As media coverage shifts from evidence of ‘the Chinese property bubble’ to evidence of price falls in major cities and a sharp reduction in sales volume country-wide, we cannot help concluding that this is clearly the desired outcome for the Chinese Government. But just as Beijing did not want a bubble nor does is it keen for the property market to implode. Luckily, and in stark contrast to the West, a stable property market is to a large degree in the Government’s gift. This is because the downturn – and the rebound last year – has been driven by changes in regulation, not economics. Regulation in China can, and does, change overnight. This is a very different situation to the excess leverage/negative equity situation in the West, which is not amenable to rapid change. The majority of Chinese property purchases are still done with 50-100% cash, and banks’ attitudes to granting credit are not pro-cyclical as in the UK or the US.

“Why should Beijing stop tightening and why now?” As to “Why?” well, the tightening has now had an effect (see above) and this will be seen explicitly in the official figures that will be published in the coming weeks. As to “Why now?” we interpret Premier Wen’s recent exhortation to his regulators that the time has now come for “more coordination between departments” as a clear signal to give their tightening policies a breather.

Property stocks in the region are now very oversold and at large discounts to NAV. We are selectively buying the quality names in Hong Kong, Taiwan and Singapore (sold off primarily as collateral damage to the Chinese developers, exacerbated by some minor changes to selling practices in Hong Kong), and starting to look at the quality end of the Mainland Chinese developers.

So why have Asian currencies depreciated vs the USD over the last few weeks? We can only assume it is a function of risk aversion, as it would be very hard to characterise the fiscal position of the US as materially better than much of the Euro-zone periphery. We are inclined to think that this presents a buying opportunity, particularly for the Australian Dollar, where the fundamentals – immaterial sovereign debt, a large interest rate differential and a budget realistically forecast to be in surplus in the next few years – are immeasurably superior. The recent adoption of a few anti-mining recommendations from the Henry tax review has cast a near-term pall over the perception of investment in the country, but we note that corporate activity continues and the reality is that there is unlikely to be a sufficient majority to pass the legislation in any case. From the perspective of the mining equities it appears that a worst-case scenario was immediately priced in, making the risk/reward equation much more favourable. We have removed most of our short positions and taken off our partial hedge of the A$ vs the US$.

Unfortunately the carpet is beginning to show some unsightly bulges as more and more bad stuff is swept underneath it. The sad reality is that a 10% of GDP reduction in the deficit at a time of rising interest rates and with a large stock of debt to start with is virtually impossible in a democracy. The Greeks have already called a general strike at the prospect of a wage freeze (they need a 15% reduction to make a meaningful difference). The farmers have started blockading the motorways with their shiny new (EU subsidised) tractors as they demand HIGHER subsidies. The western world has got used to living beyond its means on cheap and plentiful credit, and its citizens will not react well to being told to adjust to a lower (material) quality of life. But that is what will happen over the next decade, though the bitterness of the pill is likely to be sugared by a plentiful dose of inflation. Luckily for politicians, most people think nominal rather than real as far as money goes, though rising inflation rates and sovereign yields will exacerbate the funding crisis as well.

Will the Euro fragment? Not in the next few years. It was always an experiment in politics and bad economics from day 1, with Germany accepting a financial burden in exchange for the ultimate goal of a Bismark-esque Federation. The risk to the Euro is when the German electorate finally get hacked-off with subsidising their spendthrift Mediterranean neighbours. Given that they have already paid for rebuilding East Germany and for all of the Greek (and Irish) tractors, they seem to have a pretty high financial pain threshold, and it might take a while yet for the penny (cent?) to drop. At that point the Euro could be in trouble, but we’ve probably got a while yet. In the meantime we must get used to periodic mini-crises as European and American deficits remain stubbornly high and fixed interest investors start to sense Pimco’s bed of nitroglycerine under most bond markets rather than just the UK’s.
So how do we make money? In the near term, take advantage of the recent pull back to make a few trading gains. After all, nothing has changed from a few months ago apart from perception. Market participants missed the best bit of the 2009 rally as it was all over by June. Most got in late, and come December, needed to believe in a new bull market. Greece was merely the bucket of cold water that snapped markets out of their reverie. We are seeing a good number of oversold stocks at attractive, if not bargain-basement valuations, and have upped our net investment position reasonably significantly. This is, however, likely to be a trade of a few weeks duration, and after a bounce we expect Western markets to continue a downward drift.

Secondly, and more importantly, tilt your portfolio further towards Asia. Currencies and domestic assets will outperform those in the West, and bond markets will not suffer from chronic oversupply. Simples!!!

Several of these play a part in our portfolios, Copenhagen notwithstanding.

Allegations that scientists have been cooking the numbers on climate change appear to be stoking scepticism about man’s contribution to global warming. It is of course right and proper that Nigel Lawson and others are determined to hold the scientific community to account. Good luck to them.

Whatever the outcome of these investigations however, it seems clear to us that the faster we reduce our reliance on burning of fossil fuels the better. We believe that there are now a significant number of investible propositions for investors who share our view and want to capitalise on the opportunities.

Our Asian funds currently have a meaningful part of its portfolio in the sector, some of which are described below. We also have a dedicated renewable and alternative energy fund, Tiburon Terra.

Of course the shenanigans in Copenhagen and the work of bodies such as Lord Lawson’s new Global Warming Policy Foundation are fascinating and clearly important but don’t forget that there is good money to be made in the meantime.

Extract from Tiburon Taipan report:

Renewable energy will be an investment theme for the foreseeable future and we are very attuned to some recent developments that have the potential to revolutionise energy production and go some way to reducing the speed at which homo sapiens rapes the planet. The five areas we would highlight, all of which are represented in the portfolio are underground coal gasification, wide band photovoltaic cells, platinum, uranium enrichment and LEDs.

Underground coal gasification is not a new concept, but the first attempts over the last 50 years or so in Russia and the U.S. were dogged by (avoidable) environmental issues and many people now ignore the possibilities. Yet it is now possible to safely burn coal deposits underground that are too thin and/or deep to mine conventionally with a minimum of capital expenditure or environmental risk but with a far greater overall efficiency than by any form of conventional mining. Like coal bed methane, this is a sector in which vested interests tend to denigrate, not because it doesn’t work but because it threatens their business model. Buy before the sector gets proper coverage.

The second technology is less commercially advanced, but has the potential to triple the efficiency of conventional silicon (silicon/silicone?) cells by accessing the ultra-violet and infra-red sectors of the electromagnetic spectrum as well as the visible portion. Again, existing players in the industry with no intellectual property downplay the possibilities. We regard it as a cheap and potentially very profitable option.

Many of our investors will be aware of our positive views on platinum, and the 50% upward move in the Rhodium price this month is very supportive of the underlying supply / demand picture. Rhodium is mined with Platinum and Paladium in small quantities and used in autocatalysts. There is no investment demand, and jewellery use is de minimis. The price surge is a clear manifestation of a supply shortage of all of the Platinum Group Metals, possibly not surprising with Chinese auto sales rising at significant double digit rates and with some western world production being turned back on after the scrappage schemes exhausted excess inventory. If you think Gold is a little bit too popular at the moment, Platinum looks a better bet.

Despite all the high hopes for renewable energy it is unlikely that wind and solar are going to plug the demand/supply gap for power and save the world too. Nuclear is going to play a major part and with supply from decommissioned Soviet warheads scheduled to dry up in the next couple of years a technology that improves the efficiency of the enrichment process of uranium is certainly eye catching. Using lasers rather than the conventional centrifuge the technology, discovered by an Australian company and now licensed to GE is unappreciated by the market.

We are also intrigued by California’s decision to ban the sale of energy inefficient televisions. The point here is not that California can ring-fence its appliance market – it can’t – but it sets an important precedent for other jurisdictions to follow, and is a massive shot in the arm for the new generation of higher picture quality and lower power usage LED-lit televisions. This market is showing explosive growth at present, and as the volume of LEDs rises, the costs fall. This speeds the day when the cost of replacing conventional fluorescent and incandescent lighting with LEDs becomes economic, and at that stage the market will go truly parabolic. The current bottleneck is in the supply of reactors to produce the Gallium Nitride wafers, a market currently dominated by Aixtron of Germany (a snip at 60x earnings, up 380% this year). Luckily there are some new entrants to this market in Korea, and we find opportunities in these names as well as the chip fabricators in Taiwan which are seeing strong growth in a market where ownership of intellectual property is as important as access to capacity.

Whilst international agreements are undoubtedly important, the likelihood of targets being hit and the globe being saved will be just as dependent (if not more so) on the specific carbon reduction policies adopted by individual countries. With all nations embracing the adoption of renewable and alternative energy, but at different speeds, Tiburon Partners has recently launched a UCITs III compliant global long/short equity fund focused on alternative energy and natural resources to allow investors to benefit from these dynamic trends.

Tiburon Terra will focus its fundamental based investment process on identifying companies expected to benefit and/or suffer from environmental and climate change issues. Tiburon believes the long/short approach is best suited to take advantage of regional and sub-sector valuation discrepancies and will help protect investors capital during potential declines in what has been a highly volatile sector.

Rather than following the “green only” route the mandate of Tiburon Terra encompasses natural resources as well as renewable energy. We believe the two are inextricably linked – alternative energy is, afterall, only another way to produce electricity albeit in a cleaner fashion than that produced by coal or natural gas. Consequently Tiburon Terra will also take advantage of arbitrage opportunities that arise between renewables and companies in the natural resource sector. In addition, specific resources are fundamental to the development of renewable energy – rare earths or the technology metals are essential for the development of electric cars, smart grids, wind turbines, nuclear reactors, solar panels and environmental purification processes.

With China likely to contribute 63% of total global incremental emissions by 2020, its participation is a must to make a meaningful difference in emission levels even if the rest of the world cuts unilaterally. One of the key routes China will have to follow in reducing its carbon emissions is by reducing its coal consumption. This has clearly provided the impetus for China’s unprecedented thrust towards nuclear and renewable energy. Opportunities to exploit this are clear: we believe there is a good arbitrage between stocks like Yingli Green, a low cost PV solar module manufacturer, on the one hand and Shanghai Electric, a power generator heavily reliant on coal fired generation, on the other. Both stocks are trading at roughly the same projected P/E multiples in 2011. So too with nuclear: as an alternate form of energy that will provide an increasing share of incremental base-load generation in China, India and the rest of Asia, we believe stocks such as Dongfang, Cameco and Silex are all exciting prospects.

China is also central to rare earths or technology metals. Not only is it the dominant supplier of these rare but vital elements but it has proved to be acquisitive when new deposits have been identified outside its borders. Chinese entities have taken minority stakes in Australian mining groups Lynas Corp and Arafura Resources with predictable results for the stock prices.

We believe that electric vehicles will play a transformative role in transportation and may account for as many as 1 out of 10 new cars sold globally in 10 years. However, instead of investing in an over hyped and overvalued hybrid car battery maker like BYD, which trades at an eye watering 76x next years earnings, we have invested in Galaxy Resources which provides Lithium Carbonate, the mineral essential in the manufacturing of lithium-ion batteries for electric cars, for a more modest 12x earnings once mine production is stabilised.

Clearly the renewable concept has been around for some time but with targets set for 2020 it has in the past been consigned to the pending tray. Now however it is gathering momentum and is investible. Forget the idea that oil has to go back to USD150 before these new technologies and applications become viable: the major alternative energy technologies (wind and solar) have advanced meaningfully down their cost decline curves whereby they are either at (in the case of wind) or very near (in the case of solar) grid electricity rates. These technologies have already been embraced by major corporations and have moved mainstream and Tiburon Terra is well placed to capitalise.

If we had US$1m for every time an investor laments in this way our funds would be at capacity by now.

We reckon that net exports are currently contributing some 10% of the growth in the Chinese economy. Forecasts range between 8% and 16%. So it is a significant part of the economy but it is not the major attraction as many people, who sit, surrounded by products all stamped “Made in China”, seem to think. It has been a higher percentage in the last 3 years and has obviously fallen since the crisis of Q4 last year but it has never been the critical factor in the China story (see the attached chart). Look at 2003 when exports made a negative contribution to the economy or 2001 and 2004 where they contributed less than 1% and yet in both years the economy grew 8%-10%.

The Chinese economic miracle has always been based on the domestic economy – consumption and investment have always been the main drivers since Deng Xiao Ping got the show on the road at the end of the 1970’s. Again this is often forgotten given the obsession the West has for the level of Chinese savings: Chinese savings are high therefore domestic consumption is low and domestic consumption is a critical piece of the domestic economy goes the argument. But take another look at the chart.

China is a domestically driven economy and the domestic sector has just had the biggest shot of adrenalin in history.

In other words, for fear of having to move the currency, monetary policies will not be adjusted enough to compensate for underlying economic strength. Sterilizing the excess liquidity that arises from exchange rate intervention will also be insufficient unless it pushes up interest rates – and this would merely expand the interest differential and cause further hot money inflows. I have also seen similar arguments made for Emerging Markets as a whole and for China specifically.

I also recently had a chance to see a number of global macro/asset allocation type of presentations, and they were all basically saying that you had to buy Emerging Markets now because the developed markets were toast. Apart from the liquidity argument, the persistent growth differential also figured prominently. Now in principle I don’t disagree that EM economies are “better” than DM economies in so many ways – they are surplus economies, with a better growth outlook, stronger fiscal positions, less of a debt overhang – all of that. But the “buy emerging markets while you still can” tone was a little frenzied.

I have also thought for some time that central banks and other financial policymakers have recently expressed an increased willingness to try their hand at pricking asset bubbles relative to past cycles. After all, focussing doggedly on CPI can get pretty dull after a while – its just all too mechanical for these “masters of the universe”. China’s policymakers are old hands at micro-economic policy adjustments and have often used these in lieu of interest rates or other more monetary policies. Following everything the Fed and the ECB have done to try to mitigate the effects of our most recent credit bust, perhaps other central banks will get more imaginative with their measures than past experience indicates?

It was in this context that I found myself fascinated by the recent news that Brazil now plans to impose taxes on foreign purchases of equities to avoid “excess speculation in … capital markets”. I am not saying that anything like this is necessarily going to happen in, say, China (and certainly not in HK). But it is true that financial policymakers watch what others in similar predicaments are doing and have been known to borrow ideas now and then ….

Spending cuts will be massive – think double digit percentages, just to pay the increased unemployment benefit bill, let alone all the other stuff like public sector wage rises and pension bail-outs. Public sector strikes are coming. Tax rises will also be very painful as they will have to be levied on consumption and/or the average earner. Corporation tax in many jurisdictions is history. For example, Merrill Lynch apparently has 160 years of tax losses in their UK operation, and they will not be alone in not having to worry about tax for the foreseeable future. The few companies that are paying a lot of tax are heading rapidly to domiciles with a lower impost. High earners have already been targeted, but there aren’t enough of them to plug even a small fraction of the whole – and in many cases are amenable to relocation if they are not bowled over by our superior weather. These factors apply in the U.S and Europe equally and when combined with a monetary backdrop which can only get tighter (we do not believe electorates will wear negative nominal interest rates) presents a really massive impediment to fast growth. So consumers will have to save less and spend a lot more.  That’s all right then. Good job no-one can remember the great crash of 2008 anymore.

Australia is the last bastion of discounts to NAV, somewhat ironically as the sector has historically traded at a big premium, unlike the UK or US where the newly arrived premia are an unusual phenomenon and clearly represent an increasingly bullish view on yields as rents are likely to remain pressured by material oversupply. The Australian property investor is still shell-shocked. They were sold a lemon over the last decade by the financial engineers dressing up a straightforward collection of buildings as a structured financial product, and the bursting of the bubble has left a lot of collateral damage. Some of the most beaten-up names such as Goodman and Mirvac have rallied as balance sheets have been repaired, and made a lot of money for the fund, yet the office trusts languish near recent lows despite clear signs of an improving physical market. There have been very few cranes sighted on the Sydney or Melbourne skyline this decade, and unemployment may well have peaked already. Contrast this to Dubai or the City of London where oversupply and falling demand are rampant. This is currently our only long property investment in the region.