3rd December 2023
November Performance Review
Dear Investor,
As usual we will start the month having a quick look at what the markets did in the previous month, our themes, and then the thematic portfolio performance.
As can be seen above the biggest upside gainer for the month were US bonds, rising nearly 10%, and this reduction in interest rates pushed most markets, especially the US a lot higher. As we said in Commentary #22:
“We believe that short-term flight to safety in bonds is either beginning or starting soon and as stated above, will cause a relief rally in equity markets.”
What this means in the short-term is that the pressure on the equity markets from higher bond yields will abate for the moment and together with the sell-off in September and October, means we will likely get a rally into the year end, before economic reality hits next year as the long-awaited US recession finally come home to roost. “
and
“We will make some tactical changes in the portfolio, reducing our shorts in the US and Europe especially interest rate sensitive shorts of real estate and financials.”
We are glad we did this, but we would have been happier if we had reduced our shorts more as markets rallied more strongly in the short term than we had expected and this hurt the overall performance.
Please see the Themes section of the website for a breakdown of our current investment themes.
In terms of themes, our US shorts predictably lost money, but what hurt us more was the loss in energy (which we discuss later) and our exposure to Hong Kong which didn’t participate in the global rally.
Fortunately, some of our other themes performed well with precious metals and other commodities helping the overall thematic portfolio.
The thematic portfolio performance is detailed below, and we made 1.34% for the month.
The portfolio was hurt by both US and European shorts, with the latter getting an extra boost as the Euro rallied against the dollar as US interest rates went down.
As we noted above, although we expected a relief rally in markets due to bond yields moving down, the magnitude of the rally surprised us. The 6-month chart of the S&P 500 below shows how, over just a few weeks, the index regained all it had lost since the previous peak in July.
We believe the current consensus in markets is for a soft landing in the US economy. This entails inflation falling far enough to allow the Fed to lower rates, but for the economy to continue to expand and for corporate earnings to grow 10-15% in 2024.
The below from Bloomberg sum up this view nicely:
Wall Street Bets on Soft Landing Again in Best Month Since 2008
Time and time again, speculation breaks out that the Federal Reserve is poised to ease monetary policy soon enough — spurring even cautious investors to erupt in a spasm of cross-asset buying. Stocks jump, bond yields fall, and a dash ensues among equity speculators into shady corners encompassing everything from meme fliers to crypto and profitless tech.
That’s November in a nutshell. Volatility has fallen to pre-pandemic lows and a Goldman Sachs Group Inc. gauge of global risk appetite has hit near the highest level in two years.
Why Goldman’s Top Economist Says the Soft Landing Is Coming
We discussed in Commentary #23 on why we think this is wrong and what we believe will happen:
“In summary, we believe the US is much closer to recession if not already and this will mean earnings and the stock market should fall from here. We continue to believe there are opportunities in other areas.”
We stick with this view and will increase the US shorts slightly, adding back the interest rate sectors we removed (real-estate and financials) as we believe the credit cycle will take precedence over lower rates. We will likely increase these shorts more in January as the calendar year effect of money management, means there may be some performance chasing in December pushing headline indices up.
Moving onto HK/China, which has continually disappointed us, it actually joined the party this month rising over 5% in the first two weeks of the month but giving it all back. We think there are two reasons for this. One is to do with professional money managers not wanting to show much Hong/Kong China exposure in their portfolios at the end of the year and the continued selling by foreign investors who want out of China at all costs.
From the FT:
Over 75% of foreign money invested into Chinese stocks in 2023 has left.
From the Goldman Sachs data below, you can see how much exposure has been reduced to China this year, especially from global funds. Truly amazing given the size and impact of China’s economy.
As we discussed in Commentary # 21, we believe HK/China markets will be a good performer next year, not least from the base effects from a miserable 2023, and we will increase our position in January. We are not sure we will get any bounce in December given the two points on positioning noted above. We will change some of the exposures though, adding the Hang Seng tech index and removing the construction companies. We rode a 20-30% rally up in those construction companies and rode them all the way down instead of getting out. We will keep an eye on them as the underlying thesis is still there, but they are currently tarred with the same brush as the property sector.
Japan bounced but we had reduced exposure there and we will continue to do so this month. We still like Japan on a mid to long term view but think the market will struggle in the near term. We will discuss Japan more in the next commentary.
India continues to perform as the biggest beneficiary of a lack of confidence in China and the geopolitical position it now occupies, and we will keep the exposure the same.
Gold and Precious metals continued to do well with the miners rallying 10-15% this month. Part of this is obviously due to the gold price rallying and partly due to margins. The biggest cost for gold miners is energy and so we can use the ratio of gold to oil as a proxy for miner’s margins and with the fall in the oil price, one can see in the chart below that the ratio has been rising giving a further boost to miners.
We most recently discussed gold in Commentary #22 and one comment is repeated below:
“Looking at the 5 year chart of gold below you can see it has hit $2030-$2070 three times already. There is a saying in markets that there are “no triple tops”, which generally means that the more times a resistance level is tested, the more likely it is that it will break through that level.”
If we then look at the main ETF of gold miners (GDX) compared to the price of gold over the last 5 years we can see the last 2 times gold was this high, GDX was nearly 50% higher. There are times and places to buy miners instead of gold and this is one of those times.
As discussed previously, we will increase our exposure to precious metals when gold moves to an all time high which we expect to happen early next year.
Other commodities rallied along with everything else this month and our new addition MSOS, the cannabis ETF did extremely well rallying nearly 22%. You can reread the more in-depth discussion on this sector in Commentary #22.
Energy was a big disappointment especially as we had upsized the exposure at the beginning of the month. The narrative/explanation is that oil is falling due to slower demand due to a recession, but as we discussed above, we don’t believe that is the consensus view. There is definitely a lot of financial speculation in oil which may explain part of the move.
Bloomberg December 1st
Oil’s Wild Ride Is Driven by a Disruptive Band of Bot Traders
Just in the past two months, prices threatened to reach $100 per barrel, only to whipsaw into the $70s. On one day in October, they swung as much as 6%. And so far in 2023, futures have lurched by more than $2 a day 161 times, a massive jump from previous years.
While supply-and-demand fundamentals still dictate overall commodity price cycles, the day-to-day business of trading crude futures is increasingly dominated by speculative forces, fueling volatility and driving a disconnect between physical and paper markets.
Despite their mundane name, CTAs have emerged as a powerful force in the oil market. Though they comprise just one-fifth of managed money participants in US oil, CTAs made up nearly 60% of the group’s net trading volume this year by some measures, according to Bridgeton Research Group, which provides analytics on computer-generated trades. That’s the biggest share the group has held in data going back to 2017.
“You would be absolutely shocked how large their positions are,” said Ilia Bouchouev, a former trader and managing partner at Pentathlon Investments who teaches at New York University. “They are probably bigger than BP, Shell and Koch combined.”
Regardless of the short term reasons, oil and natural gas has fallen and so we will increase our exposure as we believe the underlying themes of supply constraints and energy security are still intact. We most recently revisited this them in Commentary #21. We will add a position in 2 ETFs of uranium miners, major and junior miners. Physical uranium, which is in the thematic portfolio, has been on a tear recently and the miners have also participated, but we believe this is a longer-term story and so will add them this month.
The thematic portfolio for December is shown below, with changes highlighted in red as usual.
December Thematic Portfolio
Until next time,
