Inflation and tighter monetary policy make banks and tobacco more attractive than technology

Inflation and tighter monetary policy make banks and tobacco more attractive than technology

15 December 2021 from Mikael Syding

How to invest in 2022 when the media paints everything black? New virus variants, highest inflation in modern times, debt debate debate threatens US economy, China increasingly tough on its tech giants, semiconductor shortage, flash crash in Bitcoin and bottlenecks in global transport chains… Is there nowhere you can defend your purchasing power without taking unreasonable risks to decimate your capital? Are there any assets at all that are genuinely cheap, ie where you as an investor can buy the right to a future cash flow that is in all probability greater than the price you pay today - and compensates for inflation? Or is everything actually too expensive in what is called The Everything Bubble?

In the real world, in the economy itself, where every year new value is created by X people working for Y hours with a productivity of P. In addition, there is an accumulated net value after wear and tear in the form of infrastructure such as buildings, machinery and tools (including knowledge, logistics chains, internet etc.). What the price tag on various stocks, buildings or gold and cryptocurrencies is has nothing to do with either existing values or newly created value. The price tags only keep track of the relative exchange ratios between these real assets.

If the price of a share increases or decreases by 50%, no new value has been added or disappeared in the world. However, the shareholder's ability to exchange other assets has changed. Not everything can be expensive or cheap at the same time, because value is always what value is; the user value of the accumulated assets and the capacity to create more value do not change when the price of them changes. This may sound trivial, but it is still useful as a framework for understanding that there are always assets that can protect one's purchasing power, ie whose exchange ratio will improve relative to the price of one's desired consumption.

Unfortunately, static real assets such as gold do not yield anything. On the other hand, during certain periods one can capture large relative movements when all other assets feel overpriced. I still think we will get there sooner or later. Gold is a unique element that can neither be manufactured nor destroyed. In addition, gold has useful physical properties, certainly several we have not yet discovered, but which may prove central to the technology of the future. A subject that is only created in supernovae or when neutron stars collide learns to hide more exciting tricks than just formability and conductivity.

For the time being, however, the value of gold stands and falls with its role as a currency anchor. If you do not have the strength to wait for a restart of the global currency system or even believe that gold plays a role there, despite the central banks' obvious interest in gold, then you will probably have to find other investments. Cryptocurrencies often feel attractive, but for most people today the movements are too large, and the patience too low to ignore today's sharp throws in anticipation of higher prices and lower volatility in ten years. No, the hope of a normal investor today may be with either "cheap" shares, or to succeed in keeping ahead of the flock in so-called sector rotations on the stock exchange.

If we enter a period of persistently high inflation and higher interest rates, at the same time as the economy loses momentum after the initial post-covid kick-start, some types of companies tend to do better than others. When high-multiple stocks with uncertain and distant profit prospects lose attraction, cheap necessities become more interesting instead. When energy prices and interest costs eat up the consumption space for everyday luxuries such as fashion goods, travel and restaurant visits, staples and low-cost products get a relative boost - especially insofar as they have been a bit forgotten in favor of fast-growing "tech". At the same time, you have to be careful not to be out of step with the rotations. For example, are airlines perhaps already cheap due to concerns about high fuel prices and new pandemic restrictions, or is there more downside left for them and other companies in Travel & Leisure? The answer can fluctuate quickly so it is a matter of daily form, but in general the market is quite bad at counting events in advance. When airlines report weak quarterly reports or make new issues, investors are almost always surprised in a negative way. Strange but true. It's a bit like fast-growing companies often manage to surprise positively quarter after quarter for long periods before they finally pass the sweet spot in the S-curve.

My concrete conclusion now in mid-December 2021 is that the stock market climate in the coming months will be different than we have become accustomed to in the last 10 years. At least the US Federal Reserve, for example, seems to be serious about reducing support for financial markets. Each such attempt has previously led to major corrections for the stock market. A drop of, for example, 20 percent from the top for the S&P 500 would be slightly larger than a typical breath of 10 percent and less than the corona crash's 30% two years ago.

If stock prices were to fall sharply investors tend to gravitate toward perceived long term safe alternatives - companies and industries with a clear raison d'être, strong market position, large cash registers and high margins. AAA companies such as Alphabet, Apple and Amazon may have slightly too high multiples today if interest rates are feared to rise in the long term, but their competitors will get even worse. So the AAAs should be monitored a little extra if it happens to be on sale. Utilities, electricity and water, have very stable finances, but they tend to be traded as bonds, which is not good in an environment with rising interest rates. Banks and telecoms, on the other hand, which are actually a kind of utilities, they have low multiples and secure income. They are also large enough to reasonably capture a rotation. This also applies to the energy sector (ie large oil companies) and the retail trade (food and clothing). On the other hand, cyclical industries such as workshops and business services (consultants and staffing companies for example) are probably not good alternatives initially. But of course they can quickly become a small bear market.

Thus, before 2022, it may be smart to rotate over to the rest of the market itself to traditionally defensive sectors such as banking, telecom, food, clothing, low-cost chains, alcohol, tobacco and healthcare and oil. Swedish Match, Philip Morris, H&M and Nordea can probably hold up well. Maybe also Conoco and Exxon, even though the shares have already been strong lately. The sectors to avoid hyped loss companies with high valuation multiples or large debts. However, I expect that politicians would soon start stimulating by all means again, so be prepared to switch back to your old growth favorites and cyclical engineering companies - especially those with high technology content and links to Industry 4.0 and 5G. Car manufacturers are particularly interesting I think. Companies such as GM, Renault and Honda already have extremely low values and invest heavily in electrification and self-driving. In order for millions of future electric cars to be able to charge their batteries, the world must probably at the same time invest more in nuclear power. This makes the entire uranium sector extremely exciting. Today it has a price of only 40 billion dollars, it is not even 5% of Tesla's or Meta's respective market capitalization. That price ratio could go from 1:20 to 1: 2 without it being the least bit unreasonable given the actual value.

@Mikael Syding

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04/10/2022 18:22:20


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