Five key global themes emerged from the fourth quarter reporting season in the United States and half-year reporting season in Australia. These are:
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Demand for goods and services is rising, creating supply chain bottlenecks and causing prices to rise.
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Governments, businesses and consumers have an extremely low ability to tolerate higher interest rates due to ballooning debt.
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Technology will play an increasingly important role in driving productivity, particularly among older workers.
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There is a bifurcation of good tech and bad tech.
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The predictable nature of quality companies.
In the US, many companies beat expectations this reporting season, largely because expectations had been depressed due to COVID-19. This begs the question, where to from here?
Following an unprecedented, coordinated central bank response to COVID-19, consumers are out in force.
The real-life consequences of mountains of economic stimulus being pumped into the economy is increasingly apparent, with a distorted supply and demand dynamic pushing up prices.
This phenomenon, alongside constrained supply chains, rising oil prices and geopolitical risk, is causing confusion in financial markets.
At the same time, the quantum of global debt (which the IMF recorded as $226 trillion at the end of 2020) means there’s a greater sensitivity to changes in interest rates. This risk is compounded by significant demographic headwinds, as the number of people over age 65 doubles to 1.5 billion over the next 30 years, threatening to impact productivity.
Fortunately, advances in technology are occurring at an opportune time.
Technology will play a key role in improving the productivity of workers over age 65.
As such, technology spend – as a percentage of GDP – is expected to grow significantly over the next decade.
But while technology stocks have benefited from increasing investor interest, a bifurcation of good tech and bad tech is occurring.
Off the back of super rosy expectations for technology stocks, speculative investors have bid up the prices of some companies to historically high levels.
This is referred to as bad tech.
Fears about inflation and valuations recently led to technology sell-off, which indiscriminately captured all companies including good tech companies.
Good tech companies – characterised by strong earnings and attractive multiples – have been treated much the same as bad tech companies, despite their fundamentals.
This is a reminder for investors to focus on fundamentals and examine how companies will maintain their growth, going forward.
For good tech companies, growth will be underpinned by strong underlying structural drivers, which will enable them to navigate the inevitable slowdown that is coming.
Across the board, fundamental value is key.
While inflation is dominating the headlines, it should not be the primary determinant of investment decisions. Investors need to stay grounded.
Ultimately, companies that provide high quality sought-after goods and services will perform strongly in the long term regardless of whether inflation is 2 per cent or 8 per cent.
There are some things in life that can be objectively predicted with reasonable certainty, such as which companies will lead in search or dominate cloud. Other things, like the direction of interest rates, are subjective and rely on factors that can’t be known in advance.
Investors should look for attractive companies that they want to own for the long term and aim to buy them at a discount to their intrinsic value. This strategy will deliver significantly better long-term returns.
Lachlan Hughes, chief investment officer at Swell Asset Management.
