Friday, 24 February 2017
Last updated 8 min ago
Mar 21 2011 | 10:12am ET
Nicholas Colas, in his capacity as chief market strategist for financial technology firm ConvergEx, writes daily market commentaries with titles like “Taking the ‘Fun’ out of Tax Re(fun)d” and “When Gas Prices Hit Your Eye Like a Big Pizza Pie.” The pieces are wide-ranging and thought-provoking and often cite unusual indicators to evaluate market health (silver sales, anyone?). The year 2011 has given Colas lots of material for analysis. FINalternatives’ Senior Reporter Mary Campbell recently spoke with Colas about the macro issues of concern to investors today.
Could you tell me something about your background and about ConvergEx?
I was an archeology undergrad at Haverford College, but ended up working summers at a mutual fund company called Alliance Capital (this was the mid- 1980s). Rather than pursuing an advanced degree in archeology, I went to work at Alliance full time after graduation and ended up really falling in love with capital markets and stock picking. So I went to University of Chicago to get my MBA in statistics and finance. After that, I landed at First Boston and spent the next nine years as a stock analyst covering the autos, so I got to see a global and very cyclical industry, and that was quite interesting to me. I was a senior analyst my whole time there, so I covered GM, Ford, Chrysler and a lot of the suppliers. I also covered foreign companies, so it was a great overview of global capital markets and a deeply cyclical and capital intensive industry. I spent three years after that at SAC Capital, working for Stevie Cohen, as an analyst and portfolio manager, then another year at another hedge fund. After that I came back to the brokerage world. My first stop was at a firm called Rockdale Securities and then I came to ConvergEx a little over four years ago to be the director of independent research and chief market strategist.
ConvergEx is a technology provider to institutional investors all around the world. The products that we offer are productivity tools to give traders, analysts, and operations professionals more efficient workflows in their jobs. We have an order management system called Eze Castle that’s used by over 400 of the largest hedge funds around the world for portfolio management, trading, compliance and operations. We have the RealTick execution management system, we have commission management systems, and we have state-of-the-art options technologies, just to highlight a few of our other offerings. And if a client doesn’t want to use our technologies themselves, we have the capabilities to use it for them on their behalf.
You use some interesting, off-beat indicators to measure market health, can we talk a bit about those?
I write a daily piece where I try to dig a little deeper and think about what effects the financial crisis and the subsequent recovery have had, not just on the static economic indicators that we all look at, but on consumer psychology and on different ways that people look at very elemental notions. “What is money? What is savings? What asset classes will increase/decrease in value?” Some of the commentary is tongue in cheek, but all of it is really trying to get at deeper issues that aren’t really addressed every day in the financial press or standard market commentary.
What are the big macro events driving your clients’ thought processes on central markets?
It seems like we’ve had a major crisis every 10 days or so since the beginning of 2011. The tragic events in Japan are going to cast a very long shadow on capital markets in ways that are essentially impossible to predict just now.
The Middle East has been a constant source of new tensions. You know, it went from countries that had very little impact on oil markets—Tunisia and Egypt—and now we’re dealing with our first really legitimate oil exporter – Libya - that’s going through a political crisis and what the end game there might be is still very uncertain.
There’re some simple things, like, the U.S. economy will not grow as quickly if oil is $100 a barrel as if it’s $80, that’s the simple answer. The more complex issue is what happens to inflation? Because, on the one hand, oil prices going up should be inflationary, because oil is an important component in transport and in CPI calculation; however, if you dampen the economy quickly enough you’re not going to have a lot of inflation. So what does that do to bond prices, as an example; are we going to be bullish on bonds, because the economy is going to grow more slowly? Or are you bearish on bonds because this is going to spark a lot of inflation throughout the entire economy? We know oil prices are going up, the easy answer is that equities are maybe not be the best place to be. The more complex question becomes, what does it do to the macro economy and what does it do to security and asset classes like bonds?
So, that’s Japan, oil and the Middle East, is there another factor that’s of concern to investors right now?
Food inflation is another very hot topic right now and that’s where the developed world and the developing world take different paths. Food inflation is a result of rising commodity prices and that’s an outcome both of more demand from emerging economies, which is good, they’re getting wealthier so they’re demanding better quality foodstuffs, more meat, chicken, poultry, things like that. But, we’ve also had a whole period of easy money that has pushed a lot of money into speculative commodity positions. So, people are buying corn not just because they want to feed a chicken, they’re buying corn because they think corn is going up. The two of those things together are creating a lot of food inflation.
It’s not a big issue in the U.S. If you look at the CPI, the most basic measure of inflation, you have a situation where food is 8% of the US CPI, not a big deal, but that’s the lowest number of any developed or emerging economy, it goes straight up from there—in Europe it’s [about] 15%, in China it’s closer to 30%. So food inflation is not going to be a big issue in the U.S. [but] it is a huge issue in emerging economies: China is 30%, India is closer to 50%. Not only does it [raise] a simple order of magnitude question, which is, what does that do to global inflation (obviously, it’s bad) but…there’s been a lot of commentary that says U.S. Federal Reserve Chairman Ben Bernanke is at least indirectly responsible for Tunisia, Egypt and now Libya because food inflation was the straw that broke the camel’s back in terms of social unrest. He gave a speech in Paris during the G20 ministers meeting where he disagreed with that, but I think he’s in the minority. I think most people think he did play a supporting role.
Is there another concern?
Well, if you want to lay over a really big picture thought which I don’t think has really been addressed yet, it’s: What will be the shape of Middle Eastern politics for the next 20 years? On the one hand, you could have a more democratic version of the old system, where you have a military-controlled political economy that is fairer, that people feel more engaged in. On the other hand, I think most U.S. policymakers worry that you’re only going to have one election in any of these countries that will yield a majority of Muslim fundamentalists who will then cancel every subsequent election.
You don’t want a president for life who has strong Muslim fundamentalist leanings because then the worry [is that the country] becomes a safe haven for global terrorism. Muslim Brotherhood in Egypt has 30% to 50% popularity, by everything I’ve read. If elected, would they then tear up the Camp David accord? And there is a kind of a glide path to a much more problematic situation. If the Muslim Brotherhood gains power in Egypt and cancels Camp David, will we find the Middle East on a war footing again? There’s just no way to know and it’s going to take a long time to play out.
I guess the question is, given all of this uncertainty, how do investors invest?
I think the answer is most macro investors invest along very broad themes; where they see global imbalances that they can leverage and profit from. So, the way you invest, basically, is you pick your themes and you just stay with them.
One theme right now seems to be global inflation. Another theme would be some further crisis or partial dissolution in the euro region and in the euro. And then, the offsetting positives are things like precious metals….We’re all really used to looking at gold as a proxy for confidence in global currencies, and obviously gold’s been going straight up. But over the last few months, we’re starting to look at demand for silver coins. Two years ago, the U.S. mint would sell about a million coins a month to collectors to fulfill demand. Last month, it was 7 million. And that’s astounding because it means that somewhere out there in the U.S. there is retail demand for silver coins as a hedge against inflation. So the U.S. population seems to be aware of the threat of inflation and they have some organic concern about the world as a whole...And that’s why I look at those indicators and say, okay, what does that tell us about the psychology of what people are worried about? They are worried about inflation. They are worried about economic stability.
Editor’s Note: Nicholas Colas of ConvergEx Group will be speaking this Wednesday, March 23 at the FINforums Global Macro and Geopolitical Risk event at the Princeton Club in Manhattan. This event features a keynote speech by Middle East expert Gary Sick, a one-one-one fireside chat with hedge fund legend Barton Biggs, and two roundtables featuring the following speakers:
Caroline Bentz (Parker Global Strategies)
Amer Bisat (Traxis Partners)
Nicholas Colas (ConvergEx Group)
Bertrand Delgado (Roubini Global Economics)
Justin Dew (Welton Investment Corporation)
Kenneth Kuhn (Global Capital Investments)
There are still a few seats left ($195), visit FINforums for more information and to register.