Concerns over rising inflation
The year has not exactly got off to the best possible start for Wall Street: there are concerns over inflation and rumours abound that the Federal Reserve Bank may have made a mistake by not raising interest rates sooner.
Traders, analysts and economists are all anxious about inflationary pressures: the US consumer price index – which measures costs across dozens of items – has risen to 7% over the past year. That’s the steepest rise since June 1982. And if you exclude so-called “core” items (food and energy), then the CPI was up 5.5% over the year – the biggest rise since February 1991.
In the UK, inflation has risen to 5.4% – its highest level for 30 years. Economic growth, meanwhile, appears to be weakening, leaving us with a combination of slowing growth and soaring prices.
Inflation across the developed world more broadly has now hit a 25-year high. The cost of living in 38 OECD* countries jumped by 5.8% in the 12-month period ending in November. That’s the biggest leap since May 1996.
World Bank slashes global growth forecasts
Recently the World Bank slashed its global growth forecast as a precautionary measure against rising inflation and debt, falling income levels and inequality fears. Global growth is expected to slow to 4.1% in 2022 and then 3.2% in 2023 as pent-up demand dissipates and more nations start unwinding unparalleled levels of fiscal and monetary policy stimulus.
While we are closer to the end of the pandemic than to its beginning, Covid flareups (due to the highly contagious Omicron variant) will undoubtedly continue to disrupt economic activity over the short term.
Furthermore, ongoing supply chain bottlenecks, continuing inflationary pressures and elevated levels of financial vulnerability in large parts of the world could increase the risks of a “hard landing” for the global economy. Over the longer term, however, the global economic outlook still appears relatively robust.
Risks galore for financial markets to contemplate over the short term
As rising inflation combines with rising bond yields and potentially rising interest rates across swathes of the market, it is unsurprising to see a logical pullback in interest-rate sensitive sectors… such as technology. At the same time, those sectors that are likely to benefit from such change – such as energy, industrials, mining and tobacco – have all risen this year.
But the most talked about rotation in the stock markets has been focused on “growth versus value” and the sell-off of a number of technology giants. It must, however, be said that in the longer term, beyond driving the technological revolution we are currently experiencing (and will continue to experience for decades to come), these companies are destined to play a key role in building the metaverse of the future. Their importance cannot be overemphasised.
US stocks are particularly expensive
By most accounts, the US economy is running hot. Pent-up demand among US consumers is now making itself felt as the pandemic starts to wane. Indeed, the economy is predicted to have grown by around 6% in the final months of 2021, with inflation running at 7%. With talk of the Federal Reserve Bank becoming more brazen with its interest rate hikes, a number of expensive growth stocks have been aggressively sold off in favour of cheaper value stocks.
The first year of Biden’s presidency has seen US stocks boom. The tech sector in particular has gone stratospheric: Apple has become a US$3 trillion market cap company and Tesla has reached a major milestone by delivering almost one million premium electric vehicles, driving the value of its stock up to US$1 trillion in the process.
Even the somewhat lacklustre Dow Jones Industrial Average Index – clutching onto its industrialised businesses – joined the party in 2021. Sure, it’s going to be difficult for corporate profitability to maintain these year-on-year comparisons and for the US economy to absorb the current rate of inflation (which stands at a 40-year high). But there are still companies out there that are able to grow their earnings – irrespective of the economic backdrop. And they will be valuable assets to own.
There are definitely other regions around the world that are value-oriented and look more attractive than Wall Street. Japan and the UK are two examples. But it would be a mistake to overlook the US stock market – it offers investors some great companies with strong balance sheets, good cash flow, pricing power… and the ability to maintain their margins. “Never bet against America”, as Warren Buffett once said.
There is no doubt that valuations have been expensive in some concentrated areas of the US market. So, sector rotations and pullbacks are inevitable. But these should be viewed as buying opportunities – not a trade-off between quality growth and value.
Don’t panic Mr Mainwaring
Irrespective of stock market corrections, rotational swings and those times when your portfolio seems out of step with the current market trend, there are some pieces of advice that are always worth heeding:
- Don’t invest for short-term gain
- Trust in sensible asset allocation
- Remember your appetite for risk
- Know what you own and why you own it
- Be ready to buy on the dips
- Focus on the long term
And of course, make any minor changes along the way to reflect changes in your personal investment goals.
There is no getting away from it: the markets have not been kind in recent weeks. But time and again, our investment process has proven itself to be robust. By having investment exposure to quality growth, value and innovative themes, we believe that patience will pay off and that investment returns will be more than satisfactory.
*Organisation for Economic Co-operation and Development
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