Thursday, July 07, 2016

Too much to write about... a fallback on financial markets

When it comes to both the financial markets and election season politics, there is so much that could be written about that it has led to a mind block here.  The latest black on police and vice versa does not help at all either, it's just something heartbreaking beyond comment. Where does one start when there is so much going on.  Maybe it's the summer heat that has led to this way of thinking.  My Texas friends would suggest that a glass of hibiscus iced tea might help, and this afternoon a pitcher will be made.  For now, here is an effort to make a few comments on financial markets, which is a usual safe starting place.

To say that things are unsettled in the global financial markets is an understatement.  While in fact bond and stock markets have been relatively stable if one overlooks week to week volatility, in fact our little eight portfolios are each having a positive year, it is unclear if anyone has a clear insight into where events will take us.

There were three events this week that were notable here, so far.

First was the suspension of trading, meaning no redemptions allowed, in a $3 billion Standard Life run U.K. real estate fund. That is only one of their many overall funds(good new, bad news?) Standard Life is a long time pillar of Scottish pension and trust investing, and one of the largest, maybe still the market leader.  This action suggests a lack of liquidity in the market, which hopefully will not lead to any forced redemptions by that firm.  It is almost certain that some smaller funds of this type are taking the opportunity to bail out now.

When the formerly highly respected, these days less, Third Avenue Funds Management, stopped redemptions and decided to liquidate their $800 million high yield fund several months ago, it disrupted the markets here for a few days.  It certainly further damaged the already languishing reputation of that firm.  Any repercussions for Standard Life or U.K. property market seem muted from here, but actions like this can take months to play out.  It is not a positive sign.

Second has been the "in process" crisis for Italian banks.  Their credit profiles are poor and with an aggregate 17% of all loans in the banking system rated as non-performing.  This is the worst level among European banks, and will almost certainly get much worse as collateral turns out to be, practically speaking, illiquid, as the Italian legal system bureaucracy is so bloated and antiquated that it barely functions if at all.  Further aggravating the problem is the fact that the Italian banking system is among the least innovative in the world among larger countries, and basically is just a deposit and lending system, almost completely lacking in investment management or other financial products. What that means is that in this interest rate environment, Italian banks are unprofitable even before any credit losses are factored in.  A bailout by other banks is difficult to imagine, as it could lead Portugal, Spain, and any other stressed system to expect that similar relief would be available.

Third is the shrinking of the commercial loan market in the U.S., mainly due to real estate.  The great recession's real estate illiquidity was based in home mortgages as all know. Commercial real estate behaved like most commerical businesses at that time, meaning some fine, some ok, some under pressure.  Today the securization market for commercial mortgages is broadly weak and more expensive if it can be accessed at a time when maturities are coming due from the late 2000's.  That is not a good omen for continued economic growth.

There are many other things one could worry about, but also many that are positives such as employment growth and some increase in consumer spending.  There are also two powerful overhangs on the market...  the election and ISIS based terrorism.  These are not possible to quantify.

despite all of this, the minimal other attractive investment opportunities with any yield of consequence make the stock market, at the moment, continue to be almost a safe haven, done conservatively.  Investors need to be there.  If it does go down, it will be in lockstep, stock picking almost irrelevant, as overall valuation would be the major question.  That's not a pretty picture to think about, but we all have mattresses.


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