Market Update – June 2022June 14th, 2022 by Tanner Wrisley
A few weeks ago, the market seemed to be taking a quick breath after a rough start to the year. The last two weeks of May were positive and things seemed to have calmed temporarily. However, last week markets dropped once again culminating with a large negative day on Friday. Yesterday, the market closed with the S&P 500 down 3.88% hitting a new low for the year and officially breaching into “bear market” territory down 21.33%. The reason for these large sell offs stem from stagflation and recession fears.
Inflation and unemployment are two things we do not like to see in our economy, particularly not at the same time. The good news is that they typically work in opposite directions – if one is high, the other is usually low. If people have money and are spending it, it drives demand for goods and services, which normally causes prices to increase (inflation). Conversely, if they are unemployed and don’t have money to spend, demand decreases and prices are subsequently reduced. One of the methods the Fed utilizes to fight inflation is to raise interest rates to curb demand, thereby influencing prices to lower.
- We are currently experiencing inflation at 41-year highs with a robust jobs market at a very low unemployment level of 3.6%
- Conversely, in most recessions like the great depression or the 2008 crash, we saw inflation extremely low or even negative, with a rise in unemployment
- What the market fears today is both of these negatives occurring at the same time – high inflation coupled with high unemployment
- This is called stagflation
Fed & Interest Rates
The Fed has already raised interest rates in 2022 by .25% and .50% in March and May. They have plans to continue to hike rates several more times this year. Their next meeting is this Wednesday, June 15th where they are expected to raise rates again. The market was expecting a 0.50% increase in rates; however, the recent CPI numbers might convince them to move at an even more aggressive rate of 0.75%. The Fed has a very tough task ahead of them because they need to raise rates in order to temper inflation, but if they move too quickly, they are at risk of sending the economy into a recession. In fact, the stock market has already started to price in the woes. With major indexes being down +20% for the year, the markets telling us that investors are expecting that we will get some level stagflation or a recession. Should the market be proved correct, we may see even more downside.
Now to the good news:
- The markets tend to overreact and trade based on worst case scenarios
- Should we avoid stagflation and recession, you can expect the stock market to snap back rather quickly
- We are still expecting positive GDP growth for Q2 despite the rampant inflation.
- Positive GDP growth flies in the face of recession fears
- As I stated earlier, employment is currently at or near all-time highs
- Things would have to around dramatically to get from the 3.6% unemployment that we have now to a high unemployment number like 8%-10%
- And lastly, and most importantly, our investment philosophy here at Anchor Bay is paying off in a huge way
- Our approach has helped us and our clients’ portfolios avoid much of the market’s loss
We have always taken a conservative approach with an emphasis on stocks that have great fundamentals, are low priced, and many times pay a healthy dividend. These types of companies have held on much better this year than the more growth-oriented companies. This has led to portfolio performance that is much better than what we are seeing in the stock market. Although we never want to see losses in our client’s accounts, we are happy to see that we have protected our clients from the brunt of this bear market as nobody is down 20% and most portfolios are down significantly less than the market.
In addition to our general philosophy, late in 2021 we decided to overweight sectors that we thought might perform better in an inflationary environment like materials and energy. This has proved to be the case, especially with energy as the rise in oil prices has led to increased margins and higher earnings for companies like Chevron and Exxon. As we start to see inflation peak, we may be looking to take some of those energy profits, selling high, and using the proceeds to buy into companies that we feel are trading at a huge discount.
Additionally, we have been taking advantage of the increased interest rates by buying new fixed income. After a long period of treasuries returning very little, we are finally starting to see some significant yields that will positively affect portfolio income going forward. For this week, we are holding off on bond purchases to wait for the Fed’s decision and its ripple effects to take hold on the bond market. Once bond prices settle in again, we will be looking to take advantage of higher yields.
At Anchor Bay, we create every portfolio to withstand downturns like the one we are experiencing now. It is difficult and uncomfortable to see your account balance lower, however it is paramount to remember that these losses are temporary. We expect the market to have bearish periods and have put together our portfolios with that in mind. If there is one aspect we can count on with the stock market, it’s that it always comes back. We have picked stocks for their long-term growth opportunities – they may experience some short-term volatility that we are okay with and expect. It is important to stay the course and not panic when the market goes south. As always, we are keeping a very diligent eye on all things market related to try and limit losses, while simultaneously looking for opportunities when they present themselves.
Tanner Wrisley is the Chief Investment Officer, Portfolio Manager, and a Principal at Anchor Bay Capital. He has a degree in economics from Harvard University and is currently a CFA level 2 candidate. Tanner is responsible for the day-to-day management of all Anchor Bay client portfolios and for developing investment strategy with the investment committee.