Quarterly Investment Commentary

Winds of Change

Weather vane

“How much higher can things go?” is a question we hear frequently from clients, especially lately. It is also a question we have heard consistently over the last 30 years, usually as an expression of general nervousness about markets and current conditions.

Based on history, the simple answer would be “a lot,” but it is a question that is impossible to answer without context. For starters, one needs to specify the market, the applicable fundamentals and conditions, and the relevant time horizon.

Economies have an inevitable tendency to grow over time, and markets have an inevitable tendency to reflect that growth and appreciate. It is not a linear progression, nor is it a smooth ride. It is marked by boom and bust cycles, recessions and recoveries, corrections and rebounds.

It’s a particularly relevant and interesting question now because there are more extraordinary factors at work that can impact the short and long-term trajectory of how investors and markets behave. These factors include monetary and fiscal policy, geopolitics and deglobalization, technology and innovation, demographics, global health, and climate change.

Our framework for investing is focused on evaluating current conditions in the context of secular global trends and shaping forces. While we have very little insight into what financial markets will do in the coming weeks and months, this framework helps us to look through near-term conditions to spot areas that are attractive for long-term investment. It also helps us to identify areas to be reduced or avoided.

This is especially important now. Although overall valuation levels of markets are high, there are large divergences in valuation levels relative to fundamentals and future expected returns. While valuation levels are a poor predictor of near-term market movements, they are good indicators of longer-term expected returns. It therefore makes sense to rebalance portfolios from areas that are overvalued and over-owned, to areas that offer greater value and potential. It also makes sense to increase portfolio diversification to protect against a wider range of potential outcomes.

Economic Growth and Covid

Global economic growth is slowing, but from a very high rate to a less high rate that is still well above the long-term growth trend lines. The U.S. economy should slow from 6.3% economic growth in the first quarter of this year to around 5% this quarter. Growth will continue to moderate next year but should still average over 4% for the year, well above its historical growth rate of 2%. Growth estimates for most of the rest of the world will remain well above trend this year and next year. Slowing growth does not portend a recession.

Covid data is improving: Almost half the Worlds’ population has been vaccinated and this percentage is rising rapidly, especially outside of the U.S. as seen in Chart 1. Barring a new and more dangerous variant, we believe that the world will move closer to herd immunity – through having been infected and/or having been vaccinated – and Covid will finally start to fade into the rear-view mirror. It won’t go away, but we will learn to manage and live with it.

Chart 1

Life will increasingly move back towards a slightly modified sense of normal.

People are eager to re-engage with the real world: to travel, go out to dinner, concerts, and social events and be with other people. Many are even looking forward to returning to their workplaces, although with greater flexibility.

There is also a lot of pent-up demand to consume, which has been thwarted by shortages and price spikes for everything from computer chips to appliances, building supplies, cars and boats.

These supply chain disruptions will eventually correct themselves as manufacturers increase production, inventories are restocked, and the flow of shipping containers returns to normal. This will probably take well into next year to resolve, but at some point, as was the case with hand sanitizer and toilet paper last year, we will move from shortages and price gouging to surpluses and clearance sales.

Supply Chain 4.0

The disruptions reveal how complex and interdependent global supply chains have become and how vulnerable they are to individual points of failure. Consider the opportunity cost of not being able to sell a car or other expensive item because it is missing a small and inexpensive set of semi-conductors that allow it to function.

Our longer-term view is that supply chains are metamorphosing yet again. Version 1.0 of global logistics was the assembly line. Version 2.0 was moving manufacturing offshore to lower production costs. Version 3.0 involved adding in robotics, factory automation and just-in-time logistics. Version 4.0 will seek to source more of the components of production locally, closer to the final customer, and with greater control and redundancy. In the U.S., we would expect to see more manufacturing capacity returning on shore to serve the U.S. market.

Fiscal and Monetary Stimulus

There is still plenty of fiscal stimulus that has yet to flow into the economy, as well as $2.4 trillion in excess savings sitting on the sidelines waiting to be spent on big ticket items like cars and appliances.

And there is still the possibility of Congress actually passing both the infrastructure and reconciliation bills. This may not happen until later in the quarter, but we think that they will eventually reach an agreement that likely includes $1.2 trillion for infrastructure along with a slimmed down - $1.75 to $2.25 - trillion version of the Build Back Better reconciliation bill. Together, they would represent an average of $300 billion a year incremental spending over the next decade.

The Federal Reserve has indicated plans to start tapering the purchase of assets and increasing interest rates at a very slow and measured rate. Although policy errors are always possible, we think that they will err on the side of moving slowly and deliberately, with abundant communication, so that markets are not surprised by any sudden moves. This suggests an environment of easy monetary policy and low interest rates well into next year and beyond. The European and Japanese Central Banks are equally if not even more dovish than the Federal Reserve.


China has spooked investors this year, first with a government crackdown on the big Chinese technology companies and more recently, news of default by two of China’s largest real estate developers, Evergrande and Fantasia Holdings. These defaults have roiled markets and sparked fears of a coming collapse in the Chinese real-estate sector. Both issues have led to a massive sell-off in Chinese and emerging market stocks.

We think some of the China fears are justified but are more than reflected in current prices. The Chinese government is looking to tame its technology giants, but it does not want to kill them. It knows that it needs a robust technology and consumer sector to compete globally and maintain social order. It is also trying to reduce the level of speculation and leverage in the housing and real estate sector and work to make housing more affordable. Meanwhile, the Chinese economy is forecast to grow at a 6% to 8% clip this year and next and the government has adequate resources to backstop its economy and markets if needed.

Finally, there are a lot of countries and companies in the Emerging/Developing world that have nothing to do with Chinese real estate and large technology companies. They are now selling at attractive valuation levels relative to their growth potential.


We believe the current spike in inflation is being caused primarily by temporary supply chain issues and will moderate, but that higher labor costs are here to stay. As noted above, supply chain pressures will ease as inventories are replenished, demand is satisfied, and logistical kinks and bottlenecks are resolved.

Higher labor costs are more persistent. There are currently a record 10.9 million job openings in the U.S. and there are help wanted signs almost everywhere. Demand for workers is through the roof and employers are having to pay up to hire and retain them. Unlike semiconductors and automotive parts, the supply of labor is dependent on population growth and immigration, both of which are barely growing. Shortages in labor will create additional demand for technological innovation. But until robots take over and make us all obsolete, higher wages are here to stay.

Therefore, while we were used to inflation rates under 2% in the pre-pandemic world, going forward we expect longer term inflation rates to average between 2% and 3%. We also think that the risks to our forecast are to the upside.

Additional Considerations

Climate Change: Climate change and other environmental considerations like pollution, storms, floods, droughts and fires, are no longer abstract future challenges, but current realities. They have a significant and measurable economic cost and will reshape the direction of economies, industries, and societies. They will govern where people want to live, where companies want to locate, how technology and innovation will be used to solve problems, and how investors will allocate capital. We expect a growing level of investment in water, energy, and food related technology and infrastructure. Conversely, we expect a growing headwind for fossil fuel related investment even though they are currently in high demand.

Deglobalization. This is a somewhat misleading term since the world will always be extremely interconnected globally, whether we like it or not. But it is meant to convey the idea that long-standing objectives, global alliances and institutions, largely born in the aftermath of World War II and led by the United States, are in retrograde.

We live increasingly in a multi-polar, multi-lateral world with nations and regional blocs acting more in their own short-term self-interests than with a spirit of global common purpose. Great Britain has Brexited from the European Union; the United States has withdrawn from the Trans Pacific Partnership (TPP) while ironically trying to tilt the focus of its foreign policy away from Europe and the Middle East towards Asia. Global institutions and alliances of the past century including the United Nations and NATO seem to be deteriorating like old bridges and roadways. America’s hegemonic role on the world is receding and China’s role is ascending.

To the extent that globalization led to trade agreements and the easy flow of goods around the world, de-globalization, including tariffs, taxes, and protectionism, all represent sources of friction that should slow overall economic growth, while also exacerbating the divides between countries. Socio-political trends like nationalism and populism create additional divides between people and barriers to economic growth and prosperity.

Bottom line:

With an outlook for reduced but robust economic growth, accommodative monetary policy, and the prospect of additional fiscal stimulus, we believe economic growth in the developed world should have a tailwind at least through the end of next year. Inflationary pressures will moderate but persist. These conditions should support higher prices for risk assets like stocks, real estate and commodities.

Although financial markets all look expensive, there are significant differences and divergences in valuation and expected returns within and between markets and asset classes:

Bonds versus Stocks. Bonds are the traditional “safe” asset in a portfolio, providing income and defensive protection against market declines. Not anymore. As Chart 2 shows, a 10-year U.S. Treasury bond pays an annual interest rate of 1.6%. With inflation running around 4%, this works out to a negative real yield of 2.5% with no ability to appreciate in value.

Chart 2

Most bonds that are safe offer very low yields. Conversely, most bonds that offer higher yields also come with a significant amount of risk. By comparison, Global stocks offer a yield of around 2% as well as the ability to appreciate.

Chart 3

U.S. versus International. As Chart 3 shows, international stocks are selling at a historical discount relative to the U.S. stock market - more than two standard deviations cheaper than the historical 20-year average. We think the U.S. economy is still the strongest and most dynamic in the world but also believe that the U.S. stock market is over-owned, over loved and overpriced. Europe and the developing world are also growing and offer much greater value. In addition, International stocks are not impacted by rising corporate tax rates in the U.S. or increased regulatory scrutiny of U.S. companies.

Chart 4

Value vs. Growth. There is a large divergence between the valuation of growth-oriented stocks, such as technology companies, and more value-oriented stocks, such as healthcare, industrials, financials and energy companies. Chart 4 shows that these more value-oriented stocks are very inexpensive(almost three standard deviations) relative to their growth-oriented counterparts. In addition, Value stocks tend to do well during an economic recovery.

Big versus small: Big companies are a lot more expensive than small. The 10 largest companies in the U.S. stock market represent 30% of its value. These companies are also among the most highly valued in the index and are vulnerable to rising interest rates and increased regulation and taxation. What happens to these companies will have a big impact on what happens to the S&P 500. There is considerably more value to be found in smaller to medium sized companies.


Given this outlook, our current strategy is centered around the following priorities:

Overweight stocks and other risk-oriented assets relative to core bonds.

Global equities, real estate and commodities offer higher expected returns than core bonds and possess a better ability to survive inflation. Core bonds can still serve a valuable role as a defensive buffer in client portfolios but may produce negative nominal and real returns in the coming years. Within fixed income exposure, emphasize shorter maturity strategies and include credit-oriented strategies, including high yield, that are less vulnerable to rising interest rates.

Increase international exposure relative to domestic equity exposure.

Continental Europe looks especially interesting along with Emerging Markets. Great Britain may have more challenges post Brexit. Emerging markets are very attractively priced but given increased Chinese policy risks, broaden emerging markets portfolio exposure to include a greater non-Chinese allocation.

Increase value exposure relative to growth exposure.

We still believe in maintaining a meaningful portion of client portfolios focused on areas of technology and innovation, but have been trimming exposure based on valuation. We have been redeploying capital to value-oriented strategies that should be more leveraged to the global economic recovery. One exception to this is in healthcare and life sciences, where valuations are more reasonable relative to long term potential.

Increase exposure to smaller and medium sized companies relative to mega-capitalization companies.

Increase exposure to alternative strategies that improve portfolio diversification and enhance overall returns.

We have been adding investments that can replace some of the former role of bonds such as public and private real estate and private credit. In exchange for some give-up in liquidity, these investments offer attractive and consistent sources of income and appreciation. We continue to hold gold and commodities as inflation hedges.

As always, we continue to invest with a global focus; balancing investments targeted at areas of long-term growth and innovation with more defensive equity, alternative and fixed income strategies aimed at mitigating volatility and risk.

Please let us know if you have any questions and/or if there is anything we can help you with relating to your financial life. And, if we can ever be of any help to a family member or friend, we always welcome referrals from our clients.

Jurika, Mills & Keifer
October, 2021

Important Disclosures

Opinions expressed are those of Jurika, Mills & Keifer, LLC, and are subject to change.

Investments in securities involve the risk of loss. There can be no assurance that investment strategies referenced will be successful, or that investment objectives will be achieved. The net performance represents performance figures net of all fees including management, performance fees, transaction costs and commissions. Past performance is no guarantee of future returns, which may vary. Please note that one cannot invest directly in an index.

This communication is neither an offer to sell nor the solicitation of an offer to buy a security or advisory services, which can only be made by the appropriate offering document.