I’ve been dancing around the pension issue for public employees in various states, including my home state of New Jersey, for some time. I use California as a barometer because it’s a big state and has lots of public disclosure about its pension situation.

To my mind, state workers tend to get lowish salaries, but relatively high pension benefits. And they tend to have defined benefit (rather than defined contribution) pension plans, meaning that on retirement they get a clearly stated annual payment, usually a percentage of salary, for as long as they live.

My observation is that, ex the federal government, public pension plans tend to be underfunded. This is not the house-on-fire issue that a privately held company would be facing. That’s because the state government has the power to raise taxes to cover any shortfall. This, of course, would not be great for the reelection prospects for anyone who employed this measure.

There’s also the issue that the stock market–arguably the source of the best long-term returns–has a tendency to raise and fall with the national economy. The traditional formula has been that returns are linked to the presidential election cycle, with 2 1/2 years of up and 1 1/2 years of down (or at best sideways).

This means that there will be times when even a well-funded pension plan will look like it’s in trouble.

Hence the appeal of private equity, which promises both extra-high returns and, because the investment aren’t publicly traded, no reflection in pricing to the occasional bad moods of Mr. Market.

There is a tradeoff for this apparent stability, as there is for any financial endeavor. In this case, there are two: high fees, and pricing is done, in effect, by the purveyor of the investment services.

So a headline in this morning’s New York Times really caught my eye: Private Equity is Stuck with 33,575 Unsold Businesses.

Hard to know how widespread this issue is or how defined benefit plans will deal with it. To my mind, it argues for a higher future allocation of funds to public markets.

This is a stock guy’s perspective, and although I’ve been heavily involved in Asian stock markets in general, and Japan’s in particular, I’m not a fixed income expert.

Having written that, my understanding is this:

the simplest case

–the Japanese 10-year government bond yields 2.8%. The comparable US Treasury yields 4.6%. That’s a 160 basis point yearly difference. Why not, then, sell Treasuries, use the money to buy JGBs and enjoy the yield pickup? If we had all done this in early 2023, however, the spread would have been between 3.4% on Treasuries and less than 0.5% for JGBs.

In addition, the dollar value of the yen has fallen from about 115 to the dollar to almost 160–something like a 30% slide. Anyone who shorted JGBs three years or so ago has picked up 5%+ on the interest rate differential plus almost a third on the yen’s decline.

but why stay simple?

…that is, why not short the JGB and buy, say, stock in Nvidia? If you did that in early 2023, you’d have made 10x your money on the stock selection, while only needing to buy back yen worth 70% of your initial loan.

The US has recently enter the forex market along with the Japanese central bank to try to prop up a sagging yen. Interestingly, the Financial Times has written that the US has not sold dollars to buy yen but has used euros held by the Fed instead. Assuming, as I do, that the FT is correct (after all, it is owned by a powerful Japanese media conglomerate), I think this means that Washington fears that dollar-based entities, like hedge funds or private equity, have done enough of this that triggering an unwind could get ugly pretty quickly. Ugly here means large-scale selling of dollar-denominated instruments like Treasuries or publicly listed domestic equities and buying yen with the proceeds. This, of course, would not be in the same league as starting a war in Iran without doing a routine ammunition check, or ICE killing citizens, or shrinking the workforce through arrests and deportations. But starting a steep stock market decline would still be very visible, as well as another sign that Washington today isn’t chock full of the best and the brightest.

I’ve just updated my Keeping Score page for market results during July.

Overall, the Energy sector was up strongly, as Iran continues to outthink the Washington high command in the latter’s attempt to destroy Iran’s nuclear program and/or seize control over oil coming out of the Middle East.

On the other hand, the IT sector fell to the bottom of the pile, as its main constituents showed both sharp up and equally sharp down momentum during the month. July was also marked by the collapse of a highly leveraged investment fund, Situational Awareness. Focused on AI, SA was apparently unable to meet margin calls during last month’s ups and downs among IT sector names.

In the mid-1980s I was managing a relatively large portfolio in the Pacific Basin ex Japan, one dwarfed by the Kuwaiti Investment Office, but not really anyone else. On the other hand, prospects for me to work on bigger markets were close to zero. One day I got a call from a much smaller, relatively obscure, firm looking for someone to turn around a train wreck of a global fund. I took the job.

My predecessor had left drawers full of antacid medication …and very little in the way of files on the fund’s holdings. Lots of charts, though.

It seems that his overriding investing idea was to buy companies whose stock had recently experienced an enormous collapse, based on reading the stock price chart. The files, which contained pretty much nothing but the charts, revealed what I think was the heart of his demise.

Brokers realized very quickly what he was looking for. So they fiddled with the X- and Y-axis of the charts he wanted–stretching out the Y and contracting the X–so that just about any company showed a massive stock price drop, followed by sideways movement. This motivated him to buy all sorts of junk.

I think this is an essential truth about charts: in a world where the SE or its foreign equivalent mandates that relevant data be disclosed and where audited financials are required, chart reading is at best a secondary skill. And you should at least have a minimum of awareness about how the charts are constructed.

(An aside: things ended up well for my train-wreck fund: one of the 30 or so dud stocks accidentally went up a lot on a legal change in Spain; I got to haggle with Li Ka shing in offloading another; a third, which would normally have taken years to unload, ended up as a key block in a weird foreign bank takeover… And the fund was small enough that mid-cap stocks in Hong Kong and Tokyo could make a big positive difference.)

There are two charting indicators that I think have merit, though:

–odd-lot short sales, which are a fabulous contrary indicator, and

–support and resistance, which are basically levels where there’s been lots of buying in the past (support) as well as levels where there’s been significant selling (resistance).

This has a bearing on IT stocks in today’s market. They’ve had massive selling over the past weeks. But just as trees don’t grow to the sky, they also don’t sink below ground level.

My guess is that what we’re seeing today is IT stocks, chip and other component stocks in particular, hitting support.

The original argument for private investing, as opposed to holding publicly-trades stocks and bonds, made by the Yale economics department a generation ago, was two-fold:

–universities with strong endowments were, in theory anyway, paying an unneeded extra premium for investments that had instant liquidity, the endowments had no need for. Sort of like going to a dealer and buying a car with a convertible top that you knew in advance you’d never use. Universities didn’t need instant liquidity. Therefore, it should be able to get higher returns by finding things to buy that weren’t that liquid. Arguably, too, companies without publicly traded equity should be willing to sell shares at a discount to their intrinsic worth

–arguably, early entry into companies with superior growth potential would pay off unusually well as they matured and either became more liquid by going public or were acquired at a premium price buy a larger rival

It isn’t a great stretch of the imagination for one to go from prime private equity assets to private debt and to private credit–and to argue by analogy (a weak way of operating, according to Aristotle) that the same kind of premium should accrue to them.

One of the main continuing attractions of private stuff is that there’s no requirement for their values to be calculated every day, based on the results of public trading. Under normal circumstances, if the S&P 500, a recession that pushes the S&P 500 down by, say, 25% over a number of months there would arguably be no need to mark down private equity/debt values as well.

Most entities other than governments and unions have dealt with ERISA rules on pensions by shifting from defined benefit plans to defined contribution–from a promise of a pre-determined level of payments by the pension sponsor, to a promise of steady contributions to a pool of money that becomes the employee’s on retirement.

Sponsors of traditional pensions know that public markets tend to yo-yo with the business cycle–in what we all hope with be a jagged upward path that may be +30% one year and -20% the next. But this also means that two down years in a row for the public markets can give the impression that the employee pension plan is seriously underfunded. The fact that private equity doesn’t make Mr. Market adjustments to the downside in these regularly occurring situations must be a considerable relief to politicians who might need to add funds to erase the appearance of weak solvency.

What I find most interesting about the private markets is that as the Trump administration has attacked higher education endowments–Yale, in particular (where I spent six years as a graduate student)–the plans have apparently found that their investments were unable to be sold at prices equal to or above their carrying values. Not necessarily a crisis, but food for thought.