Month: July 2018

Dear Ladies and Gentlemen

I received a fair amount of feedback to my last weeklies. Many thanks especially to Robert and Patrick, who are always very challenging readers and ask questions that make me think further (…and usually lead to some more work on my side), Alain, an old friend who shares my passion for travelling to the Far East and studying in the U.K. and Giorgio, a recent acquaintance, very profound fund selector with a vast industry knowhow. Thank you very much indeed!

Now, most of the feedback I received to the question of my last weekly was showing some optimism for the Swiss Equity Markets (and equities in general) for the months to come. That’s just fine with me!

But today, Ladies and Gentlemen, I would like to look at current low interest rates and ask all of you, if from the bottom of your hearts you think they have become a nightmare or maybe not, as there is most probably more than one perspective.

You know, I have a little black book for notes. In this book there is a dedicated page called “low interest rates pros” and a dedicated page “low interest rates cons”. Whenever I come across an idea or a statement pro or con low interest rates, I try to remember it when I’m in front of my little black book and write it down. I don’t need to like the idea and therefore am writing down just about everything on the topic, a bit like in a brain storming exercise. The advantage of this is to avoid as much as possible any sort of “confirmation bias”.

Anyway, I am mostly a critic of ultra-low interest rates but even I must admit that it is nice to see the value of my house going up, while groceries prices are stable, and TVs, cars, laptops and travel arrangements get cheaper and I also must admit that I rather pay mortgage rates of 2% than of 5%. I also can imagine that for any potential seller it must feel much better to sell a lithography of Jean-Michel Basquiat at USD 10’000.00 rather than at USD 500.00. I would call this effect “selective asset price inflation”. There are some goods that become very expensive while for most of us, in our daily life no inflation or very low inflation can be felt.

However, there is also the other side and by far the biggest risk I currently detect in this respect is not the risk of hyper-inflation, (I regard the risk of hyper-inflation as very low at least for the next decade or two) but the risk of not achieving enough investment return on our retirement money. Ultra-low interest rates lead to very low investment returns for pension funds and my fear is that we will be stuck with ultra-low interest rates for a very long time and that this will have a negative influence for pension fund policy holders and even lead (and has lead) to some strange investment behaviour, potentially creating even more risk. Let me elaborate on this.

There are pension funds of mid-size companies in Switzerland that have invested their employees’ pension money to a large extent into residential real estate close to the companies’ production sites and offices as to offer fairly priced living space to some of their employees. Basically, a great idea. Over the last decades however, some of those companies have moved offices and production sites to low cost countries and at the same time find themselves in a position of an over-ageing workforce in Switzerland. What happens in some of the bad cases now is that such residential real estate held by some of those pension funds become difficult to rent out, while the overaged pension fund at the same time suffers from a negative cashflow profile or in other words sees more outflow than inflow, leading to a liquidity drain. Such pension fund portfolios in addition suffer from a serios lump risk, as the real estate portion of it takes up too much of total assets in %. The real estate can not be sold at the prices needed to match its book value in the portfolio, the pension fund does not want to take a loss and admit under coverage and thus sells in a first attempt all liquid assets to cover the pension fund’s outflows. The longer this situation lasts the more inert the pension fund becomes as its room for manoeuvre diminishes month by month. This maybe looks like an extreme example, but it is also a real example happening today in Switzerland.

Therefore, Ladies and Gentlemen, to me low investment returns due to low interest rates on our pension scheme money is far bigger a risk than inflation over the decade to come and still and to sum it up, low interest rates can represent someone’s loss and someone else’s gain. No?
Now, let me know, do you think low interest rates are a nightmare, yes or no?

Please share your thoughts and ideas with me. Please feel encouraged to do so and please don’t forget (instead of hitting the reply button) to send your messages to:

smk@incrementum.li

Many thanks, indeed!

And now, Ladies and Gentlemen I wish you a great day and weekend!

Yours truly,

Stefan M. Kremeth