19th March 2021
“Is the yield curve going to keep steepening? Will inflation take off or will there be a transitory boost that quickly fades away into a deflationary slump, sending bond yields back to zero? Will the Fed implement Yield Curve Control?” – are all questions we don’t ask ourselves.
We know that getting these macroeconomic calls right, and positioning the portfolios accordingly, would result in us making out like bandits. All we have to do is keep getting these calls right time after time and we’d have a killer process and perpetual top quartile performance. But, unfortunately, the crystal ball is still at the repair shop. Sometimes we find ourselves discussing what Powell or Bailey or whoever is going to say or has said, but we quickly realise that we may as well be discussing how many fairies can fit on the head of a pin. Not only do we possess no discernible edge when discussing these issues, but we also know that perfect foresight of these macro variables doesn’t necessarily lead to good decision-making. Markets have an incredible way of making people look like fools by acting in the exact opposite way to that presupposed. Witness the immediate reaction to Trump’s election, Brexit, and a whole host of other mini-events.
So, no comment here on the implications of the most recent statement (this week) from Fed Chair Powell. Instead, we position portfolios to perform in a satisfactory fashion regardless of the outcome of unforecastable macroeconomic events. We get excited about valuation. And when we see bond yields increase by a few tens of basis points, we are focused on the 8.5% discount rate used to value portfolios of song royalties that grow regardless of prevailing levels of long-term bond yields. Or we remember the double digit discount rates used to value the cash flows generated by essential battery storage infrastructure that the National Grid relies on to complement the growing (but highly variable) reliance on solar and wind-generated power.
Ben Mackie mentioned a few weeks ago how we see these types of assets as a very adequate fixed income replacement. When there is such a large gap between the discount rate used to value certain assets with robust and very reliable cash flows, and the yields available of even risky bond investments, it makes sense to allocate accordingly. It is also a far less stressful way of managing portfolios when you don’t own a big slug of government bonds “for diversification purposes” which may fall several percentage points in value because Powell doesn’t extend the Supplementary Leverage Ratio (yes, I had to google that too, to remember what it is!).
This week we have continued to take profits from some of our REIT holdings across all three Funds. Proceeds have mainly found their way into our higher conviction equity holdings, but also an asset-backed fixed income investment trust whose board has drawn a line in the sand under the discount, giving us greater conviction in the positive asymmetry of the investment case. Meanwhile our Global Opportunities Fund goes from strength to strength, and the surging performance of our uranium mining play, Geiger Counter, has necessitated further profit-taking to keep the position size in check.
Research-wise, the highlight of the week was a very good update with Oakley Capital (OCI) – the listed private equity investment trust on a very wide discount, which is one of our highest conviction positions. The excellent David Stevenson mentioned this in his column last week in the FT as a “self-inflicted” discount opportunity. A bit harsh putting it in that category, we thought. The misstep that caused the discount to open up was many years ago and since then the Company has exhibited, we would argue, close to best-in-class corporate governance. It has done this while generating best-in-class NAV growth, in companies valued at half the ratings of sector superstar HG Capital, using way less leverage. We will continue to watch OCI climb that wall of worry!
Ben Conway – Senior Fund Manager
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