Peter Brown: Tech and climate to offer the best options for canny stock investors in

Bond holdings were a drag on performance, as speculation about interest rates and inflation took hold. So, investors with a balanced portfolio of stocks and bonds will have found that the bond proportion, which can be up to 60% in a cautious fund, will have eroded overall performance somewhat.

Still, against a background of a global pandemic, many will be surprised how strong investment returns have been. Looking ahead to 2022, there are some major economic stories that will impact markets.

China

China has experienced a property meltdown. It appears to be the largest property bubble in history. Real estate is a much larger portion of household wealth in China than it ever was in the West, which means the impact to the middle class in China – some 400m people out of 1.5bn – could be quite severe. 

The average wage in China is something like $15,000 a year. As much as 74% of the Chinese population is overworked and underpaid and many of them do not own property. Most Chinese families identify the cost of property as a major pain point. The Chinese government has stated, numerous times in the last two years, that property prices have been shown to exacerbate social inequality.

I don’t expect we will see a global chain reaction of debt-defaults outside of China because the rest of the world doesn’t own a lot of Chinese debt. That doesn’t mean the rest of the world won’t feel the pain of a Chinese slowdown, though. If you cut Chinese growth in half, the rest of the world will certainly feel it. It’s just unlikely to be a global chain reaction.

Covid has not had the negative impact on markets you might expect. Valuations have held up. What is has affected are supply chains and that is causing costs to rise. Currently, the market does not anticipate long-term lockdowns or damage to global growth and is confident that vaccine development will keep pace and allow us to continue with a reduced level of economic activity.

Inflation

The real dominant force will be inflationary pressures and central bank response. There is a great debate as to whether this recent bout of inflation is transitory. The main cause of the spike is the rise in energy prices and supply chain issues. 

I’m all for clean energy, but you can’t shut off the old energy economy without building the infrastructure for the new ‘green’ energy economy. Western governments have made the cost of capital very expensive for traditional energy companies. They’ve also made it difficult for traditional energy companies to get permits to drill for oil and gas.

This is not a political statement. I’m simply pointing to cause and effect. These environmental policies are creating a tightness of supply of the commodities that are the lifeblood of the global economy and the ‘green’ infrastructure is not yet even remotely close to being large enough to replace the old ‘dirty’ energy.

The world is still using more of the stuff every year than it did the year before, but government policies are leading to rapidly declining future supplies. It wouldn’t at all surprise me to see $150 a barrel oil prices in the next few years.

It seems highly likely that things are going to get a lot more inflationary in the coming years. I don’t buy the argument that inflation is transitory, and I have not really mentioned wage inflationary pressures, which are on the way. Wage increases are certainly not transitory.

That leaves the investor and saver with some serious choices. For depositors who are loathe to invest their funds, inflation will eat their buying power. They could lose as much as 30% of buying power over the next five years. That is a frightening prospect for those reliant on an income from their savings.

It is worth noting that investment risk can be controlled, so they should explore a low-risk option to fight off the negative effect inflation will have.

For most, they have the standard S&P-500 and Western European bond portfolio mix. The prospect for 2022 is not good. We see the S&P most likely mirroring performance in 2018, when increases in US interest rates were accepted by the market until we reached the final quarter when the S&P fell 20%. This eroded all gains for the year.

Interest rates

The real worry in a portfolio mix like this is the holding of bonds. Interest rates are on the rise, initially in the US but in Europe eventually. Bonds are now a very dangerous assets class and may remain so for five years or more.

It is difficult to avoid the standard investment portfolio, but there are alternatives strategies out there. For those investing small amounts, €50,000 or less, there is the option to self-invest. 

Alternatively, a good broker can access some of the following strategies for you. There are some very good global asset managers who offer a diversified portfolio designed to perform in any market conditions. Over the last decade, a passive S&P-500 strategy has been the winner, but that may not be the case into the future.

We love carbon credits and uranium as a climate play. Carbon credits are up 85% this year and we feel this is only the start of a multi-year surge. The physical Uranium Trust we invest in is up 150% since July. Uranium is the only scalable green energy, and the prospect is for further price increases. We also like copper in this category.

The year ahead looks difficult for overvalued US markets, especially when the rate increases kick in. We do not expect rate increases in Europe until 2023, but if inflation continues to spike that may change.

It is a time to be proactive with investments, especially if you are in cash which will be particularly destructive to wealth. There will still be winners among the popular growth tech stocks but the tech companies with no earnings may be found out.

We see a slowdown in global growth on the back of China and Covid, but we do not see a crash. We do see some great investment opportunities on the back of climate action and tech.

• Peter Brown is managing director of Baggot Investment Partners