The Dividend Cafe - A Very Significant Week

Episode Date: May 14, 2021

Anyone who knows me personally knows that I loathe melodrama. And hopefully, anyone who has followed my writing for any period of time, especially my financial writing, knows that I hate click-bait, hype, exaggeration, dramatic hyperbole, shock and awe, and other such media-friendly tactics designed to scare, provoke, or just plain manipulate us. I believe almost every day I am writing The DC Today is a boring day in the grand scheme of things. Markets may be up or down a lot on a given day, but as a goals-based investment advisor, with a few exceptions, those day-to-day movements in markets are almost entirely irrelevant. Some days have legitimate policy news, and every day has some aspect of economic information or perspective (Fed, housing, COVID, energy, etc.) that I genuinely love sharing. But it would take a lot for one of my daily investment pieces to warrant some kind of a, “not this is a day that changed history!” This week saw the highest levels of market volatility we have seen all year. It was primarily in high tech and small-cap and more growthy/saucy parts of the market, but the Dow had a couple of big down days, Japan got whacked, and it was the kind of day where financial TV media ratings are up 40% or so from the norm. And I am of the belief that this was a big, profound, and potentially impactful and historic week. At least, I think it will prove to be. I just don’t think the bigness of this week had anything to do with market volatility. I don’t think it had anything to do with tech, with the Nasdaq, with Japan, with the CPI number, with bond yields, or anything else in that vein. So what do I mean? Why am I being “dramatic”? And what does it mean for you as an investor? Jump on into the Dividend Cafe … (and no, this is not melodrama or clickbait; I am just out of room in my intro letter) … =) Links mentioned in this episode: DividendCafe.com TheBahnsenGroup.com

Welcome to the Dividend Cafe, weekly market commentary focused on dividends in your portfolio and dividends in your understanding of economic life. Well, hello, welcome to another week's Dividend Cafe podcast and video. What is today? Friday, May 14th. So middle of the month of May. And we actually finally had a pretty exciting week in the markets. And there haven't been that many. I mean, there's been plenty of up weeks and some that were really up. But more or less, you know, the almost entire year has just been a kind of slow grind higher. Something's a little more flat. Something's a little more than a slow grind higher. But not a lot of up and down volatility. There was that whole kind of GameStop saga at the very end of January that lasted for about 90 seconds that created a little bit of volatility. And there's been a few days, but I mean, we're sitting here now halfway through the fifth month

of the year. And this week there were, what was it, Tuesday and Wednesday, excuse me, yeah, Tuesday and Wednesday, geez, where the Dow had pretty significant downside volatility on a point basis, still not very much really on a percentage basis. But the NASDAQ is down still right now after some recovery today and yesterday, a thousand points from where it was a couple weeks ago. So there's a lot of pressure in those frothy elements of the market. And I've written about that a lot and I've talked about a lot. And that's not what Dividend Cafe is about today. So when I talk about this week having a lot of volatility and I say that I actually think there were some potentially history changing significance in the events of this week.

I don't mean anything to do with market volatility. That's not the context of what I'm referring to. And it would take an awful lot. I mean, I think, you know, I've been managing money a long time now, and I think I've had maybe three weeks in my career where I would say this was a week that activities in the markets will be in the history books. For the most part, markets going up and down is not a historical event. It's a regular event. And then there's obviously certain periods, usually event driven by orders of magnitude become more significant in the volatility and what that might mean to the economy or to history.

But in this case, I'm referring to headline events. And I'm going to do my best to try to even connect these two headline events because they really are somewhat separate. And I'm going to draw some conclusions that people could totally disagree with. And there's good reasons some may want to disagree with either one or both. But I believe both of them, and I'm going to share both of them. You know, it's my podcast. So there you go. Okay. I believe that well before this week, the case for investing in the midstream energy story was a really potent one.

It was a really interesting one. We've been investing in it for a long time. We've been investing in it through the fracking revolution of the late 2000, the first decade of the 2000s and the second, the early part of the second decade of the 2000s. We stayed investing in it through a lot of distress. We changed the way in which we're invested in it to optimize the reality of various conditions in the energy sector at large. So we've been in this and have made the case and I've written about it, talked about it for a long time. And so before I get to some events of this week, in a basic nutshell, the three points I laid out at DividendCafe.com today in my weekly market commentary, these

are the three points that all are interconnected towards the basis for believing and investing in the midstream energy space, the oil and gas pipelines. One, my belief is that there is an insatiable need for energy in our country, from electricity production to heating our homes, to cooling our homes, to transporting vehicles and deliveries and cargo. OK, this is not a very controversial statement. And this is not an environmental statement on either side of various debates. This is just like as basic, obvious a statement as anyone could make. We need a whole bunch of energy in our country to the extent that the natural gas space and obviously in a significant amount of areas, crude oil.

to be made for those who will bring these aforementioned liquids that are needed to fuel energy in our country from point A to point B, which in this case is from the upstream point of production to the downstream point of consumption or usage. Okay. Bring it from the producer to the user. Then the third point is specific that given number one and given number two, the pipelines represent the most environmentally safe and economically feasible and most scalable and most logistically efficient way to do that. And therefore, you make money doing something that has to be done that can be done in the best possible way i like that story now then there's financial stuff that plays in okay so it is true that the index of these companies is yielding somewhere between uh seven and ten percent

and that the spread that those yields represent is somewhere between five, six, seven percent. That's very compelling. But I'm just referring to the fundamental story first as to why I think this story makes sense. Mathematically, the reality is those yields are obviously very juicy and attractive and compelling for income investors. they're very high. But the spread story is more important because it speaks to the relative opportunity. And then when you get spreads, you get not only to look at what a yield may be on an absolute basis, how much cash am I going to get? You can look at what that is comparatively, which is a way of pricing risk. It's a way of pricing expectation. It's a way of pricing expectation. It's a way of pricing value.

And when you look at something that has had a long, long time of averaging 2% to 3% spreads, that's now averaging 5% to 6% spreads or higher, you have something that is potentially dislocated from its historical valuation. Now, I'm not sitting around saying I can't wait till those spreads compress and that value comes way higher and I can go do a victory lap or something. First of all, they've already come way, way higher. And it's the last thing I want to do is celebrate it, not just avoid jinxing it, but because of the economic reality. I have clients that want the cash flow.

And so at the lower prices, as we're buying more, we're delivering a higher yield to them. I have clients that want a higher cash flow in the future. And to the extent that we're reinvesting, getting more shares of this high income producing asset, the lower the price and the higher the yield spread, I'm in no rush to disrupt that party. But the party is going to get disrupted. OK, this will reprice at some point and everyone's going to be happy about it. I'm just simply saying I'm not in a rush to have that happen. But this is all before this week. And the only thing to speed things up a little bit that I want to say that took place this week is something that happens every now and then, which is the things in our life that we take

for granted. And I mean everyone. And I don't mean it derogatory. And I don't mean it as a character assessment. I just mean naturally. I don't think people, when they're lighting up their barbecue grill that is a built-in or so they're thinking about how the gas gets in there and I don't and I don't think most people understand when they buy a battery-powered car that that electricity to on those batteries had to be powered somehow and I don't think people think about whether or not it's coal or gas or oil that's powering or producing the electricity that they may necessarily be using. There's a whole lot of things that we take for granted because that's the point.

You just sort of want to be a passive user of something and let the behind the scenes stuff speak for itself. And yet, when the largest pipeline in the country is viciously attacked by cyber criminals and shut down and lines are going around the building to get gas in parts of the East Coast. And we go multiple days with no real understanding of when we're going to get back online. The fact of the matter is, all of a sudden, the pipeline conversation becomes very real. to matter is all of a sudden the pipeline conversation becomes very real and the necessity of having access to the transportation of fuels that fuel the energy needs of our society. We are underbuilt on pipelines in this country and we kind of got to see it this week because there was no other alternative. It isn't like they said the hackers, the criminals, the gangsters got this pipeline. Well, let's go get it from pipeline B or pipeline C or pipeline D,

because this was the only party. This was the only game in town. And they said, OK, well, we got to put the other two ways that we transport oil and gas in our country is truck and rail. And OK, let's get on a rail. and then it's going to come from Canada or from here, from there. It was going to take four, five, six days and a big inadequacy of supply at that truck. Same story, even slower, even less supply. You can't flick a switch and get truck and rail as an emergency backup for transporting and you don't have enough pipelines built. And I think that this week in the most non-political comment I could possibly make, we see on an economic basis and on an energy sector

basis a reinforcement of the need for greater infrastructure and more infrastructure that serves this need in the economy and that is highly investable, in my opinion, for the reasons I mentioned earlier, a business model that we like and economics that we like. Now, put that on pause for a second. And then the second story is these hackers related to this pipeline story, well, they got paid off. And I think it's one of the most stupefying stories I've seen. I am so oblivious right now to so much what's happening in national politics because I'm so disgusted by almost all of it. And so turned off by a lot of things, including things that are happening within the political party I've been a part of my whole entire life, that I don't pay attention to a lot of this stuff for good reason. And yet this is a

story that got my attention. We paid, and when I say we, I mean the powers that be behind this pipeline, the ransom. This was a malware situation that was going to require their payment to then them get to shut this down and allow oil and gas to uh to resume flowing from through these lines to get to its end users so that all the end needs could be met uh five million dollars totally untraceable bitcoin gone and they're not going to catch the people who did it by way of the funds they're not going to recover the funds that's in the wind. And I believe that there's absolute, if someone believes it can't happen again or won't happen again, they just believe something that like, I don't think belongs in reality. Okay.

I was going to say something meaner. This is a big deal. And I think that you have this entire thesis around crypto ownership that is undefined, ill-defined, not defined, where people see it going higher and they buy it and they think, well, it's going to go even higher. And then you get some legitimacy to the whole conversation.

We have big name firms and entities and institutions kind of facilitating a part of it. But it's also predicated on this idea that it's going to be a medium of exchange. And no one can really go out and conveniently buy things with one another because the medium of exchange is going up and down 4% a minute and 20% a day and so forth. Former bulls and advocates of the whole concept have churned on it for that reason, the instability of medium of exchange, which I think is an open and shut case. But then all of a sudden you go, well, wait a second, there is a really, really legitimate function that's really effective, that really works. And that is that criminals can use it to affect mass pain and damage to national security, national economic interest, global security. I think this is going to draw a ton of attention to the fact that that is the primary functionality of crypto as a currency is rank criminality. Now, if people

believe that's all going to change in the future, then change is in the future. And I'm wrong. I don't think it is. I think that the reason why it's been able to gain the level of credibility and legitimacy it has is because the establishment has never been remotely threatened by it. The big banks and the Fed and the Treasury Department, they have not sat around going, oh, my gosh, what are we going to do about this thing? But when all of a sudden National Security Council, Department of Energy, Department of Treasury, Department of State, and they see an event like this this week, I think it challenges the thesis that this is benign, that this is just speculators doing what they do and let it blow up like dot com and we'll figure it out later. Now all of a sudden there's lives on the line, national security, economic interest. That's what I think has happened this week.

We are paying global criminal gangs with this medium of exchange. And I think that it will happen again. And I think that it will take a long time for what I'm sort of forecasting to play out. I don't think it's going to crash next week. Now, when I say it won't crash next week, one of the most prominent CEOs in the country tweets a couple months ago that we're using it for something and it goes up 20%. And he tweets this week, oh, we're not using it. It's an environmental disaster. And it goes down 10% in a minute. And that's already embedded in this story.

And that is alone, by the way, enough for us to say this isn't a credible investment thesis. But my point is that apart from those different things, what you do have right now is a wake up call to those who have thought it was kind of something on the sideline that could be left alone, that have all along had the power to squash this thing like a bug as far as the mainstreaming of it, which is where its price premium has come from. The price premium has not come from people building an alternate society, just in case you didn't know that. The price premium has come because people thought it was going to be mainstreamed. And I think that that thesis has taken a hit. And so when you look at the pipeline story and this crypto story,

I believe this is a week that is not like right now today, like when 9-11 happened or things like that, that history has changed. I think that this is kind of a week in which a couple of things happen that are going to have profound implications going forward. We may not see all of that for a while. So there's the taming of my own melodrama, but I think you get the point. So it's been an interesting week, and we'll continue to follow all these stories to challenge our own investment theses. But I hope this is of least of interest to you. You're certainly welcome to disagree on one count or both counts, but I do have a lot

of conviction in these two things, and I look forward to engaging anyone who has further questions about it and I certainly hope that I'm wrong on some of what I've said. But with all that, thanks for bearing with me. Thanks, I hope you've had a wonderful week. It's certainly been a very adventurous one and we'll be back next week as always.

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