A bunch of my family and friends are asking me about what's going on with the economy and what they should be investing in.
I thought I'd put together a TLDR on what's going on + some thoughts.
In response to COVID, governments worldwide pursued significant fiscal and monetary stimulus. The idea was to fill a massive gap in the economy created by the pandemic and prevent a severe recession. This had consequences – asset prices skyrocketed.
As the world returned to "normal," supply chain challenges revealed themselves, resulting in demand for goods and services outstripping supply.
Inflation, which had already been "above average" and increasing for several years, further accelerated. The war in Ukraine exacerbated this, posing further challenges to supply chains, especially for core commodities.
In the US, unemployment is below 4% (very low), and inflation is 9% (very high). This sparked concerns that the economy was overheating.
Central Bank Response
The US Fed changed its mandate: control inflation and tighten liquidity (the availability of money). This implies the Fed will increase interest rates in 2022 and reduce the size of its balance sheet, thereby reducing liquidity in the economy.
What Does This Mean?
TLDR – money was cheap, but now it's expensive. Or, like my Dad says, "cash is king."
Assets that are predicted to generate a lot of cash in the future had previously received very high valuations. This includes technology, biotechnology, and crypto companies, and recent IPOs.
These valuations have, however, plummeted by up to 90% – the value of the cash they are predicted to be generating in the future has decreased.
Today, financial markets are placing less emphasis on money generated in the future and more emphasis on guaranteed cash flow.
Additionally, the market is concerned there might be a further deterioration of the economy. As a result, valuations have not only reset to more "normal" levels based on cash flows, but people are beginning to question the likelihood that companies generate the money they had previously expected and forecasted.
A Simple Example
Company A is forecast to generate $100M in the year 2030. It will not generate any revenue until then and will require an upfront investment of $30M today to begin operations.
Today, relative to 6 months ago, financial markets are placing less value on the $100M generated in the future, more value on the $30M expended today, and doubting whether the Company will generate the promised $100M.
With rising interest rates and economic risks, a new mortgage is now 67% more expensive in the US.
Housing activity is anticipated to slow down – as a result, the prices of construction companies have decreased 30% from their highs.
As economic actors (companies and individuals) begin to reassess and adjust their financial strategies (revenues/incomes and expenditures), this will likely have second-and third-order effects on the rest of the economy.
It's quite clear we are in the process of digesting an initial economic shock. The economy will slow, but the size of this contraction is unknown.
WTF Should I Do, Bro?
There's no blanket answer to this. Each company, project, and individual must form a plan specific to their circumstances. In hindsight, we will look back at this moment as a fantastic opportunity to have bought and sold specific assets and readjusted portfolios accordingly.
I'm also eyeing the property market for projects with significant upside, e.g. land with construction rights, like this one in Portugal.
Most importantly, more than ever, I'm focused on my health, my loved ones, my personal development, and the development of my personal business lines/projects.