State of the Union

In February, bond and equity markets continued to move in opposite directions.  Yields rose as inflation proved to be less quiescent than assumed in the fall.  Fixed income investors who in November were confidently forecasting 6 to 8 FOMC rate cuts starting in March, have changed their stance to perhaps 2 to 3 beginning in May or June. AI Mania drove the performance of a few large cap growth tech stocks and has resulted in the S&P 500 Market Cap Weight exceeding the S&P 500 Equal Weight Index by 380 bps.  However, the Magnificent Seven may need to be retitled The Final Four, as Apple (AAPL), Google (GOOG) and Microsoft (MSFT) have lagged behind NVIDIA Corp and Meta Platforms Inc. As to interest rates, a generation of investors and economists believe the US 10 Year Treasury Note at 4.25% is restrictive, while history shows it is not. The Biden administrations and Congress have hit the accelerator on deficit spending at a time of peacetime full employment.  It may result in normalcy in long-term interest rates for the first time in over a decade, as Treasury buyers demand positive real returns for lending money.

In our shipping portfolios, it has been a month of earnings calls and many ironies.  Investors are starting to realize after more than 90 days since the Houthis began attacking commercial ships in the Red Sea that the West’s response is ineffective.  In dry bulk, they stopped shorting the stocks after discovering that BDI is not merely a function of Chinese residential construction.  In LNG, we have seen the Biden Administration implement a pause in licensing new facilities to satisfy their environmental constituency. In doing so, have likely increased coal usage globally. It is best when investing in shipping stocks not to pay attention to facile generalizations but to look at the dynamics segment by segment.

Western countries have reduced investment in conventional energy infrastructure, while outside of Texas, new US projects are nearly impossible. Yet we find increasing demand for electricity all around.  The EIA recently announced that cryptocurrency miners use 0.6% to 2.3% of all US electric consumption.  AI is particularly power hungry.  Training an AI model uses more power than 100 households. Data centers and transmission networks account for 3.0% of global electricity consumption (IEA), generating as much carbon dioxide as Brazil.  NVIDIA forecasts that the need for data centers will double in the next five years while the necessary infrastructure is far from being put in place to support their growth. Transmission lines in particular are long term projects.  Warren Buffet noted in his 2023 Annual Letter, that “Utilities build generating and transmission assets that often take many years to construct. BHE’s extensive multi-state transmission project in the West was initiated in 2006 and remains some years from completion.” We are positioned to benefit from the increase in new data centers, especially those that are constructed in Texas through our ownership of Vistra Corp (VST). The US decarbonization movement ignores that we have insufficient electricity capacity versus demand from EVs, bitcoin, electric heating, and AI. Under current growth trajectories, electricity is likely to get more expensive and scarcer.