We're Still Bullish; GDP Continues To March Ever Higher!
publication date: Apr 14, 2022
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author/source: Brian Nelson, CFA
By Brian Nelson, CFA
We believe there will be continued strength in the equity markets during the back half of this year and into 2023. There are myriad headwinds to this bullish underlying thesis, but big-cap company fundamentals remain strong, and we think this will become evident during first-quarter 2022 earnings season, which is already upon us.
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We think the market is paying attention to all of the wrong things. Certainly, interest rates are important and Fed rate hikes could dampen growth, but the reality is that interest rates are still at all-time lows, and we doubt that the Fed will do anything to impact the wealth effect it fought so hard to preserve during the depths of the COVID-19 pandemic. The Fed is helping guide these markets, and we think people are overreacting to their "corrective" measures to ensure long-term market health.
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Broad market indexes that are top-heavy ("overweight") some of the strongest, big-cap tech names has been surfaced as another concern, but the reality is that we're okay with some of the indexes overweighting some of the best ideas. There's a reason why the S&P 500 (SPY) is down a modest ~6% this year, while some of the more speculative names such as in the ARK Innovation ETF (ARKK) are down almost 40% year-to-date. One ETF is overweight great companies with huge net cash positions and strong free cash flow generating abilities, while the other is overweight speculative names that are built on "castles in the air."
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Stocks such as Apple (AAPL), Microsoft (MSFT), Alphabet (GOOG) (GOOGL), Amazon (AMZN), and Meta Platforms are huge companies with large market capitalizations for a tangible reason, too: They aren't overpriced bid up by speculators that have hope as a strategy, but rather they have excellent net cash rich, free cash generating, moaty business models tied to long-term secular growth trends, all of which offer fundamental support to their prices! We'd go so far as to say that we're huge fans of the overweighting of large cap growth in most broad market indexes, as it has and will likely continue to benefit investors tremendously!
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The inflation fear-mongers are out in full force. When it comes to inflation, however, it could be a positive or negative depending on the company. Strong large cap growth entities are in a great position to price their products ahead of the rate of inflation, while some consumer staples entities with large net debt positions may struggle given possible consumer trade-down impacts. Within the context of enterprise valuation, we view the concept of inflation as practically equivalent to "pricing power" for companies that have it. That can be a good thing.
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Image: "Gross domestic product (GDP), the featured measure of U.S. output, is the market value of the goods and services produced by labor and property located in the United States." Image Source: BEA
Above is a long-term chart of the gross domestic product (GDP) of the United States in the post-World War II period. The shaded areas are recessions. You can see how far we have come from the depths of the Great Financial Crisis in 2008-2009, and how far we've come from the COVID-19 shutdowns. The United States' economy is roaring, and while nominal GDP may be (positively) impacted by stronger levels of inflation, again, that is not necessarily a bad thing for companies that can manage their cost structure effectively to drive real earnings expansion.
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We're not expecting a recession anytime soon, but one thing is clear: The United States' economy has emerged stronger from the worst economic collapse since the Great Depression in the Great Financial Crisis, and the United States' economy has emerged stronger from the worst health crisis since the Flu Pandemic of 1917-1918 in the COVID-19 outbreak. We doubt a recession in the United States is on the horizon, but if it is, the United States' economy will bounce back and bounce back stronger. Any impact from a modest recession is also largely captured within the fair value estimate ranges of many of our valuation models, too, so we're not panicking at all.
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Remember: Diversification is a means to achieve your goals, not the goal, itself. Make sure that you're selecting the "right" investments for you, not blindly diversifying across myriad asset classes in a way that may only will hurt your long-term performance. Happy investing!
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Tickerized for SPY, ARKK, AAPL, GOOG, GOOGL, MSFT, AMZN
Brian Nelson owns shares in SPY, SCHG, QQQ, DIA, VOT, BITO, and IWM. Valuentum owns SPY, SCHG, QQQ, VOO, and DIA. Brian Nelson's household owns shares in HON, DIS, HAS, NKE. Some of the other securities written about in this article may be included in Valuentum's simulated newsletter portfolios. Contact Valuentum for more information about its editorial policies.
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