The Weekly Beacon April 18, 2025

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The two largest countries continue to spar

The world’s two largest countries (by economy size) have continued their trade war. After Trump announced tariff relief for 90 days, China was not included. This infuriated President Xi, leading to a further escalation in the economic war between China and the U.S.

Over the weekend China announced new limits on rare earth minerals being exported. Following President Donald Trump’s steep tariffs on Chinese goods, Beijing has restricted the export of seven rare earth and related materials used in the automotive, defense, and energy industries. Exporters of these minerals are now required to apply to the Ministry of Commerce for a license to export which could reportedly take up to a few months to complete.

This restriction is huge for the world as China produces 90% of the world’s most critical earth metals and these restrictions sever the supply lines to users across the world. Industry experts believe customers can survive on existing stockpiles for only a few months and after that could face serious difficulties sourcing these inputs.

Despite this announcement from China, Trump doubled down on his tariff rhetoric stating every country will pay especially China.

Rare earth magnets make up a fractional share of China’s overall exports to the U.S. and elsewhere. So halting shipments causes minimal economic pain in China while holding the potential for a big impact on the U.S. and other nations.

This announcement by China will not only impact American companies but companies around the world who will also not be able to source these rare earth metals.

The world’s richest deposits of heavy rare earths lie in a small, forested valley on the outskirts of Longnan in the Jiangxi Province in south-central China. Most of China’s refineries for these metals sit in a town 80 miles away.

The prices of rare earth metals moved higher on Monday as did the shares of the small number of North American listed producers and refiners in the space. We will have to see how this wrinkle of the tariff war rolls out as it has the potential to be very impactful globally.

On Tuesday, it was revealed that President Trump went a step further with trade sanctions on China. This time deeper sanctions on various semiconductors. In a filing released Tuesday after hours, Nvidia revealed that future sales of its H20 AI accelerators to China would need a license from the U.S. Department of Commerce. This will impact Nvidia’s quarterly sales report. According to the company, it will record a $5.5 billion charge on its next quarterly earnings report for inventory and canceled sales. This sent futures lower on Tuesday night and Nvidia shares opened over 7% lower on Wednesday. Nvidia shares are down 24% so far this year.

AMD shares dropped a similar amount on Wednesday after in a similar filing Wednesday that it would book up to $800 million in charges related to the export control, which applies to its MI308 chips.

Nvidia’s H20 chips are a less powerful version of Nvidia’s market leading AI accelerators that are designed for the Chinese market and previously avoided U.S. sanctions. During Nvidia’s last fiscal year 13% of its orders were to a Chinese address down from 26% three years prior.

On Wednesday morning, it was reported that China would be willing to enter trade discussions with the U.S. if certain conditions were met. According to insiders, Beijing is willing to negotiate if the U.S. begins to show respect.

According to a Bank of America Fund Manager Survey, tariffs remain the largest risk for investors.

Silver’s turn?

A lot has been said regarding the performance of gold. Many are hopping on the gold train well into the cycle and calling for another strong year for gold due to the stability and inflation protection it provides. We remain bullish on the price of gold moving forward; however, we believe there is more upside in the miners due to the forecasted earnings and free cash flows that will be seen by miners at $3,000/oz.

Looking beyond gold miners, we think the silver industry has even more upside. Silver prices have lagged gold prices during this recent cycle and the miners have done the same. We think there could be some strong returns across the sector moving forward. Silver has more applications than gold and provides some of the feature’s gold provides to investors. Due to gold’s recent surge in price, the gold-to-silver ratio is reaching historic levels. According to numerous industry analysts, this ratio implies that silver is historically undervalued.

Extreme levels on the chart above do not persist for long. This does not mean the price of gold will plummet or the price of silver will soar. It purely reflects that a relative outperformance of silver could be coming. Numerous silver miners trade at even lower multiples than the undervalued gold mining sector. Expect some inflows into both sectors moving forward especially as uncertainty across debt and equity markets continues to loom.

Disclaimer: MacNicol & Associates Asset Management holds physical silver, silver ETFs, and silver mining stocks across various client accounts.

Balanced approach still letting investors down

We have talked about the flawed ‘balanced’ approach to portfolio management for closing in on a decade. Balanced portfolios, which invest 60% in stocks and 40% in bonds, are supposed to help conservative investors grow their assets over time while smoothing some of the stock market’s volatility. Bonds tend to rally when investors flee the stock market.

This strategy previously worked as bonds and equities had a low correlation. Over time the two asset classes’ correlation increased substantially. Fast forward to 2021 and interest rates were close to 0% yet advisors, banks and institutions continued to recommend a balanced portfolio to investors. The safe balanced approach was no longer safe and produced similar returns to pure equity portfolios in 2022. The balanced approach did not provide safety or downside protection to investors especially as interest rates around the world were hiked at a rapid rate. Fast forward to 2025 and the pain of the balanced portfolio continues.

We think there will be a time when the balanced approach will outperform again, but for now, rates will more than likely remain elevated to combat inflation fears. Interest rates (which move inversely to bond prices) have even increased recently as large Treasury holders sell off their holdings (ie. Bank of China and Bank of Japan).

Since President Trump’s tariffs were announced both equity and debt markets have moved lower. The 60/40 portfolio has essentially been flat over the last 3 years according to the Chief Economist at Apollo Management. The average annualized return for this strategy is 2% over the last three years. Money market funds or Treasury Bills have higher annual returns.

This has led many investors to question the strategy and seek alternatives. We have replaced our bond exposure with alternative assets (since 2010) and physical precious metals over time. We think both asset classes provide investors with upside and limit downside protection. They also have a lower correlation to equity markets than bonds.

We think a well-diversified portfolio in today’s markets does not just include traditional stocks, bonds, and cash, it needs to include commodities (specifically precious metals) and a variety of alternative assets including real estate, private equity, and hedge funds that implore a variety of strategies including market neutral strategies. We also think investors should have downside protection in place, especially in these uncertain times.

Numerous risk factors have led us into nontraditional assets over time. We think these heightened risks should be monitored by investors and not ignored. You do not want to look back and realize there was a lost decade across markets and your portfolio suffered.

How much cash?

Over the last 2-3 years, Warren Buffett has raised cash by selling various securities. Berkshire Hathaway is now sitting on close to $350 billion in cash and cash equivalents (35% cash). This is almost 3x more than the cash Berkshire Hathaway held just 3 years ago.

This cash pile is enough to buy 476 companies in the S&P 500. Berkshire also issued six yen-denominated bonds last week. The bond raise was valued at $628 million. The bond raise had tenors ranging from 3 to 30 years. This bond raise was Berkshire’s smallest bond raise in Japan since 2019 when they began tapping Japanese debt markets.

Buffett is sitting in an opportune position to buy companies cheaply. We think over the next 3-12 months; Buffett could go on a buying spree when he sees value. Buffett likes to buy quality companies during market downturns, and we believe this time is no different.

Onshoring manufacturing

President Trump promised to bring back U.S. manufacturing during his campaign. He has claimed China and other nations across the world have gutted the U.S. manufacturing sector. Companies have moved production abroad over costs. The U.S. has benefited from this trend as they have been able to buy goods for cheaper than if they produced them domestically.

Trump has promised that his tariffs will bring jobs back to America, especially in manufacturing. Set aside how much more products will cost if they are made in the U.S., who is going to work these jobs? The U.S. population is a generation removed from their manufacturing boom. According to the Financial Times, 80% of Americans believe the U.S. would be better off if more people worked in manufacturing. However, only 25% of Americans say they would be better off if they worked in a factory.

Universally Americans believe manufacturing is the American dream, it’s just not their dream.

However, there is a silver lining from this data. 25% of Americans say they would be better off if they worked in a factory. Today only 2% work in a factory. There is a potential for 10x growth in current factory jobs in America. That growth would be more than enough for onshore U.S. manufacturing.

We understand the limitations of a survey like the one we quoted due to its sampling and selection bias. However, it does paint a picture that the growth of the U.S. manufacturing industry is entirely possible. The one thing that has yet to be addressed by Trump and his cabinet are prices which will soar if companies’ onshore production. The American population as well as the world has benefited from cheap labour across developing nations for decades. How will the average voter react if their Nike shoes or iPhone surges in price next time they go to the mall?

We will warn our readers that these price increases could never happen as trade deals between the U.S. and their trade partners are renegotiated. The one nation that looks unwilling to negotiate continues to be China. So, expect your cheap Amazon products and other consumer goods to increase in price in the coming months.

A healthcare company that delivers

As risk on assets tank, investors are looking for safety. Due to the volatility of bonds caused by large swings in interest rates, we do not think most will look to bonds. Due to inflation fears investors should also be a bit weary of holding large positions of cash as their purchasing power will decrease. We think a small portion of portfolios sitting in cash is strategic right now where you can be opportune if something happens to broader markets but sitting on a large amount is not ideal. We think many investors will seek gold, alternative assets, and recession-protected sectors for safety during this cycle.

We will not dive into alternative assets or gold today as we share our thoughts on the asset classes regularly. Today we will talk about a company that we are very interested in that operates in a high-demand sector and is virtually recession-proof.

The company we are talking about is McKesson Corporation (MCK), a healthcare company that distributes pharmaceuticals and provides health information technology, medical tools, and health management tools. The Texas-based company is the largest drug distributor in the U.S. which generates hundreds of billions in revenue on an annual basis. As the American population continues to age and weight loss drugs have grown in popularity so has the demand for MCK’s services which has increased profitability. Last year MCK revenue grew 14% year-over-year.

MCK is forecasted to expand margins as they deliver more specialty drugs moving forward. Over the last decade, MCK shares have outperformed the S&P 500. This year shares are up 23% while markets are down almost 10%. MCK shares have also outperformed the healthcare sector over the last 1-, 5-, 10- and 20-year periods.

MCK trades at approximately 19 times forward earnings, a discount compared to broader markets. MCK is also relatively insulated from any policy changes on trade and tariffs in Washington which is why the company has not altered its earnings forecast for the next year in recent weeks/months. MCK has also avoided political scrutiny in the past as their industry margins are the thinnest in the healthcare sector where they cannot lower prices. MCK expects earnings to expand this year and will continue to repurchase shares in line with its current repurchasing program.

Moving forward, MCK is forecasted to expand margins as they deliver more specialty drugs moving forward. This margin expansion is being driven by MCK’s investment in their oncology and specialty drug units. Recently MCK acquired a controlling interest in Prism Vision for $850 million. Prism Vision is a provider of general ophthalmology and retina management services. This investment further accelerates MCK to enhance their specialty services platform and capabilities. MCK is growing its specialty services at a faster rate than its broader business which we expect to continue.

Besides McKesson, the other major drug distributors include Cencora and Cardinal Health. The virtual triopoly of the industry helps all players, but McKesson’s scale means that it has the best gross margins in a slim margin business and often makes it the partner of choice with big pharmacy retail players.

We think MCK is relatively immune to the performance of the economy and if there are pullbacks in the share price, it could present a strong opportunity for investors. MCK provides a service that consumers rarely cut back on even during recessions so there is a bit of downside protection.

Currently, approximately 90% of MCK’s float is held by institutions.

Disclaimer: MacNicol & Associates Asset Management holds shares of MCK in various client accounts.

Finally, we wanted to wish our readers and investors a happy and healthy Easter weekend!

MacNicol & Associates Asset Management                                                             

April 18, 2025

The Weekly Beacon -April 18 2025