Recognising the real opportunities in the current market turmoil
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Recognising the real opportunities in the current market turmoil

In a turning point in markets there are plenty of opportunities for investors. But it is no easy task to identify those opportunities in the midst of change. We look at what lessons we have learnt and how to invest as events unfold.

Identifying what we know to be true or false, and dealing with the rest

Before we get onto the certainties, it’s worth addressing that this will leave a lot of unknowns. We won’t know when or how the Russian- Ukraine war ends. We won’t know whether we’ll get an economic recession this year or next. Especially in the wake of such a huge change in markets, there will always voices saying “You should wait until…”. But history shows that waiting until after a turning point is the surest way of missing the opportunity. We can make some predictions, but when investing we must reflect that lack of certainty about the future by investing appropriately. We can do this by diversifying our investments, striking the right balance between risk and reward to reflect our circumstances and viewing investment with a longer-term time horizon. We think this is an excellent time to be invested in active managers given they have a flexibility that you don’t get from passive investments.

This was a market bubble

When markets are in a bubble then prices for a wide range of assets rise as they are caught up in the market froth. However, when the bubble bursts, it is key to discriminate between assets that were bid up as market rose and have now fallen back, and the bubbles, which leave little, if anything, of value once they burst.

A market bubble may seem irrational. But each market bubble reflects a unique combination of new factors that mean that it is difficult to determine what are real, permanent changes and what are temporary. This recent market bubble reflected the changes to the economy during the Covid-19 pandemic – even now it is difficult to discern whether the shift to working-from-home was temporary and will tail off as lockdowns end, or whether it marks a permanent change. And these are not insignificant market and economic factors – determining the fate of office blocks worth hundreds of millions of pounds to the demand for lunchtime sandwiches.

What do we know in the aftermath of this market bubble? Well, that some, but not all, cryptocurrencies are pointless and so have no value outside the enthusiasm that they generate. Once that bubble is burst, there is literally nothing left. While the large US technology companies, which are strong businesses that will continue to generate profits and growth for years to come, are better value after their fall.

That latter point might seem obvious, but it is an important reminder that, for these established technology companies, this is not a repeat of the dot.com bubble. We have seen more than a decade of growth in technology-driven industries before this new market bubble emerged and those gains will not be erased by the deflating of the current bubble. Instead, now that valuations have moved to more attractive levels, it is time to look for opportunities. Clearly there will be further volatility over the summer, as thinly traded markets over-react to events, but that will represent opportunities to pick up shares in good-quality companies at attractive prices.

Valuations are important once again

The bubble saw a detachment of the market from fundamentals. The rise of inflation and increase of interest rates has meant that anticipated future profits are less highly valued. So now, after the bubble, in a time of inflation and rising interest rates, it is crucial to ensure that investment is based on those fundamentals. And to be able to calculate valuations the company must have assets and sales and profits and dividends to shareholders. Therefore, we are looking at valuations based on underlying cash assets and cash earnings to determine which companies are attractive opportunities.

Investing is being better rewarded

The rise in interest rates means that investors are finally seeing a positive return on their cash, even if it is still being eroded by inflation. And that means that other investments are having to compete, so we have also seen an increase in bond yields and dividend yields to provide more attractive income returns for investors. We therefore see this as a more attractive time for long-term investment.

31 May 2022
Scott Spencer
Scott Spencer
Investment Manager
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Risk Disclaimer

The value of investments and any income derived from them can go down as well as up as a result of market or currency movements and investors may not get back the original amount invested.

Views and opinions expressed by individual authors do not necessarily represent those of Columbia Threadneedle Investments.

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