May 25, 2022
We sent the following note to clients on May 9th.
The mood around stocks throughout 2021 seemed to be “comfortable” and seems to have shifted to a mixture between “nervous” and “hopeful.” Whether we need to go through a “desperation” phase or not remains to be seen.
The two main pieces that seem to be affecting the mood are Ukraine and declining stock prices. It is the combination of the two that can make it easy to be distracted from the game plan of investing in a durable way over time.
As I write, US stocks are down 17% from their highs.
The narrative that is taking shape is a combination of rising interest rates, high and sticky inflation, tight labor market, tight supply chain and less accommodative or even unsympathetic Federal Reserve.
On the other side, a tight labor market adds to the demand side of the equation for the economy as it continues in some kind of “re-opening” phase (David Kelly, JP Morgan).
Our November note, “Shifting Seasons” shared that stock prices had not been off their highs by 10% in 400+ days, which was longer than the average of 251 days (Ned Davis Research). That statistic did not mean they would go down, as much as we were trying to coach all of us for a “normal” selloff, regardless of the news flow.
Basic reminders are that –
- We do not invest short term cash needs for the next 1 – 3+ years in stocks;
As we have seen short term (2-3 yr) interest rates move up from 0.5% to the 2%+ range, we have begun incrementally shifting the bond piece of your portfolio from treasury bills and money markets into a “laddered” bond mix.
- We used the 2021 recovery period to sell stocks modestly to keep your portfolio’s stock portion within its targeted range.
- We have been biased toward areas of stocks that are more fairly valued vs. over-valued.
Fairly valued stock areas can see their prices tested, but math and history suggest that fairly valued areas would ultimately be expected to recover following a storm, whereas overvalued areas can languish for years and years, as witnessed during the 2000’s following the technology bust.
- We have had a longstanding substitute of a portion of the stock allocation in an “alternative,” “trend following” category as we have had general concerns about stock valuations. This portion is helping ballast the portfolio and offer more flexibility this year.
Specifically, as 2021 evolved, this portion reactively got more oriented toward inflationary themes of higher commodity prices and rising interest rates. As stocks, broadly speaking, work toward fair value, this portion should offer liquidity to gradually re-allocate toward stocks for the next five+ years.
We will see how the balance of this year unfolds as markets continue to work through at least a bad case of “indigestion” with a lot of cross currents. If stock prices continue lower, we expect an opportunity to add incrementally to them by re-balancing your portfolio – similar to the actions during the COVID-19 selloff in 2020.
CEO & Chief Investment Officer
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