Gerald Ashley: 0:00

Hello and welcome to this edition of Equital Conversations. My name is Gerald Ashley and, as usual, I'm joined by my friend and colleague, george Cooper, and on this occasion we're very lucky to have a guest with us, michael Power. Gentlemen, welcome.

Michael Power: 0:17

Thank you.

Gerald Ashley: 0:19

Let's start off with a quick introduction about Michael. Michael has, I think I don't know if you'll thank me for saying this, but decades of experience across financial markets, particularly in emerging markets and with a particular focus on South Africa, where he's currently resident, and also the Far East, so a huge amount of experience for today's topic. I'm going to start by saying I feel slightly on the back foot here, because I know both of you gentlemen think that this term emerging markets is, to say the least, tired and might actually be rather inappropriate. George, some thoughts on that.

George Cooper: 1:02

Yes, I mean, if we look around the world, we've got a lot of economies that are notionally labeled emerging markets, which are actually leading the world in a lot of technologies. I mean, china is clearly leading the world in a number of key technologies these days, leading the world in growth, and yet we have the cheek to call it emerging markets. An emerging market, it's just to me. I sometimes, tongue in cheek, use a different term. I sometimes use emerging and submerging, with, obviously, the submerging being some of the more developed markets. But yeah, I think it's an out-of-date term and we should sort of consign it to history. But, michael, you're the expert in what I'd like to call the former emerging markets. What do you think?

Michael Power: 1:52

When it comes to mind that some of the characteristics that we always used to attribute to emerging markets was they had volatile and often weak currencies, they had fiscal incontinence, they had political turmoil and they had central bank governors who were frequently under threat. That pretty much describes the United States today. So it is completely and utterly inappropriate to call emerging markets emerging markets if you don't actually include the United States in the lot. I agree with you, george. I think it's outdated and I think it serves a purpose to corral people into an investment class that isn't really watertight, and I think it's a sort of bizarre form of home bias, particularly out of the United States, but perhaps more broadly out of the West. They're not one of us, so therefore we're going to call them emerging markets.

Michael Power: 2:49

Now, the term emerging is a sort of same compliment. I suppose it sort of feels as though they're coming, but at the same time, if you ask a lot of seasoned investors, particularly in the United States, they will not give emerging markets the time of day. So I feel as though it's a sort of home bias, and that home bias may or may not be tied up in the unwillingness to take currency risk. So that's, I think where we stand. But, as you say, george, that therefore excludes China and a whole host of other very interesting economies.

Gerald Ashley: 3:23

One kind of point there. The whole industry is not helping here, is it with various indices and ETFs, in blocks of currency, in blocks of equities mainly? Do you think that they need to go away or we just ignore them anyhow?

Michael Power: 3:41

Depends on who we is. I think the more sophisticated investor is indeed going away now from that and they're refusing to be corralled and I think George falls into that category but there are the retail investors who probably, if they do want to, as it were, go on holiday abroad, they are being corralled into these asset classes which, as I say, have lesser and lesser meaning and logic to them.

George Cooper: 4:08

I'd like to pick up on a point you just made, michael, which is comparing the characteristics of particularly the US economy now with what was used to characterize the emerging markets. Because one of the things I've been watching over the last I guess, a little bit more than a year or so is how, when you get interest rates going up, the currency is going down, and I'm talking about the dollar and that tends to happen traditionally when the markets are worried about the ability of the government to pay its debt. So that's effectively what's happening in the US at the moment, where we've got a crisis in confidence which is being exacerbated by the threats against Chairman Powell by Trump threats against Chairman Powell by Trump. We've got a deficit that's completely out of control there and really no sight of any political pressure to bring it back under control. It is all feeling very emerging market. It's feeling, dare I say, it's got echoes of Turkey around it.

Michael Power: 5:25

I couldn't agree more, but I am a foreigner and I am looking at it from abroad. If you speak to the people in Bloomberg here and CNBC land, they will tell you oh, but the S&P is up 10.5% this year, isn't it doing well, without acknowledging the same breath the dollar's down 10.8%, which basically means that the S&P, to foreigners at least, has gone nowhere. And I think the other thing is, of course and you know more about this than I do, george the bond market in the United States has not shown signs of health. I think it's now four years in a row in which it's down, which is, I think, almost 150 years of record. Now it's quite frightening what's happening in not just US bond market but, for instance, the Japanese bond market, another emerged developed market, which I think is showing signs of creaking, if not cracking.

George Cooper: 6:17

Yes, Well, I mean your point on the fact that the dollar has fallen as much as the stock market has rallied this year, but for the US US that is. I think that's well made. A lot of people are looking at the economic problems and struggling to reconcile why the stock market's going up, and to me the answer is quite simple. The stock market's not really going up. The value of money is going down and, of course, the price of a stock is just the exchange rate between money and the asset. So what we've got is a crisis of confidence in the US dollar and a crisis of confidence broadly in Western or formally developed market currencies, and that's why we're starting to see're seeing we're seeing symptoms of this across the board. We're seeing it in the gold markets, we're seeing it in the bond markets and we're seeing it in the currency markets.

Michael Power: 7:13

So it really is a broad-based theme the other thing to say is that, before we get caught up in the currency game as well, there's another straight jacket in the form of indexes that I don't particularly like, and that's the DXY. Basically, it's six Western currencies measuring against the US dollar, with no preference of any emerging market currency in the DXY, so there's no. Canada is the number one trade partner of the United States, but number two is Mexico, number three is China, but two and three are not reflected in the dollar basket, and I think this is flattering to deceive, because I think it's worse than the DXRY would actually have to believe.

Gerald Ashley: 7:51

So, george, I know your kind of ethos, if you like is this wonderful world of unconstrained investment, in that you're managing a fund that can range right around global equities. Do you think that is going to become the norm? Are we sort of just going to end up with a sort of, if you like, a global stock market, and then it will be graded by quality, credit, liquidity, of course, in the usual way?

George Cooper: 8:22

That's where I would like it to get to, but no, I don't think it's going there at all. Actually, because I think we've still actually got a rising dominance of indices and although a few people are starting to question the construction of these indices, most people are not. They're following the sort of offerings that are being given to them by the index providers and, of course, the beauty of the index providers is that, by definition, they mark their own homework. So people don't really notice that you're invested in the Western developed markets and you track the index, and tracking the index is considered a measure of success. So nobody really notices us as the Western economy sort of migrate their way downwards.

Gerald Ashley: 9:19

It's sort of part of investment responsibility off into the ether, in a way, when advice says you look, you know, I'm tracking index, what more do you want?

Michael Power: 9:31

well, it would be nice to have an investment view, perhaps I also think there's another aside from the index providers and I agree with george entirely there there's a, there's a vast array of consultants who derive their living from playing the indices and measuring us, and you'd have to start essentially starting to challenge their very existence if you moved into a world of unconstrained investing the way George is. So I think there's quite a lot of inbuilt inertia against making a radical change here. Inertia against making a radical change here.

George Cooper: 10:03

Yes, I'm pleased you brought the consultants in, michael, because this is what I sometimes call the donut problem. You've got all of these advisors and index manufacturers and even fund managers and they're all sort of sitting on the peripheral of the donut with nobody actually taking responsibility for the core, the center, which is the returns actually delivered to the investors. Everybody just wants to sort of look after a little piece, but nobody wants to take responsibility for what really matters.

Gerald Ashley: 10:38

Would this be shaken up through a really significant crash, digging into the mists of history, thinking back to 1987, and everybody blamed program trading. Now, of course, we've got a world with a lot of index following going on. Is there, do you think, a lot of passive or so-called passive money out there that would have an absolute heart attack if we dropped 25%? Or will they just roll over and say don't worry, in the long term it'll come back?

George Cooper: 11:14

I might be a bit cynical here, but I think they'll go. That's fine. We tracked our index.

Gerald Ashley: 11:19

That's what it says on the mandate. Michael, thoughts on that.

Michael Power: 11:25

Yes, I agree with George. I think there's a wider issue here as well, and that is that some people at least are trying to define what risk truly means. And if it's risk against the index and you still outperform a falling index, then you cry all the way to the bank. I think it also raises the fact that probably one of the most underestimated skills in the world of investing today is asset allocation between equities and bonds and currency with the overlay, and perhaps other assets like gold. And I think when you speak to individuals now about their house being an asset and their investments being an asset and some of the gold being an asset, so it actually resonates interestingly at that individual level. But when you actually go up to the level of the big asset managers and the mutual funds, they are so siloed between their various asset classes that no one is really thinking about asset allocation in a I almost hate this word holistic sense.

Gerald Ashley: 12:26

Yes, and I suppose, coming back to George's point, the only benchmark, if you like, that counts, is inflation. And so if you say, george, if all that's happening, your value of money is going down, it's not that your assets are going up, you're best, maybe, trying to tread water.

George Cooper: 12:44

Yes, well, I mean this comes back to one of my sort of long-held hobby horses, which is the asset allocation issue between bonds and equities. Particularly, there's been a huge pressure to push pension funds and insurance funds into the bond markets. But of course, over time, what those pools of assets need to do is preserve and increase purchasing power vis-a-vis inflation, and if you push them into bonds they tend to lose purchasing power against inflation, especially if you get inflation shocks, which is what we're getting now. So, yes, I think that's another aspect that really nobody's looking at it, and the consultants are not really looking at it either, but certainly the index providers are not thinking holistically about what a potential inflationary shock would do to these strategies over the next decade or two.

Gerald Ashley: 13:40

I mentioned very early on, or a few minutes ago, this issue of liquidity and maybe the Again, from a slightly outsider's point of view. Liquidity has often been an issue in I don't know how we're going to term them now the smaller emerging markets, if you like. Is that still the dominant factor, you think, michael, in a lot of investment decisions?

Michael Power: 14:05

Well, I think liquidity absolutely is underestimated and underrated. In fact, I go back to LTCM, where it wasn't an investment in an emerging market but an emerged market in the form of Danish housing bonds, if I remember right was the real problem that really brought down LTCM. And I do think that liquidity for the more sophisticated investor now is a huge part of their risk assessment. And there that ties back very neatly into emerging markets, because emerging markets, generally speaking, don't have particularly high levels of liquidity, or many of them, not all of them and I think that's the future is probably going to be in terms of the sort of unconstrained investing is risk is going to be heavily measured by liquidity.

Gerald Ashley: 14:53

It's a sort of virtuous circle, I suppose. If you can persuade enough people to get into a market to trade it frequently, you've got more people will get involved, you get more liquidity and the rest of it. And is that the problem? At what point do you think maybe the wider world will, rather than just dip their toe, but get much more involved in some of these markets which, as you said earlier, are pretty big markets, so-called emerging markets?

Michael Power: 15:22

I just want to tell a small story. I was traveling for Development Bank Singapore around the big markets of Asia recently and they were basically taking me to see the richest people in Asia who were on their books, and we had a number of dinners and there wasn't a single rich person in Asia that I came across who had a material exposure to the United States. Their answer was oh, there's so many opportunities at home. We can't afford to look at the United States with all the risk that that involves. But since then they've probably done rather well. So I think we are going to see that hope-buyer story challenged by the emergence of new blocks of investors elsewhere in the world and that's going to start fracking things up and that's where I think that the Braveview world will lie.

George Cooper: 16:15

I think that's an interesting point, Michael, and it brings me to a question I'd like to pose to you, which is related to a theme that we read about a lot in the papers and the financial news the de-dollarization theme and the rise of the BRICS block, if you like. It strikes me that this idea that everybody needs to do trade through dollar, through the dollar, is maybe that's just been a sort of bluff. Actually, we're now seeing countries doing bilateral trade in their own currencies, and it seems to be working reasonably well. Maybe we're about to discover that we don't actually really need a dominant global currency in the form that we thought we did. What do you think of that?

Michael Power: 17:12

I think we're seeing the fragmentations of the functions of money and, in particularly, money used as a medium of trade is discovering its own identity. And I think you're absolutely right. When India buys oil from the UAE now and sets it to dirhams, there's only one commission involved. It doesn't have to go into dollars and then from dollars into dirhams it's actually cheaper. It doesn't have to go into dollars and then from dollars into dirhams it's actually cheaper, it's quicker.

Michael Power: 17:36

Often and I think that that's more or more people are discovering, as you say, that actually it was an illusion before that you had to go via the dollar where trade is concerned. I think where capital flows are concerned, there's still a complication and I still think the dollar has sway, but I think its sway is slowly but surely being questioned, as two of the three asset classes, namely the currency and the bond market that represent the United States, have had not a very good recent period. So I think that people are starting to ask questions, and I know that the sovereign wealth funds of the Gulf are starting to ask questions about investing in US dollar bonds. So I think we are starting to see the fragmentation even of money as a capital matter. But when it comes to trade, you're absolutely right.

Michael Power: 18:29

And here the BRICs, to some extent, do indeed come in. They're discovering that they don't have to go by the dollar, and China is setting up some fairly straightforward ways in which they can deal into China. That's their preference, but it's not always China and someone else. As I said before, it's India and the United Arab Emirates and oil. So people are finding ways that they can trade with each other without necessarily involving the dollar, and I do think this is going to grow fairly dramatically. The question I would then ask beyond that maybe you can answer this, george is at what point does the fact people discover it's quite easy to trade something other than the dollar essentially infect the dollar as a capital currency?

George Cooper: 19:11

Yeah, I think we're already starting to see the signs of that.

George Cooper: 19:17

And don't get me wrong, the dollar is going to remain important, probably remain the most important single currency for decades to come. But the direction of travel is also that it is becoming less important. What we're seeing from the US administration is implicitly a sort of admission of this. We're seeing, you know, the tied up with the tariff negotiations is an attempt to try to encourage inward investment into the US, trying to wrap that up with the tariff negotiations. And also, I find fascinating the US push for the adoption of cryptocurrencies and particularly stable coins which, as we've said on these podcasts before, gerald, the stablecoins are really T-bill funds with a pretty wrapper on them. So the US is pushing to try and get these stablecoins adopted because it's a way of keeping dollar dominance or even expanding it. And at this point I'm in two minds. Part of me is saying, oh, this is a very clever play and this could be a huge success, and another part of me is saying this looks like, frankly, a desperate final roll of the dice to try and keep dollar dominance.

Gerald Ashley: 20:50

One thing of course it does is it pushes a lot of their funding into the short end. You know, suddenly you're not borrowing 30-year money, you're buying sort of two-year, three-year bills, all this sort of stuff, which must be an additional element, I guess.

George Cooper: 21:11

Well, that's growing in the markets because the US deficit is now and this is happening in other markets as well, the UK as well but the US particularly is now increasingly being funded in money market instruments, and the money market instruments are being bought in large part by hedge funds doing super leveraged carry and roll down strategies. So you've got the world's biggest borrower being funded with leverage by hedge funds, which are not always the longest term investors.

Michael Power: 21:47

I read a chat called Luke Raymond this morning and he described stable coins as a Hail Mary pass, and I thought it's a rather good description. For me, they're essentially a dividend stripping exercise by the issuer, conning people at a bank into the fact that you can buy a crypto with no risk. Oh, by the way, I'm just going to take the UST yield as my commission for offering you this fantastic service and, as you say, I think it all ends up crowding in money at the short end, the US Treasury curve, denuding the long end and making investment, by the way, extremely difficult to undertake. If all you're doing is investing on the basis of short-term money, I think it's an accident waiting to happen.

George Cooper: 22:37

Yes, and of course we forget, even if the US government can pull off this trick of constantly rolling its debt at the short end and they do have a great tool in the armory and that is that they've got a Fed that will ultimately roll it over for them Even if they can pull off that trick, it still leaves a problem. If you neglect the long end completely, how do corporates fund themselves? Because you don't really want a corporate that's building a factory with a 20-year life, funding it through three-month bills. It's not a sensible strategy. So ultimately, this does have real economic consequences for growth and investment spending.

Gerald Ashley: 23:28

I'm taking the view here that the US is I wouldn't say it's in the last chance saloon. But you know you're down to ever more complex juggling to make all of this work and you know there must be just risks in that. Michael, that maybe, I suppose, ties in with the views you had from Asian investors, that maybe they actually see all of this and say, look, they're seeing risks that maybe the rest of us are not seeing.

Michael Power: 23:59

I think, indeed it does. I think it ties in neatly to talking about that group of countries which we don't particularly like use the term, but that are classified as emerging markets, or if we could say the rest, because I do think investing longer term, they are looking for opportunities for real growth, they are looking for investment that does have a longer time horizon than Georgia's three months, and I think that's something very, very clear. I've just done a lot of work on what China's been doing in investing in both its energy and its infrastructure and I have to say I came away shocked at the level of investments taking place and the scale and the breadth of what they've managed to achieve over the last 10 years, when most of us haven't been watching.

Gerald Ashley: 24:47

Yeah, in a similar vein and just as a tourist not as doing proper research I had my first visit this year to Vietnam and equally particularly in Saigon. I was struck by the sheer growth of everything that was going on infrastructure, high-rise buildings and all the rest of it. And for those of us in Britain who have the joy of listening to British politicians keep going on about how we are world leading, two or three weeks in Southeast Asia I would have thought would shatter their delusions.

Michael Power: 25:23

Yes, I'm in one little stat. For the moment, china's building a new dam, the largest project they've probably ever undertaken in Tibet, and the hydrocapacity of that dam, once operational, will be greater than the whole United States hydrocapacity put together, and that's the sort of scale of what's going on. I mean, it's three times the size of the Three Bulges Dam, which is the world's leading dam. Interestingly, it's playing into electricity supply, which ultimately underwrites the new world of tech, and I think that the fact is that you cannot do those longer term investments in the United States to build out their electricity capacity if you're using three months money.

George Cooper: 26:03

I mean that new dam plan in China. When I first heard about that, one of the things that really struck me was not only that they were going to do it, but they were going to do it more quickly and much cheaper than Britain has failed to build HS2, a railway line between two cities that are not very far apart London and Manchester and they're going to get this dam providing massive amount of renewable electricity for less money than I think the planning application cost for HS2. So it is an extraordinary situation.

Gerald Ashley: 26:46

Gents, I think we're kind of coming up to our self-imposed limit of sort of 30 to 40 minutes. Michael, are there any particular points about let's still call them emerging markets? What are the key thoughts you could leave us with?

Michael Power: 27:04

Well, first of all, the variety. I think that trying to generalize about them is extremely difficult, but in variety lies opportunity, because there are going to be some good growth opportunities without too much risk attached. So I think, if you've got a mind to actually do the hard work, there are going to be some great investment opportunities over the next 10 years, particularly when set against the dead hand of debt that is essentially weighing or sitting on developed markets, particularly Europe, the United States and Japan. So I think that it's just the variety and it's part of that variety issue that makes using a simple term like emerging markets a problem. But it's the variety.

George Cooper: 27:48

Interesting George any final thoughts on that? No, I'm in complete agreement with Michael here on that. No, I'm I'm in complete agreement with michael here. I I mean just looking at the way we find ourselves investing, particularly in the last year or so. We're finding ourselves looking not necessarily for companies that are listed in in the, the developing markets or the emerging markets, but companies that have big businesses and growing businesses in those regions. That's where we're seeing the dynamism in the world. We're just finding more opportunities there.

Gerald Ashley: 28:27

Which I think is a sort of positive point to finish on. Well, we have a little dynamic on this podcast where you're always positive and I'm always a bit more pessimistic about things. But there we are. We come to our final little bit and we're going to ask Michael to join in. But, as ever, I'll barge in and go first, and that is book recommendations. I'm going to recommend a book called the Railway King, a biography of George Hudson, by an author called Robert Beaumont. It's a really good, easy read in terms of both the history of the UK Yorkshire, if you like to start with, in the 1840s and 50s. It completely explains the railway mania and the absolute explosion of schemes and projects and dodgy financing and lovely early games like raising capital and immediately paying a dividend without even putting a spade in the ground. So it's rather a good read.

George Cooper: 29:33

The Railway King by, uh, as I say, robert beaumont, george um, okay, I'm going to unusually, uh, start with a fiction book, or at least it's partially fiction, I think. Um, and it's the mandibles by lionel shriver. Uh, lionel Shriver, I discovered recently, is actually a lady, a very famous American author. This is a fascinating novel and it's very related to what we've just been talking about. It's set in the near future in America, in the aftermath of a US sovereignS sovereign debt default and the US losing its status as the world's reserve currency. And it sort of talks through I guess it's several generations of the Mandibills' family in the aftermath of this massive economic shock and how their fortunes develop. And it does rather towards the end. I'm not going to give too much of the plot away, but it moves into the rise of what I call techno-tyranny and how technology is used to increase taxation on the American population as it shrinks due to a falling birth rate. So it's related to the demographics we've been talking about.

Gerald Ashley: 31:02

I'm beginning to think you might have written this actually, george.

George Cooper: 31:06

It's the nearest I could say, or the one word summary of it I would say, is it feels like it's the sequel to 1984, right?

Gerald Ashley: 31:18

um, michael, follow that, then um well it's.

Michael Power: 31:22

It's not a work of fiction, but it might be, or at least might be soon. Um, and that is uh, kenneth rogoff's, uh, our dollar, your problem, which obviously echoes back to a very famous event in the 1970s. The interesting thing about the book he's not a person you can dismiss when he comes to talking about currency. He's especially not a person you can dismiss when it comes to talking about the dollar. The title of the book ends up actually being Incorrect Our Dollar, our Problem. And I think that's what echoes back to something that we said earlier. I think de-dollarization is coming. It's going to happen in different parts of the idea of money more quickly, like, for instance, we were talking about trade and less so in capital transactions, but nevertheless it really is a heavy-duty warning to the American establishment that the writing is on the wall.

Gerald Ashley: 32:18

Well, we've offered three very sort of different books there, from the past into the future and, of course, as you just say, maybe the very near future. Michael Michael, thank you very much for coming along and joining us on this podcast. I think we're done for this particular episode. I think we may well persuade you, if we can persuade you, to come back on again, because there's so much in the area of your expertise we could talk about, which would be interesting. But for now, gentlemen, thank you.

Michael Power: 32:53

Thank you very much.

Gerald Ashley: 32:54

Thank you.