There is nothing pretty about investment markets at the moment and unfortunately what we have been concerned about for a while is now playing out around share markets across the world.

A couple of quick points.

  1. Sentiment impacts on both bad and good shares.  How quickly they recover is an indication of quality and yes, our Australian and International analysts believe they are sitting in very high quality under-priced stocks. 
  2. The market is literally drowning in noise and a lot of that noise is short term.
    1. Interest rates are going up but terms like ‘a deluge of rate hikes’ are simply inflammatory and inaccurate.  Rates are being pushed up by inflationary pressures but the headline inflation is a number driven by short term factors: 
      1. Weather impacts groceries;
      1. Container ships stranded off China impacts retail and building materials; and
      1. A conflict in Ukraine impacts energy demand.
    1. The real inflationary rate as discussed in our recent Youtube video:

is driven by wages growth and that number is somewhere between 2-3%. 

  • The US and many countries are finally resetting interest rates to a more realistic number and reducing the huge financial stimulus that has been hiding structural flaws in markets.  A return to normal or something close to normal is a good thing.
    • The next 3-6 months is going to be like this and there are some great opportunities likely to occur due to mispricing.
  • This is not a good time to crystallise losses.  If you have investments sitting in volatile markets then ignore them for this next period because valuations will be smothered by emotions.

So let’s think about what markets can look like by 31 December 2022.

Inflation will have reduced as Covid recedes further and further behind us.

  • Groceries will likely have had a record season given the accumulated rains so oversupply can lead to much lower prices.
  • Interest rates will have settled into a more realistic number though higher than now.  None of our political parties can stop this and frankly, will have negligible effect on this. 
  • Cost of living pressures will have reduced spending and demand for goods is likely to have reduced.  Supply chain issues, caused by bottle necking in Chinese ports, will probably no longer be an issue and excess supply can mean a normalization of pricing. 
    • E.g., Car prices have been driven up by lack of supply, as have building supplies.  Once we have supply, demand will determine the prices and they should be more realistic.
    • Remember Australia was awash with money during Covid and our population bought ‘things’, rather than travel or experiences.  Travel will be back and a lot of purchases have been brought forward so retail therapy may lose some of its shine.
  • Households will have less disposable income.
    • The average loan in Australia is $555,000 (June 2021). A half of a percent interest rate rise, on that size mortgage, equates to $53 weekly increase in a mortgage.  A one percent rate rise equates to a weekly increase of $106.  That is money straight out of the household.
    • Fuel may have normalised based on easing of supply issues so there may be some offsets but less disposable income will most likely mean a slowing economy.
  • It is likely the conflict in Ukraine will have run its course.
    • We don’t know what that will be but whatever the result, Russia will be an international Pariah.  European countries will have looked elsewhere for core commodities; energy supplies and built other markets for high end goods.

We will have our next normal!

The pandemic had a material impact all over the world and that needs to be unravelled.  This will take time, but probably less than what most of us think.

Humans are a pretty resilient bunch and this shock will go down as relatively benign compared to the pandemics of the past.  I am not underplaying the impact on the individual because anyone who lost someone has that personal experience.  It is more, when compared to previous pandemics and despite our increased population, we have managed this crisis far better and found solutions far more quickly than historically. (Published in Nov 2021 Historys-seven-deadliest-plagues)

Unfortunately, something will occur that eclipses this and we will have moved on to the next catastrophe – not trying to predict one here, just reflecting that history would teach us that there inevitably will be one.

A final word on investment markets.

A lot of money is made in times of uncertainty.

  • It is much harder to make a difference when all markets are lifting.  In difficult markets good investment choices have a far bigger impact.
  • You have to take the good with the bad.  Growth investments outperform cash over the medium term and that has been very true over these last ten years.  Cash rates have been at all-time lows but growth assets have had very substantial growth, both shares and property.
  • A short-term reversal should not change your longer-term plans.  You have goals and plans and this latest market downturn is just one of many you will see over the course of your lifetime. 
    • This time isn’t ‘different’ or even particularly bad. 
    • 1929 was really, really bad (89.2% market decline) and 1937 (54.5% market decline) leading into the Second World War.  
    • 2007_2009: The GFC (54.1% market decline) was the worst in the last 50 years but it seems like a distant memory which then led to one of the biggest bull markets in history.
    • It isn’t as simple as ‘staying the course’ but ‘keeping your head while all about you are losing theirs’ (thanks to Rudyard Kipling) is how we survive and thrive.
    • If you are in retirement phase and drawing an income, this is why we recommend two years of income needs in cash. Market volatility should not change your plans.
  • Lastly, the investment markets of the last ten years will be very different to the markets of the next ten years.  The landscape has changed.  Our new backdrop is:
    • Rising interest rates
    • Deglobalisation (Countries bringing essential manufacturing home)
    • Energy supply issues
    • Geopolitical unrest
    • Inflationary pressures
    • Reduced fiscal stimulus

These are things that have been managed in the past but require different thinking and underlying investments will be put to different tests. A company will likely be rated on its current production and leverage, rather than an expectation it might one day be profitable – probably not a bad thing?

Funnily enough, we are far more comfortable in this environment as the ‘irrational’ part of the market has to deal with realistic expectations.

As always, we are here to help.  If you have concerns, talk to us, there are always things we can do and we want to be the ones worrying about your investments, not you.