Where Does the Global Economy Go From Here?

[Viking]

10 hours ago, Spekulatius said:

Here is one risk of heightened inflation expectations. Workers got screwed last year by having wages increase much less than inflation and are now demanding more:

https://www.reuters.com/article/germany-wages/germanys-ig-metall-union-recommends-7-8-pay-rise-for-workers-idUSS8N2XQ03X

 

I think we will see this in the USA as well. Once we get 7-8% wage increases (in line with inflation) it's off to the races.

@Spekulatius can you shed any light what is going on in Europe?

- inflation running hot at 7-8%

- energy crisis (made worse by war) likely to keep inflation elevated

- ECB rate still near zero

- yields in Italy (southern europe) spiking

- emergency ECB meeting - where they decide to have another meeting

- likely already in recession

—————

- or is it quite simple: 10% inflation and close to zero interest rates for a couple of years.. and poof… you partially solved your too much debt problems (via financial repression). 

[Viking]

11 hours ago, Ulti said:

https://stayathomemacro.substack.com/p/we-are-not-in-a-recession-nor-is

@Ulti most people / economists have been way, way off what is going on in the economy because they are NOT looking at it through a pandemic lense. They look at it only through traditional economic/recession models. 
 

The author is talking lots about goods. That was stage 1 of the pandemic (very high goods consumption and very low services consumption). We are now entering stage 2 of the pandemic (much lower goods consumption and very high services consumption). We will soon see deflation in goods (hello Target) and high inflation in services (check out air travel). Services are a much larger part of the economy so it will be interesting to see how this rotation plays out and its impact on inflation.
 

Listening to economists trying to explain what is going on is like watching a dog chase their tail. Bottom line, it is likely going to take a recession and years for the economic system to re-calibrate - too many things are completely out of kilter for the ‘invisible hand’ to work its magic. And central banks/governments are not helping (likely making things worse on balance).

Edited June 21, 2022 by Viking

[Viking]

Hugh Hendry clearly made some poor choices when he was a little younger. What i like about Hugh? He is a bit of a historian (he is an old guy). And he tries to step back and look at the big picture when trying to explain what is going on (that framework thing). He is flawed but entertaining (in small doses).

 

So many really interesting things going on with the US hell bent on increasing interest rates to tame inflation. 

 

Interesting hearing Hugh’s take on the rapid depreciation of the Japanese yen. Making Japan MUCH MORE COMPETITIVE versus all other Asian economies. Especially China which is pegged to the US$. South Korea can’t be very happy. If the Yen continues to devaluate (seems likely) at what point do we see other Asian countries respond? Perhaps time to read up on ‘1997 Asian Financial Crisis’. 
 

 

Edited June 21, 2022 by Viking

[Gregmal]

It’s all just a joke that highlights how dumb most of these governments are. They all largely did the same dumb shit with COVID and now largely get the same results. Negative rates, neutral rates, higher rates don’t matter. Japan, EU, US….the problems need time to work themselves out and that’s the only remedy. Or you can get rich folks to lobby the same politicians who created this mess to just keep creating more problems. 
 

I still keep laughing at the rate logic. Look at the recent housing data. Bullish for rental property owners, bullish for owners of existing homes-but yea let’s save the little guy from inflation by pricing them out of the market! What did Blackstone write this part of the economic policy playbook?

Edited June 21, 2022 by Gregmal

[mcliu]

Western elites are shooting themselves in the foot with ESG & sanctions and hoping the bullets will ricochet and hit Russia. We need to stop meddling around the world and focus on making our own country better.

[Gregmal]

4 minutes ago, mcliu said:

Western elites are shooting themselves in the foot with ESG & sanctions and hoping the bullets will ricochet and hit Russia. We need to stop meddling around the world and focus on making our own country better.

That’s what they’re doing. Making things better for themselves. Wasn’t it nice eating at fancy restaurants and staying in luxury hotels at 1/10 the normal cost during the “pandemic”? Now things have gotten too pricey for their liking. Too much competition for vacation homes, restaurants and investments. 

[Spekulatius]

@Viking Europe is the same than the US, except there is an energy security problem and labor is getting much more assertive. We will be seeing large demands for salary increases next year, to counter further inflation and the loss of purchasing power this year. The transport/railroadworker strike in the Uk and the demands from IG Metall (Metal worker Union  - the largest in Germany and typically the leading one in terms of negotiations) are indications of what’s to come.

 

 

Looks more and more like an inflation flywheel to me.

Edited June 22, 2022 by Spekulatius

[mcliu]

https://www.linkedin.com/pulse/reducing-inflation-come-great-cost-stagflation-ray-dalio/

Because debt assets and liabilities are now very high and because government deficits will remain high, it is virtually impossible for the Fed to push interest rates to levels that are high enough to adequately compensate holders of debt assets for inflation without them being too high to support strong debtors, strong markets, and a strong economy. If the holders of debt don’t get adequate returns they will sell them, which worsens the free market debt supply/demand picture, which either leads to a dramatic cutback in private credit (which is depressing) or the central bank creating more money and buying more debt to fill in the funding hole (which is inflationary). 

In summary my main points are that 1) there isn’t anything that the Fed can do to fight inflation without creating economic weakness, 2) with debt assets and liabilities as high as they are and projected to increase due to the government deficit, and the Fed also selling government debt, it is likely that private credit growth will have to contract, weakening the economy, and 3) over the long run the Fed will most likely chart a middle course that will take the form of stagflation. 

 

[RedLion]

7 minutes ago, mcliu said:

https://www.linkedin.com/pulse/reducing-inflation-come-great-cost-stagflation-ray-dalio/

Because debt assets and liabilities are now very high and because government deficits will remain high, it is virtually impossible for the Fed to push interest rates to levels that are high enough to adequately compensate holders of debt assets for inflation without them being too high to support strong debtors, strong markets, and a strong economy. If the holders of debt don’t get adequate returns they will sell them, which worsens the free market debt supply/demand picture, which either leads to a dramatic cutback in private credit (which is depressing) or the central bank creating more money and buying more debt to fill in the funding hole (which is inflationary). 

In summary my main points are that 1) there isn’t anything that the Fed can do to fight inflation without creating economic weakness, 2) with debt assets and liabilities as high as they are and projected to increase due to the government deficit, and the Fed also selling government debt, it is likely that private credit growth will have to contract, weakening the economy, and 3) over the long run the Fed will most likely chart a middle course that will take the form of stagflation. 

 

 

So what's the best thing to invest in with stagflation? Real estate, gold, commodities, royalties? Real estate seems ideal to me all else being equal, but cap rates are running below cost of capital, so I'm not really sure how that factors in. Most of these things seem like they're already priced as if they're the consensus right now. 

[hasilp89]

32 minutes ago, RedLion said:

 

So what's the best thing to invest in with stagflation? Real estate, gold, commodities, royalties? Real estate seems ideal to me all else being equal, but cap rates are running below cost of capital, so I'm not really sure how that factors in. Most of these things seem like they're already priced as if they're the consensus right now. 

Cap rates below cost of capital (ie. Not feasible to buy multi family at a 3 cap when 10 year is 3.5) - how are folks thinking about this? @Gregmal your thoughts would be welcome.

 

on the one hand I hear that deals will just stop happening - current cost of debt at 60%-70% LTV is > than NOI. On the other you hear rents rising by 20% so it’s not that bad on a forward cap.

 

 

[Gregmal]

38 minutes ago, hasilp89 said:

Cap rates below cost of capital (ie. Not feasible to buy multi family at a 3 cap when 10 year is 3.5) - how are folks thinking about this? @Gregmal your thoughts would be welcome.

 

on the one hand I hear that deals will just stop happening - current cost of debt at 60%-70% LTV is > than NOI. On the other you hear rents rising by 20% so it’s not that bad on a forward cap.

 

 

I think it’s nuanced. The crux of the market right now is currently very conflicting and even hypocritical. There are a ton of well capitalized and cash flush buyers still out there.
 

Next, if you believe higher rates and inflation is warranted, then the question is for how long? You can’t have higher commodities, higher housing, higher energy and higher rates because they conflict. If those inputs starts coming down, the rates will have to as well. If they keep rising it will support higher rents and housing prices. So while we are selling off, it doesn’t make a whole lot of real world sense. The spreadsheet analysis is that it’s hugely negative for real estate. But again, if this then that. And if higher rates, rents and housing prices keep going up otherwise there’s no more reason to raise. If the 10 year is 4 now, why? Across the board commodity prices are plummeting. So short term, that’s good for builders. I don’t like builders because they need volume. But if you’re developing, that’s pure margin. So something has to give.

 

I was a big winner in Q1 and a big loser in Q2. So take it all with a grain of salt. But a lot of this is flavor of the month type market action. Where were the inflation is forever folks last year? Nonexistent. What’s the private market saying? NAREIT was last week. Most positive on their outlook. If you have short term maturities, you’ll get squeezed. If you are week funded, it’s still Pac-Man time. BX is still buying like a drunken sailor. The whole thing that’s hilarious to me is that inflation occurred because of COVID. So it will go away in time just like everything else. And then what? If we settle at normal rates, things look pretty good. I’m coming from the perspective of someone who owns multiple homes and has exposure through a couple well positioned equities. AIV is trading at a major discount to their pre vaccine NAV despite creating tremendous value, restructuring their maturities at an excellent time and rate, and picking up some awesome properties. PCYO is trading at a 20-30% discount to pre COVID, despite home prices then at 350k and now 550-600k and oil and gas revenue going parabolic. JOE has seen lot prices going bananas and we re still worrying about $20k per acre. They’re likely $25k per parcel, minimum. Parcels are 1/3 to 1/8 an acre. MSGE has largely funded sphere. They trade at an EV covering the Garden.

 

I’m cool being on an island, always have. But when you look at what goes right vs what goes wrong….inflation inputs, despite CPI, are headed lower. Fed has stated they aren’t trying to cause a recession, but we already technically got one. China is now even urging resolution in Ukraine. Biden is begging oil companies to produce more. Homebuyers are still desperate for a home. I just saw a property similar, identical even to to one I bought in 2017 for $140k, minus a finished basement and upgraded kitchen, sell for 250k cash after listing for $225. The local realtor working for my tenant who’s home shopping summed up the market as ….there used to be 10 buyers competing for one property. Today it’s more like 5 each competing for 2. Supply and demand is still working. Again, the folks tapping equity, all you need is comps. Labor market still strong. So what do I know? No idea lol. But if prices leveled off would I buy? Stock market, sure but cautiously. Private market, in a heartbeat. 

Edited June 22, 2022 by Gregmal

[Viking]

3 hours ago, RedLion said:

 

So what's the best thing to invest in with stagflation? Real estate, gold, commodities, royalties? Real estate seems ideal to me all else being equal, but cap rates are running below cost of capital, so I'm not really sure how that factors in. Most of these things seem like they're already priced as if they're the consensus right now. 

i think the macro picture is very murky right now. so it is hard to know how things will evolve (or devolve) over the next 12 months. The Fed has just gotten started with its objective of tightening financial conditions… the real pain has not happened yet (20% decline in S&P from crazy high is not pain… it is just a run of the mill healthy correction). +30% decline? Ok, that would start to hit the pain threshold.
 

Much of the easy money has been made:

- shorting stocks and bonds

- buying real estate

- buying commodities

 

I like Druckenmiller’s response: no strong conviction right now (as of a week ago).
 

My solution? Carry a large cash balance and wait for the next fat pitch. Where i live (Vancouver) real estate prices are slowly turning lower and it is likely prices will continue to decline into the fall. I am looking to buy a 2 bedroom condo for my kids (graduating from university in a few years) and if prices come down 10-15-20% i will likely pull the trigger. To take advantage i need cash.

 

I think earnings estimates for equities will be coming down for FY 2022 when companies report in a few weeks. If so we could see another 10-15% decline in equities in the coming months. To take advantage i need cash (versus trade positions). 
 

I continue to think in bear markets capital preservation is the key… so you can scoop up great bargains when most everyone else is lying in the fetal position crying. Cash. Patience. Opportunity. Action.

Edited June 22, 2022 by Viking

[Gregmal]

UK inflation comes in hot! What happens? All the inflation inputs plummet! Rates lower, commodities lower, energy lower. The market retards are in full control. 

[Spekulatius]

8 hours ago, hasilp89 said:

Cap rates below cost of capital (ie. Not feasible to buy multi family at a 3 cap when 10 year is 3.5) - how are folks thinking about this? @Gregmal your thoughts would be welcome.

 

on the one hand I hear that deals will just stop happening - current cost of debt at 60%-70% LTV is > than NOI. On the other you hear rents rising by 20% so it’s not that bad on a forward cap.

 

 

Buying multi family at 3% cap rates with 6% mortgages makes you a growth investor. I know a few people who have done real estate successfully over the years and they are all cash flow investors (property are cash flow positive from day one). Everything else gets you in trouble.

Edited June 22, 2022 by Spekulatius

[RedLion]

8 hours ago, Viking said:

i think the macro picture is very murky right now. so it is hard to know how things will evolve (or devolve) over the next 12 months. The Fed has just gotten started with its objective of tightening financial conditions… the real pain has not happened yet (20% decline in S&P from crazy high is not pain… it is just a run of the mill healthy correction). +30% decline? Ok, that would start to hit the pain threshold.
 

Much of the easy money has been made:

- shorting stocks and bonds

- buying real estate

- buying commodities

 

I like Druckenmiller’s response: no strong conviction right now (as of a week ago).
 

My solution? Carry a large cash balance and wait for the next fat pitch. Where i live (Vancouver) real estate prices are slowly turning lower and it is likely prices will continue to decline into the fall. I am looking to buy a 2 bedroom condo for my kids (graduating from university in a few years) and if prices come down 10-15-20% i will likely pull the trigger. To take advantage i need cash.

 

I think earnings estimates for equities will be coming down for FY 2022 when companies report in a few weeks. If so we could see another 10-15% decline in equities in the coming months. To take advantage i need cash (versus trade positions). 
 

I continue to think in bear markets capital preservation is the key… so you can scoop up great bargains when most everyone else is lying in the fetal position crying. Cash. Patience. Opportunity. Action.

 

This is essentially what I'm doing. I haven't sold any investments, but I have not been investing cash quickly enough so I'm sitting on essentially a 40-50% cash position. I'm also looking to dip into real estate if I see opportunities. I live close to Lake Tahoe, and would love to buy a cabin there from a distressed tech bro, prices seem to be rolling over there as well, but would need to fall a long way before I would want to pull the trigger. 

 

It makes me uncomfortable to hold this much cash while we are seeing such high inflation, but I don't know what else to do. 

[RedLion]

2 hours ago, Spekulatius said:

Buying multi family at 3% cap rates with 6% mortgages makes you a growth investor. I know a few people who have done real estate successfully over the years and they are all cash flow investors (property are cash flow positive from day one). Everything else gets you in trouble.

 

This is exactly what I worry about. I know there are people that made great money doing this in cities like San Francisco, but this is happening all over the country and in the sunbelt, and it just doesn't make much sense when these were always cash cows, and now you have to hope to increase rent 50-100% just to earn a fair cash flow return with leverage. 

 

I'm curious how companies like Blackstone are doing this. I'm assuming they have lower funding costs and serious economies of scale, but it's still hard to see how they're getting any cash flow up front, or maybe they just aren't getting any cash flow up front and this is purely a growth investment. 

[maxthetrade]

15 hours ago, Viking said:

- or is it quite simple: 10% inflation and close to zero interest rates for a couple of years.. and poof… you partially solved your too much debt problems (via financial repression). 

 

Lagarde is a politician, she will do whatever it takes to save the Euro. The southern countries including France need low rates. My guess is that she will try to do exactly what you described. If the pressure from the nothern countries becomes too much she may increase rates and buy bonds of the southern countries.

[Gregmal]

1 hour ago, RedLion said:

I'm curious how companies like Blackstone are doing this.

Theyre raising cash at like a $2B per month or something like that rate. So is Starwood. So is BAM. The funny thing is where is it coming from? All the tutes who are scared of the market and terrified of volatility. Probably because fundamental business and asset analysis is too hard for Ivy League educated pension managers making 6 and 7 figures. So illiquid, non traded real estate it is!

[RedLion]

20 minutes ago, Gregmal said:

Theyre raising cash at like a $2B per month or something like that rate. So is Starwood. So is BAM. The funny thing is where is it coming from? All the tutes who are scared of the market and terrified of volatility. Probably because fundamental business and asset analysis is too hard for Ivy League educated pension managers making 6 and 7 figures. So illiquid, non traded real estate it is!

Right this makes sense. I find BX,BAM, etc. to be attractive investments in their own right, but for someone who's trying to put a significant cash position into private real estate on reasonable terms (5% CAP rate in areas with long term tailwinds) the timing just couldn't be worse. I highly doubt these institutional homes ever get sold onto the market again (probably shuffled among each other, or just left in core products forever and refinanced every so many years). This certainly seems to make the backdrop that much more favorable for the long term for single family housing. 

 

 

[Gregmal]

16 minutes ago, RedLion said:

Right this makes sense. I find BX,BAM, etc. to be attractive investments in their own right, but for someone who's trying to put a significant cash position into private real estate on reasonable terms (5% CAP rate in areas with long term tailwinds) the timing just couldn't be worse. I highly doubt these institutional homes ever get sold onto the market again (probably shuffled among each other, or just left in core products forever and refinanced every so many years). This certainly seems to make the backdrop that much more favorable for the long term for single family housing. 

 

 

Exactly, these shops have spent the decade accumulating cash and liquidity. Now theyre getting showered with cash like a South Beach stripper from all the institutions. Housing is becoming easier to transact and more productized. Its not a trend thats reversing. Why do home prices keep rising? Entry market is being vacuumed up. 

[Gregmal]

Brand new 20 year net lease in California. These are transacting 4.5 and under. Yea. So when we hear “doesn’t work with elevated 10 year”… you’re looking at the wrong stuff 

 

Edited June 22, 2022 by Gregmal

[RedLion]

23 minutes ago, Gregmal said:

Brand new 20 year net lease in California. These are transacting 4.5 and under. Yea. So when we hear “doesn’t work with elevated 10 year”… you’re looking at the wrong stuff 

 

 

So I see CMBS loans in the 5.75% minimum range. This is a super prime asset I would think with good location in NAPA and a ground lease and some lease escalators, but I'm not sure how you would finance this. Running some numbers I think you would need to put down somewhere around 60% of the asset price to get decent DSCR numbers and that would yield only a 2% Cash on Cash return after paying debt amortization. 

 

So something like this seems like it must be an all cash transaction or at least very cash rich transaction, or some type of bond substitute, especially with 5% rent increase every 5 years which seems destined to underperform inflation on the cash flow side of the deal. Maybe the idea is that this real estate will be worth much more in the very long run as NAPA continues to benefit from Bay Area and international tourism which seems possible. 

[Gregmal]

22 minutes ago, RedLion said:

 

So I see CMBS loans in the 5.75% minimum range. This is a super prime asset I would think with good location in NAPA and a ground lease and some lease escalators, but I'm not sure how you would finance this. Running some numbers I think you would need to put down somewhere around 60% of the asset price to get decent DSCR numbers and that would yield only a 2% Cash on Cash return after paying debt amortization. 

 

So something like this seems like it must be an all cash transaction or at least very cash rich transaction, or some type of bond substitute, especially with 5% rent increase every 5 years which seems destined to underperform inflation on the cash flow side of the deal. Maybe the idea is that this real estate will be worth much more in the very long run as NAPA continues to benefit from Bay Area and international tourism which seems possible. 

Depends. You looking to make a fortune or just not be in cash and manage to inflation? I’d rather own that at breakeven with a gradual principal pay down then be in cash. But otherwise,

 

who says rates stay there long term? Yes property value can appreciate

HBU can shift

what about additional development on the parcel? 
 

Again come back to “rates” and inflation. Doesn’t that mean cost to build goes up? Also means economy is too hot, which is probably good for future rental rates. Below market leases are sometimes coveted. The primary thing here is it’s a hard asset that definitely has inflation protection and a good bit of optionality. 

[Gregmal]

Also don’t forget there is a huge dynamic that goes unappreciated with regard to 1031 cash. Do we factor in tax savings?

[RedLion]

2 minutes ago, Gregmal said:

Depends. You looking to make a fortune or just not be in cash and manage to inflation? I’d rather own that at breakeven with a gradual principal pay down then be in cash. But otherwise,

 

who says rates stay there long term? Yes property value can appreciate

HBU can shift

what about additional development on the parcel? 
 

Again come back to “rates” and inflation. Doesn’t that mean cost to build goes up? Also means economy is too hot, which is probably good for future rental rates. Below market leases are sometimes coveted. The primary thing here is it’s a hard asset that definitely has inflation protection and a good bit of optionality. 

 

I think we are in agreement, and I think these types of assets are incredibly attractive right now. I've been thinking of buying single family houses with cash in some of the still moderately priced sun belt markets, putting property management in place, and trying to get 4-4.5% cap rate and hopefully significant rental increases over the next 5 years. I'm seeing cap rates like this around Columbia, SC, Huntsville, AL, or Little Rock, AR on new or newish single family homes.

 

With interest rates higher than cap rates, buying with cash seems like the only viable alternative here to avoid huge carrying costs, so I'm hoping that means we see some inventory stack up, and I can get some higher cap rates on cash purchases even if prices don't fall very much.