Here’s what we expect the stock market and the economy to do over the next 180 days. The key issue these days is runaway inflation and high and rising interest rates in an attempt to bring it back under control. That’s the target of 2 per cent.
Look for the bear necessities
In 2022, inflation has soared to heights not seen since the 1980s. In addition, inflation has hit many countries around the world. That’s largely because global supply chains are less resilient than formerly thought. Gummed-up supply chains have upset the balance between supply and demand. A drop in supply and strong demand drove up prices of goods and services.
In order to reduce inflation, most central banks around the world are raising their interest rates quickly. The idea is to slow demand until supply catches up. In the U.S. the Federal Reserve again raised its rate by a super-sized 75 basis points on September 21. The higher interest rates have already had a negative impact on interest-sensitive sectors of the economy.
We expect higher interest rates to restrain vehicle sales in the short term. Even so, the U.S. is making major investments to produce semiconductor chips. These are essential for modern vehicles.
Auto’s long-term outlook is favourable but not the short term
North America is investing in building electric vehicles. With financial inducements, mandatory sales targets and growing production runs, these vehicles should become more affordable. Then, too, vehicles eventually wear out and get replaced. The long-term outlook is favourable. Of the 10 auto-parts stocks that we regularly review on The Back Page, seven remain buys. All seven are expected to earn more next year. Airboss of America Corp. (TSX—BOS) and Key stock Magna International Inc. (TSX—MG; NYSE—MGA) pay dividends that yield an attractive 4.2 per cent and 5.3 per cent respectively.
Higher interest rates also make investment more costly. In fact, some projects are no longer economically feasible. If the economy enters a recession, company earnings are likely to decline. In the long run, it’s the direction and magnitude of earnings that set stock prices.
Buy producers of necessity
One way to protect your money is to invest in sectors that are less affected by interest rates. These include utilities that provide necessities that consumers can’t do without. Electricity utilities such as Key stocks Fortis Inc. and telecommunications utilities such as Key stock BCE Inc. (TSX—BCE; NYSE—BCE) come to mind.
So do financial institutions that can benefit from higher interest rates. This includes the big Key stock banks and Key stock insurers Manulife Financial Corp. (TSX—MFC) and Sun Life Financial Inc. (TSX—SLF; NYSE—SLF). It also includes providers of consumer staples such as our three Key stocks supermarket chains or Key stock Dollarama Inc. (TSX—DOL).
Buy higher quality stocks
It also pays to go up the investment quality scale. Focus on stocks that we rate ‘Very Conservative’ or ‘Conservative’. They can hire the best and the brightest employees. Governments can bail them out, as happened with non-Key stock General Motors and some American banks. In short, go for high-quality suppliers of necessities.
Another way to protect your money is to buy interest-producing investments. Interest rates are much higher these days and are likely to go higher still. Buy them in your Registered Retirement Savings Plan, Registered Retirement Income Fund or Tax-Free Savings account. This will shelter your interest income from income taxes.
Also, keep your terms to maturity short. The flattish yield curve means you gain little extra yield by buying long-term interest-producing investments. In fact, these can yield less than their nearer-term counterparts. You can reinvest at higher rates. And if long-term interest rates jump, it has little impact on the price of short-term interest–producing investments.
This is an edited version of an article that was originally published for subscribers in the September 30, 2022 issue of The Investment Reporter. You can profit from the award-winning advice subscribers receive regularly in The Investment Reporter.
The Investment Reporter, MPL Communications Inc.
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The Investment Reporter •11/13/22 •