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Inside Edge is dedicated to providing a collection of investment-related charts, articles and musings that have hit our desks or inboxes. Once in a while we will post materials we’ve created and glimpses of EdgePointers’ lives.

2021 Q1 EdgePoint commentary 

Equity Commentary : Forgetting the lessons of 2020 - 1st quarter, 2021

This quarter, investment analyst George Droulias looks at why 2020 truly was a year to forget from an investment perspective. 

Fixed Income Commentary: The negative art of investing - 1st quarter, 2021 

This quarter, portfolio manager Frank Mullen discusses how the Investment team not only uncovers undervalued investment opportunities, but also makes active choices to avoid lending to many businesses and areas of the market where others may feel comfortable doing so. 


More pork in the basket?

Steepest cost pressures since 2008 

Inflationary pressures have risen worldwide to the highest level in at least a decade as a surge in demand is accompanied by widespread supply constraints in the provision of goods and services. The survey data points to a steep rise in consumer price inflation across the world in coming months, most notably in the US, where prices charged for consumer goods rose sharply. 

Unprofitability and valuation 

Desperate reach for yield

With the fed promising not to raise rates for a few more years investors are becoming increasingly desperate for yield. That desperation has pushed High Yield credit spread to 3.22%, approaching the lowest level in the last 10 years (3.16% in October 2018).

We're hiring! 

We're always looking for talented people who can help us achieve our goals and we understand that extraordinary human ability is a scarce resource in high demand. If you think you've got some and are interested in our company, please send your resume to: WeAreGrowing@EdgePointwealth.com.

Currently, we are looking to hire a Product Manager 

This week in charts 

Margin debt

As of late February, investors had borrowed a record $814 billion against their portfolios. That was up 49% from one year earlier, the fastest annual increase since 2007, during the frothy period before the 2008 financial crisis. Before that, the last time investor borrowings had grown so rapidly was during the dot-com bubble in 1999. 

Surprisingly Risky 

Over the past eight months, 10-year Treasury notes have shed 9.5% of their value, while 30-year bonds have dropped by 23.9%. 

The repatriation of demand by the Chinese

Annual % change in the Feds balance sheet from 2002-2021 

The earnings yield of global tech stocks is now below the 10-year Treasury yield.

2020 Cymbria Annual Report 

From our Cymbria Annual Report:

US purchasing managers saw prices rise at the fastest pace in a decade in March

** US MFG PMI : U.S. Manufacturing Purchasing Managers Index (PMI) 

The survey said supply chain disruptions were the main cause, and the green line below shows that supplier delivery times increased too, but the speed of the increase in input and output prices is off the charts (not literally, but getting there). 

The upturn in new business accelerated, with new export orders rising solidly. Restrictions on production, however, meant that backlogs of work were accumulated at the steepest pace since data collection began in May 2007. Although manufacturers expanded workforce numbers at a strong rate, the pace of job creation eased slightly as many firms highlighted struggles finding suitable candidates to fill vacancies. Amid substantial supplier shortages and input delays, manufacturing firms registered the fastest rise in input costs in a decade in March. At the same time, firms sought to partially pass greater input prices through to clients, with the rate of charge inflation the sharpest on record.

Reports of ongoing supply chain issues led to marked hikes in input costs across the service sector during March. The rate of input price inflation was the sharpest since data collection began in late-2009. Firms were able to partially pass higher costs through to clients, however, as selling prices rose at the fastest pace on record.

Tech Stocks vs. Bonds

Too Much, Too Soon, Too Fast 

Some things scale well. Double their size and you get double the output (or more). Other things don't, andis it important to know which is which.

A good summary of investing history is that stocks pay a fortune in the long run but seek punitive damages when you try to be paid sooner. Virtually all investing mistakes are rooted in people looking at long-term market returns and saying, "That's nice, but can I have it all faster?" Here's how often the market generates a positive return based on holding period.

One way to think of this chart is that there's a "most convenient" investing time horizon - probably something around ten years. That's the period in which markets are nearly always to reward your patience. The more your time horizon compresses the more you rely on luck and tempt ruin.

Go down the list of investing blunders and I'm telling you, no less than 90% of them are caused by investors trying to compress this natural, "most convenient," time horizon. 

Your interest rate exposure is higher than you think

Treasuries bull market that began in 1981 has finally ended

 "Bull market" and "bear market" are colloquialisms, not an official thing, and they're more associated with stocks. But the rule for investors and journalists who use the terms is usually this: A bull market ends when something falls 20% from peak to trough, and the resulting bear market is over when it rebounds 20%. The Bloomberg Barclays US Long treasury Total Return index had roared by 4,562% between September 1981 and March 2020 without ever seeing one of those 20% losses. That streak finally ended this month. 

ESG ratings

Correlation of most widely held "ESG stocks" with growth is near all time high and differential has never been wider. 

Update on QE from the Bank of Canada 

Canada's central bank has been buying a minimum of C$4 billion in government bonds each week to keep market interest rates low to support the economy, accumulating more than C$250 billion of the securities over the past year. Since March 2020 the Bank of Canada's bond purchases represent over 35% of the total amount of Government of Canada bonds outstanding, a rate of purchases higher than Sweden, the UK, US and Euro area Central banks. The Bank of Canada currently holds over 40% of all Government of Canada bonds outstanding! 

Central Banks around the world are in unprecedented territory, in terms of the amount of their governments' bonds that they own. BoC Governor Tiff Macklem has said that when holdings rise above 50%, "market functioning could get distorted". It will be interesting to see what the impacts on bond yields and markets will be when these Central Bankers begin to slow the pace of stimulus bond buying.

12% of global trade waiting on one lonely shovel

In case you've not already heard, a ship captain plowed his boat into the wall of the Suez Canal. They've been trying to dig it out for a few days now. 12% of all global exports pass through that canal, and it's creating a bit of a log jam.

Greensill-owned bank declared insolvent, causing losses for small German towns 

Local governments deposited money at Greenshill Bank to escape negative interest rates at their usual banks. 

A German court on Tuesday declared that a small bank tied to a collapsed U.K. finance company was insolvent, triggering losses for dozens of small German towns. 

Around Germany, at least 12 towns with a combined €200 million, equivalent to about $238 million, in deposits are in the same situation. Individual depositors are covered by insurance. 

Among them is Mengen, a tiny municipality in southwestern Germany. Like most towns that put money into the bank, Mengen was trying to avoid the small losses that come with negative interest rates.

Mengen's mayor, Stefan Bubeck, said the town wasn't trying to get a high interest rate, just avoid the negative rates. The town "didn't want our deposit to decrease," he said. Mr. Bubeck fears most of the money invested will be lost. "We are shocked." 

The bank offered a 0.6% interest rate, compared with a minus-0.5% rate offered by other regional lenders the town used. 

Other towns have said they shifted reserves to Greensill for even lower rates to avoid the guaranteed losses of negative rates. 

Howard Marks: 2020 in Review and Positioning for 2021 

Most investors felt that the beginning of 2020 was a time of clarity: the economy and the stock market were both expected to continue advancing. While everyone knew they wouldn't do so forever, nothing seemed poised to make them stop. And then came the strongest exogenous shock we've ever seen - the novel coronavirus - proving once again that we never know what's going to happen (and that even though we can't predict, we should prepare). Today's environment, in contrast, seems to be characterized by a lack of clarity. Experts are expressing highly divergent opinions regarding the outlook for U.S. markets, with strong arguments both bullish and bearish. 

The biggest risk of all is the possibility of rising interest rates. Rates have declined quite steadily for the last 40 years. This has been a huge tailwind for investors, since a declining-rate environment lowers the demanded returns on assets, making for higher asset prices. The linkage between falling interest rates and rising asset valuations is a good part of the reason why P/E ratios on stocks are above average and bond yields are the lowest we've ever seen (which is the same as saying bond prices are the highest).

But the downtrend in rates is over (if we can believe the Fed's assurance that it won't take nominal rates into negative territory). Thus, while interest rates can rise from here - implying higher demanded returns on everything and thus lower asset prices - they can't decline. This creates a negatively asymmetrical proposition. 

So today's high asset prices may be justified at today's interest rates, but that's clearly a source of vulnerability if rates were to rise. (Note that today's 1.40% yield on the 10-year Treasury note is up from 0.52% at the low in August 2020 and from 0.93% in just the last seven weeks.) 

Samsung and TSMC dominating semi conductor & capital expenditure cycle  

IC insights provides semiconductor industry capital spending forecasts by company for 2021 and the latest global forecast for spending through 2025. What may appear most shocking, given that Intel was one of the two largest spenders every year until 2015, is that Intel has failed to keep pace with the spending ambitions and technology advances of Samsung and TSMC. Intel spent about HALF of what Samsung spent on capex in 2020. The sheer magnitude of Samsung's spending over the 2017-2020 time period is unprecedented in the history of the semiconductor industry. At $93.2 billion, this amount was more than double the $44.7 billion spent by all the indigenous China semiconductor suppliers combined over this same timeframe. 

With no other companies presently able to match these huge spending sums, Samsung and TSMC will likely put even more distance between themselves and their competition this year with regard to advanced IC (Integrated Circuits) manufacturing technology. 

Without extremely quick and decisive action by other IC producers or governments, "Samsung and TSMC are well on their way to world domination of leading edge IC process technology the cornerstone of all of the advanced consumer, business, and military electronic systems of the future".

Tesla has a sudden UK Dilemma 

Today, the UK abruptly changed its EV incentive program to reduce the grant towards a new EV from £3,500 to £2,500 STARTING TODAY (March 19, 2021). The key part is that the price cap for eligibility will drop from £50,000 to £35,000 meaning the Model 3 which starts at £40,000 will no longer be eligible for the grant. In the government press release, they comment that the number of EVs under the cap of £35,000 has increased by +50% since 2019 as more cheaper models have come to market and they note that half the EVs on the market are indeed under £35,000. The change reportedly came abruptly and automakers were only informed today. Guess which BEV is under £35k? The Volkswagen ID.3. But also of note the Hyundai Kona, the MG ZS EV, the Peugeot e-208, the Corsa E, the Nissan Leaf, the BMW i3, the electric Mini, the Skoda Enyaq, the upcoming Mercedes EQA, … the list goes on. The UK was Tesla's third most important market after the US and China last year selling close to 24,000 units. 

This is all a very familiar story to us as it's exactly what happened in the Netherlands in 2019-2020 as the incentive program phased out. The Dutch were also the 3rd largest market for Tesla in 2019 selling some 31,000 units that year but then it all changed. Ever since, the demand from our Dutch friends has waned off selling a mere 8,600 cars in 2020, down some -72%. So Tesla UK has a face-off: either drop the price of the Model 3 under £35k which will inevitably hurt margins, something it did in China when the incentives dropped or hope consumers still think Tesla Model 3 is a superior vehicle and is worth the extra premium without the grant. But no doubt volume would drop. 

Source: Mirabaud Group

Expectations and returns

Some lessons to chew on

Stories matter more than anything, but be wary of them for that reason. Stories persuade and influence like nothing else, we are all storytellers even if we haven't realized it yet. 

Groupthink and conformity drive far too much behavior. They are everywhere. We are wired to social conformity - it's what kept us alive for millenia on the savannah. Being thrown out of a group was literally death for our ancestors. So we do everything we can - without even knowing it - to preserve group harmony and often the status quo.

Bias is both real and hard to spot. The way we think, act, speak - so much of it is pre-determined by the configurations of our brains and the specific world we've been raised into. Lesson (1) is that this is true, lesson (2) is that it so much of it is beneath the surface and hard to recognize especially in ourselves. Once you realize this, psychology becomes one of the most valuable fields to understand so much of what goes on.

Calculating your COVID stimulus payment

The Washington Post put together a simple calculator for a family to figure out how big the checks are that are coming their way. For example, a family with two parents (one who works and makes $110k per year) and three kids will get $8400. 

Calculator link

Consumers are left with massive pent up savings. 

Investing: the greatest show on Earth 

"Investing is a broader field than it looks, and there is so much to learn about it outside of the narrow lens of finance. Greed, fear, risk, opportunity, and scarcity - the most critical topics in investing - reveal themselves in all kinds of fields. 

More important is this: If you find something that is true in more than one field, you've probably uncovered something particularly important. The more fields it shows up in, the more likely it is to be a fundamental and recurring driver of how the world works. 

Which is to say: Restricting your investment learning to the narrow lens of finance means you're less likely to uncover the biggest and most important parts of investing, which are the ways that people think about things like risk and reward and show up in many fields"

A New ETF named FOMO targets everything from SPACs to volatility 

A filing this week with the U.S. Securities and Exchange Commission seeks to create the FOMO exchange-traded fund, named for the famous acronym associated with countless bubbles and market manias. 

The ETF from the Collaborative Investment Series Trust intends to invest in "securities that reflect current or emerging trends," according to a registration statement. The fund, advised by Connecticut-based Tuttle Tactical Management LLC, will select its holdings based on a "proprietary tactical model," the filing says. 

Electric vehicles (EV)

A study by Research Affiliates on Electric vehicles: 

    "In 2020, the market capitalization of the worldwide auto industry more than doubled. The driving force was the "big new EV market". As a result, the stock price of virtually every EV specialist, including more established firms skyrocketed. Even the prices of traditional auto makers rose handily when they announced their own EV plans. In our view, today's electric vehicle industry is a classic example of the big market delusion. The EV phenomenon will not change the fact that the auto industry will remain highly competitive and capital intensive, and not every company can be a winner. Further, it remains unclear how simply switching the means of auto propulsion will make the entire light EV market more profitable, an assumption that the market is currently making. We suspect that as EV competition heats up, many companies will fail, as was the case in previous industry booms - whether autos, airlines or technology - and with time the total value of the industry will recede to more reasonable levels."

What's your vintage year?

When did you become an EdgePoint partner? Select your "Partner since" year and uncover a piece of EdgePoint history.

Let's take a walk down memory lane as we recall the major events and fun facts from your vintage year.

FAAMG is still a big part of the S&P 500 Index 

FAAMG: Facebook, Amazon, Apple, Microsoft Google

Stimulus and Investing

Speculation in the markets

Hertz, the original meme stock is turning out to be worthless 

It's the version of David versus Goliath that Wall Street will like. Day traders, snapping up penny stocks on the popular Robinhood app, sought to defy decades of convention and make money on bankrupt rental-car company Hertz. The craze sent shares soaring as much as 896%, prompting Hertz to briefly capitalize on the frenzy by issuing even more stock. 

E-mail Is Making Us Miserable

A study, published in 2019, looked at long-term trends in the health of a group of nearly five thousand Swedish workers. They found that repeated exposure to "high information and communication technology demands" (translation: a need to be constantly connected) were associated with "suboptimal" health outcomes. 

The need to interact with each other is one of the strongest motivational forces that humans experience. The flip side of an evolutionary obsession with social interaction is a corresponding feeling of distress when it's thwarted. Our instinct to connect is accompanied by an anxious unease when we neglect these interactions. This matters in the office, because an unfortunate side effect of overwhelming e-mail communication is that it constantly exposes you to exactly this form of social distress. A frenetic approach to professional collaboration generates messages faster than you can keep up-you finish one response only to find that three more have arrived in the interim, and, while you are at home at night, or over the weekend, or when you are on vacation, you cannot escape the awareness that the missives in your in-box are piling up ever thicker in your absence.

It is useful, of course, that we can communicate instantaneously, with almost no friction or cost. But humans are not network routers. Just because it's possible for us to send and receive messages incessantly through our waking hours doesn't mean that it is a sustainable way to exist. Technologies serve us best when we deploy their new efficiencies with intention, with an aim to improve the human condition.

EdgePoint Photo Contest 

While most of Canada's colour palette is 50 shades of grey right now, the Photo Contest Committee was blessed by an orange splash of colour from some of our partners. Below is the winning submission by our very own Jelena.

M2 vs. velocity vs. inflation 

All three charts below cover 60 years worth of data. Notice how M2 growth is running at 2X where it was at the peak of the 1970's. 

M2 is a measure of the money supply and is typically watched as an indicator of future inflation 

Notice the cliff of velocity in the second chart. 

Velocity is a measure of the number of times that the average unit of currency is used to purchase goods and services during a given time. 

Makes you wonder what will happen to the third chart when velocity returns to normal. 

Fed doesn't seem to think there will be any impact 

The velocity of money hasn't been this low since 1946. However, Fed Chairman Powell said, "when we studied economics a million years ago, M2 and monetary aggregates generally seemed to have a relationship to economic growth. Right now, I would say the growth in M2, which is quite substantial, doesn't really have important implications for the economic outlook. M2 was removed some years ago from a standard list of leading indicators. That classic relationship between monetary aggregates and economic growth and the size of the economy no longer holds. We've had big growth of monetary aggregates at various times without inflation, so [this relationship is] something we're going to have to unlearn." 

Have we seen these misguided forecasts before? 


To: InvestmentTeam 

Subject: Bitcoin was brought up during the investment team meeting 

From Coinbase S-1, a cryptocurrency trading platform 

Some of the risk factors: 

• the reduction in mining rewards of Bitcoin, including block reward halving events, which are events that occur after a specific period of time which reduces the block reward earned by miners; 
• the development and launch timeline of Ethereum 2.0, including the potential migration of Ethereum to a proof-of-stake model; 
• disruptions, hacks, splits in the underlying network also known as "forks", attacks by malicious actors who control a significant portion of the networks' hash rate such as double spend or 51% attacks, or other similar incidents affecting the Bitcoin or Ethereum blockchain networks; 
• hard "forks" resulting in the creation of and divergence into multiple separate networks, such as Bitcoin Cash and Ethereum Classic; 
• informal governance led by Bitcoin and Ethereum's core developers that lead to revisions to the underlying source code or inactions that prevent network scaling, and which evolve over time largely based on self-determined participation, which may result in new changes or updates that affect their speed, security, usability, or value; 
• the ability for Bitcoin and Ethereum blockchain networks to resolve significant scaling challenges and increase the volume and speed of transactions; 
• the ability to attract and retain developers and customers to use Bitcoin and Ethereum for payment, store of value, unit of accounting, and other intended uses; 
• transaction congestion and fees associated with processing transactions on the Bitcoin and Ethereum networks; 
• the identification of Satoshi Nakamoto, the pseudonymous person or persons who developed Bitcoin, or the transfer of Satoshi's Bitcoins; 
• negative perception of Bitcoin or Ethereum; 
• development in mathematics, technology, including in digital computing, algebraic geometry, and quantum computing that could result in the cryptography being used by Bitcoin and Ethereum becoming insecure or ineffective; and 
• laws and regulations affecting the Bitcoin and Ethereum networks or access to these networks, including a determination that either Bitcoin or Ethereum constitutes a security or other regulated financial instrument under the laws of any jurisdiction. 

People collecting unemployment vs people officially unemployed

Asia catching a retail bid? Hong Kong share trading volumes are up 4x since 2019

Stock trading volumes in Hong Kong have soared to four times those on the London Stock Exchange (LSE), as large technology stocks attracted a soaring appetite from foreign investors.

% of IPO that are unprofitable 

Green hydrogen plant in Saudi desert aims to amp up clean power

Developers behind the world's largest planned green hydrogen project hope a growing global thirst for emission-free fuels will pay dividends

The initiative-a joint venture of Neom, U.S. chemical company Air Products & Chemicals Inc., and Saudi Arabia's ACWA Power-will invest $5 billion to build what will be the world's largest green hydrogen production facility. Another $2 billion will be invested in distribution infrastructure in consumer markets around the world, primarily to fuel industrial vehicles and public buses. 

Plans call for the sprawling facility, which isn't yet under construction, to produce 650 tons of green hydrogen a day starting in 2025. The facility's output will dwarf that of a green hydrogen plant in Québec that produces about nine tons a day, making it the largest such facility in the world. The Neom project exemplifies the Kingdom's ambitious plan to diversify away from oil and natural gas and showcase Neom as a global hub for technology and green energy. 

How People Learn to Become Resilient  

Frame adversity as a challenge, and you become more flexible and able to deal with it, move on, learn from it, and grow. Focus on it, frame it as a threat, and a potentially traumatic event becomes an enduring problem; you become more inflexible, and more likely to be negatively affected.

Promising data in Israel's race to defeat pandemic 

Israeli experts are confident the vaccines rather than lockdown measures brought the numbers down, based on studying different cities, age groups and pre-vaccine lockdowns.

Flocking to tech IPOs

Over the last 12 months investors have flocked to buy shares of newly listed tech companies, believing in the potential of upstarts to transform their sectors. That excitement has given newer firms valuations several times higher than established companies in the same industries-even when those older companies have far more revenue and profits.

Airbnb for example was the largest tech IPO in 2020, with a valuation of about $47 billion at the time it went public in December.

Having since grown to $117.7 billion, Airbnb's market capitalization makes it more valuable (on paper) than many top hotel chains combined. Marriott, Hyatt and Hilton's combined market capitalization is roughly $40 billion shy of Airbnb's, despite their higher revenue.

Examining the recent market and risks

The recent boom and bust in a number of stocks illustrates how capital markets over the short-term can be driven by flows and investor positioning, rather than by the underlying fundamentals of businesses. Some argue that the primary causes of this market dysfunction are the prevalence of passive investing and leverage.

The effort to squeeze short-sellers took GameStop's share price well beyond any rational fundamental valuation. It soared by 23 times within 11 trading days as those who had bet the price would fall were forced to buy shares to cover their obligations.

One factor that made the GameStop squeeze so profound was passive ownership. About one quarter of the available shares were owned by passive investors. These funds run on autopilot. As new money comes in, it is allocated to keep a constant balance among a specific combination of individual stocks or other assets. As GameStop's price rose to ridiculous heights, those passive funds were almost certainly buying to maintain their balance.

Passive funds have a much greater impact on prices because active investors can be patient in deploying their capital and are sensitive to the prices they pay. Passive funds have little discretion whether and at what price to buy - they must buy if they have inflows. Perversely, passive funds' demand for a stock generally grows as the price increases because the weighting of the stock in the indices they track increases. So long as such funds have inflows, they do not sell.

Leverage linked to low interest rates turbocharges these unhealthy dynamics.

Here's a Silly Game That Should Make Stocks Go Up

People have long been conditioned to see whether companies have "beaten" their expectations. And as Savita Subramanian of BofA Securities Inc. demonstrates here, the percentage of S&P 500 companies beating estimates for both sales and profits is very nearly at the record set in the third quarter of last year.

Specifically on sales, the number most directly tied to the performance of the economy, more companies than ever before are outstripping forecasts.

We should know by now that the earnings forecast game is a little silly. Particularly in the U.S., CFOs have grown adept at talking down expectations ahead of results, and then reaping the positive performance bump when they "beat" a lower bar.

Feedback Loops & GameStop, GM and Sears

Morgan Housel examines why GameStop went up 100-fold in the last year and why Sears never recovered. They have to do with the same force in opposite directions. It's a force that can explain a lot of baffling trends lately, and it's so easy to underestimate and overlook.

Stuck at home with just some cash and free trades

Source: BofA Global Research, @WallStJesus

Goldman's non-profitable tech index is approaching 250% year-over-year performance

Tom Brady wins another one

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Book recommendations

  • Fixed income picks from Derek
  • Andrew's favourite biographies

Food for thought

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