UBS Asset Management: Investing in 2022 requires a new playbook

UBS Asset Management recently launched its year-ahead outlook titled, ‘Panorama: Investing in 2022,’ which describes why we believe that investing in 2022 will require a different playbook than investors have used to navigate the past decade.

Barry Gill, Head of Investments at UBS Asset Management, said, “As the economy re-normalizes after the shock of COVID, investors need to prepare for a very different investment landscape to that of the last decade. They need a new playbook to help them asses the risks from possible structural inflation, a slowdown in monetary stimulus and the decline in Chinese growth prospects. There are also reasons to be optimistic; growth in developed markets is strong and most investors are starting this economic cycle in a much better position than coming out of the global financial crisis.”

We identify six key considerations for investors:

Many obstacles faced by households and businesses in the early stages of the last cycle are not present this time around. In the aftermath of the pandemic-induced recession, the nation’s aggregate paycheck in the US is already 6.7% above where it stood in February 2020. Unprecedented fiscal and monetary accommodation also limited insolvencies and promoted a faster rebound in earnings. The result is that ratios of debt to enterprise value for global equities recovered quickly, and all-in borrowing costs for US investment grade companies are near record lows. That is a much better set of initial conditions for hiring and investment than prevailed in the opening phase of the long-lived, pre-pandemic expansion. UBS AM predicts that this has laid the foundation for a period of above trend activity led by the private sector.

An important difference in this cycle compared to the last one is that fiscal policymakers are taking more of a prolonged “do no harm” approach, and without a quick pivot to severe austerity in the cards. Measures of the fiscal stance that adjust for economic slack imply that the developed-market fiscal policy will stay easier through 2023 than at any time since 2010.

The shortages connected to supply chain snarls have been material contributors to above-trend inflation around the world. These elevated price pressures, which stand in stark contrast to the largely disinflationary past decade, have some negative implications for economic activity. However, there are some silver linings, too: broad-based inflation is also a symptom of an economy that is maximizing its productive capacity. Ultimately, UBS AM concludes, the combination of increased capacity to alleviate bottlenecks and strong growth in labor income will outweigh the effects of higher prices, resulting in demand delayed, not demand destroyed in 2022

The aforementioned supply constraints are, in some instances, consumers’ way of telling corporations to increase capital expenditures. The response from corporations: we are, and there’s more to come. The recovery in capital goods shipments, a proxy for business investment, has been much stronger in the 15 months since April 2020 than the same period following June 2009. Banks are easing access to credit for corporations who want to borrow, and the demand for commercial and industrial loans is picking up. Since capex is currently impeded by supply chain snarls, there is little reason to think momentum does not continue.

The surge in short-term rates since mid-September, which has since partially retraced, suggests that rate hikes across many advanced economies are likely to begin in 2022 – if not sooner. For the Federal Reserve, this would mean a much quicker pivot to tightening policy compared to the more than six-year lag between the end of the 2009 recession and ensuing lift off. The removal of central bank stimulus is, on the surface, a seeming negative for risk assets. However, investors must bear in mind that this withdrawal of support is linked to positive economic outcomes. In 2022, UBS AM predicts it will be clear that the removal of monetary accommodation is a function of not just the stickiness of price pressures, but also the strength of growth and progress towards full employment.

Notwithstanding the structural trend, there are a series of catalysts over the short term that point to the stabilization and perhaps modest pickup in Chinese activity. Robust demand from the US and European Union are driving the Chinese trade surplus to a record, underpinning domestic production. A turn in the credit impulse before the year is out should put another floor under activity. UBS AM forecasts that a more comprehensive recovery in Chinese mobility will be in the offing following the Winter Olympics, supporting efforts to rebalance growth towards consumption.

Nicole Goldberger, Head of Growth Multi-Asset Portfolios at UBS Asset Management, said: “Equity market indicators and sovereign bond yields suggest that investors are underestimating the runway for above-trend economic growth. We realize that such periods have been fleeting in recent history, which helps explain the market skepticism. Nevertheless, market pricing suggests a consensus in the return to mediocre growth. While the Omicron variant is likely to weigh on activity in the very near term, we do not anticipate it will cause a deeper or more prolonged drag on growth compared to previous waves of the virus. Ultimately, we believe much of the economic momentum that was building prior to this development will be retained.”

She continues: “Against this backdrop, we believe that risk assets most levered to cyclical strength are well positioned to outperform in a world of upside growth surprises that should propel bond yields higher. Investors should also consider exposure to commodities, both directly and through energy equities, to help offset the risks that inflation proves to be disruptive to both stocks and bonds.”