Month: May 2017

InnOvation Capital & Management, LLC

IntelDigest

LAW – POLICY – FINANCE – MARKETS
INFORMATION FOR THE ENTERPRISE AND INVESTOR

MAY 24 , 2017

Contact Richard Power with comments or questions. IntelDigest is intended for the use of our clients and colleagues.  Material may not be reproduced, forwarded or shared without express permission.

We continue a series of articles on “Work in America” here in IntelDigest.

The heart of the problem in U.S. Employment is that many American jobs, especially in manufacturing, have been contracting for decades.  Blame has been directed generally at imported goods, but statistics paint a different picture.

In reality, better efficiency and productivity have much more to do with the change in American manufacturing. Some researchers have estimated that over 85% of manufacturing job losses in recent years are attributable to growth in productivity in U.S. factories, while closer to 13% can be traced to foreign imports.

Labor Force Participation

The “labor force” from which we calculate unemployment statistics includes only those people who are either working or who wish to be working.  It ignores the retired, the disabled, nonworking spouses, students, and those who are not interested in working.

The fact is that a smaller percentage of the adult population is working now than in the past.  The percentage declined in the recession of the early-2000s and never fully recovered;  then, the percentage plunged again in the Financial Crisis of 2008.

Many Americans have no job, and many more don’t like the jobs they have.  Millions of unemployed, underemployed, or unhappily-employed reside in every American community, touching the lives of virtually every citizen.  And, obviously, contributing to a powerful voting bloc which had a profound impact on the presidential election.

Labor Force Participation is a vital factor in economic growth.  The numbers of people dropping out of the labor force is increasing, which is an unhealthy trend in a country which would like to push GDP growth to at least 3%, a level which it has not attained in years.  As more workers abandon the labor force, productivity could be affected.

If the economy goes into recession next year, GDP could drop.  And, federal budget projections will become worthless.

Disquiet In the Economy

The state of the U.S. economy is not enhanced when millions of workers have left the labor force.  Not only are they not producing, but most of them consume the fruits of the labor of those who continue to work.

There is similar dissatisfaction on the other side of the labor-management relationship.  Many employers complain that they cannot find enough qualified workers, or that too many workers need extensive training and/or unremitting attention in order to be productive.  Business owners cite the need for good workers as their primary need, over the availability of capital or loan financing.

This widespread dissatisfaction among employers, employees, and those who aren’t working is one big reason that Donald Trump is now President.  He paid attention to a large group of voters that others ignored, spoke to their anxieties, and won the White House.

A huge segment of the population was experiencing a yawning disconnect between the reality of their daily lives and the surging stock market shown on the business-news channels.  While Big Business is constantly in the news, the lesser-known fact is that Small Business startups have lagged Small Business closures for the last decade.

Wall Street has been doing much better than Main Street for much of this Century, and the strain on the American Can-Do Spirit has been conspicuous

Men Without Work

Prior to the Labor Force problems of the 21st Century … in the growing American Economy of the latter half of the 20th Century … the overall civilian labor force (comprising both men and women) was constantly growing.  The overall rate declined from 2000 to 2010, but then leveled off.

However, the Male participation rate has been in steady decline since 1950.

The fact that large numbers of American men in their prime are simply not working has become a significant political and cultural problem in our society.

 

 

 

Proclamations by the Federal Reserve and other government officials that the economy is near “full employment” are laughable.  Every American community contains appreciable numbers of working-age males who could be working, but are not.  They don’t appear in statistics as unemployed unless they are “actively looking” for work.  Or, they may count as “employed” because they did a few hours of paid work in a month.

But, for all practical purposes, they are unemployed and someone else is supporting them.

Recent studies indicate that:

* for every unemployed American male between ages 25–55, there are three more who are neither working nor looking for work

* the number of those males presently in the labor force is down almost 4 percent since the turn of the Century … almost 5 million men who, for whatever reason, have dropped out of the labor force

* between 2000 and 2015, the total paid hours of work by all American workers rose 4 percent (compared to a 35% increase in the previous 15-year period) … yet, the adult civilian population grew almost 18 percent

With the population growing far faster than the total number of work hours, it shouldn’t be surprising that so many people aren’t working.  The downturn in labor force participation is a trend that has been going on among working-age men for over 60 years.

“Balkanization” of American Politics

Our labor difficulties feed into the “Balkanization” of American politics.  There is a general sense in much of the developed world that we’re headed for more difficult times, with increasing government deficits, rises in unemployment, and uneven distribution of the benefits of society.

The negative aspects of our culture, society, and economic system are on display 24/7 on television, talk radio, and the Internet. Viewpoints become hardened, and we have been sorting ourselves into tribes based on how we consume news.

Most Americans receive their news from people who reside in the same ideological bubble … those whom we have “friended” … or those in the Media whose programs represent “our side” … which serves to reinforce our concerns, anxieties, prejudices, and point of view.

If you think that the Trump Administration and Republican Congress are taking us in the wrong direction, there are plenty of people who will agree with you and tell you so.  If you think the people opposing them don’t understand and are distorting the truth, there are plenty of sources that will confirm your thinking.  And, both sides talk/shout over each other.

Our news sources have always been polarized … to a degree … but never in our memory has they been so ubiquitous or so extreme.  And, news has never been so readily accessible, so that numerous “tribes” can live in the same physical neighborhood, yet hear different versions and interpretations of the same problems and events.

There is no unifying national experience, just a disjointed series of intra- and inter-tribal interactions

Ah, for the Good Old Days, when we all (or, most of us) trusted Walter Cronkite for the news.

More on Work in America and the Future of Work next week in IntelDigest.

 

 

 

 

InnOvation Capital & Management, LLC

IntelDigest

LAW – POLICY – FINANCE – MARKETS
INFORMATION FOR THE ENTERPRISE AND INVESTOR

MAY 17 , 2017

Contact Richard Power with comments or questions. IntelDigest is intended for the use of our clients and colleagues.  Material may not be reproduced, forwarded or shared without express permission.

Today, we begin a series of articles on “Work in America” here in IntelDigest.  We will first address the current political situation in the U.S., as the two topics are very much intertwined.

The Political Millstone, Redux

We have discussed why the Bull Market of recent years took off after the Election and ran up for almost five months, reasoning that investor optimism was based on having a Capitalist entering the White House.  Unfortunately, as we stated last week:

“Because both financial markets and a large segment of the American Public are losing confidence in the ability of the Trump Administration and Congress to adopt stimulus measures for the U.S. Economy, we have entered a holding pattern in the broader markets.  We believe that significant advances in the markets will resume only when Tax Reform becomes a reality … Fall of 2017 at the earliest, and perhaps not until Spring, 2018.”

It appears that improving the U.S. Economy has not been a priority for the new President.  Mr. Trump’s actions … where he has actually taken action … have been focused on destroying or reversing any law or executive order put forward by Barack Obama.  This feels very much like a vendetta, not the level-headed actions of the Leader of the Free World.

We really shouldn’t be surprised.  Trump did not campaign as a fiscal conservative or a supply-side tax-cutter …. he was a fire-breathing Populist!

The investor community convinced itself that he was something that he is not, and bid up asset prices on the expectation that he would act quickly and decisively in areas where he, apparently, has little interest.  With reality setting in, the broad stock market will settle back and find its fair (lower) value.

 

 

 

Politics and American Jobs

In his campaign, Donald Trump focused his message at a segment of the electorate which has been under economic stress and pressure in recent years.  His core constituency is the white lower-middle class.  Many middle-class Americans have felt “The American Dream” slipping away. Where a middle-class family could reliably obtain a house, car, vacation, and a comfortable lifestyle over the last few generations, these goals have been harder and harder to achieve in the 21st Century.

According to the Pew Research Center, real wages for American workers have been flat or declining for decades. In addition, recent studies have shown that the real incomes of the top One Percent in the U.S. have grown by more than 30% just since 2009, while the income of all other Americans has barely budged.

Trump leveraged this discontent and resentment, and he garnered just enough support to win the Presidency.  He capitalized on the disenchantment of those who had gone from full-employment to unemployment or underemployment;  who felt that they had been getting a raw deal in 21st Century America;  who were willing to follow anyone who promised a radical change of government and bureaucracy and culture.  To many of his followers, his propensity to freely offend various (mostly non-white) people was viewed favorably as independence and a willingness to counter political correctness.

Fundamentally, America is now divided on class-based lines, with many in the mostly-white, mostly-lower-middle class segment firmly in Donald Trump’s corner.

Unfortunate for many in his constituency, the President has made no moves thus far which could improve the lot of these aggrieved voters.

Work in America

The heart of the problem for many of these Americans is that American jobs, especially in manufacturing, have been contracting for decades.  Blame has been directed primarily at imported goods, but statistics paint a different picture.

Many people believe that offshore manufacturing has led directly to the loss of most American jobs.  Certain facts lend support to this view:

* many tons of imported goods are brought into the U.S. every year;

* several foreign countries, most especially China, have been growing at rates several times the U.S. growth rate over the last 20 years

In reality, better efficiency and productivity have much more to do with the change in the American manufacturing landscape.  Some researchers have estimated that over 85% of manufacturing job losses in recent years are attributable to growth in productivity in U.S. factories, while closer to 13% can be traced to foreign imports.

 

 

 

Automation

Many Americans would be startled to walk onto the shop floor at many U.S. manufacturing plants … shocked to see how much of the space accommodates machines rather than human workers.

The Industrial Age began over 250 years ago with the inventions of a practical steam engine and a loom powered by water.  From that time, human ingenuity has been employed non-stop to increase productivity.  Newer, faster, more accurate machines have been invented every year to replace older technologies and processes, and also replace some human workers.  The resulting increases in productivity have always been viewed as good for the country and society, even with the loss of some jobs.

The Information Age has followed the same script, but now at vastly higher speed.  Advances in computing and robotics over just the last 40 years have been breathtaking, and have done far more to change society and eliminate millions of “old technology” jobs than any other factor, including imported goods.

Where will Automation take us next?

Certainly, more robust Information Technology … Cloud computing and storage, faster computing speeds, more widespread application of digital technology to the analog world … will continue to transform our world, with inevitable impact on both manufacturing and non-manufacturing jobs.

We will likely see, over the next 20 years, greater use of machines which can work on their own, with little supervision.  This certainly includes self-driving vehicles, which have already driven over One Million Miles in research programs on the streets of several U.S. cities. Fleets of autonomous trucks will be criss-crossing the country within that time frame.

Meanwhile, the development and expansion of Artificial Intelligence could have a major impact on employment in many sectors, not just manufacturing.  This raises many questions about the Future of Work.

This topic is very large, and we will be spending several weeks on various aspects of Work.  We will continue next week with discussions of Labor Markets and Labor Force Participation.

InnOvation Capital & Management, LLC

IntelDigest

LAW – POLICY – FINANCE – MARKETS
INFORMATION FOR THE ENTERPRISE AND INVESTOR

MAY 10 , 2017

Contact Richard Power with comments or questions. IntelDigest is intended for the use of our clients and colleagues.  Material may not be reproduced, forwarded or shared without express permission.

Before starting a series on “Work in America” next week in IntelDigest, we finish a discussion of the current investment climate and economic landscape.  Please feel free to review our April 26 and May 3 issues for our exposition on several areas of investment which have high growth potential going forward.

In those issues, we stated that we have turned away from the broader U.S. market in equities, and have narrowed our focus.  We are not actively selling, but have tightened Stop Losses in anticipation of a market drop.  At the same time, we identified very specific areas where we have continued to invest, either by stock purchases or by Shorting sectors which have fundamental problems.

The primary reason for the interruption in the Bull Market can be traced directly to the Nation’s Capital.

The Political Millstone

The reaction of the markets to Donald Trump’s election was a surge upward, on the theory that having a Capitalist in the White House would be Good-for-Business.  From November through February, we had the Trump Bull Market in large-cap stocks, especially banks and companies in construction and materials … companies which would benefit from a vaunted Trillion Dollar Infrastructure program.

But, the reality of a Trump Presidency, and continued inability by Congress to get things done, has taken the air out of the Bull.

Because both financial markets and a large segment of the American Public are losing confidence in the ability of the Trump Administration and Congress to adopt stimulus measures for the U.S. Economy, we have entered a holding pattern in the broader markets.  We believe that significant advances in the markets will resume only when Tax Reform becomes a reality … Fall of 2017 at the earliest, and perhaps not until Spring, 2018.

Some have taken an optimistic view that the Trump Administration can produce economic gains like those of the Reagan years.  After all, Donald Trump has entered the White House, as Ronald Reagan did in 1981, as an atypical candidate, espousing a radically different economic program to spur a struggling economy.

However, that’s where the similarities end.  Reagan enjoyed substantial public support and was elected by a majority. Trump was not.

Even Reagan’s critics and opponents would acknowledge that he was an engaging personality.  He exuded a humility, optimism, good humor and diplomacy that the current President lacks.

More importantly, the economic landscape today is far different from 1981.

The decade preceding Reagan’s election was characterized by high inflation, double-digit interest rates, and steadily rising unemployment.  The financial markets had been stagnant, but the national Debt was not out of control.  The Debt-to-GDP (Gross Domestic Product) ratio was at just 35% when Reagan took office.

As a result, Reagan was able to run large stimulating deficits and increase the Debt-to-GDP ratio significantly from 35% to 55% during his term in office, without putting stress on U.S. borrowing capacity or credit.

Economic conditions today … not to mention demographics … are a polar opposite from 1981.  And, the Debt-to-GDP ratio stands at 105%, which was last seen at the height of World War II.

The point is that a Reagan-style stimulus program would blow up the National Debt, which already stands at $20 Trillion.  There are very few choices available to improve our economy going forward, and the best choice is comprehensive Tax Reform.

So, every delay in accomplishing comprehensive, stimulative Tax Reform puts the American economy further and further into the hole.  This is the issue which should be all-consuming to the President and the Congress until it is done.  Yet, they have allowed less-important matters to waste precious time.

 

 

As mentioned at the top of the letter, we have identified specific sectors which still have growth potential this year, and we set out our Thesis on each investment option in the prior issues of IntelDigest.  We offer one more Thesis, below, pertaining to Municipal Bonds.

Regular readers know that we have generally avoided Bonds over the last few months for a number of reasons, including the vast amounts of debt taken on by large corporations during the low-interest environment of recent years.  In addition, the promises of the Trump Agenda would bring about strong economic growth, increasing inflation, and a mushrooming Federal Deficit which would be fatal to your Bond portfolio.

However, as economic stimulus continues to reside on the back burner … probably until 2018 … we see value in Municipal Bonds going forward.

Thesis: Municipal Bonds

Every portfolio should abound with assets which produce regular income for the investor.  Income Assets could include bonds, preferred stocks, dividend-paying common stocks, real estate investment trusts (REITs), master limited partnerships (MLPs), or municipal bonds.

A Municipal Bond (Muni) is a loan made by the investor to a city, county, state, or other government entity (such as a water district).  These loans are used to finance roads, schools, public buildings, et al.  The investor receives the government promise of regular interest payments, and repayment of the principal, in full, at a specific date (if not sooner).

Municipal Bonds have been very popular with investors for decades because of the very consistent income and safety of the principal.  Despite some concerns for the safety of Munis in the aftermath of the 2008 Financial Crisis, statistics continue to show an extremely low incidence of default on investment-grade Munis.

Another factor favoring such an investment is the preferred tax treatment of Municipal Bonds.  You can find, today, safe Munis and Muni-Bond Funds which yield around five percent (5%).  Tax laws allow an exemption from federal income taxes (and some state income taxes) for Muni-Bond interest.  So, for example, a Taxpayer in a 28% federal tax bracket would actually yield closer to seven percent (7%), when the tax savings are taken into account.

Keep in mind that some Munis are well-priced now, but an opportunity to buy at better prices will probably come up later this year.  As the proposed provisions of actual Tax Reform legislation are discussed in the media, there could be concerns about losing certain long-standing tax benefits, such as exemption for Munis and deductibility of state and local taxes.  Then, prices for Municipal Bonds and Muni-Bond Funds should be very favorable.

That will be months down the road.  We will analyze any serious proposals for Tax Reform and report on them here in  IntelDigest.  We have not yet seen any proposal which would remove the income tax exemption for Munis.  And, if Tax Reform should take away other deductions … thereby raising the effective tax rate for many Americans … then the demand for tax-free Municipal Bonds would rise.

 

 

 

InnOvation Capital & Management, LLC

IntelDigest

LAW – POLICY – FINANCE – MARKETS
INFORMATION FOR THE ENTERPRISE AND INVESTOR

MAY 3 , 2017

Contact Richard Power with comments or questions.  IntelDigest is intended for the use of our clients and colleagues. Material may not be reproduced, forwarded or shared without express permission.

 

 

Tonight, in  IntelDigest, we continue a review of the economic landscape and investment opportunities this year.  Please refer to the April 26 issue for the beginning of this review and our exposition on three areas of investment which have high growth potential going forward.

Because people and the markets are losing confidence in the ability of the Trump Administration and Congress to adopt stimulus measures for the U.S. Economy, we are entering a holding pattern in the markets.  We believe that the broader market advance is stalling, and will not advance significantly until a Tax Reform law becomes a reality.  As we do not expect that to happen until this Fall, at the earliest, we are focusing on specific sectors which have real growth potential despite the vagaries of American politics.

 

 

Thesis: Japanese Equities

The leadership of Japan … including Prime Minister Shinzo Abe and
central bank head Haruhiko Kuroda, Governor of the Bank of Japan … are concerned about the Japanese economy slipping back into deflation, after 25 years of virtually-nonexistent growth.  They are prepared to use extreme measures to spur the economy.

The Japanese government is actively buying Japanese stocks, having already bought government and corporate bonds worth Billions of Dollars.  The leadership is willing to do a good deal more money printing, as well as investing Billions in the equities of the country’s biggest businesses.

The inevitable result will be a falling Yen, and rising stock prices.

We are invested in a fund which grows with the increases in Japanese equities, but is not seriously impacted by a lower Yen.

 

 

Thesis: Virtual (Online) Banks

Online banking organizations are the same as traditional banks, except they operate without brick-and-mortar branches.  These banks make their profit like traditional banks … borrowing money at low interest rates and lending it out at higher rates.  But they can do so with greater profit margins because they don’t carry Millions of Dollars in brick-and-mortar overhead.

Successful virtual banks concentrate on real estate investments, using leverage (borrowed money) to amplify gains on the cash invested in properties.  In fact, real estate investments are handled pretty much the same by online banks, by the biggest traditional banking corporations, and by you and me.  In each case, the buyer’s equity in a real estate purchase consists of a small percentage of the actual purchase price, with a mortgage loan accounting for the lion’s share of the money in the deal.

As an example:  a property is purchased for $500,000, with a 10% downpayment of $50,000.  The buyer’s equity in the property is 10% of the value.  The buyer is leveraged 10-to-1.  If the value of the property increases by $50,000, this is a 10% increase in the property value.  But, for the buyer, it is a 100% increase in the buyer’s equity!

This illustrates the power of leverage;  it is also a simplified, but fairly accurate, description of the operations of most of the country’s big banking companies, such as JPMorganChase.

The typical Virtual (Online) Bank accomplishes similar returns on equity with MUCH LESS LEVERAGE than traditional banks.  And, the Virtual Banks where we have invested are paying dividends of 10-11%.

 

 

Thesis: “Short” Shopping Malls

The Online Shopping Trend … popularized by Amazon.com, but expanding rapidly every year with retailers of all stripes … is draining the life out of shopping malls.  Big-box stores, high-end anchor stores, and the smaller businesses which fill in the rest of the space in the shopping malls, are all contracting or downsizing or simply putting up “Going Out of Business” signs.

This is very bad news for those real estate companies which own and/or operate mall properties.  It’s bad enough when anchor stores such as Macy’s and J.C.Penney’s announce closing dozens of stores.  But, the smaller stores … referred to as “inline tenants” … are also struggling.  This may hurt mall owners more, because inline tenants pay higher rents per square foot than anchors do.

Selling-Short certain real estate companies which own retail malls is a rational investment strategy for at least the next few years.

 

 

Thesis: “Short” Automobile Lending

Serious problems in the Automobile Lending industry center on subprime auto debt.  Auto sales have been booming over the last few years (since the Financial Crisis), but much of the increase in sales came from cheap credit extended to subprime borrowers.

Statistics show that auto loan delinquencies and defaults were up in 2016, and these trends are accelerating in the early part of this year.  Used-car prices are down;  New-car sales are down.  Delinquencies and defaults are rising to levels not seen since the Financial Crisis.

Warnings about automobile sales trends and/or subprime auto debt have been issued lately by Morgan Stanley, Bank of America, the Federal Reserve, and other regulators and debt-rating agencies.

With ever-rising delinquencies in the $1.16 Trillion auto loan market, the Federal Reserve Bank of New York has expressed its “serious concerns” for the industry.

Auto lenders will be hurt as more and more less-than-credit-worthy-borrowers default on their loans;  lenders typically have to write off part of the loans on repossessed vehicles.  More defaults also translates to oversupply of used cars and lower used-car prices.  This is bad for both auto sales and for the lenders.  For lenders, cars are the collateral for their loans.  As used-car prices fall, lenders are more exposed to larger credit losses

Our thesis is Selling-Short certain auto lenders.

 

 

Thesis: Growth of Emerging Markets

Emerging Markets, especially in Asia, have high economic growth rates, typically twice the growth of the developed world in recent years.  For example, in 2016, emerging market GDP grew at a 4.1% rate compared to 1.6% in advanced economies.

However, the higher volatility and perceived risk of emerging markets have kept the majority of investors from taking a chance on such investment.

Our thesis is that an investment fund which can control volatility by investing in the most stable companies in the world’s fastest-growing regions is worth consideration.