Blain’s Morning Porridge Dec 20th 2019

This will be the last porridge of this year and this decade! I’ll be back in the New Year, and looking forward to another 10-years of market mayhem, opportunity and surprises. Happy Holidays, a Hopeful Christmas and a Brave New Year to everyone!

In the New Year I’ve a whole series of new objectives, resolutions and plans to chase. These include getting fit, losing weight, etc etc, but I expect a more realistic chance in the markets where we’ve got some stunning new deals to finance – which look fascinating.

Enjoy yourselves, its later than we think!

Global Risk

To end the year I’ve been thinking about risk.  Central Bank and regulatory repression have magically made volatility all but disappear – or so we think. Sure, we still have market risk – but folk are discounting it because they expect Central banks will resolve any market crisis threats by immediately pumping in more and more more…. It’s almost Pavlovian! A financial crisis and folk pile into assets, thinking the authorities will bail them out.

There is, of course, serious risk management issues out there to address.  When it comes to addressing risks, like currencies, commodities, or defaults – you can hedge. You can predict and plan accordingly.

However, there are very real risks that are more difficult to identify, ascertain and measure.

I call them “no-see-ems”, while the risk insurance markets call them unpredictable shocks.

I was reading up on Catastrophe costs – the Cambridge Centres for Risk Studies Global Risk Index – about the events global insurers fear most in terms of Catastrophic Risks.  Apparently, a run of discrete no-see-em events could wipe out over $500 trillion from Global GDP through 2020.

Ouch!

The assumption is one-off no-see-ems are one-off. They occur occasionally and we cope with them. For instance, ask round the office about the biggest one-off natural event risk, and I bet you will immediately hear people talking about the Big One, the risk of a California Earthquake. It will be damaging, it will be tragic, but it will be unique and one-off. It will be costly, but it will be dealt with.

Natural Catastrophes come top of the Cambridge risk list – potentially knocking some $179 bln off global GDP in 2020,  followed by financial, economic and trade risks at $149 bln, and geopolitical and security risks at $141 bln. These are big numbers, but they won’t all happen together. Will they?

Some of these catastrophic events care man-made; like the threat of a market crash, war between states, cyber-attacks, revolution, a commodity crash, sovereign default, power outages, terrorism and social unrest. They are all foreseeable to some extent.  To a degree they are recognisable and accountable risks, and therefore predictable.  Others are accidental man-made disasters like a nuclear accident.  A market crash is seen as the most costly catastrophe risk – $106 bln of Global GDP could be at risk!

Social unrest is the fastest growing threat as groups like Extinction Rebellion and the Gillet Jaune take over swathes of cities, destroying local economies. (If you want to see Social Unrest costs in action, go visit Paris this Christmas: the strikes mean retail is down over 30% in Paris’ finest streets and galleries – the City looks depressed.)

We dealt with a Global Market Crash in 2008. The effects on Global GDP was immediate and brutal. We know what to expect. The next crash will be different, but once you’ve survived one shipwreck you get wise to the next. From the ruins of one market we will quickly predict how it might recover, what the opportunities will be, and how they will impact asset prices moving forward.

It’s natural catastrophes that are least predictable, and therefore most difficult to hedge. These range (in order of scale of likely risk damage) from tropical windstorms ($68 bln), a human pandemic, floods, earthquakes, drought, plant epidemics, volcanos, solar storms, temperature windstorms, freeze, heatwaves and tsunami. They could happen anytime. They are not predictable.

We make an assumption that natural catastrophes are one-off discrete events. What if they are not? What if they become a trend? The next decade is likely to be the one where we either see the predicted outcomes of global warming, or it doesn’t happen. I believe the scientists – so I’m preparing for the worst.

Take localised events like wildfires across California and the current disaster now threatening Sydney in Australia. What if we see similar magnitudes of damage on a more frequent basis across the globe as climate change really starts to bite? What if the number of localised events increases in number and scale?  Because that’s exactly what the climate change science predicts: for each 0.1 degree of climate warming, the effect on climate/environment instability climbs by an increasing factor and multiple scale.

Climate change events would include wildfires, drought, heatwaves and flooding. On a one-off basis they are all addressable and affordable, but what if they turn from a drip drip into a deluge of events? A storm might be coming.  At first it’s just apparently a few discrete events; a firestorm, a drought, some localised flooding, an extreme weather event.

What happens if the climate fears are correct and we’ve got tropical storms regularly sweeping up the USA east coast, flooding effectively swamping the UK’s infrastructure, 50 degree temperatures sustained through the European summer, Hurricanes hitting the European Atlantic coast (it nearly happened this year with Atlantic storms forming further east than ever before), or higher temperatures causing massive crop and cattle die-backs across South America? Add in power outages across South Africa and a failure in the ocean currents triggering drought, and a rising series of localised events become a global GDP crisis?

I have put Climate Change as one of my seven themes for the next decade. It could get very serious…

Meanwhile… 

I also reckon risk is fractile – what we see at the macro level we see repeated in the same patterns right down to the micro level. For instance, dropping my laptop and breaking it was a catastrophe on my personal level.

Goldman Sachs faces a Catastrophe – it’s likely to agree something like a $2 bln fine over its role in the 1MDB Malaysian Fraud Scandal. (Which will put the 10% fees they charged on raising $6.5 bln for the fun which were then looted, into context.) One Goldman banker has already pled guilty. I guess it’s a Catastrophe, but it won’t be catastrophic for the firm… you just know they will emerge smelling of roses… They always do. Why they aren’t having to repay the Malaysian people the whole $6.5 bln for a fraud their failures to spot, and the fact some executives seemed to connive at, is another matter.

It won’t be much of a catastrophe for Goldman.. no matter what, you just know they will come up smelling like roses…

A new Bank of England Governor

Andrew Bailey has been selected as the next Bank of England Governor. I can just imagine there are screams of horror all around as the liberal elites of the BBC and other entrenched nests of Remoaners, decry it as Boris picking a pale, stale, male he can dominate as BOE Governor. The commentariat are already bleating about whyhttps://www.bloomberg.com/news/articles/2019-12-20/here-are-10-macro-risks-keeping-morgan-stanley-wm-awake-at-night?srnd=premium-europewasn’t the job given to LSE Prof Minouche Shafik, who is not only a woman, but also a right-thinking remainer?

Nothing wrong with giving Bailey the job. He’s a bank of England insider who understands how it works. He’s not had a great run at the FCA – but who would? Herding bureaucrats is never an easy task. Replacing Carney with a dedicated Brit who’s not a grandstander and understands just how important the role will be in this new UK making its independent way in the world is a very smart move. Yes, it’s a political appointment, but it always has been. We need a BOE aligned with the future which isn’t going to be fixated on fighting the last battle – Brexit.

And hooray for Pale, Male and Stale – which is how I’ve already read him described this morning.

These are the same exact words used by a BBC producer a few years ago as she explained to me how they were rejigging the show I once appeared regularly on. It’s now got a host of younger, ethnically diverse, and more widely gendered commenters in place. I was told I was “Pale, Stale and Male” – which was explained as meaning I was being no-platformed because my views are deemed less worthy, less valuable and that I have no right to express them because of my age, colour and gender.

(To be fair, anyone who ever saw me on the TV will know I have a better face for Radio!)

Good luck Mr Bailey!

Five Stories to read today

BBerg – Confidence Climbs at UK Consumers and Businesses

BBerg – 10 Geopolitical Risks Looming Over Markets in 2020, According to Morgan Stanley

FT – Sweden worries it created a negative rates monster

FT – World Bank warns on “towering” $55 trillion Emerging Market debt pile

WSJ – Pelosi to Delay Sending Articles of Impeachment

Out of time and back to the day job… Have a great holiday!

Bill Blain

Shard Capital

Billblain@morningporridge.com