Rather, everything becomes 1977 – a royal jubilee, strikes, painful inflation and a second place in the Eurovision Song Contest.
At the time, we entertained European audiences with a bubbly ditty whose opening line was “Where are we? Lowest!” That pretty much sums up the UK today. We are expected to have the lowest growth rate next year of any G20 country except Russia.
My own musical tastes were a little louder at that time. Like many other teenagers, I enjoyed the Sex Pistols’ punk anthem “God Save the Queen” – essential listening due to the BBC ban – and the new band Talking Heads.
It was also the era of what has been called “stop-go” economics, when governments switched between stimulus and constraint, creating alternate booms and busts.
The concern is that today’s financial rock stars, our central bankers, will follow the playbook of the 1970s. They may be more cautious now, slowly raising interest rates to counter inflation, but they nevertheless increase them. Andrew Bailey at the Bank of England – a Johnny Rotten against Fed Chairman Jay Powell’s preppy David Byrne – made it clear he was not afraid to inflict pain on the economy to eradicate the problem of inflation. Most of his peers agree, so expect more socio-political concern – “lawlessness not just in the UK”, to quote Rotten.
A major difference from the late 1970s is that unemployment is lower. The shortage of workers in lower-skilled jobs isn’t just a UK phenomenon – it’s global. Unions may not be as strong as they were then, but wages for the lowest paid have lagged for decades – so many workers are in a much stronger position to demand raises or moves.
And they will have to if inflation persists, because those who suffer the most from inflation are usually the poor, the elderly (on fixed pensions) and the young (especially if they are in debt).
Also consider geographic factors. The effect of increasing interest rates in the United States may not be the same as that of increasing them in Europe. The US labor market has tended to be more flexible – it’s a large economy and workers can move around easily. It is more autonomous, exporting only 10% of its GDP, against 30% for the United Kingdom and 47% for Germany. And it produces much of its own fuel.
The Federal Reserve can therefore raise interest rates to control inflation without fear of causing a recession. However, as it is, the dollar is rising, increasing inflationary pressures in the UK and Europe, especially as the commodities we import are denominated in dollars.
Investing for the recession
In the first half of this year, equity investors were primarily concerned about rising inflation – this tends to send stocks rapidly falling on high earnings/sales/thin air multiples.
In the second half, the focus is already on the risk of recession. The stock portfolio that held up the best in the first half of this year included many oil stocks, a focus on value, very few tech stocks (and other low-profit stocks) and lots of dollars. The portfolio that holds up the best in the second half could be different.
Oil stocks may have had the best of their run as slowing economies will lead to reduced demand. The price of Brent oil fell 10% recently. However, investments in gas infrastructure are likely to continue for a few years. If you have the guts for volatility – and I mean sometimes 7% daily highs and lows – you might consider Halliburton and Schlumberger, two of the biggest service companies in the industry.
And the value? The value universe can include many cyclical stocks, from non-food retailers to home builders and banks. Recessions are generally not happy times for them, especially if they also see wages or input prices rise.
Although speculative tech stocks are still struggling, some of the more established tech companies — which performed poorly in the first half — could start to be viewed as defensive against a downturn. The best ones are less sensitive to inflation than manufacturing companies, because they employ proportionally fewer people and have limited production costs. And some are more resilient in the face of recession – software subscriptions tend to keep getting paid even during tough times.
Take Microsoft. There’s unlikely to be much of a downturn in subscriptions for its Azure cloud computing business, but perhaps if companies downsize, they’ll see a drop in Microsoft Office “seats,” or paying users. Its shares are down 21% this year (in line with the S&P 500).
Perhaps more interesting is Salesforce.com – its shares have fallen 32% this year and are nearly halved from their peak last November. Its employee management software is well established and integrated within companies. Companies may reduce their sales teams, but they will likely keep the software. Salesforce.com appears to have many years of strong growth ahead of it, but could be vulnerable to further declines in the share price if sales expectations are not met in the near term. Given its larger price correction, investors who can take a bit of risk may prefer it over Microsoft.
For the cautious investor, the industries that tend to weather recessions better are those that offer things you can’t live without – like healthcare, consumer staples and maybe even cosmetics. . Automobile production fell 75% during the Great Depression, but lipstick sales increased.
Research suggests that during a recession, impulse buying decreases, we postpone major purchasing decisions, we replace premium food items with cheaper ones, and we go out less. We focus on the essentials, but the essentials can include small luxuries such as an espresso machine, coffee, chocolate and face cream.
In these categories, companies such as Procter & Gamble and Nestlé can appeal. Nestlé has another strength: it produces pet food. Here, substitution may not be an option. Few owners can bear that gloomy or dismissive look after daring to pour a can of cheap brown food into your pet’s food bowl!
Moving from inflation worries to recession worries suggests a different sector balance in a portfolio. However, the geographical balance remains essentially the same. As long as U.S. interest rates continue to rise and the U.S. economy is less troubled than others, keeping a good amount of investments in dollar-quoted stocks remains, for us, the key to weathering a difficult second half.
Given all the problems we face, today’s anthem for the cautious investor may not be so much “God Save the Queen” as the latest Talking Heads hit, “Road to Nowhere.” “. Protecting our portfolios – first against inflation and now against recession – is the priority for most of us. Opportunities to invest in a recovering economy will come with time, but for now, patience seems wise.
Simon Edelsten is co-manager of the Artemis Global Select fund and the Mid Wynd International Investment Trust