Rising inflation together with an economic recovery hobbled by successive business lockdowns will contribute to more difficult wealth markets in the coming year.
Equity markets are expected to be less buoyant, and private equity markets are likely to turn in mixed results, as evident in the poor after-market performance of initial public offerings launched last year.
As well, periods of rising inflation aren’t the time to invest in fixed-income securities, other than shorter-duration bonds.
On the other hand, commodities, like energy and metals, are typically attractive. But many resource companies, particularly energy firms, are challenged by climate change policies, such as constraints on pipeline construction. While investors will increasingly look to corporate bonds and equities of attractive resource companies subject to environmental, social and governance standards, it’s difficult to ensure that project development and operations are consistent to those standards.
Changing economic conditions force a pivot from index-linked investing to more complex strategies. Investors will have concerns about preserving their wealth in a riskier financial climate and building assets over their investment horizons.
Many investors will move to the market sidelines, shifting to cash and likely migrating across different advisors and firms in search of better advice. As a result, firms’ operating margins will tighten because of lower fee revenues, resembling to some extent the wealth markets after the financial crisis and commodities crash in 2009 to 2012. From then until robust retail markets ignited in 2018, revenues were poor, especially at small dealers, and about a quarter of the small dealer community disappeared through mergers or closure.
The outlook for wealth markets depends heavily on the longer-term trajectory of inflation rates. One view is that recent higher inflation rates are transitory and short-lived, with inflation pressures resulting from the intersection of pent-up consumer demand, production constraints and supply-chain bottlenecks. Inflation pressures will inevitably ease as these blockages are gradually removed. Economic growth will take hold, pushing up equity and bond prices, with yields eventually rising above pre-pandemic levels.
Investors will respond quickly to improving market conditions and better yields, contributing to improved performance of financial intermediaries.
In the alternative case, inflationary pressures are embedded in the economy and inflation increases, reflecting the legacy of stimulative macro policies. Successive rounds of wage-push inflation will occur. Conditions in wealth markets will deteriorate. Equity markets will weaken, and bond yields move higher. Commodity prices will boom, notably energy prices, reinforcing escalating inflation rates. Limited investment opportunities and higher risks in financial markets will discourage investor participation, resulting in market outflows.
To dampen inflationary pressure, macro policies should be restrained, especially to reduce federal spending amid overstretched public finances. Effective policy would limit corporate and personal tax rates, to boost economic recovery and financial markets.
Despite the prospect of a setback in wealth markets in coming months, whether temporary or longer term, firms and advisors are better positioned to support clientele in challenging conditions.
Firms have improved staff training and professional standards for advisors and other personnel. Further, firms and advisors have strengthened client communication and interaction, which is vital for clients to control emotions, improve understanding of markets and advice, and measure progress to meet financial objectives. Firms have pioneered innovative technologies for digital client interfaces and efficient operations, and created strategic business models to distribute services and products. Firms have continued to implement diversity, equity and inclusion policies to attract gen-X and millennial professionals, and to broaden client coverage.
Finally, the strong earnings performance of investment dealers in the last three years has placed sounder footings of accumulated capital under small and mid-sized firms.
Ian Russell, past president of the Investment Industry Association of Canada, is an independent board member of mCloud Technologies Corp., a leading provider of AI-powered asset management and ESG solutions.