FABLES OF THE RECONSTRUCTION

“BOIL WATER ADVISORY: This advisory will continue until further notice. Follow this thread for updates as they become available.”    

What does the December 3rd tweet above from the City of Atlanta—when antiquated pumps overheated and snarled water service to Atlanta’s government buildings and much of the city—have to do with global investing? While Atlantans were busy watching tap water boil to brush their teeth, it struck me how the world seems to have passed us by when it comes to infrastructure development and forward thinking.

Ambitious infrastructure projects continue to move forward, despite the trend of deconstructing global structures with NAFTA and NATO besmirched; climate treaties and nuclear agreements punted; the TransPacific Partnership scorned and abandoned; the European Union spurned by Brexit; Qatar departing OPEC and I’m not even certain that my local Homeowners Association will weather the fad.

In the midst of a dearth of inter-country partnerships, I was surprised to read of The Three Seas Forum, three seas that are far, far away, and perhaps least likely to cooperate. I speak of the Baltic, Black, and Adriatic seas where their sovereign owners of shoreline have formed The Forum to promote joint infrastructure development by several Central European countries.

The concept, quite out of vogue in the U.S., was created by Croatia and Poland a year ago. Initially the EU was suspicious of a rogue attempt to bypass Brussel’s immense power over Euro projects, but, of late, the EU appears to value the Three Seas unity concept gurgling forth in its backyard. Other  infrastructure projects related to energy, transport and digital networking are also being discussed. This all seems interesting because our own efforts at infrastructure improvement seem to be in a stall. No Federal guidance, little momentum at the state level, other than new toll systems, and no greenbacks on offer anywhere. Observing cost overruns at Georgia’s Southern Company for the only current nuclear reactor project in North America, one has to wonder if we are still capable of big infrastructure undertakings.

Large efforts are underway globally however; Istanbul will open the world’s largest international airport this month, while Beijing will open an equally enormous aerodrome next fall sporting eight runways. These are massive projects aimed at challenging Dubai for supremacy in global air travel. Meanwhile, JFK and LAX can muster only quiet lobbying efforts for airlines to upgrade their particular concourses, and even this timidity has met with varying success. In New York, a multi-billion-dollar project is underway to spruce up LGA including Terminal B—famously derided as “third-world” in quality by Joe Biden and, no doubt, by anyone who has endured it when transiting the global capital of finance.

In India, infrastructure is progressing and the Trilateral Highway, planned to traverse Myanmar from Eastern India and end in Thailand, is scheduled to open in 2021. In the same region, India is active with the $484 million Kaladan Multimodal Transport Project linking the Indian mainland to its Northeastern States via Myanmar. When these efforts are combined with the  numerous and  ambitious Chinese One Belt, One Road projects, which we have written about in previous letters, we can see infrastructure undertakings pushing Asia to new levels, facilitating trade, and  building solid internal markets in countries that have never experienced such commerce until now.

A Plethora of Pipelines

Other projects are rife with geopolitical wrangling. The Nord Stream 2 gas pipeline plans on bringing Russian gas below the Baltic Sea to Germany and ending at the Austrian border. Put simply, it allows the Russians to bypass Ukraine and the $2 billion paid by Russia for gas transit fees. The revenue is vital to Ukraine as the country endures ongoing conflict with Russia, most recently when Ukrainian ships were seized by Russian forces at the entrance to the Sea of Azov.  Germany pledges support for Ukraine yet welcomes Nord Stream 2 which is a puzzling foreign policy stance.

While Germany appears to play both sides of the pipeline coin, the Trump Administration has made it clear that it wants Germany’s support in supplying alternative sources of gas, namely U.S. produced LNG, to thwart this Russian incursion into Europe’s heart. Keeping with the Russian theme, and moving surprisingly well in the face of sanctions imposed on Russia over Ukraine, activity is occurring on the Chinese border. The Power of Siberia pipeline is scheduled to open in 2019 to transport up to 38 billion cubic meters of gas to an energy-hungry China. The 3,000 km pipeline is the result of a $55 billion deal with China allowing Russian gas to cross the Amur River into the Middle Kingdom. Xi Jinping and Vladimir Putin seem intent on trying to neutralize U.S. efforts to blunt Russian energy revenues.

While limited, there are some American efforts underway. Blackstone has been raising money from investors for a $40 billion infrastructure fund and $20 billion from the Saudis has boosted the fund’s coffers which include modest investments from U.S. pensions such as the Pennsylvania Public School Employee Pension Fund and similar teacher retirement plans in Texas and Illinois. The Khashoggi murder in Turkey has cast a light on this Saudi- dominant fund, but all appears to be moving forward at Blackstone despite slower investment commitments than anticipated.

But the Blackstone fund seems more the exception than the rule.  One reason for a domestic infrastructure funding void is likely debt. The huge debt overhang in the U.S. is evident at all levels. Personal, federal, and corporate debt are all bursting at the seams. Tax cuts have added to the federal debt as new Treasury Notes are auctioned at record numbers to fund the gaping budget deficit in our country. These corporate tax cuts were intended to spur capital investment and, according to the Financial Times, Apple, Alphabet, Cisco, and Microsoft increased capital investment 42% year-on-year to $42.6 billion. Impressive until you realize they spent $115 billion on stock buybacks. Shareholders, more than capital expenditure projects, are the true beneficiary of tax cuts.

Meanwhile, it seems companies are struggling to find worthy capital projects. This rings particularly true considering the recent retrenchment announced by GM: no need for those large employee-laden plants. One has to ponder whether the current oligopolistic corporate culture is contributing to this dearth of investment. Perhaps when a small cadre of companies control entire industries they begin to pull back on the reins, retarding capital expenditures as monopoly-like profits sate their appetites. Against this backdrop, it seems unlikely that infrastructure will emerge on anyone’s radar in a large way.

I would offer the humble suggestion of reversing the trend of deconstruction and joining a Four Seas Forum, bringing Adriatic, Black and Baltic seas in union with the Atlantic. Creatively discussing infrastructure possibilities and using ingenuity to jumpstart our infrastructure efforts and, quite possibly, securing international contracts along the way. Maybe our Congress could join in such an effort and create something to ignite the desire for interstate highway renewal, bridge rehabilitation and liquid natural gas expansion. A new gas tax, which remains unchanged since 1993, would be just such a catalyst. Maybe breaking up the ever-expanding banking, telecom, and technology behemoths could be put into play. Surely if India can traverse Myanmar we can upgrade Manhattan, Maryland, and Montana. Grab those shovels and start digging.

Markets have had a difficult two months. While this year’s gains have largely evaporated, it is important to remember the indices are still flat for the year. This is hardly a reason to let fear ruin the holiday season. Markets have treated us well for a number of years so, let’s be thankful, take our medicine, and proceed with well-structured portfolios as 2019 presents itself. Utilities and healthcare stocks look attractive as we approach the New Year. Modest allocations to devastated emerging market stocks are also a good method of diversification because as inflation raises its head, commodity reliant emerging markets should benefit.

Happy holidays!

 E.B “Chip” Beard

 December 2018