The MoneyWeek Podcast: happy new year! Are we in for a year of misery?

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Transcript

Merryn Somerset Webb: Hello and welcome to this first MoneyWeek podcast of the New Year. Happy New Year to all our listeners. I am Merryn Somerset Webb, editor-in-chief of the magazine, and with me today is John Stepek, our executive editor. What a treat for you listeners. That is two podcasts in a row with John. Happy New Year, John.

John Stepek: Happy New Year to you and to all our lucky listeners.

Merryn: I know. Now, not everyone is going to be lucky this year, we’re seeing in the newspapers. You and I, we like to be optimistic. In fact, I’m sure we’re known for our optimism but look at the newspapers and all you’re seeing for the beginning of this year is misery.

Cost of living crisis. There is no way that wage rises are going to even begin to meet the new costs people have in terms of rising taxes, in terms of rising energy bills, etc. Interest rates going up. Possibly, even more mortgage payments going up. This is I think, as Martin Lewis is calling it, the year of the squeeze.

John: Unfortunately, it’s very hard to argue with that. I mentioned this to you the other day but in a fit of unprecedented organisational efficiency about my personal finances…

Merryn: New Year, new you.

John: Well, this was before the New Year, thank goodness. In October I switched energy provider because our existing one was about to hit the wall and I got one of the last fixes that was still cheap, so at a fixed hour. I think the energy price per kilowatt hour was just under 20p. So, the other day out of morbid curiosity I went on a comparison website to see what the cheapest fix I could get now was and it was just under 40p a kilowatt hour.

That was a really horrible wake-up shock for me because I’m not sure that I could afford to heat my house if my energy bill doubled. So, if I’m thinking that, as someone relatively comfortably off then, yes, it is going to be difficult and I don’t see how the kind of wage hikes that we’re seeing at the moment are going to cover those rising costs. So, yes, I’ve got to admit, I’m struggling to be optimistic myself. I’m hoping in the long run we get this productivity boom, etc, etc.

Merryn: I still have high hopes for this productivity boom, by the way, particularly given the crunch in the number of workers available. The fewer workers there are, the more likely we are to see this, this boost in productivity but it might not happen this year, it might not happen in time.

John: Well, I suppose the other thing I’m wondering about is the good new is there’s lots of jobs out there and unemployment is relatively low and falling, so that’s a good thing, but it also partly depends on why there’s such a shortage of employees.

On the one hand, I agree with this idea that a lot of people took earlier retirement during COVID but I’m also seeing a sort of sense that a lot of people have opted out of the workforce or decided they’d be better off doing something else.

Merryn: And, those people might come back.

John: Well, exactly. People have been cushioned by savings for quite some time but furlough has gone and we’re getting back to some sort of normal halfway house. Then, on top of that you’ve got Rishi pushing through tax hikes in April, although we’ll see if that ends up happening.

But, I think part of the thing is if people have opted out of the labour force because they feel they’ve got enough money, it’s not going to take many energy bills having gone up by 100% for them to feel, actually, I can’t take this option anymore. I’m going to have to come back to the workforce.

Merryn: I think that’s very interesting because one of the reasons why it may be is post-financial crisis an awful lot of people would have looked at their retirement savings, particularly in the US and gone, oh god, I’m in trouble here, so decided to stay in the workforce for significantly longer than they might have otherwise. So, you have this dynamic of older people continuing to work, etc, which I think, certainly, you and I probably thought would continue indefinitely.

But, now you’ve had this shift as we’ve moved into the COVID era. Markets have done stunningly well. House prices have gone up amazingly. So, people are looking at their finances in a completely opposite way to how they were after the financial crisis and going, well, actually, do you know what, I can stop earlier than I would have, not later than I would have.

So, they’ve pulled themselves out of the labour market but that doesn’t mean that they’re out of the labour market indefinitely, as you say, because they could easily have to come back if, let’s say, we do move into a genuine energy crisis that lasts longer than the six months it is has been going so far. Let’s say we have a five-year energy crisis, a decarbonisation shock, if you like. Then, we’re going to see a lot of those people coming  back into the market.

John: I guess it sort of feels like, well, you mentioned it, actually, in your letter this week. It’s a yearly transition and I think I’ve said this before in the podcast but it’s interesting. Even when you read Paul Krugman. I was reading one his columns before Christmas and Krugman is not someone who is known for his bashfulness or his lack of ego but he was writing a whole piece about inflation.

Obviously, he’s a kind of easy money guy but he kind of acknowledged that, actually, although I think inflation is transitory, I’m not actually sure. It’s very, very rare to read that sort of, well, mild humility from someone like Krugman. 

I thought that was a really interesting representation of just how uncertain the experts, in inverted quote marks there, are about all of this stuff. I can see why. My first desire is to be optimistic but at the moment I’m struggling to find reasons for being optimistic about the first half of this year specifically.

Merryn: I think what seeing here is the range of potential outcomes is even bigger than usual. It’s normally huge but at the moment it’s super, super huge. I’ve just written a column about energy prices and about how important they are and how it may be that when we look back at this year, the most important thing, the most important chart of all is one I put on Twitter yesterday showing the demand for thermal energy and the collapse of investment, capital investment, in thermal energy and the crunch that that’s going to cause.

I’ve got a JP Morgan report in front of me now and it says thermal energy producers reverted into their shells, reducing capital spending on new projects by 75% from peak levels. Global demand for thermal energy is unchanged. That’s going to give us energy price inflation and food price inflation, fertilisers, etc, as well as giving rising demand for biodiesel.

That seems to me to be the thing that we’re going to be talking about most this year. Have we managed the energy transition properly? The answer to that is a flat no, absolutely not. Have we allowed the big energy producers to cut down on their capex and try and shift us away from old-fashioned fossil fuels a decade early? Possibly, yes.

Have we made a big mistake with the green levies on energy bills in the UK, etc? All these things are going to be a big conversation this year as fuel bills go up and up and up and energy prices stay high. It certainly seems that way to me.

John: I think what’s probably most interesting about that is there is nothing in economics that is more political than food prices and energy prices. So, we’ve got everything kicking off in Kazakhstan this week and that’s a direct result of people rebelling against higher fuel prices because they jacked-up the prices of LNG.

Then, obviously, we had the Arab Spring ten years ago which obviously amounted to nothing at the end of the day apart from making the region even worse than it was already but it might get kicked off because of higher food prices, so you just have to think.

Actually, yes, back in the early 2000s, there were all those fuel protests in Britain when the price of petrol went up and the lorry drivers blockaded various areas. So, it’s not just developing markets.

One thing that’s interesting to think about is what is the government reaction going to be to all of those things because they already spent a load of money on furlough and COVID, etc. Clearly, in the UK Treasury they’re obviously worrying about the national debt but, politically speaking, any form of trying to claw that back is going to raise the cost of living even more. So, we’re going to have to find some sort of solution to this.

Merryn: Yes, but then what? If you look at the things that have been suggested this week, so let’s remove VAT on energy bills or whatever it is. This is pointless. It’s minor relative to the extent of the leaps. Then, this idea of why don’t we pull back on the National Insurance?

But, that’s also pointless because the most vulnerable people are the people we should be really worrying about. I’m not worrying about you and your fuel bill, John. I’m very fond of you but I’m not worrying about you and your energy bill. I don’t care about your central heating.

John: Unbelievable.

Merryn: I don’t want your hands to get so cold you can’t type, obviously, but the people who one should really be worried about, very low income earners, pensioners, etc, they don’t pay NI anyway.

John: That’s true. Yes, that is true. I think there’s going to be some sort of political reaction to this because it’s going to be a headline issue. I don’t know what it is that they’ll end up doing.

One thing that I was wondering about, because I was writing about house prices this morning and how they’ve obviously hit record levels and I can’t help but think that it’s only a matter of time before there’s a tipping point where the people who are fed up with feeling the squeeze in the cost of living outnumber the political capital held by people who own houses, basically.

And, governments start to talk about, well, I wonder how we could maybe think about just possibly considering whether capital gains tax on primary residences could be adjusted or something along those lines.

Merryn: Oh, John. Shock, horror.

John: I know, radical.

Merryn: Well, we’ve been calling for this for years, you and I. I cant count the number of columns I’ve written saying we really need to start paying capital gains tax on primary homes. It’s really important but it gets very little traction among the general population. It seems to me to be a much clearer, much more straightforward tax and stamp duty, which I find very difficult to deal with.

John: The problem with all of these taxes, as well, in our ideal world you would substitute these taxes for existing taxes. So, it would be better to have CGT rather than stamp duty. It would better to have land value tax rather than income tax or whatever. 

But, instead, it just all gets piled on top. So, it’s not something that I’m keen on but I can see that if there is going to be an opportunity to explore it politically, then it may come about from this sort of thing.

Merryn: What have you written about house prices this morning? I haven’t read that yet. It must seem extraordinary to everybody watching it over and over and over again. Every time house prices come out from whichever data provider it is, they’re always up, up, up, up.

Obviously, we’re well into a regime of financial repression across the Western world. We’ve got it in the UK, we’ve got in the US, we’ve got in Europe, these sort of relentless real interest rates. Obviously, that’s going to drive asset prices up but when does it end with house prices? I would say own some houses, more houses, many houses. Why don’t I own lots of houses?

John: My house portfolio is looking rather too focused and concentrated.

Merryn: Concentrated on the one house?

John: Yes, exactly, with an inordinate energy bills. Well, both Halifax and Nationwide and obviously they basically say the same as each other because they track roughly the same thing. House prices basically were up 10% last year. They’re at record highs.

The Halifax says about 275,000. The Nationwide says about 235,000. London saw the weakest growth. Wales saw the most stupendous growth. That must be people moving to Pembrokeshire or something.

We’ve seen the biggest rise since 2006 which obviously was the last boom year before the financial crisis kicked off. I just think much as I would like to say that it’s going to come back to something resembling sanity next year, this year it’s hard to see why because it’s hard to see interest rates going up drastically enough to damage the mortgage market, particularly given the levels of competition are picking up there. If you’ve got people talking about 40-year mortgages and willing to offer them, then…

Merryn: Are we back to intergenerational mortgages yet? That’s probably the bell, isn’t it?

John: Probably, although did we ever get them in the UK? I think they’ve still got them in Japan.

Merryn: I don’t know that we ever did get them but we certainly got to the point where everyone was talking about them and various providers were suggesting them as a possibility and there were newspapers being written about them.

John: When I was writing this piece I had a quick google about and you remember Fred Harrison?

Merryn: I do.

John: Fred Harrison, for readers who don’t know, sort of came up with the 18-year property cycle or definitely popularised it, at least, and this is the idea that property moves in an 18-year cycle. It kind of crashes every 18 years, takes about four years to get over that and then goes up again, and it’s all based around land prices.

Although cycle theories, it’s easy to be sceptical of them because there’s good reason to be sceptical of them. It’s always very hard, particularly in in the stock market, to time anything around them. When you look at this, it’s actually pretty convincing.

I think Fred predicted the property crash in the early 90s but also in MoneyWeek, in 2005, he wrote an article for us that basically said… Because we thought at the time it looks as if interest rates are going up. Surely, the property market is going to burst. And, he was like, no, it’s going to keep going until 2008 and then we’re going to get a depression. And, he was right. That is exactly what happened.

He’s now saying that it won’t be until 2026 that the next one comes. So, I’m kind of reluctant to go up against the views of a guy who has already got it right twice in a row and I can see there is definitely a scenario in which that is what happens because although the Bank of England might come under pressure to raise rates because inflation is high, unless its arm is really twisted by circumstances like, let’s say, sterling collapses or something like that, which I don’t see happening because a there’s no reason for it to happen because the rest of the world is roughly in the same position.

Then, why would rates go up? Even if they go to 1%, which is the expectation in the market right now, that is not going to cause such a big problem for the mortgage market that you would see a full sort of collapse.

Merryn: No, and as we say, they’ll still be hugely negative in real terms. If inflation is running at 5-6% and your mortgage rate is 1.5%, your incentive is to borrow more money, not the other way around.

John: If you can get a long-term fixed for 40 years, well, OK, why shouldn’t I buy loads of houses because at least they’ll keep their value under an inflation regime.

Merryn: Even, going back to these negative real interest rates, it also still provides an incentive to be in the equity markets. We look at the equity markets over and over and we say, well, on every measure we can possibly think of, particularly the US, this is grotesquely overvalued, not the UK by the way, a lot of which is not overvalued at all.

But, we look at the US and we say, well, on every single measure we can look at from Warren Buffett’s favourite market cap to GDP or any of these things, it’s too expensive, but if interest rates are negative in real terms, maybe you just stay in. Although, interestingly, I was just writing a column yesterday about this and a fascinating piece of research from Gavekal about how energy prices move equity markets.

It will be out tomorrow and on the MoneyWeek website next week but it’s super interesting, just showing that you can or historically have been able to forecast the beginning of bull markets and the beginning of bear markets by looking at energy prices if you think of all economic activity effectively being energy transformed into a good or a service, which is all it is.

The more efficient you are with that energy and the cheaper that energy is, the better things will be in economic terms. So, when energy is cheap and plentiful, we often we see the beginning of bull markets, in fact, always.

And, when energy is becoming increasingly expensive and when people have not forecasts how expensive energy will be, you see the beginning of a bear market. If that were to happen again and if energy prices were to keep going up this year, then we would see the beginnings of a very unpleasant bear market in the US.

John: That makes sense and on the interest rates point, it is interesting and, again, we’ve talked about this before but the most rate-sensitive parts of the market did take a real doing last year and just a couple of days ago the Nasdaq also had its worst fall since February and that was off the back of people being worried that the Fed is going to raise rates faster than expected.

So, I don’t see any reason why real interest rates would stop being negative this year and probably next year but they kind of like the extent of how negative they are. It might change.

The other thing is, particularly in inflation doesn’t end up being sustained at the current 6% levels, and I can definitely see a scenario in which inflation starts to undershoot expectations on a monthly basis for a little while, at least for some point in this year just because of base effects from last year or whatever but then investors will be starting to think, oh, actually, well maybe rates don’t have to go up as quickly as we’d worried.

It will be interesting to see how people react then, even if the long-term inflation is going to be kicking about 3% or 4% as opposed to 8% or 9% or 0% or 1%, as it has been for the last decade or so.

Merryn: 3% or 4%, of course, is the government’s dream, isn’t it?

John: Yes, that would be the ideal, really.

Merryn: It’s not so much to completely scare the horses, destroy the economy, crash the stock market but it’s enough to gradually erode the huge build-up of debt that we have, both publicly and privately.

John: Yes. It’s a tricky juggling act, though.

Merryn: It sure is but that is going to be the number that everyone is looking for. Listen, I’ll tell you the other thing that I’m really interested in this year and I’m going to write about next year is ESG investing.

We’ve heard about almost nothing else for the last however many years to the point that most journalists can barely bring themselves to open any more press releases they get wibbling away about various companies’ ESG focuses.

One of the reasons why everyone has been so keen on this, apart from generally wanting to do go and wanting the world to be a better place, etc, is that we have endless studies suggesting that if you have an ESG focus in your portfolio, you will outperform people who do not have an ESG focus in their portfolio. So, at best you’ll outperform and at worse you’ll do more or less the same as a non-ESG portfolio, so you get the do-goodery for free, which is brilliant.

But, let’s say, and we’ve just been talking about inflation and we’ve been talking about energy prices rising, etc. One of the drivers behind ESG portfolios doing particularly well has been, A, that in general growth stocks have done very well, so tech stocks.

It’s easier to make an ESG case, for example, for an exciting, clean-sounding tech stock than it is for a dirty old miner. So, they’ve done very well but also, of course, it’s about renewable energy. Renewable energy stocks have done extremely well relative to, say, fossil fuel stock, which have done appallingly until last year when they picked up.

So, if that turns around and fossil fuel stocks continue to do well this year and renewable energy stocks, which look extremely overpriced, maybe there is a renewable bubble, who knows. If they start to fall, or at least fall relative to fossil fuels, we may get to a point where at the end of this year, the 75% of net money that’s gone into ESG over the last year suddenly begins to think to itself, hang on a second, am I in the wrong the place here?

Am I not getting the do-goodery for free after all? Am I actually having to pay up for the do-goodery and if I’m paying up for the do-goodery, is that really what I want? And, the answer may be yes. In many cases it will be yes and that’s great but in some cases it might be, oh, I don’t know.

John: I suspect the answer will only be yes at a retail level rather than an institutional level and the institutional levels is what matters. I guess there’s two ways that could pan out and I entirely agree.

One is that they simply redefine what ESG means because it’s a lovely, fluid concept. So, if you’re a fossil fuel provider or a miner who is trying their very hardest to be ethical, then you already earn your place in a lot of these portfolios, so I can see them just shifting the goal posts somewhat.

Merryn: We might also see a separation of E, S and G because lumping them all together is really bizarre anyway, environmental, social and governance issues. You could be an extremely well-governed company while not necessarily fulfilling the environmental aims of some investors.

John: Yes, definitely.

Merryn: So, you could find yourself divided up there.

John: I suppose the other thing is this isn’t something we’ve talked about with the UK’s underperformance but I suppose another issue for the UK during the ESG bubble is that a lot of stocks that are listed in the FTSE 100 don’t necessarily fit an ESG portfolio, so that if that starts to wind down then that’s another reason why we might see the UK come back relative to other markets.

Merryn: As suddenly every oil and gas explorer in the UK is suddenly redesignated as an ethical investment?

John: Yes. Them and the miners are probably the main ones.

Merryn: But, as we’ve said before, let’s talk about what’s ethical and what’s not, if the lack of investment in oil and gas is one of the things that is causing the energy crisis and hence destroying or potentially destroying the living standard of large parts of the global population, was disinvesting from oil and gas and ethical thing to do?

John: Well, there you go.

Merryn: Discuss.

John: Discuss, yes. Given that a lot of the green side are quite keen on the zero population idea anyway, I think this really just boils down to ethics are such an individual thing and that’s why the whole concept has always been somewhat flawed. If you care so much about your ethics than pick your own portfolio. Don’t farm it out to some fund manager who is basically using it as a market exercise to sell stuff.

Merryn: Oh, you cynic.

John: They are. I’m so fed up with this. ESG has come about because passive investing was stealing active investors’ lunch and active investors had to find a way to sell themselves again. That’s it. I know that’s cynical and horrible and awful but then I’m cynical and horrible and awful.

Merryn: You are. What you’re saying, John, just to be clear here, is that the entire stewardship industry is simply a cynical fightback on the part of the active investing industry against the passive investing industry, just so everyone knows where to send their hate mail.

John: Send it to john.stepek@idon’tgiveadamn.com.

Merryn: OK, right. Well, I think we’ll leave it there so everyone can get going with the green ink.

John: Excellent.

Merryn: Don’t forget, everyone, to read our New Year’s issue of Money this week. It’s absolutely jammed with fascinating stuff. The last issue of last year had lots of stock tips, etc, in it. This year has, as well, including a round-up of all the stock tips in the rest of the press and our ideas on what might or not happen this year with, of course, the caveat discussed at the beginning, that the range of potential outcomes this year is very, very large.

John: Well-covered.

Merryn: Thank you. John, thanks so much. Next week we will start back with our parade of exciting guests on the podcast. I’ve got various interesting and exciting people lined up but, listeners, if there is anybody who you’ve always really wanted to hear from on our podcast, and by this I mean really people who are interested in investing, money managing, macroeconomics, etc, do drop us a line and let us know because we’re filling up the schedule right now and I’d love to have on people who you would love to hear from.

In the meantime, do please leave a review for the podcast, if you enjoy the podcast, and follow us on Twitter @MoneyWeek, @MerrynSW, @John_Stepek, and do go to our website and do sign up for Money Morning, John’s brilliant daily newsletter. Thank you very much.

John: Thanks.