Millennials and markets

In defence of millennial investors

They are changing finance for the better

The urge of the old to lament the folly of the young is as ancient as civilisation itself. 

“The beardless youth…does not foresee what is useful, squandering his money,” scowled the poet Horace, in 15bc. This year silver-haired Wall Street pros have tutted at the enthusiasm of youthful stock-pickers, who have taken to punting on markets in the lockdown. 

Manic millennials tapping screens piled into Hertz—after it declared bankruptcy. They dabbled with derivatives and bid up shares in Nikola, an electric-lorry-maker that later admitted to letting a prototype roll down a hill during a “demonstration” because it could not have powered itself. It may seem as if the only lesson is how not to invest. Yet as we explain this week, young people are changing how finance works and often for the better.

Every generation leaves its mark, but those aged 56-74 today, known as baby-boomers, had an outsize impact on America’s capital markets. Thanks to solid economic growth, rising asset prices and fat pensions, they have accumulated piles of financial savings—about $600,000 on average, held in retirement accounts and other vehicles for shares and bonds. 

The asset-management industry has been built around this mountain of money. 

Specialists run pensions, index providers such as Vanguard let you track the market while snoozing, and wealth managers offer personalised service and perks to the rich. 

No wonder the number of jobs in finance has risen by 31% since 1990.

At first glance the young don’t look as if they have enough money to reinvent Wall Street. Those under 35 have, on average, just $35,000 in financial assets, and those born between 1981 and 1996 own just 7% of all such assets in America, a far cry from the 26% share that boomers had amassed by a similar age and the 50% slice they now hold. 

Having faced two economic crises in about a decade, the young are less likely than their predecessors to own a home or a car. Half of those aged 18-29 say they have a positive view of socialism, according to Gallup, a polling firm.

Yet much of this is about to change as the young approach their peak earnings and the boomers retire and die. In recent years the churn in investible asset holdings has been relatively small, at around $1.3trn every five years, or 5% of total wealth in America. 

This pace is expected to double in a decade or so, as boomers begin to hand wealth to their children—either in their dotage or in their wills. By 2042 millennials are expected to have inherited roughly $22trn.

The young are also early adopters of new technologies and investment philosophies. In America digital-payments networks such as Venmo and Zelle are dominated by younger users even as their elders still scribble on cheques. Huabei, a credit service launched in China in 2014 by Ant Group, a fintech firm, now has a vast army of users—the pioneers were young people who could not get credit cards or bank loans. 

Younger American savers are happy using robo-advisers, which automate investment across a range of cheap index funds. As technology has cut the cost of trading, it has become easier and cheaper for them to trade assets actively, too. 

The leading adherents of the sustainable-investing boom that has gripped asset-managers are those aged 24-39. More than two-thirds of these young savers say they are very interested in making a positive social and environmental impact with their investments, compared with about half of the general population.

Some big financial firms are alive to the coming shift. Last year Morgan Stanley bought Solium, a startup that manages stock options and equity as they vest, largely for young tech workers. 

Goldman Sachs purchased United Capital, an investment-advisory firm popular with young professionals. But much of the financial industry, still drunk on the colossal windfall from the baby-boomers, is unprepared. 

If those firms want to stay in business, then instead of laughing as the new generation experiments with finance they should be taking notes.

The good, bad and ugly of soaring tech stocks

Not all investor bets on monopoly profits are created equally as Google, Facebook and Tesla show

Robin Harding

While Tesla invests heavily in manufacturing and new technology in the hope of future profits, Facebook rakes in profits from its monopoly position © FT montage

Despite the deepest economic downturn since the Great Depression, the S&P 500 index is up 6.5 per cent this year. Apple has a market capitalisation of $2tn, Facebook is worth $762bn and Tesla is valued at $394bn. 

Even Nikola, a maker of battery and hydrogen trucks that is yet to sell a vehicle, was briefly valued at $34bn. Knowing the disaster about to hit the economy, few analysts would have forecast such a spectacular rally in the US stock market.

There are two ways to look at the market’s rise. Is it speculative, irrational, unsustainable or false in some way — fuelled by a mania for technology stocks, a wave of young investors trading on their mobile phones and the provision of central bank liquidity in response to Covid-19? 

Or is it a rational, logical response to a severe economic shock and the resulting likelihood of low interest rates for a long time? Although investors always fear a bubble, the rational explanation is even more alarming.

Low interest rates can temporarily justify higher stock prices because they make the existing and future earnings of companies more valuable. At an interest rate of 5 per cent, you need $20m to earn $1m a year, while at an interest rate of 1 per cent you need $100m. 

A million dollars a year in corporate earnings is correspondingly more precious when interest rates fall. One worrying message of high stock prices, therefore, is that markets expect low growth and low interest rates for the foreseeable future.

But that is not the end of it. Falling interest rates may lead to a temporary rise in stock prices, but at least in theory they should also induce more investment. For example, if a company built a factory for $20m, but the stock market now values its earnings at $100m, then it will make sense for either the company or its rivals to raise funds and build more factories. Investment should continue until the excess return on corporate capital falls.

If investors place a higher value on these companies’ profits, however, it suggests they do not expect increased investment and competition to erode them. In other words, they see a company enjoying monopoly profits and expect them to continue.

That possibility links to a range of pre-Covid research by economists such as Germán Gutiérrez and Thomas Philippon, who argue that increased concentration and reduced competition have led to higher corporate profits but lower investment in the US, or David Autor and his co-authors, who study how so-called superstar companies now dominate their markets.

For example, consider Facebook. Strip out its cash, marketable securities and goodwill, but capitalise its spending on research and development, and it is valued by the stock market at about 10 times the investment needed to reproduce its assets.

Nobody expects new entrants to challenge Facebook. Nor will it raise fresh capital to invest — the cost of adding extra Facebook users is negligible and the company struggles to use the gush of cash it already creates. 

Its users want to be in the same virtual place as their friends so, as the dominant social network, Facebook earns a stream of what are effectively monopoly profits.

The increased value of those profits in a world of low interest rates has created a delightful rise in the share price for existing investors in Facebook and other technology companies. But it makes a grim prospect for the future.

The market adjustment to lower interest rates should be a one-off — it does not mean the share price will keep rising. Moreover, thanks to their monopoly position, these dominant companies will suppress investment overall. Suitable remedies are hard to find, but competition cases such as by the US Department of Justice against Google this week, which argues that it suppresses competition, make sense.

There is evidence of mania as well as rationality in the US stock market. The bizarre behaviour of stock in companies such as Hertz this year — it briefly tried to sell $1bn in new stock despite declaring bankruptcy — attest to the enthusiasm of retail traders. 

The high value placed on Nikola, before a short-seller alleged its technology was not what it claimed, was as ebullient as anything from the dotcom era.

But as long as a speculative boom involves equity, not debt, it can have positive effects for society. Consider Tesla, which is now valued even more richly than Facebook, at more than 30 times its shareholders’ equity.

Unlike Facebook, though, Tesla is contesting a highly competitive market, against rivals such as BMW, Mercedes and Toyota. Unlike Facebook, it does not make much money right now. Also unlike Facebook, it will need a lot of capital to build new factories and finance inventories of cars, raising $5bn from the stock market in September.

Undoubtedly, many Tesla investors believe the company’s battery or self-driving technologies will allow them to earn monopoly profits in the future. They may be wrong or they may be right. But competition regulators can worry about it when it happens.

In the meantime, investors are directing billions of dollars into chief executive Elon Musk’s effort to tackle greenhouse gas emissions via his electric cars. Be Tesla an investor triumph or a disaster, everyone else will be a winner from his efforts. 

Sometimes it is semi-rational exuberance, not cold calculation, that moves the world forward.

Does a vaccine against Covid-19 herald the end of the pandemic?

More data is needed on the efficacy of treatment as the world faces challenge to vaccinate the 7.8bn global population

Azra Ghani 

     A photo from BioNTech of a Covid-19 vaccine candidate

Excitement swept the globe on Monday with the announcement of the stellar — but early — results from a vaccine candidate against Covid-19.

In its press release, the drug company Pfizer announced that its vaccine had been shown to be “more than 90 per cent effective in preventing Covid-19 in participants”. Does this mean that the end of the pandemic is in sight?

While this is undoubtedly good news, it is important to remember that this vaccine is still in the relatively early stages of testing. To understand the potential of a vaccine we need to know how efficacious the vaccine is and how long that efficacy is maintained.

The initial results tell us that the vaccine has greater than 90 per cent efficacy at seven days after the second dose is taken. Further results will follow shortly giving efficacy results at 14 days. In the coming months more data will accrue that will tell us whether this efficacy is maintained.

This will also indicate whether people will need regular yearly shots. We also have yet to learn whether the efficacy varies in different people; for example, flu vaccines are generally less effective in older people.

Coupled with data on efficacy, it is critical to know if a vaccine that will be given to otherwise healthy people is safe. Encouragingly, the Pfizer trial has not reported to date any severe “adverse events” in the 43,500 trial participants. While most vaccine-associated severe reactions occur shortly after vaccination, it will be important that trial participants — and those vaccinated following licensure — are closely followed to ensure that the benefits of receiving the vaccine outweigh any risks.

The real challenge comes next — how do we vaccinate the 7.8bn global population at risk? Under current manufacturing capability, doses of this and other vaccines under trial are likely to fall well below what is required in the near-term. 

The Covax facility — a collaboration set up by World Health Organization and partners to ensure equitable access to vaccines in low- and middle-income countries — expects to have up to 200m doses available in 2021. Several countries — including most high-income countries — have bilateral agreements in place with one or more vaccine manufacturers to supply doses in 2020 and 2021. 

But for many countries, doses are likely to be available for up to 20 per cent of the population, some way short of the 60 per cent-plus coverage that is likely required to achieve herd immunity.

Each country will therefore need to decide how to prioritise that allocation. Most countries are likely to focus on high-risk groups; those that are most vulnerable to severe outcomes such as the elderly, and those that are highly exposed such as healthcare workers. 

In the interim, it is likely that the rest of us will need to maintain social distancing, handwashing and mask-wearing to keep transmission in the community low.

There are also considerable logistical obstacles to achieving mass vaccination — something that has previously never been undertaken at this scale. The equipment for vaccination needs to be manufactured, transported from factories and delivered to local health centres; cold storage may be required along the way — the Pfizer vaccine poses particular challenges here as it requires minus 80 degree freezer storage. An army of healthcare workers will be needed to deliver the vaccine in every country.

So don’t forget that the virus is still with us and this is just the start of a long road ahead. It might just be worth putting that champagne on hold.

The writer is professor of infectious disease epidemiology at Imperial College London


Why dollar assets are still riding high after America’s election

And why that matters for everywhere else

Can you identify what or whom the following describes: is widely disliked around the world; might have been ditched by some supporters earlier had convincing alternatives existed; has had a difficult six months; and refuses to go quietly? Here’s another clue: this is not a column about politics. 

The answer is the dollar. It is the most unloved of major currencies, apart from all the others. And, oddly, it has been given a fillip by a messy election result at home.

Or perhaps that is not so odd. The dollar’s resilience has been one of the more monotonous motifs in financial markets in recent years. Dollar strength is twinned with another hardy theme—the growing heft of America’s companies, notably its tech giants, in global equity markets. 

The dollar matters for America, but it matters for everywhere else, too. A weaker dollar would trigger a period of catch-up by the rest of the world’s economies and asset markets. Such a prospect is seemingly delayed.

A reason for dollar resilience is growing doubts over fiscal stimulus in America. The election was supposed to be the start of a new era of fiscal largesse. Agreeing on any kind of policy now looks hard. 

If Joe Biden enters the Oval Office in January he is likely to face a divided Congress. 

But dollar strength is not solely down to politics. It is as much about the economic consequences of a resurgent coronavirus as it is about dashed hopes of a blue-wave election.

Begin with the blue wave that didn’t crest. Before the election, an idea had taken hold, fuelled by pollsters and election forecasters, that a clean sweep of the White House and both houses of Congress by the Democratic Party was highly likely. The upshot would be a weaker dollar.

In 2016 a similar prospect of fiscal easing drove the dollar up, not down. This needs some explaining. 

The difference is that four years ago, the Federal Reserve was expected to offset the stimulative effect of tax cuts by raising interest rates in order to contain inflation—thus supporting the dollar. 

But with the economy now weak, the Fed has committed itself to easy money. 

A fiscal-stimulus package would be an unimpeded spur to aggregate demand, leading to more imports, a wider trade deficit and a weaker dollar. And a weaker dollar would in turn help the rest of the world, partly because of its role as a borrowing currency beyond America’s shores. 

A lot of emerging-market companies and governments have dollar debts, so a weaker greenback acts as an indirect stimulus to global growth.

Instead, the dollar has perked up a bit. That is because the dollar is special in another way. Dollar assets, notably shares, are more prized when the outlook seems less certain. 

Holders of dollars cling on to them for longer, rather than swap them for other currencies. This goes for wealthy savers in emerging economies, or Chinese or South Korean exporters, say, who have earned dollars on sales.

It also goes for institutional investors at home who might have thought of cashing in some of their expensive-looking American tech stocks for a wager on cheap-looking cyclical stocks in Europe or Asia. The diminished prospect of fiscal stimulus is one reason why this “reflation trade” is less alluring. 

The resurgence of coronavirus infections is another. Much of Europe is now in soft lockdown. Its economy is losing steam. The appeal of cyclical stocks is similarly ebbing. Investors have instead piled back into tech firms, which benefit from the stay-at-home economy.

If there is one thing as hardy as the dollar itself, it is forecasts that its resilience cannot last. What might hasten the dollar’s fall now? Even without a friendly Senate to back his plans for increased federal spending, a President Biden would probably have a less bellicose and arbitrary trade policy than a re-elected President Trump. Good news on a vaccine might rekindle American investors’ appetite for buying cheap assets abroad.

Further out, the dollar still seems likely to weaken. Whatever the configuration of American politics, fiscal stimulus will not stay off the agenda for ever. 

Populism is hardly in retreat. Bond yields are incredibly low. 

In the circumstances it would be unwise to think that politicians will forgo the temptations of deficit-financed spending or tax cuts for too long. And for the past half-decade the greenback has drawn strength from the fact that short-term interest rates in America were higher than in western Europe and Japan. One of the few things that everyone can agree on is that this advantage is largely gone.

America’s Multilateralism Election

Much is at stake for both America and the world in the US presidential election on November 3. Although a Joe Biden victory would not be a panacea, it would allow the United States to renew abandoned commitments, approach its Western allies as true partners and friends, and rediscover a more rational foreign policy.

Javier Solana

MADRID – When Donald Trump became the US Republican Party’s presidential nominee in 2016, many predicted that he would tone down his inflammatory rhetoric during the election campaign against Hillary Clinton in order to attract moderate voters. 

After Trump was elected without having shown an iota of the hoped-for restraint, many said that the presidency and congressional Republicans would make him adopt a more dignified tone.

Today, we know how naive those predictions were. Trump did not temper himself once in office. If anything, he became even more reckless and incendiary. The biggest worry now is not Trump’s unchanged style, but the fact that the Republican Party and the US government have molded themselves to his likeness. 

Few Republicans dare to question him and, within the administration, Trump has surrounded himself with a camarilla of yes-men, dismissing or sidelining the few who opposed his more preposterous ideas. With the presidential election just around the corner, it’s worth recalling the many ways Trump and the GOP have completely abdicated any sense of US responsibility toward the rest of the world.

For starters, Trump has consistently resorted to nationalism, reflected in crude slogans like “America First” and “Make America Great Again.” He has reviled every attempt at global cooperation in the name of an anachronistic conception of national sovereignty. 

In the face of the current pandemic, Trump has embraced so-called vaccine nationalism and is refusing to participate in COVAX, an initiative supported by the World Health Organization that seeks to guarantee equitable distribution of any COVID-19 vaccine.

Time and again, Trump has disparaged multilateral solutions in favor of bilateral agreements and unilateral action. His administration has questioned many of America’s international commitments and has even disavowed some of them, most notably the 2015 Paris climate agreement and the nuclear deal with Iran (imposing, in the latter case, unfair secondary sanctions on third countries). Trump has essentially based his foreign policy on coups de théâtre, such as the January 2020 assassination of the Iranian General Qassem Suleimani and the earlier recognition of Jerusalem as the capital of Israel.

Trump has made it clear that he views international relations as a zero-sum game. This stance has underpinned his tariff policies and, specifically, his “trade war” with China. 

In 2018, he tweeted that, “When a country (USA) is losing many billions of dollars on trade with virtually every country it does business with, trade wars are good, and easy to win.” Moreover, Trump expects to benefit personally from US diplomacy, as shown by the Ukraine scandal that led to his impeachment by the US House of Representatives last December.

Finally, Trump has shown an illiberal side, disdaining institutional checks and balances and disparaging US media outlets for propagating “fake news” (a stone hurled within a glass house). Internationally, Trump has supported a series of illiberal leaders who, like him, are more concerned with their own political survival than with their countries’ democratic health. These leaders have no use for human rights except when they invoke them selectively for self-interested reasons.

Under Trump’s turbulent tenure, the United States has openly renounced guardianship of the “liberal order.” But we shouldn’t delude ourselves into thinking that a victory for his Democratic challenger, Joe Biden, will mean an immediate return to the world of yesterday. For all their radical differences, the candidates’ programs also have a few elements in common.

For example, Biden advocates giving preferential treatment to US products and subsidizing domestic industries. The Democratic Party also has toughened its stance toward China (although it remains less aggressive than Trump on the issue) and emphasizes the desirability of relying on allies. No matter who wins on November 3, the Sino-American battle for technological supremacy – including in the area of artificial intelligence – will remain fierce.

In any case, it would be a mistake to idealize the past and aspire to reproduce it. America’s tenure as the leading global power has had low points as well as highlights, and the country’s structural problems existed well before Trump took office (in fact, some of them help explain his election in 2016). The same could be said of the many tensions currently afflicting the international system.

We therefore must set nostalgia aside and focus our attention on confronting the world of tomorrow. The COVID-19 pandemic has starkly demonstrated that multilateral cooperation is not an option, but an obligation, and yet we are allowing many international organizations to decline before our eyes. 

A vital player like the WHO is currently suffering from a troubling lack of resources, especially since Trump withdrew US funding. Meanwhile, the World Trade Organization’s Dispute Settlement Body remains paralyzed because Trump refuses to allow the appointment of new judges to its Appellate Body.

Just as the world will need to reform these institutions in order to adapt them to the environments they will have to navigate, it will also need new global regulations for challenges posed by AI and other emerging technologies. And, of course, we must continue to advance firmly in the fight against climate change. China recently declared its intention to become carbon neutral by 2060, while the European Commission under President Ursula von der Leyen has made the European Green Deal one of its main priorities. This is the line we must follow.

Much is at stake for both America and the world on November 3. Although a potential Biden administration would not resolve all the problems it would inherit, it would allow the US to renew abandoned commitments, approach its Western allies as true partners and friends, and rediscover a less melodramatic and more rational foreign policy. 

Trump’s re-election, on the other hand, would deepen the tendencies described here, widen the breach between the US and the European Union, and probably even inflict irreversible damage on international cooperation.

Whatever the US election’s outcome, the world will have to manage a simple, immutable reality in the best way possible: no country, however important, can confront the global challenges we face alone.

Javier Solana, a former EU high representative for foreign affairs and security policy, secretary-general of NATO, and foreign minister of Spain, is President of EsadeGeo – Center for Global Economy and Geopolitics and Distinguished Fellow at the Brookings Institution. 

This Is How A State Goes Bankrupt, Illinois Edition

Somewhere back in the depths of the 20th century, a bunch of governors, mayors, and public sector union leaders got together and cooked up one of history’s greatest financial scams. They would offer teachers, cops, and firefighters extremely generous pensions but would avoid raising taxes to fund the resulting future obligations. Grateful workers would vote to re-elect their benefactors, while taxpayers would appreciate the combination of excellent public services and low taxes.

The beauty of the scheme flowed from its demographics: Most of the original public sector workers were young and therefore decades away from retirement, so the crime wouldn’t be discovered until long after the architects retired rich and revered.

Now, however, those baby boomer workers are retiring and the scam is revealed for all to see. Even in the absence of a pandemic lockdown, mass defaults on state and city obligations would be inevitable in the coming decade. But with the lockdown, they’re coming next year.

So what do the worst offenders do? What they’ve always done, of course, which is to look for ways to paper over the mess for one more election cycle. 

Illinois is the poster child for state financial mismanagement, with unfunded liabilities that have grown from virtually nothing to $137 billion in just the past two decades.

bankrupt Illinois unfunded liabilities
So it’s no surprise that its politicians are engaged in some truly ridiculous forms of damage control:

Illinois to sell $850 million of bonds as investors brace for junk status

CHICAGO (Reuters) – Illinois is scheduled to sell $850 million of bonds on Tuesday as investors demand fatter yields for the state’s debt due to increased worries over its deep financial woes, which were exacerbated by the coronavirus pandemic.

Ahead of the competitive sale of general obligation bonds due over the next 25 years, the spread for Illinois 10-year bonds over Municipal Market Data’s benchmark triple-A yield scale has widened by 10 basis points to 281 basis points since Oct. 1.

Howard Cure, director of municipal bond research at Evercore Wealth Management, pointed to “a legitimate fear that the state could go into junk status – although not default on its debt.”

“The state continues to delay tough decisions with a number of speculative revenues as part of its current budget, including additional federal aid, voter approval for a progressive income tax, and more Municipal Liquidity Facility (MLF) debt,” he said, referring to the possibility Illinois, which took out a $1.2 billion cash-flow loan in June from the Federal Reserve’s MLF, could borrow more.

Illinois is the lowest-rated state at a notch above junk due to its huge unfunded pension liability and chronic structural budget deficit. All three major credit rating agencies assigned negative outlooks to their ratings in the wake of the pandemic.

Earlier this month, a Citi research report said Illinois is “almost guaranteed” a credit rating downgrade to junk if a constitutional amendment to replace its flat income tax rate with graduated rates fails to pass on Nov. 3. The ability to tax high earners more would increase revenue by an estimated $3.1 billion annually.

In addition to uncertainty over congressional passage of unrestricted federal virus aid to states, Andrew Richman, senior fixed income strategist at Sterling Capital Management, said Illinois was experiencing a surge in virus cases ahead of its sizeable bond sale. The state reported its highest one-day total of 4,554 cases on Friday.

“Illinois had problems before the pandemic,” Richman said. “Things are getting worse not better.”

Still, John Mousseau, president and CEO of Cumberland Advisors, said the high yields will attract buyers.

“People will buy it. They are yield-starved,” he said.

Taking the scam to the next level

One part of one sentence jumps out of the preceding article: “The state continues to delay tough decisions with a number of speculative revenues as part of its current budget, including additional federal aid …”

The last remaining escape hatch for the worst-run cities and states is a massive (easily multi-trillion dollar) bailout by the only remaining entity with access to that kind of credit, the federal government. After the upcoming election, whichever party ends up in charge will face the specter of bond defaults and mass layoffs in Illinois, California, New York, New Jersey, Connecticut, and Kentucky, among many other places.

A Democrat-led federal government will happily provide the trillions necessary to keep this from happening, while a Republican administration will dither for a while before caving. Either way, the original crime is swept under the rug and the financial pressure is socialized, with all US taxpayers on the hook for previously-local mistakes.