Energy Infrastructure is Results-Based ESG

Investing based on environmental, social and governance principles (ESG) is intended to make the world a better place. It’s a loosely-used term, and definitions vary widely. Seeking companies with good governance seems so obvious that it scarcely belongs in ESG. But environmental and social principles carry the suggestion that investment return shouldn’t be the only criteria. If ESG policies were as reliably profitable as, say, intelligent capital allocation, there would be no need for their own category. Yet some argue that selecting investments based on ESG criteria delivers better results, which is a tautological argument.

ESG funds are gaining assets, thereby drawing the attention of executives. It can be amusing to watch the hoops companies jump through to claim they’re ESG-worthy. Most attention is focused on the environmental aspect, given the ongoing debate about climate change. The aspirational Green New Deal (see The Bovine Green Dream) sets such impossible objectives that even its Uber-using author AOC allows that, “Living in the world as it is isn’t an argument against working towards a better future.” (see The Green New Deal’s Denial of Science).

America Runs on Fossil Fuels

Most companies are sensibly aiming a little lower. Apple claims that their company is “globally powered by 100% renewable energy.” Such claims involve sleight of hand – since they can’t control how the electricity they use is generated, they purchase renewable credits to get their energy sums to foot. In any case, their employees mostly don’t walk or cycle to work, and iphones are made of plastic which comes from petroleum products, or (increasingly in the U.S.) ethane.

Tesla has pulled off a marketing coup by associating its electric vehicles with clean energy. Two thirds of U.S. electricity is produced from fossil fuels. Some states, such as Wyoming, rely 100% on coal because it’s locally abundant. Is a Tesla buyer in the Cowboy state helping? Does Tesla merit support from environmental activists?

Moreover, countless consumer electronics use cobalt in their batteries, the mining of which should put any ESG claim to shame.

The climate change debate is littered with good intentions and burdened with bad ideas that mostly won’t get done. Although most Americans believe humans are warming the planet, two thirds wouldn’t even pay $10 per month to combat it, a statistic that should give GND supporters with their unlimited spending goals something to consider.

Results are what count. America has achieved a 14% reduction in CO2 emissions from 2005 levels, largely through the substitution of natural gas for coal in electricity generation. America’s energy business, powered by the Shale Revolution, has achieved this, against widespread wrongheaded opposition from environmental activists. Other countries that rely more heavily on renewables, such as Germany, have moved backwards because their intermittency has increased reliance on coal. Germany’s decommissioning of its nuclear energy plants hasn’t helped.

If results matter more than intentions, America’s pipeline companies have probably contributed more to reduced emissions than any other sector. Moreover, if you supply an ESG-rated company with its energy, shouldn’t that by definition qualify the supplier to join the ESG category?

Virgin Atlantic Airlines has a sustainability program (Change is in the Air). If an airline thinks it’s an ESG member, the pipeline that delivers its jet-fuel must surely belong.

America’s energy infrastructure is boosting natural gas production, so much so that we’re increasingly exporting it. As a consequence, coal use is being constrained around the world from what it would otherwise be. This sector is leading successful efforts to fight global warming. Its ESG credentials are as strong as any.

SL Advisors is the sub-advisor to the Catalyst MLP & Infrastructure Fund.  To learn more about the Fund, please click here.

SL Advisors is also the advisor to an ETF (

The Green New Deal’s Denial of Science

Environmental activists who are against all fossil fuels often accuse their opponents of being “climate deniers”. They claim a scientific basis for their often extreme views, asserting that rejecting their solutions for climate change is to reject science.

In fact, the Green New Deal (GND) and its supporters use science selectively to support their objectives and reject science where it suits them. The GND has been widely criticized for its extreme and implausible call for the elimination of fossil fuels (the House resolution calls for, “eliminating pollution and greenhouse gas emissions as much as technologically feasible” (italics added). Note there’s no mention of economic feasibility or any consideration of cost/benefit tradeoffs. It seeks, within a decade, “meeting 100 percent of the power demand in the United States through clean, renewable, and zero-emission energy sources” which isn’t technologically feasible today, and certainly is economically implausible.

World Energy by Source

The GND also threw in a socialist economic agenda, including a Federal job guarantee. Its critics seem far more numerous than its supporters, and include us (see The Bovine Green Dream).

Any serious effort to limit Greenhouse Gases (GHGs) must incorporate nuclear energy. The GND House resolution is silent on the topic. The infamous FAQ document that was released and then disowned by Bronx Congresswoman Alexandra Ocasio Cortez (AOC) called for decommissioning nuclear power.

Nuclear's Share of the Energy Market

The scientific evidence supporting greater use of nuclear energy is strong. The world has built a powerful safety record. Accidents at Three Mile Island (1979), Chernobyl (1986) and Fukushima (2011) promote widespread public fear of nuclear reactors. But per Kilowatt Hour (kWh) of energy produced, the European Union and the Paul Scherrer Institute, the largest Swiss national research institute, found that nuclear power is safer than coal, oil, gas and even (by a slight margin) wind as a cause of deaths.

Coal power stations, for example, expose the public to nuclear radiation because coal ash typically contains uranium. The journal Science noted that living near coal-fired power stations exposed people to higher radiation doses than experienced living near nuclear power plants.

Because a nuclear accident carries such potential for devastation, the industry has developed a culture of redundant safety and continual improvement. Knowledge is widely shared within the industry globally, and the record bears this out.

A nuclear incident provokes images of Hiroshima, with enormous loss of human life and widespread radioactive contamination. But nuclear physicists argue, with plenty of evidence, that the process by which nuclear energy is harnessed doesn’t involve this risk. Apparently, during the Cold War neither Russia nor the U.S. targeted the other’s nuclear power plants because the likely damage would be modest.

The main risk with a nuclear accident is the release of radiation. Any death is tragic, but all energy production carries risks and a dispassionate analysis must consider the benefits and risks of any fuel source in combination.

Those who claim to care about climate change but reject increased use of nuclear power are rejecting science. Mike Shellenberger, who writes thoughtfully about such issues, has said, “The problem with nuclear is that it doesn’t demand the radical re-making of society, like renewables do, and it doesn’t require grand fantasies of humankind harmonizing with nature.”

Radioactivity occurs naturally all over the world. Embracing sunlight and wind as more natural than uranium is a belief system but isn’t a scientific solution to meeting the world’s need for power.

The GND has probably set back serious efforts to address climate change, because its wild extremism shows its supporters to be more interested in demagoguery than solutions. It may fire up a minority, but it betrays little interest in debate.

The Sierra Club, which also opposes nuclear energy, continues to work against any fossil fuels. Over the last decade, the U.S. has achieved a greater reduction in CO2 emissions than any other country (see Guess Who’s Most Effective at Combating Global Warming) because of power plants switching from coal to natural gas.

Growth and Declining Emissions

AOC’s hypocrisy is on full display, as she shuns the New York subway and defends her frequent Uber use: “Living in the world as it is isn’t an argument against working towards a better future.” The GND’s main author lives Animal Farm egalitarianism (“some…are more equal than others”).

At SL Advisors, we are helping finance America’s use of cleaner fossil fuels like natural gas in favor of coal, which we avoid. We are doing our bit to lower GHGs and make a better planet. We’re doing more than the Sierra Club, AOC or the GND supporters, because we’re focused on solutions that are effective today. The debate about climate change would benefit from more scientific rigor.

SL Advisors is the sub-advisor to the Catalyst MLP & Infrastructure Fund.  To learn more about the Fund, please click here.

SL Advisors is also the advisor to an ETF (

Here Comes The Sun: The Bright Future of Oil and Gas

The United Nations Human Development Index (HDI) combines life expectancy, education and income to provide a more complete picture of well-being than simply considering GDP per capita. If one chart can illustrate the global challenge of combatting climate change, it might be the scatterplot below.

United Nations Human Development Index

HDI is inextricably linked to energy consumption. 100 Gigajoules (GJ) per head is approximately where improvements in HDI begin to flatten out. 80% of the world’s population lives below this level, and presumably aspires to it. Much of the developing world is in this category. The UN recently recommended the adoption of policies to limit global warming. The Green New Deal went further, with highly impractical solutions (see The Green Bovine Dream).

The world wants more energy and reduced emissions. The 2019 BP Energy Outlook acknowledges these conflicting goals. Its base case (called Evolving Transition) predicts that by 2040 two thirds of the world’s population will still be under the 100 GJ threshold, while CO2 emissions will have grown. This compromise will satisfy few, and it’s their central forecast.

The world relies on fossil fuels for 80% of its energy. Critics will claim BP sees their continued dominance because their entire business locates, extracts, processes and sells them. But BP’s outlook forecasts a 20 year penetration rate for renewables of 15%, around triple that experienced historically by oil, gas, hydroelectric or nuclear power as their use ramped up.

Renewables Outpaces Other Energy Sources

BP’s report includes many interesting conclusions out to 2040:

  • Global energy consumption for road use will fall
  • Aviation energy use will rise
  • Developing world energy use will rise sharply, led by China and India
  • Electric vehicles will represent 15% of the global fleet and 24% of vehicle/kms driven
  • Renewables will be the biggest source of electricity generation
  • Coal will be #2, above 25%, because of continued increasing energy demand
  • 53% of EU power supply will be from renewables

The report considers other scenarios, including public policies that accelerate the move away from fossil fuels. If this led to a sharp drop in crude demand, the report speculates that low-cost oil producers might react by ramping up production to avoid having stranded assets. It’s thought-provoking — sell now or miss your opportunity. Such a price collapse would stimulate demand, slowing the energy transition.

Renewables Fastest Growing Energy Source

Returning to the base case, renewables will gain market share in developing countries faster than in the OECD. It may surprise to consider rising energy demand lifting renewables penetration. But energy use is capital-intensive.

Today’s gasoline-burning automobiles last over ten years; power plants can run for 30 or more, and energy inefficient buildings can have many decades of useful life. It’s hard for a new solar farm to compete on economics with an existing natural gas burning power plant.

OECD energy consumption looks to be flat, as population growth is offset by efficiencies. This means renewable infrastructure is replacing something older, and wholesale decommissioning of assets with years of useful life left is an extreme, unlikely solution. By contrast, growing energy demand in emerging economies allows renewables to gain market share. Rising living standards in developing countries will reduce bus use in favor of private cars, hence the jump in vehicle/kms and, most likely, epic traffic jams.

Aviation Biggest Source of Transport Demand

Overall, the report’s central forecast for a substantial increase in renewables and in electric vehicles should be welcomed by those environmental activists who acknowledge the enormous challenge in such an energy transformation. BP’s conclusions are broadly echoed by other long range forecasts, including those from the U.S. Energy Information Administration, the International Energy Agency, Exxon Mobil, IHS Markit and CNPC Economics & Technology Research Institute. This is not a radical outlook.

Nonetheless, natural gas demand is expected to grow at 1.7% annually. Crude oil demand growth of 0.3% reflects rising non-combusted demand, such as for plastics and lubricants offsetting less from private vehicles. Aviation demand will grow.

The U.S. is supremely well positioned for these long term trends. Production costs are falling, and the short-cycle nature of shale (see The Short Cycle Advantage of Shale) continues to attract capital at a time when 20 year investments in oil and gas projects are exceptionally hard to assess.

U.S. midstream energy infrastructure will remain vital to meeting the world’s growing demand for oil, gas and natural gas liquids, even while the multi-decade transition to non-fossil fuels is underway. The sector remains attractively valued after a strong couple of months, with distributable cash flow yields above 10%, substantially higher than REITs’ equivalent funds from operations yields of around 6%. From our vantage point, rising dividends are drawing in new investors.

SL Advisors is the sub-advisor to the Catalyst MLP & Infrastructure Fund.  To learn more about the Fund, please click here.

SL Advisors is also the advisor to an ETF (

Buffett Rethinks Brands; He Should Consider Pipelines

Like Warren Buffett’s legions of followers, we enjoy reading his annual letter. He writes as clearly as he thinks. Buffett’s also a great interviewee, and his TV appearances with Becky Quick on CNBC are engaging – although it’s quicker and almost as illuminating to read the transcript.

Buffett is quick to admit mistakes, which simply highlight how few he makes. Overpaying for Kraft was a recent, big one. The company was combined with Heinz in 2015, creating Kraft Heinz Corp (KHC). Berkshire (BRK), in partnership with Brazilian investment firm 3G, had taken Heinz private two years earlier. Buffett still thinks it’s a great business, but what caught our attention was his comment on brand erosion. In Buffett’s own words, from his CNBC interview:

“Heinz was started in 1869. So it had all that time to develop various products, particularly ketchup, things like that.

“They’ve been distributed worldwide through tens and hundreds of thousands of outlets. They’ve had hundreds of millions…they spend a fortune on advertising. And their sales now are $26 billion. Costco introduced the Kirkland brand in 1992, 27 years ago, and that brand did $39 billion last year whereas all the Kraft and Heinz brands did 27– $26 or $27 billion. So here they are, a hundred years plus, tons of advertising, built into people’s habits and everything else, and now Kirkland, a private label brand, comes along and with only 750 or so outlets does 50% more business than all the Kraft Heinz brands. So house brands, private label, is getting stronger.”

Part of Buffett’s success has been improving upon the Graham and Dodd principles that defined his formative investing years. He recognized that demanding a discount to intrinsic value overlooks the intangible value of brand. His 1988 purchase of shares in Coke (KO) was an early example of this. KO currently trades at 11X book value. Their consistently high return on equity supports this high multiple. The brand is KO’s “moat”, generating far more profit than an unbranded carbonated, sugary beverage would.

Kraft Heinz has iconic brands too, but they’ve turned out to be more vulnerable to low cost competition than many expected. Buffett’s overpayment for the Kraft Heinz combination was in some ways caused by the enduring success of the Coca Cola brand.

Kirkland leaves its mark on Heinz

Buffett again:

“Now, the interesting thing about Kraft Heinz is that it’s still a wonderful business in that it uses about $7 billion of tangible assets and earns $6 billion pretax on that. So on the assets required to run the business, $7 billion– they earn $6 billion– roughly after depreciation pretax. But we and certain predecessors, but primarily we, we paid $100 billion more than the tangible assets. So for us, it has to earn on $107 billion, not just on the $7 billion that the business employs.”

KO has unrivaled distribution — think of all the places you see bottles of Coke on sale. And tastes are shifting away from some KHC products, such as Oscar Meyer hot dogs which countless households ban because they regard as containing carcinogens. But the broad success of Costco’s Kirkland shows that brands can be more vulnerable than previously thought.

3G’s reputation for aggressive cost cutting led some to suggest they’d damaged the KHC brands. But Buffett noted that cuts were mostly overhead, “… they cut costs not in innovation, or in product quality, or anything like that. They just took it out of SG&A basically.”

The erosion of KHC’s brand value reflects the growing power of WalMart, Costco and Amazon. It didn’t just happen during the 4Q18 period for which KHC took its write-down, but the issue just gained more attention. It’s probably altered Buffett’s thinking too. Moats need to be harder to breach.

Energy infrastructure is one sector that’s invulnerable to brand erosion from new competitors, which ought to make it appealing to Buffett. An installed pipeline is unlikely to be threatened by a new one. Tomorrow’s winners in this sector will come from today’s big firms.

Climate change is the big uncertainty hanging over oil and gas pipelines. Buffett believes electric vehicles are, “…very much in America’s future.” While the energy sector grapples with the consequences of these shifts, U.S. energy infrastructure enjoys three benefits:

  • increased electricity generation will drive demand for natural gas
  • uncertain long term demand for crude oil is reducing the capital invested in big, conventional projects in favor of short-cycle, precisely what U.S. shale offers
  • U.S shale produces a lot of natural gas liquids, approaching 5 million barrels a day, used as feedstock for the petrochemical industry

U.S. energy infrastructure has an enviable moat. Rising dividends, for the first time since 2014, are drawing new investors.

We are invested in KHC.

SL Advisors is the sub-advisor to the Catalyst MLP & Infrastructure Fund.  To learn more about the Fund, please click here.

SL Advisors is also the advisor to an ETF (


ETFs: Business Could Not Be Better

At the InsideETFs conference in Hollywood, FL, author Michael Lewis outdrew the many luminaries on hand offering investment advice. From Liar’s Poker to The Fifth Risk, Lewis has honed his ability to identify a story and recount it engagingly. Interviewer Barry Ritholtz provided thoughtful questions that allowed his guest to enlighten and entertain.

Michael Lewis at ETF Conference

The book you write isn’t what people read. Liar’s Poker was intended to turn young graduates away from Wall Street. After all, Lewis abandoned a sharply rising $250K annual income for a $40K book contract, only to receive over 100 letters seeking career advice in banking.

Two of Lewis’s books have been made into movies. Tom Wolfe offered memorable advice — when Hollywood, CA offers a movie deal, drive fast to LA; hurl the script over the wall; grab the cash they toss back, and drive very fast east. Bonfire of the Vanities, Wolfe’s novel which caught the 1980s Wall Street zeitgeist only preceded Lewis by a few years. It might be the worst movie ever made, deeply disappointing to Wolfe’s readers and no doubt the author himself. Lewis invests his personal assets in index ETFs which drew a hearty round of applause.

On the more prosaic topic of ETFs, business continues to grow strongly. NYSE executive Doug Yones reported that ETFs have reached 40% of exchange volume. Christmas Eve, normally one of the quietest days, was a record as stocks plunged before January’s rebound. Yones is relieved that this happened without NYSE making headlines. Many have predicted volatility would expose flaws in the structure of ETFs. Criticism is diminishing, as the market keeps working. Pressing the advantage of momentum, Yones expects ETF volumes to double.

Fixed income is a big source of growth. The yield curve offers around 2.5% at every maturity. One dimensional but finally a return of sorts, there are many opportunities to restructure indices that afford quite precise portfolio construction.

ETFs are now offered that mimic structured notes, with capped upside and limited downside. Doug Yones expects actively managed ETFs that don’t provide daily position transparency to be available soon, bringing in some new proprietary strategies.

Bitcoin, last year’s fad, has been replaced by marijuana ETFs. No matter that farming relies on extensive government support, weed believers note huge paper profits for early investors. No more articulate response is required.

As in the past, we derived most value from scheduled and impromptu meetings. S&P is our partner for our ETF,  so Michael Mell kindly endured a photo with your investment management team.

SL Advisors with S&P at ETF Conference

The ETF business has never looked so strong.

SL Advisors is the sub-advisor to the Catalyst MLP & Infrastructure Fund.  To learn more about the Fund,  please click here.

SL Advisors is also the advisor to an ETF (

The Bovine Green Dream

To slow global warming, we should phase out cows. Bovine flatulence is often a source of scatological humor for those making light of greenhouse gas emissions (GHG). However, cattle generate 5 gigatons of CO2 equivalent, annually. More precisely, they produce methane. A chart used by Bill Gates reveals that cattle produce almost as much in harmful emissions as the U.S., and half of China.

The global cattle herd wouldn’t have to be summarily executed – simply allowed to die out with no new replacement cows. On average, cows live about twenty years. If the world could eliminate an America’s-worth of 2018 GHG emissions by 2039, why isn’t that a reasonable option? The U.S. has 6% of the world’s cattle. As with many issues of global warming, the problems are elsewhere. Based on headcount, 35% of bovine emissions come from Brazil, India and China.

The Green New Deal

The proposed Congressional resolution that incorporates the Green New Deal (GND) doesn’t include the end of cows. Curiously though, a Q&A was posted on the website of Representative Alexandra Ocasio-Cortez (a co-sponsor) that implied the eventual elimination of “farting cows and airplanes,” although this was soon taken down (still available here). This is what making policy on the hoof looks like. The sponsors also considered a twelve year deadline for the elimination of fossil fuels in America, but omitted it from the final language. This is more disruptive and expensive than dealing with cows, and happily even less likely. The Green New Deal is hopelessly unrealistic. Even Nancy Pelosi referred to it as the “Green Dream”.

The GND doesn’t address agriculture, other than advocating “family farming,” to promote healthy soil and food. This sector generates a quarter of global emissions.  Industry and manufacturing account for 20% of GHGs.  While the GND calls for “removing pollution and GHG emissions from manufacturing and industry as much as technologically feasible,” there isn’t a zero emission way to produce plastic, steel, cement, chemicals, medicines, electronics and all the carbon based products that make up modern life. Buildings directly contribute another 6%, and the GND requires “upgrading all existing buildings in the United States and building new buildings to achieve maximal energy efficiency, water efficiency, safety, affordability, comfort, and durability, including through electrification.”

The document’s solutions are neither realistic nor practical.  The country can’t start producing more of everything, with no negative externalities, at lower cost.  Electric engines won’t power airplanes or cargo ships anytime soon. Given current technologies, electricity generation and light duty vehicles (around one third of GHGs) are currently the only plausible targets. Only a small portion can be converted economically.

Like much else in politics, extreme views are adopted to motivate core supporters. Socialist ideas in the GND, such as free college, “high-quality union jobs” as well as Federally guaranteed jobs are not related to the environment. Including a grab-bag of left wing ideology adds a juvenile feel.

Last year’s report from the UN’s Intergovermental Panel on Climate Change (IPCC), warned of the planetary risks from increased GHG output, which is caused by humans. Its most famous soundbite is its call to limit future global warming to 1.5 degrees C above pre-industrial levels.

The science around the climate is complicated. Scientists have been predicting catastrophe from rising GHGs for years. You can find serious forecasts from the 1980s showing New York City submerged by now. The IPCC seeks to aggregate the best scientific analysis. It shouldn’t be dismissed out of hand, even though like past efforts, it could be overstating the problem.

So far, planetary warming is noticeable to some but not that disruptive. Nonetheless, most people would agree to some reduction in GHG emissions, if the cost/benefit trade-off was acceptable. The GND doesn’t speak to them. It seems you have to be aligned with the extremists, or you’re opposed.

Cheap, accessible energy is a key driver of rising living standards. The planet may be warming somewhat, but so far the benefits to humankind have been enormous. Put aside for now our energy-dependent lifestyles in developed countries – in emerging economies, there’s a direct link between increasing energy consumption and longevity. Alex Epstein’s The Moral Case for Fossil Fuels defines the issue around what’s good for humanity. Indonesia is just one example of a country where energy has led to cleaner water and better hygiene, leading to longer, healthier lives (see Guess Who’s Most Effective at Combating Global Warming).

Science is driving the concern about global warming. A serious effort to limit GHG emissions also accepts the science-based limitations around relying exclusively on renewables. Most obvious is the inability of batteries to efficiently store the energy produced by intermittent solar and wind for later use. Estimates of the GND’s required investment run into the trillions of dollars, and rely on advances in technology not currently in sight.

“From a vantage point like mine, they’re certainly outside the realm of what is achievable, and I’m not sure that by putting those proposals forth, we’re actually really moving the ball forward for the agenda,” said Francis O’Sullivan, head of research at the MIT Energy Initiative.

Away from the extreme fringes of debate, nuclear power is recognized as part of the solution (including by IPCC). Natural gas is a cleaner alternative to coal, and in being available when solar and wind are not, it improves the utilization of renewable supply.  Environmental activists oppose these and other plausible strategies to advance their goals.

Pipeline opponents cause Canada to move its crude oil by rail (see Canada’s Failing Energy Strategy), and Boston to import liquefied natural gas from Russia instead of Pennsylvania (see An Expensive, Greenish Energy Strategy). Today, fossil fuels provide around 80% of the world’s energy. Inflexible opposition to what works without practical alternatives risks enormous disruption, more expensive energy and lower living standards. In America, the pursuit of extreme solutions risks provoking opposition to even reasonable ones. For poorer countries, it means giving up aspirations for healthier lives.

We invest in energy infrastructure, and we care about the environment. It’s our planet too. The issues are too important to be left to extremists.

SL Advisors is the sub-advisor to the Catalyst MLP & Infrastructure Fund.  To learn more about the Fund,  please click here.

SL Advisors is also the advisor to an ETF (

The Trump Put

Last week President Trump tweeted, “Dow just broke 25,000. Tremendous news!” It wasn’t the first time the Dow had risen through that threshold. On July 14th, the President tweeted, “The Stock Market hit 25,000 yesterday.” A year ago, on January 4th, 2018: “Dow just crashes through 25,000. Congrats! Big cuts in unnecessary regulations continuing.”

The Trump Put

This president probably cares more about short term moves in stocks than any predecessor. He has adopted it as a report card of how his administration is doing. Past presidents have generally positioned themselves above the fray, concerning themselves more with economic data such as GDP growth and unemployment. These are important to President Trump too, but the Dow provides a real-time gauge of his performance, reflective of today’s social media supported news.

His cabinet colleagues clearly recognize this. We winced at Treasury Secretary Steve Mnuchin’s comments in December that banks had “ample liquidity”. Stocks were very weak, largely because of problems caused by the government. The trifecta of growth –inhibiting tariffs, a looming federal government shutdown and Fed chair Powell’s communication missteps were the main cause (see Problems Made in DC Can Be Fixed There). But nobody had questioned banks’ liquidity until Mnuchin’s amateurish intervention.

Compared with the Goldman colleagues who preceded him, this betrayed the absence of a deft touch, and briefly raised more concerns than it settled. But it reflected the attention this administration pays to any substantive moves in equities.

President Clinton’s former campaign manager, James Carville, once commented that in his next life, “…I would like to come back as the bond market. You can intimidate everybody.” He also coined “The economy, stupid.” This phrase came to symbolize Clinton’s campaign singular focus and its improbable victory over George H. W. Bush.

GDP reports are too slow in providing feedback, so movements in the Dow offer more immediate information. Given the Tweets that follow when it reaches milestones (even if those milestones have been reached before), you can assume Trump badly wants to brag about the market going into next year’s election. Policies that are good for the economy must be good for stocks; therefore, when the Dow signals dismay, it’s likely to draw a reaction.

That doesn’t guarantee economic policies that will support stocks – the trade frictions with China are an example. But it does mean that there’s limited overall tolerance for pursuing policies that damage the market. The federal government shutdown lasted longer than expected.  It quickly ended, without the wall that was its purpose, once a major airport had to shut because of missing air traffic controllers. This likely won’t be repeated, and emergency action to build the wall will be tied up in the courts where it’ll be symbolic and harmless.

Trade friction is taking its toll. U.S. objectives are broad but not specific. We are approaching March 2nd, when the U.S. is set to impose additional import taxes on $200 billion of Chinese exports. As the deadline nears, expect Trump to find a way to claim victory and avoid the inevitable market swoon that would otherwise follow.

For years, the ‘Greenspan Put’ provided investors some comfort that the Fed would rescue them from economic weakness. Much of what moves stocks today emanates in Washington DC. As attention turns to the next presidential election, equity investors are likely to see the ‘Trump Put’ become the ultimate arbiter of what is administration policy.

SL Advisors is the sub-advisor to the Catalyst MLP & Infrastructure Fund.  To learn more about the Fund,  please click here.

SL Advisors is also the advisor to an ETF (


Problems Made in DC Can Be Fixed There

The Federal Government is Moving Markets

The Federal government has been moving markets of late.

Venezuela is the latest issue to watch. The U.S. is currently aligned with most of the world in seeking the overthrow of leader Nicolas Maduro. The sanctions look significant, with almost all Venezuela’s hard currency coming from oil exports, half of which go to the U.S. Finding new buyers won’t be easy, because even non-U.S. buyers will be wary of transacting through the U.S. financial system, potentially violating U.S. law.

In addition, Venezuela’s exceptionally heavy, viscous crude requires blending with condensate before it can be shipped. That condensate is imported from the U.S., so Venezuela will also need to find alternative supplies. So far, global oil markets have reacted calmly to the possible loss of Venezuelan crude, partly because years of inept management have reduced production to around 1 million barrels a day (MMB/D). Six years ago it was as high as 2.5 MMB/D. However events play out, it’s unlikely to be bad for the U.S. given our rapidly growing oil production.

Last year’s corporate tax cuts propelled the S&P500 to a 22% return in 2017, as markets anticipated the jump in profits. Like the prior year’s gains, the slump in December was also made in DC, resulting in a 4.4% loss for 2018. Tariffs (i.e. import taxes) imposed somewhat capriciously, and the unresolved trade negotiations with China led to a slowdown in Chinese GDP growth as well as downward revisions to corporate profits. This was followed by White House complaints about high interest rates, met with Fed chair Jay Powell’s confusing comments suggesting rates may move much higher. Independence asserted, his comments were soon walked back, although equities responded sharply in the meantime.

Last week the federal government reopened, to widespread relief. Press reports described it as a loss for Trump, which naturally raises the likelihood he’ll reject whatever negotiated compromise Congress presents on February 15th. Markets rallied on the agreement, and later weakened as tweets made clear the dispute over a border wall isn’t yet resolved.

Predicting how each episode is resolved isn’t easy, which makes a defensive posture attractive. The confusion over interest rate policy has sorted itself out, with the Fed likely on hold for now. However, the disagreement over the wall that shut the government for 35 days may burst open again.

But it turns out that the President isn’t Emperor, and Congress has different powers that are intended to give it equal status. Although Trump will complain, Republicans are unlikely to have much stomach for a second federal government shutdown. This might leave the president turning to emergency powers to erect a physical barrier. That’ll be held up by challenges from Congress, or in the courts, or both. For the equity investor, there’s good reason to assume that this stand-off has lost its ability to move markets.

On trade, the negotiations with China drag on interminably. But unlike the wall, there’s no promised tangible objective. So the White House could at any time decide it wants some positive press and accept whatever China is offering, claiming victory.

This is the risk with not holding equities because of current uncertainties. The problems are all made in Washington, which means they’re easily fixed there. Don’t be surprised to see the budget stand-off and China both recede as concerns. With interest rates on hold and S&P500 2019 earnings growth of 6.5%, the market’s P/E is 15.3. Equities remain a far better bet than bonds.

SL Advisors is the sub-advisor to the Catalyst MLP & Infrastructure Fund.  To learn more about the Fund,  please click here.

SL Advisors is also the advisor to an ETF (

The Value in Listening to Bears

Short sellers are a breed apart. Because they’re going against the trend, and numerous stakeholders, they possess a tenacity and conviction that can be breathtaking. When I was investing in hedge funds at JPMorgan, I especially enjoyed meeting with bearish managers. For a start, they do some of the best research. And while a long position might require only modest upside to justify its inclusion, shorts are often believed to be fraudulent, or to have fatally flawed business models. A short seller’s pitch has passion laced with a paranoid suspicion of authority, financial statements and basic human goodness. It can be exhilarating to hear such well-constructed certainty that much you believe right in the world is wrong. These people are fearless, the ones you’d want with you in that foxhole.

In The Hedge Fund Mirage I recount meeting with short-seller Marc Cohodes, who was convinced that men’s clothing store Joseph A Banks was misreporting its financials and would soon collapse. He brandished ads offering “Buy One Suit, Get Two Free” as evidence of an unsustainable promotional strategy. That was over fifteen years ago, and they’re still in business. Examples of such bets gone awry are easily found. For a while, Marc Cohodes was disillusioned with the business (see A Hedge Fund Manager Finds More to Like in Farming), but has since returned (see The World According to a Free-Range Short Seller With Nothing to Lose).

Conversations with hedge fund managers are rarely boring, but they’re especially absorbing when discussing short positions. The depth of research and unshakeable conviction are awe-inspiring. Even though many are wrong, the notion that an apparently successful company is really a house of cards remains riveting.

Nonetheless, shorting profitably is harder than making money on long positions. Almost everyone else involved wants the stock to rise, and because short positions grow when they’re moving against the short seller and shrink when the price is declining, they’re harder to manage. I often used to ask hedge fund managers why they bothered shorting stocks at all, instead of simply shorting index futures and investing all their effort in long ideas. I never received a satisfactory answer – when companies or sectors do collapse, such as Enron, sub-prime mortgages, Lehman Brothers or Valeant, those who called it draw immense satisfaction, media accolades and more clients.

Some of it is marketing. Investing is one of the few areas where delivering a product (i.e. investment returns) that are inferior (i.e. lower) than others can still be valuable, if the returns are uncorrelated. Holding something that will reliably zig when others zag is better than holding cash in a bear market. There’s a chronic shortage of such opportunities. Short-seller Jim Chanos has cleverly exploited this with a performance fee on his hedge fund that’s calculated based on the inverse S&P500 return. So if the market is up 20%, anything he delivers that is better than down 20% draws an incentive fee, on the basis that improving on a simple 100% short index futures position is worthwhile. In a rising market, even holding treasury bills with this fee structure can be profitable.

The Economist recently profiled Soc Gen’s strategist Albert Edwards, a “steadfast prophet of gloom”. Edwards might be described as a “permabear”, constantly regarding the glass as half empty. The appeal of such thinking is that, while investing is built on a cautiously optimistic worldview, considering a contrary opinion is stimulating and can engender protective wariness. We’ve endured a two year bear market in energy infrastructure that just possibly ended last month. We often find the more interesting conversations are with investors who have avoided energy entirely. They clearly assessed the sector differently. When the uninvested become bullish, as some are, higher prices soon follow.

The Economist said of Albert Edwards, “…his talent for imagining the worst is valuable. If you have a vague anxiety, Albert will give it form.” Edwards has been calling out excessive leverage, ruinously low interest rates and China’s precarious GDP growth for years. He’s been wrong on all three, but the strategist almost never runs out of time because, unlike a hedge fund manager, he doesn’t run out of other people’s money with which to bet.

James Grant, founder of Grant’s Interest Rate Observer, retains a loyal following. His writing flows effortlessly off the page, both stimulating and entertaining the reader. It’s as well he possesses such talent, because his relentlessly bearish views on bonds during a career-length, secular bull market have only been tolerable because of their erudite wrapping. Grant’s career as a money manager would have been brief; he has made sensible choices.

The Bears are Roaring

Albert Edwards is well known among European clients of Soc Gen for predicting the break-up of the Euro. In 2010 he criticized the Greek bailout as delaying the inevitable. Today he cites weak Italian productivity as a growing source of instability. Since Italy is “locked in the Eurozone”, its “effective exchange goes up because its labor costs are rising.”

The Euro is arguably behind Brexit – by staying out of the Euro, Britain’s economy grew faster. This attracted more east Europeans seeking jobs and contributed to politically unacceptable levels of immigration, fueling populist outrage and the vote to leave the EU.

In the 1990s a trader working for me insisted that the Euro (then not yet formed) was a failed concept that would never be realized. Unlike Soc Gen’s Edwards, this trader did run out of money to maintain losing bets against currency convergence in the Euro’s run-up. I spent too much time with him listening to why the proposed single currency was a bad idea destined to fail.  In recent years, I’ve often thought I should send a plastic bag of Euros to his home in Florida.

Albert Edwards has sensibly avoided the constraining allure of managing money, which is why he can still challenge us to contemplate the unthinkable. Along with a break-up of the Euro, he’s predicting a U.S. recession and an “unraveling in China.”

These are not consensus views, and not our forecast either. But the attraction of bears is to get you thinking about surprises. Import taxes (i.e. tariffs) and the continuing Federal government shutdown are not conducive to strong U.S. growth. Both are easily fixed in Washington, but while they’re not, the risks of an economic slowdown rise. It’s why bearish views are gaining attention.

SL Advisors is the sub-advisor to the Catalyst MLP & Infrastructure Fund.  To learn more about the Fund,  please click here.

SL Advisors is also the advisor to an ETF (

China Quietly Dumps Bonds

Fear of foreigners dumping U.S. bonds has periodically resurfaced for as long as most market participants care to remember. One country’s trade deficit is another one’s surplus (although they puzzlingly never net out globally). In the U.S., we import more than we export, and conveniently the surplus dollars our foreign trade partners accumulate are partially reinvested back into U.S. government bonds, which helps finance our Federal budget deficit.

China and Japan have historically been the biggest foreign investors in U.S. debt, each holding over $1Trillion for the past several years. Last year, China replaced Japan as our biggest foreign creditor. From time to time, some commentators have warned that China retained the ability to inflict havoc on America’s bond market if they decided to sell a chunk of their holdings. Their willingness to maintain such substantial holdings of government bonds presumably contributes to today’s historically low long term rates.

China and Japan Reduce US Bond Holdings

Trump has imposed tariffs on Chinese imports with little regard for such concerns. Following the 2016 election, China increased its U.S. bond holdings substantially. Japan was more cautious. But both have been reducing them over the past year. China’s moves have been more recent, and coincide with the growing trade spat. Interestingly, there’s been no discernible impact on bond yields.

China owned as much as 22% of all our foreign-owned debt five years ago, and is now down to 18%. Since May they’ve shed almost $60Billion, with no visible market impact.

China and Japan Reduce % of US Debt

The idea of the U.S. as supplicant to foreign creditors never made much sense to me. China owns what they own because it suits their purpose. They clearly perceive enormous value in U.S. sovereign debt, because they’re not earning much interest. So the idea that they’d sell a large chunk because of a dispute has never seemed logical, as I wrote in Bonds Are Not Forever; The Crisis Facing Fixed Income Investors. If you owe a trillion dollars, your creditor has much to worry about.

Sure enough, there’s been no mention of foreign bond sales during the recent bout of trade friction. China has quietly reduced its holdings with little fanfare. Interest rates have remained low, even with the Federal Reserve raising short term rates and unwinding quantitative easing. The fear of foreign sellers driving up U.S. mortgage rates has even less basis than in the past.

Although the Fed is expecting to raise rates twice next year, bond yields continue to forecast less than that. For fixed income investors, it continues to be hard to beat inflation after taxes. Equities are cheap as shown recently by the Equity Risk Premium (see Stocks Are the Cheapest Since 2012). The American Energy Independence Index yields 6.9%. Bonds are unlikely to provide much value.

SL Advisors is the sub-advisor to the Catalyst MLP & Infrastructure Fund.  To learn more about the Fund,  please click here.

SL Advisors is also the advisor to an ETF (