The Importance of Real versus Maybe Returns in Investment

Blain’s Morning Porridge – May 30^th 2023: The Importance of Real versus Maybe Returns in Investment

“You get a wonderful view from the point of no return.”

 AI has become the markets new, new thang/bubble as investors pile into the new, new narrative forgetting the fundamental rules of investment are about generating dull, boring, predictable returns which look frothy in hot stocks, negative yields in bonds, thus positive returns from real assets stand out!

This week all eyes will be on the US Congress – can President Biden and Speaker McCarthy get a deal through their respective deeply divided political assemblages? There is some doubt about potential hold outs – although the general expectation is high that a deal will be done at the 11^th hour… The whole market is trying to scale and identify the real-world problem; the potential long-term damage to confidence, credibility, and how vulnerable the US remains to being hijacked by its own legislators?

Meanwhile, another sign of sticky inflation comes in the UK from shop price inflation (from the British Retail Consortium) rising 9% this month, up from 8.8% in April. The big supermarkets are clearly worried about the Government’s musings on implementing price controls and are trying to show its not them – but other forces that are speeding up the pace of cost rises. The policy is reactive – trying to show already disheartened voters that the government is acting to bring down costs, which it clearly can’t.

Taken together these headlines, and others on the Turkish elections, bond yields, the paucity of returns across stock markets away from big tech, the lack of growth in China, or South Africa giving immunity to Russian attendees at a BRICs summit, sum up the concerns of markets at present. So much news, so much uncertainty, and much of it looks bad.

Cheer up.

Remember my critical market mantra: “Things are never as bad as you fear, although never as good as you hope.” Solutions will emerge, often from unexpected sources. Relative calm will prevail after the storm. (However, while applying the above Mantra no 2, never forget Mantra No 1: “The only objective of markets is to inflict the maximum amount of pain on the maximum number of participants.”)

The most interesting real thing in the market is a comment I got from one of our clients last week as I discussed our soon to be launched aviation deal with them: “Brilliant – this is a real thing. This is something tangible. All I’ve been shown recently is AI related plays and most of it is 100% hype and speculation”

It’s no secret AI is the current madness de jour in markets. There are many issues around AI to factor in before being sucked into the bubblicious froth of it all. These include:

• “AI” is not a new trend. Businesses since year dot have been trying to automate, make simpler, save costs. AI is a continuation of the same trend.
• The replacement of whole swathes of professional skills by AI will be cost and solution based – much AI may yet prove a brilliant solution in search of a problem in many areas.
• It’s highly likely AI will ultimately prove a business multiplier – like the internet and the digital revolution, but less than the complete paradigm shift the next generation of hatching AI fixated Cathie Woods-clones now imagine.
• Sticking .com on the back of internet company names boosted the price, but did not make them successful.

There is a spectacular froth building around AI.

Don’t get me wrong – there are very attractive AI plays out there (but probably already overpriced) and there are going to be some massive start-up Diamond Unicorn ($10 bln) companies – but these will largely be uninvestible, requiring only a few million for the proverbial three girls and a dog to launch the next new, new thing where a powerful AI enabled PC will be writing its own code, identifying its own market, branding and selling its product (probably to other AIs), running its own compliance, regulation, HR, accounting and investment proctocol AIs. The girls will be there to feed it..

We probably need a name to describe what such a corporate AI entity should be called? Corporate (Artificial) Machine Intelligences = CMIs? I shall consult my library of Si-Fi books for something snappier.

The big winner thus far has been Nvidia – last week staging a remarkable 25% jump in a single session as its role in AI became “clearer”. I suspect the suspiciously named CEO Jensen Haung may actually be a fiendishly advanced holographic AI-driven Non-Player-Character spawned by the AI that’s quietly taken over the firm. Like Skynet, Nvidia is evolving. It is no longer a chip maker – it births AIs.

As such, Nvidia is the current FOMO/bubble stock – the world’s most valuable chipmaker revealing a whole new range of chipset, products and services to enable AI driven businesses.

Put DGX GH200 into your memory bank – it’s Nvidia’s supercomputer platform  interconnecting GPUs to work together as one… “designed to handle terabyte-class models for massive recommender systems, generative AI and graph analytics”, according to the Nvidia blurb. I understand what that means in the same way a cave-man might have grasped the maths behind the Apollo moon-shot in terms of “that’s where we’re heading”.

Other winners will include Google and Microsoft because they got in early… But, but and but again..

Spoiler Alert: Stop and reconsider investment strategies. Remember what is real, what might be real and what is not.

The thing about stocks is they are about stories – tell a good story to launch a stock, explain the market, its potential scope and scale in terms of global growth and opportunities, and present the mind-blowingly staggering returns it’s going to generate. Repeat, Repeat, Repeat Again… till it’s a Unicorn or bigger. (To understand the process in depth I would recommend the WeWork saga on Apple TV: WeCrashed. It’s a lesson.) To invest in such stocks is a matter of belief, due diligence and your propensity to believe what others wish you to believe. Expect to be served up a whole lot of unmissible AI ETF opportunities in coming days – meh.

That is the basis of the stock market – selling expectations of future returns.

As many people have pointed out Nvidia is up 250% this year. It is trading at a 200 times Price/Earnings ratio. It must be a good stock because Cathie Wood’s ARK fund dumped Nvidia in January reckoning it was too expensive. Now she reckons it’s priced “ahead of the curve”, which I assume means she’s spotted she missed it. (She bought high and sold low – not a recipe for investment success.) The thing is demand for normal every day chips is down – thus the crash in Chipmakers. Nvidia is hot because it is no longer just a chip maker. It is the proverbial new, new thing.

Instead of investing in the fervid dreaming of stock markets, you could go buy bonds.

But with inflation proving sticky, further interest rate hikes to come, the fact most government bond yields are still negative real yields, and we’ve yet to see corporate defaults rise as a result of rising rates and crashing consumption as wages chase inflation… bonds, whatever the bond salesmen from Goldman and JP Morgan are telling you, still look a gamble.

So instead.. I suggest Real Assets and the real alternatives space.

Buy returns liked to the performance of something people are paying for. The deal we are raising finance for currently is very simple: People want to fly. For work and pleasure. Following COVID there are not enough aircraft available, and the supply of new planes from Boeing and Airbus is seriously delayed. Therefore existing aircraft are likely to remain in demand for longer. Our deal is not without risks, but will produce a double digit yield backed by the rentals on real assets with full transparency on what these assets are earnings. Definable rather than expectations based.

If you want to learn more… you know what to do.

Finally… a non market story: A sailing tragedy.

Over the weekend my crew and I took part in a yacht race across the English Channel to France. We retired some 30 miles into the race south of the Isle of Wight. The wind was rising and the sea was rough, but manageable – but we have a firm rule: if someone is stressed and un-happy we turn back. Most other boats carried on, but there was an accident. A wave knocked a crew member from another boat overboard, and he was lost. Sadly, there was a similar accident on another race the same day.  These were the first UK deaths in offshore sailing for many years. We will find out the details of both in due course.

Sailing is a mildly dangerous sport. Accidents can and will happen. We practice drills and make sure we are as prepared as we can be to mitigate these. No-one forces us to race – its our decision. We know the risk and participate on that basis.

Our hearts go out to the lost sailors, their families, and friends.

Five Things to Read This Morning

FT                    Rachel Reeves embraces “Bidenomics” as a blueprint for a Labour Government

FT                    Buffett’s intriguing bet on Japan

WSJ                 Biden and McCarthy’s Debt-Ceiling Deal Faces Crucial First Test in House

BBerg              Niche Commodities Sound Alarm in Every Corner of China’s Economy

WSJ                 Company Insiders Made Billions Before SPAC Bust

Out of time and back to the day job..

Bill Blain

Strategist – Shard Capital