Gill Capital Partners Early-April 2021 Update
Spring is here, and along with the usual wild weather it brings, we have plenty of global developments that are proving quite impactful to financial markets and the geo-political environment. From the Biden administration’s massive infrastructure plan to a global chip shortage, and a company called Archegos that rattled the stock market, it’s been a wild couple of weeks. We will get into all of these issues, and of course, provide our views on them, but first, a bit of humor.
Infrastructure
Following the passage of the last stimulus bill, the Biden administration is looking to make good on another campaign promise in the form of a massive $2 trillion infrastructure bill that the President says would deliver a “once-in-a-generation investment in the United states.” What is in the plan, exactly?
The plan seeks $400 billion for expanding access to home or community-based care for the elderly.
The plan proposes investments in electric vehicles and their infrastructure, and included are grants and incentives for public and private entities to build a network of 500,000 charging stations by 2030.
The plan proposes spending on core infrastructure needs such as roads and bridges, public transportation, railways, airports, and waterways.
The plan allocates $350 billion to electrical grid and clean energy modernization, removing lead pipes, modernizing water systems, and high-speed broadband.
The plan proposes spending roughly $375 billion on affordable housing, school construction, childcare facilities, and VA hospitals.
The plan sets aside $180 billion for research and development, including investments into the National Science Foundation to “achieve technological breakthroughs that address the climate crisis,” and $100 billion for workforce development programs targeted at underserved groups.
How is the Biden administration planning to pay for this plan? The administration has proposed fully funding this plan through targeted tax increases. Specifically, they have proposed increasing the corporate tax rate from 21% to 28%. The plan is scheduled to spend the majority of funds over 8 years, while the corporate tax changes would raise the estimated $2 trillion over 15 years. President Biden has said that he is willing to negotiate ways to pay for his infrastructure plan, but it must be fully funded.
Our view – Irrespective of political affiliation, most everybody can agree that the infrastructure in this country is badly in need of investment. This is going to set up an epic battle in Congress, as tax increases are always a sensitive and polarizing subject. While we don’t believe there is much appetite on either side of the aisle to raise taxes on individuals, a corporate tax hike, like the one proposed, will still no doubt lead to a fierce battle. The proposed 28% corporate tax rate is still dramatically below the 38.92% rate that corporations paid prior to the 2017 tax cuts, so this plan could find consensus, but it is too early to tell. How would the market view this? It is not entirely clear yet. The market loves government spending and yearns for more of it, but generally dislikes higher taxes. There will be plenty more to come on this as Congress begins putting the bill through the “sausage maker.”
Chip Shortage – Have you tried to buy a car or an appliance recently and realized that it is hard to find or difficult to order? The issue lies with a global shortage of microchips. The shortage stems from a confluence of factors as carmakers, which shut plants during the COVID-19 pandemic last year, compete against the massive consumer electronics industry for chip supplies. Consumers have stocked up on laptops, gaming consoles and other electronic products during the pandemic, leading to tighter inventories. They also bought more cars than industry officials expected last spring, further straining supply. Additionally, sanctions against Chinese tech companies have exacerbated the crisis. Originally concentrated in the auto industry, the shortage has now spread to a range of other consumer electronics, including smartphones, refrigerators and microwaves. With every company that uses chips in production panic buying to shore up inventories, the shortage has squeezed capacity and driven up costs of even the cheapest components of nearly all microchips, increasing prices of final products.
Our view – Dust off your college economics textbook! “Too much money chasing too few goods” is the literal definition of Demand-pull inflation. There are two issues here, both of which are hopefully temporary.
Prices are going up. This is bad news for those hoping low inflation means interest rates can stay at historically low levels. Remember, we have previously laid out the secret sauce for the best stock market returns, and it is low interest rates, tame inflation, and an accommodative Federal Reserve. If inflation really begins to pick up steam to the point where the Federal Reserve begins to start raising interest rates, this will be a significant chink in the equity market armor.
As industrial manufacturers of all types are unable to source chips, they have no choice but to temporarily shutter factories, which could lead to furloughs, layoffs, slower industrial production, and slower economic growth.
We view this as a temporary issue, and we have mentioned before that we are watching inflation as a key risk for the markets. So far it hasn’t been an issue, but we are watching…
Archegos – What is Archegos and why is it important? Archegos is the family investment vehicle of one very wealthy individual, Mr. Bill Hwang. Mr. Hwang is the founder of the hedge fund Tiger Asia, which was the largest Asia-focused hedge fund. Mr. Hwang is widely known in investment and hedge fund circles, as he was one of the proteges of the hedge fund titan Julian Robertson. Mr. Hwang and his firm Archegos set off a bout of volatility in the markets over the past couple of weeks as he began liquidating massive positions of blue-chip companies. This sent individual stocks lower, significantly in some cases. Archegos is estimated to have $20 billion of its own money, but liquidations approached $110 billion thanks to leverage derived by complicated financial swaps arranged by top banks. The leverage is estimated to have reached nearly 500% and led to massive holdings of individual companies. As the selling accelerated and the value of the positions dropped, Archegos and the banks who provided the leverage suffered significant losses.
Our view – Will the big banks ever learn? They really can’t help themselves, it seems. While the Archegos incident has led to significant losses at a handful of banks, it was contained to individual names that were under intense selling pressure and was largely a blip for the broader markets.
As always, please let us know if you have any question or concerns, or if we can provide assistance with any other financial planning matters including education, taxes, insurance or estate needs.