As the world is trying to recover from the negative impact of the pandemic and while sanctions are becoming a common tool to overcome all kinds of competition between countries that picked different models of economic development, the world is also going through a change in investment models. What is going on, what trends are there on the financial market and how the changes affect the investment trends?
Old patterns breaking
Over the short period of time full of situations that are not typical for the investment world of the past 50-60 years, global investors have been cut off from their usual opportunities. The generally accepted patterns of making decisions in investment and tools which used to make these decisions described in corporate finance textbooks have stopped working. Let’s take some examples.
Long bonds. Even with high coupon, they have become an abstract investment because price setting currently depends more on the subjective creative activity of the monetary authorities rather than natural long-term trends of macroeconomic cycles.
Long mortgage. The statement that with long mortgage, the floating interest rate is more viable than the fixed one, which used to be a hard and fast rule of corporate finance, is no longer true.
The buy and hold strategy. This investment approach is losing its economic sense due to the monetary perversions of central banks expected in the coming decade.
ETF funds. The pre-pandemic practice was that it was easier to purchase ETF funds’ bonds for a wide market and forget about the travails of analytics on each company, but it has stopped working. In the past 50 years, the passive management of investment portfolio that included ETFs was viable because the active management brought results in only 5% of cases. The market it currently entering the stage when the active management of investment portfolio, its frequent rebalancing and even periodic abandonment of long-term portfolio can bring better results.
In addition, new digital assets are appearing and are used more actively such as abstract links to collections of material assets in ownership such as virtual machines, servers, apps, data, etc., and financial instruments such as cryptocurrency and tokens that have not yet become commonly used tools to make investment decisions.
Changes in the global market
Over the past 20 years, we have seen an increase in globalization – but geopolitical tensions and the pandemic have dashed this achievement of the mankind and led to vulnerabilities in global supply chains, negatively affecting the commodity market developments. The world has abruptly started moving towards regionalization, with unpredictable consequences for emerging markets. Rising costs have forced many countries to rethink related policies to keep up with the paradigm shift and achieve a sustainable recovery.
The green agenda has become less relevant. The severe global economic downturn amidst the pandemic as well as the EU’s initially contrived strategy of ESG (Environment, Social and Governance) have led to the inflation becoming increasingly widespread around the world, coming in higher than expected. Currently, even US politicians disagree on whether investing pension money in ESG-based funds is reasonable.
US credit policy
The developing long-term period of high interest rates in the US has served as a catalyst for outlining a new investment model for adopting investment decisions. Previously, increasing interest rates in the US led to rapid global rate hikes in nearly every country, almost without exception, with global investors utilizing a common strategy of hedging that had worked for years. But currently some countries such as Turkey, China, India, Malaysia, Indonesia, and Brazil are making attempts to reverse this dogma and taking actions in the opposite direction to pursue their own interests, such as to increase export competitiveness, even when their short-term effects include significant social burden for these states.
Experts often claim that the inevitable growth of interest rates in the US occurred due to the inflation surge following the US Federal Reserve’s injections of some $5 tln in the mass market in a coronavirus-related response. Yet, despite this being the sole circulating opinion, almost no-one speaks about reasons for the United States’ transition to a long-term period of high interest rates to solve the country’s pension system issues that have accumulated over the past 10–15 years due to lower rates.
As known, the US pension programs are based on conservative investments, with most of them ensured by the government securities and high quality corporate bonds. Due to the Fed’s extremely low rates, investing in such bonds makes no sense now; these pension systems have shown substantial negative results for a while, without generating positive cash flows.
With the pandemic causing a 10-12% annual growth in US dollar commodity prices while durable goods prices have already increased by 35-55%, the aforementioned bonds will not ensure a positive cash flow for individuals who will retire within the next 10-12 years. Although a half-measure, a temporary solution has nevertheless been found – namely, introducing long-term high interest rates now, albeit at the expense of a greater social burden of other states. Otherwise, the US would have to provide additional allocations from its budget for covering the cumulative gap and preventing massive social discontent that could have unpredictable effects on the US election results.
We can assume that the mistakes and problems of the last decade will soon lead to substantial losses in real money funds, and occasionally even to an increasing share of cash in long-term portfolios due to prolonged uncertainty. The stock market can experience a rise only in certain sectors. Even IT industry participants, which were immutable yesterday, will fall rendering citizens’ investment and pension savings worthless.
Digitalization of startups
Despite the venture capital industry suffering the largest outflow of funds in 2022, startups remain catalysts for global GDP growth and continue to outline a new investment paradigm. They have made a major contribution to economic recovery and will further serve as a driver for global innovation and business growth for many years to come.
Digital transformation of startups infiltrates both people’s lifestyle and business processes to provide solutions ranging from greater customer satisfaction to changing ways of doing business. The digital breakthrough brings sweeping changes that are pushing companies to face the challenges of ever-changing customer preferences and needs, forcing them to stay ahead of the curve in innovation and competition. With the use of IT developments, particularly Web 3.0, startups are now at the forefront of such areas as 3D printing, AI, cryptocurrency, e-commerce, and many aspects of modern consumer economy.
AI, machine learning and deep learning are spurring development in many sectors, such as healthcare, logistics, banking, finance, retail, and cybersecurity. According to crunchbase.com, investments in startups already reached $25.2 bln as of late August 2022; by late 2023, enterprises that achieved digital transformation are expected to account for more than half of the global economic output.
All of the above is only part of what transforms the modern capital market and the investment world, develops new approaches to building, expansion and distribution of capital, and changes consumption directions, some of which may grow into trends. Although we cannot yet claim that the global economy has adapted to the new normal, all these factors are accelerating the development of a new investment paradigm with many variables, which cannot yet serve as the basis for adopting investment decisions.
By Shakhram Gasymly, Ph.D. in Economics, investor, founder of SG & Richardson Trading DMCC