Happy New Year to all of our clients, partners, and friends. For the last few years, we’ve started a tradition of “attempting” to make predictions for the upcoming year. In making these predictions, we generally refrain from making any specific predictions relating to our market outlook because, as we’ve so often stated, timing the market is a fool’s game. No one knows where stock indexes will be in 12 months, as over a short period any unpredictable event could completely change the direction of markets. What we can predict with a much higher degree of certainty is that following a year like 2022, there are undoubtedly investment opportunities today that will generate massive returns over the coming five years (and more).

As always, we like to use facts, as well as historical reference points, to develop our own outlook for markets and for our portfolios.

 

Fact:

2022 will go down as ranking quite high on a few lists of infamy, based on data dating back to 1929. It ranks as the seventh-worst year on record for the S&P 500, and the single worst year for bonds. For the average balanced portfolio (ie. the classic 60/40 portfolio), 2022 was the third-worst year of wealth destruction in history. Given these fairly extreme results, you can imagine that the overall appetite for risk from investors has diminished drastically. This brings to mind a quote from Winston Churchill, “Never let a good crisis go to waste”.

 

History:

You can learn a lot from the past. As Mark Twain once said, “History doesn’t repeat itself, but it often rhymes”. This is something we believe is extremely true with investing. Last year reminded me a lot of the dotcom bubble unwinding in the second year of my career. I started my career in 1999, and at the time, paying any multiple for companies related to the iInternet was commonplace. Public companies would change their name to add a “.com”, and suddenly their multiple would expand. IPOs were fast and furious, and many of the companies were not only unprofitable, but had little to no revenue, and no clear path to when these factors would change. It was a valuable time to start as a portfolio manager, because it exposed me early-on to the characteristics of a bubble, the path of their un-winding, and the opportunities that can be found among their wreckage.

 

Crypto, Meme Stocks, and SPACS:

The areas that appear to have been in “bubble territory” in 2021 were things like crypto, meme stocks, and unprofitable companies coming public via “special purpose acquisition companies” (SPACs). In the late-1990s it was iInternet stocks, in the 1960s it was the “Nifty 50”, and throughout history there have been various other examples (Google “Tulip Mania” for one of the earlier recorded examples). Last year, we wrote about the madness of crowds in our blog entitled “Predictions for 2022” which you can read here. Being aware of herd mentality can help one make significant profits, but it can also protect against significant losses when reality kicks in. As in previous instances, we believe a lot of the technology relating to these areas we’ve named as the “bubbles” of 2021 will remain relevant (ex. digital currencies & blockchain technology) – and even lead to interesting investment opportunities in the future. The key is to remain focused on the price being paid for these assets, not just the exciting promise they can hold.

 

Predictions for 2023:

1. Most investors are positioned incorrectly. According to various metrics, cash levels are extremely elevated. Though we committed to not making any specific predictions on 2023 market performance, we believe that the consensus position is currently that markets will be weak, likely making new lows before any sort of recovery takes place. As we have mentioned before, consensus is often wrong, and this is one reason we feel that 2023 will prove to be a much better than anticipated market-environment.
2. Earnings will prove more resilient than expected. Nearly all analysts are predicting a significant slowdown in corporate earnings during 2023 (coinciding with a recessionary economy). However, we see some factors that may cushion this earnings decline – namely a faster-than-expected re-opening underway in China (adding demand), as well as a weakening US-dollar (a tailwind for US corporate earnings).
3. The companies that led in the last phase of the bull market will not necessarily be the ones that lead out of this correction. Though we believe that Growth will lead, we do not think the Growth leaders will be the current mega-cap tech names. While this doesn’t mean we are negative on these generation-defining companies, we do believe that they have reached a stage where the exponential growth they’ve seen over recent years will slow. Our pick for the likely area of leadership is healthcare, particularly in the more innovative spaces (ex. biotech), where we see the perfect mix between need (aging population) and an explosion of innovation.
4. By year-end 2023, deflation will be part of the conversation. We have been saying for quite some time that the inflation outlook is moderating. Some of this has been seen in recent months, as the last 6-months of data annualizes to 1.9% (ie. below-target of 2%). This data continues to have a significant portion of lagged-input from things like falling rents, which takes somewhere around 6-months to be reflected in headline data (but shelter makes up 40% of core-CPI). We believe that as this data continues to be reflected, we will start to see several signs of below-target inflation, and even a period of outright deflation.

As always, please feel free to reach out to us anytime to discuss these points, or anything else, in greater detail.

Sincerely,

Di Iorio Wealth Management

 

 

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