There's a lot packed into this note.

This is longer than I usually send out.

There’s a good reason though.

This note could frame our investing outlook for the coming years…

It’s worth bending the rules.

Let’s give your attention span a workout, and dive straight in.

China stands increasingly isolated on the global stage.

There has been renewed talk of “The Great Decoupling”.

Trump confirmed as much last month:

Amidst the predictable hysterical reactions and media reductionism, it was easy to lose perspective.

Decoupling is defined as:

“a situation in which two or more activities are separated, or do not develop in the same way”

The decoupling has already started. This isn’t new.

Every action taken by the Trump administration (addressing the CCP) is consistent with their national security strategy, laid out here in 2017 👇

Today, American prosperity and security are challenged by an economic competition playing out in a broader strategic context. The United States helped expand the liberal economic trading system to countries that did not share our values, in the hopes that these states would liberalize their economic and political practices and provide commensurate benefits to the United States.

Experience shows that these countries distorted and undermined key economic institutions without undertaking significant reform of their economies or politics. 

They espouse free trade rhetoric and exploit its benefits, but only adhere selectively to the rules and agreements. We welcome all economic relationships rooted in fairness, reciprocity , and faithful adherence to the rules. 

Those who join this pursuit will be our closest economic partners. But the United States will no longer turn a blind eye to violations, cheating, or economic aggression.

The world views China very differently these days.

Having been accused of abandoning their allies, the U.S. is once again “leading” the world...

away from China.

The Trump administration cannot take all of the credit for this (although I’m sure they will try!).

Their main success was in putting China under the spotlight.

China has done the rest themselves.

Ultimately, there is little common ground between the U.S. & the CCP. The systems are fundamentally incompatible, (and both sides believe that their system is best).

As Bloomberg reported;

Pompeo and his advisers have come to conclude that a capitalist, democratic U.S. and a Communist, un-elected leadership in China are fundamentally at odds and cannot coexist.

Pompeo’s speech this week confirmed this, declaring failure on engagement with China.

The U.S. has now committed to firmer treatment of China. It’s a simple strategy of holding the CCP to Western standards. No special treatment. China rejects these standards, as they conflict with the communist ideology.

A “decoupling” is the logical outcome.

The media may blow this up at some point, as if the U.S. & China 's relationship will suddenly end (as it did with Russia in the Cold War). But China is integrated into the global economy. Russia wasn’t.

We're not talking about an overnight “severance” (unless things get really out of hand somewhere). There's simply too much at stake.

The decoupling has already started, and will likely accelerate over the coming years. For that to happen, the supply chain needs rebuilding.

U.S. companies were already pivoting away from China anyway:

"Three decades ago, U.S. producers began manufacturing and sourcing in China for one reason: costs."

The trade war brought a second dimension more fully into the equation―risk―as tariffs and the threat of disrupted China imports prompted companies to weigh surety of supply more fully alongside costs.

COVID-19 brings a third dimension more fully into the mix­, and arguably to the fore: resilience―the ability to foresee and adapt to unforeseen systemic shocks," says Patrick Van den Bossche, Kearney partner and co-author of the 19-page report.

Companies responded to the trade war cost risk by further expanding their “China +1” strategy.

With the costs of doing business in China increasing, corporations turned to other ASEAN nations, seeking the dual benefit of diversified supply chains and cheaper labour from other nations.

But they did not factor in the supply chain risks properly, focused instead on efficiency and cost (as usual).

The coronavirus changed that perspective.

You see, many ASEAN nations are largely dependent on China for their own supply chains. When China closed down, so did they.

These clever corporations were not so “diversified” after all. Another risk for corporations came to light recently.

Major supply chains are getting caught up in the U.S. effort to punish human-rights abuses in China.

The addition of 11 Chinese companies to a blacklist of entities Washington says are linked to abuses of the Uighur minority group is entangling big brands, and likely to further a reordering of supply chains that provide goods for American consumers. Among those that have done business with the targeted manufacturers in the Xinjiang region are Apple Inc., Ralph Lauren Corp. and Tommy Hilfiger.

The blacklistings illustrate the growing risks to U.S. companies with extensive and often opaque supply chains in China. American exporters and importers will face growing compliance burdens and many may shift away from doing business with companies across the targeted region. Analysts say that may more broadly accelerate the decoupling of supply-chain links between the two countries.

Plus, there’s the PR risk of being increasingly associated with slave labour...

So, what will they do about it?

Well, Coronavirus makes the case for bringing manufacturing back to America.

The past few months have demonstrated just how dependent the U.S. is on foreign manufacturers for things we need in a crisis.

Urgently needed goods from medical equipment to pharmaceuticals have faced shortages as overseas factories have shut down or stopped exporting.

While American companies have rapidly shifted their supply chains to meet this unprecedented challenge, more production at home or from U.S.-friendly companies would be much better.

The shortage of PPE and other essential medical supplies will not be permitted again.

There are various bills currently in the senate looking to ensure this. The risk of over-reliance on China (or any other singular point of failure) is undeniable.

The Global Supply Chain presentation earlier this year offered some clues for the future.

This slide from the full presentation lays out the trends.

All pretty logical and making sense so far?

It’s a great theory, but let’s think about it in real world terms.

As a business, what’s the main problem with rebuilding your supply chain?

Cost.

Can that be overcome?

Well, governments are actively encouraging (and financially incentivising) their companies to pivot away from China.

A few examples:

Korea urged to promote manufacturing reshoring.

In February, the government rolled out a package of incentives, which includes exempting corporate tax as well as subsidizing costs for building smart factories.

Japan switching manufacturing to ASEAN.

The rescue package includes an economic support fund worth about US$2.4 billion to help finance local businesses bringing manufacturing back to Japan from China, or to move it to other countries in Southeast Asia.

GOP senators introduce 'Beat China' bill aimed at increasing US manufacturing.

It would alter the tax code to provide incentives to businesses willing to relocate the production of pharmaceuticals, medical devices and other supplies to the U.S.

“The COVID-19 pandemic has shown us just how dangerous it is to rely so heavily on other countries, including China, for critical, life-saving products like drugs and medical devices as well as supplies like gowns, masks and swabs. It is time we incentivize companies to bring those factories and jobs back to the United States.”

This mixture of incentives makes a pretty potent cocktail.

Governments are actively enticing businesses to diversify away from China. The Chinese factory will be redistributed around the world.

As the global supply chain is rebuilt, other nations will chip away at China’s share of the global manufacturing market.

This will take time. We aren’t looking at a few months on this one.

This “rebuilding” theme nests neatly within a larger trend.

THE INFRASTRUCTURE BOOM IS COMING!

WE’RE ON THE EDGE!

Sorry, I had to make sure you weren't drifting off.

I know it’s long. Stay with me...

There’s more to consider than just the global supply chain. Much of China’s economic expansion revolved around upgrading infrastructure.

This needs to be replicated elsewhere in the world.

We are Re-Building the supply chain after all.

Let’s look at the U.S. first. It’s well documented that Trump wants enormous infrastructure spending.

$2 trillion should start things off.

Even if he doesn’t win the election, Biden’s “Build Back Better” campaign plan (somebody sack that slogan-writer) shares similar objectives.

Take a look:

In the UK, there are plans for a Government infrastructure bank.

UK chancellor Rishi Sunak is drawing up plans for a new infrastructure bank to provide billions of pounds of new funding for capital projects across the country, as ministers seek to kickstart Britain’s economic recovery in the wake of the pandemic.

The chancellor’s autumn fiscal event is expected to have a heavy emphasis on infrastructure and will see the publication of the long-awaited “National Infrastructure Strategy” document detailing over £100bn of spending setting out his long-term investment plans.

In the EU, the €750bn recovery fund has been approved (pending parliamentary signoff).

One example:

Romania to receive €80bn from EU recovery package

And what are they going to spend it on?

The funds will be used to rebuild the country’s infrastructure, build hospitals and schools, and modernise public systems, the president said. A significant amount will be used for economic recovery.

Are you noticing a theme yet?

Build, build, build!

And that’s not all.

Remember the push to ban fossil fuel powered vehicles?

Well, the clock is ticking.

There's a LOT to be done to meet those targets.

And it won’t just be charging points.

There are a whole host of companies betting on hydrogen fuels.

From Toyota, to newcomer Nikola, clean hydrogen is gaining traction. Whether these energy projects are successful or not is a different story.

All we are betting on (for now) is the build.

Massive infrastructure spending is on the way. Now I know what you’re thinking.

Where is all of this money coming from?

I’ll tell you.

Massive Government Spending.

But, what about the record deficits?

Governments have essentially taken control of the money supply.

And...

They can borrow for free (or even be paid to borrow).

So, what are they going to do with this new power?

Will they sit around while the economy stagnates?

Calmly observe as the unemployed populace starts rioting?

Give speeches on the virtues of frugality and “balanced books”?

Not a chance!

We are spending our way out of this mess.

The virus has opened Pandora’s box, the genie is out of the lamp, and there’s no going back.

Growth or bust!

Consider the narratives.

In the short term, politicians will talk about

“kickstarting the economy, saving people's livelihoods”

Over the longer term,

“we need to build a better future, a greener economy, with cleaner energy, more sustainable etc. etc.”

Any challenge to the spending will be swiftly rebuked:

“OUR VERY EXISTENCE IS AT STAKE!”

Left or right, it really doesn’t matter...

They will be spending for their version of “the greater good” AND paying near- zero interest (or even being paid interest) to do so.

What a deal.

All politicians want to be remembered as heroes.

This is some opportunity.

Imagine the legacy a politician could leave...

(Not picking on BoJo, this was just a good example).

I hear your doubts...

I can feel you trying to pick holes in this now.

Surely it won’t be plain sailing?

If governments want to keep borrowing, won’t they have to pay a higher rate on the bonds they issue?

Ah, my naive young padawan.

Don’t apply logic.

Central bankers gathered recently in an undisclosed location for their annual seance.

They discussed interest rates in developed markets.

Lower. For. Longer.

“At least the next two years” is the line being parroted by various central bankers.

The UK & U.S. might even go negative yet.

Some commentators are getting ahead of themselves, predicting inflation which will force policymakers to raise rates sooner than the market expects.

Remember the dual mandate:

Stable Prices & Maximum Employment.

QE programs will not be slowing down until we start to see sustained growth AND a genuine move back towards full employment.

Think about it.

Can they really justify raising interest rates with 10% of the working population unemployed (and heavily indebted)?

All that would cause is a higher default rate, problems resurface, and they would have to reverse policy again.

Central Banks have all shown a willingness to allow inflation overshoots before looking at raising rates.

Before even looking at rate increases, they will have to scale back the QE.

They will wait for as long as possible before they take away this punch bowl.

All the while the QE programs are running, yields will remain low, and governments will borrow cheaply.

There’s yet another layer to this.

We already know what happens to banks when interest rates are low.

It becomes harder to make a profit.

What’s a lender to do in these circumstances?

Let’s go with a double whammy, just to be sure.

How about…

Subprime lending and a higher LTV?

Yep, that again.

Risk premium?

Never heard of it mate.

Was that something they had in the old days?

If banks start lending freely, the property cycle will be revitalized.

Georgists won’t be happy.

Land values near major infrastructure projects will increase.

Property prices will go up.

Price increases attract more development; new builds, reforms.

FOMO buyers will pile in, spurred on by easy lending.

There is also a strong possibility that office spaces and retail premises will be reformed/repurposed.

All of this construction (infrastructure, residential, commercial)  creates demand for raw materials.

Amongst all of the moving parts here, there is an enormous opportunity in commodities, especially industrial metals.

As a passive longer term investment, industrial metal ETF’s look attractive.

The iShares MSCI Global Metals & Mining Producers ETF (PICK) gives exposure to a broad scope of materials and is weighted more in favour of mining giants BHP, Glencore & Rio Tinto.

The Invesco DBB Industrial metals ETF is equally weighted between Copper, Aluminium & Zinc.

The downside to this ETF is that it doesn’t give exposure to iron ore/steel, so we would have to add another product to the portfolio.

Steel exposure is a pretty big thing to miss out if we’re playing a construction theme!

Copper exposure is important too.

The expected decarbonisation of energy and transportation systems projects a strong rise in copper demand, plus it’s used in literally every electronic device.

We are going to continue the research on this theme, and get more granular on this theme in coming articles.