By Michael O’Connor    

In 2021, the S&P 500 hit new record highs in nearly one-third of all trading days and saw losses capped at 5%.

In a year of perpetual uncertainty, we saw one of the most robust and stable market performances in the last 25 years.

"The market can remain irrational longer than you can remain solvent" – John Maynard Keynes

Last year brought us the now infamous GameStop and AMC Short Squeezes, countless meme stock rallies and a 49,000,000% return for the meme coin Shibu Inu.

At this point, I think it’s blatantly apparent to everyone that price and value don’t always move in tandem.

In finance, we often expect the world to behave rationally. We carefully look to quantify the probability of each individual outcome, but not everything is measurable. We naively assume logic will prevail and underestimate the persistent irrationality of man.

As, investor Jim Grant reminds us:

"To suppose that the value of a common stock is determined purely by a corporation’s earnings discounted by the relevant interest rates and adjusted for the marginal tax rate is to forget that people have burned witches, gone to war on a whim, risen to the defense of Joseph Stalin and believed Orson Welles when he told them over the radio that the Martians had landed."

History is a perpetual stream of mistaken opinions and unpredictable outcomes. If you’ve relied on data and logic alone to make sense of the economy, you’ve been confused for one hundred years straight.

Instead of presuming everything is purely logical, it is important to realise that there are two sides to every investment: the numbers and the story.

While not always the case, in today’s momentum-driven market, ‘the story’ has consistently been more potent than the numbers. We have seen growth stocks soar off the back of compelling narratives about future possibilities with little numbers to back them up. SPAC’s, high growth stocks and altcoins have rocketed ‘to the moon’ all hitched to a promise of what could be.

This may be frustrating for many, but these market forces need to be acknowledged and understood. Blindly assuming that logic will instantaneously prevail is a sure way to underestimate the inherent risks of the market.

Crazy things happen in markets all the time. Don’t expect that to stop any time soon.

Outlook for 2022

In short, I view this to be the mid-cycle of the recovery. The growth rates seen early in the cycle will slow, volatility will increase, economic and earnings figures will be suppressed by higher inflation and less accommodative central bank policies. However, there are still opportunities for risk assets in the coming year, albeit with more modest expectations for returns.

I continue to favour US over international stocks. Large-cap and high-quality stocks look set to lead the way as markets will likely favour a tilt towards value stocks.

Fixed income remains an asymmetric trade with little upside, while alternatives will continue to become less ‘alternative’ as investors seek diversification in a rising interest rate market.

Risks abound, but opportunities will persist.

For my full, in depth 2022 outlook, go to www.theislandinvestor.com.