Updates on the Economy and Investment Markets 1-15-22

Welcome to the Stearns Financial New Year’s Chat, our 2022 Forecast Edition. In keeping with tradition, this first Chat of the year will be focused on our 2022 forecast and scenario planning. Why? Because decades of experience have taught us that scenario planning is extremely important when sailing uncharted waters. In-depth scenario work doesn’t always predict the future, but it does create discipline around the factors that will shift markets and the economy. And it is greatly helpful in determining the why, what and when of a change in strategy. This Chat edition is, therefore, dedicated to the many factors we are considering for 2022.

Ten SFG Forecasts for 2022

1. Inflation appears to be surging now and may average 4% for the year (some of which is expected coming up from the low base generated by the pandemic), but will calm a bit later in 2022, settling at a forward run-rate of 3-4% in 2023. Some personal budget items and corporate inputs to revenue generation will continue into 2023 at higher-than-normal inflation rates depending on ongoing supply chain issues and wage pressures.

Given last week’s headlines that “inflation hits the fastest clip since 1982,” you might wonder how much conviction we have around this forecast. The answer is Moderate Conviction. Discussions with many companies suggest that supply chain workarounds are occurring at the fastest pace in recent history, eventually taking pressure off inflation. High pent-up demand will persist, accounting for our belief that inflation rates will settle at 50-100% above the low trend of recent years.

Consider the classic inflation definition: Too much money chasing too few goods. Too much money will still be chasing products and services a year from now, but “too few goods” are likely to become more plentiful.

2. The Federal Reserve will raise interest rates at least three times, perhaps even four times, but still end the year with a Federal Funds rate well below the modest 2% level seen in early 2019. Markets will take this in stride.
3. Global economic growth, inclusive of the U.S., will be above average in 2022 as a result of pent-up demand and large consumer cash balances, both of which are expected to fuel a post-Omicron spending spree.
4. U.S. stock earnings will come in above trend as a result of pent-up demand, corporate expense trimming and the adoption of technology accelerators, all of which help increase free net cash flow.
5. U.S. stocks will take a pause and post below-average returns in 2022 as a result of the many headwinds we will discuss at our upcoming Investment Outlook (scheduled for January 20 – invitation forthcoming), with considerable volatility, but still end the year higher.
6. International blue-chip stocks will have a good year and post returns above trend. Current international valuations are significantly below the U.S. stock market; dividends are higher and many overseas companies have 25-40% or more of their sales in the recovering U.S. A weaker U.S. dollar could also be a 2022 tailwind.
7. Lower volatility alternative investments will have a solid year with returns competitive to stocks.
8. Hot real estate markets for single family homes will cool off a bit but remain robust in 2022. Over 40% of Millennials, the largest demographic group in the U.S., have a desire to be an owner instead of a renter, creating a tailwind for affordable housing.
9. The mid-term U.S. elections will see gains for the Republican Party in the House and Senate, further solidifying gridlock on major congressional actions. However, the gains may not be as dramatic as originally thought or history suggests. The latest polls suggest these races are tightening.
10. Bitcoin and cryptocurrencies will continue their wild ride up and down, with increased volatility as the U.S. government signals new regulations and greater crypto tax enforcement, plus the possible launch of a government sanctioned digital currency.

SFG’s Take: 2022 will be a good year to be diversified. There are many headwinds and tailwinds, likely to create more volatility in stocks than we saw in 2021. Alternative assets to traditional cash, bonds and stocks, especially in hard assets, remain an area of intense analysis and interest for SFG.

SFG Thought Leadership

• Dennis Stearns was interviewed by IBM.TV on a worldwide simulcast on 2022 economic and financial market forecasts. The program was simulcast on Facebook, LinkedIn, YouTube, Twitter, Twitch and Al Jazeera News. Primary points included the forecasts in this Chat, plus discussion of major themes to watch:
  • Demographics – One of the major Super Trends, it’s been said that “Demographics is Destiny.” Dennis discussed the poor birth trends in many countries around the world, and talked with former Comptroller of the Currency, David Walker, about the need to attract more legal immigrants to the U.S. to deal with this trend and today’s record job openings that can’t be filled. In December 2021, Elon Musk said this is a risk that is above all others – he called the demographic baby bust worldwide as “a threat to human civilization.” Musk is more concerned with under-population than over-population.
  • Rising Debt – Rising government and corporate debt around the world has accelerated with low interest rates and accommodative policies related to the pandemic. If left unchecked, this trend will eventually create a major drag on economic growth. Fortunately, the 2022 U.S. federal debt projections are forecast to settle back in spite of the large stimulus programs put in place in the last year, which have many dollars being spent spread out over the next decade. We are also fortunate that the U.S. is still the major reserve currency of the world, allowing more room for error. Dennis and Dave Walker agreed that more decisive action is needed by Congress and the President (current and future) to foster innovative growth and slow the growth of government debt. Walker and a powerful group of business and congressional leaders are working on updated fiscal discipline policies, an alternative plan to the current clunky debt ceiling rules that have become a political hot potato in recent years.
  • Technology Accelerators – another one of the Super Trends, technology, has been accelerated 10-fold by the pandemic. This is showing up in increases in net free cash flow in corporate earnings. This also bodes well for future advances in health care, energy and worker productivity.

You will be receiving an invitation to SFG’s 2022 Investment and Economic Update on January 20, 2022. We will discuss these issues and more including unique content not shared in our public financial literacy education.

Key Points to Consider

• Congressional Lobbyist Impact on Strong 2021 U.S. Stock Returns – Strategas reports that the removal of corporate tax increases in 2022 from the original Biden reconciliation plan may be one of the major factors for the strong rally in U.S. stocks in the last half of 2021. Massive lobbying efforts were largely responsible for the shift in proposed tax law. First, in revised drafts of the tax increases, the corporate tax increases were spread out over more years (as we reported in our Fall 2021 Chats) and then have been sidelined altogether as the Build Back Better Act was put on hold.

Strategas also believes the below-average correction in stocks of 5% in September could have been much larger if these changes weren’t underway by Congressional policymakers.

Summary

SFG’s three pillars of recovery remain in positive trend territory in 2022 although near-term COVID-19 outbreaks are being disruptive to normal life – we hope that the fast-burning Omicron wave marks the end of the pandemic and the beginning of an endemic stage, where COVID-19 becomes just another virus in the background.  

Wildcard risks (low probability, high possible impact) discussed in this and previous Chats remain, suggesting some caution.  

SFG is balancing numerous opportunities and threats in our portfolios, customized to our clients’ unique circumstances.

In growth portfolios, we are utilizing a variety of short- and intermediate-term asset classes with positive trends that we believe have favorable forward-looking risk/reward relationships.

In more conservative growth and income portfolios, we are maintaining good diversification while striving for positive real returns over inflation.

Our COVID-19 investing approach can be summed up by six themes:

• Diversification with a balance of offensive and defensive measures, depending on the desired risk tolerance of our clients,
• Underweighting, or avoiding areas of higher future concern,
• A focus on higher-quality investment themes,
• Identifying and implementing buying opportunities that may be appropriate for more growth-oriented portfolios,
• A more defensive stance using different portfolio tools for more conservative growth and income portfolios, and,
• Utilizing select alternatives to traditional bonds and stocks.

~ Dax, Dennis, Glenn, Jason, John and PJ
(the SFG Investment Committee)

Covid-19 Protocol Update

In an effort to comply with recent health guidance, we have instituted a mask-wearing policy for all in-person meetings and for all visits to our offices.

We request that you wear a mask, be fully vaccinated and exhibit no signs of illness in order to meet in person. We understand that these efforts, while intended to protect the health of our clients and staff, can be onerous.

If you prefer, we are happy to schedule a Zoom call.

Please continue to call or email beforehand if you intend to drop by our office just to make sure we have the right person available to help you best on that particular day.