Opportunities in a Bear Market

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Amber Sinha, CFA

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Amber Sinha, senior portfolio manager of Global Equities at CIBC Asset Management.

The markets are off anywhere between 10 to 20% in 2022, so I think it’s a natural question to ask, what are the opportunities? And when you go after them, what do we look for? Not just in terms of the upside, but the risk we could be taking given the point in the cycles.

When we look underneath the surface, I would say the losses in the market have come for two reasons. The first being pretty violent rotation out of higher growth, higher quality stocks as interest rates have risen. So, given inflation is sticking around for longer than most people thought, central banks have no option but to aggressively go after it. Their main tool is interest rates. And as they jack up interest rates, stocks that have more cash flows coming into their future, so think growth stocks, will tend to see their cash flow discounted at higher interest rates. So, it shouldn’t surprise anyone. We are seeing a rotation out of growth stocks into other aspects of the market.

The second reason why it’s been weak, and I think this one certainly beholds more water from a fundamental point of view, is that the economy is actually weakening. So if the interest rates have gone up by 100, 200, 300 basis points in the matter of six months, it does have an effect on the economy. And I would say we have still not even seen the full effect on the economy. So, our economy is slowing down, and this is as absurd as it sounds, but this is by design. The Fed needs to almost send us in a recession for inflation to be well-behaved again. So the economy is weakening. And so, if you are buying stocks because they’re down and the economy is heading south, that might not be such a great opportunity. So I think that’s the question in our mind right now, in terms of, what is the balance between how much stocks have lost value and what is yet to come in terms of the economy going forward?

Within these two buckets, I would say the real opportunity lies in the former category. So these are higher quality stocks that are being punished, being sold down just because of rotation into cheaper stocks or lower quality stocks, because, at the end of the day, the economy matters. And if we can find stocks that are less discretionary in nature, strong market positions, strong balance sheets, so you put that together into the kind of quality stocks that we like, we would be very happily buying them today because the price action is weak just because of rotation concerns. When the economy does see more difficult times next year, I think, fundamentally, these stocks will have a lot of support. So those are the ones that we are buying because the opportunity has opened up from this rotation into other types of stocks.

In terms of the risks, I would say, again, it’s the second side of the same coin. When we look at stocks that are declining, that have direct exposure to the economy, so things more cyclical, more discretionary type of means, some of those have taken a beating as well. So the stock prices today are considerably more attractive than they were a few months back. But I think that’s where there’s more questions than answers in terms of where the economy is going, what is the level of cyclicality in this business at this point. And there’s a bunch of other uncertainties as well. So where are energy prices going from here? There’s a lot of things that are not just running on fundamentals, but also on geopolitics. So I think stocks with a high level of sensitivity to the economy are probably not a buy, at least not yet, despite the declines.

At this point, if I was to push myself to think about where we are taking our portfolios away from, I think we are certainly a little more conscious about the situation in Europe, mostly on the cost side. So whether it’s energy costs, power costs. Again, the situation in Europe is not riding just on fundamentals. Fundamentals tend to self correct, but this is more of a geopolitical issue. And we really can’t call what happens to the conflict. So, Europe is certainly an area where we have more concerns. Some of our companies in our portfolio that have large industrial bases in Europe are ones that we are shying away from or not adding to, despite the declines, because there we see the declines happening for the right reason, and that’s just the uncertainty and the disadvantage relatively that Europe has right now versus Asia and the U.S. So we would definitely be more inclined to the U.S and Asia over Europe.

In terms of stocks that we are looking at, what sectors we like, I think, again, we want low discretionary elements. We want low sensitivity to the economy. So we like staples. We like consumer utilities. And again, even within different sectors, we are leaning more towards companies that are less discretionary in nature, less B2C, selling more directly to companies.