Is 2022 going to be the same as 2021?

2021 ended very positively for the Gresham House Ireland Equity and Multi-Asset funds and all enjoyed a very strong year.

Looking at the returns of financial assets through 2021, two key points emerge. Firstly, this was the worst year for fixed income investors in over twenty years, as bond yields rose globally on signs that inflation was increasing and that the global economy may be set to emerge from the Coronavirus pandemic. Secondly, 2021 proved to be a year where the equity bull market that started in March 2020 continued, broadly uninterrupted except for a few pullbacks as new coronavirus variants emerged. The equity market benefited from the economic recovery as economies reopened as well as a continuation of accommodative monetary and fiscal policy.

This brings us to the key difference between the past and the immediate future, the era of accommodative monetary policy is coming to an end. This has serious implications for financial markets as a wide range of assets have seen their valuations expand as investors bet that central banks would keep easy policy in place forever. However, across the globe, higher levels of inflation are forcing central bankers to remember that price stability and controlling inflation is part of their mandate, propping up the valuations of speculative assets is not. The implications of this are starting to impact markets. The most speculative assets such as Special Purpose Acquisition Companies (SPAC’s), non-profitable technology stocks and cryptocurrencies are already in deep bear market territory and the tightening cycle hasn’t even started.

As central bankers grapple with inflation and start on the path towards more normal monetary policy, investors must consider what it all means. Firstly, investors must recognise that inflation is back, and this is an outright negative for those who wish to hold cash long term. Secondly, large swathes of today’s equity market are at record high valuations and higher levels of interest rates can cause these expensive parts of the market to derate significantly. The Nasdaq is likely to become the major casualty if this derating occurs. Thirdly, fixed income investors are likely to endure more pain until such time as inflation is brought under control. Lastly, investors need to recognise where the opportunities are and they are in investments that outperform in times of inflation such as commodities, financials, and non-US equities.

As we write this piece in the second week of January, the year has started with bond yields rising and investors fleeing the growth segments of the equity market and embracing value stocks. There is a chance that this is the start of a repricing of the bond market and with it the start of a “Great Rotation” from growth to value within the equity market. If it is the beginning of a new paradigm in financial markets, we don’t expect it to occur in a straight line and expect plenty of volatility along the way. However, all the signs are that this new paradigm is set to emerge.

Any views and opinions are those of the Fund Managers, and coverage of any assets held must be taken in context of the constitution of the fund and in no way reflect an investment recommendation.

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