Global Market Commentary

May 13, 2016

Executive Summary

1. Critically important to your investments:  popular revolts against corruption around the world.  This trend will last for decades, and upset many of the patterns we think we know.  Corruption and cronyism have existed throughout human history, and ordinary people have usually accepted them with stoic resignation.  But that time is ending; around the world, we see middle-class citizens refusing to accept the old status quo, and insisting that what was once hidden and ignored be brought into the light of day.  In the developing world, the old pattern of corrupt but stable regimes will be replaced by more political volatility as governments struggle to keep the peace and manage the demands of their newly wealthy and newly educated middle classes.  In the developed world, on the other hand, the middle classes who are seeing their comfortable prosperity eroded, seem to be turning towards more government activism to address corruption — which they blame more on business than on the state.  Corruption will never be completely rooted out; the most we can hope for is slow improvement.  These trends will continue for decades, and will disrupt and upend many of the old, expected political patterns throughout the world.  

2.  3D printing: potentially a manufacturing bonanza, but not there yet.  3D printing technology is moving ahead rapidly, with new materials and processes expanding its reach in prototyping, specialized parts, and customized products.  However, it is still too expensive and too slow compared to traditional die-and-mold methods to take over a significant share of mass production capacity.  Further, pure-play 3D printing companies may not be where that heavy lifting actually occurs — we will look instead to the R&D departments of major materials and industrial firms as the technology matures.

3.  Market summary.  We see slow-but-steady U.S. economic growth, and even slower growth in Europe and Japan.  China continues to grow at a steady pace, and world economic growth continues at a slow but acceptable rate.  In the U.S., we favor well-positioned technology leaders, precious metals, oil producers, and grain producers; buy the dips.  We do not favor Europe or Asia.  In emerging markets, the bold could buy Brazilian currency and Brazilian bonds, which could benefit from an impeachment and government cleanup in Brazil.  For the very bold, there is the Russian Ruble, which will be a beneficiary of higher oil and grain prices.


Corruption and Cronies:  A Popular Revolt Worldwide and a Tectonic Shift In the Making

Around the world, a change that has been slowly gathering momentum seems to be accelerating: everywhere we look, we see the public revelation of political and economic corruption.

          Corruption… A Norm Throughout History

The abuse of political power for personal gain has been an ugly but consistent aspect of every human society and civilization.  There have been rare rulers and regimes under whom corruption was suppressed, punished, and minimized…  but much more often, corruption has been the norm, and ordinary people have tolerated it.  In easy times, they tolerated it because enough trickled down to them that they could excuse “criminals”, who at least could “get things done.”  In harder times, they tolerated it out of necessity, because those criminals wielded the power of the sword.

With few exceptions, corruption has been the baseline.  Ordinary citizens and subjects could expect that the power of the government would be exploited by a privileged few who would use it to extract ill-gotten gains, secure preferential treatment in business dealings, demand bribes and kickbacks, and so on.

          Corruption Changes Its Face, But Is Always Present

The shape of this corruption changes as a civilization changes and as a country develops.  It becomes less overt and more subtle.  In a civilization’s early stages, corruption is brutal and indiscriminate, but as political institutions mature and economic and technological development occurs, corruption becomes more predictable and systematic, and therefore more humane.  It’s not perfect, but it’s progress.  (It’s the difference, for example, between police who will extort bribes and beat you at a roadblock, as many do in the developing world, versus police who will seize your property through civil asset forfeiture.)

Eventually, in a few fortunate times and places in human history, a political culture appears in which the guiding principle and ideal is the rule of law — the absence of corruption, the equal standing of all before the political powers that be, the restraint of the power of government, and transparency in all the rulers’ dealings.  We feel fortunate to live in a country which, in spite of all its shortcomings and failures, still cherishes this ideal.

Our regular readers know that we believe the rule of law to be the ultimate foundation of free and prosperous societies — and that we are always carefully watching and analyzing social and political trends throughout the world to identify where the rule of law is being strengthened and supported… and where it is being undermined and overthrown.

Corruption Is Better In Some Places Than Others…  But No Country Escapes It

Source:  Transparency International

Change Is In the Wind

But there are changes happening.

Currently, we see the restlessness and rebellion of citizens pushing back against corruption — and we see it rising to a global critical mass across the whole spectrum of the world’s economies and polities.  From the global north to the global south, from developed economies to developing economies, looking different wherever it manifests, but still based in the same impulse: a refusal to continue to accept the corrupt status quo, whatever it may be.  

Whatever was hidden, tolerated, accepted, and ignored is now being brought into the light.  Whatever remained unspoken by the “official” voices of the economically and politically powerful, is being shouted by the masses from below — and they are finding political figures and forming political movements which will take up their cause and give it a voice.

We believe that the global rise of this phenomenon is a matter of signal importance, and one that will shape an environment of political change and turmoil for decades to come.  For example, the disruption that has attended the political changes of the Arab Spring and its aftermath is not something that concerns only the Middle East, and not something that will be quickly and simply resolved with a comfortable return to the status quo after a (brief) episode of chaos and confusion.

Developed and Developing Worlds:  Anti-Corruption Sentiment Takes Different Paths

As we noted above, corruption changes as a country develops its economy and its political institutions.  We see a common trend across the globe — but it is manifesting very differently in the developing countries than it is in the developed world.

In the developing world, we see the trend across Asia — especially in China and India — and in Latin America, especially in Brazil and Argentina.  The popular response to typical developing-world cronyism is shifting from resigned tolerance to simmering outrage that threatens to give way to social unrest.  We believe a number of converging social, economic, and technological trends are behind the darker and more intransigent tone of public opinion.

First, social media, internet access, and cheap, commoditized smartphones have allowed societies to leapfrog decades of the slow development of mass media culture.  Even the most authoritarian regimes are ultimately incapable of controlling the dissemination of information.  For example, the demonstrations that erupted in Iran in 2011 were coordinated through social media in spite of the government’s attempts to shut down communications; Iranian activists and hackers simply enlisted the aid of sympathetic foreigners in setting up proxy servers to evade censorship.  As heavy-handed as a state can be, online communication is a weed it simply can’t eradicate.  Unlike printing presses and television stations, it is so widely distributed and decentralized that it lies outside the control of any political authority.

Second, much of the developing world — especially in Asia and Latin America — has experienced several decades of rapid development that has seen the rise of a much more educated middle class.  Education has had the effect of raising the consciousness of that middle class, and with that, its hopes and expectations for more self-determination and a better life (such as it sees in the hegemonic media culture of the west that pervades popular entertainment).  Not only have people become more materially well-off — they have come to expect that further progress is on the way.

Third, the great financial crisis of 2007 to 2008 and the global economic downturn which followed it were not kind to the new global middle class that had grown up in the developing world.  Just at the time that it was flexing its economic muscles and opening itself to the outside world through education and integration into the global information web, this rising middle class was faced with the most severe economic setback in a century.  When there’s plenty to go around, corruption can be tolerated more easily; but in straitened circumstances, the theft and conspicuous consumption of a crony elite suddenly became intolerable.

And fourth, slow progress has been made at integrating developing economies into a framework of global law.  As imperfect as the process has been, governments throughout the developing world have become members of all manner of international organizations ostensibly dedicated to the rule of law — and signatories to international conventions intended to promote transparency and clean politics.  Maybe it was under duress — maybe it was just to secure the good graces of their developed-world trading partners.  But over the course of decades, it made a difference — helping plant the seed of honest and impartial institutions, or at least the expectation that such institutions should exist and serve the people’s best interests.

So what we see in the developing world is this — the rise of a more educated and wealthier middle class, with higher expectations for freedom and prosperity, and less patience in accepting the misdeeds of their rulers, especially when economic hardship begins to bite.

The intelligent political leaders of the developing world have seen the writing on the wall — that they had better start to do something to meet their citizens’ demands, or they will face potential revolutions that will sweep them from power.  Chinese President Xi Jinping explicitly invoked this specter when he launched his anti-corruption drive in 2012, telling his Communist Party cadres that if corruption were allowed to continue, it would destabilize and threaten Party rule.

China’s Anticorruption Drive Aims to Stave Off the Risk of Public Unrest… Like That Seen At the Tiananmen Protests

Of course, the sincerity of rulers in pursuing an anti-corruption agenda is always in question.   Venezuela’s late dictator, Hugo Chávez, took power in 1999 on a platform that pledged to root out corruption and transfer wealth to the poor — and his regime went on to become a poster-child for theft and cronyism almost unparalleled in the region, which has brought his country and its unfortunate poor to food shortages, much deeper poverty, and the brink of catastrophe.

Still, we believe that the upsurge in popular resentment of and resistance to corruption throughout the developing world is not a phenomenon that will pass; it will grow in momentum as it faces new challenges, and will remake governments just as it is remaking the power structure in Brazil.  The process will emphatically not be smooth and easy — we will likely see more examples of countries like Venezuela, where new leaders are swept into power on promises to fight corruption, and simply exploit their positions to line their pockets, just like their predecessors.

However, their tenures will likely be shorter, and as the developing world moves ahead, there will be less of the unjust but stable cronyism that marked the past, and more unstable and volatile political conflict and struggle as corruption is slowly and painfully reduced (though of course it will never be completely rooted out).

The stoic acquiescence of the impoverished masses is becoming a thing of the past, and the developing world is moving into a new and less certain era — albeit one with ultimate hope for real movement towards the rule of law.  As this process unfolds, monitoring the developing political and economic climate in each developing economy becomes more important than ever for investment allocation decisions.

A Different Picture in the Developed World — “Higher Taxes, More Regulation and a Less Business-Friendly Environment Are Coming Your Way”

In the developed world, the same trend is at work in very different circumstances.  

In the United States, there is also deep public dissatisfaction.  However, it’s not the dissatisfaction of a new and rising middle class — it is the dissatisfaction of an old and declining middle class.  And it’s not sparked by the vision of blatant cronyism on the part of a visible, obviously corrupt and venal elite.  Instead, it is rooted in the pervasive sense of the middle class that the whole game, legal though it may be, is stacked against them.  It’s not that there’s cartoon-character evil among a cabal of cronies.  It’s more that the whole system is perceived to be rigged, so that ordinary people will never get ahead, and the rich will keep getting richer.  It’s an anti-corruption sentiment that’s appropriate for the type of corruption that predominates in the developed world — not naked and brutal, but humane and institutionalized.

In the U.S., we can see this trend in the insurgent candidacies of outsiders such as Donald Trump and Bernie Sanders, who each in their way rail against, mock, and spurn the culture and policies of the existing system and promise to upend it and sweep it clean.  They pledge to replace legalized and legitimized corruption and cronyism with a system that will work for all Americans, not just the wealthy, not just the political class, and not just the connected few.  It is a message that resonates deeply with a working and middle-class audience that feels it has made no economic progress in the past two decades, while the wealth of the reviled Wall Streeters and one-percenters has skyrocketed.

Both of these candidacies capture a trend that we find worthy of deep reflection.  While in the developing world, the uprising is against government corruption, and often fundamentally hungering for and in favor of economic freedom and prosperity, the rhetoric that appeals to the ground-down middle class in the U.S. has a distinctly anti-business atmosphere.

A recent poll showed that 43 percent of Americans under 30 have a favorable view of socialism.  (This demographic also overwhelmingly supports the campaign of Bernie Sanders, which often seems to suggest that economic liberty and the entrepreneurial spirit are fundamentally dubious and dangerous powers that can be tolerated only if they’re very closely watched.)

What this means to us is that in the U.S., the manifestation of the anti-corruption trend is going to be a criticism of business, and of the wealthy, more than a criticism of government.  While anti-corruption sentiment in the developing world is squarely focused on government as the primary enabler and supporter of cronyism, in the developed world, popular sentiment sees government as the people’s savior, rather than as a grave danger in its own right that needs to be kept in check — which was how America’s founding fathers viewed government.

So for Americans, as this process unfolds, we say, “Look out — higher taxes, more regulation, and a less business-friendly political environment are likely to be coming your way.”  The irony is that such growth of government, if history is any guide, is much more likely to worsen corruption and cronyism than to ameliorate it.  There will be a renewal of the American skepticism and reserve about government power on the other side of this process, if this is indeed how it unfolds… but we believe it will be a long, painful lesson.

Western Europe is well down this path itself.  In Western Europe, there exists public distress at the continent’s economic malaise, and existential anxiety as it faces new Russian aggression and an overwhelming influx of Muslim migrants.  But that distress is just intensifying populism on the right and socialism on the left… even as Europe’s creaking welfare states stare down even an even greater level of indebtedness and insolvency than what is threatening entitlement programs in the U.S.  

Again, investors should watch the political trends with great care, to spot which industries are in or out of favor — and which suffer most from public censure.  For now, the financial and pharmaceutical industries are bearing the brunt of public wrath.  But that wrath can be fickle — and we would not be surprised if, at some point in the future, tech firms lose their mantle of positive sentiment and become suspect because of their power and perceived arrogance.

Investment implications:  Expect volatility in the developing world; the old pattern of corrupt but stable regimes will be replaced by more political volatility as governments struggle to keep the peace and manage the demands of their newly wealthy and newly educated middle classes. Look for events such as the impeachment of President Rousseff in Brazil as opportunities to buy the Brazilian currency when the public becomes more positive after the impeachment and cleanup of a corrupt cabal of officials.

In the developed world, on the other hand, trends seem to be turning towards more government activism to address corruption — which is blamed more on business than on the state.  If, as we expect, these trends continue for a prolonged period, they will reduce the overall standard of living of the developed world.  History clearly shows that socialism may increase equality, but it also has decreased economic growth almost everywhere that it has been thoroughly implemented for a prolonged period.

Investors will have to watch the political climate more closely than ever — in the developing world, to find those economies and markets moving towards greater stability and the rule of law; and in the developed world, to find which industries will be facing regulatory pressure and which will be given a pass, as well as which countries are moving towards higher-tax, higher regulation regimes — which will stifle stock-market appreciation.  Currently, the substantial problems of Europe and the increasing implementation of socialism and government regulation there make it unattractive for investment in our view.


3D Printing: Potentially a Manufacturing Bonanza, But Not There Yet

Several recent pieces in the Economist and the Wall Street Journal have touched on technical advances in the field of 3D printing, or “additive manufacturing.”  This process promises ultimately to be cheaper and faster than traditional die-and-mold methods, which typically take a long time to set up, have a high up-front cost, and provide limited opportunities for on-the-fly redesigns.

However, 3D printing is, for now, neither faster nor cheaper.  The technology has taken leaps and bounds; it can now produce finished products in a wide range of materials, including exotic metal alloys and ceramics, and not just the polymers that it started with.  New methods, such as those developed by Alphabet, Inc. [NASDAQ:  GOOG] funded startup Carbon3D, improve on the layered production methods of older 3D technologies and produce finished products with greater structural integrity.

Carbon3D’s Printers Look More and More Like Star Trek Replicators

Source:  Carbon3D

The cost and limitations, though, are still keeping 3D printing confined to the suite of applications they’ve found since the technology was introduced: prototyping, bespoke parts for high-tech applications, and customized items such as dental implants, joint replacements, hearing aids, and the like.  The supply-chain managers of big manufacturing firms are watching the technology, but for now, it still makes no economic sense, for example, to use 3D printers to replace traditional methods to make 100,000 parts for a mass-produced vehicle.  This has been the case as long as we’ve been writing about the technology, and it remains the case.  Within the next decade, that will probably change, but the shift is not within a reasonable investment horizon.

In the meantime, 3D printing presents a conundrum to investors.  The pure-play approaches — companies such as ExOne [NASDAQ:  XONE], 3D Systems [NASDAQ:  DDD], and Stratasys [NASDAQ:  SSYS] — are expensive and unprofitable.  We would not be buyers of these companies at this juncture.  3D printers aimed at the consumer market are likely to be a commoditized, highly competitive, and relatively low-growth market, and the transformative advances are likely to occur in the R&D departments of major materials firms (such as Alcoa [NYSE:  AA]) and industrial firms (such as Boeing [NYSE:  BA]).

So the message remains the same: the technology is making leaps and bounds, but it’s not yet ready to conquer the world of mass production.  Stay tuned.

Investment implications:  3D printing technology is moving ahead rapidly, with new materials and processes expanding its reach in prototyping, specialized parts, and customized products.  However, it is still too expensive and too slow compared to traditional die-and-mold methods to take over a significant share of mass production capacity.  Further, pure-play 3D printing companies may not be where that heavy lifting actually occurs — we will look instead to major materials and industrial firms as the technology matures.

Market Summary


Little new to report: slow-but-steady U.S. economic growth, even slower growth in Europe and Japan.  China continues to grow at a steady pace and world economic growth continues at a slow but acceptable rate.


U.S. stocks are modestly attractive if you pick the industries with growth or prospects for upward revaluation due to expected productivity increases.  We favor well-positioned technology leaders, precious metals, oil producers, and grain producers.  Overall, the U.S. market may be experiencing a changeable May and June with a rally in July and August — overall a quiet and relatively uneventful environment.

Europe is still burdened with the problems of finding work and shelter for a massive wave of migrants.  Many in Europe are afraid to stand up to Russia, so the threat of further Russian incursions into their neighbors’ territories remains.

For a variety of reasons, Asia is not our favorite area.

The U.S. is OK if you stick to the areas with growth and technological advantages, or if you stick with commodity companies in the oil, gold, and grain areas.  Buy the dips.

In emerging markets, for the bold, Brazilian currency and Brazilian bonds.  They are beneficiaries of an impeachment and government clean up in Brazil.  For the very bold, the Russian Ruble.  The Ruble is the beneficiary of higher oil and grain prices.

Thanks for reading; we welcome your calls and questions.