Back On The Road

1540 words, a 4 minute read.

This week marked my first offshore marketing trip since pre Covid – it felt good to be back on the road, meeting new folks and getting the lay of the land in a place where I cut my EM teeth some decades ago.

Yes, Mexico City was the locale for a three day visit to many of Mexico’s largest Afores (pension funds), family offices and insurance companies. One couldn’t resist the old EM price check of the cab ride from the airport to the hotel – Mexico is very cheap with a 45 minute cab ride costing the equivalent of $15 vs $80 for my 45 minute cab ride out to JFK, a cool 80% discount.

As usual when walking through a presentation some 15 times over 3 days certain things jump out – things one was aware of but it’s always interesting how certain subjects graduate to the top of the list while others sink & how pushback leads to more or less confidence in one’s POV. I often gain a lot from engaging with other investors face to face – this trip only reaffirmed that perspective.

Here’s what Mexico’s largest investors wanted to know. The single biggest question was whether the June global equity low was THE low; my response was bottoms are a process but the high nominal growth world provides an earnings bridge as we saw in Q2 and will see through YE. In addition, technicals have become increasingly supportive while huge cash piles (largest since 2001) should not only provide fuel for further gains as time passes but also are likely to preclude new lows as investors put that money to work on pullbacks.

The 2nd most common question revolved around the Fed and the US inflation path. This synced up well with the deck as that was our key 2H question for the Americas in our latest monthly. My response was that inflation had peaked and the surprise could be that it falls faster than folks expect based on our concept of “Market Speed", the easing of commodity price pressures, supply chain concerns etc. I noted our current focus on labor and housing with a special focus on the quits ratio and job switcher wage gains as the tip of the labor spear.

Europe was an area of interest for several of the Afores which I found interesting since most here in the US seem to have given up on the region. The conversation entered around our 2H key question – namely the path of European energy prices. I noted the recent good news concerning Germany’s success in hitting its Nat gas storage target of 75% two weeks early and further noted this week’s decision to keep its three remaining nuclear plants on line vs the planned YE closing. Only master strategist Putin could convince the Green Party, whose roots lay in the anti nuclear movement of the 1980s, to poll with 68% saying the plants should be kept open.

I concluded by noting that European risk assets had already priced in a mild recession and given the BTE outlook for energy supply that valuations were attractive across the board while Q2 earnings and sales had been much better than expected – several expressed surprise to learn that Euro Stoxx 600 Q2 EPS rose 16% Y/Y while sales rose close to 30% Y/Y.

There was much interest across the meetings on the outlook for Emerging Markets with several noting how small and inconsequential many of the Lat Am region’s equity markets had become. I was told several times that family owned Mexican companies were buying back shares and planning to go private – perhaps to relist when valuations were more reasonable (higher). Conversations here tended to start with the outlook for China which dovetailed nicely as that was the Asian region’s key 2H Q that we laid out in last month’s piece.

Key China questions were its 2H growth outlook and more specifically the outlook for the property sector. I noted our confidence that China would be able to grow in the 4-5% annualized range in the 2H highlighting that much of China’s slow recovery was due to demand not supply, demand that was damaged by the Covid lockdowns that many in the West experienced in 2021 but that China had gone through only months ago.

China’s policy flexibility was highlighted as was the importance of the property sector to social well being and thus our sense was that China’s Govt would draw a line under that sector. In reviewing our GMA model portfolio, I noted that our Asian HY position (30% China property) has been rising in price even with daily negative stories, a good example of letting Mr. Market tell us rather than we tell the market.

As we went through our meetings two main points emerged for me. The first was my confidence in the “Middle Way or Middle Path”, what some call a soft landing. Its more than that for us here at TPW Advisory as The Middle Way leads to our 2023-2025 outlook. This drew a lot of attention given many meetings were with folks who, as pension fund managers, are LT in their investment thinking.

I laid out our view that as we exit the crisis years of 2020-2022 more normal times will return but that unlike the market which is pricing in a return to a pre Covid low inflation, low growth world we see a high nominal growth world ahead and argued that we have made a decisive break with the 2010-2020 economic landscape.

Our view is one of a high nominal growth world validated by the Fed not eradicated by the Fed. Why? Because the Fed can take comfort from aggressive fiscal tightening in the US coupled with very well anchored inflation expectations to declare victory with inflation at 3% rather than driving it down to 2%.

Fed validation would then support and unleash a global cap ex boom to deal with the three Cs of Covid, Climate & Conflict… a public – private partnership that is global in nature and one that is supported by rising productivity driven by Covid related focus on cost structurers coupled with technology adoption that plays out in the coming years. This outlook generated a lot of interest both for its NT earnings implications (top line nominal growth + cost focus = better margins) and for MT asset allocation across stocks, bonds & commodities.

This part of our discussion synced up well with our TPW 20 thematic model portfolio which generated a fair amount of interest south of the border. Given this week’s signing of the Biden Climate bill, Climate was certainly part of the thematic discussion as was the Innovation space and whether it could rise from the ashes of its brutal bear market.

I noted how this space was the first into the bear market in the winter of 2021 and how it had bottomed first as well. I also reiterated our view that Climate is the single biggest global macro theme – the only theme which has every Govt in the world spending money on it in a finite time frame of 2020- 2030.

The 2nd main takeaway focused on the outlook for EM. We have been gradually adding to our EM exposure across both debt and equity, most recently last week when we updated our Global Multi Asset (GMA) model.

As we went through our conversations and got push back on several of our POV, I grew more confident in the EM outlook, noting how EEM/SPY ratio is back to the lows of 1999-2001, just before EM and non US equity took the leadership baton, outperforming the US from 2002-2007. Our multi year outlook would favor Commodities which should support broad EM, especially X China. Several investors asked specifically about India which frankly has not been on my radar but is now.

EM are clearly unloved and are cheap, not only in equity valuation terms & debt spread over UST terms but also in straight FX terms. This was clear from my 2nd price check, the cost of a Starbucks Latte, clocking in at 47 pesos in prime Mexico City locale so roughly $2.50 versus $4.50 or so here in NYC. When I noted to one lunch partner that things seemed cheap in Mexico I was told that I should check out the rest of the region which is even cheaper.

I return then from my 1st marketing trip in over 2 years feeling that the big opportunity and probably the best risk reward over the coming years if our high nominal growth, global cap ex boom outlook comes to pass is in EM. The catalyst could be the USD rollover (IMF says 17% overvalued) which I speculated would lead to all of Wall St upgrading EM in a matter of weeks. Thus, in a “Market Speed” world my advice was to use pullbacks to add to EM. Maybe it was the great food (I do like Mexican cuisine), good energy & traditional hospitality but I look forward to returning to Mexico City and perhaps paying more for that cab ride or Starbucks drink.