THE FUTURE HAS AN ANCIENT HEART
Abri du Plessis – Portfolio Manager
Reuben Beelders – CIO
Megan Fraser – Head: BD & Marketing
As communicated previously, Gryphon’s multi asset funds have been fully invested in cash for some time now. The recent response to this positioning has caused a myriad reactions from intrigued peers – not all of them complimentary. But the most commonly asked question being asked of us now is, how could we have foreseen that something like the Corona would happen and push over the markets? First and foremost, no crystal ball, no bones, no tea leaves were used in this process - we did not predict the coronavirus.
Abri du Plessis, portfolio manager of the multi asset funds, and Reuben Beelders, Gryphon CIO, both veterans of many skirmishes with capricious markets, raise the following points:
Gryphon’s stylized view of the business cycle is that traditionally the cycle evolves over a period of around 7 years, generally comprising an uptrend of 5 years followed by a downtrend of about 2 years. While cyclical downtrends are uncomfortable they serve the very important purpose of “purging” the economic cycle of the excesses that have built up during the up cycle, the result of easy credit and over-optimistic projections – much like a fire rages through a fynbos reserve. The current global business cycle has lasted 11 years, a protracted period that has enabled a number of excesses, both in terms of fixed investment (think property), but particular to this cycle, investors projecting increasingly grander returns from already expensive stocks.
Thus, before the virus struck, most markets were priced for perfection/blue sky/Goldilocks’ scenario - choose a picture, any picture. The market reaction to the 3rd of January US drone attack which killed General Qasem Soleimani, Iranian major general in the Islamic Revolutionary Guard Corps, was an early indicator of how jittery the markets had become. We maintain that, if markets were not overpriced, an exogenous “black swan” event like the coronavirus would have not been able to crash markets.
It is impossible to foresee “Black Swan” events. Black Swans drift by all the time; it’s just that some are more memorable and are clearly and loudly classified as such as a result of their significant impact. We are of the opinion that these “Black Swans” are only apparent when markets are mispriced. As mentioned previously, we did not foresee the coronavirus, BUT what we did see was fundamentals weakening in 2018 resulting in local equities falling over in August 2018. This was the reason for our move into cash at the end of August 2018.
Based on historic data, this is what we did see:
Commodity prices indicated as far back as January 2018 that global growth was under pressure and vulnerable to rolling over.
Mid-2018, South African earnings growth was showing signs of slowing/stagnation.
The US yield curve inverted in the middle of last year, predicting a likely recession 12 to 18 months later.
US growth was slowing; real S&P earnings growth turned negative in January 2020.
Being fully invested in cash, with no equity exposure whatsoever, was somewhat contrary to consensus and we endured a fair measure of disparagement. However, the recompense for holding this position without blinking is reflected in the performance numbers below:
So, what are fundamentals telling us now? Is this just the market being capricious, likely to pass soon, and in fact a buying opportunity?
Equity markets are still pricey. This includes the local equity market - only 6 of the Top 40 companies currently trade at single digit PE’s…and this is against a backdrop of low GDP growth expectations…possibly even a recession.
Commodity price action and stock levels do not signal underlying strong demand.
The imbalances and tensions that we’ve seen emerging within OPEC were already visible in 2014. It has come to a head now, maybe because of the additional drag the virus is having on demand. There will be more.
Other concerns, for instance, are the continued surge in global debt, not only country debt but also certain pockets of corporate debt.
The corona virus will have an impact on global demand. But more importantly, it appears to have set in motion a chain of events which may push the globe into a recession. We would suggest that a recession is what the developed country’s low bond yields have been signaling. Bonds and forex are trying to signal something – but according to our data the stars do not appear to be aligned for a V-shape recovery any time soon.
Markets are not yet pricing in a recession and not even a soft landing
Our fundamental indicators are not signaling a move back into equities. We are constantly monitoring and looking through the noise and seesawing sentiments; we’d best describe this as simple, but not easy. We would expect markets to resolve their “over-valuation” in one of two ways; 1) a sudden sell-off which restores value quickly, or 2) by trending sideways, essentially being in a “holding pattern” for a number of years as earnings “catch-up” to prices and valuation levels reduce. Either way, we are alert to any opportunities once the move is triggered; we have kept our powder safe and all of it is dry.
As conveyed by the title of this article, we believe that there is a truth in the markets that is reflected in the data. It is easy to be fascinated and seduced by the distraction and drama of noise and emotion, but the truth will out. In the words of Mooji, ‘Step into the fire of self-discovery. This fire will not burn you; it will only burn what you are not.’