Even as markets have seemingly concluded that Omicron does not pose a substantial threat, we still expect volatility to spike with each related headline. Although another Covid wave had been anticipated, the fear of economic restrictions will likely remain.

Congress continues to pose a risk despite reaching a one-time resolution on the debt limit. The $1.7 trillion “soft” infrastructure-spending package remains in jeopardy, given the Democrats’ razor-thin majority and significant objections from within their ranks.

Geopolitical risks have recently expanded, as tensions between China and the U.S. are brewing again. Further sanctions on Chinese tech firms will likely hamper emerging markets, given China’s sizable weighting within the broad-based EM indexes.

Best Ideas
In the U.S., inflation and expectations for higher yields should bolster returns for small caps and financials, as well as for companies with pricing power. Stronger producer discipline and global demand should help extend the cycle for energy, while select technology companies, such as front-office software leaders, also look attractive. The prospect of stronger relative earnings growth could be a catalyst for select stocks in developed non-U.S. markets, particularly Europe, and select emerging markets (ex-China, given current risks). We continue to advocate a long-term approach that prefers cyclicals and value stocks exhibiting strong earnings growth and pricing power.

In Focus: Renewing The Case For Utilities
The growth outlook for the utilities sector remains bright following a return of nearly 18% in 2021—its third-highest gain in the past decade. Valuations look attractive, as the sector is currently trading at a discount of approximately 10% to the S&P 500 Index, with a P/E ratio of 19.2x versus 21.4x, based on estimated 2022 earnings per share (EPS).

But the investment potential goes beyond relative valuations. Most utility conglomerates have streamlined their operations, turning into pure-play regulated utilities—which investors typically prefer due to the stability and predictability of earnings that these businesses offer.

Meanwhile, the capital expenditure landscape for utilities is as vibrant as ever, with significant opportunities to invest in energy transmission, system reliability and modernization. We think current capex budgets for utility companies support EPS compound annual growth rates of 5% to 8% over the next five years.

Perhaps the most compelling rationale for the sector is the near-universal effort by its constituent companies to reduce greenhouse gas emissions by steadily retiring high carbon-emitting (e.g., coal-fired) power plants and investing in renewable energy alternatives such as wind and solar. These offer lower construction and operating costs while also helping combat climate change.

As renewable power plants grow in number, so does the regulated asset base for the companies that run them. Shareholders, in turn, should benefit from the substantial and predictable earnings growth fueled by this industry-wide decarbonization.

Saira Malik is chief investment officer of equities at Nuveen.

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