How To Invest In This Year’s “Abnormal Normality”

How To Invest In This Year’s “Abnormal Normality”
Reda Farran, CFA

about 2 years ago6 mins

  • T. Rowe Price believes five themes will dominate markets over the next 12 months in a post-pandemic world akin to “abnormal normality”.

  • The five themes are: slowing growth, shifting policy, sorting fundamentals, seeking sustainability, and softening returns.

  • You can turn these themes into investment opportunities using a mix of ETFs, individual stocks, and actively managed funds.

T. Rowe Price believes five themes will dominate markets over the next 12 months in a post-pandemic world akin to “abnormal normality”.

The five themes are: slowing growth, shifting policy, sorting fundamentals, seeking sustainability, and softening returns.

You can turn these themes into investment opportunities using a mix of ETFs, individual stocks, and actively managed funds.

T. Rowe Price – a global investment giant that manages over $1.5 trillion – has just published its market outlook for 2022, and its team thinks five themes are going to dominate markets in this year of “abnormal normality”. So I decided to explore each of them and, more importantly, how to turn them into investment opportunities.

Theme 1: Slowing growth

T. Rowe Price expects global economic growth to slow in 2022 as supply bottlenecks and labor shortages ease up, allowing supply to finally catch up with demand. While the firm acknowledges there’s a risk of new Covid variants emerging, it reckons these would only delay economic activity as opposed to outright derail it – similar to what we saw with the Delta variant. The leveling out of supply and demand should also help alleviate inflationary pressures, but T. Rowe Price admits it’s still up for debate whether high inflation will prove to be transitory or persistent.

Where could you invest?

The uncertainty around inflation means it might be wise to include positions that should fare well in an inflationary environment, while not performing too badly if inflation falls below currently elevated expectations. Two examples here are value stocks and high-yield bonds. You can gain exposure to these asset classes via the Vanguard Value ETF (ticker: VTV) and iShares iBoxx $ High Yield Corporate Bond ETF (ticker: HYG) respectively.

Slowing growth but no recession could be the Goldilocks scenario – where the economy is not too hot or cold, but just right – that supports global stocks, especially considering that their valuations aren’t as expensive as those of government bonds. You can gain exposure to global stocks via the Vanguard Total World Stock ETF (ticker: VT).

Theme 2: Shifting policy

Central bank policy is taking a dramatic U-turn this year, shifting from “easy” (low interest rates and bond-buying programs) to “tight” (higher interest rates and offloading bonds from their balance sheets). But this shift isn’t fully synchronized: the US and UK central banks are tightening policy this year, the European Central Bank is remaining on the sidelines, and the Bank of Japan is easing policy after recently announcing it would buy an unlimited amount of 10-year bonds to cap a recent rise in yields.

Where could you invest?

Position your portfolio for rising interest rates. One way to do that is to cut the duration of your bond allocation. Duration, which is linked to – but distinct from – maturity, measures a bond’s price sensitivity to interest rate changes. The higher that figure, the more a bond’s price will fall as rates rise.

To lower your bond portfolio’s duration, you could shift some of your existing investments in bond ETFs to low-duration ones like the iShares 1-3 Year Treasury Bond ETF (ticker: SHY). And if you feel like taking on some more risk, you could combine your SHY holding with a short position on the high-duration iShares 20+ Year Treasury Bond ETF (ticker: TLT). That way you’ll earn the performance spread between short-duration and long-duration bonds.

Another way to position your portfolio for rising interest rates is to add some loans. The main benefit of investing in loans is that the interest rates they charge borrowers (and pay lenders) are typically tied to the underlying interest rate across the economy. That’s why they’re often called “floating-rate loans”. The SPDR Blackstone Senior Loan ETF (ticker: SRLN) is at least 80% invested in senior loans (i.e. relatively low-risk) with floating interest rates.

Theme 3: Sorting fundamentals

T. Rowe Price reckons some forces that have supported earnings for decades may be fading as new ones emerge. And in light of that, it’s important for investors to examine these fundamental changes to identify likely winners and avoid likely losers. Digitization, falling interest rates, and lower taxes, for example, have all helped increase profit margins over the past few decades. But digitization is close to peaking, interest rates are rising, and corporate taxes may increase in the US and some other parts of the world.

On the other hand, a medium-term force helping lift earnings is global trade, which is still increasing albeit at a more modest pace in 2022 than 2021. A more long-term, secular force is the increasing use of technology – like cloud computing – that helps firms in many industries lower costs and increase profits.

Where could you invest?

Export-oriented regions like Japan and emerging markets will benefit from a continued rebound in global trade. You can gain exposure to these regions via the iShares MSCI Japan ETF (ticker: EWJ) and iShares MSCI Emerging Markets ETF (ticker: EEM) respectively.

As for the cloud, you can invest across the two key layers of the cloud value chain: cloud enablers and cloud solution providers, with the latter further split into providers of infrastructure and software. To learn a lot more about how to invest across the cloud value chain, check out our dedicated Insight on the topic.

Theme 4: Seeking sustainability

T. Rowe Price believes that in the aftermath of the recent COP26 summit, sustainability will likely remain high on the global policy agenda in 2022. A big area of focus is the continued investment in public and private infrastructure to reduce carbon emissions. Think renewable energy, EVs, large-scale battery storage, EV charging stations, and so on. That’s expected to drive a new “supercycle” of demand for commodities like lithium, nickel, and copper.

Where could you invest?

Around 75% of global lithium production is controlled by just five firms, each with publicly traded stocks you can buy: Albemarle, SQM, Ganfeng Lithium, Tianqi, and Livent. Like lithium, the supply of nickel is also concentrated, with seven firms accounting for more than 80% of supply.

High-grade nickel production is concentrated. Source: William Blair
High-grade nickel production is concentrated. Source: William Blair

All of these seven firms are publicly traded. But there’s a catch: none of the companies solely produce nickel, meaning you’re investing in the potential – and potential risks – of a variety of other metals when you invest in them. You also have an ETF tracking the price of nickel, but it’s rather small in size, meaning it can be more difficult to trade if you’re investing large amounts.

You can gain exposure to copper by investing in shares of copper-mining companies like Freeport-McMoRan (the world’s largest independent producer), Southern Copper Corporation, or First Quantum Minerals. A more diversified way to do this would involve investing in the Global X Copper Miners ETF (ticker: COPX), which tracks 30 such firms. You can also gain direct exposure to the red metal through ETFs that track its price, with the United States Copper Index Fund (ticker: CPER) one of the biggest out there.

Theme 5: Softening returns

According to T. Rowe Price, asset returns are likely to be more modest than they have been in the past across both stock and fixed-income markets. That’s down to several reasons: elevated valuations, the removal of economic support by both central banks and governments, rising real rates (interest rates minus inflation), and slowing earnings growth.

Where could you invest?

The firm reckons investors should either accept the likelihood of lower returns or start adapting their portfolios to the new environment. And the way to do that, in their view, is to use skilled active managers that are good at bottom-up security selection, top-down dynamic asset allocation, and creatively adding new sources of returns and techniques to mitigate risks. That’s easier said than done, sure, but our Pack on analyzing actively managed investment funds can help get you started.

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Disclaimer: These articles are provided for information purposes only. Occasionally, an opinion about whether to buy or sell a specific investment may be provided. The content is not intended to be a personal recommendation to buy or sell any financial instrument or product, or to adopt any investment strategy as it is not provided based on an assessment of your investing knowledge and experience, your financial situation or your investment objectives. The value of your investments, and the income derived from them, may go down as well as up. You may not get back all the money that you invest. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment advisor.

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