Where Do We Go Now?

Market trends change, but informed investors ride the ever-changing waves.

By Michael Schmanske

[ORIGINALLY APPEARED IN MDNEXT Q4-2022]

In the past I’ve told readers I’d give some idea of what to do next, or at least what to watch for. This is not official investment advice and I am not a financial advisor. I am an educated guy with experience and an opinion which you may or may not find helpful. That being the case, I’d like to give you some food for thought that may help drive your personal investment decisions over the next decade. Yes, decade.

It’s not the very beginning, but it’s still a very good place to start

The ‘70’s were all about stagflation, and inflation hedges outperformed in an otherwise crummy market. Agriculture, mining, gold and base materials did ok, but the best thing that could be said about the ‘70’s is that they finally ended before disco killed us all. The ‘80’s started to get interesting as high interest rates in the beginning of the decade led to the Fed gaining control of stagflation. The newly stable financial markets led to an outperformance of classic value stocks: Consumer staples, healthcare and utilities all outperformed. Eventually that stability and leveraged buyouts created a value bubble in stable cash cows, and it ended badly with the 1987 market crash. Interestingly, the nadir actually occurred with the savings and loan crisis of the early ‘90’s and the resulting washout along with Desert Shield set the stage for the ‘90’s tech rally.

Modern markets and the
world of CNBC

The 1990’s were the beginning of modern markets. Retail investors got involved and computers changed the world. Anything computer did well, anything internet did even better. CNBC was on every TV, hot dog vendors became day traders, Y2K was coming and the Central Bank kept monetary policy very loose in preparation. Arguably they kept rates too low for too long leading to rampant speculative behavior and when the bubble burst in 2000 there was much weeping and gnashing of teeth. Like the ‘80’s, the actual end didn’t occur until the telecom credit market washed out. In 2002 Enron and Worldcom collapsed and we once again invaded Iraq in 2003. Iraq had better be ready for us—we don’t have another George Bush to elect, but the symmetry is impressive. Maybe we can just visit this time?

The 2000’s returned us to non-technology companies. Biggest performers were banks, energy stocks and home builders. Note: Technology companies from the ‘90’s were persona non grata until AFTER this regime ended with the Global Financial Crisis in 2008. Instead of invading Iraq that time, we began the greatest monetary experiment in history.

The 2010’s were all about low interest rates. Globalization took over and logistics became king (the real power of Amazon wasn’t tech, it was LOGISTICS) and the anti-inflationary forces Cathy Woods loves so much meant that easy money was here to stay. Or at least it was here for a while.

“Oops I did it again”

Here we are! It’s the 2020’s and we begin the story with a crisis, monetary policy held too loose for too long and the bursting of a decidedly speculative bubble. We can’t follow the ‘70’s or the ‘90’s playbook since history doesn’t repeat—it rhymes. The pain is real for holders of spec-tech, meme stocks or crypto, but it didn’t infect the rest of the market this time. Thankfully we did learn one lesson and the world stayed away from the leveraged finance lotus flower (we think).

Instead, watch out for government finance problems as rates go high and stay there. No guarantees one way or the other, but if you want some canaries for your debt bubble coal mining, watch municipal bond defaults and European government bond yields.

In the U.S., if things go badly it will happen first in your big blue cities in the big blue states like San Francisco, Chicago and New York. It should be remembered that the ‘80’s unwind included restructuring of Orange County California and the New York City bailout. Also pay very close attention to how the European Central Bank (that’s their “Fed”) manages its way through the inevitable debt restructuring of the PIGS: Portugal, Italy, Greece and Spain. Because of the Russian games, this time their pain will be felt in the cold countries too, so watch Germany, Poland, Slovakia etc….

“…Baby one more time”

Even after the darkest night, the sun will rise again. So what do we focus on for the next cycle? Let’s look back at the common features. First of all, one cycle’s darlings are never the stars of the next. As much as the narrative may suggest that the survivors go on to rule the market, they usually have to spend some time wandering the wasteland first. Microsoft was dead money during the 2000’s as was Amazon. CSCO, Juniper Networks and Intel never regained their lofty peaks. Google, Netflix, Tesla and Facebook all started in the 2000’s. The hot companies that cycle were finance (dead money), energy (wasteland still, even with oil at $80+/barrel), and homebuilders (like rubbernecking at a car accident). Those are probably decent value sectors to watch, along with big company healthcare and mining and materials.

But they won’t get the real attention. For juicy growth you need innovation. OF COURSE I’m going to say early stage healthcare! Readers will know that I’m at AngelMD for a reason—and it is not desperation or foolishness. But what else should we be watching? Technology and innovation is a big field, and we can find areas that are interesting. I would look at the sectors that

• Have positive secular trends
• Arte still a little early, but not too early
• Haven’t been picked over or SPAC’d like crazy.

So what WILL work?

• Anything that addresses the following secular trends will work:
• Aging Population—We’re all getting older, especially the population demographics of the wealthiest countries.
• On-shoring, and improved supply chain robustness—Globalization is here to stay, but the entire world now knows that we must improve the flexibility of our supply chain.
• Workforce optimization and automation—3.6% unemployment and inflation; an aging workforce increased desires for flexibility and increased wages.
• The Environment—Agree or disagree on the premise, the green movement will continue.
• The rise of “the rest”—You will be hearing more about “The Global South” and as those populations become more wealthy they’ll want stuff too.
• Tightening government spending—Maybe this should be #1. We’ve been living in a fantasy world of low interest rates. No government is prepared for what a real interest rate policy will mean to budgets.

My space is limited, so I’m not going to go into deep detail on the sectors I’m watching. Also I’m still feeling this out and the facts on the ground are always changing. But here are some sectors which meet the above conditions.

Leaning away from:

• Space companies—too early, too SPAC’d
• Electric vehicles: Too picked over, too competitive, too 2020
• Anything with “social” or web 3.0—Too picked over, too 2020
• Anything that is a real company but whose value got juiced because people decided to call it a tech company—SO 2020
• Every COVID darling—don’t make me say it.

Leaning into:

• Startup Healthcare—(Natch) Seriously folks, I’ve said it before so now I’ll just move on.
• Exotic materials fabrication—Rare earths to superconductors and graphite composites
• Bio-whatever—This may be biotech therapeutics and MRNA for everything, but also watch for biomechanical crossover, bioenergy, biocomputing, and bioengineering.
• Alternate energy sources—Yeah it’s played out—except it’s really not. From kinetic energy storage to improved networks and nuclear energy
• Alternate food sources—The stupid hype around veggie meat is only stupid in that it isn’t all that impressive, it’s too early and there is so much more work to do.
• Robotics—Implementation into daily life. I saw a cool company working on an automated fast food kitchen. So now I don’t even have “fry cook” to fall back on as a backup career.
• Artificial Intelligence—Don’t focus on the cutting edge obvious. Think about what it means in real world application.
• The next computer revolution—Includes Metaverse and Quantum Computing

Hate these ideas or love them? Let me know what you think. I’m more confident in the reasoning than the results and intelligent investors can disagree: “It takes a market” and it makes one too.

Michael Schmanske is a 24-year Wall Street veteran with experience on trading desks and asset managers. He is the co-founder of Prognosis:Innovation as well as founder of MD.Capital.