What Does 2022 Hold for Investors?

In 2021, many of us piled into a buoyant share market using our pent-up savings. But investors might see lower returns in 2022, suggests Mark Riggall of Milford Asset Management.

Many have called the Covid-19 pandemic a once-in-a-generation event. For investors, the once-in-a-generation event was not the pandemic itself. It was the massive policy response from governments and central banks that followed it. This medicine, administered to a pandemic-stricken global economy, was so strong that it jolted the economy back to life and gave us a ‘V’ shaped economic recovery. Asset markets, including property, shares and even cryptocurrency, enjoyed stunning rallies as cash injected in financial markets and delivered to households found its way into investments. Investors were emboldened by a profit boom from companies enjoying the economic recovery.

Two big questions

As we look ahead into 2022, investors must consider two factors. • Firstly, how quickly will policymakers withdraw their medicine by raising interest rates or taxes? • Secondly, how quickly will the sideeffects of the medicine, namely a massive inflationary shock, take to wear off? These two variables will be key to what we see in the financial markets next year. It’s worth noting that there were variations in different countries’ approaches, but by and large the template was the same around the world and so was the outcome – globally high asset prices and globally surging inflation. Around the world, governments’ responses to the pandemic were bigger than anything seen since the Second World War. Cheques were handed out to businesses and households, so that incomes could weather the pandemic storm. These payments are now largely complete, but it’s likely that any further social restrictions will be met with further income support. Even if the pandemic goes away faster than expected, there seems to be little appetite to raise taxes on anyone. Last year’s government spending will not be repeated, but there’s unlikely to be a drag on economies from governments looking to balance budgets. So, households who’ve built a large store of savings needn’t be too concerned about governments asking for it back in taxes.

Shock and awe

The monetary response from central banks was an exercise in shock and awe. Interest rates were slashed to zero (or lower) globally, and bond market purchases dwarfed anything seen in the global financial crisis (GFC). This benefited economies because we saw a lower cost of borrowing. For investors, low interest rates justified higher valuations on many assets, including property (through lower mortgage costs) and shares (with lower discount rates). In a world where bonds offer paltry yields, investors have increasingly been drawn to shares to get superior returns. Looking ahead, central banks have seen the surge in inflation and are slowly questioning the need for policies to stimulate their economies. This means fewer bond purchases, as well as interest rate hikes over the course of 2022. It’s unlikely that monetary policy will be restrictive at that point, but it will be a fading tailwind for some time to come. For any investor, the starting point – current valuations – matter. On that front, share markets look broadly expensive versus historical profit multiples. Bonds are significantly overvalued. US government bonds offer around 1.2 per cent interest for the next five years. With markets expecting inflation to average over 3 per cent in that timeframe, the returns from bonds leave investors going backwards compared to the cost of living.

Household spending squeezed

The path of inflation is important for two other reasons. Firstly, higher prices will have an impact on our spending because our household budgets are squeezed. Secondly, some companies won’t be able to pass on rising input costs, which will reduce their profit margins. But with bonds unable to offer positive returns after inflation, investors will be forced to buy more shares because at least they give them the opportunity to deliver inflation-beating returns.

Not a good combination

So where does this all leave us? High valuations and fading tailwinds from policy are not a good combination for future returns. What’s more, the past two years have seen households investing significantly more into share markets as they’ve been adding their savings to funds and direct investments. All these factors lead me to the conclusion that investor returns next year are very likely to be lower than those enjoyed in 2021. However, the range of potential outcomes is particularly wide. We could see inflation subside quickly and policymakers keep interest rates low for longer. A reopening global economy could see economic growth remain well above trend as consumers feel more confident and spend their excess savings. One thing is for certain, there will be surprises along the way. I’d suggest investors focus on building longterm portfolios that can weather whatever storms come along.

Disclaimer: This is intended to provide general information only. It does not take into account your investment needs or personal circumstances. It is not intended to be viewed as investment or financial advice. Before making any financial decisions, you may wish to seek financial advice. Please note past performance is not a reliable indicator of future performance. Please read the relevant Milford Product Disclosure Statement as issued by Milford Funds Limited at milfordasset.com before investing.

Let’s Plant a Greener World

Investing in forestry is a great way to plan for your financial future while helping the planet, says Brenda Ward.

The world is fast realising we need to take drastic action to protect the environment. Power stations, factories, vehicles, and planes are pumping out fossil fuel emissions and upsetting the delicate balance of carbon in the atmosphere. No one knows that better than Forest Enterprises chief executive Bert Hughes. He says the company’s forests have never grown faster or better, feeding on the excess of carbon in the air. It’s an unintended consequence – but it’s not really a good thing, he says. “The more that you look at the science around climate change, the more concerned we ought to be about what we’re emitting,” he says. Trees are a stop-gap strategy until there’s widespread change, he says. Planting trees reduces the amount of carbon in the atmosphere. “Trees take in the carbon dioxide and, using photosynthesis, transform it into the building blocks of the trees. “Growth is driven by the temperature, sunlight – and carbon dioxide.”

Forests help in weather events

Even while they’re recycling carbon dioxide, forests are also protecting us from the damaging effects of climate change, says Hughes. “The technical term for it is the hydrological cycle. The hydrological cycle in its simplest sense is rain, evaporation, and more rain,” he says. “A tree is really just a pumping mechanism, taking moisture from soil level to the leaves, where trees use it for photosynthesis, then they expire it, in a process called transpiration. “Water, which is moisture in the atmosphere, gets exhaled by the tree,” says Hughes. “If there’s a major weather event with heavy rain falls, a significant proportion of it sits on the tree and evaporates off the surface area. “Trees catch way more rainfall and evaporate more rain than pasture or the hard surfaces in urban areas.” At ground level there are benefits, too. Less rainfall in forests reaches ground level and when it does, the soil is more porous than grass, because it’s less compacted, says Hughes. “When water does reach the forest floor, it has to flow through a lot more biological material before it reaches streams, so it mitigates these peak-intensity rainfall events. “You see much less erosion from forest country than you do from pasture,” he says.

Bird and insect habitats

Hughes says since he started in the industry in the 80s, he’s seen an increasing number of birds in forests. “And pine forests have heavy bark, so you find a lot of insects living in the bark for shelter from foraging animals. “Unlike pastural land, where you have tillage restricting the amount of biodiversity, we tend to plant our crop and then leave it alone.” Part of the forest’s appeal is the ‘understorey’ of generally native trees, where birds spread the seeds. “Now we plant forests with larger native bush margins beside rivers, which gives better filtering for rainfall events and gives us biodiversity. “The New Zealand falcon particularly likes a gap between a forest which has been harvested, and a remaining crop of forestry. It hunts in the gap and nests in the trees.” The forestry industry creates what he calls a ‘mosaic’ of land use, some trees freshly planted, some harvesting and some growing, leading to a ‘richness’ of species. At the end of the forest’s life cycle, you find other benefits for sustainability, says Hughes. “With laminated timber construction, you can now build mid-level high-rises up to 10 or more storeys that are lighter and more earthquake resilient than steel or concrete buildings. “The problem with steel and concrete is the amount of energy it takes to create the product, whereas wood is created under its own energy, so it’s carbon-neutral.” Even the waste from forests is a sustainable product. In Scandinavia, a lot of energy comes from forest waste, including home heating logs, says Hughes. Now the crown research institute Scion is working on biorefineries which could make energy directly from plant-based products. As younger people seek investments that are sustainable and socially responsible, forestry is trying to be more accessible to those locked out of the property market, says Hughes. “We’re trying to offer an affordable investment. Forestry syndication allows people to invest in land. “With any investment, there has to be a return. But as well as that, with forestry you’re doing good,” Hughes says.

How to invest in forests

You can invest in sustainable forestry from $8,472 and earn projected gross 7.68% IRR.* Now open for applications is Forest Enterprises’ latest investment opportunity, the Pukekōwhai Forest Investment, an 800+ hectare second-rotation forest in the Wairarapa. This is existing forestry with proven productivity. For more info or the Product Disclosure Statement, visit forestenterprises.co.nz or call 0800 746 346.

* Minimum initial investment is $8,472 for 200 shares, plus affordable annual instalments; projected gross IRR 7.68% at harvest. The issuer of shares in Pukekōwhai Forest Investment is the manager Forest Enterprises Limited, and the offeror is Forest Enterprises Growth Limited (a related party). Forest Enterprises Limited is licensed under the Financial Markets Conduct Act 2013 to manage Managed Investment Schemes (excluding managed funds) which are primarily invested in forestry assets.