disruption such as we have never seen which, as economies have opened, has led to both price and wage pressure throughout the system. Commodity and basic materials have seen prices up 20-80% from their lows and wages in some sectors, especially hospitality, have been rising at more than 10% p.a.

There are signs that some of this pressure may be about to ease. Industrial production is stabilizing back to pre-pandemic levels, shipping rates are now collapsing, and basic material prices are rolling over (except oil and gas). There are also signs that wage pressure isn’t compounding quite as much as feared as labour participation rates pick up.

We wouldn’t want to get too confident on the inflation front but if it is close to a peak, what would this mean for investors?

Although several interest rate hikes from the Federal Reserve are now priced in and bond yields have moved up this year, we still face the most negative real (inflation adjusted) yields since the 1970s.

Looking through a long lens in this chart going back to 1928, when negative yields have reversed it’s been because inflation has fallen sharply, not because bond yields have risen.

Once that reversal happens and real negative yields bottom out, it’s generally been a good time to buy the stock market with a long-term view. The grey bars on the chart show the ensuing 3 years market performance from the month that real rates turn.


29th June 2021

Posted by: Andrew McNally

Well off and well advised

We have written a great deal over the last few years on the wealth polarising effect of monetisation. Given the significant increase in the Federal Reserve’s balance sheet through the COVID19 lockdowns, therefore, it should come as no surprise that the portion of net worth owned by America’s wealthy has increased again – nearly a third of all net worth in the US is in the hands of the Top 1% (see figure 1).


The most often cited cause of this is the Fed’s impact (although they largely deny this) on the price of assets held mainly by the well-off. There are, however, more subtle drivers too. The swings seen in asset markets, due to both COVID in 2020, and the longer-term effect rising leverage has on market volatility, has made it more difficult for the less-well off to hold on. In a bear market, as John Pierpont Morgan somewhat cynically pointed out, “stocks return to their rightful owners” and so if bear markets come more often and more sharply, then the rate of repatriation will only accelerate.

This might explain why, as shown in figure 2, the ownership of corporate equities and mutual funds in the US has become even more concentrated than for other forms of wealth. More than a half of all business equity, held either directly or indirectly, is held by the top one per cent of all owners. A trend that looks set to accelerate.



It may not only come down to the capacity to sustain losses, however. As in all western countries, good advice comes at a price. At Equitile we are not financial advisers but we talk to many advisers through the course of our business. As we see it, the crucial value of a good adviser is support and encouragement when the market has a set-back. A good adviser is in the best position to help investors overcome their natural behavioural aversion to loss, and to help plan their broader finances to make this easier. With good personal advice now scarce and expensive for those of lesser means, the ability to sustain losses floats ever upwards.

One intriguing move by the top 1% is their move away from bonds. Their holdings of debt assets (figure 3) has fallen from more than 60% to 40% of all debt assets in the last two decade - they sold aggressively throughout the COVID crisis.



With real interest rates in the US the most negative since the 1970’s, the potential for capital destruction through financial repression, for bond holders at least, is rising sharply. Perhaps the top 1% know this instinctively, or perhaps they are just better advised.


18th March 2021

Posted by: George Cooper

Making a Virtue Out of a Necessity


Yesterday’s FOMC statement is important (March 17th 2021).

There are three points worthy of note:

1: “the Committee will aim to achieve inflation moderately above 2 percent for some time so that inflation averages 2 percent over time”

This is a commitment to the ‘make up strategy’ whereby the Fed seeks to achieve higher future inflation to make up for previously having failed to achieve its desired 2% inflation target. From the FOMC’s perspective, this narrative provides the flexibility keep interest rates extremely low even if it becomes manifestly clear it is failing to maintain inflation at or below its 2% target. This is, as explained by the following passage, now the FOMC’s goal:  

2: The Committee decided to keep the target range for the federal funds rate at 0 to 1/4 percent and expects it will be appropriate to maintain this target range until labor market conditions have reached levels consistent with the Committee's assessments of maximum employment and inflation has risen to 2 percent and is on track to moderately exceed 2 percent for some time.

The FOMC’s goal is first to achieve a negative real interest rate of at least 2% and then to maintain that negative interest rate for ‘some time’. In other words, the FOMC would like to see the spending power of money, saved in the government bond markets, falling by at least 2% per year for the foreseeable future. In order to achieve this the committee is making an open-ended and asymmetric commitment to balance sheet expansion, arguably a euphemism for debt monetization:

3: Federal Reserve will continue to increase its holdings of Treasury securities by at least $80 billion per month and of agency mortgage backed securities by at least $40 billion per month until substantial further progress has been made toward the Committee's maximum employment and price stability goals.

In our view, FOMC is being both honest and pragmatic, effectively admitting the cost of the economic lockdown policies of 2020 and 2021 can only be funded through the printing press. As a result, we believe we are already in the early stages of an uptrend in inflation which will likely last several decades.

We expect the inflation trend to be maintained and accelerated through monetary and fiscal policy coordination; governments will continue spending far beyond their means and central banks will continue ‘footing the bill’ with monetization and negative real interest rates. If so, the global government bond markets will cease to be a viable long-term savings vehicle for the private sector.    


9th March 2021

Posted by: Andrew McNally

Eternal Adaptation

It’s five years since we wrote our inaugural investment letter, Eternal Adaptation.  In it, we cited the corporate mantra of one of our first investments, a packaging company called Sonoco, “Change is an immutable law: eternal adaptation is the price of survival”. While many in the investment management industry consider a “buy and hold” investment philosophy to be a badge of honour, we believe it neglects the reality of economies and markets. As this thirty-year history of the US market shows, industries wax and wane, some arrive afresh and others disappear for good.


Moreover, as we wrote in Revival of the Fittest (2016), companies are living faster and dying younger. The average tenure in the S&P500 in 1960 was more than sixty years, today it’s closer to ten. Moreover, the concentration of cash flow amongst just a few companies is stark and the companies earning that cash flow are changing ever-more quickly.  Between 2000 and 2015 less than 60% of companies in the top fifty by cash flow managed to stay there the following year. The odds, on that basis, of staying  in the top-fifty cash earners for the whole fifteen years was 2,700:1 against. One should be more attentive than ever to a rapid change in fundamentals.

The lesson is simple but often neglected. Buy-and-hold is a comforting mantra, adapt-to-survive is more realistic.

As the chart shows, technology has been the biggest show in town for many years. In recent weeks, there’s been some reversal – the “old economy” heavy Dow Jones Industrial index has outperformed the tech-heavy Nasdaq by 11% in the last month for example. Does this mark a long-term change in market leadership? Possibly. If it does persist then we, at least, will adapt to the new regime.


18th February 2021

Posted by: Andrew McNally

US Retail sales in lockdown - who'd have thought?

8th February 2021

Posted by: George Cooper

Must we really talk about negative interest rates?

Silvana Tenreyro, one of the external members of the Bank of England’s Monetary Policy Committee gave an important speech on January 11th titled Let’s talk about negative rates.

The content of the speech itself it not especially ground-breaking. As the title suggests it is a discussion of the pros and cons of the Bank of England pushing short term interest rates into negative territory. Nevertheless a few passages are noteworthy.

First there is a reminder that the Bank of England is already doing the work to ensure negative interest rates can be implemented in the British banking system:   

“the Bank of England began structured engagement with firms on operational considerations regarding the feasibility of negative interest rates…Once the Bank is satisfied that negative rates are feasible, then the MPC would face a separate decision over whether they are the optimal tool to use to meet the inflation target given circumstances at the time.”

Then there is a longer section explaining how successful negative interest rates have been in other countries:  

“the ‘financial-market channels’ of monetary policy transmission have worked effectively under negative rates in other countries …the evidence from experiences of negative rates in other countries suggests that ‘bank-lending channels’ of monetary policy transmission have also been effective at boosting lending and activity”

· Financial-market channels appear to be unimpeded under negative rates, and some may even be stronger than usual.

  • · While pass-through to household deposit rates can be constrained near zero, pass-through appears to be less constrained for corporate deposit rates, which may stimulate spending by firms.
  • · There is strong evidence of transmission into looser bank lending conditions, even if this is somewhat constrained relative to ‘normal’.
  • · There is no clear evidence that negative rates have reduced bank profits overall, and a number of studies find positive impacts, once you take into account the boost to the economy.
  • · Taking these points together, the evidence suggests that negative rates can provide significant stimulus.”

We are not persuaded of the benefits of negative interest rates.

We remain concerned over the negative impact negative rates have on the banking sector. As Silvana Tenreyro notes negative interest rates were implemented in the Eurozone in 2014, since then the index of European bank stocks has fallen by approximately 45% in value. Over the same period a similar index of US bank stocks has risen by approximately 50%.

We are also unpersuaded negative rates help stimulate the real economy. Economists argue lower rates drive asset prices higher, boosting borrowing and thereby economic activity. We find this argument persuasive but only up to a point. In our view it is important to recognise much savings are effectively non-discretionary. The savings people put aside for the purpose of house purchases and to fund their retirement are driven by necessity rather than choice. To the extent lower interest rates boost the price of assets and lower the income from those assets the policy means people must divert more of their income toward savings and away from consumption, causing a drag on economic activity.  

A simple thought experiment on the topic of negative interest rates is worth pondering:

Case A: You wake up one morning to find the bank has made a terrible error, paying you 100% interest. The money in your bank account has doubled overnight.

Case B: You wake up one morning to find the bank has made a terrible error, charging you 100% interest. The money in your bank account has vanished overnight.

In which of these two scenarios do you increase your spending? To economists focussing on capital market effects negative interest rates look like a stimulus. To savers, worried about banks withdrawing money from their accounts, negative interest rates look like the opposite of a stimulus.  

The discussion of negative interest rates in the speech is entirely concerned with the effect on the private sector economy. In our view this misses the true purpose of negative interest rates which is largely to augment government finances.

The main beneficiary of negative interest rates are governments which can issue bonds with negative yields and get paid, by their central bank, with newly printed money, for doing so. In other words, negative interest rates could be viewed as a thinly veiled mechanism of enabling monetised deficit spending. Given the extraordinary level of government spending, caused by the economic lockdown, the pressure on the Bank of England to facilitate monetised deficit spending has grown dramatically in the last year.  

In summary, we view recent comments by Bank of England officials as preparing the groundwork for negative interest rates. Investors and savers should take note and consider their own response. Although we disagree with the Bank’s sanguine assessment of the impact of negative interest rates on the real economy and banking sector, we agree such a policy is likely to cause further asset price inflation.  

18th November 2020

Posted by: Andrew McNally

A Presidential history of the stock market

21st August 2020

Posted by: Andrew McNally

In these precedented times

He spoke with a certain what-is-it in his voice, and I could see that, if not actually disgruntled, he was far from being gruntled.” P.G. Wodehouse, The Code of the Woosters

Most media I read and hear these days talk about these “unprecedented times” as if none of what we witness today has been seen before.

I wonder if its more to do with language than reality though. Some words just work well in pairs when it comes to describing events - unforeseen circumstancesunchartered waters - but precedented times, for some reason, doesn’t have the same ring.

As George wrote a couple of years back in The Anxiety Machine – The end of the world isn’t nigh, the tendency of the press to report news in an overly dramatic fashion, generally with a strong negative bias, is natural. As humans, we suffer a powerful cognitive bias towards overly dramatic, overly negative narratives. We have evolved to survive and so will always be more attentive to threats than good news. It is only natural, therefore, for the attention hungry media to focus on negative stories during these “unprecedented times”.

Although the combination of events in 2020 is unique, none of them on their own are materially different from anything we have witnessed in the last 100 years. A browse through the history behind our long-range US stock market chart (just scroll over the lines) reveals the never-ending barrage of fear which investors face. War, natural disasters, pandemics, mass unemployment, trade wars, debt fears, political crises, military coups, despots, and obsoletion all feature. So, however, does human endeavour, enterprise, new technology, global collaboration and the economic enfranchisement of huge swathes of the fast-growing global population.

The lessons from this simple chart are clear. Despite the news, stay invested for the long term and, whenever possible, re-invest dividends (click on the Linear button for the full effect).

None of what we see today is without precedent. For sure, we are witnessing an unusual cocktail of economic and political phenomena but perhaps they would be better described, in the spirit of P.G. Wodhouse, as merely a little less than precedented.

6th July 2020

Posted by: Andrew McNally

Race against time for UK small companies


As pubs and restaurants opened in the UK last weekend, we’ve heard mixed reports on how many customers returned. Either way, it doesn’t look like there was a mad rush back.

Most likely, they’ll see a repeat of the retail sector’s experience over the three weeks after they were allowed to open - things have picked up but not by much. Data from Springboard shows footfall in the high street is still less than 40% of what it was at the beginning of March. Retail parks are faring better but are still only seeing around 70% of the footfall they were before lockdown.

In George’s recent COVID-19 Insights piece he talked about the likely bifurcation in the fortunes of  the very large companies and small ones, particularly in retail, hospitality and travel. It seems that his projection is playing out.

The Bank of England reported last week that, while SME’s had increased their net borrowing in May by £18.2 billion, large ones had paid off £12.9 billion of debt.

A recent ONS survey analysing the impact of COVID-19 paints a similar picture with the financial resilience of many small companies now being seriously tested. Of the 5,600 or so companies which responded, 14% were still not trading by mid-June. Of the 86% that were trading, 18% of their staff were still furloughed.

More worrying was companies’ assessment of their financial resilience. Of those businesses actually trading in mid-June, 44% said they have cash reserves to last less than six months. Including business that were still closed, close to half said they can’t survive more than six months given their current cash reserves.

The economy needs to pick up much more quickly if many of the UK’s smaller enterprises are to survive.


2nd July 2020

Posted by: Andrew McNally

All Pent-Up

It doesn’t look like the permitted re-opening of retail stores in the UK has marked a rush back to the shops. One might have expected people to be cautious in the first week or so but even in week two the footfall in England and Northern Ireland was still down 53.1% on the same week the year before (Springboard). It’s hard to say how quickly confidence builds from here, especially in light of an impending sharp rise in unemployment once the government’s furlough scheme comes to an end. One thing is clear though - there’s no shortage of cash right now.

The Bank of England published data last week showing the sharp increase in retail bank deposits.  There’s a startling build up of saving as those with an income spent more than 100 days, with the exception of Amazon and grocery stores, with no where to spend.

Wherever you look, there’s been a significant improvement in consumers’ balance sheet in aggregate. In fact, taking both consumer and companies together, saving has been significantly higher than borrowing for some weeks.

It can’t go on forever of course, Keynes’ so-called Paradox of Thrift can soon take hold. For now though, those left with an income have plenty of financial capacity to fulfil their pent-up demand.

21st February 2020

Posted by: Carsten Wilhelmsen

A Free Lunch

It looks like our argument in a recent blog - that LVMH shareholders were getting a free lunch – seems to have been understated. Bernard Arnault, the company’s driving force, might have made his most transformative deal yet and, moreover, have it mostly paid for by the European Central Bank.

Whereas our previous calculation (see our December 2019 comment) assumed 0.5% cost of debt funding for the Tiffany acquisition, the first EUR 9.5bn (of EUR14.5bn acquisition cost) has been locked in at even better rates through ECB’s Corporate Sector Purchasing Program. The issuance announced this week consists of five tranches; two of which carry negative yields. Even the longest maturity, an 11-year bond, has a coupon of no more than 0.45%. All in, this is around half of the price LVMH was expecting to pay when the structure of the deal was first laid out late last year.

So, what we thought would be an annual funding cost of EUR 73 million will now be somewhere between EUR 44m and 65 million. Trivial considering LVMH’s shareholders are accruing EUR 500-600 million of additional cash flow.


2nd February 2020

Posted by: Andrew McNally

Silicon versus Pathogens

Within twenty-four hours of the Chinese authorities uploading the genetic code for the Corona virus to the internet, a San Diego based biotech company, Inovio, had digitally designed a vaccine and produced the first samples in its own lab. They started pre-clinical trials within a week and their vaccine, INO-4800, should to be tested on humans (assuming it’s found to be safe) by the early summer. Inovio is not the only company working on a vaccine - they are in healthy competition with, amongst others, Johnson & Johnson, Moderna Therapeutics and scientists in Australia.

It’s a great example of how exponential growth in computing power is leading to a revolution in drug development. During the SARS outbreak in 2003 it took nearly two years before a vaccine was ready for human trials, for the Zika virus of 2015 this was down to six months – this time it will be a matter of weeks.

Digitally designed molecules to fight pathogens might look like the stuff of sci-fi but as processing speeds continue to double every eighteen months, the ability to design and test drugs without ever entering the lab is now normal.


I’ve been following the development of a US based private company, Schroedinger, which has industrialised molecule design on a grand scale. Whereas traditional approaches to drug discovery might have synthesized 1,000 compounds each year, Schroedinger’s platform can evaluates billions of molecules “in silico” per week with only the most promising molecules reaching the lab – some within the company’s own drug development programs. It’s not possible for us to buy shares in the company but their shareholder base is further testament to the convergence of computing power and bioscience – one of the company’s early investors was no other than Bill Gates.

The connection between processing speeds and drug development is especially clear in genetic science. The cost of sequencing the human genome has fallen from $100,000,000 in 2001 to a little over $1,000 today. It’s no surprise, therefore, that patent filings for gene-based therapies are growing exponentially.     


Whether a vaccine for the Corona virus will be available in time to stop it becoming a pandemic - or more likely before it burns itself out - is yet to be seen. The battle between silicon and pathogens, however, is in full swing.

One can speculate on where this might lead.  Along with ubiquitous computing power, smartphone health monitoring, home testing kits and so on, small companies and individuals can now innovate in a way that was previously the preserve of large corporations. And so, if there are any hobbyists out there who fancy their chances, here are the first 1,020 nucleotides out of 29,904 that make up the RNA of the Wuhan-Hu-Q. Good luck. 

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