The gun is Chinese, paid for with Russian rubles, the steel probably came from a
West German factory built by French francs. Then it was flown out here by an
African airline probably subsidized by the United States.
-Rod Taylor in Dark of the Sun, 1968
We were struck with a certain degree of déjà vu when we recently heard the United States would send the V Corps to Poland to establish a headquarters. It was in 1952 that V Corps made their headquarters in the I.G. Farben building in Frankfurt, Germany. This magnificent structure that had housed the Farben chemical colossus was occupied by V Corps until 1995, having successfully helped in securing the peace after a long Cold War. The Farben building was returned to German ownership and a university now houses the massive building.
The Farben Building, 2013
It is a fitting evolution for the landmark, considering the Farben company had manufactured the Zyklon B gas used in concentration camps in World War II. Now, in 2022, V Corps is called again to Europe against the same threat, Russian expansion westward. We have seen this movie before, and it ends well for the United States. The Dow Jones enjoyed quite a run during the initial V Corps deployment, and we expect the same results this time. During the Cold War, America thrived amid little competition for its manufactured goods. Now, Russia has again been shunned by the West with their attack on Ukraine sending shudders down many European spines. We expect the same diminished economic activity from China as Chairman Xi appears to be siding with Russia over the Ukraine war. China, with this geopolitical move, their COVID lock-down, and Ma Moment as described in our April Strategy Report, are stepping off the world commerce stage. Déjà vu.
Global inflation is all the rage now. Politically, it is kryptonite for leadership around the world. The Federal Reserve has aggressively raised interest rates to diminish the inflationary pressures,
yet our economy remains on relatively firm footing. We welcome Chairman Powell’s steady hand on the wheel, certainly easing rates upward, but also decreasing the Fed’s bond holdings. Selling into the market to further drain liquidity from a galloping economy seems prudent. Supply chain disruption from COVID and the Ukrainian conflict have thrown a wrench in delivery of goods, exacerbating inflationary pressures. Also to blame is our stupendous money supply growth, compliments of waves of stimulus programs. We are hopeful that the Fed’s actions will result in no more than a mild recession as business inevitably slows.
Of late, commodity prices have eased considerably. One caught our eye, that being copper. Copper has been in use since 8000 BC and is the oldest metal in use today. It is now enjoying new status as critical to “net zero emissions.” Daniel Yergin, the well published energy analyst, recently wrote a column in the Financial Times where he outlined the new role copper has shouldered with its traditional uses in construction, kitchen appliances, computers, and mobile phones. He writes, “the key point is that the technologies central to the energy transition – such as EVs, charging infrastructure, solar photovoltaics, wind turbines and batteries – all require much more copper than their conventional hydrocarbon-based counterparts. For instance, a battery powered electric car requires at least two and a half times more copper than a conventional car; a medium-sized truck four times as much.”
The tricky part is supply. Chile and Peru produce 38% of mined copper. It takes many years before a new mine can be brought on-line. Environmental concerns will further complicate new production. U.S. production has fallen by almost half in the last 25 years according to Yergin, with regulation and permitting playing a role.
So, globalization raises it head again. The Chinese have substantial holdings in Latin America and already play a significant role in the entire copper supply chain. Securing enough copper will be an undertaking as our country expands. If net zero emissions goals are to be met, then copper supply is critical. We think looking at materials exchange traded funds (ETFs) and high-quality materials and copper related companies are wise methods to gain exposure to copper’s long- term prospects. The recent copper downturn seemed like an opportunity to dip one’s toe into the pond.
Copper price action
Also on our scope is the semiconductor chip industry. Again, supply chain issues emerge as Taiwan provides a huge portion of America’s supply. These chips play an increasing role in our daily lives and just recently led to shutdowns in our automotive industry. You probably have heard the phrase, “Data is the new oil.” We agree, and chips are a critical piece of the rush to data. Semiconductor chips have been evolving at an extraordinary pace. In “The Cloud Revolution,” Mark Mills writes, “It’s the shift from binary logic to inference engines, or so-called artificial intelligence. The former has completely dominated semiconductors until now. The recent maturation and now rapid growth of silicon engines based on inference, or learning algorithms, rather than calculations, signals a deep structural change. Demand for the new class of AI chips isn’t replacing conventional Central Processing Units (CPU)s but complements them and adds to the growth in all classes of semiconductor engines. The implications are akin to the difference between a spreadsheet and a voice command, or between calculating and inferring. The migration from digital logic to inference logic is as consequential as the migration from slide rules to digital microprocessors a half-century ago.”
This evolution has been remarkable. In 1971, when Intel introduced the 4004 CPU chip, it held 2,300 transistors. Today a CPU chip can hold tens of billions. The explosion of data – from your smartphone to your car phone to your thermostat – drives a data explosion that will not cease. Data is the new oil, chips are the rigs, and billions are needed.
As this is written, Congress is debating the Chip Bill to provide $52 billion in subsidies to semiconductor chip companies to build factories, or foundries as chip makers call them. Senator Rob Portman of Ohio stated that thirty years ago the United States produced 37% of global semiconductors, today that number sits at 12%. Asia produces 80% of today’s semiconductors. We normally look askance at such government subsidies and picking winners and losers in corporate America. In this case, with national security at the heart of the chip story, we are more understanding but reserve judgement until a final bill is agreed upon. It is too easy for lawmakers to insert more spending in bills and hope this will not be the case with the Chip Bill. Our defense capabilities rest on chip supply, and increasingly, highly sophisticated chips. This cannot be confidently outsourced. The supply chain issue is an economic burden as well as a national security issue, as any disruptions deeply impact U.S. manufacturing.
Look to semiconductor exchange traded funds for exposure here. It is a solid long term investment class that will grow in importance.
Ma Ma Blacksheep
We felt it useful to revisit The Ma Moment – April’s Strategy piece. In listing the numerous Chinese technology chieftains lowering their profiles due to Communist Party pressure, we neglected another Ma: Pony Ma Huateng, founder of Tencent. Tencent is the owner of WeChat, an app that exploded throughout China, and has equity holdings in Tesla, Snap, Spotify and others. Pony Ma has begun downsizing Tencent and expressing subservient tones to his country’s leadership. Pony
Ma appears to hope to avoid the tougher sanctions levied on Alibaba’s Jack Ma. A new book by Lulu Chen titled, Influence Empire: The Story of Tencent and China’s Tech Ambition details the story. It is a timely read. This week the global bank, HSBC, announced the appointment of a Chinese Communist Party Committee at its Chinese investment bank. We await such developments at U.S. investment banks operating in China. It is for these reasons we do not wring our hands about Chinese encroachment around the world. China will be China, marching to their own Communist Party beat. That beat is surprisingly out of tune when attending global capitalist dances.
We started this missive with a quote from an old movie, Dark of the Sun. It is not a particularly famous film, in fact, quite forgettable. In the scene, Rod Taylor, a mercenary fighting in the Congo, grabs a gun from Jim Brown and delivers his supply chain soliloquy. We were struck with how little has changed, the players are the same, the Congo remains unstable yet today, weapons trade is burgeoning, and the supply chain was global even then. We believe things are not so different in many, many, ways, but technology rockets forward and we need to stay abreast of these vital developments. Please stay tuned.
E.B. “Chip” Beard
July 29, 2022