Interested in Interest Rates?

“Looking back there has not been hyper inflation, barely any inflation for that matter. When monetary policy is out of sink with the real economy, the normal effect is high inflation. The argument can be made that this lack of inflation points to the FED and interest rate being inline with the fundamental forces of Investment and Savings in the real economy.”


To market to market to buy a fat pig. Yesterday our market ended in the red come closing time. Telkom ended down 6.4% after a deal with MTN was scrapped due to opposition from the competition commission, we cover the details in the company corner below. Despite opening lower both the Dow and the S&P 500 finished in the green, with the most interesting news coming from Morgan Stanley and their price target for Tesla. The 12 month price target was upgraded from $280 to $465. What! The current share price of just over $240 isn’t even at their first price target of $280. (Morgan Stanley really, really loves Tesla) The reason for the huge upgrade is based on the hypothesis that Tesla will be a leader in the self driving car market, with the forecast being that the self driving market could triple the currently forecast 2029 revenues (forecasts 2 years out are sketchy, 14 years out will definitely be wrong). The market liked the upgrade, the shares popped 4.9%.

I was listening to this podcast, Scott Sumner on Interest Rates, yesterday while on a run. Running is not near the top of my list of enjoyable things to do, listening to economic talks, now that I enjoy (for most people it is the other way around).

Interest rates are a hot topic at the moment given that the FED is expected to raise rates soon and with rates already rising here in South Africa. The first question to answer is if interest rates are low because of the FED or are they a reaction to something else?

The answer seems to point to interest rate lows being as a reaction to increased savings. Higher savings means that interest rates need to drop for the market to clear. There are two reasons for higher savings rates, the one is due to a lack of confidence in the future. Given the huge drop in asset prices in 2008 and the uncertainty about what would happen in the economy, keeping your cash ‘under the mattress’ seemed like a good thing to do. The other reason for higher savings rates is due to a lack of places to invest your capital.

This is what the savings rate has looked like recently – Here’s a $1.2 trillion pile of cash, and it’s not on corporate or government balance sheets and then How Much Cash Are Corporations Really Hoarding?

Why would there be a lack of places to invest your cash? One hypothesis is due to the computer age. It is far easier now to create a company with just a computer and your know how. Where in days gone by there was a need for a larger capital out lay. The one fact that we do know is that the gross fixed capital formation in the US at the moment, as a percentage of GDP is still below the 2006 number.

Looking back there has not been hyper inflation, barely any inflation for that matter. When monetary policy is out of sink with the real economy, the normal effect is high inflation. The argument can be made that this lack of inflation points to the FED and interest rate being inline with the fundamental forces of Investment and Savings in the real economy. Also remember that low inflation leads to low nominal interest rates, if inflation was high you would demand a higher return on your cash to offset the inflation impact.

Here is my thought process.

Low inflation = low interest rate = lower nominal returns on safe assets = short period of abnormal returns on equities = higher equity prices (above average P/E multiples) = lower long term nominal returns on equities.

What happens when the FED raises rates? Well it depends how high and how quickly they raise those rates. Quick and sharp increases will result in a train wreck in the economy and the market. I think inflation will remain relatively low, meaning that interest rates will stay low compared to historical averages. Also I think the FED will raise rates as slowly as they can. Markets will probably remain at multiples higher than histories average and you won’t see big double digit returns that we have seen over the last 5 years.

Remember if your time frame is that you will live until 90, flat markets going forward is great and a market that goes down is even better! Regular adding to a flat or declining market means that when you do need the money in a couple decades time, it will be a far larger amount than if you were adding in a rising market. Perspective and timeframes matter, as an investor don’t lose sight either.


Company corner

Yesterday MTN and Telkom decided not to pursue a deal that would see MTN operate and control part of Telkoms radio frequency – Telkom, MTN walk away from deal. The Competition commission decided that the deal would be a bad idea for consumers. Here is part of their statement, “MTN would be able to gain a significant competitive and time advantage, offering network and services that cannot be significantly constrained by rivals, particularly given the market position of Cell C and Telkom Mobile”. Surely faster, more reliable internet is better for the consumer? Especially since being competitive on the global stage requires an internet connection. To put things into perspective, MTN invested the equivalent of 18% of Telkom’s current market cap in infrastructure upgrades last year alone and will spend billions more this year, to continue to add and upgrade towers. There is a reason that Telkom is struggling and that MTN and Vodacom dominate the telecommunications landscape. I’m not a fan of regulation, I’m of the school of thought “Let the consumer decide where they want to spend their money”.


Another gold producer released results this morning. Harmony released their Results For The Fourth Quarter And Year Ended 30 June 2015. At first glance it seemed to be a contrast between the last quarter that looked on the up and the full year results which looked poor. The major concern would be their all-in sustaining cost of $/oz 1 233, which is currently higher than the global gold price of $/oz 1 118. The market seemed to like the numbers, the share is up 3.4%.


There were some ugly numbers out of the construction sector this morning, from AvengAnnual Financial Statements For The Year Ended 30 June 2015. It is tough out there given their exposure to mining and construction. The stock is down around 8% this morning.


Linkfest, lap it up

This sounds great in concept except it means that all the other roads will have more cars on them, it will take us twice as long to get to the JSE for TV and I would imagine that you will have to pay for the park and ride services? Have officials considered the economic costs of closing the roads to our continents business hub? – October is car-free month for Sandton

Another major trend in society is healthy eating and what is good and what isn’t. In our office we try avoid sugar as best we can, none of us have sugar in our coffee anymore and Sasha gave up sugar for lent and then just continued with it as best he can. Have you noticed how many things have sugar in them? Trying to find something as simple as unsweetened yogurt can be a tough job. – This is what happens to your brain when you stop eating sugar


Home again, home again, jiggety-jog. We are down again today. Chinese jitters are still impacting global markets, the Shanghai closed down over 6%. The Rand has been volatile today, reaching a low of R/$ 12.94 and then making a bit of a come back to the R/$ 12.88 level. We are happy to hold the quality and ride the wave.


Sent to you by the Vestacters, Sasha, Michael, Byron and Paul.

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