Breaking Down 2022: Riding The Waves

Nearly two years into the pandemic, patterns are starting to emerge and certain economic outcomes tend to follow – all of which can help investors navigate in otherwise uncertain times. The dominant theme – global inflation – will surely be a central force in 2022, having impacts across markets and asset classes.

Waves of infection serve to drive more inflation as labor and supply chains tighten, and the central banks will certainly take action. What does this mean for investment returns?

First, it’s safe to say the Omicron likely isn’t the last variant we’ll all have to deal with, so the ebb and flow of lockdowns and reopenings will play out at least one, if not two, times over the year, which will bring with it the near-predictable changes in behaviors and sentiment that have caused markets and market leadership to swing to and fro for some 20 months now.

Being a primary exhaust from these swings, inflation will remain stubborn over next year but likely tick down from its recent torrid pace and into the 3-5% range across many major economies. Central banks will taper and tighten to try and reign it in. Meanwhile, companies are enjoying some benefits from expanded profit margins and continuing strong consumer demand, so we see some good and not-so-good forces at work on investment returns.

Rates are slated to rise, but I don’t expect them to jump up too high. I suspect the US 10-year Treasury to add 20-30 bps to its current range of 1.3-1.5% while the Fed will fold in 2-3 rate hikes beginning around mid-to-late Q2. Other central banks have also signaled intent to taper and tighten as well. This could potentially cause a bit of flattening in the yield curve.

It could also serve to crimp the style of some highly valued growth stocks – particularly those with inconsistent histories of steadily growing earnings. Equity market leadership will undoubtedly ping-pong between growth and value as it has been doing for the past year-plus, but ultimately value and cyclicals should win out.

A handful of growth stocks I deem the Big 5 – Microsoft (MSFT), Google (GOOGL), Apple (AAPL), Amazon (AMZN), & Nvidia (NVDA) – have begun to attain an other-worldly status as near safe havens, so they will likely defy a broader trend of more tepid returns on stocks in the growth sector. Equity markets as a whole will likely return 8-14%, and they remain a good place to be to offset inflation.

Predicting a flat-to-down year for bonds is really about the surest bet in the coming year – there’s just too many forces working against them and, frankly, they’ve had it too good for too long.

That said, there is still a major safe haven factor in many fixed income sectors as well as rigid asset allocation and income needs that bonds fulfill and that no amount of inflation or rate hiking activity will undermine. Look for bonds in aggregate to wrap up the year with total returns anywhere from -2% – +1%. By no means a complete collapse, but certainly nowhere you want to overallocate to in an inflationary environment.

On the energy front, multiple forces will provide support to higher energy prices: supply chain issues, political posturing, demand for heating/cooling due to climate change, etc. But COVID-19 will occasionally step in and disrupt and counteract these forces.

Oil will stay in the $70-$80 range and occasionally dip down into the $60’s as intermittent COVID-19 concerns tick down energy consumption in the travel sector. Additionally, business travel, on the whole, may never return to pre-COVID-19 levels.

Commodities broadly will do well with climate impacting prices for agriculture while infrastructure spending across developing and developed countries, coupled with climate-related rebuilding and retooling, will keep most earthly-bound assets aloft.

How about gold or, dare we mention, crypto? Two very hard asset classes (or quasi asset classes) to predict. Gold has a decent history of behaving well in inflationary environments, but many of its tried and true relationships with things like currencies and rates have proven to be a bit flaky in recent years.

Meanwhile, crypto has been a wild ride and decidedly unproven when high inflation prints hit the press – just observe their decline in the last weeks of 2021 right as we saw inflation rates at the highest level in decades. Not particularly good hedging behavior.

Nonetheless, I can see gold and crypto likely ticking up next year edging toward $2 thousand and $70 thousand, respectively – the former because of its inflationary chops, the latter because it’s become a great trading vehicle that people enjoy riding – like a roller coaster; not particularly useful, but fun.