And there it goes! 2021 is in the record books and can be remembered for many things…hopefully some of them positive from your vantage point!
We could write much on this topic and opinions vary, but for our purposes here, the major item is that it was year two of an ongoing global pandemic/epidemic of the type that has never been experienced in the current “digital age”. Last year the world moved forward in terms of “normalization” as various economies took steps to reopen. The differences in the speed of reopening between countries and geographies was a critical dynamic last year and this continues into 2022 as a major point of emphasis.
Here are some key themes that we believe are currently driving markets:
• Compared to most of the world, the US has been comparatively quick and fast to reopen and normalize the domestic economy. This has been seen in a service sector boom resulting in staff shortages across restaurants, hotels, retail stores etc. Europe has continued to engage in periodic lockdowns in various countries as Asia remains still largely locked down as compared to the pre-covid timeframe.
• Inflation has been a major issue of late with the general concept at the forefront of media and investment commentary. We continue to stress that “inflation” is an extremely general concept and the degree to which it can be measured on an actionable basis is far from precise. On a year-over-year measurement, widely accepted inflation data points have come off recent multi-decade highs already. US energy prices also came down towards the end of 2021 and this will ease inflationary pressures to the consumer. So called “goods” inflation will likely come down once export oriented economies fully reopen while we expect domestic “service” inflation to stay elevated relative to pre-Covid times as wage increases historically are resilient.
• Policy divergence across the world has been a major factor in investment performance across the globe. US equities have recently outperformed with a strengthening US Dollar. We believe this is largely as a result of the ongoing effects of massive fiscal stimulus along with a Federal Reserve that has signaled it is now ready to progress towards cutting stimulus and eventually raising interest rates. Europe and Japan failed to match the US in terms of fiscal stimulus and are now lagging in the move to reduce monetary stimulus and raise interest rates. Policy in China has been extremely conservative throughout the pandemic and most developing countries raised interest rates in 2021.
The S&P 500 led global stock indices higher last year but in an increasingly narrow way in the second half of 2021 as fewer companies drove the index higher. Entering the week of December 24th, the S&P 500 closed at a 52-week high while 334 companies trading on the New York Stock Exchange hit a 52-week low, more than double previous new highs. That’s happened only three other times in history — all of them in Dec ‘99. However, research from Goldman Sachs notes that rising concentration is not a reliable indicator for market peaks. We also checked if valuations and variables like GDP growth, money supply growth rate, interest rates and yield curve dynamics can anticipate market sell-off from concentration peaks. These were also largely inconclusive predictors.
Inflation? Low interest rates? Fed tightening? Washington DC uncertainty? China? Russia? High valuations? So…where do we go from here is the question on many investors’ minds.
As we’ve written many times, we pay very, very little attention to headlines and more time looking at actual data. Right now, we’d say we’re cautiously optimistic but, as always, realistic.
• We used the year-end ramp up in equities to harvest some additional profits from the things that have done very well thus far through the Covid-era. We continue to sit on these proceeds like a lion in the tall grass stalking their prey. We don’t necessarily see anything categorically negative, but at the same time don’t see anything overly appetizing that we need to pounce on for our clients. We continue to favor patience over unmerited, overeager activity.
• International equities have underperformed their US peers for a LONG time. They’re largely under owned by much of the investment community as a result. With the economic backdrop we’ve discussed, could this be the time that owning more of the companies headquartered outside of the US rewards investors? We are leaning that way, but continue to monitor the data for confirmation before acting.
• At present, all eyes are on the Federal Reserve. To start 2021, the consensus expectation was that they would not tighten for a long time. This changed rapidly in the last few months of the year as the Fed was ultimately forced to acknowledge inflation and respond accordingly. At this point, current expectations are now for 4 rate hikes through ’22. It’s too early to determine if this expectation is high or low. As such, we remain patient with our fixed income allocations.
As we say every December/January…we’re really excited about the year to come! We’re confident that opportunities will present themselves & that our long running processes will help us identify them for our clients.
Ryan A. Mumy, CFP®,
AIF® – Chief Investment Officer
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