Axios Capital

October 07, 2018
Situational awareness: NAFTA is now USMCA, please update your address book accordingly. Unless you're a dairy farmer, you're unlikely to notice much of a difference. And if you can't remember or pronounce the new name, that's probably by design. Trade agreements are never popular. The best we can hope for is that they're forgotten as soon as they're announced. Given the news cycle these days, that isn't hard.
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1 big thing: The mighty consumer


The best-performing sector of the American stock market this year, bar energy, has been the "consumer discretionary" category — the companies that sell the things we like to buy but don't have to buy.
It's also been one of the main drivers of the market as a whole. While the broad stock market is up a very impressive 332% from its 2009 lows, consumer discretionary stocks are up a stunning 630%.
- To be sure: A large chunk of that growth is thanks to just two stocks: Amazon and Netflix. But it's worth pausing to appreciate that two of the highest-flying technology stocks (three, if you include Apple) get most of their revenues by selling their products directly to consumers. That certainly wasn't the case in the days of the Wintel duopoly of Microsoft and Intel.
- Neither Amazon Prime nor Netflix is a necessity in life. But both of them have already passed 100 million paying subscribers. (For scale: There are about 125 million households in the U.S.)
The bottom line: We're in a virtuous cycle, where record-low unemployment (just 3.7%, in September) feeds into job security, heightened consumer confidence and higher spending. In turn, that drives corporate growth in profits and headcount.
- None of this is reliant on low interest rates. The healthy economy means that the Fed will keep on hiking, as a glance at the two-year bond yield will attest. Long bond yields, too, are hitting five-year highs. It almost feels like we're back to normal.
2. Retailpocalypse Not


The U.S. consumer overwhelmingly shops at real, physical stores. For all the talk of Amazon's domination, only 10% of US retail sales are made over the internet.
- Physical stores do need a robust internet presence. Online buzz drives foot traffic, and conversely people regularly buy items online that they first saw in stores. Retail outlets, especially in prime locations, act as brand advertisements and generate loyalty in a way that Instagram posts cannot.
- Many brands, including Henri Bendel, Payless ShoeSource, Nine West, Toys "R" Us and Brookstone, have imploded in the so-called "retailpocalypse." But the big picture can be seen in retail rents, which have been rising steadily for the past five years — even as total retail square footage continues to expand.
- The latest retail bankruptcy is Mattress Firm, which tried to grow its way out of trouble. That's a technique that tends not to work when "growth" means putting three stores on the same corner.
By the numbers: The death of shopping malls is exaggerated: They are currently 94% occupied, according to CBRE.
- Total offline sales and total retail stock are both going to continue to grow for the foreseeable future, says Melina Cordero, Americas head of retail research at CBRE. "Foreseeable," here, means about five years or so: No one knows whether or when autonomous vehicles, say, might change the game completely.
- That's despite the fact that the U.S. has vastly more retail space per capita than any other country. According to the International Council of Shopping Centers, America has 24 square feet of shopping center space per person, compared to 17 square feet in Canada, 11 square feet in Australia and less than 5 square feet in the U.K.
Yes, but: What about New York City's empty storefronts? Well, as any New Yorker will tell you, our town is unique.
- Look at 115 Mercer Street, which is part owned by none other than Gary Cohn. This mid-block retail space in Soho was rented to a fashion brand in 2014 for a eye-watering $650 per square foot, almost 40 times the national average. If Soho storefronts are empty, it's not because retailers are doing badly, but just because asking prices are insanely high.
3. The great green hope

Illustration: Lazaro Gamio/Axios
The biggest unclaimed territory in the consumer discretionary universe is cannabis. Even though cannabis remains illegal under federal law, Americans spent $6 billion in 2017 on legal recreational and medical marijuana.
Why it matters: Americans may have spent a total of $50 billion on recreational cannabis last year, according to the best estimates. That leaves enormous room for the legal market to grow, even if cannabis consumption remains flat.
Early investments in growing cannabis have not necessarily paid off, with the price of "outdoor flower" plunging from about $3,000 per pound four years ago to as low as $250 per pound today, according to Drake Sutton-Shearer, the CEO of cannabis media shop Prøhbtd. Thanks to falling prices, marijuana sales in Colorado dispensaries actually fell in May 2018, compared to a year earlier.
- The industry remains a legal minefield, with regulators involved at multiple levels from municipalities up to states and even the federal government. Opening a bank account for a cannabis business can be incredibly difficult; suing for trademark infringement in another state can be downright impossible.
- The industry is also extremely fragmented, with more than 75,000 companies in the U.S. and Canada alone. There are zero national brands, very little brand recognition even at the state level, and dozens if not hundreds of competing retailers and distributors in every jurisdiction.
- Many of the most successful entrepreneurs are working in ancillary areas, like vape-pen manufacturing, brand-consultancy services or conference organizing. (There were 172 business-to-business cannabis conferences last year.)
A lot of people, including stock-market speculators, assume that a legalized and branded future awaits, just as with coffee, alcohol, tobacco and pharmaceuticals. But even if that's true, no one has a clue who the ultimate winners might be. (Remember that Juul came from nowhere to dominate the tobacco vape space.)
- As a psychoactive substance, the effects of marijuana can vary wildly, and consistency of experience is much more important for cannabis brands than it is for, say, alcohol brands. It's also much more difficult to ensure, across states and geographies.
The bottom line: Hundreds of billions of dollars are currently spent on alcohol, tobacco, opioids and pharmaceuticals that treat pain or stress. Legal cannabis could, theoretically, capture a significant part of that market. But picking winners is hard. And full legalization is hardly a foregone conclusion. Expect extremely strong opposition before that happens.
4. Corporate chaos

The stock market might look as though it's effortlessly gliding to record highs, but there's a lot of turmoil right below the surface, much of it related to tensions between shareholders and management.
At Tesla, CEO Elon Musk seems to be constitutionally incapable of dialing down the tweets that have cost him and his shareholders billions of dollars in wealth.
- His calls for short selling to be made illegal will be music to the ears of, well, short sellers like David Einhorn, who smell blood in the water.
At Unilever, lame-duck CEO Paul Polman wanted to cement his legacy by finally getting rid of the company's anachronistic and confusing structure of having dual listings and dual headquarters in London and Rotterdam.
- He failed: The move would have been good for the company as a whole, but bad for U.K. shareholders, many of whom would have been forced to sell their stock once Unilever became a Dutch company headquartered solely in the Netherlands.
- What happens next is anyone's guess, especially after the U.K. leaves the EU in March.
At GE, CEO John Flannery was unceremoniously defenestrated on Monday, after just one year running the troubled conglomerate.
- The company took the opportunity to take a $23 billion write-down on the value of its power unit, most of it related to the disastrous $10.6 billion acquisition of Alstom's power business in 2015. Amazingly, the write-down on that single acquisition is likely to be substantially greater than the purchase price.
- If his history is any indication, new CEO Larry Culp is likely to lower the company's dividend.
- To make matters worse, Culp has no experience at GE beyond a short stint on its board.
- GE shares rose on the news, but the real story is told in the bond markets, where GE debt continues to trade at deeply depressed levels and where S&P just downgraded the company to a mere three notches above junk. It's a far cry from the perfect AAA rating that GE enjoyed in March 2009.
5. Coming up: Brazil, Climate, IMF meetings

Illustration: Sarah Grillo/Axios
Later tonight, we'll get the results from the first round of presidential election results in Brazil. Former President Luiz Inácio Lula da Silva, the most popular candidate, is barred from running on account of being in jail. Far-right Jair Bolsonaro is the front-runner. He's almost certain to finish in the top two without reaching the 50% necessary to become president immediately.
- The second round of elections, where Bolsonaro will probably face Lula stand-in and former São Paulo Mayor Fernando Haddad, is scheduled for Oct. 28. Go deeper.
Also tonight, the UN Intergovernmental Panel on Climate Change will release a special report on what's going to happen when the world gets 1.5°C (2.7°F) warmer than it was before the Industrial Revolution.
- We're already 1.0°C (1.8°F) warmer than in preindustrial times.
- We’re going to get to 1.5°C warmer, the only question is when. (While there are ways of avoiding that outcome, there are hundreds of political and economic reasons why they are not going to happen.) That’s extremely bad news for millions, especially people living on low-lying islands.
- We are currently on track for global warming of between 2.7°C to 3.7°C by 2100, according to Kelly Levin, a scientist with the nonpartisan World Resources Institute who spoke with Axios' Andrew Freedman. Go deeper.
Very few countries face greater peril than Indonesia, where 1,500 islands could be underwater by 2050 and 40% of the capital city is below sea level. Indonesia also happens to be hosting the annual meetings of the World Bank and IMF this week, on the resort island of Bali.
- Expect the IMF to cut its July forecast of 3.9% global growth when it releases new figures on Tuesday. As IMF Managing Director Christine Lagarde put it in a curtain-raising speech this week, "The outlook has since become less bright."
- Trade barriers top Lagarde's reasons to cut the forecast.
- The IMF forecasts that 26 million women in OECD nations could lose their jobs to technology. "Women often have to do more of the routine tasks than men," says Lagarde. "Precisely the kinds of jobs more likely to be affected by automation."
- One woman whose job will not be automated: Gita Gopinath, who flies in to Bali as the first woman ever to be the IMF's chief economist.
We need to work together to de-escalate and resolve the current trade disputes. ... History shows that, while it is tempting to sail alone, countries must resist the siren call of self-sufficiency — because as the Greek legends tell us, that leads to shipwreck.— IMF Managing Director Christine Lagarde
6. Profligate Brits, austere Italians


Behold a tale of two budget deficits. True to stereotype, Italy's deficit was always greater than that of the U.K. — until 2007, when it shrank to just 1.5% of GDP. Since then, the roles have been reversed: Italy, constrained by its membership in the eurozone, has had relatively modest deficits, while the U.K., with a free-floating currency, has been able to spend more to recover from the crisis.
The big picture: Stereotypes die hard. The U.K. is proclaiming an end to austerity, while Italy has just emerged from yet another budget crisis.
- In the end, the bond vigilantes won, and the populist government was forced to announce that it will reduce its deficit over the next three years.
- Next year's deficit of 2.4% of GDP is now an absolute cap, and 2% or lower is the medium-term target.
- Meanwhile, expect Britain's deficit to explode after Brexit, as the government tries to counteract the effects of being cut off from its own continent.
7. Philanthropic hoarders

One effect of the booming stock market: Rich-people money has never flowed so freely. Michigan University has raised $5 billion in a single campaign, a record for a public university, while Harvard's most recent campaign raised a bonkers $9.6 billion, blowing away its $6.5 billion goal.
- Other insanely huge numbers: The University of Chicago is at $4.5 billion in its current campaign, MIT is at $4.3 billion and Johns Hopkins is at $5.9 billion.
- Substantially all of this money goes into endowment funds, which then turn around and invest it. The result is that universities increasingly look like hedge funds that do some educational activity on the side to ensure that they never pay any taxes.
Mark Zuckerberg is hiring a chief investment officer to oversee $10 billion at his personal philanthropy, the Chan Zuckerberg Initiative. A primary objective, says Bloomberg, will be “optimizing the performance of CZI’s investment portfolio.”
Thought bubble: Philanthropies get richer every year, thanks to donations and investment returns. But the need is greatest now. Let tomorrow's billionaires address tomorrow's problems. If they can't, that's a sign that inequality will have been solved. The highest and best use for today's charitable funds is always to be found today, not tomorrow. Why is this money being invested, rather than spent?
8. Bad publicity


If you like losing money, there has never been a better time to raise even more of that short-lived cash: 83% of IPOs this year have been from money-losing companies, and, per Axios' Dan Primack, that number is only likely to increase.
- On one hand, companies going public should be losing money; if they're not, then why bother raising fresh cash at all?
- On the other hand, these companies are older, and more mature, than ever. If they aren't profitable even into middle age, it's reasonable to ask whether many of them will ever get there.
9. Building of the week

Dame Zaha Hadid, the first woman to win the Pritzker Prize for architecture (in 2004), also became the first woman to win the Design Museum Design of the Year Award, for 2013's Heydar Alijev Cultural Center in Baku, Azerbaijan. The single flowing envelope, curving in highly complex ways, contains multiple functions across eight floors, including a museum and a large auditorium. The building almost immediately became the signature landmark of modern Baku.