“There is no such thing as a free lunch” this adage, can be applied to many areas of our lives, but it’s particularly relevant when it comes to investing.
The calendar had barely flipped to 2022 and the markets have reminded us that attractive long-term stock returns come with a cost: short term volatility. Year to date, (as of March 3rd ) the S&P 500 Index has returned -8.45%, the Dow Index -7.00% and the Nasdaq Index returning -13.47%. After three years of consecutive gains across all three Indices, it’s certainly not uncommon to start the year with negative returns – especially given the economic and geopolitical headwinds were experiencing right now. Bonds haven’t fared much better with the Barclays U.S. Aggregate Bond Index returning -3.55% year to date.
This morning we received the February Nonfarm payroll report that showed the U.S. economy added 678,000 jobs last month which was better than the 423,000 economists expected. Job growth accelerated in February, posting the biggest monthly gain since July 2021. The unemployment rate fell to 3.8% -yet many businesses are still struggling to hire qualified workers with 10 million current job openings available across the U.S. The lack of available labor coming out of the pandemic was largely unexpected and has added to our supply chain woes and inflationary pressures. Unfortunately, there is no quick fix and will take time to iron out.
We see two key issues that need to be dealt with before we can see a meaningful move higher in stock and bond markets. First, Inflation needs to be put in check and the market needs to see the data evidencing this. On March 10th, the latest CPI (consumer price index) report will be released and on March 31st the PCE Index (Personal consumption expenditures) report will be released. The PCE report is the report the Federal Reserve uses to measure inflation. These reports will help guide the trajectory of the Feds interest rate hike cycle moving forward.
Remember, the Fed can speed up or slow down the economy by raising or lowering interest rates. If the Fed raises rates too aggressively, they risk pushing the economy into recession, if they raise too slowly, they may not be able to rein in inflation. The Fed needs to thread the needle on this, and the market is not confident the Fed can pull it off without making a policy error. Much of the stock market volatility we have experienced this year is nervousness surrounding this issue.
The second issue is the war in Ukraine and the geopolitical uncertainty that it’s causing globally. In addition to geopolitical uncertainty, the sanctions imposed on Russia can result in a degree of collateral damage to our own economy that may not be fully understood yet. Looking at all major geopolitical events since World War II, the average post-event loss for the stock market has been just 5%, with an average recovery time of less than seven weeks. The U.S. economy’s track record of resilience and corporate America’s ability to adapt are unparalleled.
Tactically, regarding portfolio management, we remain overweight to stocks (where appropriate) given the challenges posed to bonds in a rising rate environment and have rebalanced portfolio allocations several times this year already. In a rising interest rate environment, history shows that value stocks outperform growth stocks initially but after the first couple rate hikes momentum tends to swing back in favor of growth. Reason being the initial rotation out of growth reduces their P/E (Price to earnings) ratio and other valuation ratios such as price to sales or price to book and growth becomes attractively valued once again. We have a bit more cash sitting idle for opportunistic buys and for new money that needs to be invested we are piecing the funds into portfolio allocations on market dips.
Please remember, we’re not investing for the next 6 months but for the next 5 to 10 years and beyond. It’s important to remember your true investment time horizon during market corrections and we urge patients. Most importantly, do not get caught up in the day-to-day market swings and keep emotions in check. We are long-term investors and we’re confident better times are ahead in the second half of 2022.
We wish you and your family a great Friday evening, and a wonderful weekend!
As always, please reach out to us with any questions or comments you may have regarding your specific situation.
Jaran C. Day, Chief Investment Officer
Griffin Dalrymple, CFP®, Chief Strategy Officer