Secular Trends for Long-Term Investors
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With the growth of ChatGPT and the release of Microsoft's CoPilot tool, I think it's an appropriate time to examine the disruptive technologies and secular trends facing investors today, as well as how to profit from them! But first, let me start with a quick market update.
Short Duration!
Since my last newsletter, there have been significant market developments, including the bankruptcy of Silicon Valley Bank (SVB) and two other financial institutions, UBS’s takeover of Credit Suisse, as well as activity from the major central banks. I won't go into depth on the SVB collapse as it’s well covered in financial news. What I will say is that SVB's demise was mostly the result of significant exposure to long-duration assets, such as long-dated (20+ years) government bonds.
Why is this relevant to us as individual investors? Equities, especially growth stocks (FinTech, EVs, and even Crypto) can be classified as long-duration assets. As I have mentioned many times before, and as posted on my Twitter account, long-duration assets get killed in an environment of high inflation and high interest rates. The SVB collapse is yet another reminder to stay clear of growth stocks. For now, the SVB bankruptcy does seem to have been contained (because of Fed/Government bailouts once again). However, taken in the context of the broader market this confirms to me that we will not return to a bull market any time soon. Banks don’t go bankrupt in a bull market.
Discussing reasons why we shouldn’t buy growth stocks in a secular trends article may sound contradictory, but I wanted to prove a point. Regardless of the long-term opportunities in many industries, investors must account for what is coming in the near term when allocating capital. All of the niches/themes I am going to discuss are long-duration and I believe will perform very poorly in the near term. I will use one chart to tell the tale… ARKK’s Innovation ETF:
Key Takeaway: Recognise the regime we are in. There will come a time to invest in high-growth stocks for the long run, but as we enter a growth slowdown/recession while inflation is at multi-decade highs and interest rates are rising at the fastest rate in recent history is NOT one of those times.
Now that we've clarified that, let's move on to the most interesting trends to invest in when the market bottoms!
Artificial Intelligence
Machine Learning and Artificial Intelligence (AI) appear to be the most relevant topics influencing investors in recent years. Not only is this one of the most intriguing niches to invest in, but it is also completely transforming the investment environment, as computers take over stock markets in both order execution and active strategy deployment. In my opinion, understanding and appropriately utilising this technology is critical to investment success as we transition to a more digitised world, whether an investor is discretionary or systematic.
Machines are more efficient, can process information 10 million times faster than the human brain, remember everything, and have no emotions. Surely this would be helpful when investing? At a minimum, having algorithms and models that provide investors with the information they need to make informed decisions aids the creation of a clear, disciplined process. This is one of the most important characteristics of a successful investor. For example, it may take you months or years to uncover trends in/between markets. Machine learning models can uncover and decompose these trends bias-free in milliseconds. Citadel and Morgan Stanley's recent partnership with OpenAI, the AI firm that owns ChatGPT, demonstrates the importance that organisations place on such technologies today.
You may be surprised at how prominent AI is already. 77% of businesses are either using or exploring AI today, and within the first hour of waking up you have interacted with 10-20 AI systems (mainly through your phone). For example, one-shot learning is used to unlock your phone through facial recognition! I do believe humans will still have a role to play in many industries, but machines will undoubtedly do much of the heavy lifting in the future... or the present… look no further than Microsoft’s recent release of CoPilot! The chart below tells us all we need to know. AI is dominating most functions in businesses today.
Source: McKinsey
Traditional Energy
Click the header to view a more in-depth analysis of each of the topics
Key points: Because of structural undersupply caused by ESG mandates and COVID-19, as well as OPEC+ production cuts, higher oil prices should persist. Oil companies trade at extremely cheap valuations because institutional investors shun them due to ESG considerations, providing retail investors with an advantage. Whether "Stop Oil" campaigners like it or not, oil and traditional energy drive GDP growth. We cannot transition to clean energy without oil since it powers the machinery, lorries, and other equipment required to develop this clean infrastructure. Once the market bottoms, a bet on a continued energy bull market could pay off handsomely!
Source: IEA
Nuclear Energy
Key points: Sprott and other ETFs are buying billions of dollars of Uranium and storing it in facilities until the price rises, causing the supply to tighten. In addition, following the 2008 Uranium price crash many miners have reduced production or switched their mines to "care and maintenance" until the Uranium price rebounds again. For mines to come back online, the Uranium price must be above $60 per pound on a sustained basis. Russia is also a main manufacturer of Uranium from its raw form into that needed to produce energy, but the west has cut them out due to the ongoing war. This all adds up to a very limited market supply for Uranium. Alongside this, nuclear reactors are much safer today than they were when Fukushima occurred. Uranium is also the most efficient fuel source for the clean energy transition, which governments are beginning to recognise.
Healthcare
Key Points: The Western world is ageing and becoming more unhealthy. There will be more diseases and more people to care for as a result. Obesity and diabetes rates are at an all-time high (see chart below) and are projected to increase in the future. Developing markets are gradually becoming more prosperous, with rising living standards. The need for healthcare is increasing at all levels. There are healthcare niches developing ground-breaking drugs for uncommon diseases and others developing new technology that will enhance the lives of many sick or disabled people.
UK Obesity Rates
Emerging Markets
Key points: Buying shares in any high-tech company that operates in Emerging Markets is a very high-beta approach to bet on the trends discussed. EMs benefit from higher GDP growth, a young population, and rising wealth, as covered in detail here. This should result in long-term investment opportunities in all of these high-growth industries. However, a strong US dollar and a sluggish global economy will likely lead to investing underperformance for EMs in the short term.
Other high-growth or tech niches:
- Cyber security
- Hydrogen, Electric, and Automated Vehicles
- Robotics
- FinTech
- Virtual Reality/Augmented Reality
- Genomics
- Internet of Things (IoT)
- Blockchain Technology
Recent Actions
With the recent banking crises, volatility has increased. The market will be a lot harder to predict this year as moves become more exacerbated and liquidity dries up. CTAs were hit hard during the aggressive bond rally last week, and the choppy markets mean they will be flip-flopping between long and short positions until a clear trend is re-established. This will exacerbate moves further, and this week’s FOMC meeting will be very closely watched following the SVB collapse. Markets are now pricing in more interest rate cuts towards the end of the year following a 25bps hike on Wednesday.
With this increased risk I believe it’s prudent to continue to reduce risk given my mandate of a single-digit drawdown this year. With the recent market turmoil, my max drawdown has been -5.8% for the year. Another move like that seen recently will undoubtedly lead to a fall beyond 10%, so I have decided to take proactive action. I don’t like selling into weakness, but given recent developments, I believe halving my Transocean position and adding another hedge is the best course of action.
Action:
Selling 50% or 77 shares in Transocean LTD (RIG) at a 67% profit (£133.62)
Short 1 S&P 500 Futures contract at $3947 (IG - Margin: £197.40, Notional: £3947) i.e. £1 per point [$3917 cash price for reference]
Portfolio Return Year-to-date: -1% vs S&P500: 1.6%
Total Return since inception (20/09/2021): 2% vs S&P500: -11%
Let me know your thoughts by emailing me at thesparknewsletter@gmail.com
See you next time,
Peter
Disclaimer
This communication is for informational and educational purposes only and should not be taken nor used as investment advice, as a personal recommendation, or solicitation to buy or sell any financial instrument. This material has been prepared without considering any particular recipient’s investment objectives or financial situation and has not been prepared in accordance with the legal and regulatory requirements to promote independent research. Any references to past or future performance of a financial instrument, index or structured product are not, and should not be taken as, a reliable indicator of future performance. I assume no liability as to the accuracy or completeness of the content of this publication.