As the economy grows, so do profits of most sectors, but as contraction takes hold pain begins to ensue as the profit cycle moves the other way. By monitoring the future path of economic growth across many economies using Leading Economic Indicators we are able to identify the direction of the growth of the economy and thus the likely trend of profits for each sector. This also feeds through to fund flows, as investors move money out of risk assets and into risk-off sectors and asset classes. Usually, other firms react after the fund flows have already taken place, while we attempt to get ahead of these shifts.
Rising or falling prices not only have impacts on everyday citizens but also impact the business models of the companies operating in the economy. Some benefit from rising prices, as their costs are fixed while they are able to raise prices and thus margins. While others have high variable costs that spiral with higher prices and make profit more challenging. This means identifying rising and falling inflation is key to understanding future earnings trends. Many other advisors fail to incorporate the impact of inflation in their process because it has been a benign force due to disinflation, but as we enter a more inflationary world this analysis will become increasingly important.
Both economies and investor sentiment, move in cycles. Economies typically grow or contract based on the availability of credit and productivity trends. If liquidity is abundant, then individuals and corporations tend to engage in more economic activity, and vice versa. If productivity improves, other people and companies can do more with less, and vice versa. These move in both long and short-term cycles which make the investment environment more or less favorable. We utilize these cycles to help put our clients and ourselves in assets that will thrive, while most of our competitors fall prey to these shifts.