Featured Image

Life After Wartime

With the recent inclusion of David Byrne’s American Utopia on HBO Max we’ve been on a Talking Heads kick lately, sifting through their older music library and appreciating the band’s unique take on artistry. One of our favorite quirky songs remains Life During Wartime, where David Byrne juxtaposes his view of life during wartime with a reminder that “this ain’t no party, this ain’t no disco”. The song brought our minds back to the current tragedy unfolding in Ukraine and our common hopes that conflict ends soon. American Utopia’s central theme revolves around human connection which will be important as advisors help their clients navigate Life After Wartime. 

As investors and asset allocators, it is our responsibility to consider what happens next. There are some (re)emerging themes which will drive market discussion when the Russia-Ukraine conflict ends. Our team views these themes as important to contemplate today, including:

• Historically low capital expenditures in the commodity sector and a very tight labor market indicates the potential durability of inflation after we are no longer pricing in geopolitical risk.

• The Federal Reserve’s stance has changed and the Fed will likely raise rates, stop buying bonds, and reduce their balance sheet.

• The US Stock Market is in a transition phase, likely with new leadership and themes emerging.

These themes have roots in the past, are being impacted by the present, and require a flexible mental framework to understand potential impacts. Let’s dig in.

First, will we see a collapse in commodities once the Russia-Ukraine crisis is no longer reflected by investors in prices?

We believe the commodity price fire was lit long before Russia invaded Ukraine, growing into a bonfire heading into 2022 – with the current conflict only pouring more gasoline into the flames. Gasoline burns fast, hot and short but when it is gone the bonfire remains. As illustrated in the chart on the next page, the global underinvestment in natural resource exploration and production is down over 60% from its 2014 peak – and it appears unlikely that this trend will reverse in the near term.

In addition, labor markets remain historically tight by any measure driven by both cyclical and secular forces. As long as demand remains firm due to economic growth it will be difficult for companies to attract workers without increasing wages. The combination of high commodity prices and high labor costs will continue to be central to discussions in our Life After Wartime.

20220329-chart-1Second, the Federal Reserve is now in a tightening mode signaling increases to the Federal Funds rate, ceasing the bond purchase program, and over time shrinking the balance sheet.

Our view is the economy is strong enough and has enough momentum to weather a higher Fed Funds rate, however the shrinking balance sheet has implications for risk asset pricing. We’ve already seen reactions from very speculative assets – think high growth/no earnings equities and digital currencies – however as liquidity is withdrawn from the market we believe other assets will eventually be pulled into the discussion. Federal Reserve policy and actions will be central to our discussion in our Life After Wartime.

20220329-chart-2Last but not least we get to US Equities where we believe investors will digest and react to the changing environment through portfolio adjustments.

This transition phase in markets typically brings a period of volatility, followed by new sectors and themes emerging as leadership. With the significant context shift from low inflation and a dovish Federal Reserve to durably high inflation and a more hawkish Federal Reserve, it is unlikely market leadership for the next five years is the same as the prior five years.

Wrapping this all up, here at SS&C ALPS Advisors we are starting to think about what investors will be talking about in Life After Wartime. We believe now is the time for investors to remain mentally flexible to a changing environment. Active managers with the skill to navigate as markets adjust may be beneficial in constructing portfolios. And above all else, we believe periods of change are opportunities for investors to revisit their investment assumptions and position portfolios for the evolving investment landscape.

The overarching message from American Utopia is one of positive human connection which we believe is a great catalyst for investors to start thinking about Life After Wartime.

Important Disclosures & Definitions

Performance data quoted represents past performance. Past performance is no guarantee of future results; current performance may be higher or lower than performance quoted.

All investments are subject to risks, including the loss of money and the possible loss of the entire principal amount invested. Additional information regarding the risks of this investment is available in the prospectus.

Capital Expenditures (CAPEX/Capex/CapEx): refers to investments in physical assets such as plant and machinery. Numbers sourced from Bloomberg reported on trailing 12 month basis, per share basis.

Federal Reserve Balance Sheet: a report that lists the Federal Reserve's assets and liabilities which outlines what the Fed is doing to expand or contract its balance sheet as it implements its monetary policy.

S&P North American Natural Resources Index: a benchmark that represents US traded securities classified under the GICS energy and materials sector excluding the chemicals industry; and steel sub-industry. One may not invest directly in an index.

Tightening Mode: tight, or contractionary monetary policy is a course of action undertaken by a central bank such as the Federal Reserve to slow down overheated economic growth, to constrict spending in an economy that is seen to be accelerating too quickly, or to curb inflation when it is rising too fast.

ALPS Portfolio Solutions Distributor, Inc., FINRA Member.

APS001936 04/30/2023

Recent Two Minute Tuesdays