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Epochs determine investment scope and returns. Today, Thomas Malthus may be more relevant for investors than Graham and Dodd.
Historically, wealth accretion was tied to economic growth. In the 1980s as GDP per capita, especially in developed economies, stagnated, this relationship decoupled and was augmented by debt and financial engineering. Explicit or embedded leverage amplified returns. After the 2008 Great Recession, incontinent fiscal and monetary policies exacerbated this trend.
Economic growth is unlikely to return to previous levels due to poor demographics, sanctions and trade barriers, decreased cross border investment flows, slower productivity improvements and limited impetus from innovation, now marginal rather than revolutionary.
Moreover, climate change, resource constraints, geopolitical and social tensions are further retardants. The ability to drive returns through financial means is limited by crippling debt levels and normalization of interest rates.
Investment strategies, sector- and stock selection need to adapt.
1. Constrianed consumers: Static real income levels and constraints on increasing borrowing will drive a shift away from consumerism. Strong returns cannot rely on taking advantage of expansion in consumption, both in developed and emerging markets, and investment in support of this.
Purveyors of non-discretionary items face difficulties. The rerating of platform or marketplace businesses, essentially conduits for purchases, and those reliant on advertising goods and services evidences this. Trade wars, especially between the U.S. and China, will limit multinational or export-oriented businesses.
2. Shortages: The integration of millions of workers from emerging economies, especially China, into the global workforce will no longer drive higher productive capacity and lower costs. Economic nationalism and resistance to immigration exposes the problems of aging populations. Scarcity of food, water and non-renewable raw materials are likely due to rising demand, inadequate investment and declining yields. The energy transition will strain supplies of copper, lithium, nickel and cobalt.
Average grade of copper mines, for have fallen from about 2.5% 100 years ago to about 0.5% today. Nickel, lithium, cobalt, and copper make up 0.002% to 0.006% of the Earth’s crust vs. iron 5%, aluminium 8%.
Businesses with reliable and cost effective access to labor and raw materials will have an advantage. Workarounds, such as reuse or repair to lengthen working lives, recycling, substitutes and automation (robotics and AI rather than the metaverse), will be important.
Cost constraints: Restricted availability and higher costs may coincide with strong demand for capital. Overcoming various shortages will require investment in “atoms not bits”. Capital-lite business models, where scaling up is relatively low cost, is mostly illusory. As Amazon.com
AMZN,
and Alphabet
GOOGL,
have discovered, large-scale expenditure in physical facilities, logistics, technology and data centres is required. Businesses with access to funding and disciplined capital management will be favoured. The rerating of profligate tech firms reflects this reality.
“ Geopolitical tensions favor the military-industrial complex. ”
4. Arms race: Geopolitical tensions favor the military-industrial complex. Economic conflict in the age of what Franco-British humanitarian Edmund Morel called “peacewar” means that cross-border investments and production or supply chains carry greater risk. Domestic or near-shored firms may offer greater certainty.
5. Big government: Scarcity and national security concerns dictate that the government’s role in the economy will increase. This may include rationing, quotas, state control of industries and government interference in allocation and pricing of credit. In 2022, Europe implemented many of these measures including de facto nationalization, such as France’s buyout of EDF. Led by the U.S., governments have embraced industrial policy and are actively trying to shape strategic sectors, such as semiconductors and energy. State involvement alters investment opportunities. It also benefits firms positioned to take advantage of state benevolence.
6. Social unrest: As reality fails to match expectations for many, the post-war social contract will be rewritten. Strikes and street protests in Britain and Europe over the cost of living, wages, pension reforms and health services are symptomatic of these tensions. As French political scientist Alexis de Tocqueville observed: “Evils which are patiently endured when they seem inevitable become intolerable once the idea of escape from them is suggested.”
“ Established ways are no longer working and a more radical adjustment is under way. ”
Government intervention in market functioning or business decisions to placate vocal minorities or address inequality and inequities may affect returns, especially in sectors such as health and aged care as well as utilities that impact upon the cost of living. Operational interruptions are likely. Physical safety of assets may be compromised. Providers of security services and surveillance technologies will benefit.
The shift from an age of relative abundance to scarcity was foreseeable. Inflation and reversal of accommodative monetary policy merely removed the palliatives that masked these deep-seated and long-standing underlying problems.
Judging by the repetition of tired investment homilies, many investors still believe that things will revert in time to the way it was. The alternative view is that established ways are no longer working and a more radical adjustment is under way. As Giuseppe Tomasi di Lampedusa wrote in The Leopard: “Everything must change for everything to remain the same.”
Satyajit Das is a former banker and author of A Banquet of Consequences – Reloaded ( 2021) and Fortunes Fools: Australia’s Choices (March 2022)
