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Please note: The Frank Talk articles listed below contain historical material. The data provided was current at the time of publication. For current information regarding any of the funds mentioned in these presentations, please visit the appropriate fund performance page.

A Massive Windfall for China's Fast-Growing Tech Giants
July 2, 2018

massive windfall china's fast growing tech giants

Stop buying Iranian oil or face the music.

That’s the message the U.S. government shared with the world last week, giving importers until November 4 to cut their consumption of Iran’s crude to zero—or expect sanctions. The threat comes a month after President Donald Trump withdrew the U.S. from the Obama-era nuclear deal.

West Texas Intermediate (WTI) responded by adding more than $6 to the price of a barrel last week alone, to end above $74.

U.S. toughness on iran pushes crude above $70 a barrel
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Other drivers included supply disruptions in Canada and Libya, as well as a sharp, more-than-expected decline in U.S. crude inventories. Nearly 10 million barrels were drawn in the week ended June 27, the most since September 2016. Crude is now up an eye-popping 70 percent from the same time last year, contributing to the inflationary pressure that’s pushed consumer price growth to a six-year high.

And there could be more upside, should supply crunches continue along with Trump’s ongoing geopolitical efforts to isolate Tehran. Ready to see $90-a-barrel oil? That’s the forecast from Bank of America Merrill Lynch analyst Hootan Yazhari.

“We are in a very attractive oil price environment,” Yazhari told CNBC this week, “and our house view is that oil will hit $90 by the end of the second quarter of next year,” or 12 months from now.

Even if this prediction ends up overshooting the mark, I believe there could still be money to be made in the energy space on tightening supply and strong global demand. For more, I urge you to watch this brief video outlining the six factors that matter when picking energy stocks.

Bull Market May Have Just Hit a Trade War Wall

The U.S. market is mere days from hitting a milestone that some investors might not have anticipated in the business-friendly era of Trump. Both the S&P 500 Index and Dow Jones Industrial Average have been stuck in correction mode since early February of this year, when inflation fears and concerns of a global trade war triggered a monster selloff.

Today marks the 100th day both indices have been in correction, and according to MarketWatch, if they stay sideways another nine trading days, it will become the longest such stretch since 1984.

Stocks managed to recover then, but as I see it, unless Trump softens his stance on trade, they will have a difficult time doing the same today. Stiff retaliatory barriers are scheduled to be raised by China, Canada and other key markets, and Canadian consumers have already started boycotting American-made goods. U.S. exports of steel, soybeans and other products are down from a year ago because of friction over the tariffs, which are essentially regulations that could jeopardize the positive work Trump has done in cutting red tape in other areas.

Below is the Dow’s performance so far this year, not including today, annotated with some key moments in the Trump trade war. I chose the Dow specifically because it includes the very largest U.S. exporters, some of which do tens of billions of dollars in sales in China alone. As the biggest U.S. exporter, Boeing delivered more than 200 aircraft to the Asian country last year, accounting for a quarter of the plane maker’s global sales. Apple generated around 20 percent of its revenue in China, or the equivalent of $44.7 billion.

key moments in trump trade war
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The question now is whether we’re headed for a recession, and how investors can prepare—though I believe the market is oversold, as I explain in the most recent edition of Frank Talk Live. The last nine years have been extraordinarily profitable, but every bull market must come to an end—not from age, remember, but from changes in monetary or fiscal policy.

Last week I offered one of my favorite strategies to face the next bear market with confidence. Discover what it is by clicking here.

Trade war friction has strained international relations in other ways than just trade, of course. Among those is foreign direct investment (FDI), essential for global economic growth.

Chinese FDI in the U.S. Just Fell 92 Percent

China’s tech industry is exploding. Last year, gross output value of Chinese tech firms hit 20 trillion yuan, or about $3 trillion, for the first time ever. Nine of the world’s 20 biggest tech firms now call China home, beginning with Alibaba, valued at half a trillion dollars. And for the past several years, China has filed far more patent applications than the U.S. on an annual basis. (I should point out, though, that the U.S. still has more patents overall, having just issued patent number 10 million.)

The Asian country, in fact, has more unicorns—or startups worth $1 billion or more—than any other nation on earth. Chinese unicorns account for more than half of the global total, and 66 percent in terms of valuation, according to the World Economic Forum (WEF).

Just look at the top 10 Chinese unicorns. Ant Financial, formerly known as Alipay, ranks first with a valuation of $145 billion. That’s about twice the value of the number one U.S. unicorn, Uber.

top 10 china unicorns
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It’s very likely even more capital will flow into these firms this year and next. That’s because Chinese FDI in the U.S. fell an incredible 92 percent in the first half of 2018, as the government cracks down on capital flight. The decline is also likely in response to the U.S. government’s increased scrutiny of Chinese acquisitions.

chinese foreign direct investment (FDI) in the U.S. fell 90 percent in the first half of 2018
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According to economic research firm Rhodium, Chinese investors have sold $9.6 billion worth of U.S. assets, including office buildings in New York, San Francisco, Chicago and Los Angeles. That’s after making only $1.8 billion in investments. What this means is that the country’s net U.S. FDI is negative $7.8 billion so far this year.
And regarding a possible rebound in Chinese investment activity, “looming U.S. policies present substantial headwinds,” writes Rhodium’s director of research, Thilo Hanemann.

So where will all this capital go?

I don’t think anyone can say for sure, but my guess is that this will be a huge windfall for the already fast expanding Chinese tech industry.

Only Half of China Is Online

There are even more reasons to be optimistic about the Chinese tech industry, including the fact that only a little over half of the country’s population is online. At 772 million people, the user base is massive—more than twice the size of the entire U.S. population—but penetration is only 54.6 percent, according to UBS. That’s well behind the U.K. (94.8 percent), Japan (93.3 percent) and the U.S. (87.9 percent).

china's online universe still has room for growth
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This means, of course, that the country’s tech and internet industries still have much room to grow.

China is already number one in mobile payments, having surged to a whopping $9 trillion in 2016, compared to only $112 billion for the U.S. The Asian giant is rapidly becoming cashless—so much so that a friend of mine recently had a hard time using paper money to make a purchase in a Chinese convenience store. In fact, a number of unmanned, fully-automated stores—most notably BingoBox and Alibaba’s Tao Cafe—have sprung up all over the country. Transactions are made simply by scanning your smartphone on a designated counter or plate before leaving the store.

 

All opinions expressed and data provided are subject to change without notice. Some of these opinions may not be appropriate to every investor. By clicking the link(s) above, you will be directed to a third-party website(s). U.S. Global Investors does not endorse all information supplied by this/these website(s) and is not responsible for its/their content.

The S&P 500 Stock Index is a widely recognized capitalization-weighted index of 500 common stock prices in U.S. companies. The Dow Jones Industrial Average is a price-weighted average of 30 blue chip stocks that are generally leaders in their industry.

Holdings may change daily. Holdings are reported as of the most recent quarter-end. The following securities mentioned in the article were held by one or more accounts managed by U.S. Global Investors as of 3/31/2018: The Boeing Co.

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GO GOLD! Inflationary Tariffs Could Supercharge the Yellow Metal
June 4, 2018

Global sales of semiconductors crossed above 400 billion for fisrt time in 2017

Ready for inflation?

Just days after Treasury Secretary Steven Mnuchin reassured markets that a trade war between the U.S. and China was “on hold,” the Trump administration announced that it would be moving forward with plans to impose 25 percent tariffs on as much as $50 billion worth of Chinese exports to the U.S. Beijing has already suggested that it will retaliate in kind.

The White House also reinstated tariffs on imports of steel and aluminum from Canada, Mexico and the European Union (EU) after allowing earlier exemptions to expire. Again, there’s a big chance the U.S. will see some sort of tit-for-tat response.

Steel prices are already up 45 percent from a year ago. The annual change in the price of a new vehicle in the U.S. has been dropping steadily since last summer, according to Bureau of Labor Statistics data, but with the cost of materials set to rise dramatically, we could see a price reversal sooner rather than later.

US midwest hot rolled steel price up 45 percent from last year
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Next up, the U.S. government could slap steep tariffs on imported automobiles—and possibly even ban German luxury vehicles outright, according to a report by German business news magazine WirtschaftsWoche.

These decisions, if fully implemented, will have a multitude of implications on the U.S. and world economies. What I can say with full confidence, though, is that prices will rise—for producers and consumers alike—which is good for gold but a headwind for continued economic growth.

You Can’t Suck and Blow at the Same Time

US midwest hot rolled steel price up 45 percent from last year

Let me explain. I’ve often said that middle class taxpayers elected Trump president by and large to take on entrenched bureaucrats, cut the red tape and streamline regulations. People are fed up. A study last year by the Congressional Budget Office (CBO) found that government workers not only earn more on average than private-sector workers with similar educational backgrounds, they’re also guaranteed health, retirement and other benefits. Trump responded to these concerns by signing an executive order that eased the firing of federal workers.

He’s kept his word in other ways. Since being in office, he’s already eliminated five federal rules on average for every new rule created, according to the Competitive Enterprise Institute (CEI). He’s weakened Obamacare and Dodd-Frank, not to mention slashed corporate taxes.

In 2017, the number of pages in the Federal Register, the official list of administrative regulations, dropped to 61,950 from 97,069 the previous year. This is especially good news for productivity. Research firm Cornerstone Macro found that Americans were more productive when there were fewer rules, less productive when there were more rules. 

productivity decreased as the number of federal rules and regulations grew
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These are all positive developments that should help boost the economy. The problem is that they could be undermined by tariffs, which are essentially regulations. We believe government policy is a precursor to change, and history suggests that rising tariffs and regulations hurt the economy.

Consider automobiles. U.S. automakers are the second largest consumer of steel following construction. In March, the Wall Street Journal estimated that the tariffs could add at least $300 to each new vehicle sold in the U.S. And speaking to Bloomberg last week, a spokeswoman for the Alliance of Automobile Manufacturers said the tariffs on steel and aluminum imports will make cars more expensive. “These tariffs will result in an increase in the price of domestically produced steel—threatening the industry’s global competitiveness and raising vehicle costs for our customers,” Gloria Bergquist said.

Do tariffs on imported vehicles threaten united states auto sales
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Higher Inflation Has Historically Meant Higher Gold Prices

The good news in all this is that higher inflation has historically been supportive of the price of gold. In the years when inflation was 3 percent or higher, annual gold returns were 15 percent on average, according to the World Gold Council (WGC).

gold has historically rallied in periods of high inflation
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When gold hit its all-time high of $1,900 an ounce in August 2011, consumer prices were up nearly 4 percent from the same time the previous year. The two-year Treasury yield, meanwhile, averaged only 0.21 percent, meaning the T-note was delivering a negative real yield and investors were paying the U.S. government to hang on to their money. This created a favorable climate for gold, as investors sought a safe haven asset that would at least beat inflation.

CIBC: Major Gold Firms to Generate Strong Free Cash Flow and ROIC

gold has historically rallied in periods of high inflation

Finally, I want to draw attention to an exciting research report released last week by the Canadian Imperial Bank of Commerce (CIBC). I’m a huge admirer of the work CIBC does, especially that of Cosmos Chiu, director of precious metals equity research. Chiu and his team write that the “future looks brighter” for gold equities on improved free cash flow and return on invested capital (ROIC). Both factors are among our favorites. I recently shared with you a chart that shows that, over the past 30 years, ROIC outperformed other factors by as much as one and half times.

With gold trading near $1,300 an ounce, producers are currently posting positive margins, according to CIBC. As a result, every stock in the bank’s large-cap universe, with the exception of Kinross, is expected to generate positive free cash flow through 2019.

Go Gold! Royalty/Streaming Companies Deliver the Profits

The bank has even better news for royalty and streaming companies, particularly Franco-Nevada, Royal Gold and Wheaton Precious Metals. For one, the three big royalty names delivered combined shareholder returns of 6.2 percent between 2013 and 2017, outperforming both senior producers and physical gold.

Three largest royalty and streaming companies forecast to deliver strong return on invested capital
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Now, CIBC forecasts the royalty group will generate strong ROICs, “steadily inching higher over the next decade… to average between the 5 percent and 8 percent mark from 2018 – 2023.” ROIC measures how well a company can turn its invested capital into profits.  

Loyal readers already know we’ve long been fans of Franco-Nevada, Wheaton Precious Metals and other royalty/streaming names. 

 

All opinions expressed and data provided are subject to change without notice. Some of these opinions may not be appropriate to every investor. Some links above may be directed to third-party websites. U.S. Global Investors does not endorse all information supplied by these websites and is not responsible for their content.

Holdings may change daily. Holdings are reported as of the most recent quarter-end. The following securities mentioned in the article were held by one or more accounts managed by U.S. Global Investors as of (03/31/2018): Franco-Nevada Corp., Royal Gold Inc., Wheaton Precious Metals Corp.

Free cash flow is the cash a company produces through its operations, less the cost of expenditures on assets. In other words, free cash flow or FCF is the cash left over after a company pays for its operating expenses and capital expenditures or CAPEX.

Return on invested capital (ROIC) is a profitability ratio. It measures the return that an investment generates for those who have provided capital, i.e. bondholders and stockholders. ROIC tells us how good a company is at turning capital into profits.

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This Oil Rally Could Have Much Further to Go
May 16, 2018

a picture inside hive blockchain technologies cryptocurrency mining facility in inceland

For more than a week now, West Texas Intermediate (WTI) crude oil has been trading north of $70 per barrel, a level we haven’t seen since November 2014. Gas prices are likewise trending up, as I’m sure you’ve noticed. According to the American Automobile Association (AAA), the average cost for a gallon of regular gas was $2.88 on May 15, up nearly 25 percent from a year ago.

This will inevitably push inflation up even higher. In April, consumer prices advanced 2.4 percent year-over-year, their fastest pace since February 2017.

Energy the Best Performing Sector for the Three-Month Period

The good news is that energy stocks are also recovering. The S&P 500 Energy Index, which tracks heavy hitters such as Chevron, Exxon Mobil, Marathon Petroleum and more, is up almost 7 percent year-to-date, and 46 percent since its low in January 2016. As of May 15, energy was the top-performing sector for the three-month period, returning 14.5 percent.

energy stocks are recovering alongside oil prices
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Those returns could grow even more, if Bank of America Merrill Lynch’s latest forecast proves accurate. Analysts there believe the price of oil could climb back up to the $100 range as early as next year, which would add another $1 to the cost of a gallon of gas.

Speaking to CNBC this week, famed energy analyst Dan Yergin, winner of the Pulitzer Prize, said that Brent crude, the international oil benchmark, could reach $85 a barrel by July. This would serve as a “big stimulus” for U.S. drilling activity, he noted. I would add energy share prices to that assessment.

2018 gas prices higher than previous three years
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U.S. gas prices peaked at $4.11 a gallon in July 2008, according to AAA, and if you’re like me, you’re probably in denial that we might have to start paying that again at the pump. We’re not quite there yet, but it might be time to get your portfolio ready by adding to your energy exposure.

Venezuela Oil Output Deteriorates Further Ahead of Sunday’s Presidential Election

So what’s driving the current rally?

Besides greater global demand—supported by a healthy, expanding economy—two things in particular are keeping prices buoyant right now. Number one, President Donald Trump’s decision to pull the U.S. out of the Iran nuclear deal has the potential to curb exports out of the Middle Eastern country, by as little as 200,000 barrels per day (bpd) or as much as 1 million bpd, depending on your source. Iran is responsible for about 4 percent of the world’s supply, so the impact is not insignificant.

Global oil supply is also being squeezed right now by worsening economic conditions in Venezuela. A member of the Organization of the Petroleum Exporting Countries (OPEC), Venezuela sits atop the world’s largest proven oil reserves—and yet its monthly output has been declining rapidly for more than two years. In January, the most recent month of data available, the South American country pumped only 1.67 million bpd. The International Energy Agency (IEA) estimates output fell an additional 60,000 bpd in February. That’s a 31-year low with the exception of a brief period between December 2002 and February 2003 when oil workers went on strike, sending global prices soaring.

Venezuela oil production in freefall
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Venezuela’s crumbling economy will be top of mind this Sunday as its citizens go to the polls for the first time since socialist President Nicolas Maduro took power in 2013. Although hyperinflation has made the bolivar more worthless than tissue paper, and food and medicine shortages are an everyday thing now, it’s hard to imagine Maduro not walking away with a second term.

Venezuela is one of the most corrupt nations in the world, and the U.S. plans to hit back with steep oil sanctions following Sunday’s election. The beleaguered country is the third-largest supplier of crude to the U.S., following Canada and Saudi Arabia. Such sanctions would be a crippling blow not only to its oil industry but also the government’s already-fragile budget.

As unfortunate as this is, it nonetheless presents an opportunity to energy and oil investors, with additional upside potential as the country’s oil supply tightens even further.

 

The S&P 500 Energy Index comprises those companies included in the S&P 500 that are classified as members of the GICS energy sector.

Holdings may change daily. Holdings are reported as of the most recent quarter-end. The following securities mentioned in the article were held by one or more accounts managed by U.S. Global Investors as of 3/31/2018: Exxon Mobil Corp., Chevron Corp., Marathon Petroleum Corp.

All opinions expressed and data provided are subject to change without notice. Some of these opinions may not be appropriate to every investor. By clicking the link(s) above, you will be directed to a third-party website(s). U.S. Global Investors does not endorse all information supplied by this/these website(s) and is not responsible for its/their content.

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These Two Funds Offer an Attractive Risk/Reward Profile
April 20, 2018

These Two Funds Offer an Attractive Risk/Reward Profile

Two of our mutual funds, the China Region Fund (USCOX) and Global Resources Fund (PSPFX), offered investors very attractive risk/reward profiles compared to their respective peer groups for the 12-month period ended March 31. I believe this is the result of our unique, actively-managed quant models and nimbleness to act based on market volatility, money flows and other factors.

Look at the scatterplot graph below. The y-axis measures the 12-month return, while the x-axis measures monthly standard deviation, or, more generally, risk. Ideally, for any given time period, you want your investment to appear in the upper-left quadrant, as this indicates you’ve received higher returns for a relatively low amount of risk.

For the 12-month period ended March 31, the China Region Fund (USCOX) delivered a noteworthy return of 37.06 percent, compared to its benchmark, the Hang Seng Composite Index, which rose 24.40 percent. Its return was also higher than the average for the China peer group. At the same time, USCOX had relatively lower risk than many of its peers, with a monthly standard deviation of between 3 and 4 percent.

Risk return analysis for the China region fund USCOX
click to enlarge

In USCOX we maintain overweight positions in consumer discretionary and technology. As we see it, these sectors are where the growth is, driven by innovative tech firms, from Sunny Optical to Tencent; automakers such as Geely Automotive; and casino names like Galaxy Entertainment and Wynn Macau.

Explore the China Region Fund (USCOX) by clicking here!

A Look at the Global Resources Fund (PSPFX)

Our Global Resources Fund (PSPFX) similarly had an attractive risk/reward profile for the one-year period ended in March. The fund returned 11 percent, well above many of its peers in energy and materials, and it was less risky than the group’s average.

Risk return analysis for the Global Resources fund PSPFX
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For PSPFX, our rigorous quant research process begins with 1,600 possible names in the energy and materials space. We immediately whittle this number down to around 700 or 800 after screening for net debt-to-enterprise value—we don’t want overly-leveraged companies—as well as liquidity and free cash flow growth.

Next, we look at enterprise value-to-EBITDA—or earnings before interest, taxes, depreciation, and amortization—meaning we seek companies that offer greater value in their sector relative to their peers. In other words, we compare oil producers to oil producers, not oil producers to, say, logging and timber companies.

Finally, we screen for return on invested capital (ROIC), one of the most widely-used factors, and free cash flow yield. We like to invest in companies that we anticipate will reward us.

This gives us the 50 or so names that eventually make it into PSPFX. It’s a process that we’re committed to and that we believe delivers highly competitive results.

Commodities on Sale

Another reason investors might want to consider commodities is that they’ve rarely been this cheap relative to stocks. The equities-to-commodities ratio, as measured by the S&P 500 Index and the S&P GSCI Index, is at its lowest level in nearly 50 years. This means that materials could be ripe for mean reversion, representing one of the most attractive entry points in recent memory.

Commodities at most undervalued level in decades
click to enlarge

Commodities are also responding to geopolitical jitters. With oil, aluminum and other materials making multiyear highs because of Russian sanctions and military action in Syria, Goldman Sachs recently issued a bullish statement, writing that “the strategic case for owning commodities has rarely been stronger.”

Of course, this is only one investment bank’s opinion, and there’s no guarantee that past events will end up being repeated. It’s possible a full recovery is still months or even years away. Proceed with caution, but I think it’s worth your time to at least consider adding to your commodities exposure.

Interested in gaining exposure to commodities and raw materials? Visit the Global Resources Fund (PSPFX) page!

Please consider carefully a fund’s investment objectives, risks, charges, and expenses. For this and other important information, obtain a fund prospectus by visiting www.usfunds.com or by calling 1-800-US-FUNDS (1-800-873-8637). Read it carefully before investing. Foreside Fund Services, LLC, Distributor. U.S. Global Investors is the investment adviser.

Past performance does not guarantee future results.

Total Annualized Returns as of 3/31/2018:

Fund One-Year Five-Year Ten-Year Gross Expense
China Region Fund 37.06% 8.99% 1.80% 2.76%
Hang Seng Composite Index 24.40% 6.00% 2.48% n/a
Global Resources Fund 11.00% -8.30% -5.91% 1.85%

The Adviser of the China Region Fund has voluntarily limited total fund operating expenses (exclusive of acquired fund fees and expenses of 0.02%, extraordinary expenses, taxes, brokerage commissions and interest, and advisory fee performance adjustments) to not exceed 2.55%. With the voluntary expense waiver amount of 0.38%, total annual expenses after reimbursement were 2.36%. U.S. Global Investors, Inc. can modify or terminate the voluntary limit at any time, which may lower a fund’s yield or return. Expense ratio as stated in the most recent prospectus. Performance data quoted above is historical. Past performance is no guarantee of future results. Results reflect the reinvestment of dividends and other earnings. For a portion of periods, the fund had expense limitations, without which returns would have been lower. Current performance may be higher or lower than the performance data quoted. The principal value and investment return of an investment will fluctuate so that your shares, when redeemed, may be worth more or less than their original cost. Performance does not include the effect of any direct fees described in the fund’s prospectus which, if applicable, would lower your total returns. Performance quoted for periods of one year or less is cumulative and not annualized. Obtain performance data current to the most recent month-end at www.usfunds.com or 1-800-US-FUNDS.

Foreign and emerging market investing involves special risks such as currency fluctuation and less public disclosure, as well as economic and political risk. By investing in a specific geographic region, a regional fund’s returns and share price may be more volatile than those of a less concentrated portfolio. Because the Global Resources Fund concentrates its investments in specific industries, the fund may be subject to greater risks and fluctuations than a portfolio representing a broader range of industries.

The S&P 500 is a stock market index that tracks the stocks of 500 large-cap U.S. companies. It represents the stock market's performance by reporting the risks and returns of the biggest companies. The S&P GSCI (formerly the Goldman Sachs Commodity Index) serves as a benchmark for investment in the commodity markets and as a measure of commodity performance over time. The Hang Seng Composite Index is a stock market index of the Stock Exchange of Hong Kong that has components of 200 companies.

Debt-to-enterprise value measures how much debt a company carries relative to its total value. Free cash flow (FCF) is a measure of a company's financial performance, calculated as operating cash flow minus capital expenditures. FCF represents the cash that a company is able to generate after spending the money required to maintain or expand its asset base. Enterprise value-to-EBITDA, or EV/EDITDA, equals a company's enterprise value divided by earnings before interest, tax, depreciation, and amortization. Return on invested capital(ROIC) is a profitability ratio that measures the return an investment generates for those who have provided capital. ROIC tells us how good a company is at turning capital into profits. Free cash flow yield is an overall return evaluation ratio of a stock, which standardizes the free cash flow per share a company is expected to earn against its market price per share. The ratio is calculated by taking the free cash flow per share divided by the share price.

You cannot invest directly in an index.

Standard deviation is a measure of the dispersion of a set of data from its mean. The more spread apart the data, the higher the deviation. Standard deviation is also known as historical volatility.

Fund portfolios are actively managed, and holdings may change daily. Holdings are reported as of the most recent quarter-end. Holdings in the China Region Fund and Global Resources Fund as a percentage of net assets as of 3/31/2018: Sunny Optical Technology Group Co. Ltd. 10.62% in China Region Fund, 0.00% in Global Resources Fund; Tencent Holdings Ltd. 10.41% in China Region Fund, 0.00% in Global Resources Fund; Geely Automotive Holdings Ltd. 9.84% in China Region Fund, 0.00% in Global Resources Fund; Galaxy Entertainment Group Ltd. 2.67% in China Region Fund, 0.00% in Global Resources Fund; Wynn Macau Ltd. 2.05% in China Region Fund, 0.00% in Global Resources Fund.

All opinions expressed and data provided are subject to change without notice. Some of these opinions may not be appropriate for every investor.

 

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Which Has the Bigger Economy: Texas or Russia?
April 16, 2018

Everything is bigger in Texas

You’ve no doubt heard that everything’s bigger in Texas. That’s more than just a trite expression, and I’m not just saying that because Texas is home to U.S. Global Investors.

Want to know how big Texas really is? Let’s compare its economy with that of Russia, the world’s largest country by area. As you probably know, Russia’s been in the news a lot lately, so the timing of this comparison makes sense. The U.S. just levied fresh sanctions against the Eastern European country for its alleged meddling in the 2016 presidential election, and early last week President Donald Trump warned Russia that the U.S. military could soon strike its ally Syria in response to its use of chemical weapons—a promise he kept Friday evening.

The Russian ruble traded sharply down following the news, decoupling from Brent crude oil, the country’s number one export.

Russian ruble decoupled from Brent crude following US snactions
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But back to the comparison. Even though Russia has nearly five times as many residents as Texas, the Lone Star State's economy is more than $400 billion larger. Texans, therefore, enjoy a gross domestic product (GDP) per capita of around $58,000, whereas Russians have one closer to $8,700.

Texas Is So Much More than Oil Country

The Russian Federation is the largest single producer of crude in the world, pumping out 10.95 million barrels per day (bpd) in January, according to the country’s energy minister. Texas is no slouch, though, as its output came close to 4 million bpd in January. That’s the most ever for a January since at least 1981. And from December 2017 to February 2018, its oil and gas industry accounted for nearly 30 percent of the state’s employment growth, according to the Federal Reserve Bank of Dallas.

But whereas Russia’s economy is highly dependent on exports of oil and petroleum products, the Texas economy is broadly diversified. The state ranks first in the U.S. for not only oil production but also wind energy. It has a robust agricultural sector, and it’s a leading hub for advanced technology and manufacturing, aeronautics, biotechnology and life sciences. Austin, the state capital, is steadily emerging as the most dynamic U.S. filmmaking city outside of Hollywood.

Texas exports

All of this has helped contribute to Texas being among the fastest growing states in the U.S. In 2017, it grew by more than 1,000 new residents per day.

Meanwhile, Russia’s population is slowly shrinking because of low birth rates and low immigration. Its population peaked at 148 million in the early 1990s—right around when the Soviet Union fell—and by 2050, it’s estimated to sink to 111 million. 

Can Russia Root Out Its Corruption?

One area where Russia trumps Texas is in corruption. If you think Texas—or any other state—has a corruption problem, Russia takes it to a whole new level.

But Russia takes it to a whole new level. Last year, it ranked 135 out of 180 countries on Transparency International’s Corruption Perceptions Index (CPI), released in February. Among Eastern European countries, only Uzbekistan, Tajikistan and Turkmenistan ranked lower. Watchdog group Freedom House was similarly critical in its most recent analysis, giving the country an overall democracy score of 6.61 out of 7, with 7 being “least democratic.”

So notorious and widespread is Russia’s mafia that a number of movies have been made about it. One of the best among them is David Cronenberg’s excellent Eastern Promises (2007).

Having said all that, I believe it’s prudent for investors to underweight Russian stocks for the time being and overweight Western Europe. Because of U.S. sanctions, Americans have until May 7 to divest completely from a number of Russian names, including Rusal, En+ Group and GAZ (Gorkovsky Avtomobilny Zavod), all of which saw serious outflows last past week. The MSCI Russia Index, which covers about 85 percent of Russian equities’ total market cap, plunged below its 200-day moving average, but last Thursday it jumped more than 4 percent, its best one-day move in two years.

Weaker Greenback and $1 Trillion Deficit Helps Gold Glitter

Gold is rallying right now, but as I told Daniela Cambone in last week’s “Gold Game Film,” it has little to do with Russian geopolitics, or even trade war fears, which have subsided somewhat in the past couple of weeks. Instead, the price of gold is responding primarily to a weaker U.S. dollar. For the 30-day period, the greenback has dipped close to 20 basis points—for the year, more than 11 percent.

I think what’s also driving the yellow metal right now are concerns over the U.S. budget deficit and ballooning government debt. This week the Congressional Budget Office (CBO) said it estimated the deficit to surge over $1 trillion this year and average $1.2 trillion each subsequent year between 2019 and 2028, for a total of $12.4 trillion. By the end of the next decade, then, debt held by the public is expected to approach 100 percent of U.S. GDP.   

US deficits projected to be larger than previously estimated
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According to the U.S. National Debt Clock, government debt now stands at over $21 trillion—or, put another way, $174,000 per taxpayer. Imagine what the interest payments on that must be.

The CBO, in fact, commented on this. Believe it or not, the government’s annual payments on interest alone, made even more burdensome by rising rates, are expected to exceed what it spends on the military by 2023. And remember, defense is one of the country’s top expenditures, alongside Medicare, Medicaid and other entitlement programs.

US government is expected to start spending more on interest than defense in 2023
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There was even more news last week on debt and the deficit, as Congress tried, and failed, once again to amend the Constitution by requiring a balanced budget. The amendment could not get the two-thirds support it needed.

You can probably tell where I’m headed with all of this. Savvy investors and savers might very well see this as a sign to allocate a part of their portfolios in “safe haven” assets that have historically held their value in times of economic contraction.

Gold is one such asset that’s been a good store of value in such times. As I’ve shown before, gold has tracked U.S. government debt up since 1971, when President Richard Nixon ended the gold standard. I always recommend a 10 percent weighting in gold—5 percent in bars and coins; 5 percent in high-quality gold stocks, mutual funds or ETFs.

Asset Allocation Works

On a final note, I think it’s important that investors remember to stay diversified, especially now with volatility hitting stocks and geopolitical uncertainty on the rise. I’ve discussed Roger Gibson’s thoughts on asset allocation with you before, and I believe his strategy still holds up well today to capture favorable risk-adjusted returns.

Asset allocation works
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In the chart above, based on Gibson’s research, you can see that a portfolio composed of U.S. stocks, international stocks, real estate securities and commodity securities gave investors an attractive risk-reward profile between 1972 and 2015. This diversified portfolio, represented above by the orange circle, delivered good returns with a digestible amount of volatility, compared to portfolios that contained only one, two or three asset classes. Concentrating in only one or two asset classes could possibly give you higher returns, but you’d also likely see much greater risk, which many investors aren’t willing to accept.

I believe adding fixed-income—specifically short-term, tax-free municipal bonds—could improve these results. Munis with a shorter duration, as I’ve explained in the past, have a history of being steady growers not just in times of rising rates but also during market downturns. In the past 20 years, the stock market has undergone two massive declines, and in both cases, short-term, investment-grade munis—those carrying an A rating or higher—helped investors stanch the losses.

 

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The Corruption Perceptions Index (CPI) scores countries on how corrupt their governments are believed to be. A country's score can range from zero to 100, with zero indicating high levels of corruption and 100 indicating low levels.

The MSCI Russia Index is designed to measure the performance of the large and mid-cap segments of the Russian market. With 22 constituents, the index covers approximately 85% of the free float-adjusted market capitalization in Russia.

The MSCI EAFE Index is an equity index which captures large and mid-cap representation across Developed Markets countries around the world, excluding the US and Canada. With 927 constituents, the index covers approximately 85% of the free float-adjusted market.

The FTSE Nareit All Equity REITs Index is a free-float adjusted, market capitalization-weighted index of U.S. equity REITs. Constituents of the index include all tax-qualified REITs with more than 50 percent of total assets in qualifying real estate assets other than mortgages secured by real property.

The Bloomberg Commodity Index, formerly the DJ-UBS Commodity Index, is a broadly diversified index that tracks the commodities markets through commodity futures contracts. Since its launch in 1998, it has emerged as a leading benchmark of commodity markets.

A basis point, or bp, is a common unit of measure for interest rates and other percentages in finance. One basis point is equal to 1/100th of 1%, or 0.01% (0.0001).

Diversification does not protect an investor from market risks and does not assure a profit.

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Net Asset Value
as of 12/12/2018

Global Resources Fund PSPFX $4.59 0.03 Gold and Precious Metals Fund USERX $6.46 -0.01 World Precious Minerals Fund UNWPX $3.03 -0.02 China Region Fund USCOX $7.97 0.06 Emerging Europe Fund EUROX $6.18 -0.01 All American Equity Fund GBTFX $24.18 0.06 Holmes Macro Trends Fund MEGAX $18.17 0.13 Near-Term Tax Free Fund NEARX $2.19 No Change U.S. Government Securities Ultra-Short Bond Fund UGSDX $2.00 No Change