III Macro: Market Views & YTD Review

Performance: As of April 30th, our client SMA accounts stand roughly +5.2% YTD, and continue to closely track our long-term 10-20% annual alpha versus the S&P500.

Commentary / Mea Culpa: I missed the significance of the coronavirus. I said it would most likely amount to nothing. For the most part I "traded poorly", including major de-risking into the 3rd week of March. Despite this client portfolios performed well enough. Going forward, it is clear that "the virus" changes so much in markets locally. Many new questions arise, and I have been saying to clients, "this changes everything". Below I list a few key questions and then try to offer short value-added comments on each.

(If you find our investing work compelling, please reach out to [email protected], or through www.iiimacro.com, to discuss becoming a research or SMA client. Thank you, MSJ)

Three questions for Today's Markets

Inquiry 1 - How did our SMA portfolios perform so well? ... despite not trading to "short-term" advantage? Because good long-term mega-cap LS ideas (and macro) just worked. Again.

Inquiry 2 - What false narratives have arisen? ... in light of the "random natural disaster" of a virus driven pandemic? During dislocations many market players confuse skill with luck. The "luck" then validates their mistakes, and they build false fundamental economic paradigms (like "peak oil" or "low rates do not work"). These open up future long term trades in the long recovery. Looking to exploit "false narratives" drives so much of my investing.

Inquiry 3 - There are no coincidences? ... Market prices seem to have simply accelerated the "ESG focus" globally. Where are the exceptions to this? What would be a list of "top 10 ESG" stocks and market positions? (and bottom 10?)

Now, each of these could warrant a long essay / a full research chart packs. And I suspect this will be a central focus for years going forward. For now, I will simply offer a few quick answers:

Ideas 1 - Long-term Macro LS themes and ideas mainly worked!

Three Core Macro Themes:

• Global risk-free interest rates belong at 0%. I believe there has never been a modern need for the US government to "pay interest on money". The US government IS money itself. The RFR has now long been an inefficient way to regulate fractional reserve bank lending. The natural UST rate is 0% (or even negative).
• Commodity boom > commodity bust. Oil is weakest. Consider the idea: From where does energy come? It is everywhere. Lightening strikes! Energy is just a technology problem. Solar + Wind + Battery = Free Energy.
• US Technology #1s are natural global monopolies. Equities are the great long-term asset class. Nothing else compares. Show me the Trillions!

These 3 simple big ideas (mainly) allowed our SMA portfolios to coast through the unappreciated crisis. Despite running 150/50 construction our drawdown to March 23 was around 15%, half the losses on the S&P500.

S&P500 Technology (XLK, +126%) versus Energy (-47%) on last 5 years

Ideas 2 - What false narratives have arisen?

There is one great "false narrative" that quickly arose, and still hangs around now. It is that "stocks were ready to fall", and it was "already late-cycle". This has been a costly mistake, and I think this is what is behind the quick recovery in markets, and the S&P500 resiliency.

I have viewed things very differently. In my prior article, "What Really Happened in 2018?" I outline why I believe February 2016, and Fall 2018 compose a "double-dip" end-of-cycle marker. And thus 2019 marked the first year of a long new recovery cycle. Equities on my measures were extremely undervalued, and this powered our 78% return in 2019. Do you think equities are expensive? And over-levered? Over bought? Recent market action, and the V-shape bounce in index levels suggests otherwise. If you buy the false narrative of "end-of-cycle", you may be locked-out for the entire recovery!

S&P500 Long-term Valuation Chart - Equities remain unlevered and super-cheap.

Ideas 3 - There are no coincidences?

In Q1 we largely missed the magnitude of the coming pandemic. Our major theme was "It is All About ESG Now". And looking back on markets YTD, it is clear the ESG theme really nails LS equity moves YTD.

What is bad on an ESG basis? The energy sector is clearly a first choice. Travel and airlines may be the ideal 2nd choice. It has long been "smart speculation" that air-travel and excess shipping is major negative for the planet.

What is good on an ESG basis? Technology feels clean, and helpful (at least on first pass). Its hard to argue with software for learning, productivity, and joy without environmental impact. In single stocks - Tesla (TSLA) is the logical #1 stock to "must own". And then healthcare, across the board feels very ESG.

Now, clearly the pandemic is neither about climate, nor even ESG. All the deliveries and excess packaging are not social positive or environmentally sound. Further, neither is unemployment and crippling development through forced "lockdowns" and idle time. But the future of good stock picking, and good investing is evermore about identifying global trends.

We have long said, "our portfolio is largely 'long good and short evil', but the key to performance is knowing when to time the trades right". We will continue to work on that.

(If you find the work and ideas above interesting, please reach out to [email protected], or through www.iiimacro.com, to discuss becoming a research or SMA client. Thank you, MSJ)