Macro, Markets, and Malarkey

Stocks and Bonds
It feels like forever ago, but back in February, the S&P 500 hit its lowest level since 2014 as global growth fears spooked investors, leading to liquidations and deleveraging—most notably for sovereign wealth funds.

Fast forward to now…as of the end of July 2016, the S&P 500 closed at 2,173.60—up 7.5% from the beginning of the year. And, 10-year treasury yields started the year at 2.24%; as of the end of July 2016, rates were at 1.46%—a 35% decline in yield from the beginning of the year. These are big movements in both domestic stock and bond markets which investors shouldn’t take lightly.


Also, more than $11 trillion in negative yielding bonds are outstanding, largely in Europe and Japan. The Financial Times wrote a great piece recently highlighting the post-Brexit surge in investor bond purchases.[1]


This means that if an investor holds one of these bonds until maturity, they actually lose money. They are also paying the issuer for the right to own these bonds, versus receiving some sort of payment in return—as Finance 101 teaches us should be the case. Governments with massive stimulus policies (ECB, Bank of Japan, and now the Bank of England) are buying up bonds, bidding up the price of these bonds and thus sending yields negative. Accelerating the decline in yields is the fact that the supply of such bonds is not ample enough to meet this demand. Negative yields are supposed to entice investors to invest in other assets, since they clearly lose money by investing in such bonds. This hasn’t happened. And yes, this is completely backwards and deflationary.

Currencies and Commodities
Currency markets have not been immune to this storyline; as Europe and Japan use monetary policy to help grow their economies, foreign investments flow to the US for its higher yields. Since May, foreign buying coupled with more hawkish Fed speak has strengthened the US dollar versus other currencies.


If the US dollar continues to strengthen or simply stays strong on a relative basis, this has the potential effect of placing a lid on US inflation. The stronger the US economy gets versus its global counterparts, the stronger the dollar looks versus other currencies.

A strong dollar is usually a negative for commodities. And in fact, the strong dollar has kept commodity markets mostly in check since early May, as we wrote about in Commodities at a Crossroads. Of note, crude oil fell to under $30 a barrel earlier this year, sliding alongside the S&P 500, touching its lowest levels since May of 2002. It then spiked to above $50, and now hovers just north of $40 due to dollar related price pressure—nearly 20% below its peak in June of $50.11.

The US Economy and Election
That’s not all. We’ve barely discussed the domestic economy. Here at home, despite anemic GDP growth of 1.2% for Q2, economic growth is indeed expanding as evidenced by the latest payroll and hiring figures. Non-farm payrolls increased by 255,000 in July on a seasonally-adjusted basis, with the unemployment rate at a very healthy 4.9%. Wage growth and labor market improvements here in the US makes a strong case for the Fed to raise rates. Our view is they should raise rates in September, ahead of the election. Whether they will or not remains another question.

Lastly, and as an homage to Vice President Biden’s favorite saying, “malarkey,” rhetoric around the US election has truly captured the American public, including ourselves. We are seeing raw democracy at work here and elsewhere. People are voting against the establishment; it’s a small segment of the human race, but it affects us all. In the meantime, it may become clearer that at extremes, when enough of the populace is truly feeling disadvantaged, capitalism has to make some changes. Otherwise capitalism and democracy are not going to work when the rule of law favors a few as opposed to the many. While this line of thinking may be too philosophical for a financial markets blog, it merits consideration because it does affect one’s view on investing.

Thus far financial markets have not reacted to the election news melee, but investors should pay attention. Should the Republicans lose their majority in the House and Senate, and Hillary Clinton is elected, this could have a dramatic impact on GDP as government spending will very likely increase…then again, it will also increase if Trump builds his wall.

What Should Investors Do?
Stocks can be at record highs throughout the year. The reality is that it doesn’t take much of a move to set a new record high when you have just made one. Odds are we will see low growth for the rest of the year, maybe the rest of the decade. One should expect dispersion by country and company with thoughtful, well analyzed decisions to make on what to own. This is going to take real professionals who are either doing real fundamental analysis or machine learning or can take advantage of the volatility and the anomalies. It’s going to be a different market. We all know that global and country growth comes from demographics and technology (of which productivity is a subset if you can measure it). But, there is a payback when the easy money goes away, causing slower growth than the demographics and technology would suggest.

In light of this, our view is that investors should have two areas of their portfolio well covered. First, there are downside risks to the market right now. Ignoring this fact would potentially leave one’s portfolio without a buffer, and we believe every portfolio needs uncorrelated assets. While it is self-serving to advocate for managed futures, Altegris has a focus on managed futures because time and time again they have performed during some of the worst periods for traditional equity markets.

Equity markets could continue to push for new highs, but we believe they are also susceptible to periods of steep losses. Managed futures performance has historically been uncorrelated to the performance of the broad stock market, and we strongly believe all investors with risk capital should consider this diversifying return stream, given the current macro picture.

The second bookend to investors’ portfolios, given the market environment, is private equity. Private equity was one of the few areas that didn’t sell off when investors panicked earlier this year, and whose returns can be orthogonal to the returns of traditional markets. Now, private equity is not a liquid investment option, so investors must be thoughtful in terms of just how much they allocate. But it is the forgoing of frequent liquidity that makes private equity attractive in our opinion. This is what is commonly referred to as the illiquidity premium, which is essentially the potential reward of enhanced returns—over time. This potential for enhanced returns may be particularly attractive for investors given the uncertainty in traditional equities at present.

The bottom line is that investors should aim to diversify portfolios. Look for ways to grow and preserve capital in your portfolio and seek returns in areas where investment managers have a real edge and understanding of the underlying investments. Pay attention, and invest for the future of your portfolios.


Data sourced from Bloomberg unless otherwise specified.

[1] Financial Times, June 29, 2016:

Commodities at a Crossroads

Our CEO, Jack Rivkin, recently revisited his thus far prescient view of economic issues facing “The Rest of the Americas.” There are several key drivers one should pay attention to when evaluating the Americas, most of which ultimately lead to the commodity markets.

From the Fed’s decision on interest rates (which is highly data dependent), currencies, the dependence of Chinese demand for commodity exports out of Canada and Latin American countries, and nearly ubiquitous political disharmony, commodities are at an inflection point. Here is why:


US Economic Data and the Fed
April retail sales were up 1.3%. Job creation is improving and wages are starting to improve as well. Economic data is getting better, but it’s not necessarily good enough for the Fed to take action. What are the possible scenarios and impacts on commodities?

  • Good Data: If we continue to see decent economic data, it could spur the Fed to raise interest rates at the upcoming meeting in June. An increase in the Fed Funds rate generally leads to strength in the US dollar (USD) relative to other currencies. Conventional wisdom stipulates that a strong USD is typically a negative for commodity markets; the two are negatively correlated since commodities are priced in USD. If the USD strengthens, commodities tend to suffer because it will take more dollars to buy the commodities. While that’s been true the majority of the time, it’s not always the case as one can see below:


  • Great Data: That said, if the data out of the US is very positive—one could view this as a growth theme. In this case, the Fed will almost definitely raise rates in June; the USD will rise; but if the US is consuming more, spending more, and on an improved economic growth trajectory, that could spur increased demand, which could actually push commodity prices higher.
  • Bad Data: The last scenario is if the US data gets worse. We don’t think this is all that likely, but low inflation could make the Fed blink. Where we may see bad data is globally. With global markets more intertwined than ever, it would be bold for the Fed to ignore any further and significant global weakness. Moreover, the big Brexit vote shortly after the June Fed meeting could give Yellen pause, ultimately postponing a hike until July.


According to both the World Economic Forum and the Wall Street Journal (WSJ), in 2015, China consumed “roughly an eighth of the world’s oil, a quarter of its gold, almost a third of its cotton and up to a half of all the major base metals.” In addition, as Jack pointed out in his Perspectives piece, China also produces about half the major base metals. One cannot discuss commodities without discussing China.


All eyes are on Chinese growth to continue fueling this impressive demand. Chinese growth is less than it was in prior years but their growth target remains between 6.5%-7.5%. While momentum has slowed, 6.5%-7.5% is not insignificant. To give some obvious context, the U.S. economy grew 0.5% on an annualized basis for the first quarter of 2016.

As Chinese demand for and production of commodities vacillates and its growth moderates, we could see more idiosyncratic Chinese market movements. For example, during September of 2015, China’s National Administration provided new standards for the use of aluminum cables. Aluminum is significantly cheaper than copper and China is rich in aluminum resources—substituting aluminum for copper allows for lower costs and less importing. Prior to September of last year, copper and aluminum prices moved fairly closely together. Since this time, however, we’ve seen more dispersion, periods in which aluminum rallied and copper declined. Thus demand may be increasing right now for base metals, but one may continue to see more substitution versus base metals moving in concert.

The remainder of 2016 should be interesting. If China backs off stimulus or increases local production, it could spell trouble for commodities given their significant share of commodity consumption. We tend to agree with the team from Gavekal Research, who recently stated the following:



“Since GDP growth in 1Q16 remained above the 6.5% target, it seems likely
that policymakers will now focus more on averting a major bubble and
dialing back leverage, than adding fresh stimulus. This is not to say that
the central bank will cause another interbank liquidity crunch, but it will instead
focus on keeping rates low and stable. Hence, do not expect more easing
policies in the next 3-6 months; after accelerating for the last year credit growth
is likely to stabilize at the current level.”

Gavekal Research, Chen Long, The Daily—“No More Easing Likely,” May 15, 2016;


If this is true, we may not see more stimulus from the Chinese central bank. Yet, a complete economic slowdown followed by stunted commodity demand seems unlikely.

Political Unrest
With the exception of Trudeau’s white knight status in Canada, much of the rest of the Americas’ leadership remains on shaky ground. Democracy in its raw form is coming to the USA, Rouseff is on her way out of Brazil, while Mauricio Macri is still sorting out the pieces in Argentina—and he’ll be doing that for a long time. Any perceived weakness in leadership could be viewed by investors as a sign of a weak economy. This too matters because as faith in these governments declines, so may their currency as we witnessed several times last year. For example, one of Brazil’s largest exports is coffee. A weak Brazilian real led to lower coffee prices. In fleeting moments of real strength, coffee rallied alongside.

Fig3of3_Charts_Brazil Real+CoffeePrices_051916

For countries that rely heavily on commodities for exports, a weak currency is not necessarily a positive. Therefore the impact of political unrest on commodities could make for a bumpy ride, at least in the short-term.

Commodities Now?

One may ask, is this a good time to get into commodities? The reality is, it depends on what sector, what commodity, and when. The question also assumes that investors only have the option to go long commodities. Imagine if you could have been short crude oil over the last two years? Our preference is to invest in strategies that can go long and short, such as trend following managed futures strategies. These strategies are systematic in nature with the goal of following price trends. If gold continues to rally, trend following systems will likely add more and more long gold exposure. In fact, most managers we follow are positioned long after gold’s rally this year. If the trend abates, these systems will typically reduce exposure and if the trend reverses strongly, these systems will follow the price trend in the other direction. Investing in systematic trend following strategies allows for long and short investing while taking out the discretionary judgement of trying to time these often volatile markets.

Commodities are indeed at a crossroads with some dispersion likely. Much of what can move individual commodity markets for the remainder of 2016 remains to be seen, as various other cross currents make it difficult to predict. In other words, even if we get Fed clarity, China and other variables could remain uncertain. Investors may want to look for trend following managed futures strategies that have the ability to follow commodity markets directionally once the fog clears.

China—Its Importance in the Markets and the Global Economies Today and Tomorrow

Greece is not our issue

I would recommend getting a copy of John Mauldin’s and Worth Wray’s e-book on China, A Great Leap Forward? In the meantime, in almost every short video we have posted on our site, in addition to some thoughts on the topic of the day, I have suggested one needs to pay attention to China. As an expectation for our Perspectives piece, “What to Expect in 2015 (and beyond),” we suggested that growth in China would be significantly lower than the seven percent plus targets being set. The implications of this were significant in terms of others’ trade balances, the prices of commodities, starting with oil, possible elements of unrest, and the possibility of diversions geopolitically as the population experienced this slowdown in growth. We expected that the government would weather this slowdown, having many tools at its disposal. As I have said before, trading in the Chinese markets themselves should be left to the professionals. I will keep saying that every chance I get.

In A Great Leap Forward? in general, a stronger case was being made that the debt picture could lead to disruptions and might put the country on a very slow growth path for a long time to come. China’s recent actions, i.e., rate lowering and an attempted bailout of provincial debt, would indicate the growth rate might be even slower than we thought. Is China on the path to its own QE? What is interesting, though, thus far, the currency has tracked the US dollar. China appears to be holding to several of its strategic goals: The yuan as a reserve currency; reduction of the cost of corruption on efficiency and political stability and strength; via the Silk Road initiatives, creation of a significant transportation infrastructure increasing its links and lowering its costs to and for its neighbors on trade with China; increasing internal consumption versus trade (still problematic); and, the topic covered in the chapter below from A Great Leap Forward?continued value-add technological development as a part of the transition to serving its own populace while competing on elements other than price with its goods and services. None of the above will be smooth paths for China. The bumps will have significant impact on the rest of the world as the transitions occur. Overall, growth rates will drop, somewhat consistent with, but still higher than what we can expect in the “developed” world over the next decade.

China’s creation of successful intellectual property development systems has major implications for the technology centers elsewhere in the world. As one looks at technology investing, capital will try to find its way into the Chinese system. And with the capital may come capabilities that move the country more quickly from Invention to Innovation and Implementation. Chinese capital will seek to acquire technology where it can. The capital markets will have to Pay Attention to what is happening economically and financially in China. Just understand, in the background, Moore’s Law, which knows no boundaries, will continue to find applications in a big testing ground.

In the meantime, maybe the chapter below from A Great Leap Forward? will provide a perspective on what to watch for as Moore’s Law finds a new set of users:


Chapter 5
Invention, Innovation, & Implementation
in the People’s Republic of China

Our next chapter comes from a true Wall Street legend.

Jack Rivkin is currently the chief investment officer at Altegris Investments in La Jolla, California; but he’s had a long and varied career with over 46 years of experience in public and private equity, alternative strategies, and cross-asset investment research. He holds several board positions with a wide variety of companies worldwide, including Idealab, Dale Carnegie, and Operative, and has worked closely with the United Nations Environment Program on climate change issues. He is also on the board of the World Policy Institute.

Mr. Rivkin is a respected thought leader worldwide and has held senior roles in the investment industry, including chief investment officer and head of private asset management at Neuberger Berman, and director of global research and head of the Worldwide Equities Division of Lehman Brothers Inc. Following his time at Lehman Brothers, he was a vice chairman and director of global research at Smith Barney (ultimately a subsidiary of Citigroup), and an executive vice president with Citigroup Investments, making direct investments and leading an investment team.

Jack is the principal subject in a series of Harvard Business School cases describing his experience as director of research and head of equities at Lehman Brothers, where he raised the firm’s Institutional Investor standings from worst to first in only three years. In that instance, “legend” may be an understatement.

While Jack has a keen understanding of the debt, demographic, and other structural problems dragging on the global economy today and threatening to destabilize markets without warning, I (John) am always struck by his unwavering optimism in the miracles of capitalism and the onward march of human progress. On that note, Jack is also the co-author of Risk & Reward: Venture Capital and the Making of America’s Great Industries (1987). 

In the following report on “Invention, Innovation, & Implementation in the People’s Republic of China,” Jack calls attention to the recent explosion in Chinese patent filings and argues that Beijing is making huge strides in encouraging the development of intellectual property. Over the course of the next 30 years, he argues, China is likely to follow a path to technological transformation similar to that of the United States over the past century. But he explains that China “is not turning its intellectual property into innovations, and ultimately businesses, at the pace of the developed world.” 

This transformation is a long-term process, and while the current trend will likely lead to an enormous rise in Chinese productivity over the longer term, it’s not enough to save the People’s Republic from its shorter-term debt troubles or its high-stakes efforts to rebalance the economy over the next few years. That said, concrete steps taken today toward higher productivity growth may offer a way out of Japanese-style stagnation in the years to come.

Jack Rivkin
Invention, Innovation, & Implementation
in the People’s Republic of China

The date of China’s entry into the modern global economy might truly be identified with the creation of the China Patent Law in 1984. The next year the Law became a part of the Paris Convention for the Protection of Industrial Property, originally created in 1883, during the Second Industrial Revolution, and still in existence.

Much like many other emerging countries at the earliest times in their industrial and technological development, including the United States (US), respect for Intellectual Property (IP) was initially minimal, particularly for use within domestic borders. The US, for example, did an effective job of using IP developed in Europe during the early days of the First Industrial Revolution in the 1700’s. The textile industry benefited from skilled workers and merchants breaking the laws and immigrating [sic] to the continent with specific information. Some of the early families in the northeast, whose names are still familiar today, used machine designs memorized from observation in England to start major businesses. It wasn’t until the Second Industrial Revolution, beginning in the 1870s [sic], when many countries had developed their own intellectual property to protect, that patent laws and the legal enforcement of same became a part of the competitive industrial landscape. 

China, which has its own multi-century history of invention, followed the same path that many developing nations have when it began its move from an internally focused rural nation to a country in contact with the rest of the world. With cheap labor costs and an undervalued currency, China developed a labor-cost-driven export economy as it began building infrastructure, moving labor from the farms to the cities, and taking advantage of the pace of technological development in the rest of the world. Its internal development, satisfying the largest population base in the world, has not kept pace with its external growth. China is certainly aware of this, and in its more recent five-year plans has attempted to shift the economic mix. This has become more important as wage growth has diminished the Chinese labor advantage while other countries with low-cost labor have developed infrastructure and logistics to serve the global markets. The impact of the Great Global Recession has affected the path of China’s growth, while at the same time the populace has experienced the early benefits of an improved standard of living. And, through the presence of modern technology, the citizens are more aware of how much better life could be.

It is not that China has been unaware of its requirements to build a sustainable society. The pace and outcome have been affected by the success of its export efforts to take advantage of global demand. That has created major imbalances within the economy, particularly with the slowdown in external demand from the Great Recession.

China has already taken the first step toward determining its own future and shifting the internal balance of activity. The leaders have embraced what Alan Kay (of PARC fame) posited, ‘The best way to predict the future is to invent it.’

In 2006 the State Council published the 14-year National Medium- and Long-Term Plan for Science and Technology Development geared toward turning China into an “innovative nation.” Several key “frontier” fields were selected for specific science and technology development. 

Biological Sector:
Animal and Plant species design;
Genetics and Protein engineering; 
Industrial biotechnology

Information Industry:
General applicability of computerization

Intelligent materials and structure;
High-temperature superconducting;
Efficient energy and materials technology

Advanced Manufacturing:
Breakthroughs in extreme manufacturing;
Replacement cycles of products and facilities

Energy Research:
Economical, efficient and clean use of energy;
Exploration of new energy resources;
Alternative energy

Monitoring of maritime environment;
Deep-sea operations;
Exploitation of gas-water mix

Laser technology;
other (not fully disclosed)

Key industries were also singled out for specific emphasis: 

Energy Water Mining Transport






Population Control



Public Security 

In the Plan the Government indicated it would take on the primary funding responsibility for 1) basic research and 2) popularizing science and technology as educational fields. 

In addition, the Plan indicated that incentives would be put in place to create an emphasis on development of Intellectual Property. 

China has continued to follow this plan. In 2010, the State Intellectual Property Office (SIPO) published the National Patent Development Strategy for 2011 to 2020 (NPDS). This is a scary read, made even scarier, as it appears that China is on plan. China set very high targets for patent filings expecting to end 2015 with over 2 million filings. With trademarks counted they are already there. Without trademarks, in 2013, basic patents and design patents totaled over 1.5 Million. The US, in second place, had filed a little over 600,000. China’s other goal is to have 60% of its GDP driven from technology in services and manufacturing by 2020. At the current rate total R&D expenditures of $420 Billion on a PPP basis will approach that of the US by 2020 vs. about $300 Billion this year.

Ascending Dragon chart


Some other highlights from the NPDS: 

The plan establishes an annual budget for Patent services of around US$16 Billion. A recent FY budget request for the US Patent Office is $2.7 Billion. This is not a totally fair comparison as part of the Chinese funding is for lawyers and other professionals to support the filing process outside of SIPO. The plan also proposed setting up ten model cities focused on utilizing the patent system and incentives to create a vigorous intellectual property market. Incentives were put in place for individuals, corporations, and educational institutions to turn ideas into patents.

China also indicated it would seek to acquire intellectual property from others. A couple of direct quotes from the NPDS are worth noting: 

A large number of core patents will be acquired in some key fields of emerging industries and some key technological fields in traditional industries..:’ ‘…encourage enterprises to acquire patent rights through innovation on the basis of digesting and absorbing imported patented technology…’ 

… support and foster exports of patented technologies and increase the proportion of exported patent-intensive commodities…strengthen guidance of patent policies for enterprises in the process of overseas mergers and acquisitions.’ 

In addition, implied in the budgets for patent services was a vigorous enforcement of patent rights. Chinese companies have brought charges against major western world companies in Chinese courts and in European courts with some success. Chinese companies have also faced significant infringement charges as well. Internally, patent enforcements against non-Chinese companies represent about 15% of all attempted enforcement actions. The other 85% are actually Chinese companies against Chinese companies. Now that China has Intellectual Property Rights to defend, it is turning out to be one of the more aggressive enforcers of those rights. The number of patents in force today with their origin in the US and Japan are 2 ½ times and 1 ½ times, respectively, of China which has about 900,000 patent grants in force—sufficient enough to defend. 

The pattern of growth in filings is staggering.

Trend in patent applications chart

Trend in trademark applications chart

Trend in industrial design applications chart

Source: World Intellectural Property Organization

One can argue about the quality of the Chinese patents—not dissimilar from arguments by the US against Japan and Korea in earlier days. However, since 2009, China has had a first-to-file system, consistent with the rest of the developed world. In addition, a recent amendment requires absolute novelty of invention. This eliminates a party seeking patent protection in China for an invention first disclosed outside of China. The US and China patent offices have also extended a reciprocal agreement that “an applicant receiving a written opinion or an international preliminary examination report from either SIPO or the USPTO (US Patent and Trademark Office) that at least one claim in a Patent Cooperation Treaty filing has novelty, inventive steps, and industrial applicability, may request that the other office fast-track or expedite examination of corresponding claims…” This begins to get very technical, but in Intellectual Property claims, it is very technical. 

What is the message from these facts and observations? 

Clearly, China is serious about creating the Intellectual Property to drive Innovation and Implementation. They are executing toward their goals. Let’s start with the assumption that China has the same ratio as the US of high IQ individuals in its population. At this time the US is probably educating a larger percentage of its own high IQ population than China is — although we seem to be helping China educate a number of their smarter people. It does mean that they will have, if they don’t already, 4 ½ times the number of educated, smart people creating intellectual property. They should have, potentially, 4 ½ times the number of people who can translate those ideas or inventions into an innovation — a good or service that can potentially create value. And, ultimately, 4 ½ times the number of people who can actually turn an innovation into an implementation — turning potential value into real value. 

Beijing admits that it is not turning its IP into innovations, and ultimately businesses, at the pace of the developed world. Admitting the weakness is a step toward implementing the solutions. 

China is not without its successes:

Effectively E-Bay, Pay Pal and a bit of Amazon, accounting for at least
60% of all parcels delivered in China, and 80% of on-line sales.
The Alibaba Group R&D Institute has been filing patents since 2008.

The Google of China and more, with very specific search tools by category (including patents). The Baidu search engine was based on a US patent issued to Robin Li, one of the two Chinese nationals who founded the company after time spent in the US.

Largest telecom equipment and services company in the world. Claims 46% of its 140,000 employees are engaged in R&D. Has been involved in numerous patent disputes as plaintiff and defendant. Holds over 36,000 patents.

Beijing Genomics Institute:
The largest genome sequencer in the world. Has a research-for-hire model. It acquired US sequencer, Complete Genomics, over protests of US competitors, in 2013. Founded in 1999 by a PhD dropout.

Largest HVAC company in China. With sales of $18.7 Billion,
now spending about 3% annually on R&D.

Foxconn via Hon Hai Precision Industries:
Largest Chinese recipient of 1,004 US patents in 2013.
Compares to #1 IBM at 6,788.

The list could go on. 

The country now has more PhD graduates than the US. And, the Chinese graduates of US universities are beginning to return home. Innovation centers are being created and supported. Corporations are being incentivized to invent, and ultimately innovate and implement. To some extent it is a numbers game. Time and technology are on China’s side. Moore’s law knows no geographic boundaries. 

At the moment, the big US advantage is Implementation. It is no longer Invention. And, in my view, “Innovation” is an overused term. Yes, the media and the general American hubris point to Innovation as American Exceptionalism. We do have a lot of innovators in the US—many more than ultimately end up with successful products and/or companies. Almost everyone, every day, is innovating—taking an idea or invention and starting at least the verbal process of translating that into the thought of a new or improved product or service that might create value. We have the equivalent of that very big roomful of monkeys sitting at typewriters (now keypads), one of which will ultimately write a work of Shakespeare. We hear about the innovations in the US that work their way into the structure of financiers and implementers who can pick and choose which innovations may produce real value on occasion. China sees that. It has organized and incentivized its “monkeys,” which number many more than what everyone else has, and is slowly—maybe not so slowly—creating the infrastructure that can take advantage of a very big local market for experimentation. It is becoming a more internally competitive market. For example, innovations in the auto industry are making their way into implementation as the local companies compete with each other. This is not dissimilar from what happened with Japan’s auto industry and the supporting providers of machinery and electronics. Japan had a big enough local market that forced competition among its double-digit number of manufacturers and led to the creation of cars that could ultimately compete very well in the global market. China is doing that in autos, electronics, cell phones, alternative energy and more. 

So, how does one participate in this new source of innovation and implementation? One can find individual companies that are capturing market share domestically in more advanced technologies. Of more interest may be understanding how the “internet of things” and technology in general work their way into the more mundane companies, e.g., Midea, serving the domestic markets. Ultimately, these companies will have made the transition to efficient, technology driven, innovation and implementation, with the potential to serve other emerging market economies and, ultimately, the western world. On a very long term basis identifying a basket of successful technology driven Chinese companies could be an implementable strategy. I think one needs expert advice on this—investment managers who are doing on the ground analysis. 

In general, though, the technological thrust in a population the size of China bodes well for continued movement toward the mix of industry, services and agriculture that exists in most other developed countries in the world. Follow the pattern of the US as it developed from an agriculturally centric economy to a services economy and expect China to do the same but at a faster pace. It will not be without its ups and downs but a well-timed investment as China works through this transition, may do very well for one’s children and grandchildren. 

This path by China will ultimately represent a similar historic shift of development with geopolitical implications. It will be similar to those in past centuries from Holland to England and England to the Americas. None of these transitions have been zero-sum games, but they have not been without volatility. China has several major transitions to work through financially, politically and commercially. In the background, though, a technological freight train (or maybe a high-speed one) is chugging down the track. To the extent China’s actions increase the competitive pace of invention, innovation and implementation globally, it will likely change significantly the overall pace of global growth and the net value of the winners versus the losers in the market place. China is taking the next step to the future beyond Alan Kay’s observation. Maybe the best way to determine the future is to invent it, but then innovate and, most importantly, implement it.

“A Great Leap Forward?” Author, John Mauldin, Editor, and Worth Wray, Editor (eBook, Kindle Edition, 2015;

Managed Futures Update: Reversals or Corrections?

Managed futures performance can be frustrating for investors. After strong performance in 2014 and into Q1 2015, many may be wondering why the strategy has lost some luster in Q2. The reality is that some of the very strong trends from last year have seen changes in direction. The key to understanding what might happen next is in trying to assess whether those trend changes are corrections against the previous trend or have graduated into full-blown trend reversals.

There were price corrections across all four major market sectors in Q2—the US dollar, interest rates and equity indices (especially in Europe) all sold off while commodities (particularly energy) have rallied. The result was that no single market or sector was the cause for negative performance. Rather, each sector or even sub-sector therein, lost a small amount. Add these up and you get negative performance for many managed futures managers in Q2.


Below is a brief summary of some of the major drivers in each sector:

Currencies. In 2014 short positions in the euro, yen, and most other currencies versus the US dollar proved to be a very successful trading strategy for managed futures managers as central bank policies began to diverge. In Q2, expectations have shifted due to early signs of QE success in Europe. The EUR/USD trade has corrected and is heading back towards where it started the year. Short euro trades have logically resulted in losses. Most trend following managers remain short euro, betting that the trend of a stronger US dollar will resume.

Commodities. Short crude oil was, by far and away, the most successful trading strategy in the second half of 2014. Since the downward price trend was so strong, most trend following systems have regarded the price appreciation in 2015 as a correction within the overall downtrend, rather than a trend reversal. However, as the months roll forward without a resumption of the downtrend most managers have reduced short exposure to crude, and a few have begun to reverse their positioning to long. The longer the crude oil price holds above $60 per barrel and continues to tick higher, we expect more managers to view the market as having reversed.

Fixed Income Futures. Fixed income has been volatile—especially in Europe. German bond yields rose and prices fell quickly as market participants wised up to negative yields. Managed futures managers were largely long the bund and other European fixed income contracts, thus incurring losses (albeit most somewhat minor). Fixed income positioning has been reduced across the board as the market determines whether a new uptrend in bond yields has indeed begun. Some managers have begun to establish short futures positions.

Stock Index Futures. Long stock index futures positioning—both domestic and globally—have been a mainstay of portfolios for many quarters. Corrections in some of the strongest upward price trends such as Eurostoxx 50, the DAX and even S&P 500-miniFutures caused losses in Q2. Most trend following managers remain long in anticipation of an ongoing uptrend.


Will it Get Better?

Managed futures managers, particularly medium- to long-term trend following managers, do not reverse positions overnight. Timing depends on the parameters of their underlying trend identification algorithms. In general, most trend following managers require a sustained price movement before reversing positions from long to short or short to long. Even in 2008, a banner year for managed futures strategies, many trend following managers suffered several months of negative performance before their systems identified whether corrections were new trends. After a prolonged period of strong trends, it is very common to see markets experience reversals for either technical or fundamental reasons (or both). In today’s market, there is no unifying reason for these moves—markets appear to be simply retracing some of their price trends over the last 12-plus months. We believe these price reversals represent “normal” market behavior, particularly after a long trending period. Similarly, it is normal for managed futures managers to have periods of drawdown after a strong winning sequence like the one we saw beginning in mid-2014. Investors might be nervous that we are entering another extended period of stagnation in the strategy, but we believe the underlying market conditions of expanding volatility and central bank policy divergence remain supportive of the opportunity sets in managed futures, regardless of whether you view current price moves as corrections or new trends.