I say this all the time to subscribers of my investment advisory, Crisis & Opportunity, and I’ll say it to you, too: It’s not the news that is important. It’s the market’s reaction to the news.
On that count, this ‘historic summit’ between two megalomaniacs was one great big yawn. From The Australian:
‘Global financial markets weren’t getting carried away with a potential lessening of geopolitical risk after the historic summit between US President Donald Trump and North Korean leader Kim Jong-un yesterday, as caution dominated before major economic data and central bank meetings this week.
‘Some riskier assets rose and safe havens fell slightly as Mr Trump and Kim both expressed optimism about the talks. The mood appeared slightly positive after the leaders agreed to work towards the “complete denuclearisation of the Korean peninsula” and a “lasting and stable peace”.
‘But South Korean markets — which should be the most affected by any lessening of the geopolitical risk on the Korean peninsula — were little changed, with the benchmark Kospi index flat and the Korean won down 0.2 per cent against the US dollar in late Asian trading.’
My opinion on the Trump/Kim meeting isn’t relevant. I’ll just note that this isn’t the first time North Korea has made peace overtures. In other words, the market doesn’t trust Kim, nor does it trust, or fully comprehend, Trump’s motives.
And anyway, the market hasn’t been too concerned about trouble on the Korean Peninsula lately. The general barometer of geopolitical risk, gold, has been weak lately and is still trading just below US$1,300 an ounce, unchanged from before the summit.
All in all then, it’s much ado about nothing. So let’s move on…nothing to see here apart from politics at its good, old-fashioned best. That is, leaders smiling for the cameras, talking about peace, and lying to each other to gain some sort of advantage.
Turning to some good news for Australia now, sort of. The massive investment into liquid natural gas (LNG) over the past decade, resulting in the development of a new export industry, may finally start to pay off over the next few years.
From The Australian:
‘Chinese LNG demand is set to drive a global shortage in the next three or four years and push Australian east coast gas prices back above $10 a gigajoule, according to global energy consultant Fereidun Fesharaki.
‘The looming shortage, which may be coming faster than most had expected, is good news for the nation’s offshore liquid natural gas producers and export revenues.
‘But it spells higher costs for manufacturers on the east coast and greater political pressure on Gladstone’s three LNG export plants, run by Santos, Shell and Origin Energy/ConocoPhillips to keep a lid on domestic prices.’
Let’s unpack this. Higher LNG prices mean increased export revenues, which adds to economic growth via a contribution from ‘net exports’. But increased demand from China means higher prices for domestic gas users, which increases the cost of doing business and the cost of living.
This in turn means lower profits for manufacturers, and/or higher energy bills for consumers.
While last week’s first quarter economic growth data showed an economy growing at its fastest quarterly pace since 2011, the all-important household sector is a laggard. Household consumption grew 0.3% in the first quarter. The largest contributor to that growth, at 2.3% (9.2% annualised) was ‘gas, electricity and other fuels’.
Just to be clear, the main driver in already weak household spending is increasing energy costs. That spending isn’t creating much in the way of new jobs.
On the other side of the coin, Australia earns increased export dollars from the LNG industry. If prices rise and export volumes increase too, more money flows into the country.
But how is it dispersed? The LNG export industry is capital intensive and labour light. So the wage benefit is minimal. Various players invested around $200 billion in building the industry. That capital comes at a cost. Let’s be generous and say the cost of capital is 8%. In other words, the terminals must generate a combined profit of $8 billion just to cover the cost of capital.
Furthermore, a report by The Guardian in 2017 revealed that foreign governments own around one-third of the combined projects. Add in the stakes owned by foreign private companies Total, Shell and Conoco Phillips, clearly not much of the profits stay in Australia.
Santos and Origin are the only local companies with ownership in the LNG terminals. Origin has 37.5% of the APLNG project while Santos has a 30% stake in the GLNG project. All up, they own around 25% of the LNG export industry in Gladstone, Queensland. That means 75% of the profits end up going offshore.
And Santos is in the sights of foreign investors so the percentage might fall again.
The upshot of all this is that higher prices are great for increasing net exports and boosting economic growth. But the inflow of cash drains back out via the current account, which measures international financial flows. Higher energy prices, then, eventually find their way into the pockets of offshore investors.
Not great. But it’s just how Australia’s economy has developed. Thanks to poor incentives, we over invest in property and under invest in everything else.
Editor, Crisis & Opportunity