Q&A: Aerospace, Biotech, Trade War… and More
For this week’s Big Interview, my team turned the tables on me. Jim Pearce, chief investment strategist of our flagship publication Personal Finance, asked if he could interview yours truly.
Below are the highlights of our question-and-answer session, touching upon a wide range of timely topics of vital interest to investors.
Jim Pearce: What major geopolitical events/circumstances do you expect to affect your areas of investment expertise the most in 2019, and how/why?
John Persinos: I’ve covered aerospace/defense for decades. In my youth, as the editor of a publication devoted to rotorcraft, I even flew helicopter gunships. That’s me, emerging from the cockpit of a Bell Textron Cobra AH-1 attack helicopter.
I continue to stay in close contact with the top management of large-cap aerospace firms. These executives give me the heads-up on major defense trends. Based on their latest insights, I conclude that the aerospace/defense sector is poised for multi-year gains.
Aerospace and technology are intertwined; they’re also particularly susceptible to geopolitical risk.
The most likely source of overseas risk is the Korean peninsula, where the rogue totalitarian state of North Korea continues to rattle its saber. The complete failure of the summit in February between President Trump and North Korean strongman Kim Jong-un didn’t help matters. The White House’s hawkish and unpredictable foreign policy will continue to prove a wild card in 2019.
The Middle East is another potential flashpoint, with possible disruptions of oil markets. Saudi Arabia’s economic restructuring could sow civil unrest. The House of Saud also is coming under increasing pressure for its human rights abuses, which further fuels international tensions.
China is growing more assertive as Trump’s “America First” policy causes the U.S. to retreat from various international agreements, allowing China to rush into the leadership vacuum. This makes China’s neighbors (and age-old antagonists) in Asia nervous.
Meanwhile, the U.S.-China trade war probably won’t end anytime soon. Tariffs stoke inflation and add considerable uncertainty to the global economy.
Mistrust among trading partners is worsening, as traditional alliances fracture. Tit-for-tat tariffs already are disrupting global supply chains and upending long-range corporate planning. The West is divided, a situation that pleases at least one man: Russian President Vladimir Putin, who seems more emboldened with each passing day.
Investors who keep seeing signs of trade progress are deluding themselves. The White House is committed to protectionism and China refuses to blink. History shows that trade tensions often escalate into outright military confrontation.
It’s folly to dismiss harsh trade provocations between the U.S and China as empty rhetoric. If you study the preludes to World Wars I and II, you’ll see that mere “words” can have terrible consequences.
The post-World War II multilateral order, which has ensured more than 70 years of international prosperity, is coming apart at the seams. America is even at odds right now with Canada — yes, mild-mannered, democratic Canada.
Once implemented, tariffs are difficult to reverse. The verdict of history is clear. The protectionism of the 1930s worsened the Great Depression, an economic dark valley that eventually resulted in global conflagration.
The upshot: 2019 will likely witness greater demand for aerospace/defense, especially for high-margin jet fighters that are popular export products. U.S.-based aerospace giants did exceptionally well in 2017 and 2018; this prosperity should continue in a fraught 2019.
Paradoxically, heightened tensions in Asia could weigh on the technology companies that are based in fast-rising emerging markets such as Taiwan and South Korea. Caught in the crosshairs would be Japan, which is coming off the economic ropes. The outbreak of war in Asia would tank global markets.
Which sectors/geographies do you believe will perform the best in 2019, and why?
In addition to aerospace/defense, the sectors of utilities, energy, consumer staples, and health services are positioned to outperform in 2019. These sectors typically do well during the “late stage” of an economic recovery. That’s when gross domestic product slows, credit availability tightens, industrial productivity sputters, and revenues and earnings decline.
In particular, health care will continue to benefit from unstoppable trends that are resilient to economic and financial cycles. People need medical care, especially as they get older and sicker, whether the economy is growing or not.
Around the world, populations are aging and middle classes are rising. That spells long-term demand for doctors, hospitals and drugs.
The biotechnology sector is in resurgence so far in 2019 and I expect this upward trajectory to continue, as new and novel treatments hit the market. Year to date, biotech stocks have outperformed the S&P 500. Investors should keep an eye on the small-cap biotech “disruptors,” which offer the potential for enormous gains.
What would it take for the current bull market to finally come to an end in 2019, and what might cause that to happen?
The year 2018 was dreadful for investors, especially the fourth quarter. Triggers abound for further sell-offs this year. Valuations still remain high. Around the world, there are bubbles in stocks, bonds and housing. The bull market is about to celebrate its 10th anniversary; that’s ancient by historical standards.
Years of low interest rates that spawned these asset bubbles are coming to an end. The Fed is on course for shrinking the vast amount of government securities it holds. The European Central Bank and the Bank of Japan are following the Fed’s lead.
Two other tightening cycles, one in 1999 to 2000 and another from 2004 to 2007, were followed by stock market crashes.
The Fed tries to strike a balance with monetary policy, but it rarely gets it just right. There’s a danger that rising rates will choke off the economic expansion. At the same time, the Trump administration is gutting the regulations put in place to prevent another 2008.
If trouble comes, the federal government won’t have many tools at its disposal. The exploding federal deficit, caused by the tax cut bill signed in 2017, will push up interest rates and make it difficult for policymakers to respond to a recession.
Also worrying are high debt levels in overseas countries, notably China and beleaguered European Union countries such as Italy. A major overseas bank failure could start a “domino effect” and global meltdown. Brazil and Venezuela teeter on the brink of political collapse, with threatens the global economy. Potential supply disruptions in strife-torn oil producer Venezuela loom large.
The road from here looks dangerous. Global growth is slowing, inflation is stirring, bond yields are rising, public and private debt around the world is mushrooming, “populist” insurrections threaten social stability, North Korea remains untamed, Russia has gone rogue, political scandals engulf the White House… shall I go on?
I’m not an alarmist by nature and I take a dim view of perma-bears and fear-mongers. However, it’s important for investors to face harsh realities when they actually arise. Expect more volatility in 2019.
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