Month: November 2015

November 27, 2015

November 20 – November 26, 2015

Time to load up on Emerging Market equities? Are you aware of the global demographic trends…

Happy Thanksgiving! This week I’m only going to cover two articles. First was an article discussing whether or not now is the time to get back into emerging market equities by Steve Johnson in The Financial Times “Emerging market equity valuations slide to record low,” and second and of more importance was ““How Demographics Rule the Global Economy”” by Greg Ip in The Wall Street Journal as part of its multimedia 2050 Demographic Destiny collection of articles this week.

*Note: bold emphasis is mine, italic sections are from the articles.

Emerging market equity valuations slide to record low. Steve Johnson. The Financial Times. 19 Nov. 2015.

So the saying goes, when there is blood in the street buy real estate… essentially, the simple (yet emotionally challenging) formula of buy low and sell high. Therefore, now that emerging markets (EMs) have taken a beating, is it time to load up?

“Emerging market equities have delivered a total return of minus 2.1% since the start of 2010, compared with the 69.1% return of developed markets.”

“The latest leg of correction leaves emerging markets as the unambiguously cheap segment of global equity on a fundamental basis [but], with the exception of Russia, valuations simply haven’t become cheap enough,” says George Iwanicki, emerging market macro strategist at JPMorgan AM.”

“The MSCI Emerging Markets Index fell to a valuation of just 12.8 times 10-year average earnings at the end of September, according to calculations by JPMorgan AM, taking it below the previous nadir of 13.5 times during the 1997-1998 Asian financial crisis.”

“The cyclically adjusted price-to-earnings multiple is now barely half its long-term average of 25 times average 10-year earnings.”

“In contrast, the US S&P 500 index is trading at 23.4 times cyclically adjusted earnings, within a whisker of its long-term average of 23.6. The MSCI Europe Index is at 15.1, against an average of 20.6.”

However, “…emerging market earnings have been elevated for much of the current millennium by high commodity prices and rapid growth in both China and global trade.”

Seemingly it would be a good time to jump in, but…

“The asset class is currently trading on a multiple of 1.43 times book value… While this is below the long-run average of 1.8 times, it is above both the cyclical low of 1.28, recorded in late August, and the all-time low of 0.94 in August 1998.”

Basically, give it a little more time and no matter what, make sure you have the stomach for it.

How Demographics Rule the Global Economy. Greg Ip. The Wall Street Journal. 22 Nov. 2015.

One of the most powerful immutable forces in our world is demographics, importantly demographics shape trends…

“Next year, the world’s advanced economies will reach a critical milestone. For the first time since 1950, their combined working-age population will decline, according to United Nations projections, and by 2050 it will shrink 5%. The ranks of workers will also fall in key emerging markets, such as China and Russia. At the same time the share of these countries’ population over 65 will skyrocket.”

“Previous generations fretted about the world having too many people. Today’s problem is too few.”

“This reflects two long-established trends: lengthening lifespans and declining fertility. Yet many of the economic consequences are only now apparent. Simply put, companies are running out of workers, customers or both. In either case, economic growth suffers. As a population ages, what people buy also changes, shifting more demand toward services such as health care and away from durable goods such as cars.”

“Demographic forces are assumed to be slow-moving and predictable. By historical standards, though, these aren’t, says Amlan Roy, a demographic expert at Credit Suisse. They are ‘dramatic and unprecedented,” he says, noting it took 80 years for the U.S. median age to rise seven years, to 30, by 1980, and just 34 more to climb another eight, to 38.“

“By 2050, the world’s population will have grown 32%, but the working-age population (15 to 64 years old) will expand just 26%.

Among advanced countries, the working-age population will shrink 26% in South Korea, 28% in Japan, and 23% in both Germany and Italy, according to the U.N. For middle-income countries it will rise 23%, led by India at 33%. But Brazil’s will edge up just 3% while Russia’s and China’s will contract 21%.”

This will only compound pension and social security obligations…

“Among rich countries, the U.S. remains demographically fortunate: Its working-age population should grow 10% by 2050. But it will still shrink as a share of total population from 66% to 60%. The demographic drag on growth, in other words, will last decades.”

“In 2008, the same year Lehman Brothers failed, the first baby boomers qualified for Social Security, and since then, the number of beneficiaries has ballooned, from 41.4 million to 49 million.”

We are going to have to become a whole lot more productive to achieve GDP growth.

Lastly, while I’m not going to go into this article in detail, Ezra Fieser’s “The Town Viagra Built Tries to Move On” in Bloomberg Businessweek provides an example of whether it is better to have a short-term infusion of success/cash – that should theoretically leave you better off – or to never have had it at all…

Other Interesting Articles

Bloomberg Businessweek

Fidelity Sends a Chill Through Silicon Valley

The Economist

Investing in a world of low yields – Many unhappy returns

BloombergBusiness: Calpers Reports It Paid $3.4 Billion to Private-Equity Firms

ConstructionDive: Dodge – Rebound in October construction starts ‘alleviates concern about a stalling expansion’ 11/23

FT: Natural resources prices ‘may fall again’ 11/19

FT: Asian and Russian buyers desert prime London property market 11/19

FT: China police swoop over $125bn in illegal cash transfers 11/20

FT: Beijing’s economic competence questioned 11/20

FT: Chinese developer Evergrande buys life assurer stake 11/23

FT: Chinese-Korean joint venture to mass-produce cloned beef cattle 11/23

FT: Investors psyched by the endowment effect 11/25

FT: Five Disney copycat hotels fined in China 11/25

FT: China’s ‘national team’ owns 6% of stock market 11/26

NYT: LivingSocial Offers a Cautionary Tale to Today’s Unicorns 11/20

NYT: As Investors Shun Debt, Banks Are Left Holding the Bag 11/19

Reuters: Wage pressure coming? U.S. companies start to sound the alarm 11/19

WSJ: Why the Housing Rebound Hasn’t Lifted the U.S. Economy Much 11/22

November 20, 2015November 20, 2015

November 13 – November 19, 2015

“Peak demand” in oil consumption? Pollution in India, Burbank Interview, and a Breakthrough in Battery Storage technology is near.

Clearly over the last seven days there has been a lot of coverage on the world’s commodity markets as supplies are near all-time highs (oil consumer inventories rose to 487.3m barrels – close to the record of 490.9m barrels; FT Energy Source briefing by Kiran Stacey) and on the upcoming United Nations Climate Change Conference in Paris (Nov. 30 – Dec. 11). However, several articles have stood out as somewhat profound to me along with a video of a guest lecture by John Burbank of Passport Capital at the Haas School of Business on October 5 (I finally got around to watching/finishing it). First the articles, 1) in The Economist “Oil companies and climate change – Nodding donkeys” brings up the changing dynamics of the energy industry particularly in light of summit (UN Conference) goals, 2) was “Pollution in India: Gasping for air” by Amy Kazmin in The Financial Times that illustrates the challenges that India faces as it seeks to modernize/industrialize itself, and 3) was Ed Crooks “Batteries start to compete for power grid” in The Financial Times that discusses one of the technology advances that will assist countries in achieving the Paris Summit goal – keeping global warming below 2⁰C.

*Note: bold emphasis is mine, italic sections are from the articles.

Oil companies and climate change – Nodding donkeys. The Economist. 14 – 20 Nov. 2015.

“As the Paris summit has approached, ambitious pledges by more than 150 countries to cut greenhouse-gas emissions have taken oil bosses by surprise-even if the pledges are likely to fall short of the target of limiting global warming to two degrees Celsius above pre-industrial levels.”

“The International Energy Agency (IEA), a body that represents oil-consuming countries, says that to keep global warming to two degrees, fossil fuels would need to fall to 60% of the energy mix by 2040.”

“There should be no energy company in the world [which] believes that climate policies will not affect their business.” – Fatih Birol, executive director of IEA

As a result, many oil companies are investing heavily in natural gas as an alternative – “you can argue that Big Oil is becoming Big Gas,” – Occo Roelofsen of McKinsey

“BP executives, also favoring a gassier future, have been modelling potential “demand destruction” scenarios… BP has become one of the first majors to acknowledge the risk that the industry is spending money developing reserves that it may never tap.”

Let that sink in for a minute. Imagine a scenario where oil is left in the ground because we don’t need it. Further, that if we’ve reached peak demand, consider the implications for energy companies and oil rich countries if top line revenues stop growing (at least based on current lines of business)…

“Spencer Dale, its [BP] chief economist (and formerly of the Bank of England), recently estimated that the world has almost three times the reserves of oil, gas and coal that it could burn if it were to hit the two-degree goal.”

“Mark Carney, governor of the Bank of England, talks about the possibility of many oilfields turning into “stranded assets,” or “unburnable carbon,” if governments get serious about climate-change action.”

Therefore, it’s no surprise that “Faced with a world awash in crude, oil majors are abandoning high-cost reserves in the Arctic, Canada, North Sea and the Gulf of Mexico.”

Pollution in India: Gasping for air. Amy Kazmin. The Financial Times. 17 Nov. 2015.

According to the World Health Organization, India has 13 of the world’s 20 most polluted cities, as measured by average ambient PM2.5 levels (the particulates that lodge deep in the lungs and raise cancer risks). Delhi is the most polluted – even worse than Beijing – “thanks to its toxic brew of diesel exhaust, construction dust, industrial emissions and the widespread burning of biofuels for cooking.”

“India uses dirty diesel – which is often adulterated with subsidized kerosene – and its vehicle emission standards lag 10 to 15 years behind European counterparts.”

Additionally “…Delhi is engulfed each winter by a haze generated by the burning of an estimated 500m tons of post-harvest stubble in the fields in India’s granary states of Punjab and Haryana.”

I can speak from personal experience, pollution can be debilitating (I was hospitalized in Shanghai in January of 2013 – due to high PM2.5 levels). China has a major problem, but they’re actively seeking to address it and they have the benefit of having already achieved mass industrialization. India on the other hand has not and here they are trying to boost GDP growth and achieve mass industrialization while already having most of the worst polluted cities in the world. It is no surprise that India is trying to slow progress for the Paris summit. Yet, if India is to succeed, they will need to utilize the capabilities of its citizens…

“We are working very hard to improve nutrition, education and skills training to give India a competitive workforce, and this [pollution] could really work against it. The health of kids is important if you want to realize the demographic dividend.” – Onno Ruhl, India Country director of the World Bank

Passport Capital: Burbank interview at UC Berkeley 10/05

I bring this video up because it brings up valuable insights and particularly in light of negative global GDP growth (in US dollar terms) and declining corporate profits. Consider that “when growth is scarce, the world is zero-sum.” You see this playing out with Russia annexing Crimea, ISIS being able to attract young and bored males from Europe and the U.S., Venezuela continuing to implement protectionist policies, U.S. corporations seeking tax inversions, etc. More importantly, the technology is having a profound impact on change.

Information, one of the most valuable resources, now moves around free.

The internet boom of the late 1990s basically put in place the technological infrastructure that has enabled the “new” technology companies of today to excel. Efficiencies are rampant and more is being accomplished with less. “Deflation is progress.” Growth will not come from resource consumption and likely will not come from an industrializing India.

The industrialization of China was a one-time event. The largest country (per capita) went from hibernation to mass industrialization within 30 years. Never going to happen again – India won’t come close.

Rather, growth will come from change.

We’re in a world where ‘high-value-added’ things prevail.

The most important things don’t revert to the mean. They Diverge.

Batteries start to compete for power grid. Ed Crooks. The Financial Times. 17 Nov. 2015.

Speaking of change…

“Within five years, Lazard (the investment bank) believes, the price of batteries is likely to have fallen to the point that they will be competitive against back-up fossil fuel power generation for a wide range of uses.”

“New electricity storage installed on to the grid to support wind and solar power is likely to grow more than 60-fold from 196 megawatts of capacity this year to 12,700MW in 2025, according to Navigant, a research firm.”

“Jim Robo, the chief executive of NextEra Energy, told a conference in September he expected that after 2020, “there may never be another peaker (typically a gas-fired power plant to meet high demand and cover uneven supply from renewable energy) built in the United States,” because electricity storage would be used instead.”

Interesting times…

Other Interesting Articles

Bloomberg Businessweek

The House of Saud Spreads the Wealth

A Wealth of Common Sense: Buy Side vs. Sell Side 11/17

BloombergBusiness: Blackstone to Buy $3 Billion in Calpers Property Fund Stakes 11/12

Bloomberg News: China Has a $1.2 Trillion Ponzi Finance Problem 11/19

FT: Caterpillar warns lower Chinese demand will limit sales 11/15

FT: Yen’s days as weakest among peers are numbered 11/16

FT: Corporate surpluses are contributing to the savings glut 11/17

FT: Facebook secret weapon for artificial intelligence: humans 11/17

FT: Sharp tells workers to buy company goods 11/18

FT: Macau warns losing streak to continue 11/18

FT: China property – good things come 11/18
InvestmentNews: Nontraded REIT sponsors changing compensation for advisers 11/13

PBN: Hawaii Supreme Court temporarily strips authority of Thirty Meter Telescope land permit 11/17

Reuters: Hot private equity marketplace reduces Calpers’ bargaining power 11/16

WSJ: Park Avenue Apartment Tower Shifts Sales Approach 11/13

WSJ: Why Japan Keeps Falling Into Recession 11/16

WSJ: Japanese Deflation Threat Hangs Over China 11/18

WSJ: Germany – Money for Less than Nothing 11/18

Special Reports

Mesirow Financial: Themes on the Economy – “To Catch a Falling Knife – A Conversation with Sam Zell” 11/10

Passport Capital: Burbank interview at UC Berkeley 10/05

November 14, 2015December 4, 2015

November 6 – November 12, 2015

The $860bn gorilla is increasing its real estate allocation, Saudi Arabia wants to borrow money, and Passport Global’s commentary on QE, China, and illiquidity.

This week three articles that stood out were 1) Saleha Mohsin’s two-part article in BloombergBusiness “Norway SWF Says Adding $86 Billion in Properties May Be Best” and “Norway’s Wealth Fund Targets Major Cities After Bonds Hit Zero” that covered Norway’s sovereign wealth fund’s planned increase in real estate allocations, 2) was Simeon Kerr’s “Saudi Arabia to tap global bond markets as oil fall hits finances” in The Financial Times that pointed out that Saudi Arabia is about to tap the international debt markets for the first time, and 3) was posting in ValueWalk “Passport Global Up 6.7% in Q3; Burbank Worries About Liquidity” by Rupert Hargreaves that was a commentary of Passport Global’s portfolio positions.

*Note: bold emphasis is mine, italic sections are from the articles.

Norway SWF Says Adding $86 Billion in Properties May Be Best. Saleha Mohsin. BloombergBusiness. 5 Nov. 2015.

Norway’s Wealth Fund Targets Major Cities After Bonds Hit Zero. Saleha Mohsin. BloombergBusiness. 5 Nov. 2015.

Basically the world’s biggest sovereign wealth fund ($860bn) has had back-to-back quarterly losses. The first time in six years.

“The fund lost 273 billion kroner ($32 billion) in the third quarter, or 4.9%, amid a drop in global stocks. Its stock holdings declined 8.6%, while it posted a 0.9% gain on bonds and a 3% return on real estate.”

“…The fund’s annual real return has been 3.55% since 1998, behind a government target of 4%.”

The fund isn’t really reaching for yield at a 4%, but

“Slyngstad (CEO) says record-low interest rates will make it difficult to meet return targets in the years ahead.”

While…

“The fund said that nominal returns on real estate have averaged about 7% to 9% from 2000 to 2013 but have seen a “declining trend in recent years.””

And…

“The vast majority of academic studies come to the conclusion that adding real estate does improve the risk-return profile of a mixed-asset portfolio,” the fund said in a discussion note based on research released on Friday. “Estimates of optimal allocations to real estate vary strongly. The median range of the suggested allocations to real estate in the 30 studies reviewed was 15%.”

Therefore,

“Norges Bank Investment Management, which oversees the fund from within the central bank, held about 3% of its assets in real estate at the end of the third quarter. It aims to build that share to 5% by investing about 50 billion kroner ($5.8 billion) each year in property. The investor has a strategy to focus on 10 to 15 cities globally.”

And the fund is even considering raising their allocation to 15%, an additional $86bn that would be funneled in to real estate. I’m sure they’re not the only ones. The implications should assist real estate valuations even if the Fed does raise rates in December. Basically, cap rates will hold and the spreads over treasuries will shrink.

Saudi Arabia to tap global bond markets as oil fall hits finances. Simeon Kerr. The Financial Times. 9 Nov. 2015.

As low oil prices linger on Saudi Arabia has found itself in a new position of raising debt. While the Kingdom has plenty of reserves on hand (unlike Russia and Venezuela), the country is raising debt while it is cheap to cover their shortfalls that exists due to extensive social programs/commitments to its citizens.

“The decision to tap bond markets underscores the impact on the kingdom’s revenues from the plunge in the oil price, from $115 a barrel last year to $50 now, as well as Riyadh’s expensive military intervention in Yemen.”

To highlight how new this is,

“The authorities are in the meantime looking to set up a debt management office to help oversee the process of raising local and international bonds.”

While some domestically held debt has been issued, this their first time taping international markets and debt levels may increase to as much as 50% of GDP within 5 years (6.7% in 2015 and 17.3% in 2016).

“Riyadh started to issue domestic bonds in the summer to fund its budget deficit. The government could continue to issue domestically for another 12 to 18 months, officials say, but it will need to diversify globally to leave liquidity available for private sector lending.”

As a reminder,

“Over the past year, Saudi Arabia has seen its foreign reserves decline from last year’s high of $737bn to a three-year low of $647bn in September.”

Thus,

“Standard & Poor’s last month reduced Saudi Arabia’s ratings from ‘AA-/A-1+’ to ‘A+/A-1’, saying it could lower them again “if the government did not achieve a sizeable and sustained reduction in the general government deficit.”

But Moody’s did not change its Aa3 stable rating.

Passport Global Up 6.7% in Q3; Burbank Worries About Liquidity. Rupert Hargreaves. ValueWalk. 6 Nov. 2015.

In this posting Hargreaves provides a review of Passport Global’s third quarter results and brings up Passport’s outlook. What really stood out to me were the following excerpts from Passport:

“Passport goes on to report that tensions have built up in the global financial system since the Fed initiated QE in 2009:

“The coupling of low U.S. interest rates and asset purchases by the Fed put downward pressure on the U.S. dollar and created the backdrop for a carry trade as interest rates and expected returns were higher in foreign domiciles. However, as experienced in past carry trades, while growth can benefit substantially in the run-up, the unwind can leave lasting scars.”

“The corporate debt of non-financial firms in the largest emerging market economies has more than quadrupled from $4 trillion in 2004 to in excess of $18 trillion in 2014, according to the International Monetary Fund (IMF). Approximately a quarter of bond issuances were done in foreign currency and requires annual servicing costs in excess of $236 billion USD.”

“Along with the prospect of rising interest rates in the U.S., we see the repayment and servicing of this debt to be more straining on emerging market corporates. Simultaneously, we see the U.S. dollar becoming more scarce as petro-dollars and revenues generated from commodities priced in dollars have cratered. The world isn’t being supplied with U.S. dollars at the level it has become accustomed to over the past seven years. The U.S. current account deficit continues to decline, 7.3% from 1Q15 to 2Q15. If the Fed keeps on its current path of raising interest rates, we believe U.S. dollar liquidity around the world will only continue to fall.”

“On China as a risk to markets:

“We believe the big risk for global markets over the next several months is a worsening in China’s economy characterized by non-performing loan (NPL) issues—which could lead China to de-peg from the U.S. dollar, lower rates and, in the process, force the liquidation of risk assets around the world. In our view, investors should prepare for a worsening global economic environment and the potential for recessions in both the U.S. and globally.”

“On market illiquidity:

“Market illiquidity, by our measure, is only getting worse. That has led us to run with a lower gross and a low net exposure. The long U.S. dollar trade is still at work. However, we have to work through all those participants who were assuming the Fed would hike because of strong U.S. growth, and we don’t know how long that’s going to play out. U.S. equities and the S&P 500 in particular appear much safer than emerging market equities and those of most other developed markets around the world.”

Brace yourselves.

Other Interesting Articles

The Economist

Property in Sweden – Home is where the heartache is

AWC: Are The Private Markets Getting Too Crowded? 11/12

BloombergBusiness: Goldman Sachs Sees 60% Chance U.S. Expansion Lives to See Ten 11/9

FT: Low oil lifts credit risk at US banks 11/5

FT: Square IPO: payments group prices shares below private market 11/6

FT: Grasp the reality of China’s rise 11/8

FT: Only a crisis can stop the Federal Reserve 11/6

FT: New York art auction sounds gloomy note 11/9

FT: US is suffering a profits recession 11/9

FT: Oil glut to swamp demand until 2020 11/10

FT: US corporate bond yields near 2013 peak 11/11

NYT: The Mystery of the Vanishing Pay Raise 10/31

NYT: Dizzying Ride May Be Ending for Tech Start-Ups 11/10

The Big Picture: “Where The Money Is – Take a look at America’s Economic Output” – howmuch.net 11/6

WP: Baby boomers are what’s wrong with America’s economy 11/5

WSJ: Apollo’s Deal for Control of Schorsch Real-Estate Empire Falls Apart 11/8

WSJ: What $1.5 Trillion in Stock Buybacks Doesn’t Buy 11/8

WSJ: Takeover Loans Have Few Takers on Wall Street 11/8

WSJ: London Office Development Hits Highest Level in Seven Years 11/10

WSJ: Rental Portion of One57 Is For Sale 11/10

WSJ: China Learns What Pushing on a String Feels Like 11/12

November 6, 2015

October 30 – November 5, 2015

Low Short-Term Rates Here to Stay? Credit Risks Increase with Increased Asset Pricing, and First-Time Home Buyers are Having a Tough Go At It.

This week three articles that stood out were 1) a post on Barry Ritholtz’s The Big Picture by David Kotok, Chairman and Chief Investment Officer of Cumberland Advisors, “Low Short-Term Rates for a Long Time?” laying out the implications of continued dovish economic policy decisions, 2) was Eric Platt’s “Growth in leveraged deals prompts credit risk warning” in The Financial Times about the increasing credit risks in the leveraged buyout (LBO) sector, and 3) “Number of First-Time Home Buyers Falls to Lowest Levels in Three Decades” by Laura Kusisto in The Wall Street Journal illustrating a symptom of rising asset prices.

*Note: bold emphasis is mine, italic sections are from the articles.

Low Short-Term Rates for a Long Time? David Kotok. The Big Picture. 4 Nov. 2015.

David Kotok is Chairman and Chief Investment Officer of Cumberland Advisors, “an independent, fee-for-service money management firm managing over $2bn in assets.” Basically, Kotok is calling to attention that much of the world is pushing forth economic policies to generate growth and the effect is that short-term interest rates will continue to remain low. Further, a gradual liftoff from the Fed will result in continued appreciation of the dollar in comparison to other major currencies, i.e. the yen and the euro. Additionally, with this trend in mind, there is a bias for continued asset appreciation.

“Market-based indicators suggest an implied rate of around 1% in early 2018. The FOMC dot plot gets you to about 2.5% in 2018 – but few market agents believe it.”

“Think about the dot plot in terms of future currency exchange rates. If the FOMC dots are correct and the US policy rate is 2.5% in 2018 while inflation is low and the federal deficit is down and stable at about $500bn, where is the dollar? The yen is expected to still be at near-zero short-term rate in 2018. The euro will still be in a negative rate regime. A suggested exchange rate would be dollar/yen at 135 and dollar/euro at 100 or even 90.”

Because the Euro is easing and “the use of negative rates in an open commercial union means an adjustment process for non-currency zone members who are part of the union. That requires each of those countries to take their national policy rate below the ECB. That is why Denmark, Sweden, Switzerland are lower and why other neighbors are headed lower. In the case of Europe this has now spread beyond just the short-term rate. About $1.9tn value of intermediate-term bonds are now trading at negative rates. (Bloomberg)”

“Among other advanced economies, the UK is easing (market expectations are pricing in a short-term rate of a little over 1% in 2018, according to Oxford Economics). Australia and New Zealand are easing, too. Among the emerging economies, China, the world’s second largest economy, may be down to 3% in 2018. Indonesia, India, Korea, Hungary, Poland, Russia, Turkey, and Mexico are all easing.”

“Zero and negative interest-rate policies have profound implications for asset pricing. In a theoretical model, the price of a long-term asset is infinity if the discounting rate is zero… Markets never expect zero forever.”

“In fact, the expectation of higher rates in the future may have kept longer-term rates higher than they otherwise would have been. As long as this circumstance persists, shorter rates will remain very low, and asset prices will have an upward bias.”

Growth in leveraged deals prompts credit risk warning. Eric Platt. The Financial Times. 4 Nov. 2015.

Of course with abundant low-cost financing available and increasing asset prices, many private equity/alternative asset management groups are flush with cash (with the exception of those exposed and focused on commodity investments). The result is a highly competitive investment environment that is further driving up asset prices and thereby increasing credit risk (side note, see last week’s post that covered Debt in China and how despite increasing debt levels the weighted interest rate is declining).

“Credit risks are rising to the fore as private equity groups seek to put a near-record $540bn cash pile to work, pushing leverage back to levels not seen since the boom of 2007.”

“…private equity funds are more likely to drive up demand for assets as they compete with corporate issuers for acquisitions, potentially resulting in even higher purchase price multiples and weaker credit metrics on new deals.” – Allyn Arden, analyst at Standard & Poor’s

“The debt burden of the largest 20 companies taken private since the start of 2014 has climbed to an average of 7.6 times earnings before interest, tax, depreciation and amortization, above the 6.2 average for the largest deals in 2010-11 and about a point below the 8.7 times average recorded for the biggest transactions in the 2005-07 boom.”

The Federal Reserve, FDIC, and the Office of the Comptroller of the Currency set a ratio guideline of 6 times leverage in 2013 which defines a deal as risky.

As a result, debt is becoming more expensive (unlike in China)… “in the first nine months of the year the cost of LBO credit climbed to 479 basis points above Libor, up from 388bp in 2013.”

“With $539.4bn in dry powder sitting on the sidelines, according to data from PitchBook, the concern is PE managers will overpay for assets that will fail to grow into its new, often highly levered, capital structure.”

Number of First-Time Home Buyers Falls to Lowest Levels in Three Decades. Laura Kusisto. The Wall Street Journal. 5 Nov. 2015.

Then of course, as asset prices rise it should not be surprising that it is becoming harder for first-time homebuyers to ‘get in the game.’ Couple that with a hesitation to invest in property having just witnessed the housing market collapse in 2008-2010, slower wage growth (relative to asset price growth), increasing rent costs (resulting-from higher asset prices and resulting-in higher asset prices) that is making it harder to save money, and voila first-time buyers are declining as a portion of all buyers…

“The share of U.S. homes sold to first-time buyers this year declined to its lowest level in almost three decades, raising concerns that young people are being left out of an otherwise strong housing-market recovery.”

“First-time buyers fell to 32% of all purchasers in 2015 from 33% last year, the third straight annual decline and the lowest percentage since 1987… The historical average is 40% (according the National Association of Realtors, which has been tracking the data since 1981).”

“The median price of previously built homes sold in September was $221,900, up from 6.1% from a year earlier, according to the NAR. The median price for a newly built home rose to $296,900 in September from $261,500 a year ago, according to the Commerce Department.”

“The short answer is they can’t afford it,” – Nela Richardson, chief economist at Redfin, a real-estate brokerage.

“A quarter of first-time buyers said their biggest challenge was saving for a down payment. Of those, a majority said student loans were the main obstacle.”

“Economists also said rents, which have jumped 20% over the last five years, have made it difficult for younger households to put money aside.”

“The typical first-time-buyer household earned $69,400, up from $68,300 in last year’s survey. They purchased a 1,620-square foot home costing $170,000. The median repeat buyer purchased a 2,020-square-foot home costing $246,000.”

Other Interesting Articles

Bloomberg Businessweek