Interest rate hikes, inflation, geopolitical tension… Portfolio Manager Anshu Sharma discusses semiconductors (chips) and why we think they are so important over the next three to five years.

In this video insight, Roger discusses how the fate of equity markets now hinges materially, but not solely, on the employment picture and the how central banks navigate the very serious choice they have to make between inflation or recession.

Transcript 

Roger Montgomery:

Immigration. It's the most convenient solution to the wage pressure now being felt across the developed world, the pressure that could entrench inflation through a wage/price spiral.  You may have noticed, hoped-for immigration is not ramping up. From the UK, to the US, New Zealand and here, the world is awash with jobs and nobody to fill them. Consequently, business are forced to pay more, workers and unions are demanding more, and already high supply-led inflation justifies the demands for growth in real wages. 

So, what happened?

Well, you might remember during the worst part of the COVID pandemic, Australia was one of many countries that offered fiscal support to those out of work or underemployed. Here in Australia it was JobKeeper that kept the economy humming. Temporary visa holders however, including international students, and casual workers who hadn't been employed for 12 months were notably excluded from the program.

More than a million people in Australia were on temporary visas and they were excluded from the government's support payments; that's about 500,000 international students, 140,000 working holidaymakers, 120,000 skilled temporary entrants, 200,000 bridging visa holders (who were largely partner visa applicants or asylum seekers), and more than 16,000 temporary protection visa holders (commonly referred to refugees).

In the absence of support many simply went home and many of those may not want to return. Meanwhile, those that do want to return, or visit for the first time, face egregious airfares thank to limited airline capacity and international air travel operating at about 40 per cent of pre-pandemic levels.

The longer the situation persists the sooner inflation ceases being solely a supply chain issue­ - out of the control of central banks ­- to a more endemic demand-led issue central banks will be forced to act on more harshly to control.

The fate of equity markets now hinges materially, but not solely, on the employment picture and the how central banks navigate the very serious choice they have to make between inflation or recession.

The US Federal Reserve is very focused on inflation which is currently at 8.6 per cent. Just recently, The Federal Reserve's Chairman Jerome Powell said it will not let the economy slip into a "higher inflation regime" even if that means raising interest rates to levels that put growth at risk.

The U.S. central bank has moved to a do-whatever-it-takes approach with Powell saying "The clock is kind of running on how long will you remain in a low-inflation regime … The risk is that because of the multiplicity of shocks you start to transition into a higher inflation regime, and our job is to literally prevent that from happening and we will prevent that from happening".

Thanks to that very tight labour market, demand remains strong and supply chains cannot cope. Consequently, what was previously thought of as being transitory inflation, is becoming entrenched. Higher wage demands come next and following that…a wage price spiral. A slowing economy is necessary to bring down demand, and a recession, in particular for the US and Europe, may be unavoidable as the US central bank leans towards killing inflation at all costs.

Meanwhile the liquidity that was injected into the financial system and economy during the pandemic is being withdrawn. US QT 'officially' started in June, but the 'effective' global balance sheet has already shrunk by US$1 trillion since December 2021. In such an environment - money literally being sucked out of markets - it is difficult for asset prices to rise materially or sustainably.

And none of that addresses heightened geopolitical risk or a potentially collapsing Chinese economy.

Great returns come from buying at low prices and I have presented widely elsewhere on the blog about the arithmetic of investing in growth amid compressed PEs. It may just be that even lower prices are possible.

Speaker:  Roger Montgomery, Chairman and Chief Investment Officer

Tech stocks have borne the brunt of the recent sell off in equity markets and with the Nasdaq firmly in bear market territory, it is unprofitable tech stocks that have been hit the hardest - down almost 60% this year.

But amid these sell offs, there can be category leaders that fall to attractive valuations, relative to their long-term growth profile. Seagate Technology (NASDAQ: STX) is an example of this today. It's a beneficiary on the ongoing trend around data moving to the cloud as our lives become increasingly connected, and it's priced at just 8x next year's earnings. 

In this episode, Alison Savas hosts a deep dive into the company.

Part one (2:20): Alison interviews Seagate Technology Executive Vice President and CFO, Gianluca Romano. 
Part two (22.00): Alison is joined by Graham Hay (Antipodes Portfolio Manager of Hardware, Industrials and Commodities) to discuss the Seagate investment case.

Antipodes has owned Meta (previously Facebook) since the end of 2018 and despite the recent volatility in which many sold out of the company, it remains one of our top 20 holdings. 

We think that even though competition for eyeballs is increasing, and will continue to increase, the digital advertising pie is growing, and Meta can continue to dominate advertising revenue over our investment horizon. Further we believe there are opportunities to increase the monetisation rate of core Facebook and Instagram.  

In this new podcast episode, Alison Savas is joined by Ben Legg, one of the world's leading authorities on the digital advertising industry. Ben is a former Google COO, and now helps global brands advertise on social networks.  

Some key points covered include:

• Overview of how online advertise works today (04:00)
• The digital advertising landscape and why digital advertising as a percentage of GDP is likely to grow (07:30)
• The rise of Tik Tok (10:50)
• Meta's advertising technology and why it's seen as being superior to competitors (12:00)
• How Meta is moving to maintain user engagement (21:10) 
• Can Instagram become the world's biggest fashion retailer? (28.30)

Leaders indicators warn of global recession

Central banks state they are not seeing signs of a recession as they continue hiking rates to curb spiralling inflation. But with forward indicators flashing red across the board, low consumer confidence, declining forward sales, the US yield curve beginning to invert, and the continued drop in the global equities, markets are telling us they see slowing growth ahead.

Will the RBA pause in August, or will they continue to tighten at the fastest rate we have seen in 30 years and drive the country into a recession?

Speakers: 
Darren Langer, Co-Head of Australian Fixed Income &
Chris Rands, Senior Portfolio Manager

Speakers:

Gerald Stack, Head of Infrastructure
David Costello, Portfolio Manager
Ofer Karliner, Portfolio Manager
Ben McVicar, Portfolio Manager
Jowell Amores, Portfolio Manager

Time stamps:
22.00 Infrastructure review by sector
45.00 Impact of inflation and interest rates
48.15 Opportunities and risks from the energy transition
58.46 Safe transition methodology
1.00.00  Conclusion
1.04.00  Q&A

In this week's video insight Roger discusses what could be next for the stock market. We already know that P/E ratios have compressed considerably, and taken into account all of the increase in bond rates. What they haven't done, of course, is priced a very significant recession, nor have they priced the possibility of a financial crisis of any description. But what happens if rates stop rising, and if economies don't go into a recession, and we don't get a financial crisis?

Transcript 

Roger Montgomery:

Hi, I'm Roger Montgomery, and welcome to this week's video insight. Well, bearishness pervades almost every corner of the market at the moment. In my travels, in talking to brokers, other fund managers and economists, I don't find many people who are very bullish at all. In fact, most of them expect another leg lower in the stock market. Of course, for me, that starts to become optimistic because if everyone's already bearish, there's not many others left to become bearish. Those who are bearish have already sold, there's not many people left to sell, and so it may be that prices are now on the cusp of a bounce.

But rather than speculating about that, let's just think logically about what could happen next. We already know that P/E ratios have compressed considerably, and taken into account all of the increase in bond rates. What they haven't done, of course, is priced a very significant recession, nor have they priced the possibility of a financial crisis of any description. We'll address those two subjects in a moment.

But if rates stop rising, and if economies don't go into a recession, and we don't get a financial crisis, then there's a very real possibility that the indiscriminate selling that we've witnessed recently becomes something more discerning and buyers return to the market to look for downtrodden, high-quality growth companies. That's one possibility. The other possibility, of course, is that the deterioration in consumer confidence, such as what we're seeing in New Zealand at the moment, after five interest rate increases there, and a similar event here in Australia is a consequence of rising prices as well as declining property prices, could result in less funding being available to venture capital and private equity companies. If that happened, then that would mean a lot of people who are currently employed, thanks to the altruism of shareholders, could become unemployed.

There's also a more significant possibility that those people employed in construction, and remember construction is the third largest employer in Australia, there's a very distinct possibility that those people have less work on. And that's because falling house prices and rising costs make people defer or delay any alterations and additions that they might have conducted on their properties. And so it's significant to think about, or important, rather, to think about the possibility that we get rising unemployment from those sectors of the economy that are being funded by altruistic shareholders, those who have previously had very cheap money or free money to access to be able to fund startups, venture capital and private equity. Or there's a possibility that we see unemployment rising amongst those people in the construction sector.

Now, thinking through the transmission mechanism of that, if that happened, then we would get a much more significant decline in economic growth, and then the possibility of a recession goes up. But as I said earlier, in the absence of a recession and in the absence of a financial crisis, and I don't think any of those two things are very likely right now, then we're in a situation where we've had indiscriminate selling, pushing P/E ratios very, very low, and that of course means the possibility of better returns in the future. So if indiscriminate selling gives way to more discerning buying, we'll get an expansion of P/Es again, and that will increase the return available, that would normally be available, rather, just from the earnings growth.

So my suggestion now is to start dipping your toe back in. It's not a recommendation of course, but it's something that I'm doing myself. I don't know whether prices will rise from here or continue lower. It could be that the rest of my peers in the market are absolutely correct and we get another leg down. I just don't know. But I do know that there are some mouthwatering opportunities already appearing, and rather than try and predict what prices are going to do next, I'd rather start filling my portfolio with wonderful businesses at rational prices. That's all I have time for today. I look forward to speaking to you again next week, and in the meantime, please continue to follow us on Facebook and Twitter.

Speaker:  Roger Montgomery, Chairman and Chief Investment Officer

Bennelong's Dave Whitby speaks with Greg Goodsell, 4D's Global Equity Strategist, about 4D's unique country review process - an integral part of the business's investment process - and its impact on the portfolio.

• 0:32 - How Russia stacks up in 4D's country review process 
• 2:06 - The origins and purpose of the country review process
• 3:11 - Red, yellow and green: the four-step process behind 4D's traffic light system (and the subsequent implications)
• 5:45 - Examples of when the process has unexpectedly changed a country's rating
• 8:01 - Global recovery, growth, and opportunities in an inflationary environment

For more detail on our country review process, you can read our Global Matters article: Why country risk matters