By: Zachary Bouck, CFP®
2022 Investment Themes
The world economy is being reborn.
2020 brought the Covid-19 shock, massive global shutdowns, historical government stimulus, and ground-breaking medical advancement in the form of new vaccine technology.
2021 brought us substantial inflation, a huge push into technology, and the understanding that we may never get to go 'back to normal.'
We see four primary investment themes in 2022: big tech keeps getting bigger, the United States will continue to lead the world across most industries, inflation will force the Fed's hand in raising interest rates, and unappreciated companies will have their time in the sun.
1 | BIG TECH KEEPS GETTING BIGGER
My family loves a good road trip – with three kids and a mother-in-law, flights can get expensive. We appreciate loading up the car and meandering the nearly 4.0 million miles of paved roads that weave throughout our country.
In addition to paved roads, almost anywhere you stay in the U.S., there is electricity and running water. In every city, there are institutions; police, fire department, banks, government offices, & medical services – these serve as a base layer infrastructure for civilization. We routinely refer to these as 'infrastructure'.
Over the last 20 years, five companies have completely reshaped the face of infrastructure in our country, not through roads and bridges but through technology. Nearly every company built today is being built on a platform designed, built, and run by Apple, Google, Amazon, Microsoft, or Facebook.
Amazon (AWS) and Microsoft (Azure) control over 50% of public cloud infrastructure.
Here are a couple of other eye-opening tech truths:
In 2019, Google and Facebook controlled a combined 37% of the global advertising markets—up a staggering ascension from 2007 (4% combined).
Though that increased advertising share may be concerning, it's not entirely surprising. In the past decade, the S&P 500's top five stocks have more than doubled in weight.
While this is certainly a historical anomaly, we've never seen an economy that so rewards scalability, technology, and the "network effect," or the idea that "the value of a product or service increases when the number of people who use that product or service increase."
Malcolm Gladwell's book, The Tipping Point, touches on the fax machine as an example of the network effect. The popularity boom of fax machines can largely be attributed to the fact that more than two parties must be present to use the techy equipment. Friend A tells Friend B, "hey, you should get a groovy new facsimile machine, so I can send you righteous messages whenever." (Groovy and righteous are my impression of a casual conversation in the '70s.)
Friend B tells the same to Friend C, and so on.
Today's tech behemoths have been on a ten-year run—but we don't see any reason why that would stop. We look at these companies' growth prospects and fundamentals and are still impressed—though we wish they were a little cheaper.
2 | USA
Every year at DWM, we have our portfolios examined by industry experts and some of the world's most sophisticated portfolio analysis software (i.e., BlackRock; Bank of New York Mellon; Fidelity). Like a broken record, one piece of key feedback that we receive is, "you suffer from 'home-country' bias. Just because you live in the U.S. doesn't mean the majority of your assets should."
I agree with this line of thinking – I don't think someone in Haiti should have the majority of their investments in Haiti or in China for the Chinese. An analysis of economies, investments, laws, and stability is paramount before deciding where to allocate your investments.
And at the surface, I agree. I don't think a citizen of Haiti should invest primarily in Haitian companies, a Chinese citizen in Chinese companies, or any other form of that example. A holistic analysis of a nation's economy, investment opportunities, laws, and stability (economic and government) is paramount before deciding where to allocate your capital.
However, regardless of where I live, the case for allocating a majority of my investment dollars to U.S. companies is justified—lack of corruption, historical stock market performance, current economic stability/strength, rule of law, liberal innovation, and patent laws, and so on. I could write a book on those six points alone, but I'll save that for a rainy day.
The reality is that the U.S. is the friendliest and safest place for investor capital in the world, and the majority of ours will stay here.
3 | ON THE PATH TO HIGHER YIELDS
The Federal Reserve is very open about its policy goals: a stable economy, maximum employment, and 2% inflation. As 2021 ends, policymakers are missing the ball on that last objective—inflation is hot and getting hotter.
Employment is low, the economy is recovering reasonably well, but inflation is out of control, which will likely force Fed members to tighten monetary policy by raising the federal reserve rate sooner than anticipated (like March 2022 soon).
That bodes poorly for conservative investors. As interest rates rise, fixed-rate bond prices fall, leaving many conservative investors in a pickle. The stock market is riskier and more expensive (overvalued by traditional metrics), but their bonds—generally a ballast against market drops—threaten to decrease in value as rates increase.
What is a conservative investor who has traditionally used bonds to do?
Fear not; there are many alternative options with varying risk profiles. Securities like floating-rate bonds, utilities, Treasury inflation-protected securities (TIPS), and commodities all have some positive correlations with inflation and rising rates.
4 | UNDERVALUED COMPANIES
Remember how we talked about how great tech companies are? They're taking over the world, they boast the largest share of the S&P 500 EVER, and their CEOs are plain cool. Wall Street hangs on to their every move like groupies.
Do you know what's not cool? Paint companies. Homebuilders. Drywall companies.
As more investors flock to the growing tech companies year-over-year, run-of-the-mill (aka: uncool) companies in rarely disrupted industries, with solid balance sheets and steady dividends, sit with low valuations (shown below).
Now I don't expect those two lines to touch – growth has very much justified its valuation and outperformance over the last decade. However, the gap has become too wide.
Excellent cash flow, low leverage, and low-interest rates have created a situation where investors who don't worry about tracking the stock market can find great value and steady income.
FINAL THOUGHTS
The first three themes aren't so much predictions as they are acknowledgments of trends already happening—and trends have a funny way of chugging along unscathed until derailed in dramatic fashion (see: Coronavirus).
Sure, something can fly out of left field and surprise investors (see again: Coronavirus), but it seems more likely that those three trends will continue to accelerate, presenting long-term investors with opportunities to profit.
History tells us that the fourth trend—a turn around in value stocks—seems inevitable. However, that turnaround may happen in five months or five years; it's impossible to know. All we do know is that more investors are OK with a stable return of immediate cash today (income and dividends) than the risk assumed when speculating on profit ten years down the road.
Disclosures: Securities offered through LPL Financial, Member FINRA/SIPC. Investment advice offered through Denver Wealth Management, Inc., a registered investment advisor. Denver Wealth Management, Inc. is a separate entity from LPL Financial. The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All investing includes risk including the possible loss of principal. No strategy assures success or protects against loss. The economic forecasts set forth in this material may not develop as predicted and there can be no guarantee that strategies promoted will be successful. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and may not be invested into directly. International investing involves risks such as currency fluctuation and political instability and may not be suitable for all investors. Growth investments may be more volatile than other investments because they are more sensitive to investor perceptions of the issuing company's growth of earning potential. Value investments can perform differently from the market as a whole. They can remain undervalued by the market for long periods of time. Any individual securities mentioned are for reference only and are not intended as a recommendation to buy or sell. Companies mentioned are for informational purposes only. It should not be considered a solicitation for the purchase or sale of the securities. Any investment should be consistent with your objectives, time frame and risk tolerance.
All information is believed to be from reliable sources; however, Denver Wealth Management, Inc. and LPL Financial make no representation to its completeness or accuracy. The S&P 500 is an unmanaged index which cannot be invested into directly. Past performance is no indication of future results.
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