An optimistic start to 2022

Stock market chart

Markets have opened with a flourish – dismissing the new variant and inflationary pressures: should investors follow this new-found optimism?

The year has started, slightly surprisingly, on an optimistic note. Technology shares sold down as economically-sensitive sectors such as banks and energy led markets higher. Investors have made their views clear – Omicron is mild, should not disrupt economic growth and may herald the end of the pandemic. Does this seem like an excessively cheerful interpretation of a still-risky environment?

Investors appear to be in direct opposition to many policymakers around the world. The UK may have taken a relaxed approach to the new variant, but the same cannot be said of France, the Netherlands, Germany or China. While countries are finding ways to ‘live with Covid’, it hasn’t lost its power to do economic damage. Equally, there is a possible scenario where new variants emerge and prove mild, but excessive caution on the part of national governments ensures that they do economic damage anyway.

It also appears that investors have decided that inflation will not deliver any more surprises. This also seems optimistic: the Omicron variant may be causing milder illness, but it is still creating labour shortages. This is likely to ensure that supply chain problems remain for the time being. Certainly, the comparative figures may be higher, but inflationary pressures remain.

It is perhaps easier to understand the weakness of the technology sector than the strength of economically-sensitive companies. The world’s technology giants are contending with a number of macroeconomic factors, including higher interest rates, but also a number of idiosyncratic factors, such as higher regulation, and tough comparative earnings figures. Continued earnings momentum may allow them to weather the storm were valuations not at all-time highs. But they are.

Is it possible to get on board with this enthusiasm? After all, Omicron has allowed investors to contemplate an end to the pandemic. Markets may be responding to the possibility, however remote, that businesses and citizens can operate without the constant threat of a renewed wave or further restrictions. In the absence of that threat, the economic climate looks pretty good, companies that have survived are often in better health and more competitive.

It is worth being wary of investors’ early optimism in 2022, but that’s not to say they might not be right. There is a very good scenario for the year ahead, but recent history suggests it is unlikely to be as simple as that.

 

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