Market Outlook

Even when financial conditions don’t have a historical precedent, you can usually at least find a situation that may rhyme with the current one. However, polling any handful of experts will get you just as many different opinions on what will likely happen next. The financial markets have never been confronted by so many complicated variables at once: global re-opening from a pandemic, the consequences of global stimulus, supply chain dislocation, commodity price increases, inflationary pressures across the spectrum, low unemployment, and geopolitical pressure all at once.
Although late 2021 into 2022 has shown inflation that rivals what the US economy saw in the early 1980s, the pressures causing today’s inflation increase are very different. The way forward is also going to look very different. Today, the Fed’s challenge is to responsibly hike rates and unwind the balance sheet without disrupting the markets too significantly. However, due to the uncertainty, the S&P 500 has already responded with a 10% market correction. Though historically, 10% corrections have happened on average once every 18 months, it’s never fun to experience.
2021’s 4th Quarter US GDP surged 6.9%, but inventory build-up made up 4.9% of that 6.9%. Typically, it is bad news when inventory build up makes up a large part of growth as that normally means goods aren’t selling. However, the US went through unprecedented times where lack of inventory was a key inflationary driver. Many companies relying on “Just-In-Time Inventory” suffered the consequences of the supply chain disruption the worst.
During periods of high inflation, typically companies see their margins squeezed before being able to pass on higher prices to consumers. However, today, companies continue to post record profits on near-record margins. Even with inflation the highest it’s been since the 1980s, corporate profits are soaring the most since the 1950s! This implies corporations are taking advantage of the inflation narrative to proactively “improve” their pricing. Corporations are simultaneously cutting costs through remote work and technological efficiencies. Though employee, transportation, and input costs may be rising, company fundamentals remain strong. Strong companies continue to grow their competitive advantages.
In summary: Expectation of rising rates during 2022’s first quarter and quantitative tightening are battling with new geopolitical pressures of impending military and cyberattack pressures. This will continue to keep energy prices elevated. Political leaders are warning that there may be financial reverberations through all levels of the US economy due to any sustained conflict in Eastern Europe. However, supply chain constraints appear to be easing, and company inventories are showing signs of normalizing. Corporations continue to be historically profitable. Lastly, no matter how much the news narrative tells us the entire economy is in a bad place, most of us feel like our local economies are doing pretty well. Companies are hiring, consumers are spending, and the government is evaluating how to cool off inflationary pressures.

What does this all mean for Kubhera’s investment strategy and your portfolio? It means:

  • Balance and flexibility;
  • A bias toward companies with a competitive advantage;
  • Investment strategies that are flexible enough to switch in and out of cash positions to minimize the risk of catastrophic losses;
  • Expanding the Thematic opportunity investing to international and emerging market debt vs US domestic debt;
  • Non-correlated investments in strategic infrastructure private equity investments that have demonstrated themselves to be pandemic proof;
  • Limiting our interest rate sensitivity with shorter duration on fixed investments, as the flattening yield curve is not rewarding long term commitment.
When you’re playing golf on a windy, gusty, blustery day, you have to aim for the middle of the fairways. We do not feel that now is the time to drive for the greens. However, nor is it time to head to the clubhouse to wait things out.