Braving bear markets: Avoid the winners of the last cycle

My experience has taught me that markets have long cycles. I believe the pandemic marked the end of the post-global financial crisis cycle — a cycle dominated by deleveraging, demand shocks and expanding globalisation. These conditions led to looser monetary and fiscal policy, low cost of capital and stock price inflation. 

Today we are at the beginning of a new cycle, one that I expect will be marked by deglobalisation, a shrinking labor supply and decarbonisation — conditions that will lead to a shift from asset price inflation to goods inflation. Profit margins and highly valued stocks will face continued pressure. Because I expect generally higher inflation during this period, I want to steer clear of many of the fast-growing primarily U.S. companies that were the winners of previous cycle.

Market leadership often changes after a bear market

Sources: Capital Group, MSCI, Refinitiv Datastream. Returns shown are from the MSCI USA Index and are absolute total returns in U.S. dollars. For the tech bubble the dates represented are December 31, 1996, to March 31, 2000 (before bear market), and September 30, 2002, to December 30, 2005 (after bear market). For the global financial crisis the dates represented are December 31, 2003, to September 28, 2007 (before bear market), and March 31, 2009, to December 31, 2013 (after bear market).

When cycles shift, market leadership changes. So, in today’s rising rate environment, I am focused on opportunities to invest in lower priced companies that generate strong cash flow. I think of this theme as the Revenge of the Nerds. I am generally staying away from the cool kids of the last decade — glitzy tech and media companies — and looking for opportunities among the unpopular kids in those industries hurt by the low cost of capital, poor capital allocation and adverse regulations. Some examples here might include leading telecom companies in markets like Europe, Mexico and Japan. In fact, I am focusing largely on companies outside the U.S. In my view, many U.S. companies have benefited more from globalisation and the low cost of capital than similar companies in other markets.

Given recent fears of deglobalisation and rising inflation, I am looking at companies in Europe and Japan, as well as emerging markets that I have covered for decades. This might include, for example, commercial banks and consumer staples in China, but also in Italy, France, Japan and Latin America.