Jun 24, 2019

Axios Markets

By Dion Rabouin
Dion Rabouin

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Situational awareness:

  • Eldorado Resorts agreed to buy Caesars for about $8.7 billion in a cash and stock megamerger valuing Caesars at about $13 a share, a 30% premium from its Friday close. (Bloomberg)
  • Daimler cut its profit forecast for the 3rd time in a year, citing investigations in Europe and the U.S. over excessive pollution from its diesel vehicles. (Bloomberg)
  • Big restaurant operators are pushing back against fees charged by delivery companies like GrubHub and Postmates. (WSJ)
  • The value of Bitcoin rose above $11,000, up more than 170% this year and hitting its highest level since March 2018. (CNBC)
1 big thing: Investors demand more access to alternative investments...

Photo: Fabrice Coffrini/AFP/Getty Images

As deals from venture capital, private equity and real estate firms produce more headlines about billion-dollar deals and millionaire backers, investors are clamoring for ways to sink their teeth into so-called alternative investments.

  • Big banks and asset managers are finding ways to help them do it.

Driving the news: Indexing giant Vanguard Group has reportedly started discussions with private-equity firms about a push further into alternative investments.

  • The Wall Street Journal reported the news Sunday, less than a week after reports that Goldman Sachs is putting together a 4-unit division with around $140 billion in assets to invest in private companies and other alternative assets like real estate.

What we're hearing: There's been growing interest in the space from clients at multinational investment firm UBS. Suni Harford, UBS Asset Management head of investments, says "not a day goes by" that she doesn't get questions from clients about alternatives.

What's happening: Many believe private equity has significantly outperformed stocks over the past decade, even though the data is more ambiguous. But as more companies like Uber, Slack and Pinterest come to market already worth billions, demand is growing to get in on the early stages of investment.

  • The same is happening with real estate and various loan markets, which generally offer higher yields than most bonds.

Harford says demand for alternatives also is rooted in increased comfort with private markets despite the lack of regulations and safeguards afforded by public markets.

  • "It's filling the gap that was left in the credit crisis, because banks just aren't lending," she told Axios at a recent event in the bank's Manhattan headquarters.
  • "There is this whole second level of investor capital coming in to fill the gap on private credit investing: loans literally to individuals or small companies and whatnot. So [there's] a tremendous amount of interest from people in a variety of ways that private credit can be offered. There's not a client that doesn't want to play there."

Further, says UBS head of real estate and private markets Joseph Azelby, alternatives are attracting flows from investors of all stripes — from high net worth individuals to institutional money managers who are pulling capital out of bonds, because of their historically low yields, and out of stocks, because of their successful run.

  • "That's driving interest in private credit, infrastructure, real estate and it's going to drive 10 other things that folks in our business are going to think of to tap into that need for diversification."
... but not hedge funds

"The flow into alternatives is not actually showing up in hedge funds," said Barry Gill, head of active equities at UBS, who previously worked on the firm's multi-strategy hedge fund.

  • "Hedge funds have been net givers of flow, or least they have not participated anywhere close to the same extent" as other alternative investment vehicles.

Go deeper: The hedge fund moment is over

2. The case for a Fed rate cut
Expand chart
Data: St. Louis Federal Reserve; Chart: Axios Visuals

The Fed delivered its first conflicted policy decision under Chair Jerome Powell last week, when St. Louis Fed president James Bullard opposed the decision to keep rates at their current 2.25%–2.50% level.

  • Minneapolis Fed president Neel Kashkari, who is not a voting member of the rate-setting committee, went further on Friday, calling for an unorthodox 50-basis-point cut to U.S. overnight interest rates immediately.

What they're saying:

Bullard: "[B]oth the core and headline personal consumption expenditures (PCE) inflation measures have declined substantially since the end of last year and are presently running some 40 to 50 basis points below the FOMC's 2% inflation target."

  • "Market-based measures of inflation expectations have also weakened considerably and indicate an expected inflation rate substantially below the Committee's target."

Kashkari: "The Committee has consistently been too optimistic in forecasting inflation returning to 2 percent. ...[W]e have said that 2 percent is a target, not a ceiling, so if we are under or over 2 percent, it should be of equal concern."

3. What the case for a rate cut is missing

Bullard and Kashkari both talked about the negative impact tariffs and the U.S.-China trade war could have on the economy, but neither mentioned the impact of tariffs on inflation.

What they're not saying: Tariffs are a tax on imported goods paid by U.S. businesses that new research from the New York Fed suggests would increase taxpayers' overall costs by $106 billion a year.

  • There was also no mention of ultra-low interest rates' failure to stimulate inflation in Europe and Japan, where central banks have held rates below 0 for years and look poised to take them even further negative in the coming months. Inflation has not risen to 2% sustainably in either place.
4. Competing stories on consumer credit
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Data: Federal Reserve; Chart: Axios Visuals

Credit card delinquency rates in Q1 hit the highest level since 2012, with total household debt rising to nearly $14 trillion. Torsten Slok, chief economist at Deutsche Bank Securities, warns that creeping delinquency rates, and the "associated increase in interest rates on credit cards and auto loans will begin to weigh on consumer spending."

  • While consumers are taking on more debt, Fed data also shows that delinquency rates on mortgages are at their lowest level since 2006, despite housing debt rising to $9.7 trillion in the first quarter.
5. U.S. sanctions are losing their bite

Russia's booming stock market and currency, China's second quarter bounce and Nicolás Maduro's ability to hold power in Venezuela this year have all flown directly in the face of conventional wisdom about the power of the U.S. to cajole bad actors on the international stage through sanctions.

Why it matters: As the Trump administration mulls further punitive actions on China, Iran and a growing list of countries, there's growing evidence the U.S. is losing its coercive power.

That's been particularly notable in the case of Russia, which has been delivering solid returns to investors, despite facing U.S. sanctions for years.

  • Russia's stock market is booming this year, near record highs in ruble terms, with investors expecting fresh all-time highs by year-end.
  • Its ruble currency rose to its highest value against the dollar in 10 months last week.
  • Russian GDP is growing and its unemployment rate is near a historic low.

"They're supporting their economy by adjusting who they're trading with and the markets that they're going into," Chris Gaffney, president of world markets at TIAA Bank, tells Axios. "We're seeing some of that with China too, where China is establishing more trade with Europe because of the ongoing trade spat with the U.S."

  • Gaffney says this has also been true of Iran and Venezuela, which were expected to crumble under the weight of U.S. economic sanctions earlier this year.

What to watch: The common thread is China, which has become the top trading partner with many of the world's countries and essentially ignores U.S. sanctions. Russia is in talks with Iran and has deepened its trading relationship with China while it profits from cheap Venezuelan oil imports the rest of the world is barred from receiving.

  • This could color the reaction Trump gets from China, Turkey and Iran at this week's G-20 meetings.
Dion Rabouin