Musing on 2012

12 month performance chart from the FT macromap:

Looking ahead to 2012 and 2013, I think that equities and equity-like products will benefit from a lower equity risk premium once the European debt crisis stabilizes. Damodaran calculates it on a monthly basis, and according to his calculations -for which I would give full credit- it finished the year at 6.04% (up from 5.2% at the beginning of the year, but down from a max of 7.64% during the market jitters of the summer).

The improvement in the (attractiviness of) valuations has been supported by a good year for corporate america. With earnings up 16% for the year, and cash flows to investors (dividends and buybacks) yielding 5.9% -significantly higher than the 10y UST yield at 1.87%, but also higher than the 10 year average at 4.72%.

Treasuries had indeed a very good year. With returns above 16% for 2011 there is not much more upside potential. Higher economic growth or higher inflation expectations would drag the prices lower, to yields that would be more aligned with historical measures (like those for the end of 2010, above 3%).

This analysis, in combination with the exploration of the supply and demand prospects in some specific markets that have called my attention recently translantes into some more specific trading ideas:

Longs of early cyclical companies. Including:

- Soft commodities -potash and phosphates. I am an avid reader of Jeremy Grantham's publications; and I think he is right in his call about the increasing scarcity of soil for feeding an ever increasing global population. The “finiteness of natural resources is simply ignored, and pricing is based entirely on short-term supply and demand.

Therefore I like potassium and phosphorus, which are necessary for all life and cannot be artificially manufactured or substituted by other products.

- Hard commodities, especially physical ownership of PGMs (rather than miners) via ETFs. i.e. Palladium and Platinum; and in a second order, Rhodium and Iridium.

- Energy-commodities like Uranium. Again, global energy demand is expected to double in the next two / three decades. Even after Fukushima's disaster, nuclear energy stands as one of the most reliable, cheaper and cleaner sources of energy in todays' world. Demand continues to be strong, outpacing global supply, and the depletion of the Russian nuclear reserves is coming to an end.

For uranium you may understand that the investor community is not interested in ownership of the physical asset -but rather, equity exposure through miners. After a very bad year in 2011 in which the sector was battered by investors, junior miners like Fission and Ur-Energy can yield better results (adjusted for risk, although it is the market who will determine that).

URA is the most popular ETF in the industry. Apparently it was the worse performer ETF in 2011; which was what initially called my attention ...

And lastly, digging a bit into the fundamentals of the companies; I like some metals and mining companies like BHP, automotive companies like Volkswagen, BMW and Hyundai motor; and Korean exporters like Samsung.

As said before, I would open shorts on AAA Sovereign bonds (US, UK, DE, JP). Yields are so low that they can only go high. And if they go lower ... what? At these levels there is not much room for higher bond prices and therefore losses are fairly limited. On the other hand, the downside potential (for the underlying prices, and therefore to make money) is much greater. Besides, since we are experiencing a collateral crunch, these assets are priced at a premium vs fundamentals. If I would have a bigger portfolio, not only I would not hold them, I would short them.

I am also quite bearish about the wind energy industry.

I think that there is still money to be made shorting Gamesa, Acciona, Vestas, EDPR (in this order).

Eq long/short spreads:

Long companies with no dividends, short companies with high dividends (since it seems that are priced at a premium up and above their supposed smaller risk exposure).

Long Hang Seng (from 2H2012), Strait Times, short Dow Jones

Long MXP, EUR, GBP, short JPY

I also like an assymetric bet in precious metals: short gold and silver and long palladium and platinum -physical rather than equities.