There is a dark cloud of tangible desperation over Crispin Odey's recent monthly letters, and not only because he went "all in" on central bank failure exactly one year ago... and failed. With his fund down 10.6% YTD, and down 31% LTM, he knows he may have 1 Hail Mary left, two tops. Which explains why as of August 31, the Odey Asset Management founder - who back in May asked rhetorically "why do i remain stubbornly bearish" - has bet it all on red, or inflation, and as his Top 10 position breakdown shows, he had a net 135% short in gilts and JGBs. As for the rest of his book, with just 25% of his top 10 position net long (ex gold), Odey's view on risk assets remains the same: a crash is coming, the only question is when.
It is here that things get more interesting, because while traditionally Odey has bashed central banks for perverting and manipulating asset prices, this time he appears to have found another variable to help him goalseek his cataclysmic conclusion that it is all about to crash, and in his latest letter, Odey now says Europe's upcoming research rule overhaul will result in less trading, less price discovery and less efficient markets.
He is referring, of course, to MiFID II, which Odey writes in his latest letter, will cause the cost of capital to rise "as information is going to become harder to come by" leading to investors with different levels of information and resulting in those with less access to analysis trading less. As previously discussed, the revised "Markets in Financial Instruments Directive" starts on Jan. 3. and forces firms to separate the cost of research from trading-related expenses incurred with investment banks.
It's not just the impact of MiFid however: just as information flow is being curbed among the sellside, the Federal Reserve will be accelerating its balance sheet shrinkage. “For asset prices, a change to QE would be far from a happy solution,” Odey wrote in the August Swan Fund letter. “What is terrifying is that MIFID II is arriving when, thanks to QE and the sight of endless cheap money, companies’ shares are at their most expensive. Hindsight is going to have a field day.”
Maybe. Or maybe in hindsight it will be Odey's endless war with central banks that will be his undoing. Or perhaps Odey's luck - we use the term loosely when it comes to the (former?) billionaire - is finally changing: having posted a miserable series of monthly losses, "In August-17 the EUR class returned +1.9% against the MSCI Daily TR Net Europe (EUR) return of –0.8%."
His full letter is below:
Sidney Homer in ‘A History of Interest Rates – 2000 BC to the present’ had to deal with the period before interest rates existed. What was the natural rate of return given by nature? How many eggs from a chicken? Economists started life as alchemists. All governments dreamt of creating gold out of base metals. All kings wanted interest rates to be lower so that growth could be stronger.
Now for 10 years we have enjoyed what they could never achieve. We have enjoyed rates of interest which were below the natural rate thanks to QE. It has allowed economies to grow so that we are now at the point where that growth threatens to be met by an inelastic labour supply.
It has so far proved disappointing for productivity globally which hovers around zero percent. But that reflects that QE has not been helpful for allocating capital. Take tertiary education in the UK. Over 20 years the university student population has grown by 650%. When student fees were increased by 300% to £10,000 p.a. in 2012 the thinking was that this would turn students into consumers. That they would demand value for money and more appropriate courses. But it hasn’t. Why? Because students still see the loans as free money. They have understood QE very well. The misallocation of resources continues but now when the student finds there is no job at the end of his / her degree, the sense of injustice leads them leftwards politically.
QE is no longer the easiest option. But, for asset prices, a change to QE would be far from a happy solution. We are now approaching MIFID II’s implementation and it is apparent that the effect of pricing research is that information is going to become harder to come by. Markets work off free and abundant information and views and multiple pricing points. MIFID II looks designed to ensure that individuals trading in a market will have different levels of information and as always the one with less information will start to trade less.
Less trading, less price discovery, less efficient markets. The cost of capital should rise. What is terrifying is that MIFID II is arriving when thanks to QE and the sight of endless cheap money, companies’ shares are at their most expensive.
Hindsight is going to have a field day.
Finally, for those wondering, here is Odey's P&L since inception.