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Good morning and Happy New Year! We hope you all had a wonderful, healthy holiday with family and friends.
We wanted to share several brief thoughts around the markets and economy. Hope you find this helpful.
What is going on in the markets?
The equity markets have been selling off over the past several weeks with the Nasdaq & Russell reaching correction territory as the Federal Reserve has changed course on its easy monetary policies. A correction is when a major index (Nasdaq, Dow, Russell) drop 10% or more from its high. Here are the numbers I calculated for the indexes from their peaks, which happened at different times throughout late last year:
Dow (US Value Focused Companies): -4.75%
Nasdaq (US Technology Focused Companies): -11.32%
Russell (US Mid and Small Sized Companies): -17.17%
S&P 500 (US Large and Mid Sized Companies): -6.43%
Why are some indexes down more than others?
Interest Rate Expectations. A rise in interest rates affects small, mid, and growth oriented companies more negatively than value oriented. The valuation of those companies are much more reliant on future interest rate expectations as investors are generally paying for future profits. Those future profits are less valuable with higher interest rates.
Why are interest rates going to rise?
The main tool to fight high inflation is to raise interest rates. The Federal Reserve is planning for several interest rate hikes this year. Additionally, they are downsizing their bond buying program in an effort to get the current inflation under control.
What does this mean for my investments?
Again, the short-term is always impossible to predict. By almost all measures, stocks have been at frothy valuations for many months now; you could argue going back to late 2020. That said, timing when to get in and out of the market is where investors can really hurt themselves.
Let’s say you thought the market was over valued in December 2020, and you may have been correct and sold out. You would have missed out on an incredible 2021 in the markets, an over 26% return from the S&P 500 alone! Missing that kind of a year is devastating to a portfolio’s rate of return.
That said, I understand it’s difficult to just sit back and not do anything. I feel like our human nature is to want to do something, change something when we see portfolios decrease during these times. The best thing really is to just ride it out and focus on your long-term goals, which is why we are invested in the markets in the first place, long-term growth of our capital.
What are your thoughts on the markets, economy, and the sell off?
I am actually really encouraged, I know that sounds strange but let me explain! Markets that simply go up and up are not healthy. The Federal Reserve keeping interest rates near 0% and buying billions of bonds each month isn’t healthy for an economy long-term.
Valuations get too far away from reality, bubbles are created, and speculators are abound. These sell offs provide opportunities for me as your investment advisor to add long-term positions to client portfolios at lower, more reasonable valuations.
An end to easy monetary policies and higher than expected inflation means that our economy is strong enough to no longer need support from the Federal Reserve. A rise in interest rates means that in a couple of years, retirees who typically have a higher allocation to bonds, may see more reasonable rates of return vs. the paltry 1-2% that bonds are currently paying.
The markets may indeed continue to sell off, but for long-term investors, it presents a buying opportunity and encouraging signs for our economy.
Are you making any changes to my investments?
We added some inflation-protected bonds late last year, and bond maturities in client portfolios are short in anticipation of rising rates. For non-retirement accounts, where applicable, we may do some tax loss harvesting.
We will also be rebalancing client portfolios and taking advantage of any further weakness in the coming weeks. Other than that, providing ongoing communication, keeping client portfolios high quality, diversified, and flexible is our main focus.
I hope you find this information helpful. As always, any questions please do not hesitate to contact our office, and to schedule a review meeting simply click on the blue button below.
Clint & Renee