KEEBECK QUARTERLY LETTER Q2 2020

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Q2 2020 QUARTERLY LETTER – JULY 2020

Implications of the Human Singularity In this quarter's letter, recent dramatic events and the global reaction are examined in a long-term historical context. What are the investment implications for a kinder, gentler approach for humanity? Will COVID-19 be the unexpected catalyst for the European project to move to the next level and begin an era of long-term growth constructive for the European currency, economy, and assets? Finally, we discuss how weakness in oil may make natural gas the long-term winner in the US energy patch.

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The (Human) Singularity? Before we dive into an update on the economy, markets, and investment opportunities, I wanted to step back and provide an assessment of recent events in the long-term historical context. Although many of these events seen in isolation may be viewed as dire, desperate, and even make some question their faith in humanity and its future, I see reasons for optimism - particularly when viewed from the long arc of human history. It seems humankind is waking up to demand more than ever before for the dignity of the human being, regardless of race or economic status.

Having attended and been pitched a number of venture capital opportunities in recent year, the term “singularity” comes up quite often. This marketing catchphrase evokes a world of the Jetsons and beyond. The technological “singularity” represents a hypothesis of runaway technological growth. “The technological singularity (also, simply, the singularity) is a hypothetical point in the future when technological grow th becomes uncontrollable and irreversible, resulting in unfathomable changes to human civilization. According to the most popular version of the singularity hypothesis, called intelligence explosion, an upgradable intelligent agent will eventually enter a "runaway reaction" of self-improvement cycles, each new and more intelligent generation appearing more and more rapidly, causing an "explosion" in intelligence and resulting in a powerful superintelligence that qualitatively far surpasses all human intelligence.” Source: Wikipedia - https://en.wikipedia.org/wiki/Technological_singularity The path towards the “singularity” is a messy one, based upon the culmination of thousands of years of human technology development, full of starts and stops.

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I am a long-term student of history and, based upon recent events, I think the same concept of a singularity could in many ways be applied to humanity itself. For thousands of years, humankind has progressed gradually through fits and starts towards a more “humanitarian” version of mankind. The battle between people’s light and dark sides has been continual and the light side seems to win out a little more over each battle. The scale of wars has declined dramatically over the past seventy-five years. The growth of a developed world middle class has led to massive expansion in literacy and education, which has fueled technological development and economic progress while eroding away ignorance. It’s worth a quick recounting of two of the most memorable books from my high school history class that help place the current time in context. They are Uncle Tom’s Cabin (1852), or Life Among the Lowly by Harriet Beecher Stowe and The Jungle by Upton Sinclair (1906). As the best-selling novel and second best-selling book (following the Bible) of the 19th century, Uncle Tom’s Cabin needs little introduction. It exposed in graphic detail the horrors and injustices of slavery. Simon Legree, a cruel slave owner and Northerner by birth whose name has become synonymous with greed is arguably the novel's main antagonist. His goal is to demoralize Tom and break him of his religious faith. He eventually orders Tom whipped to death out of frustration for his slave's unbreakable belief in God. The book stirred popular support for abolition and in many ways catalyzed the Civil War... When meeting Stowe, Lincoln famously said, “So this is the little lady who started this great war.” Source: Charles Edward Stowe, Harriet Beecher Stowe: The Story of Her Life (1911) p. 203., Wikipedia In The Jungle, Upton Sinclair wrote of the deplorable conditions in early 20th century industrial America among the working class. Sinclair was considered a muckraker, a writer who exposed corruption in government and business. Sinclair had spent seven weeks gathering information while working incognito in the meatpacking plants of the Chicago stockyards. Depicting working-class poverty, the lack of social supports, harsh and unpleasant living and working conditions, and a hopelessness among many workers. These elements are contrasted with the deeply rooted corruption of people in power. A review by the writer Jack London called it "the Uncle Tom's Cabin of wage slavery." Source: "Upton Sinclair", Social History (biography), archived from the original (blog) on 2012-05-27, Wikipedia So where is the good news? Considering that a large portion of this country’s inhabits were enslaved legally only 160 years ago, or were defacto wage slaves a hundred years ago, the nature and response to recent events actually shows tremendous progress. First, in response to COVID-19, much of the globalized world shuttered their economies. This did not happen with past outbreaks, most notably the Spanish Flu pandemic of 1918-1919. The Spanish Flu was a particularly deadly influenza pandemic which lasted about 15 months beginning in the Spring of 1918. It is

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estimated to have infected 500 million people - or about a third of the world's population at the time. The death toll may have been anything from 17 million to 50 million, and possibly as high as 100 million (out of a global population of 1.8BN), making it one of the deadliest pandemics in human history. Think about those number for a minute. We have roughly 12MM confirmed global cases of COVID-19 in a world of 7.8BN people. In today’s terms, the Spanish Flu would have infected 2.6BN up to 430MM people dying. Sources: 1918 Pandemic (H1N1 virus). Centers for Disease Control and Prevention.

Rosenwald MS (7 April 2020). "History's deadliest pandemics, from ancient Rome to modern America". Washington Post.

One hundred years later, it seems to me that the value placed upon a human life is far far greater. Aside from shuttering economies, global governments have been very supportive in providing income support, particularly to those most impacted and exposed economically. Direct payments to individuals and businesses, the massive expansion of unemployment assistance, and support for local governments and hospitals have clearly demonstrated a “people and humanity first” viewpoint. The second set of recent events surrounds the tragic death of George Floyd in Minneapolis. His death was clearly wrong and immoral, and our sympathy goes out to his family and friends as does our support to Black Lives Matter. The unprecedented nature and scale of the protests following his death is the second element confirming progress towards this human singularity. One hundred years after the end of slavery, racial intolerance was strong as ever in large portions of the United States. In the 1960s, marchers and protestors (largely black) were beaten by police, tear gassed, and attacked by police dogs. These protests were more regional and isolated then. Today’s protests are national in scale, from the poorest cities to the wealthiest suburbs and very diverse in nature - black and white, young and old, rich and poor. The underlying themes of inequality are echoed and supported by corporations, professional sports, famous stars and past presidents. COVID-19 certainly presents an unprecedented challenge to the modern economy and the issues being protested are long overdue for a solution, but the reality is that people are being placed first to a greater extent than I can remember from a historical perspective. I think this only accelerates going forward and perhaps the technological singularity or something akin to it accelerates that process as more of the needs of humanity can be met with fewer resources. So, what does this mean? It is too early to tell for certain, but I believe this will be one of the most enduring themes over the coming years and decades and will impact markets, economies, and currencies like nothing we have seen before. It is very possible that some form of universal basic income is likely in response to long term growing economic inequality, catalyzed by COVID-19 and most recently the protests. Is this ultimately inflationary in a world expecting no inflation? What will it do to bonds? How will the Fed

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manage this? Is financial repression necessary? Will COVID be the catalyst to finally unite Europe politically and fiscally? We look at some of these themes below.

COVID-19 Update When we published the first quarter letter, there were roughly 1.5MM cases and 90,000 deaths. As we publish this letter, there are nearly 12MM confirmed global cases and 445,000 deaths. This is a human tragedy and our thoughts are with those most impacted by it.

New cases were coming in globally at around 80,000 per day three months ago. While that remained fairly stable through the first half of May, we have seen an increase since then to over 200,000 per day, no doubt in part to great testing, but also due to certain countries struggling to contain the spread.

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https://www.buzzfeednews.com/article/peteraldhous/coronavirus-updating-charts-maps The United States is at the top of case counts and deaths, following by Brazil.

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In the United States cases had stabilized below 30,000 per day, but since mid-June, daily cases have spiked to above 50,000 per day. Former hot spots, like New York and New Jersey have seen dramatic declines, but former cool spots have become hot in states such as Texas, California, Florida, and Arizona. From a biological standpoint, it certainly feels too early to declare victory and an all clear. Until a vaccine is developed and produced on a globally sufficient scale, it appears that modified living (work life, family life, leisure and entertainment) will be with us for some time.

Economic Update Recent data has been indicative of a better than expected outcome. While the economic collapse has been unprecedented, there is rising hope for a V-shaped recovery. Notably, J.P. Morgan materially decreased their estimate for GDP contraction in 2Q20 from 40% to 31%. The May jobs report shocked many observers with material gains vs. large projected losses. This has caused unemployment projections to settle in around 9% by year end, much lower than anticipated just a few months ago. Peak unemployment estimates were in the 20% plus range, yet now many think we have hit peak unemployment in the mid-teens.

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Other recent indicators such as service and manufacturing indices as well as the Empire State survey suggest optimism.

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By mid-June, there were some encouraging signs in terms of the trajectory of a “V” shaped recovery as the WSJ reported that department store traffic was actually up year over year with restaurants and lodging also seeing an improving trajectory. Time will tell - and this certainly depends on containing this recent second wave - but early signs had been encouraging.

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Foot Traffic to Business fell by approximately 55% at the trough in early April. By mid-June, foot traffic has recovered to be down only 20% from peak where it has remained fairly stable according to publicly available data provide by Safegraph.

Source: Safegraph

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Fiscal Stimulus and Monetary Policy Update Below is an update of announced fiscal and monetary stimulus provided to date by the major world economies. The reaction has been swift and sizeable led in particular by the United States which has dwarfed other nations as a percentage of GDP.

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Financial Repression? Wartime like measures have been taken in response to COVID-19 and as a result debt levels to GDP in much of the developed world will look akin to those following the debt-financed budgets of the second World War. So, the long-term question will ultimately be how will governments manage to pay down those debts? There are basically two ways to pay down debt: The first is austerity which means tightening budgets and spending less than is raised in tax revenue. This could also mean increasing taxes, which now front running candidate Joe Biden has suggested for corporations and the ultra-wealthy. While tax increases are a real possibility, spending cuts seem very unlikely given the policies of the past decade and the leadership currently in place globally. The second is to inflate away the debt by creating inflation that is materially higher than the general level of interest rates. The Fed is increasingly talking about yield curve control, implying they will keep longer term rates low by buying disproportionate amounts of securities maturing further out. The common term for this is financial repression. Following World War Two, it is estimated that financial repression lowered the amount of interest paid by a dozen governments by 1-5% of gross domestic product from 1945-1980

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according to a 2015 paper by Carmen Reinhart and M. Beien Sbrancia. It is also worth noting that this is prior to the QE era launched following the 2008 financial crisis. What are the implications of financial repression? According to the study, governments did not pay sufficient amounts of interest to investors of their debt to account for counterparty risk and inflation. If this were to hold going forward, then US government debt (for example) would not sufficiently compensate investors over time and the real value of that debt would not keep up with inflation. Furthermore, since US government debt yields are the basis for which most corporate debt trades, then that asset class would also present a poor risk/reward balance over time. Preserving and growing wealth - not just in NOMINAL BUT IN REAL TERMS - will be one of the biggest challenges confronting investors over the coming years and decade. Source: Debt Battle Awaits Post-Virus World – June 15, 2020

Europe and the Euro? Is it Finally Time? Is it time to buy into a sustained European recovery? While Europe is often derided and or ignored in the mainstream financial media, Europe and the euro bear close watching. The European Union is the second largest economy in the world in nominal terms (after the United States). The European Union's GDP was estimated to be $18.8 trillion (nominal) in 2018, representing ~22% of global economy (nominal global GDP). It would be foolish to forget about Europe, its contribution to global trade and GDP, or the investment opportunities there. https://en.wikipedia.org/wiki/Economy_of_the_European_Union

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We wrote in our first quarter letter that, despite the horrors wrought by COVID-19, ironically and unexpectedly, this could be the catalyst to truly unite Europe in a sustained fiscal and monetary union. The irony is that in a post-COVID world, Europe may very well be in a better relative position compared to the United States than existed in the pre-COVID-19 world. Over the past three months, there have been significant steps taken further down that road and the Euro is starting to respond. The ECB decided to significantly increase its stimulus with the Pandemic Emergency Purchase Program (PEPP) expanding the program by €600BN, bringing the total to €1.35TN. In May, a plan was announced by the European Commission to raise €750B for pandemic recovery by selling bonds backed by all 27 EU members. Germany then unveiled a larger-than-expected €130B stimulus package. https://www.nytimes.com/2020/06/04/business/europe-coronavirus-economic-support.html?action=click&module=Top%20Stories&pgtype=Homepage https://www.bloomberg.com/news/articles/2020-06-04/europe-unites-in-stimulus-zeal-led-by-lagarde-merkel-double-act?sref=L75TRUmI

Likely in response, the Euro in May and June experienced one of its largest rallies in nearly a decade.

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Another factor that would seem to favor relative bullishness of Europe would be to compare the fiscal and monetary policy responses between the two economies. The Fed balance sheet has absolutely exploded vs. China and Europe year-to-date, but this is not getting much press even though all three are fighting the same COVID economic battle.

CENTRAL BANK BALANCE SHEET EXPANSION CHINA (PBOC) EUROPE (ECB) US (FED)

YTD 1% 14% 57% 1YR 5% 14% 66%

10YR 52% 173% 182% Source: Factset

What is the reason for this? Did the Fed panic vs. the ECB & PBOC? Is it intentional/political? Is it a structural weakness of the US? While not entirely sure, it is worth raising the question and starting to think about the longer-term ramifications post-COVID, particularly as it relates to the USD. I believe this comes down to a structural difference between the two economic zones. The US economy is like a fine-tuned luxury sports car. When conditions are right, nothing runs better. Summer months with little or no rain or wind are just outstanding. However, in the dead of winter, in a blizzard with hail, snow, and sleet… the car simply does not run.

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The US has a very limited social safety net compared to many of the countries of Europe. As we wrote in 1q20, many Americans have little to no savings, and certainly not enough to tide them over from a systemic shutdown as we have seen over the past quarter. This required massive stimulus and Fed balance sheet expansion, just to keep people above water and fed. You can see this in terms of balance sheet expansion of Europe and that of China. Speaking to a European focused hedge fund manager in May, he indicated that it is hard to think of an economic scenario in which Europe is better positioned than United States, but COVID-19 may just be one such scenario. While Italy still remains ahead of the US in terms of debt to GDP, the US passed other advanced economies in Europe, including Spain and France with the COVID stimulus.

It would seem that in either a bullish or bearish economic scenario resulting from a second wave or longer than anticipated period to develop a vaccine that Europe would be better equipped. In a bullish scenario where the recovery is V shaped, the US has suddenly added an enormous amount of debt compared to Europe. In a bearish scenario where there is a substantial second wave coupled with material negative economic knock on effects, the US would be required to continue to stimulate a very high level in terms of unemployment and business assistance given the “Ferrari” type structure of its economy.

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Finally, in either scenario, some form of universal basic income is increasingly likely in response to long-term growing economic inequality, catalyzed by COVID-19 and most recently the protests that have been sparked by the tragic death of George Floyd. We have written extensively on the theme of growing populism, popular discontent and wealth inequality that has been exacerbated severely by monetary policy over the past decade and this has gone into hyperdrive with the response to COVID-19.

The speed and scale of the nationwide protests following the death of Floyd speaks not only to urgent issues of racial inequality, but also of economic inequality that is blind to race or color. This has been more acute in the United States than in Europe. Biden has taken a decisive lead in the presidential polls and while he is the moderate democratic candidate, he is nonetheless more in line with UBI/MMT theory. It is likely that we see continued rounds of stimulus or some form of UBI. Greater diversification internationally seems called for at this time and that seems worthy of expanding to developed Europe. Europe is materially cheaper than the united states. As evidenced, the S&P 500 trades over three times book value compared to less than half of that for the iShares CORE MSCI Europe ETF [ticker symbol: IEUR].

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Surgical Opportunities in Energy - A Recovery Play in US Natural Gas? US natural gas has been pressured by the growing associated gas from the oil shale plays, such that associated gas is roughly 15% of total US gas production. The fall in oil prices should actually benefit US natural gas prices as falling domestic oil production will mean less associated gas.

Natural Gas is a long-term secular winner from a demand standpoint. If the share price of Tesla is any indication of the future of electric vehicles, oil could face some long-term secular pressure as the fleet transitions to electric. Natural gas is the largest source of power generation in the United States and is projected to remain so or a close number two depending upon how quickly renewables develop for decades to come (U.S. Energy Information Administration).

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Natural gas is (relatively) clean compared to coal and oil and is also more bountiful. In recent years, it has proven too bountiful as advancements in technology such as shale drilling have created a significant expansion in supply, not only from low cost natural gas regions (primarily the Marcellus and Utica formations in the northeast), but also from oil producing regions. This is the nuance in the thesis that warrants more examination. A primary by-product of shale oil drilling has been natural gas, so much natural gas that what is not able to be piped away is burnt off. The price is essentially free. Therefore, the growth in American oil production has led to a depression in natural gas markets as this “free” natural gas has come to represent close to 15% of total US supply. This has caused natural gas prices to trade well below $2.00. These cheap prices have caused US natural gas demand to increase materially as share of power domestic power generation grows as coal plants are retired or made uneconomic. Additionally, LNG plants capable of liquifying and exporting large amounts of LNG globally and new petrochemical processing plants are being built domestically.

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Natural Gas (Nymex - $/Mmbtu) Prices

However, the sell-off of oil caused many energy funds to sell in March and April and do so indiscriminately, throwing the baby out with the bathwater if you will. This has led to some potentially discounted value of natural gas assets, despite the recent bounce back.

Many businesses (restaurants, retail, airlines, hotels, etc) are dealing with real operating deleverage issues from the material reduction seen in those businesses due to COVID-19. The upside of this business model is that natural gas companies simply stop drilling and this operating deleverage is far less of an issue. In

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fact, due to weak gas prices, most operators have already been cutting production and gone into maintenance mode well before the COVID-19 crisis. This will naturally tighten supply in the coming years. Furthermore, in additional to the rising secular demand in natural gas mentioned above, US demand has a significant portion of inelastic demand due to heating and electrical generation. A recent validation of this thesis can be seen in Warren Buffet’s decision earlier this week to purchase the natural gas transmission and storage assets of Dominion Energy. Opportunities here are worth examining further.

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Keebeck Viewpoints Note that we are refining and updating some of our specific views: • Overweight international and emerging markets and non-dollar securities Mexico could benefit in a shift of production from Asia, Prefer Asian consumer to industry Europe may be a post-COVID beneficiary • Underweight corporate debt and heavily leveraged securities • Underweight private equity Distressed opportunities may emerge depending upon the trajectory of the recovery/markets • Overweight value vs growth Non-financial cyclicals screen quite cheap historically, especially compared to large growth • Overweight short duration vs long duration • Overweight domestic housing Demographics continue to favor a multi-year expansion subject to macro conditions • Overweight energy Specifically, upstream natural gas which may benefit as oil production (and associated gas) declines

Sincerely,

Mathew T. Klody, CFA Independent Global Investment Strategist Keebeck Wealth Management, LLC * As this newsletter is for informational purposes, the strategies and opinions included herein may not be reflected in the management of your specific investment account(s). We manage accounts on an individualized basis, taking into consideration each client’s unique financial situation. If you have any questions regarding your investment accounts or our specific investment strategies, please contact us.

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Biography Mathew T. Klody, was previously the Chief Investment Officer at Keebeck Wealth Management, and now serves as an independent Global Investment Strategist. Mathew is also an adjunct professor of finance at the University of Notre Dame. Prior to joining Keebeck, Mathew was the Founder, Managing Partner and Portfolio Manager of MCN Capital Management, LLC, the advisor to a private long short investment partnership. Mathew was the Senior Vice President and Analyst at Chicago-based Sheffield Asset Management, a long/short equity hedge fund from 2007-2012. From 2003-2007, Mathew was an Investment Analyst at the holding company of Alleghany Corporation (ticker "Y") covering the equity portfolio, corporate development and the reinsurance portfolio. Mr. Klody began his career as a credit analyst at the Global Corporate and Investment Bank at Bank of America. Mathew has been selected to speak at a number of industry events, including the Spring 2017 Grant’s Interest Rate Observer conference, Invest for Kids - Chicago (Fall of 2017), and the MOI Global - Best Ideas Conference (2018). He has served as a guest lecturer to the Notre Dame Institute for Global Investing, the Behavioral Finance and Applied Investment Management programs at the Mendoza College of Business. He serves as a member of the Parish Council at St. Joan of Arc Church in Lisle, IL. Mathew graduated summa cum laude from the University of Notre Dame with a degree in finance and business economics. Mr. Klody is a Chartered Financial Analyst.

DISCLOSURES Content should not be regarded as a complete analysis of the subjects discussed. All expressions of opinion reflect the judgment of the authors

on the date of publication and are subject to change. Content should not be viewed as personalized investment advice or as an offer to buy or sell, or a solicitation of any offer to buy or sell the securities mentioned herein.

Past performance may not be indicative of future investment results. Different types of investments involve varying degrees of risk, and there can be no assurance that any specific investment or strategy will be suitable or profitable for your investment portfolio. All investment strategies have the potential for profit or loss.

Charts and graphs do not represent the performance of our firm or any of our advisory clients. All information is based on sources deemed reliable, but no warranty or guarantee is made as to its accuracy or completeness. Projections and estimates are based on assumptions that may not come to pass. Changes in investment strategies, contributions or withdrawals, and economic conditions may materially alter the performance of your portfolio.