Category Archives: Current Market Thoughts

the Mainstay Marketfield fund

December 29, 2014 By in Current Market Thoughts, Getting financial advice, hedge funds, index funds, liquid alternatives Tags: , , , , , , , 3 Comments

I was reading in the Financial Times over the weekend about the Mainstay Marketfield mutual fund.  It gathered the most money of any mutual fund in the US during 2013, $13 billion, but it is now apparently suffering sharp redemptions after very badly underperforming in 2014.

Mainstay Marketfield

Mainstay Marketfield is the leader among “liquid alternative” funds, which purport to provide the hedge fund experience to ordinary investors like you and me through a mutual fund.  Why exactly that’s a good thing is another issue, since hedge funds as a class appear to underperform an S&P index fund on a regular basis (on top of this, the information the public has about them comes from their voluntary self-reporting, whose accuracy academic research has shown to be suspect).

Anyway, on the idea that one can learn a lot by examining things that go wrong, I thought I’d take a look at Marketfield.

Here’s what I found by spending a couple of hours looking at the fund’s SEC filings, the managers’ backgrounds, the Mainstay fund family site and charts of the fund’s performance.  The picture may not be complete, but it’s what I think a careful observer would come away with:

–the lead manager has worked in finance, mostly as a strategist, for 34 years.  His colleague has 21 years in the business.  As far as I can see, neither had any training/experience/supervision in portfolio management before they opened the Marketfield fund in 2007.

–the fund opened to the public in March 2008.  It had a period of strong outperformance vs. the S&P 500 during the stock market decline of late 2008-early 2009, when its losses were only about half those of the market.  From the bottom in March through mid-2013 it matched very closely the performance of the S&P 500.

–in 2012, Marketfield sold itself to the Mainstay fund family of New York Life.  NYL retained the Marketfield managers as subadvisors–meaning the two continued to run the fund.  Sales of fund shares skyrocketed once Marketfield hitched itself to the NYL salesforce.

–in late summer 2013, the fund began to underperform the S&P fairly steadily.  From the beginning of September 2013 though last Friday, the A shares were down by 8.9% vs. a gain by the S&P of 25.6%.  Factor in a 5.5% sales charge holders paid to obtain shares and the results are that much worse.

What happened?

The managers appear to me to be envisioning a world of runaway inflation of the type that beset the US in the late 1970s.  In such an environment, it would be important to own shares of companies that could raise prices at an inflation-beating rate and to avoid those that could not.  In the Seventies, the “bad” sectors were Healthcare, Utilities, Staples and Consumer Discretionary.  The “good”: ones were those that held  hard physical assets, like industrial plant and equipment, real estate or mineral resources.

In the 1970s, financials were losers;  they issued mostly fixed-rate loans, and they were constrained by government regulations that capped the interest rate they could pay for deposits.  In today’s world, those restrictions are gone; loans are typically floating-rate; and the banks can be involved in brokerage/investment banking.  So, arguably, financials would be winners if inflation were to accelerate strongly.

Whether this was their thinking or not, this description fits the portfolio they created.

my look at the portfolio

on the long side

The Marketfield portfolio held/holds Financials, Industrials and Materials.

It has no Healthcare, little IT, no Staples, no Utilities (all of which have been the stars of 2014).  It also has little Consumer Discretionary and almost no Energy, both of which have been good things.

on the short side

The fund shorted Utilities, Staples, and Retail.  It also appears to have winning bets against the euro and the yen, the latter offset by significant holdings in Japanese stocks.

What I find striking is that while the market has been going against Marketfield for over a year, the portfolio strategy I see is basically unchanged.

more going on

There’s also more going on than I’ve been able to see.  Everything I’ve said until now would lead me to believe that the fund’s year-to-date return should be around zero  …not -12+%.  The long US stocks should be up 5% -10% (the only sector in negative territory is Energy).  I’m figuring that shorting industries that are, say, +20%, wipes out those gains, but does little more damage because the shorts are a lot smaller than the longs.

So something else is happening.  I don’t know what.  Broadly speaking, the reasons may be staring me in the face in the quarterly SEC filings I’ve seen (the stock selection looks uninspired, and maybe a little weird–of the holdings, I own only INTC and SPLK–but it’s almost impossible to lose 12 percentage points through bad stockpicking, particularly with the large number os stocks the fund holds).  Or there could be transactions that are opened and closed within the quarter and therefore don’t appear in the quarter-end statements.

my take

Th Mainstay site contains a Barron’s reprint from October in which the author touts Mainstay Marketfield as having double the returns of similar long-short funds since the market bottom in 2009.  Hard to believe that other long-short funds have lagged so far behind the S&P.

I find the $5 billion in redemptions (about 30% of peak assets) the FT says Marketfield has had ito be a stunningly large amount for a load fund.  My experience is that even in deep bear markets load funds have redemptions of maybe 10%.  This implies to me that neither the financial advisers who recommended the fund nor the clients who purchased it really understood what they were buying.

What I find most odd is that NY Life, which presumably has an older and more risk-averse clientele, should have chosen Marketfield to offer to its customers.  What’s odder still is that the move was spectacularly successful as a marketing move–until the wheels came off the performance.

It will be interesting to see if Marketfield can stage a comeback.  If the FT is right about the extent of redemptions (I presume it is; I just don’t know), the first indication will be whether the managers use the selling they have to do to reshape the portfolio.  Standard procedure would be to take some of the edge off the losing bets.  To my mind, “staying the course” would be the worst thing to do (personally, I think the runaway inflation idea is just wrong).  We’ll see when the next SEC filings come out next month.

 

 

 

 

natural gas in the US: the “other” energy story

December 26, 2014 By in Current Market Thoughts, Energy, Industry Analysis Tags: , , , , , , Leave a comment

The US is now producing about 70 billion cubic feet of natural gas daily.  On a heat-equivalent basis, that’s equal to around 10 million barrels of oil.

When I was a starting-out energy analyst in the late 1970s, natural gas and crude oil sold for roughly the same amount per Btu.  In fact, in some instances, natural gas sold at a premium.  That hasn’t been true for a long time.  Up until July of this year, natural gas was selling for about $4.50 per thousand cubic feet (Mcf).  That’s the equivalent of $30 a barrel oil.

Why the huge price difference?

In the simplest terms:

–natural gas is a good substitute for oil as a heating fuel or for generating electricity, but it has made only small inroads in transportation, and

–because it’s in gaseous form, it’s harder to get from place to place.  Gas typically requires a pipeline, which is expensive and suffers from the NIMBY syndrome.

Even though the prices of crude and natural gas have going their separate ways for many years–with gas being consistently much cheaper than oil, natural gas, too, has had its own price collapse over the past six months.  Even at what should be a seasonal peak, natural gas is now going for $3.50 an Mcf (the equivalent of $23.50 a barrel), down by almost a quarter since summer.

The two price slides have one factor in common–an increase in production from hydraulic fracturing.  The other is mostly a gas thing–unusually warm weather in November and December  For what it’s worth, predictions are for continuation of the mild weather until spring.

The main effect of the natural gas price slide has been the obvious one–more money in the pockets of gas consumers.  But there have been several others.  Imports of natural gas from Canada are down.  Imports of high-cost liquefied natural gas (LNG) have dropped sharply.  The advantage that the EU’s petrochemical industry, which uses oil as its main feedstock, had achieved over its US counterpart, which uses gas, has abated.

my take

This is a situation where effects are asymmetrical.  The price decline is very bad for domestic natural gas producers. While it persists, demand for imported natural gas should be close to zero, although minimum “take” provisions of long-term contracts may force importers to buy at least some amount.  Bad for them, too, unless their customers ar contractually obligated to take the pricey stuff.

Because gas is hard to transport, this is a US phenomenon.

We use about 20 million barrels of oil in the US each day.  We use the equivalent of another 10 million in the form of natural gas.  On a dollar basis, though, gas amounts to only about 20% of overall hydrocarbon spending.  So the positive effect of the natural gas price decline will be much smaller than for oil and will be concentrated mostly in the Northwest and Midwest, where the weather is colder and where the pipelines terminate.

 

 

 

a bad year in the US for active equity managers

December 24, 2014 By in Constructing a Portfolio, Current Market Thoughts, Portfolio management Tags: , , , , , Leave a comment

Too much traffic and too much last-minute bricks-and-mortar shopping mean that I’m only getting around to this post late in the day   ..and that this one will be short.

 

Reports I’ve been reading over the past month or so say that 2014 will turn out to be a very bad year for active equity managers, in two senses:

–a larger proportion of managers than normal are underperforming their benchmarks.  The figure I’ve heard tossed about is a whopping 85% vs. a more “normal” 65%;.  Also,

–the degree of underperformance is more severe than in typical years.

I’m assuming that the 85% is before fees.  The ideas that underperformance is worse across the board than normal suggests that the number of underperformers before fees could be as high as 75% – 80%.

Two questions:

–since investing is a zero-sum game, whose pockets are filling up with the money active professional managers are losing to the index?

–wha makes this year so different?

Since index funds by definition neither win nor lose vs. the index, the underperformance of professionals must end up either as fee income for middlemen (brokers, marketmakers) or dor investors who don’t publicize their returns.  The largest portion of the latter class is individuals, although I find it hard to believe that you and I are beating the index by enough to make such a big dent in professionals’ results.  On the other hand, I have no better answer.

The second point is more interesting, I think.  On a sector basis, I suspect that professionals had too little IT and too much Energy.  2014 has been a recovery year for large-cap last-generation tech like MSFT (+28%) and INTC (+44%).  AAPL, which makes up 3.5% or so of the S&P is up almost 40%, as well.  Not having these names would have been costly.  As to Energy, it’s possible that many pros bet heavily on rising crude oil prices through offshore drilling companies and unconventional oil sources like tar sands and shale oil–all of which would make the holder exceptionally vulnerable to price declines.

ln my strategy posts, I suggested that, because 2015 would be the first year in a long time in which government policy would not be clearly stimulative around the globe, the fundamental question of whether the near-term market direction will be up or down won’t obviously be “UP” for the first time since early 2009. Not knowing in advance whether to be aggressive or defensive would make portfolio structuring that much more difficult.

In hindsight, maybe the first year of no one-way bet has been 2014.  If so, it’s possible that this year’s performance by pros isn’t the outlier.  Maybe 2010-13 are.  I wonder, in other words, if this year’s poor active manager performance is a harbinger of what the future has in store.

More on this topic after Christmas.  Now to present wrapping.

HAPPY HOLIDAYS!!!

oil: will falling prices reduce supply?

December 2, 2014 By in Current Market Thoughts, Energy, Industry Analysis, shale oil Tags: , , , , , , , , Leave a comment

Ultimately, yes   …but only at lower prices than today’s., I think.

With any mining commodity, price declines normally end only when the highest-cost firms have to pay more to produce the commodity than they can sell it for.   Even then, if a production process is hard to restart or if the producers fear losing skilled workers permanently if they shut down, production often continues for a period even though cash flow is negative.

Petroleum has been an exception to this rule.  Oil had a period in the early 1980s when Saudi Arabia reduced its oil production dramatically in a vain bid to stabilize prices.  But its efforts were undone by other members of OPEC who agreed to cut production, too, but upped it instead to fill the vpoid left by Saudi cutbacks.  It took Saudi resumption of production and a consequent plunge in prices for the others to fall into line.  This time around Saudi Arabia has made it clear it won’t repeat its production-cutting mistake.

If cartel action won’t stop the current oil price decline, then we’re left with normal commodity forces to do the job.  The most likely production to shut down for cost reasons is output generated through hydraulic fracturing in North Dakota and Texas.  Estimates of cash production costs for fracked wells ranges from $40 – $60 a barrel.  In theory, therefore, production won’t be taken off the market until prices reach $60.  Even at that level, however, only a small amount of output will probably be lost–not enough for price stabilization.

One wild card:  bank loans.  Typically, smaller oil exploration companies of the type that have been successful with fracking try to boost their returns or speed their expansion by leveraging themselves financially.   Except in times of speculative excess, bank loans.to exploration companies contain restrictive covenants.  These normally mandate that the explorer must maintain reserves with a value of, say, 3x the amount of the loan.  If the value of reserves falls below a certain minimum, say 2x the value of the loan, the borrower is required to devote most or all of its cash flow to repaying its borrowings.  In other words, it can no longer pay a dividend to shareholders nor can it spend money on new drilling.  This last is potentially a big issue for frackers, whose wells tend to have relatively short productive lives.

My guess is that borrowings of the type I’ve just described will ultimately be the reason the oil price ultimately stabilizes, by halting the growth of fracking.  Two ways to gauge whether this is happening:  dividend cuts, and reductions in the number of new wells started.

yesterday’s OPEC meeting: no production cuts = oil below $70 a barrel

November 28, 2014 By in Current Market Thoughts, Energy, Industry Analysis Tags: , , , , , , Leave a comment

Yesterday’s OPEC meeting ended without an agreement to withdraw output from the market in an attempt to halt the recent sharp crude oil price decline.  This should have come as no surprise   …but it did, at least in the sense that oil prices–and oil-related stock quotes–fell further on the announcement.

In its earliest days, OPEC was badly understood by large oil-consuming countries.  It had greater solidarity than the garden-variety economic cartel because it was at heart a political–not an economic–entity.  It’s main goal was to end exploitation of producing countries by the big international oils, which made gigantic profits while paying the producers a pittance for their crude.

But even in those heady days for OPEC, there were significant divisions within the group.  Members who had small reserves and pressing government fiscal problems wanted the highest possible current prices.  In contrast, others, like Saudi Arabia, with long-lived reserves and better government finances, wanted to keep prices low so consumers wouldn’t start to seek out petroleum substitutes.  Often the result of these divisions was leaky agreements violated by smaller countries and made to work chiefly through greater-than-promised cutbacks by Saudi Arabia.

Today, there are many more non-OPEC oil producers, like Russia, Brazil or the US.  It’s also a generation since OPEC broke the dominating power of the big oils–plenty of time for institutional memory of past oppression to fade.  In addition, Saudi Arabia must know that the burden of enforcing any agreement would fall disproportionately on it.

Letting prices fall to the point where high-cost producers are forced out of the market is the only way any commodity prices stabilize, in my view.  In the case of oil, as far as I can see we’re nowhere near that point.

What I find odd is the negative commodities and stock market reaction.

(By the way, duinr the oil shocks of the 1970s, the US was the only developed country to fail to increase taxes on oil in order to discourage profligate consumption.  We chose instead to continue to protect a dysfunctional auto manufacturing industry.  If I’m correct about lower prices, we’ll have a chance to correct that error  Let’s hope we take it.)