egue

Editors’ Note: 2021 was a great year to be invested in stocks. But can investors expect a repeat of last year’s gains with inflation on the rise, the coronavirus raging again and the US Federal Reserve apparently ready to start tightening again? Here in brief is our roundtable discussion of how we editors of Capitalist Times see the big picture this year. We hope you enjoy it! Also, please make plans to join us at this month’s live web chat on Thursday January 27, starting at 2 pm.

Q: 2021 was a big year for stocks. Can 2022 possibly measure up?

Roger Conrad (RC): I think it’s unlikely the S&P 500 will approach the 28.5 percent total return we saw in 2021. It’s true that valuations are not a great tool for market timing. But the higher they are, the more difficult it is for actual developments to live up to investors’ expectations, which are extremely high right now.

I’m going to start this issue with a simple-yet-powerful chart. In fact, as I’ll show you in just a moment, this one chart has “explained” about two-thirds of stock market returns since January 1949. You could say it called the “Lost Decade” for US equities from 2000-10, a decade when the S&P 500 fell 9.75% even including dividends. And it flashed a warning sign for stocks back in the late 1960s, ahead of the stagflation of the 70s and negative inflation-adjusted real returns from equities. Here’s what really has me worried – this indicator currently projects stock market returns of just over 2.4% annualized for the coming decade.

Don’t forget, that’s in nominal terms – with headline inflation running +4.3% in the month of August 2021, the highest in 30 years, I believe your actual, real returns from owning stocks could be negative over the next 7 to 10 years.

Sticking to Strategy in a Market Meriting A Bit More Caution

The Macro:

The S&P 500 is up more than 18% year-to-date and the largest correction so far this year has measured just 4.2% from closing high to closing low. However, the broader market isn’t as healthy as it might seem since market breadth has been deteriorating since early June and the rally is increasingly powered by a handful of large-cap technology and growth stocks.

Historically, rallies on deteriorating market breadth such as we’ve seen this summer end with at least a modest market correction.

Narrow market breadth also reflects a rotation out of value stocks and small caps, which led the market higher for the first 5 months of the year. Since value shares and small caps are considered more economy-sensitive and cyclical, this rotation signals the market is in the throes of a classic growth scare this summer.

At first blush, the May Employment Situation report released by the US Bureau of Labor Statistics (BLS) on Friday looks weak with total non-farm payrolls up +559,000 compared to the +675,000 the consensus had expected before the report.

However, while that’s a big miss in absolute terms – 116,000 fewer jobs than expected – it pales in comparison to the magnitude of the April shortfall when the US created more than 700,000 fewer jobs than economists had expected.

Moreover, as I’ve explained in prior issues, the BLS Employment Report is prone to large subsequent revisions, so it’s quite possible this month’s “miss” could be revised away over the next few months as more complete data comes available.

In addition, last year’s coronavirus-related business disruptions are wreaking havoc with BLS’ seasonal data adjustments. As I noted, BLS reported that US non-farm payrolls grew by 559,000 in May; however, the raw data shows the US actually created +973,000 jobs last month.

According to baseball legend Yogi Berra: “Forecasting is very difficult, especially when it involves the future.”

That certainly rings true when it comes to forecasting financial markets.

If fact, I’d take his sentiment one step further and say that, not only is forecasting the future difficult, but it can also be hazardous to your financial well-being. Moreover, predictions become more difficult, and potentially more dangerous, the further you attempt to peer into the future.

I guarantee you can come up with some arcane indicator or data point to justify just about any forecast for the US economy, the stock market or a particular sector. And, if that’s too hard, you can always fall back on that age-old crutch of crafting a complex narrative involving politics or some ill-defined multi-year megatrend.

However, the more complex the argument or narrative, the less likely it’s going to stand the test of time.

The truth is that successful investing isn’t about making bold predictions about the future or the latest trends in Washington, D.C. and it’s certainly not about predicting economic conditions in 4- or 8-years’ time. Instead, it’s about understanding where we are in the economic and market cycle, following a handful of proven economic and market indicators with a history of giving useful signals and doggedly sticking to a risk management discipline.

In that spirit, this report represents my current take on the outlook for 2021 including a look at where I believe we are in the cycle, some of the key market and economic indicators I’ll be watching this year and, based on that analysis, a handful of sectors to buy and some to avoid right now.

Of course, absolutely none of this is set in stone; rather I consider it a rough guide to investing as we move through 2021 based on historical precedent and trends underway right now. To paraphrase economist John Maynard Keynes, if the facts change, I’ll change my mind.

A one-month global stock market crash followed by an historic rally, devastating economic fallout from a pandemic and US elections—2020 has been a year with more than the usual ups and downs to say the least. And the uncertainty continues with jagged divergences in performance in the stock market and broad economy.

This month, our investment team of Elliott Gue, Roger Conrad, Yiannis Mostrous and our London Contributor, discussed (and occasionally debated) what we see as the key issues for DDI readers looking ahead into 2021. Here are the highlights. Enjoy!

A lot has changed over the past 4 months. As recently as November 7^th, the Fed Funds futures market was pricing in a better than 1-in-3 shot the upper bound of the central bank’s target range for rates would be 3.25% or higher by the end of 2019.

Each quarter the Deep Dive Investing Team including myself, Roger Conrad, Yiannis Mostrous and Mr. X (our London-based guest contributor) meet to discuss our big picture outlook for the global economy and markets and new investment ideas or trends we’re following.

The focus of our discussion is a detailed, 33-slide deck that covers a long list of economic and market indicators we’ve been following for years including slides covering market valuations, corporate profits and margins, credit and bond markets, commodities, institutional money flows and economic data.

The purpose is not to develop a set-in-stone outlook but to set up a framework for keeping tabs on market developments, trends to watch and our strategies for investing in the current environment.

In this issue of Deep Dive Investing, I discuss some of our conclusions and takeaways from our quarterly meeting with our London-based guest contributor.

Later this evening, following the market close, we will release a separate flash alert that includes an update of our Active Total Return Portfolio and recommendations.

Most of our Focus List and Active Total Return Portfolio recommendations have now reported second quarter earnings.

In this issue, Elliott explains what we mean by “Growth” investing and how it differs from the common usage of the term in the mainstream and financial media.

In addition, Elliott offers an update of returns in the Active Total Return Portfolio and a rundown (and updated advice) on every recommendation that’s reported earnings to date.