A Different Perspective
Asking the Right Questions
The 80/20 Rule: Applied to Liverpool FC
In 1941, management consultant Dr. Joseph M. Juran made his observation of the “vital few and trivial many” whereby 80% of the effects is driven by 20% of the causes. (Apparently, in later years, Juran preferred “the vital few and the useful many” to signal the remaining 80% of the causes should not be totally ignored.) He named it the Pareto Principle after the Italian economist Vilfredo Pareto who observed in 1906 that 80% of the land in Italy was owned by 20% of the population. However, it is most commonly known as the 80/20 rule and has become an important rule of thumb used extensively in business but can be applied in all walks of life.
In fact, I find myself applying this rule in my search for the reason behind the sharp decline in the fortunes of Liverpool FC this season. Of the ten outfield players, I don’t think it is unreasonable to judge the SAS pairing of Suarez and Sturridge (20%) as driving 80% of the team performance, as they single-handedly finished off games in the first twenty minutes last season and provided a platform for their team members to excel. I have not lost faith in Rodgers and his philosophy but the club will have to assess their strategy of replacing the “vital few” with the “useful many” who have so far failed to deliver.
China’s central bank joins the easing party…
Adding to the euphoria in equity markets on Friday was the surprise cut in interest rates from China’s central bank, the People’s Bank of China. The one-year benchmark lending has been cut 40bps to 5.6% while the equivalent deposit rate was cut 25bps to 2.75%. This is the first interest rate cut in two years and a reflection of the deteriorating economic outlook. However, in the near term it is likely to be positive for Chinese equities, as investors continue to follow the lead of central banks.
Draghi talks markets up after weakest Eurozone PMI since July 2013…
The flash Eurozone PMI Composite Output Index, a measure of business activity in manufacturing and services, showed “the pace of economic activity fell to a 16-month low in November. The index fell from 52.1 in October to 51.4, the lowest level since July 2013.
Still, the major European equity market indices outperformed last week, rallying strongly on Friday as investors seized on a speech from ECB President Mario Draghi as a commitment to more aggressive monetary policy action.
In the opening keynote speech at the Frankfurt European Banking Congress Draghi concluded: “If on its current trajectory our policy is not effective enough to achieve this, or further risks to the inflation outlook materialise, we would step up the pressure and broaden even more the channels through which we intervene, by altering accordingly the size, pace and composition of our purchases.”
The German DAX equity Index rose 2.62%, bringing the weekly gain to 5.18%, the most since July 2013.
Equities and bonds higher but the real story is in the commodity markets
Global equity markets edged higher last week, with the major equity indices in the US holding at record high levels. The S&P 500 index, which accounts for approximately 80% of US equity market capitalisation, is up 9.5% since October 15th while over the same period the much quoted CBOE Volatility Index (VIX), the so-called ‘fear index’, has fallen sharply from 31.06 to 13.12. Asian markets outperformed last week with Japan’s Nikkei 225 Index rising 3.62%, helped by the weaker Yen. Bond yields in Europe continue to move lower against the backdrop of falling inflation expectations; the German 10-Year government bond yield closed at 0.79%.
While equity investors in general have shrugged off the October scare the real story is in the commodity markets, most notably the spectacular collapse in the oil price in recent months.
At a macro level, it provides an interesting dynamic because on the one hand it raises questions about global demand, adds to disinflation worries and pushes out the timing of any rate hikes. On the other hand lower energy costs could provide a boost to the economy via the impact of higher disposable incomes on consumption. While shares of energy companies have declined airline stocks have raced ahead; the NYSE airline index is up 28% since mid-October.
One final point on the recent oil price decline is that moves of this magnitude over such a short time period can be inherently destabilising, as higher prices budgeted by energy export-reliant countries and energy-related companies have failed to materialise.
Thoughts from Cambodia
On my recent trip to Cambodia I found myself thinking a lot about this notion of “capitalism” and “communism”, on many levels. After all it is a divide that has been behind much of the bloodshed of the 20th century. Viewed as alternative economic systems, it is clear that in the hands of people, staunch ideology is a dangerous thing, on both sides.
It was the illegal and secret bombing of neutral Cambodia during the Vietnam War by the US, vindicated by their ideology, which paved the way for the genocidal maniac Pol Pot and his Khmer Rouge to seize power in April 1975. Over the next four years, before liberation by Vietnamese forces, it is estimated that around 2 million people, 25% of the population, were killed or died from forced labour and malnutrition under his supposedly utopic communist ideology.
For anyone interested in the history I highly recommend this documentary, Year Zero: The Silent Death of Cambodia, filmed shortly after the fall of the Khmer Rouge when the West stood idly by, for fear of upsetting the power balance, as the Cambodian people died from hunger and disease.
The quote goes that “Those who fail to learn from history are doomed to repeat it” and the geopolitical landscape today shows that the world’s leaders have not learned, as their policies continue to foster an environment for extremism to flourish and human suffering to continue.Communism versus capitalism is just the sideshow; ultimately it is about power and with talk of a ‘new cold war’ the world seems to be moving backwards.
Interestingly, on Friday Russian president Vladimir Putin stationed four warships close to Australian waters as he joined the G20 meeting of world leaders in Brisbane. Unfortunately, countries like Cambodia, and in today’s world the Ukraine, are just pawns in the battle for power.
Xi – Abe Handshake: Awkward!
There is much written on the importance of a good handshake, a ritual that for some can speak volumes of a person. In a world where first impressions are imperative, a handshake can leave a lasting impression. The worst has to be the “dead fish” handshake; aside from being uncomfortable it just reeks of distrust and insecurity. The significance of the handshake as a mode of communication opens it to intense scrutiny in the public forum, where the manner of the handshake is construed by the media as conveying some meaning, as we saw last week at the Asia-Pacific Economic Co-operation (APEC) summit in Beijing.
The awkward moment of the summit was without doubt the handshake between China’s President Xi Jinping and Japan’s Prime Minister Shinzo Abe. Xi adopted a defensive stance and did not engage Shinzo who appeared to speak with him, conveying a message that much is still to be done to repair relations. The atrocities committed by Japan against China in the World War II era were abhorrent so Xi’s position is understandable. Maybe the message he conveyed was ‘you are lucky you have your big brother (the US) protecting you’!
Unsure of the type of handshake that fits the situation for someone you have no time for? You could always take the approach this cheeky Chelsea mascot did with Liverpool’s Stephen Gerrard in 2006. Classic!
Bank of England Inflation Report: Halloween Theme
In his latest inflation report press conference, Mark Carney, Governor of the Bank of England (BOE), struck a Halloween theme in his opening remarks. Since the last meeting he confirmed that “indicators across much of the advanced and emerging world have been moribund”, adding that “a spectre is now haunting Europe – the spectre of economic stagnation” and “in October financial markets took fright”.
Overall, the growth forecast is slightly lower, 3.5% this year, 2.9% and 2.6% in 2015 and 2016 respectively. Inflation is expected to remain close to 1% over the next year as disinflation persists while there has been some signs of real wage growth.
The central message of their guidance was “When Bank Rate does begin to rise, it is expected to do so only gradually and to remain below average historical levels for some time to come”, providing a level of clarity on interest rates which they believe “is helping businesses and households to focus on their day’s work, building the economic expansion, without being overly troubled by foreign nightmares.”
Adjusting to QE, is like life after Suarez!
Just as markets are struggling to adjust to life after QE, Liverpool have yet to come to terms with life after Luis Suarez. If “QE puts beer goggles on investors by creating a line of sight where everything looks good”, it seems Suarez made Liverpool fans, including myself, believe the players around him were better than they are.
Like the markets, the fundamentals always trump irrational exuberance and the loss of Suarez has brought us back to earth. Still, this week we welcome Real Madrid to Anfield in the Champions League, an occasion that should lift even the likes of our moody Italian!
There will no weekly missive over the next two weeks as I’ll be doing some on the ground research in Cambodia, one of the up and coming frontier markets. The Cambodian Stock Exchange has only two listed companies so I’ll mostly be on the beach!
QE to infinity!
Memories of 2008…
On Wednesday the volatility in financial markets had many recounting their memories of 2008. The CBOE Volatility Index (VIX), a key measure of market expectations of near-term volatility and termed the ‘fear index’, spiked to 30.88, up from 12.03 on September 18th, when the cracks first started to appear in the ECB’s plan to expand the balance sheet by circa €1 trillion.
As fear raged, most spectacular was the 35bps drop in the 10-year US treasury yield that occurred in minutes, hitting an intra-day low of 1.873% before stabilising and closing at 2.09%. However, the price action in bond markets and the sharp falls across equity markets was an eye opener for investors who have been complacent for some time now. The German DAX equity index fell to 8363 on Thursday, down almost 15% since the close on September 18th, while the German 10-year government bond yield hit a low of 0.72%. Those who reached for yield in Greece were really hurting as the 10-year government bond yield moved above 9%.
Central banks answer the call…
Eventually, the architects of this complacency on the other end of the panic button, the world’s major central banks, moved to reassure investors that they won’t have to go cold turkey if the withdrawal symptoms prove too much. Most notable were the comments on Thursday from St Louis Fed President James Bullard on delaying the end of the Fed’s bond purchase program (QE3), while on Friday the Bank of England’s Chief Economist soothed markets with the “lower for longer” tune. Who said divergence in monetary policy? Markets responded with glee, with many of the major equity indices recording their single best day this year.
The game is up…
I’ll just echo what I wrote recently on a possible delay of monetary policy normalisation. Some in the financial markets may view this as a positive, lower rates for longer, or even more QE, but in reality it would destroy any illusion of a self-sustaining economic recovery. QE to infinity……!
Market volatility: a natural occurrence
Periods of market volatility, like we have seen recently, can be a challenging time for investors, particularly those without a clear plan. The headline world we live in exacerbates that feeling of fear as the media reports excitedly about “stocks plunging” or “equity markets crashing”. Read More
