3 Investing Themes for the Next Bull Market

Apr 20, 2023

Explore long-term investment opportunities to watch when the market shifts from bear to bull.

Author
James Ferraioli

Key Takeaways

  • Peak earning years for Millennials and Gen Z could offer gains for e-commerce, select retail brands and homebuilders.
  • Technological advances and public policy support could drive growth for the U.S. semiconductor industry.
  • Food and water scarcity could spur investments in agricultural technology and water infrastructure.

Investors who enjoyed the rallies of the pandemic bull market saw many of their gains disappear in 2022. But there’s a bright side: Bear markets—when a broad market index falls 20% or more—often create opportunities to invest at discounted prices.

 

What’s more, while rising share prices can make a variety of assets look attractive, market downturns offer a glimpse of the select few names showing what’s known as “relative strength”—those holding up best on the way down and leading on the way back up.

 

Morgan Stanley Wealth Management’s thematic investing team believes that investing in companies benefiting from long-term growth trends, at historically attractive valuations, can be a recipe for success. Below, three investment themes to watch in preparation for the next bull market. 

 

Millennials and Gen Z Take Center Stage

Millennials are now the largest living U.S. adult generation, with Gen Z the second-largest. As these two generations enter their peak years for earning a salary and building a household, investors should consider their spending needs and preferences.

 

For example, Millennials and Gen Z are e-commerce natives, and early-pandemic lockdowns only reinforced their preferences for online shopping. As the incomes and spending power of these generational cohorts grow, e-commerce giants and brick-and-mortar retailers with a strong digital presence are poised to benefit alongside supporting businesses like logistics providers and social media platforms. In addition, Morgan Stanley Research has found that consumers ages 35-44 and 45-54 tend to spend the most on apparel, and in the years ahead, we think apparel brands popular with Millennials stand to benefit from this propensity.

 

Meanwhile, demand for homes among Millennials and Gen Z is likely to create a long-term tailwind for the U.S. housing market. While household formation rates fell to multi-decade lows after the 2008 financial crisis, the trend started turning up in 2015 and is likely to stay on that path as Millennials continue getting married and starting families in the coming years, followed by Gen Z in the next decade. This trend could drive robust homebuilding activity, as builders play catch-up after a period of tight supply.

For many families, a major obstacle is failure to adequately plan for the future.
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Demand for homes among Millennials and Gen Z is likely to create a long-term tailwind for the U.S. housing market.

For investors, now may be an opportune time to gain portfolio exposure to the trend in housing: The S&P Homebuilders Select Industry Total Return Index, for example, was recently trading at a 12.4 price-earnings (P/E) ratio, below both its pre-COVID and 5-year averages. These stocks have also been “leading on the way back up,” with gains of 17.2% since the market’s October 2022 low versus about 15% for the S&P 500 Index.

 

Sizing Up Semiconductors

Semiconductors are the foundation on which numerous other technologies are built. There is massive demand today for the commoditized chips that help run everyday technology like phones, cars and smart appliances. Looking ahead, the rapid rise of data-intensive applications, such as new forms of AI, means there could be significant future demand for more advanced processors.

 

Support from public policymakers is a major advantage for the U.S. semiconductor industry in particular. To prevent the kinds of cascading global chip shortages seen early in the pandemic, and to shore up domestic production amid mounting geopolitical concerns, policymakers and companies alike are now pushing to “re-shore” semiconductor manufacturing in the U.S. The America COMPETES Act, for example, carved out $52 billion for domestic semiconductor manufacturing and research.1 Likely beneficiaries include U.S. semiconductor manufacturers, companies that contribute to the U.S. semiconductor supply chain and those that will support the infrastructure required to build out the domestic semiconductor industry, such as freight and trucking providers and industrial property companies.

 

U.S. semiconductor stocks, as measured by the Philadelphia Semiconductor Index, recently traded at 21.4 times current earnings, making them somewhat pricey relative to their own recent history. However, they have shown remarkable relative strength of late, gaining 40.4% since the stock market’s October 2022 trough.

 

Feeding a Hungry Planet 

While the global population is projected to grow roughly 20% to top 10 billion people in the next 25 years, the projected growth of the middle class in developing countries alone will require 50% more food than the world produces today. At the same time, climate change is projected to have a significant negative impact on the production of staples such as wheat, rice, maize and soybeans.

 

Innovative solutions for increasing food production and enhancing access to clean water can help meet sustenance goals in a sustainable way. For example, “precision agriculture” uses big data, drones, sensors and automation to optimize farm efficiency and productivity, so that each acre can produce higher yields while using less water. Because agriculture creates the highest demand for water, making food production more water-efficient will leave more water available for drinking.

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Innovative solutions for increasing food production and enhancing access to clean water can help meet sustenance goals in a sustainable way.

The need for clean drinking water is already critical: By 2030, the gap between global demand and supply for freshwater is expected to reach 40%. To help close the gap, Morgan Stanley researchers forecast $1.4 trillion will be invested over the next several years to expand and improve global water infrastructure to better treat, transport and conserve water. 

 

Recent innovations are also helping manage global water demand. For example, smart metering systems can help utilities improve water billing so that water is both conserved and priced accurately. Other projects, meanwhile, are helping increase the freshwater supply. In 2020, for instance, desalination—the process of removing salt and other particles from seawater—accounted for only about 1% of global freshwater demand. But as new projects come online, the desalination market is projected to grow around 9% annually through 2025.

 

Stocks in the S&P Global Water Index, with a 29.8 P/E ratio, appear richly valued relative to their own recent history. However, they have shown impressive relative strength, having gained 22.1% since October 2022. Long term, water’s status as a basic human need and constraints on its supply are likely to drive significant new investment in water infrastructure and agriculture technologies, as well as further upside for these stocks.

 

To learn more about Morgan Stanley Wealth Management’s high-conviction investment themes, ask your Morgan Stanley Financial Advisor for a copy of the AlphaCurrents report, 2023 Thematic Outlook and Update on Relative Strength. The report includes specific ETF and stock recommendations for the above themes as well as five other high-conviction thematic ideas: automation, health care innovation, cybersecurity, electric vehicles and the energy transition.

 

Your Morgan Stanley Financial Advisor can share specific recommendations that may help your portfolio benefit from these trends.  

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