fungible thoughts

Interest rates are here to stay if central banks are to be believed. As we move from a zero interest rate environment flush with cheap capital to an era positive real interest rates, how will capital be redistributed within the economy?

The era of cheap money saw a flood of private equity and public funding, i.e. SPAC’s, of moonshots in the tech and fin-tech sectors. In the last ten years of cheap money, we’ve seen significant disruptions in taxi services, food delivery, social media, and consumer finance. Think: Uber, DoorDash, TikTok, Robinhood.

Social media was heralded as a way toward a better social discourse. Ride-sharing a way to better transportation. The arrival of “no-fee” equity trading triggered a race to the bottom for brokerage fees, spurring cheaper access to financial markets.

All these companies, which were labeled as disruptors, are maturing both in employee average age and in regulation sophistication. Data privacy and free speech are what come to mind when discussing Twitter and Facebook. While Twitter is currently experiencing it’s own turmoil, Facebook has established itself as an advertising powerhouse and investors calling for spending cuts to it’s Metaverse product lines. Robinhood was bringing power to the people until the Meme-stock craze shoved the payment-for-order flow business model into the public discourse.

You didn’t used to pick a “disruptive” tech company for it’s revenue. It was all about the founder and the vision. You were betting on ideals, voting on a founder’s vision rather than on their price to earnings ratio. Taking bets on negative revenue companies is venture capital’s business model but should it really be in your mother’s 401k?

While the recent sell-off in equities is bad if you have significant capital outflows in the next few years, it’s an excellent opportunity if you have a relatively longer investment horizon.

It’s safer to make a return of 7-8% than it used to be. Now that interest rates are here to stay, investors, both big and small, are now moving down the risk ladder. As a fund, to make that 7+% return in a zero interest rate environment, you needed to lock your capital up in venture capital, private equity or real estate. You had to SHORT liquidity, all while VC and PE funds were chugging money into profit negative moonshots.

As more of the investment community understands that interest rates are here to stay, more capital will flow into real, physical projects. Spurred by the enactment of the Inflation Reduction Act in the United States, investments will flow towards actionable energy and climate solutions, in particular. With the recent shake-ups in the energy markets (read: Russian War on Ukraine), Europe specifically needs to invest in new solutions and diplomatic relationships toward fulfilling their energy needs.

In the same vein, firms are catching on that environmental and social issues are not political, they’re economic. They’re real risks to business models. In the past, companies were lauded for their staying out of political and social issues. Now employees expect their employer to speak out on these issues. Workers are more perceptive toward their company’s vision and feel a need to identify with the company’s mission. The world is moving from “Don’t be Evil” to “Do Good”.

In order to attract capital, funds need to consider environmental factors in their allocation modelling. As more companies are being legally required to disclose their environmental impacts, capital will move away from the big polluters, incentivizing investment in green solutions.

No firm is going to apply themselves to environmental problems just because it “feels good”. Thus far, capitalism is the best system that humanity has devised. Employment exists because all parties involved benefit; employers AND employees make money, solve problems, and achieve their goals. Efficient markets implies everyone has perfect information. ETF’s have become a significant portion of individual and institutional wealth allocation. Only recently have investors demanded that they know what’s in these things. They’re asking, “what is the environmental impact of the 100+ companies I own in this ETF?”, and “Am I investing in companies that are creating the future that I want to see?”.

Thematic investing has seen more interest in the ETF era as well. More investors are choosing a theme or factor to invest in, for example: green tech. As the information database around inherent risks and soft values of companies grows, investors and asset managers will become more active in voting with their dollars (and euros, and yen, etc.). We have to use capitalism to solve the problem rather than relying on tech billionaires to lead the way.

This isn’t to say we can profit-maximize our way out of this. We will still need governments and regulatory bodies to define taxonomies and make the problem more REAL at the company and individual level. I am saying that there’s an opportunity to both make money and create a better world.

I remain optimistic that capital allocation will become “smarter” rather than more cynical in the face of more expensive debt. As capital providers become more risk-sensitive, solutions with steadier cash flows and real, i.e. physical, returns will become more popular. There will be a refocusing of the narrative around what’s the most important issue facing humanity.

Would love to hear your thoughts. Am I too optimistic? Way off base?

Thanks for reading,

/Tommander-in-Chief

As always, don’t hesitate reach out to fungiblethoughts@gmail.com.

Bonus note: I wanted to get GMO’s in here somewhere but didn’t seem to fit with the general narrative, so as a side note, here’s my two cents.

If inflation remains elevated for an extended period of time, politicians, especially those in Europe and Asia, won’t have the privilege of being anti-GMO. Engineered seeds that can thrive in a drought will become an necessity. In the future, it will be only high-income houses that can afford non-GMO foodstuffs. Hopefully it will the be the same with meat products, where it becomes a luxury not a staple to eat meat every day.