Friday, June 17, 2016

Some thoughts on very low interest rates

I have been having twitter arguments with people I usually respect who think that it is self-evident that very low rates (even negative rates) are a function of Fed intervention - and not a function of the supply and demand for funds.

I don't normally blog about macroeconomic issues because I know enough to know that I will be wrong most the time. However I feel I need more than the 140 characters on twitter to explain why I am unconvinced that negative rates are that unnatural.

Alas you are going to have to go through a fairly long-winded argument. And I am far from sure of all this - so I really want the comments to criticise my thesis. I am apt to change my mind.


Step 1: the impossibility of collectively deferring consumption

Very roughly almost everything I have consumed this year was made this year. The restaurant meal, the haircut, even the flight I took. There are a few exceptions. The plane trip that I made was made in a seven year old plane (but it wasn't made in a 20 year old plane).

Very few services I consume at all are produced in any way more than say a decade ago (or with capital equipment more than a decade old).

There are a few exceptions.

  • I snitched a 15 year old bottle of wine from the cellar last week (it was very nice).
  • And much more importantly the housing services I consume are in a house that was built 30 or 40 years ago.

But with those exceptions what I consume in this decade is almost entirely produced in this decade.

And for that matter what I consume in the five years from 2030 to 2035 will almost entirely be produced in those five years.

I can inter-temporarily move consumption around (saving money/capital now) and consume a little more than I earn in 2035.

Everyone individually can do that. That is what capital markets are for in part.

But collectively we can't.

You see everything that everyone consumes in the years 2030-2035 will roughly be made in the years 2030-2035.

We can all save individually saving money, deferring consumption, but collectively we do not defer consumption. We just rearrange claims on that consumption.

Step 2: ageing populations

In every country that matters economically populations are ageing - very sharply. Indeed this is the most rapidly ageing population in human history.

And ageing people want to defer consumption. Individually we have huge populations wanting to defer consumption.

Step 3: the problem - we cannot collectively defer consumption

And now you see where I am going. Individually we all want to defer consumption. Collectively we cannot because what is consumed in 2030-2035 will roughly what is produced in those years.

So I am going to assert that collectively we are very likely to be disappointed. People will not get (in returns) what they expect to get.

Step 4: How is this disappointment to be settled on people?

Since I am asserting that collectively we are going to be disappointed (as we can't collectively defer consumption) the next twenty to thirty years will be in large part trying to work out how to settle that disappointment on people.

And if you can work out all the ways (and timing) that settlement is disappointed on people you should be able to make money (trading the other side). I would love to be able to do this. But here are a few suggestions.

  1. Pensions default. We all think by working hard and earning a pension we are looking after ourselves - but collectively we are disappointed.
  2. Inflation takes away our savings
  3. Interest rates don't keep up with inflation - we have 20 years of negative real rates - maybe sharply negative after taxes,
  4. Asset prices in real terms fall for decades - so your Singapore apartment isn't going to be worth what you think it is - nor is that Sydney or London place, and equities are destined to disappoint.
And it won't matter if you used socialised methods of savings (pensions) or capital-market measures of savings (equity accumulation funds) you can't in aggregate escape the disappointment. Returns are negative. Get used to it.

Is there any out?

There are a few outs. The first one is such large productivity growth that you don't disappoint anyone because just so much more is produced in 2030 than now that you can give the then dissavers a low share and still not disappoint them. I know my Silicon Valley friends are optimistic enough to believe that is possible but I doubt it.

I doubt it for a good reason. Economic growth has to be faster than the ageing population - but the main innovation is likely to be in life-extending medicine - thus exacerbating the ageing population issue.

The second out can be done for some countries but may not be done globally. And that is to muck around with the age profile of your population. Age profile for a country is a choice. Our former finance minister Peter Costello used to argue that mothers should have three kids, one for him, one for her and one for the country. But that was what you did (as Australians) if you wanted to solve the population age-profile issue and you still wanted a white Australia. You can have any population profile you want if you take immigrants. And if you want your welfare/retirement-savings systems not to collapse you are probably going to have to do it. (Nigel Farage and his ilk want a population profile that makes your pension default. But I doubt UKIP will tell that to the voters.)

But beyond that I see no outs.


There are dozens of implications - and I am far from sure of any of them.

But one is pretty obvious to me. The market clearing real interest rate is negative and should be for some time.

There is nothing in capitalism that guarantees you a positive rate of return and the legion of people who argue that the Fed should raise interest rates just because they believe returns should be positive should be labelled for what they are: ideological capitalists against market clearing. (Okay - now I teasing a little - but I am surprised that people think they are entitled to positive returns.)

I am happy to be argued with here. I am very uncertain of all this stuff. Much less certain than many of the twitterati who prompted this post.


Thursday, June 9, 2016

What passes for Japanese innovation now (Kirin edition)

When I was young all the most innovative products seemed to come from Japan. And so I find myself gently disappointed reading the Kirin Company annual report. To quote the interview with the President and CEO:

We have a competitive edge in our ability to create value. 
The Kirin Group leverages its advanced technological capabilities and manufacturing capabilities to produce high-value products, and it has superior capabilities in the creation of value. One example is Kirin Hyoketsu®. With this product, we have created an invigorating drinking sensation by mixing refreshing vodka with juice, selling it in an original diamond-cut can. 

If mixing vodka and fruit juice is leveraging your "advanced technological capabilities" I should be able to cope even when plastered...


Tuesday, May 17, 2016

Uber as a predatory lender

If you want to understand where Uber's business model is going read this stream on Twitter:


PS. I am currently on a business trip to the United States. Maybe it is just bad luck - but the quality of Uber service has dropped fairly dramatically since the last time I was here. I no longer feel the need to recommend Uber to friends - and indeed am coming close to advising against it.


Monday, May 9, 2016

Catching up with the Narwhal Empire in Nashville

Got a reasonable day off in Nashville. (You got to recover from jet-lag somewhere!)

Wound up at a cool blues bar on Bourbon Street. But the highlight was a busker. Her name was Heidi Keltner and she had a great sense of rhythm, a decent bluesy voice and could hold the crowd she had built up.

Its got to be a tough life trying to be a musician in Nashville. Heidi had to leave later to start a 3AM shift at UPS...

The street scene wound up as a jam with a drunk African American woman trying to do Aretha Franklin (whilst holding onto me for physical support and complaining I smelt like a white guy).

But lets stick to Heidi. Her original songs were fine.

Her YouTube channel is badly underproduced. But put on headphones and listen to this. You won't be disappointed. (The band is called the Narwhal Empire... but I only saw Heidi.)


Saturday, May 7, 2016

If someone disagrees with you they are certifiably crazy: Bill Ackman, Valeant and Herbalife edition.

The US Senate has released a lot of Valeant documents. Link here

There is quite a deal here - but I got to this email from Bill Ackman to Mason Morfit (of ValueAct) and Mike Pearson (the then CEO of Valeant). I can't resist posting it.

Mike and Mason 
Happy Thanksgiving. 
Please see below from my PR folks. The idea that Ubben blames me for the decline in VRX stock is absurd. I don't care but I think it is not good for Valeant. 
I had never previously heard of Andrew Left and I don't think his short position was motivated by animus for me. I just think he wanted to make money. With respect to John Hempton, I have never met him or spoken to him. He happens to be long Herbalife and certifiably crazy. How can I be responsible for his behavior? 
With respect to my email apology for the WSJ article, I don't understand what value it brings Valeant for the recipients to have shared it with the FT. I did my best to shape the WSJ article in a way that would be good for Valeant and I didn't love the outcome. I therefore apologized. Isn't that the appropriate thing to do?


I just want to put this up for posterity. But I wish to assure Bill that on both stocks I am research driven and quite sane.


Monday, April 25, 2016

Valeant's new CEO

Joe Papa has just accepted appointment as CEO of Valeant.

a. I am glad my short is mostly - not entirely covered. Joe Papa is a fabulous appointment - far better than Valeant deserved.

b. Papa has his work cut out for him. Valeant deserves to go bankrupt - and will go bankrupt unless the goodwill of bond holders and pharmaceutical payers is forthcoming. If I were auditor I would still qualify the accounts with a "going concern" qualification.

Given the treatment of stakeholders it will be hard to earn and maintain goodwill from bond holders and pharmaceutical payers. Valeant owned Philidor which was a systematic attempt to defraud pharmaceutical payers. It will take a lot of work to settle all the litigation and to get the payers to continue to pay inflated prices for Valeant drugs.

Joe Papa is far more likely than anyone I can think of to earn the goodwill of payers and bondholders and thus save Valeant.

I still think Valeant will go to bankruptcy, but I am less sure about it.

Even if Valeant files bankruptcy Papa should logically remain CEO. He will run the business better than most alternative CEO candidates.

This does not mean that I think Valeant should race back towards $100. Survivability is a long way from generating enough profit to meaningfully dint that $32 billion debt load.

Still for once I am not unremittingly bearish this company.


And here you will get me to say something I did not think I would say. If Bill Ackman was responsible in part for convincing Mr Papa to take the job then Mr Ackman has done Valeant and his investors a great service.

Thursday, April 7, 2016

The great matrimonial housing short-squeeze

It's a fairly consistent view around our office that house prices are absurd in Sydney - and winning a Sydney property auction is not a route to security, rather a route to becoming an indentured servant to a bank.

Alas we have one staff member married a few years with an 18 month old son.

I caught him looking at He told me his wife was looking.

His tart comment: short-squeezes come in many forms.


Thursday, March 24, 2016

Do you want to die with dignity? There is a coupon for that.

Business Insider has another post that explains Valeant's business model.

They bought an out-of-patent drug (Sodium Seconal) which is used in physician assisted suicide - and after the California government passed laws to make the above legal they jacked the price up to $3000.

The Skeptic goes one step further - and points out consistent with Valeant's business model there is a copay coupon so that you, dear patient, are not out of pocket, whilst your insurance provider takes the hit.

So, if you want to die with dignity there is a coupon for that:

Monday, March 21, 2016

Mr Ackman's letter to the Allergan board

Reprinted in full without comment. Source here.

Pershing Square Letter to Allergan’s Board:
July 16th, 2014
Mr. David E. I. Pyott
Mr. Michael R. Gallagher
Mr. Russell T. Ray
Dr. Trevor Mervyn Jones
Mr. Louis J. Lavigne
Dr. Deborah Dunsire
Dr. Peter J. McDonnell
Mr. Timothy D. Proctor
Mr. Henri A. Termeer
Re: It is Time to Reflect
To the Board of Directors of Allergan:

In my 21-year history as a governance investor, I cannot think of another example in our portfolio where a board has behaved as poorly as you have in your response to the Valeant merger proposal. Your scorched earth response to Valeant is beyond the pale. You have accused Valeant of fraudulent accounting and of falsifying its reported growth rates and business performance, and you have done so without factual evidence to prove these assertions. If one spreads false and misleading information for the purpose of driving down Valeant’s stock price, that is market manipulation, plain and simple. That a board of a $50 billion market cap company would engage in such behavior as a defensive tactic is extraordinary and incredibly inappropriate.
Valeant has offered to acquire Allergan for $72 per share in cash and 0.83 shares of Valeant common stock representing a 50% premium to Allergan’s unaffected price, a transaction in which Allergan shareholders will own 44% of the combined company. In addition, Valeant has offered to issue a CVR to share the value of DARPin with Allergan shareholders. Valeant has raised its bid twice, lastly in response to feedback we received from what we believe to be a representative sample of the largest institutional, long-standing shareholders of Allergan. We remind you that the current value of Valeant’s stock does not reflect the value ultimately received by Allergan shareholders because Valeant’s stock currently trades at a substantial discount due to Allergan’s scorched earth, negative information campaign against Valeant, the uncertainty of transaction consummation due to Allergan’s defensive tactics, and the resulting delays in time to closure.
Nearly 90% of Allergan stock has changed hands at prices above $160 per share since the Valeant bid was made public. We believe that a substantial portion of these shares have been purchased from long-standing investors of Allergan that do not believe that the current market prices are reflective of Allergan’s value as an independent enterprise, and/or have lost confidence that the board and management will act in shareholders’ interests. These investors are sending a strong and clear message to the board that it is time to negotiate a deal with Valeant.
Meanwhile, the board continues to stick its proverbial head in the sand. By refusing to engage with Valeant, we believe that you have breached your fiduciary duty of care and ultimately your duties of loyalty and good faith. Valeant is not offering to buy Allergan for cash, rather the majority of the consideration is in the form of common stock of the combined enterprise. As a result, the value of the consideration is contingent on the future value of the merged company, 44% of which will be owned by Allergan shareholders.
When a stock transaction is proposed between two similarly-sized enterprises like Valeant and Allergan in which the target shareholders will own a large percentage of the acquirer, the value of the combined company can only be determined by a detailed analysis of transaction synergies, strategic overlap, future business plans, and other factors. This information can only be obtained by engaging with Valeant. It is difficult to understand how you can be satisfied that you are exercising due care when you are refusing the opportunity to review available information that is critical to your decision. Based on Allergan’s public attacks on Valeant’s business, it is manifest that you do not have an adequate understanding of Valeant for you to fulfill your obligation to determine whether the transaction is in the best interest of Allergan shareholders.

I ask that you consider the below questions in light of your published statements that the Valeant offer is “grossly inadequate.” If today’s discounted value of the Valeant bid of $171 per share “grossly undervalues” Allergan then:
Why did Mr. Pyott sell $31 million dollars of common stock at $123 per share in February of this year?
Why did other executives sell an additional $57 million of stock at $119 dollars per share in the first quarter of this year?
Why did the compensation committee award millions of dollars of restricted stock and options to management earlier this year based on management’s sandbagged earnings targets? We note that just prior to the Valeant offer, Allergan management had announced an “aspirational” earnings growth rate of ~15%. Two weeks after the Valeant offer, management increased its guidance to 20% compounded earnings growth over the next five years. Remarkably, Mr. Pyott is now hinting that guidance will be raised yet again on the upcoming earnings call.
Why is Allergan contemplating taking on billions of dollars of leverage and initiating a multibillion dollar buyback at a likely substantial premium to today’s stock price when it was unwilling to repurchase stock less than a year ago at half of today’s stock price?
Why is the company now considering making a major acquisition? If such a value-creating transaction were available in the past, why did the company not act on it then when the market for pharma deals was less heated? Why would Allergan wait until its negotiating leverage has been impacted by every seller’s knowledge that management is desperate to do a deal to “defend” the company from being acquired?
How can the board ignore the fact that Goldman Sachs, Allergan’s financial advisor, immediately prior to the announcement of the transaction (before it was required to suspend coverage), had a price target for Valeant of $164 and had Valeant on its “Conviction Buy List”? At $164 per Valeant share, we note that the Valeant deal is worth $208 per Allergan share.
How can the board ignore the valuations and target prices that its own advisers had for Allergan and Valeant before they were hired to “defend” the company?
In June of last year, Goldman Sachs raised $2.3 billion as Valeant’s sole underwriter of its equity offering. Why would Goldman Sachs have assumed sole underwriter liability in doing so if Valeant’s financial statements are fraudulent as you have suggested?
We note that in Allergan’s 14D-9, the inadequacy opinions Allergan obtained from the company’s bankers expressly state: “We do not express any view on, and this Opinion does not address, the fairness, from a financial point of view”... of the Valeant offer. Why didn’t the board insist that the company’s financial advisors complete a fairness analysis of the Valeant proposal before determining that it was inadequate?

How can the board have adequately informed itself of fairness of the Valeant proposal if it did not receive a fairness analysis from its own advisors?
Members of the board of directors of a Delaware corporation faced with a takeover bid are required to inform themselves of all material information about a transaction, and then act with care in evaluating it. By failing to authorize your advisors to meet with Valeant to address any of the board’s stated concerns about its organic growth, accounting, business sustainability, or synergies, the board and its advisors have failed to do a reasonable investigation of the Valeant transaction. As a result, we believe you are in breach of your fiduciary duties, and have otherwise not acted in good faith.
We would have expected more from you based on your personal career track records up until this time, and what we have heard about some of you from individuals we know in common. I had hoped that your initial approach to this transaction was an ill-advised negotiating strategy, but the passage of time and your continued misinformation campaign about Valeant have caused us to conclude that you are no longer fit to serve the interests of shareholders. As a result, we have recruited a group of extremely talented executives and experienced public company directors who understand their fiduciary duties and have a track record of acting in the best interest of shareholders and the companies they have managed as CEOs and as members of their boards of directors.
We encourage you to review the backgrounds of the individuals on our slate who have agreed to serve on Allergan shareholders’ behalf. They will bring to the board room superb track records in creating and maximizing shareholder value coupled with excellent transaction skills, accounting expertise, broad business experience and healthcare and pharmaceutical industry domain expertise. We would be surprised if some of you do not know, or know of, the individuals who have agreed to serve. Ask yourself why a group of high quality individuals, who certainly don’t need the directors’ fees, have agreed to replace you at the shareholders’ behest on Allergan’s board.
The bottom line is this: it is time for you to look at yourself in the mirror and ask yourself whether your behavior as a director of Allergan is appropriate and consistent with your long-term personal reputation and the way you would like to be perceived and judged by institutional and retail investors, the general public, and members of your community and immediate family. Ask yourself whether your approach to this transaction has been business-like and professional, whether you have been adequately informed by management and your advisors about Valeant, and whether you have fulfilled your duties of care, loyalty and good faith as a director. Ask yourself whether if you had half your net worth invested in Allergan stock (and were not otherwise conflicted by being a member of management) the approach you have taken is consistent with maximizing value for shareholders?
We believe the vast majority of Allergan’s shareholders are extremely concerned that, to date, you have not fulfilled your fiduciary duties. Perhaps more significantly for you personally, you have harmed your reputations as corporate citizens. We remind you that it takes a lifetime to build a reputation and only a few minutes to destroy it.

Rather than attempt to delay the inevitable and further damage your reputations, we ask that you stop this nonsense, and authorize prompt negotiations with Valeant. If, as part of your due diligence on Valeant, you and/or advisors discover the malfeasance that you have suggested exists, then as Allergan’s largest shareholder with a $5 billion investment we would of course strongly oppose a Valeant transaction.
If, however, your due diligence determines, as we (after the completion of our own detailed due diligence) and other major Allergan shareholders who own stock in both companies have concluded, that Valeant has built a well-managed, decentralized, disciplined specialty pharmaceutical manager, operator, and acquirer which offers tremendous strategic overlap and synergies with Allergan, then first apologize, and then negotiate the best deal you can for Allergan shareholders. Valeant has publicly stated that it is open to further negotiations if the board engages promptly in good faith negotiations.
We are now working to obtain the consents to call a special meeting, and upon their receipt, we will ask the board to call the meeting. While under the company’s highly restrictive and cumbersome special meeting mechanics, you have the ability to delay the meeting for up to 120 days, we on behalf of Allergan’s other shareholders ask that you do not delay the inevitable any further. What legitimate board of directors attempts to silence or otherwise delay hearing what its own shareholders have to say? Shareholders are looking forward to expressing their views.

William A. Ackman
Chief Executive Officer

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