Birkoa Newsletter 43 (mid-May 2024 updates)
Dear investors, prospective investors, and well-wishers,
Introduction and Overall Fund Performance
I wanted to write to you today, with more than a quarter of the year behind us, to go over Birkoa's performance so far in 2024 and what we see over the horizon. Pretty much everything that I had written in my last newsletter still holds true, and we are gearing up to reap the benefits of a lot of those positions, as I called it back in early January of this year.
First, for those of you with limited time, here's a crisp summary of what the newsletter talks about (generated by Google Gemini) -
Birkoa Fund Update and Outlook: Key Points
Performance:
Fund performance remains flat year-to-date, but with a peak of 6.5% net at Q1 end.
Positive political developments are expected to positively impact returns in the future.
Performance driven by a smaller portion of asset categories than in 2023, highlighting the effectiveness of the uncorrelated asset strategy.
China:
CCP policy implementations expected to have a positive effect on Chinese asset holdings.
Property market stabilization allows for economic stimulus and stock market support.
Positive outlook for the Chinese EV market, despite temporary disruptions due to US tariffs.
US:
Stalling fight against inflation has impacted certain asset performances (e.g., regional banks, AI software companies).
Slowdown in labor economy and consumer spending expected to accelerate, potentially leading to Fed rate cuts sooner than anticipated.
Cryptocurrency:
Significant YTD performance, growing allocation from 10% to 20% of the fund.
Crypto-related equities down due to slower inflation reduction and SEC actions.
Massive rise expected with Fed rate cuts.
Other Assets:
U.S. AI companies: Dislocation between semis and software companies presents opportunities.
Commodities: Crude oil range-bound; EV-adjacent commodities (copper, lithium) with high upside potential.
U.S. semiconductor companies: Temporary pullback expected to reverse with Fed rate cuts.
Volatility Hedge:
Dampening effect on YTD performance due to lower volatility and rotation out of tech stocks.
Continues to serve as insurance against unexpected market events.
Presents buying opportunities due to declining volatility index.
Japanese Yen:
Long Yen/short Dollar trade promising as Yen weakens.
Japanese equities expected to benefit from US-China supply chain disruptions and growing consumer strength.
Overall Outlook:
Short-term headwinds expected to give way to significant gains, similar to 2023.
Current market conditions present attractive buying opportunities.
Fund well-positioned for long-term growth.
Our fund as a whole has remained flat as of this writing but has flirted with peaks of up to 6.5% net at the end of Q1. I think a lot of very significant developments, especially at the political level, have been turning out to be very positive for us, but due to certain more temporary conditions on the ground as a whole, we have not benefited from it yet this year. However, as I often say, this remains an incredibly perfect time to deploy money to Birkoa.
Newsletter Structure and Asset Performance
In this newsletter, I will divide it into an asset-wise breakdown of the most important, relevant things I see over the horizon (as it pertains to our portfolio & strategy) and spend a decent amount of time going over the political and macroeconomic environments that will be driving our asset class behaviors within the individual markets. The most important thing is that while last year we had performance from only 33% of our deployed asset classes, this year thus far, we've only had performance from an even smaller portion of our asset categories than last year. The fact that we are still flat and flirted with a decent first quarter result shows us that our hedge fund strategy is working out well in terms of uncorrelations among the assets.
China and EV Market
Politically speaking, in China, we think that the CCP is finally implementing policies per our expectations that will have a net positive effect on our Chinese positions. It is essential to understand that we have been holding all of our Chinese assets for the past two years and have seen very little in the way of performance emanating from them. But given markets lag policies on the ground, we are finally seeing our Chinese assets at least begin to perform somewhat. The property crisis in China has largely bottomed out, which means that the Chinese government can now stimulate the economy and levitate the stock market by taking actions such as banning short selling, lowering the reserve requirement for Chinese banks, and stepping in to help the nation's top tech performers in this current war against the US and the West for AI, etc. Moreover, China has taken some very important measures lately to boost its EV market. Even though until now, our EV positions, which we view as a completely new asset class altogether within China, haven't worked out too well, we believe we are at the precipice of a major upswing there. The Biden Administration's recent EV tariffs out of China will impose some temporary disruptions within the EV market, but we view that as political posturing and that nothing will actually come out of it. This is another reason why we encourage new investors to put money with us whenever these sorts of temporary short-term events drag aspects of our portfolio, which is by and large what's been happening this year so far. If we remember what we saw from last year's performance, once we do come out of these short-term headwinds, we receive a very large benefit because of having bought into the temporary dips.
We think in China, we are in a similar moment.
U.S. Inflation and Economic Slowdown
In the US, as of late, there has been some stalling in the fight against inflation. This is the reason why elements of our portfolio, for example, regional banks, have stalled their upward momentum that we saw at the end of last year. Also, we have seen a notable decline from their peaks of AI-related software companies from the end of last year. We think that these kinds of downward movements in our assets that have performed for us already have been related to the lack of progress on inflation that has plagued the US since the beginning of 2024. However, we think that is temporary, and we are already seeing signs of a slowdown in the labor economy as well as within consumer spending and other areas of the US economy that will probably accelerate since the real rate of interest has been steadily rising over the past several months, considering inflation hasn't, in fact, picked up meaningfully from its absolute peaks since the middle of last year. The Fed will soon have to consider cutting rates sooner than the markets expect and by a larger amount, since inflation is only one-half of their mandate, with the other half being to ensure low unemployment.
Cryptocurrencies and Blockchain
Cryptocurrencies have performed well for us this year and, in fact, have been part of the reason why we are flat. Their significance in our portfolio has been so profound that what was a ~10% allocation in the beginning has now grown to be more than 20% of the fund. However, our blockchain and cryptocurrency-adjacent public equities assets are down more than 20% in some cases since their peaks achieved at the end of March. We think that is due to a host of temporary reasons:
Relative slower coming down of inflation than expected
Continuous litigatory policies of the Securities and Exchange Commission against crypto-related companies
We think that these two are highly momentary, inherently posturing reasons for the relative fall in our crypto-related assets. As the dollar weakens when the Fed does indeed begin cuts, we are going to see a massive rise in cryptocurrency-related assets. Therefore, even though these have already performed well for us year-to-date, there is a significant upswing potential which we might see as the Fed rate cuts begin to take shape.
U.S. AI Companies and Semiconductors
U.S. AI companies - An interesting thing this year so far is that within AI/technology companies in the US, there's been some dislocation. Semis have done well. The semiconductor index has reached all-time highs. But if you look at software-oriented technology companies, like Salesforce or Snowflake, the ones that provide infrastructure for organizations as a gateway to AI, they have not necessarily done well. In fact, they have been substantially down relative to their December 2023 peaks. I think that dislocation is an opportunity. I also believe these will do better as the Fed begins its rate-cutting cycle. So, that's something we're looking forward to as well as a source of further capital deployment.
In terms of U.S. semiconductor companies, we continue to maintain our positions, and have bought into them further during the months of January and April when our fund suffered slight pullbacks. Overall, semiconductors have been up for the year but are down substantially since their peaks a few weeks ago, just like crypto. We believe that the pullback is temporary, as is borne out by record-breaking earnings from almost all semiconductor companies, including guidance for the future. We believe that part of why they are in a bit of a downward drift of late is due to the Fed's rate-cutting cycle being likely to begin later than originally anticipated. However, as mentioned earlier in this newsletter, we believe that eventually, the Fed will have to cut rates as unemployment and labor economy woes take greater precedence over inflation. Ultimately, our semiconductor positions have a long runway ahead but are susceptible to these downward drags, and once again, as with most other assets mentioned here, that's an incredible opportunity to buy.
Commodities and EV-Adjacent Metals
As far as our commodities positions are concerned, we are somewhere between flat and a little bit positive for the year. Depending on the type of commodity, there's a bit of a spread in how this year has gone so far and in our overall commodities position since we started running the fund two years ago. While crude oil has gone down in value since the height of the Israel-Hamas War sometime in April when it hit $87 a barrel, I think oil will remain range-bound within $75 to $100 for the foreseeable future. This is why it is important to maintain this position as we have done so far.
We also have a lot of positions in EV-adjacent commodities like copper and lithium, and we do it across miners, ETFs of the metals themselves, as well as ETFs of countries like Brazil, for instance, that are major producers of metals and metal exporters. These positions, especially in lithium and copper, will probably continue to have tremendous upside potential as the EV industry takes off and comes out of its downturn over the past few months. EVs in China are a major geopolitical tool, as we noted from the recent Biden Administration tariffs announced May 10th; however, that being said, there is an upward momentum to EVs supported by the CCP and the Chinese government to spur economic activity in China that could have a tremendous upside potential for these two metals. This is why we continue to hold them, and we will hold them for the foreseeable future. Furthermore, this remains an attractive buy-in price for these metals at these price ranges, just like a lot of miners that had fallen significantly last year as it was expected that the economy would go into a slowdown and as a consequence of the EV recession in China. With China out of its recession and expected to grow significantly this year, these could be beneficiaries.
Volatility Hedge and Insurance
The most significant element that I think has led to a bit of a dampener effect for this year, roughly 5% or so as of this writing, is our hedge that I talked about during my previous newsletter. That hedge is a bet on volatility, which is typically inversely proportional to the direction of the U.S. stock market. At the beginning of this year, there has been a bit of a rotation outside of tech into more value and quality-driven names, which don't form part of our portfolio because long-term they don't necessarily fit into our thesis per se. This is why, even though our high-performing assets have not shot up significantly thus far YTD, the negatively correlated volatility hedge has gone down significantly to introduce a bit of a dampener effect, if you will, into our portfolio. Note that this is an intentional insurance that we have against something bad happening, and for the most part, if the volatility index goes down, our positions go significantly up. This temporary instance where we are not major beneficiaries overall, if you will, is tempered. That being said, it is always a good thing to be able to keep buying insurance at lower and lower values, which is why we will feel comfortable putting more money to insure and protect our portfolio as more money comes in. We can also see this buildup of insurance as a major source of upswing should the unexpected happen with our portfolio and the markets as a whole, which we don't expect to at this moment in time. This is why we think that the downsides are only going to be limited from now on because volatility, being a mathematical concept, cannot go to 0 theoretically because that wouldn't make any sense, and it's already been trading at its lowest levels in history since December when we initially bought it. This is why we encourage people to further allocate capital to us because our hedge is so much cheaper by the day. Long story short, moments like these do not happen all that often.
Japanese Yen and Equities
Going off of what we talked about during our last newsletter back in January, the Japanese Yen long, dollar short trade in anticipation of the Bank of Japan increasing rates above zero is only getting more and more promising by the day as the Yen continues to plumb new depths as it barrels towards the 155 mark against the dollar. We think that this trade within the FX spot market can be a massive win if we can get our fund to be meaningfully big to execute this trade with the right amount of leverage to be meaningful. In the meantime, our Japanese positions in equities, which have been a bit down so far this year following a good 2023 run-up, would continue to do well as semiconductors and AI continue to make more inroads in our day-to-day lives. Japan and South Korea continue to be major beneficiaries of the US-China supply chain destruction, which is why we have been bullish on Japan to begin with in equities and specifically within their semiconductor industry. Japan is also in the midst of its first bout of inflation & growth since 1989, which means that the consumer in Japan is strong and will probably continue to get stronger for the near future, which will again be good for our holdings there.
Sincerely,
Pranjit Kalita
Chief Investment Officer