Brave New World - Edition 13

Equity sector performance during different macro conditions

• Although equities in general have performed quite poorly in high and rising inflation environments, there are potential areas that have historically performed better at the sector level.
• High growth stocks tends to underperform in a US rate hiking cycle with inflation scares leading to investors rotate away from high-multiple tech stocks and into sectors that hold up better in a rising rate environment. Those include financials, energy as well as industrials and real estate. (Source: Visual capitalist)
• For instance, the energy sector, which includes oil and gas companies, is one of them. Such firms beat inflation 71% of the time and delivered an annual real return of 9.0% per year on average.
• 2010-2020 was all above asset light + growth model. We believe next decade is all about asset heavy companies i.e., essentially industries which are capex intensive and see operating leverage kick in as volume increases. Prefer "Asset owners" for this decade

Colombia : This LATAM country grows at the fastest pace since past 115 years

Inflation hits the Grocery store

• The current supply squeeze is one of the worst seen ever. The disconnect between demand fundamentals and food and energy prices is simply eye catching.
• The FAO’s gauge of global prices has jumped about 75% since mid-2020, eclipsing levels seen in 2008 and 2011 that contributed to global food crises. Last month’s surge helped prices round out a seventh straight quarterly gain, the longest such run since 2008.
• The weekly earnings in U.S. are now running below trend, when you adjust for the most recent price trends, which is a massive change in scenery when compared to 2020 and 2021.
• When necessities turn more costly, it simply means people will stop buying discretionary stuff soon. This also means that the price on everything you need will remain high, but the price on everything you don’t need will start dropping soon.
• Will this lead to disinflationary trends on non-essentials in H2-2022 in to 2023?

Economic Activity is energy transformed

• Ultimate resource which acted as decision maker for global liquidity flow was ‘Energy’.
• Until 2000 – 2010 middle east and developing countries like China dominated era of cheap fuel which in turn reflected in their Stock market returns. (Source: CNBC)
• However, past decade saw tables turned as massive US shale oil & gas exploration which led them to be energy independent. US equity index has seen unparallel journey upwards since then.
• But, after destroying much capital, the shale revolution is now over as witnessed by rising prices (on the rise even before the Ukraine invasion ) and lower production. (Source: CNBC)

Will Fed rate hike be fast paced?

Current inflation prints of ~8.5% is the highest reading seen since the past 40 years. Market expectations are like the last time, Fed would hike rates to combat inflation, although this might lead to rise in unemployment with recession fears. Three reasons on why this time is different -

• With the highest inflation numbers on record, last seen 40 years ago, the Fed cannot raise rates sharply like it did in 1980 to fight inflation as even modest increase will impact US Debt/GDP simultaneously affecting both US interest expense outflow and tax receipts with lower GDP prints due to rate hike induced recession.
• U.S. is data driven economy and latest numbers indicate that consumer spending has been slowing down (Consumerspending is ~70% of US GDP)
• Fed minutes mention that they were prepared for 50 bps hike last time but had to trim this down due to situation in Ukraine. Will global instability rise due supply side issues after Russia sanction and will this force the reserve currency to slow down on the pace of hike (Egypt is dependent on wheat from Russia/Ukraine, Europe on energy imports from Russia).

Team

Management

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