Last week I wrote about Everything is Getting Crushed where I looked at all the major assets classes to see how they were performing so far in 2022. We saw that everything but Oil and Commodities were getting crushed.
Today I want to lift the bonnet on Australian and global equities. Although the broad indices, as shown in last week's note, all around the world were down, I think it's worth while looking into which subsectors of the market are holding up. And by "subsectors" I'm talking about factors.
Think about factors as a strategy, which chooses investments based on certain characteristics with higher expected returns. They're typically systematic, or rules based. Understanding factors and factor based investing really allows you dissect the broader market and find out the true drivers/detractors of return.
Different factors respond differently to the different market cycles. Yet the challenge remains, no one really knows when the cycle will turn, which is why diversification continues to remain the only free lunch in town.
Here is how each of the major factors have performed during 2022 so far:
Sure, everything is getting crushed yet again, but you can see the major detractors to return - and that is Growth orientated stocks. Value stocks, especially Australian Value stocks, banks and commodities, are ripping higher.
Let me explain what is going on in markets right now. And it all boils down to one fundamental issue - interest rates. That's all you need to know. And this has profound implications on different companies who exhibit different characteristics. When interest rates are low, or at zero, investors are willing to invest/lend their funds in/to companies who may not be making money right now, with a view that (no guarantees) they will start making money sometime into the future. Think technology stocks as a timely example. And for taking this risk, the investor expects to be compensated for taking on this risk. Rates are low, the investor can take the risk and can wait for the return - whether this is 5 years, 7 years, 10 years, whatever.
When rates are high, this is where the problem is, investors want a return on their capital now. Not tomorrow, not in 3 years' time, not in 5, 7, and sure as hell not in 10 years' time. And so what we see is a sell down in the these so called Growth companies and investors redeploy to companies who are actually making money right now. Boring companies. Think banks, energy, consumer staples.
This is the bottom line. Add recession talks to all of this and it is an absolute recipe for disaster. And this is why we are seeing what we are seeing in the stock market. Well, why don't we just sell all our Growth stocks and just buy Value stocks? This is a classic investor mistake - buy high, sell low. And so how do investors make sense of all of this? It goes back to risk versus return. Understanding how much risk one can tolerate, how much risk one can take, and how much risk one should/needs to take. These are very distinct questions. Rather than focussing on the choices one can control, investors will fall into the trap of making fundamental investing errors. And the biggest one in my mind is attempting to time the market.
Whether you are waiting for the stars to align to move into the market, or whether you decide to "wait for the recession", or whether you decide to move from one sector of the market to another, let me assure you this - the market will have moved well and truly in advance of you receiving the information, confirmation or assurance you are seeking. It's a game of chance and dumb luck. Which game do you want to play?
My colleague Matt Rigby and I talk more about this in last week's The Wide Lens podcast.
You can also listen to the podcast on Spotify or wherever else you listen to your podcasts.