‘Worst Outcomes’ Aren’t Priced In, Fund Manager Reveals What Breaks Next | Adrian Day

Summary

• Higher oil prices could sustain inflation, forcing the Fed and other central banks to remain restrictive, which will stress an already fragile private credit market marked by liquidity issues and collapsing marks (e.g., a private loan marked from 100 to 0 cents in a month).
• Geopolitical conflict in Iran presents a key risk with unpriced "worst outcomes," including prolonged disruption to the Strait of Hormuz, affecting oil, natural gas, and fertilizer shipments, which could severely impact global agriculture and food prices.
• The Fed is more concerned with inflation than employment; rate cuts are unlikely in the near term, but the central bank may be forced to inject liquidity (extend QE) if credit market stress leads to major bankruptcies.
• The US labor market is weaker than headline payroll numbers suggest, characterized by downward revisions, a lack of net full-time private sector job creation, and a reliance on part-time and government jobs.
• Despite believing oil is the most fundamentally undervalued commodity long-term, Adrian Day is reducing exposure to energy stocks as current valuations do not adequately price the asymmetric risk of a war resolution sending oil prices back to ~$75/barrel.
• Gold exposure is being increased; mining companies currently have historically high margins, and a significant rise in input costs (e.g., oil) would be manageable at current gold prices (~$4500/oz).
• Gold's price action is not anomalous; it typically rises ahead of geopolitical events and sells off after they begin, driven by liquidity needs (e.g., Turkey selling 60 tons) and inverse correlation with the US dollar as a competing safe-haven asset.
• Opportunities are seen in copper following its recent decline, in agricultural commodities via land and fertilizer companies, and in select international (ex-US) equity markets which are at extreme valuation discounts and have begun a cycle of relative outperformance.