As market volatility continues this year, we find ourselves reflecting on the words of Warren Buffett:
“If you aren’t willing to own a stock for 10 years, don’t even think about owning it for 10 minutes.”
The tide has gone out the first half of 2022. Stocks are in the midst of a more historically normal level of correction with the Nasdaq down 34%, S&P 500 down 24% and Dow Jones Industrial Average down 19% as of this writing. For the past 10+ years, investors have enjoyed a low volatility stock market, attributable to accommodative central bank policies established coming out of the great financial crisis in 2008 and most recently, the global pandemic.
Fixed income markets have also experienced the most difficult start to the year since 1970, with the Bloomberg Barclays Aggregate index down approximately 12%.
Several factors have caused this change in markets:
- Inflation, in part caused by excessively accommodative central bank policy
- Liquidity declines in the overall financial system with the end of historically low interest rates and quantitative easing
- Investor sentiment has swung wildly negative to historical lows over the past 6-9 months as evidenced by the recent University of Michigan consumer sentiment index
- The Ukraine-Russia war – a humanitarian crisis with major implications for the global energy markets and the global food chain (Ukraine is a major producer of the global wheat market)
- China’s zero COVID policy – their attempt to fight the virus with mass lockdowns has further delayed improvements to the global supply chain
The last two points above, war and China’s zero COVID policy, have placed further pressure on inflation through elevated oil prices and closed shipping ports. Persistent inflation has forced central bank officials to implement aggressive interest rate policies, with the Federal Reserve this week raising interest rates by 0.75%, the largest interest rate increase since 1994.
By raising interest rates, the Federal Reserve is attempting to cool demand in the U.S. in order to fight inflation. There are some signs that it is beginning to work, with the rate on a 30-year fixed mortgage for a home purchase rising to above 6%, from rates close to 3% at the start of the year. While there are other factors such as elevated oil prices which the Fed cannot directly influence, signs are beginning to emerge that consumer spending is slowing, reflecting concerns of an economic recession and decline in corporate earnings.
The S&P 500 officially entered a “Bear Market” this week with a decline of 20% or greater. Looking forward for the next 12 months, we are encouraged by history which would suggest that this market does not necessarily mean equity prices will continue to fall as evidenced by the data in the table below:
As our Investment Committee meets and considers the outlook, we have reminded ourselves to remain long-term focused with a diversified portfolio of stocks, bonds, real estate and cash to help clients achieve their long-term financial goals. We are long-term investors, trying to avoid making decisions solely based on near-term market activity, and we have found no models with the ability to consistently and accurately time the financial markets.
We fully expect corporate earnings downgrades in the coming weeks. That said, we still project corporate earnings to grow 6-9% in 2022. Given the strength of corporate earnings so far this year and the fact that the U.S. unemployment rate is currently 3.6% it seems unlikely, though not impossible, for the U.S. to enter a recession this year. Regardless, if the U.S. officially enters a “recession” in 2022 or 2023, the pain on Main Street is real, as one considers the cost-of-living increases across the board especially with food, shelter and energy.
We expect market volatility to remain through the remainder of 2022 and into 2023 as investors react to daily headlines and reports. Keep in mind, improvements in the Ukraine-Russia conflict, a sustained opening in the Chinese economy, and signs that inflation has peaked over the coming months may have a meaningfully positive impact on the current economic environment.
Certain information herein constitutes forward-looking statements, which can be identified by the use of terms such as “may”, “will”, “expect”, “anticipate”, “project”, “estimate”, or any variations thereof. As a result of various uncertainties and actual events, including those discussed herein, actual results or performance of a particular investment strategy may differ materially from those reflected or contemplated in such forward-looking statements. As a result, you should not rely on such forward-looking statements in making investment decisions. ACG has no duty to update or amend such forward-looking statements.
Past performance is not indicative of future results. Given the inherent volatility of the securities markets, you should not assume that your investments will experience returns comparable to those shown in the analysis contained in this report. For example, market and economic conditions may change in the future producing materially different results than those shown included in the analysis contained in this report. Any comparison to an index is for comparative purposes only. An investment cannot be made directly into an index. Indices are unmanaged and do not reflect the deduction of advisory fees.
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