July 2022- Market Commentary
Markets have been simply awful. The numbers presented below in the index table are exceptional, and we have not seen numbers like these since the Global Financial Crisis of 2008. I have included a few media headlines below to reemphasize this point. In addition, we are seeing that both high-quality bonds and stocks are showing significant negatives.
This is a breakdown of a fundamental assumption of asset allocation. Typically, when stocks go down significantly, bonds go up. This year, so far, we have negatives in both. This is just one of the many challenges we face managing money in 2022. Ukraine war, exceptional inflation, and Fed Policy make it extremely complicated to position a portfolio correctly.
The classic American style 60/40 asset allocation portfolio is down about 20% - the worst year in over 50 years. Well-respected and well-known investment firm's "balanced" USD funds are down -15% year to date. Recently, in a conversation with a Doctor client of ours, I said, "they don’t teach you in finance school how to manage money in environments like this", and the doctor responded with, "oh, then it's like Covid for you". I appreciated the simile as it gave context to how difficult it is to have a clear investment strategy now, and we need to have faith that things will recover in the long term.
We have taken unprecedented tactical moves for our investing style and remain vigilant as we recognize this crisis is not yet over. More on that below.
The magnitude of the red numbers in the above table of major indexes shows you there was "nowhere to hide" to protect your portfolio from losses. The numbers speak for themselves. Is it over? That is the key question, and like all good questions - it isn't easy to answer. In the meanwhile, it looks like the near-term outlook is going to be challenging.
Flying Without a Safety Net
Since the 2008 Global Financial Crisis, the central banks of the world, led by the US Federal Reserve, have been instrumental in capital markets. In every crisis since and including 2008, they created stability by buying bonds and lowering interest rates. In 2022, they are slowing and stopping their bond purchases (they use the phrase "reducing the size of their balance sheets") and are increasing short-term rates to control inflation. This has the effect of removing the "safety net" that we have become used to since 2008 and is a contributing factor to the size of the losses in markets. Stopping to buy bonds is referred to as a withdrawal of liquidity and the market needs liquidity.
There is a discussion in the financial media about a soft landing or hard landing. This refers to how aggressively the US Federal Reserve will act and how much pain will be caused in the economy and markets while they try to control inflation. In my opinion, we have suffered a lot of pain in markets, but there is a good chance there is more pain to come. The problem is that it is impossible to get the trading timing right, and in order to enjoy the rebounds you need to be invested. We have taken the step to significantly reduce bond credit exposure where we most fear there is still more pain to come. Remember markets are forward-looking and market participants are trying to anticipate the economic data before it comes out. So for certain, at least part of the less positive outlook is indeed already priced in.
Keep the Faith
How does one keep faith in capital markets after such a rout? This question is particularly relevant for newer investors, who haven't suffered meaningful drawdowns before, or for those investors who don’t have a few good years of gains to fall back on. Often it’s the older and more experienced investors who are telling their advisors not to panic and are stressing that we need to be patient! Certainly, when one looks at a report, one has to ask the question if it's worth it. Where do we, as advisors and asset managers, get our confidence? If no one ever made meaningful money in public markets, our industry, which is a by-product of the capitalistic system, would not exist. Our long-term assumptions are still intact, and while it is distressing to see losses, we know that negative years, even extreme negative years, are just a part of the investing cycle. The portfolio growth is never in straight lines every year. I always think of the client (true story) who invested in the 1990's into a fund and then forgot about the investment for over 20 years. When we compared the forgotten investment to the active investment - the forgotten investment had done much better. In the so long term, we believe market assumptions will hold.
It's Not Over - Outlook
In 1979, when Paul Volcker, as head of the Fed was tasked with bringing inflation under control, it took him four years of aggressive policies (raising rates to 21%! Which we don’t see happening), and it took even longer for inflation to officially come down. It was a painful but necessary medicine, which we can all thank him for. The lesson for me is that the current high levels of inflation will not be brought down as quickly as we hope, and we should not underestimate the resolve of the Fed to bring inflation down. In their minds, it's short-term pain for a long-term gain. The result is a somewhat gloomy atmosphere for growth prospects and risk assets. However bad it may or may not be, it will be temporary. Only time will tell whether it's six months, three years, or longer. This time, unlike in 1979, we have supply-side problems resulting from Covid and Russia's weaponization of commodity prices. So raising rates is not the only solution to inflation; it can only address part of the problem.
The Good News
The good news is that the old thing called interest is back. Banks are finally offering decent deposit rates on USD, and we can build investment-grade bond portfolios with a decent nominal return for more volatility-sensitive clients. We expect shekel rates to increase soon, so don’t lock your money away for too long as soon you will get better rates on your cash shekels and better yields on shekel bonds.
We firmly believe that investors must stay invested and not give up. In the words of Warren Buffet – "we need to be greedy when others are fearful" and look for buying opportunities. The data metrics tell us that it is not yet time to start any significant buying, but we are watching it closely.
Bitcoin and Ethereum, the main two Cryptos, collapse of -60% and -72% prove one thing for me. Cryptos are not a currency, not a commodity, and not an alternative for any store of wealth. They are simply a risk asset, with one important caveat - that is, there is no real asset behind it. The whole value of Crypto is based simply on the principle that there is someone else willing to pay more than the original investor paid, as there is no real tangible asset. When risk appetite is high- Cryptos and other digital assets will do well, and when risk appetite is off- they will do badly, possibly very badly. This was our view before the collpase and why we refused to put Crypto assets into our discretionary portfolios.
The information mentioned above is not a substitute for personal Investment marketing, which takes into account the particular circumstances and special needs of each person. The views expressed in this review should be considered market comments for the short term for information purposes only. As such, the views herein may be subject to frequent change, are indicative only, and no reliance should be placed thereon. This review does not constitute legal, tax, or accounting advice, any investment recommendation, or any offer to buy or sell financial instruments of any kind. It does not take into account the investment objectives or needs of specific investors. Although this review has been produced with all reasonable care, based on sources believed to be reliable, reflecting opinions at the time of its writing, and subject to change at any time without prior notice, neither Pioneer Wealth Management nor any other entity or segment within the Pioneer International Group makes any representations or warranties as to the accuracy or completeness thereof and accepts no liability for any loss or damage which may arise from its use. The writer and the company are unaware of any conflict of interest at the time of publishing the above commentary.