We have arrived at our final article of 2021 and, as usual, we thought it would be interesting to revisit our predictions for the past year and come up with a few more heading into 2022.
First, in terms of our 2021 predictions, we did alright. We have given ourselves a score for each; our predictions were:
2021 Prediction 1: The Commencement of Trump News Network (TNN)
Close but not quite. This one was partially correct in the sense that they are trying to launch a media platform; there is a social media platform in the works (still facing some roadblocks in the form of regulators). This is sitting alongside One America News News Network (OANN) increasingly becoming the family’s mouthpiece (always was?). So, partially correct.
2021 Prediction 2: QE will continue but with a difference
We previously predicted that monetary policy normalisation will be all but impossible in the face of mounting fiscal expansion. We also said that escalating CPI pressures could result in a rather messy situation.
2021 Prediction 3: The ASX and Asian Indices will be the better performers
This argument was rooted in a bearish USD thesis as cracks continue to appear in its reserve currency status. The thought process being that because of the commodities driven nature of the ASX and the inverse correlation of Asian indices to the US dollar, we were likely to see those indices perform better overall. We have however continued to see strength in the USD and we now see a very real possibility of continued strength on the Dollar index in the medium term as fiscal expansion continues and the perceived safety of US Treasuries creates some tailwinds. That said, both the NASDAQ and S&P 500 are, in our view, relatively overvalued on a comparative basis.
We also didn’t inculcate the risk of an overly aggressive CCP/CPC in China placing headwinds on the Chinese indices. Japan, seemingly never failing to disappoint, also continued its somewhat lackluster performance.
2021 Prediction 4: Gold will break above 3000 USD with new resistance at 2000 USD
This is one price action that continues to baffle. There are theories out there that at least some of the bid may have been redirected towards newer crypto assets (i.e. Bitcoin). Rightly or wrongly (whatever your opinion, only time will tell), this appears to be one of the few logical explanations. On the other hand, a longer term price chart still shows a rather bullish pattern, with a second cup and handle formation on a technical basis. The shiny metal also continues to remain attractive in terms of fundamentals. Not to mention continued buying from central banks, including Russia and the PBOC.
2021 Prediction 5: Energy Markets rebound late Q3 & Q4
Nailed it. This is one prediction that went perfectly with the price action playing out to a tee.
So with that, a pass grade of 2.5/5, for our 2021 predictions. Not bad. Now, let’s make some predictions heading into 2022!
Prediction 1: Despite talk of monetary policy normalisation, this will not occur. QE moderates somewhat.
Despite chatter from both the Federal Reserve and other major so-called financial pundits around monetary policy normalisation, we continue to see this as a bit of a pipedream. We remain of the view that continued expansion of fiscal balance sheets globally, a slowing growth story in China and a rather messy Omicron situation, means this will be somewhat out of reach for the foreseeable future.
The aggressive buying program by central banks may taper off however. After all, it does seem bizarre that the Fed continues to buy MBS (Mortgage Backed Securities) despite a booming real estate market in the US that is now putting stress on first home buyers and disproportionately exacerbating income inequality. We note a similar case is likely to follow with the ECB and RBA. Both of whom, while maintaining their official rate targets, will taper off their open market transactions (which we believe will still remain at high levels on a historic basis given the scale of government deficits currently being run up). We note the RBA’s abandonment of yield curve control and agree that it may have been the right decision.
As for questions of CPI, we question whether we have the demographics, the debt ratios (with Debt-to-GDP ratios across most of the developed world standing at historically high levels) to do much. The stance will continue to be that CPI is transitory and, given the supply side nature of the story, we doubt changes to monetary policy will be effective in sorting the issues in any case. It may even in fact exacerbate the situation. Think for a moment about energy. Raising the cost of capital, and hence production, for already stressed industries, such as high-cost shale producers in the US, will not solve the issue. We may however be likely to see changes in how CPI is calculated with things like energy, for example, taking a lesser role.
By the way, it is true that inflation is certainly transitory. It may however take anywhere between one and ten years… it rather depends on the definition. Something which policy makers have been rather reluctant to make to date.
Prediction 2: Equities continue to outperform despite the “easy” returns being close to impossible.
Going hand in hand with the previous prediction on central bank policy action which has created perhaps one of the shortest and greatest multiple expansions in indices in recent history (US PEs, for example, have only been this high for 2% of the past 100 years), this is likely to reverse. This however does not necessarily imply that we are calling a top to the market. In fact quite the opposite.
We stated above that policy normalisation is all but impossible over the coming year despite non-traditional mechanisms and QE being tapered, this means that the discount rates one uses for valuations remains effectively low. Add in CPI, what you end up with is nominal growth. Since company earnings tend to keep in line with or above inflation and you have a discount rate that stays at effective 0, this could theoretically lead to infinite valuations. Given the unlikely case of the latter happening, we would suggest that high growth continues to face certain headwinds while the outperformance will come from value sectors (i.e. energy, industrials etc.)
We don’t see fixed income performing all that well however and we can all but bet that cash will be the worst performing asset class.
Prediction 3: Oil continues to rebound and could very well hit 100 USD/barrel
Despite recent selling by hedge funds die to Omicron fears, White House jawboning of OPEC and releases from SPR (Strategic Petroleum Reserves), we believe our thesis around energy markets remains intact. Companies and producers, as it currently stands, are not incentivised to increase production or bring on additional supply, this remains an industry in transition. Yes, the world will probably need oil for the next three decades, but investment decisions on oil rigs are taken with consideration of multi-decade cycles and not yearly gyrations. We don’t see any scenario where financial institutions change their view on financing new fossil fuel assets (even as it currently stands, the amount of stranded assets or assets that have suffered from unanticipated or premature write-downs, devaluation or conversion to liabilities by 2050 is around US $3.5tn). For companies or majors, like Exxon, this is the perfect scenario to asset strip and print substantial profits that are then distributed to their long suffering shareholders (who, by the way, are not particularly enamoured with spending more on new supply either).
As for OPEC, as previously stated, their incentive is to target their budgetary breakevens and fiscal regimes. Saudi, for example, has a budgetary breakeven of 80 USD/barrell). Russia, though lower, has a lot of catching up to do. As for Iran being bought online due to the administration’s nuclear talks, we would suggest that this remains a pipedream. Much of the supply, we would argue, is already in the market, it’s just made to look like its coming out of Iraq. All this is to say, the fundamentals suggest that energy prices continue to rise and there won’t be a choice unless the world decides to unilaterally abandon net-zero targets and climate policy (i.e. this includes financial instiutions). If anything, this is something that probably goes the opposite direction.
Prediction 4: Iron ore continues to rebound back above 180 USD/T
We’ve previously noted that much of the reaction was over done when it comes to fears around Chinese production. As recent price action suggests, we are seeing this play out. Moreover, this is more closely related to our thesis about higher energy prices than most may think. Higher energy prices can also translate into making renewables projects more investible (because relative prices become closer), by extension the greater number of renewables projects, such as windfarms, actually end up creating strong tailwinds for inputs like steel (i.e. coking coal, iron ore etc).
We also remain of the view that iron ore being solely a play on Chinese demand is no longer the case. Fiscal and infrastructure spending across the developed world, from the US to the EU, to emerging markets like India will provide tailwinds past 2022. We remain of the view that we are in the infant stages of a multi-decade commodities bull cycle.
Prediction 5: The ASX and Asian Indices will be the better performers
Here we go again. We make the same prediction again in the hope that we won’t be tagged as insane in doing the same thing over again expecting different results. Given the composition of the ASX as an index, by extension of previous predictions on energy and commodities, it would make sense that the ASX as an index may outperform. With the exception that the heavily weighted financials may provide some headwind. We have previously discussed why we remain rather cynical when it comes to their long term profitability.
As for Asia, we have the feeling that, while China may continue to hamper performance, allocators searching for more reasonable valuations will be hard pressed to avoid at least looking at the region. Moreover, we feel that once the CCP has made its point around what is expected of the business community, it will take a step back as there is an incentive to develop capital markets in preference for the historic reliance on credit to finance company expansion. The rest of region, looking to South East Asia and India, also continues to offer credible opportunities for growth (though Indian indices may have become a little toppy in the medium term and may offer some headwind).
Markets & Commentary
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