Research Watch

PORTFOLIO POINT: This is a sampling of the week's best research notes. In a world of too much information, we hope our selection helps you spot the market's key signals.
It was certainly a difficult 2008 and most investors are hoping for a better 2009. The pundits expect that many sectors will recover, but certainly not all; it will be a mixture of good and bad. Here are some of the best predictions and observations in an extra-large Research Watch for the New Year.

A good year for Asian stocks '¦ “Equities are likely to rise in response to changes in global corporate bond spreads and a weak greenback. Thereafter, the lagged impact of policy easing and inventory rebuild will be key '¦ Changes in the economic environment following the credit crunch are coming too fast to prevent a sharp decline in growth in 2009. The absence of risk capital has left many Asian assets mispriced but with no discernible growth catalyst. Equities are set to rally on risk appetite returning, but then will be dependent on policy-makers restoring the velocity of money '¦ An inventory restocking phase that causes a short-run supply squeeze; the greenback falls below its previous trade-weighted low and the credit rating of the US comes under renewed scrutiny, with Asia being invited to form a new global financial structure; companies return to saving, giving them increasing net cash positions while governments’ debt positions expand further; and emerging arbitrage opportunities amid a lack of risk capital within the region.” (Nomura Securities, January 4)

A bad year for the US dollar '¦ “Economically, the prospects for the early part of 2009 look a little better than they did a month ago. The flood of cheap money into the system has caused a renewed upsurge in mortgage refinancing, which has benefited consumer income statements'¦ The sharp decline in commodity and energy prices has fed into consumer prices, which '¦ allowed '¦ a rise in real spending as well as an increase in the savings rate '¦ That may seem like good news, but it really isn’t, because the imbalances that caused the economic decline would still be present '¦ [T]he recent increases in the US money supply would be working their way rapidly through to inflation. Conventional Bernankeist wisdom is that only deflation is a threat now '¦ One look at the statistics will tell you that’s nonsense. The broad money supply, for which the St Louis Fed’s MZM series (which takes into account currency, checking, savings and money market accounts but not certificates of deposit) is the best available proxy, has risen at an annual rate of 16.6% in the last two months or 10.1% in the last year '¦ More startling still, however, is the behaviour of narrow money in the form of the monetary base, which had been increasing at 3–4% per annum in the period to September, but has gone completely haywire since then, increasing at an annual rate of 990.9% in the three months to December.” (Martin Hutchinson, The Prudent Bear, December 29)

A good year for pornography funds '¦ “[Francis] Koenig is the founder and CEO of AdultVest, which he bills as the adult-entertainment industry’s first hedge fund, and according to him, he’s doing just fine. His fund (with a mix of public and privately held assets) is up 50% this year, he says, based on 'very conservative’ outside appraisals '¦ [A]t the Alternative Investment News Hedge Fund Industry Awards last June, AdultVest won Hedge Fund Launch of the Year. Other honourees included the Blackstone Group and the Teacher Retirement System of Texas. Relatively small, fragmented, and unaccustomed to outside investment, the US porn industry (which generated roughly $US12 billion in 2007) is somewhat buffered from today’s credit crunch, but it has its own problems. Video sales have been falling by 15% a year since 2005, and online content doesn’t deliver the returns it used to '¦ Struggling companies need investors to help right their operations, and those that are thriving in a brutal market need funding for growth. Enter Koenig and AdultVest. He sees the porn downturn as temporary and believes that technological improvements will trigger a turnaround. One example: iPorn, a start-up in AdultVest’s portfolio that is developing an application to deliver porn to the Apple iPod.” (The Atlantic, January 7)

A bad year for British companies '¦ ““For many companies which have survived the credit crisis the greater challenge lies ahead – the task of navigating through a record £110 billion of debt that will have to be repaid in 2009 '¦ The lack of funding available to companies was behind the government's unprecedented £500 billion bailout of the British banking sector last October but the credit markets remain stubbornly frozen, raising fears that companies face annihilation if they are unable to refinance their debt '¦ Sam Dean, global co-head of equity capital markets at Deutsche Bank, says a lot of companies will need to make tough strategic decisions about how to cope with overburdened balance sheets. For some that will mean the difference between survival and extinction. There are very few sectors that won't face refinancing issues this year, says Dean. 'And, in this environment, as each company finds its own solution, the difference in outcomes will be extreme, with losers facing real difficulties – and some won't survive’ '¦ John Cridland, deputy director general of the CBI, is under no illusions about the scale of the problem which he says could drive many companies to the wall. 'When it comes to issues facing businesses, credit is top of the list,’ he says '¦ The threat to companies is the double whammy of recession biting into their profitability at the same time as their cost of funding – if they can get it at all – rising sharply.” (Telegraph, London, January 5)

A good year for emerging markets '¦ “1. Seasonals very positive (emerging markets 10% Dec-Feb on average) '¦ 2. Technicals look fantastic as many markets break through 50-day moving averages '¦ 3. Hedge funds are long cash; long-only [funds] are seeing inflows ( $US2 billion past 4 weeks); suddenly there are no sellers '¦ 4. Everyone missed the 8% December rally as emerging market forex snapped backed versus the [US] dollar'¦ 5. Deleveraging/volatility '¦ massive anomalies '¦ collapsing emerging market rates; Brazil rates down 700 basis points in 10 weeks '¦ 6. Best of breed blue chips encouragingly leading rally '¦ 7. Risk that vicious destocking ends and manufacturing numbers have dead cat February/March bounce.” (Merrill Lynch, January 7)

A bad year for European bonds'¦ “A German sovereign bond auction failed '¦ as investors shunned one of the most liquid and safe assets in the world in a warning for governments seeking to raise record amounts of debt to stimulate slowing economies. The fate of the first eurozone bond auction of 2009 signals trouble ahead as governments around the world hope to issue an estimated $US3000 billion in debt this year, three times more than in 2008. The 10-year bonds failed to attract enough bids to reach the €6 billion the German government wanted. Bids of €5.24 billion, a cover of only 87%, amounted to the second-worst auction on record in terms of demand '¦ Analysts said the vast amount of supply is deterring investors and a growing number of countries, including those with deep and mature bond markets, such as Germany, the UK and Italy, are struggling to attract buyers.” (Financial Times, January 7)

A good year for horse buyers '¦ “Is it time to buy a thoroughbred? Already, auction prices for racehorses are sagging badly '¦ The total take at a Keeneland [Kentucky thoroughbred racing complex] auction last month was down 45% from last year. The price of the average horse was off 40%. As the wealthy tally up their losses this year, the horse may be one of the first indulgences to go, especially since horses need money for food, training and shelter all year round. Very few are profitable. And now a big glut is set to hit the market in one fell swoop. [Hedge fund] Fairfield Greenwich partner Jeffrey Tucker, a big-time horseman who owns 25 thoroughbreds, is looking to liquidate the entirety of his equine portfolio, after his firm became the biggest Madoff loser '¦ the great equine unwind is upon us.” (Clusterstock, December 31)

A bad year for green cars '¦ “Americans’ appetite for hybrid cars is evaporating as tumbling fuel prices and tighter household budgets trump environmental concerns '¦ US hybrid petro-electric sales in November shrank 53% from a year earlier, compared with a 37% drop overall, according to Autodata, a market-research firm '¦ Demand for Toyota’s Prius hatchback, the top-selling hybrid, fell by almost half in November from a year earlier. The Camry sedan was down 57%, and the Ford Escape crossover 35%. The setback has been pronounced for larger models, touted as much for performance as fuel economy. Sales of the Lexus RX400 sport-utility vehicle are now little more than a third of the level a year ago.” (Financial Times, January 1)

A good year for jewellery collectors '¦ “[I]n Palm Beach, the ten-thousand-dollar-a-week cabanas were all booked, but a guest there said the atmosphere was grim. 'It’s like everybody’s in mourning,’ he said, referring both to Bernie Madoff’s victims and to the people whose stock portfolios had merely taken a dive. 'It’s like a member of the family has died, and its name is Money’ '¦ Back in New York business was brisk at the Madison Avenue headquarters of CIRCA, a jewellery-buying firm where Madoff-related jewels had been incoming all month, like expensive shrapnel. 'When Madoff hit, then we started to get the calls,’ the firm’s CEO, Chris Del Gatto, said '¦ An older woman in Beverly Hills had mailed in a nine-carat diamond to sell, so that she could pay her expenses; the company had sent armoured cars to retrieve two batches of family jewels from Chicago and Arizona '¦ 'Just visualise a dining-room table with everything laid out in rows,’ [co-director Tracy] Sherman said. 'They’ve taken the jewellery out of the safety-deposit box and laid it out – all the earrings, and then come the bracelets and the suites of things that go together.’ Often, the house is for sale, too '¦ 'And there’s all the inherited jewellery: things from the twenties that are from the great-grandmother’ '¦ Del Gatto gestured toward the haul and said, 'This will be sold to collectors all around the world,’ and it was possible to imagine '¦ the jewels dislodged by Madoff, going on a great migration – from Palm Beach to Russia, or Dubai, or wherever the outlook is still rosy, if such a place exists.” (New Yorker, January 6)

A bad year for modern art '¦ “The global financial crisis finally rattled the art market in late 2008, as auction houses and galleries struggled for the first time in five years to convince collectors to keep splurging on art. Buyers chased a few museum-worthy paintings but largely eschewed any works deemed unproven or overpriced '¦ Sotheby's said it auctioned about $US4.82 billion of fine and decorative art last year, down nearly 11% from 2007 '¦ Christie's International said it auctioned more than $US4 billion, down roughly 20% from 2007 '¦ The contemporary art boom reached its peak in September, when British artist Damien Hirst sold about $US200 million of his pickled-animal art at Sotheby's in London on the same day Lehman Brothers Holdings filed for bankruptcy-law protection. Two months later at a round of auctions in New York, two-thirds of the works by Hirst went unsold '¦ For sellers, 2009 may be a year of lower expectations. Sellers who have a choice will likely sit on the sidelines, experts say, leaving the market to those who must sell to settle an estate, a divorce or a debt. [Sotheby’s chief] Ruprecht says he has spoken with 'lots’ of collectors who had invested with Bernard L Madoff Investment Securities, the New York firm that allegedly carried out a $US50 billion Ponzi scheme. 'I have clients for whom art is the sole liquid asset they own today,’ he says.” (Wall Street Journal, January 2)

A good year for historical extrapolation '¦ “It is widely believed that the current credit squeeze, leading to bank failures, is a modern phenomenon arising from the interplay of a historically unique set of circumstances that could not have been foreseen. However, events 700 years ago, starting in 1294, sound very much like today’s headlines. They included a subprime borrower, liquidity disappearing, recriminations, the seizure of foreign owned assets and runs on the bank '¦ In the 1280s, the Italian merchant societies, the forerunners of today’s investment banks, were awash with money as they managed large sums of collected taxes for the Pope and the English king, as well as holding deposits from wealthy individuals. However, in the early 1290s, the Pope called in much of his money and the French king levied a huge tax on the Italian merchants in France. The final straw was the unexpected outbreak of war between England and France in 1294. Edward I, the then king of England, called on his bankers to raise the money needed to fund his armies. Unfortunately for the bank (the Ricciardi), their assets were tied up in loans and trade '¦ It should be noted that the medieval economy was much less dependent on credit and banking than our modern economy. However, had Edward I faced today’s crisis, initially, he would probably have placed senior executives under house arrest, most likely without trial, until the government could recover as much as possible from their assets and estates. However, in his case he also subsequently realised that he would need new sources of finance and so whatever the frustrations, he might also have counselled some leniency. In the 13th century, banks were allowed to fail and other banks also failed as a result. However, within a few years, other banks had grown to take their place and the banking sector and the economy recovered.” (Dr Adrian Bell, University of Reading, January 5)

A very bad year for those who serve mega-rich Russians '¦ “Sonja Kohn, the feisty redheaded 60-year-old behind Austria's Bank Medici, scored around $US2 billion for Bernie Madoff in Europe. Now, she's reportedly so terrified of the Russian oligarchs whose cash she lost that she's gone into hiding '¦ With an aggressive style that stood out in the staid world of Austria '¦ Sonja Kohn made few friends gathering billions for Madoff '¦ 'With Russian oligarchs as clients,’ said a Viennese banker who knew Kohn and her husband socially, 'she might have reason to be afraid’ '¦ With her husband, Erwin, a former banker, Kohn was able to draw interest from wealthy Russians, Ukrainians and Israelis. And though she migrated from a more traditional Jewish background to ultra-Orthodox practice – which is why she covered her hair with the wig – Kohn and her husband even managed to secure meetings with deep-pocketed Arab investors '¦ Curtis J Hoxter, a veteran New York-based communications adviser who has worked with Bank Austria and met Kohn frequently in Manhattan, said: 'She has a very aggressive personality and wouldn’t take no for an answer.’ He added: 'She was overwhelming’.” (New York Magazine, New York Times, January 6, 7)