The Guessing Game

 

The Weekender is my bi-weekly take on macro shifts and emerging themes. It’s not investment advice — or even our firm’s official view. I aim simply to inform, challenge, and maybe entertain. If you’d like this in your inbox every other Saturday morning via Northern Trust, subscribe to The Weekender.

It was economist John Maynard Keynes who said, “Successful investing is anticipating the anticipation of others.” Or, as I prefer: Guessing what all the other guessers are going to guess — before they guess it.

Soccer managers face the same puzzle. The best don’t just pick the most talented players — they pick the ones the other managers haven’t valued yet and position them to receive the ball before anyone sees the pass coming. Hockey legend Wayne Gretzky skated to where the puck was going. Famed Liverpool soccer coach Bill Shankly built teams around what the next move demanded, not the last one.

So, before World Cup fever arrives and soccer metaphors get butchered — here’s my own attempt of some early butchery:

Who makes the squad, and where does the ball go next?

Where's It Been?

First, where has it been?

ChatGPT reviewed a year of Weekender topics for the most consistent and recurring narratives — a decent proxy for market themes.

We've covered AI and its supply chain; we've argued the conditions for a speculative bubble are not (yet) fully present. We've discussed the narrative swing in software as a service¹ (from disruption to augmentation), why private credit's problems stay in private credit, why ongoing currency debasement is driving demand for supply-constrained real assets, and why it's important to understand the backgrounds of the two most important men in finance (U.S. Treasury Secretary Scott Bessent and Federal Reserve Chair Kevin Warsh), especially as it relates to their understanding of technology. And liquidity (clues to be found in macro fund management and the Hoover Institute).

We've tracked the burgeoning equity cultures in the U.K., China, Japan and Europe, and the space economy (more on that soon, no doubt). We’ve returned, repeatedly, to challenging our negativity bias and the seduction of pessimism — made more difficult thanks to social media. We're continually reminded that as many things can go right as can go wrong — a fact humans consistently overlook, which helps explain why The Economist (risk-focused) outsells New Scientist (often life-affirming) two to one, and bears make sense while often it's the bulls that make money.

Where Next?

The question now is: Where next?

While some clients expect short-term volatility — especially if oil supply risks linger, the markets challenge the new Fed chair, U.S. mid-term elections create uncertainty (as is often the case) at a time markets must digest enormous new share issuance (SpaceX, etc.) — the majority remain cautiously optimistic that what has worked will continue working for a while yet.

In other words, a few balls have been kicked hard enough to avoid deviation, albeit the trajectory may flatten over time.

But where should we position to receive the next pass?

Back on the Bench?

We recently took profits in European stocks. They had performed well, the valuation gap had narrowed versus the U.S., and we were worried about their greater relative exposure to ongoing disruption in the Middle East. That decision to drop them seems well made, in hindsight. But what might make us reconsider their selection?

This could.

U.S. households currently hold close to 50% of their financial assets in equities — a record. The comparable figures are estimated at 20% in Japan, 15% in China and around 10% in the U.K. and Europe. The upside, as we've discussed, if those regions can incentivize a shift from savings to investment, is considerable. But nowhere is the prize larger than Europe, where idle household savings of €12–14 trillion ($14-16 trillion) are roughly three times the entire market cap of the Euro Stoxx Index². Dare to dream.

One catalyst could be a genuine single market — what Europeans are calling the Savings and Investments Union (SIU)³.

Europe has 27 fragmented markets where the U.S. has one; the valuation discount is partly a liquidity and depth discount. Remove the fragmentation and that discount compresses. Combine it with tax incentives (another SIU proposal) and that discount compresses more rapidly. But the obstacle has always been political inertia — from Germany in particular.

But things might be changing.

Last week, German Finance Minister Lars Klingbeil declared that a capital markets union "is more important than clinging to national interests." He then stated the German government was "ready to move forward on centralized supervision." In other words, Germany joins the six largest economies in Europe pushing towards a more unified and competitive market agenda. And when the largest countries align, Ireland and Luxembourg continuing to hold out becomes politically unsustainable.

This means the direction of travel is now unambiguous — not a certainty, nor an immediate re-rating catalyst, but confirmation that the structural floor under European integration is rising. Combined with the fiscal pivot in Berlin, strategic moves toward greater energy independence, and now a push for sovereign AI, European equities may soon have a compelling multi-year narrative. One they haven't had in over a decade.

In terms of timing, there's probably no rush. Let's revisit after we get clarity on Iran, or on how central banks will deal with oil price shocks and inflation impacts (as they are mandated to do). Should they tighten liquidity — as many fear — causing risk assets to weaken, that might be the time to revisit and start positioning for when the ball is kicked in that direction.

Japan — Still a Long Playing Career Ahead

Japanese equities have trounced U.S. equities this year.

Beneath the surface, the more important shift continues: a slow, deliberate transition from stakeholder to shareholder capitalism. Decades of deflation entrenched cash hoarding, cross-shareholdings and balance-sheet inertia — behaviors that do not unwind overnight. But inflation raises the cost of doing nothing, while governance reform and activism provide the catalyst to unlock value. Valuations remain in the mid-teens, earnings are improving, and book values — still depressed by an accounting legacy of prolonged deflation — understate economic reality. A fact many activist investors seem quite enamored with. The unlock potential still seems vast.

Most tellingly, new highs have arrived with very little fanfare or euphoria — a sign, applying Templeton's maxim⁴, that we are far from a top. For bull markets "begin in pessimism, rise on skepticism, mature on optimism and die on euphoria."

Japanese households still hold roughly half their financial assets in cash and deposits — around ¥1,100 trillion ($6.9 trillion)  — while corporates remain unusually cash-rich. If even a modest portion is redeployed, which it might if inflation expectations bed in, it becomes a powerful additional source of demand. This is not how cycles end. It is how they evolve.

Japan shows prodigious talent, albeit still relatively young, with a long playing career likely ahead of it.

China — Largely an Undiscovered Talent

Our thesis is that China is transitioning to a new growth model at a time when headwinds from the old one are starting to fade. Should this transition occur at a cyclical inflection for growth and inflation, and should productivity gains become more widely diffused into the economy from AI, we might expect a significant rotation of capital out of savings and into stock markets — impacting wealth, confidence and consumption for years to come.

Since our recent missive, progress on the older parts of the economy has been modest — weighed by uncertainty around Iran — but the new economy moves from strength to strength. April industrial profits rose 24.7% year-on-year, accelerating since March despite Middle East headwinds, driven by AI-related demand. Communications, computing and electronic equipment saw profits grow 107%.

What's also occurred since our visit was the summit between Chinese President Xi Jinping and U.S. President Donald Trump, resulting in what appears to be a positive reset of the bilateral relationship. Trump’s own framing said it plainly: "The great rejuvenation of the Chinese nation and making America great again can go hand in hand." And perhaps the most underreported signal: the Trump team's revised account of COVID origins, which shifted focus away from China. To me, that is a significant signal of intent — China is closer to commerce with the U.S. than to conflict.

And having been overlooked for selection for years, it's becoming harder to ignore.

Decarbonization 2.0 — Changing Teams

In weaponizing the Strait of Hormuz, Iran may have eroded its own strategic leverage. What was once a 20 million barrell-per-day supply risk is now probably closer to 10 million. Iraq is building alternative road and pipeline infrastructure through Kurdistan, the United Arab Emirates likewise, and Saudi Arabia's East-West pipeline is already operational. Add weakened OPEC discipline (the UAE is now outside the cartel); the prospect of returning sanctioned barrels from Iran and Russia should peace deals transpire (Iran partly restoring internet access suggests they are moving off a war footing, truncating left tail risks); incremental supply from a resurgent Western Hemisphere; and increased productive and export capacity in the world's largest producer, North America — and there is evidence to suggest oil might follow a pattern typical of commodity markets: a surplus follows scarcity. High price is the cure for high price.

But there is another, possibly more lasting team change that could impact price, certainly over the longer term. Decarbonization — once considered a moral, marketing or economic issue — is now being rebranded as strategic. Think national security, energy independence, and the fact you can't embargo the sun. And it's not just governments altering their behavior. Consumers may be as well. JPMorgan's oil strategists, after visiting the country, estimated that demand for oil may have fallen by as much as 9% over the past few months "with remarkably little visible disruption." Crucially, they argue this is not a policy-driven conservation effort, but a quiet consumer adjustment to higher prices. The key question is whether this demand destruction reverses as conditions normalize, or whether it reflects a durable shift.

If it's more the latter, that will remove premia from oil futures — and in time, maybe also from inflation. Things that are likely to impact how teams are selected in future.

Scarcity — Identifying Those Rare Skills

Scarcity remains the most useful mental model for assessing the return potential of any theme and its supply chain.

Take AI, where supply can be measured — capex runs, utilization rates. Demand is harder to see, though order backlogs (currently growing faster than capacity) tell a story. If the insiders are right about exponential demand curves — Nvidia CEO Jensen Huang's recent "1,000x more energy" comment being the most recent — then it matters that capacity growth in certain links of the supply chain is linear. And that new capacity — whether it's fabs, utilities or copper mines —  can take years or even decades to come on stream. So yes, margins are still mean-reverting. It's just that this cycle may revert from a higher starting point — one we are yet to reach.

My own experience points to as much: Claude is still glitching, despite paying subscriber penetration below 1% globally — suggesting demand is still overwhelming supply. What happens at 5% or 50% penetration? Until supply catches up (or regulators delay demand — see last time for more), it's fair to say earnings are unlikely to have peaked. History offers comfort: During the dotcom bubble, median technology stock earnings peaked in 1996 — four years before prices did.

The supply of chips, copper, energy, permits and so on remains scarce. A fact few would challenge. We are still early — although few contest that now.

One new scarcity, however, warrants more attention: data.

Moneyball — Hitting the Data Wall

One new dimension of scarcity deserves attention: data. Elon Musk flagged it over a year ago in his  interview with the CEO of Norway’s Sovereign Wealth Fund, Nicolai Tangen, warning we would soon "hit the data wall." The Wall Street Journal followed, arguing that tech giants have harvested almost all usable web content, and that high-quality data could effectively run out within two years. The implication: greater reliance on proprietary, real-world, and synthetic data — the kind captured at scale by companies with large distribution networks or the ability to harvest in real time, from robots, robotaxis, delivery drivers, drones and keystrokes.

And we're back to the Magnificent 7. The midfield. The players everyone ends up picking.

Who would have guessed it?

Have a great weekend.

Gary

 

 

Glossary

1. Software as a Service (SaaS): With Software as a Service (SaaS), customers access applications hosted on remote servers over the internet, paying by subscription.
2. Euro Stoxx Index: The Euro Stoxx Index represents large-, mid- and small-capitalization companies of 11 eurozone countries: Austria, Belgium, Finland, France, Germany, Ireland, Italy, Luxembourg, the Netherlands, Portugal and Spain.
3. Savings and Investment Union: The European Union’s Savings and Investment Union aims to create a unified capital market to improve company financing and investment options for citizens.
4. Templeton maxims: The Templeton maxims, created by Sir John Templeton, are 10 principles that he believed drove investment success. Templeton was the founder of the Templeton investment group.