ISQ - October 2021
Key Takeaways
Inflation is likely to remain above target for longer.
The global Economy faces testing economic challenges, not all due to COVID-19.
Energy prices will likely remain high.
Volatility will continue.
The United Kingdom is facing an energy crisis. This goes well beyond the terrible optics associated with petrol stations running out of fuel. The country has recently experienced a 400% spike in natural gas prices and a 250% increase in the price of electricity. The subject was touched upon, albeit obliquely, by Bank of England Governor, Mr Andrew Bailey, in the wake of the conclusion of the most recent Monetary Policy Committee meeting. “The shocks that we are seeing are restricting supply in the economy relative to the recovery in demand. This is important because monetary policy will not increase the supply of semiconductor chips, it will not increase the amount of wind, and nor will it produce more HGV drivers”.
It is certainly true that the domestic energy generating industry has been hit by a confluence of unforeseen factors serving to throttle-back supply, including extremely low wind levels, a fire at an important France – U.K. electricity interconnector, nuclear power outages and a gas shortfall sweeping not just Britain but across Europe too. This has resulted in the collapse of some energy providers and forced activities from steelmaking to manufacturing to shutdown during peak hours to avoid having to pay excessive energy fees. The situation has been exacerbated, argue some critics, by the U.K.’s drive towards a “net-zero” carbon emissions policy. Over the past 50 years, the U.K. has reduced its dependency on coal power and become increasingly dependent on gas as its primary source of electricity generation, most of it imported from Europe. Furthermore, heavy investment in renewables over the past ten years has boosted wind output which now contributes around 24% of total power generation.
At this moment in time the global economy, not just that of the U.K., face some very testing economic challenges. The squeeze on the availability of energy supply is contributing to an increase in inflationary pressure, exacerbated by the fracturing of supply lines across a wide range of goods and services. Yet the temptation to blame everything on the after-effects of the Covid-19 crisis really ranks alongside “the dog ate my homework” in terms of credibility. After all, global GDP fell by just 3.3% last year, poor but hardly catastrophic.
In truth, the global economy has been deteriorating for a very long time.
In truth, the global economy has been deteriorating for a very long time. The term “secular stagnation” was coined in the 1990s, and with good reason. Whilst it might be tempting to take the view that ultra-easy monetary policy has boosted global activity over the past dozen years, in reality, the size and complexity of the modern economy is the direct derivation of the use of fossil fuels; oil, gas and coal. From the mid-1990s onwards, the cost associated with extracting traditional energy sources has been on a relentlessly rising trend. Meanwhile, the window of “environmental tolerance” towards their use has been closing.
This might not have been a problem had a fully “utilisable” replacement source of energy been available, coupled with a willingness on the part of the authorities to adapt and adjust the economy onto a new basis consistent with a radically altered energy source. But neither has been the case. Wind and solar power cannot completely replace fossil fuel energy, for three reasons.
Firstly, the creation, expansion and maintenance of the infrastructure associated with renewable energy sources is completely dependent upon materials whose supply is driven by legacy energy from fossil fuels. Secondly, overcoming the intermittence of wind and solar power requires batteries, a dependence which “ups the ante” against seamless trans-mission to an even greater extent. Thirdly, and perhaps most importantly, even accounting for the use of technological know-how, renewables are unlikely ever to deliver the energy density to which two centuries of reliance on coal, oil and gas have led us to become accustomed. Sometimes there really are no ways around the immutable laws of physics.
In the early days of the industrial revolution, the financial cost associated with the extraction of fossil fuel was incredibly low. However, as resource has diminished, so the cost of extraction has steadily increased, slowly at first but much more rapidly over the past three decades. It is this rapid recent acceleration, coupled with the recognition that the “energy cost” associated with renewables will never get down to the ultra-low levels of the late eighteenth and early nineteenth centuries, that lies behind secular stagnation. In short, the heretical assertion is that the world is not, and has never been, a financial system but rather an energy system. The current crisis makes this observation all the more telling, and the air is thick with the sound of chickens coming home to roost.
The inexorable rise in energy costs, thrown into sharp relief by the current crisis must, inevitably, result in the steady increase in the cost of items perceived by households as essential. So, as the proportionate cost of these items increases, so overall prosperity is trending downwards. This is important for a stock market the vast majority of constituent businesses for which have models based upon the supply of discretionary and non-discretionary goods and services. As the pressure on prosperity increases so, in addition, will come pressure on businesses models dependent on household income streams. Rising costs associated with fractured supply chains are adding to building inflationary pressure beneath the sur-face and this is putting governments and central banks in a bind.
Smug as one might feel, when charging one’s electric vehicle up at the power point (until the point when the cost of materials used in the manufacture of batteries becomes exorbitant too), the broader point is that the world is reaching the point where perpetual fiscal and monetary stimulus reduces in its effectiveness and actually becomes dangerous as credit-based lifestyles, even for necessities, become unsustainable. Central bankers may initiate the conversation about tightening monetary policy, but in truth, they are trapped. The cost of achieving short-term price stability is likely to result in more volatility therefore, a well-diversified portfolio is vital.
Issued by Raymond James Investment Services Limited (Raymond James). The value of investments, and the income from them, can go down as well as up, and you may not recover the amount of your original investment. Past performance is not a reliable indicator of future results. Where an investment involves exposure to a foreign currency, changes in rates of exchange may cause the value of the investment, and the income from it, to go up or down. The taxation associated with a security depends on the individual’s personal circumstances and may be subject to change.
The information contained in this document is for general consideration only and any opinion or forecast reflects the judgment of the Research Department of Raymond James & Associates, Inc. as at the date of issue and is subject to change without notice. You should not take, or refrain from taking, action based on its content and no part of this document should be relied upon or construed as any form of advice or personal recommendation. The research and analysis in this document have been procured, and may have been acted upon, by Raymond James and connected companies for their own purposes, and the results are being made available to you on this understanding. Neither Raymond James nor any connected company accepts responsibility for any direct or indirect or consequential loss suffered by you or any other person as a result of your acting, or deciding not to act, in reliance upon such research and analysis.
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APPROVED FOR CLIENT USE
Black MondayOn 19 October 1987, the stock markets experienced a dramatic plunge that prompted many firms to shut down their trading desks and turn off their phones to minimize internal losses. Raymond James refused to do the same. Our desks stayed open to help meet clients’ needs, resulting in our first and only unprofitable quarter since the firm went public in 1983. |
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Who was Raymond James?The Raymond in our name is actually from Edward Raymond, owner of a 15-employee mutual fund sales group, Raymond and Associates, along Florida’s west coast. He sold his company to Bob James on 15 July 1964, on condition that the surviving firm be called Raymond, James & Associates. Three days after the sale, Ed Raymond was involved in a near-fatal automobile accident and never joined the firm. Nonetheless, even after Raymond had passed away, Bob James insisted that his name remain on the door – ahead of James’ own. That was a promise he made to Ed Raymond three days before the accident, and Bob James was a man who kept his promises. |
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Bear Market of 1974The severe bear market of 1974 threatened the existence of Raymond James, which was bleeding capital by the day. Tom James, his father and other leaders took extreme measures to keep the firm afloat, slashing costs, foregoing paychecks and even attempting to sell the firm for just enough capital to protect client assets and retain as many associates as possible. The story could have ended very differently if not for a sharp upturn and continued rebound in the stock markets late in the year. |
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Taking Raymond James PublicWhen consideration was being given to taking Raymond James public, Tom James penned a letter to shareholders (largely employees at the time). ” … the public offering should be considered as a statement of our independence. While this is a psychological rather than an economic rationale, it is nonetheless very important. We have asserted for some time that we are not interested in becoming a small part of a very large corporation. That assertion results mainly from the inclinations of management rather than the economic benefits associated with either alternative. The public stock offering affords us the opportunity to enjoy a little bit of the best of both worlds. While shareholders will be given liquidity at fair market value, we will still have the ability to control our own destiny.” After 40+ years of Tom’s leadership, upon becoming CEO, Paul Reilly was often questioned about whether the company might ultimately surrender its cherished independence and be acquired by some larger entity. His response: “Not while I’m around.” It’s a theme that continues today. |
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