Currencies – What next for the Indian rupee, sterling, yen and the Euro?
I reiterate my call last week for a depreciation in the Indian rupee to at least 66 against the US dollar. Note that the India is showing the fastest GDP growth of any major emerging economy on the planet, coupled with fiscal slippage and rising domestic bond market yields. The 10 year Indian G-Sec yield has now risen to 7.72% and the latest Punjab National Bank corruption scam has spooked global fund managers. I expect the Reserve Bank of India (RBI) to express concern about inflation risk as 7.2% GDP growth will pressure the fiscal deficit. The Indian 10 year debt is in its most protracted bear market in a decade and more aggressive rate hikes by the Powell Fed will unquestionably trigger an exodus of offshore capital from Dalal Street. Banks will also face higher Treasury mark to market losses. It is no surprise to me that the US dollar has risen 2.6% in February, the most in the Modi era. The greenback’s winning streak against the rupee will continue in 2018.
Financial markets worldwide have reacted very negatively to President Trump’s decision to impose draconian tariffs on imported steel and aluminium. The prospect of a global trade war are awful enough but Trump’s decision could well cause top White House economic advisor Gary Cohn, an ex-Goldman Sachs President and confirmed globalist, to resign. The cash Volatility Index (VIX) is higher than its future contract. US Treasury and German Bund yields have sunk on safe haven bids. Steel tariffs are a disaster for emerging markets currencies as diverse as the Chinese yuan, South Korean won, Russian rouble, and the Indian rupee. Sadly, this is the FX Trump trade for 2018!
Michel Barnier’s decision to publish an EU draft treaty and political conflict about a potential Northern Ireland “hard border” in Westminster slammed sterling to 1.3750. Sterling’s outlook is more dependent on the politics of Brexit than on relative UK central bank monetary policy or economic data momentum. Britain will now refuse to settle the divorce bill until the EU backs down, as Secretary David Davis reassured the UK media. This will limit any short term sterling upside, even as Powell’s comments lift the US Dollar Index well above 90. Yet the sterling options market suggests no real investor scramble to buy downside risk. For now, I expect cable to trade in a 1.36 – 1.40 range and 0.86 – 0.89 against the Euro.
The selloff in global equities and multiple political risks (Brexit, Italian election, the Russian cyber – hacking scandal, the German SPD coalition vote) has amplified the safe haven bid in the Japanese yen. Dollar-yen could well range trade in a 104 – 107 range. The Bank of Japan’s decision to cut long duration bond purchases will also lead to a resurgence in yen bulls.
The Euro’s rally since November was crowded even before Powell’s comments spooked the bulls. Data momentum has also favoured the US over Europe in the past month. Political risk is also rising in Europe, as Italian and German coalition politics attest amid a new US-Russia cold war and a Brexit big chill. These factors can well cause the Euro to depreciate to 1.20 before bulls reemerge. Europe’s fundamentals are intact. German manufacturing PMI’s are at 60 as Deutscheland AG’s export colossus benefits from higher GDP growth. At a time when Trump’s tax cuts mean Uncle Sam’s budget deficit, the US current account deficit and inflation will all rise in 2018, Europe offers investors a current account surplus, s shrinking budget deficit and near zero inflation. The US midterm Congressional elections, Trump’s trade war with China and special prosecutor Robert Mueller’s probe means political risk will rise in Washington. The ECB has no need or desire to protect current/levels in the Euro. Once long positioning is called, the ease for the Euro longs will resume.
Fed Chairman Jay Powell was right to highlight inflation risk since Wall Street is obsessed with tight US labor market and 2.9% US annual wage growth. Four Fed rate hikes in 2018 were obvious to me long before the incoming Fed Chairman confirmed them to the Senate. If the Powell Fed mismanages a soft landing or misjudges the economic cycle, a US recession becomes inevitable. When the Goldilocks economy overheats, Papa Bear is the endgame!
Macro Ideas – Bullish case for Singapore property prices in 2018!
If there is one global hub where property prices will rise in 2018, it is Singapore. All the metrics I track to guesstimate a bullish property cycle “inflection point” are now in place. Property sales have surged 45% since December 2016. The Lion City’s biggest developers have begun to bid aggressively to expand their land banks. Local end users, not offshore hot money, has driven sales volumes higher. Wealthy Indian, Chinese and Southeast Asian buyers have begun to accumulate homes in the Core Central region. Singapore bank credit growth is robust and the Straits Times index rose up 20% in 2017. Unsold homes inventories have fallen to 16 years lows at a mere 29,000. The presales pipeline is white hot.
In Singapore, property developers do not exploit their clients and are content with 10% profit margins, not the 50-60% margins developers in the GCC routinely extract via offplan pieces of paper. This is one reason I expect the property bear market in the GCC to worsen while the prices of homes, land, office and industrial property in Singapore moves sharply higher in 2018. Retail? No way, la! Amazon kills even in the Strait of Malacca!
There is no doubt in my mind that a supply squeeze, cheap financing and stellar economic growth make Grade A office buildings (ownable via listed REIT’s on the SGX) makes strategic sense at this point in the property and credit cycle.
The cap rates in the private market have compressed on an epic scale and are nowhere near reflected in the office REIT’s trading at 80% of NAV, meaning I can invest in Grade A Singapore office buildings at a higher yield and below replacement cost in the stock market. My obvious twin crown jewels in the Singapore office REIT market are Capital Commercial Trust and Keppel, since both benefit from access to razor thin bank finance spreads, a credible acquisition pipeline, the wildly bullish outlook for the limited commercial government land sales (GLS) and rising rents, institutional investor flows and valuation rerating potential. To paraphrase the Singapore Airlines tagline, from my youth, Singapore REIT’s, what a great way to fly!
Singapore grants high income/executive expats permanent residence and a path to citizenship. Uncle Sam gave me a Green Card but also the IRS but Uncle Lee requires me to send my boy to the Singapore Army. So I follow the old axiom. East is east and west is west, but Dubai is best! Yet these features of the Singapore job market means long term demand for property is not dependent on speculators but correlated to employment growth, the rise of new sunrise industries, jabs, wages and income growth. All the macro/micro-market indicators here flash buy signal, including positive leverage in the cost of home finance.
Singapore’s “nanny state” DNA means government policy is mission critical to grasp the opportunities and risks in the property market. So the relaxation of property measures in early 2017 led to the surge in sales volumes. I doubt the Singapore government will increase land tender in 2018 to dampen price rises.
Risks to the Singapore property market in 2018? Indian buyers rose 88% in 2016. However, Modi’s crackdown on “black money” means less Indian capital flight abroad – no Singapore black money yatra for oligarchs of South Mumbai and Chennai! Federal Reserve interest rates could become more aggressive and the Sing dollar could fall to 1.38. Historically, this is the level where I have turned cartwheels to own listed Singapore real estate proxies. Remember the fabulous performance of Cambridge Industrial REIT. The mathematics of yield compression, NAV growth and currency gains were magical and investors who heeded my call made a 60% total return as I did. Xi Jinping’s Politburo’s stance on capital outflows are a wild card, as are stamp duty rises in Vancouver and Sydney, a de facto margin call on Chinese hot money.
The Year of the Dog will not be pretty for Hong Kong. Four Fed rate hikes, a US/China trade war, President Xi’s anti-corruption crack down and stratospheric office property values make me bearish on the Hang Seng index. I can easily envisage a 2000 point hit on the Hang Seng index to 28,000. The value sector in China is banking, energy and telecom megacaps.
Stock Pick – Crude oil and the valuation discount in energy shares
Even though the Saudi-Russian output cut led to a 50% rise in the price of crude oil since last summer’s Brent $42.45 levels, the stock market has not rerated shale oil exploration/production companies, Big Oil integrated supermajors or even “petrocurrency” emerging markets (the GCC trailed Asian emerging markets in 2017 by a dismal 40%). This means that Wall Street does not believe that the rebound in the oil price is sustainable or, more ominously, another oil crash is imminent. Energy is the ultimate Cinderella sector of the S&P500 index, with its index weighting having fallen 46% in the past decade.
This means oil and gas shares are one of the most unloved sectors of the global stock market. That, of course, creates a money making opportunity since I believe that the OPEC deal will not unravel, US shale oil output will take time to ramp up and the synchronized growth momentum in the global economy is all too real. True, higher US interest rates and a stronger US dollar with hit black gold by $4 – 5 a barrel when Mr. Market is in “risk off” mode, but a 2014 style oil crash will not happen. I believe Mr. Market is dead wrong on energy shares and the efficient markets hypothesis is as real as Donald Duck and Mickey Mouse. So there!
Geopolitical trends reinforce my argument that a “supply risk premium” will creep back into the oil market. President Trump has escalated anti-Iran sanctions while Israel confronts Tehran’s allies in the skies above Syria. Venezuela is bankrupt and near state collapse, so its Maracaibo Basin output could fall by a million barrel a day. No less than 24 oil producers have joined the Saudi led output cuts and removed 270 million barrels from global inventories.
Libya is still mired in its post Gaddafi geopolitical nightmare and its oil export infrastructure is severely damaged. Nigeria’s President Bukari mismanaged the naira devaluation and secessionist militias in the Niger Delta will dampen output growth. Russian President Putin will easily win reelection but still needs higher oil prices to appease the Kremlin magnates. Even Saudi Arabia needs higher oil prices to finance its biggest ever State Budget, boost its $60 billion military spending, maintain its Vision 2030 reform and float its stake in the Saudi Aramco IPO. This means Mr. Market is wrong. The OPEC deal will not unravel in 2018.
February 2018 was the worst month for energy shares since at least the last five years. Price to free cash flow yields for Big Oil supermajors are now at attractive levels, as are discounts to net asset value for pipeline/midstream master limited partnerships (MLP). There are US shale oil producers in the Permian Basin who can deliver 20% annual EPS growth in the next three years even if West Texas remains in a 50 – 56 range, below current levels. Energy is an anchor of value for me after its epic underperformance despite the rise in crude oil prices.
French oil supermajor Total’s 5% dividend, 6% secular output growth, stellar balance sheet, geopolitical support from the Élysée Palace/Quai d’ Orsay, project pipeline and free cash flow yield makes it the most attractive energy firm in Big Oil. The acquisitions of Maersk Oil, Eagle LNG and the Lapa/Tara oilfields in Brazil will boost both output and GDP growth. Total also boasts the lowest operation cost structure and pre-dividend Brent breakevens in Big Oil – and the tsunami of free cash flow promises higher share buybacks and more accretive takeover deals at oil cycle lows.
Oil service shares were gutted by the 2014 – 2016 oil price crash yet Schlumberger dominates global drilling markets with its deep relationships with Big Oil supermajors, state owned companies and shale oil drillers. Schlumberger also sets the industry’s technological gold standard and has built a proven vertically integrated business model. As oil and gas capex bottoms, Schlumberger’s EPS growth rate rises, though execution risk on the Cameron deal is all too real. My buy/sell range is 64 – 78.
Italy’s oil major ENI is one of Europe’s best managed oil and gas companies. However, its valuation will be greatly impacted by the result of Sunday’s election. The best possible scenario is a center-right coalition even if Silvio Caesar is the octogenarian political king maker. The worst possible outcome is a Five Star coalition with other populist parties. Any market turmoil in Rome could be an opportune moment to accumulate ENI’s New York ADR on Wall Street.
