Why a new mindset is a non-negotiable in 2023

Anet Ahern, CEO at PSG Asset Management

As we wind up 2022, it is natural to reflect on yet another tough year in the markets and to start planning for the one that lies ahead. We believe there is one crucial ingredient investors will need to ensure investment success in the new year: a fresh mindset.

Investment markets in 2022 did not behave according to the norm. Many asset classes staged a synchronised retreat, even the perennial safe-haven asset, US bonds. With the new year just around the corner, investors are asking themselves whether the turmoil is behind us and whether 2023 will be ‘a better year’. For many, the most pressing question is even more specific – mega-cap tech stocks are so ‘cheap’, is now the right time to buy them?

Shocks vs systemic imbalances: why we need to be clear about what is correcting

Market corrections happen from time to time, and we often argue that they are an inherent part of the stock markets, and something investors should be prepared for. Those who stomach the turbulence and avoid making emotion-driven mistakes, are rewarded by inflation-beating returns in the long run. Those with an opportunistic mindset can even use periods of market weakness as an opportunity to stock up on quality counters when markets go ‘on sale’. The 2020/Covid-19 induced recession is a case in point. The market reacted violently to negative news, and soon recovered. Investors who sold out at the bottom locked in losses and were worse off than had they simply stayed put.

However, we would argue the current market turmoil is not the result of a once-off shock (like the Covid-19 correction was), but rather the symptom of more than a decade of systemic imbalances that are in the process of unwinding. When it comes to a systemic shift, the world before and after can look very different.

How did we get here?

Global inflation has been on a continued downward trajectory since the 1970s, fuelled by technological advances, demographic changes and globalisation. Global markets have also been buoyed by low interest rates for a long time, but we really saw the market reach exceptional levels of distortion in the aftermath of the Global Financial Crisis (GFC) in 2007/8 as easy money became part of the equation. Many had expected these distortions to start unwinding after the GFC, but instead we experienced a time during which growth and long duration assets continued to perform exceptionally, while value and real-world assets saw a bitter and elongated cycle of underperformance.

The run-up in the prices of some sought-after shares have been breath-taking and it has rewarded some investors very well. Over the past ten years, mega-cap tech stocks have been the place to be. Holding tech stocks became an aspiration for many and hence it’s driving the question that is on the minds of many investors at this time, wondering if now is the time to ‘snap up a bargain’.

As the easy money dries up, so will some market dynamics

The prevailing expectation is that we are seeing the response to a market shock, and that soon, the market will return to its pre-shock equilibrium. We believe this view is fundamentally wrong. Not because the market won’t recover (it will), but rather because we believe the market will find a new equilibrium in a world where money is no longer so easy to come by. Deglobalisation and years of underinvestment in the real sectors of our economy and the commodities that we depend on, means that the low inflation period may behind us for now, while governments have large debt burdens to contend with which are not so easy to fund at higher interest rate levels. The period of easy money is most likely over for now. And the kinds of assets that fared well in the low inflation environment, are unlikely to be the same ones that will fare well in a high inflation world.

Reassess the market with a fresh mindset, to meet the opportunities where they are

While many investors are eager to approach the market turmoil with the usual ‘buy a bargain’ mindset, we believe they may be disappointed with the items they buy on sale this time around. Not because these aren’t quality companies – many of them are and will likely still be around for a long time. But simply because the environment that drove their exceptional returns until recently will no longer be doing so in the future. Investors need to reassess the market with a fresh mindset, and critically evaluate which shares and sectors are likely to fare well in a world that is no longer driven by low inflation and easy money. The answers may surprise some, as shares and sectors that have been deeply unpopular for a long time, start to come into their own.

Differentiated thinking is key to achieving investment success

The longer market imbalances persisted, the more concentrated indices became. Unfortunately, many investors don’t realise that this has been the case and our research shows that there is an exceptional level of concentration in many frequently used funds around the strategies that worked well in the past. In the current environment, investors need a truly differentiated perspective to identify and meet the opportunities where they are. Simply defaulting to the strategies that worked in the past is unlikely to help investors achieve investment success in the future.

We believe our 3M investment philosophy, based on thorough research, is well-positioned to help us look beyond the short-term noise, and find the true ‘bargains’ that are well-suited to the world we see ahead, and that will stand our investors in good stead in the long term.