June 30, 2022Economy Good reads Quarterly commentary
Navigating Volatility: To see the rainbow, we need to endure the storm
As we approach the mid-point of 2022, I wanted to take some time to recap the markets. It has been an interesting first half of the year to say the least: The S&P 500 logged its worst first half performance since 1970, inflation is at a 40 year high, an ongoing geo-political war, and the Bank of Canada and Federal Reserve are playing catch up to raising rates against the largest percentage increase to the money supply in history.
I spoke a bit about indicators of a recession in our last write up. It’s hard to see a recession on the near time horizon with employment being full, rates still relatively low and a strong consumer, amongst other points. However, the Federal Reserve’s goal is to get inflation in line. The tool to do that is to raise rates, and if moved too high, a recession can also be forced upon the country to curtail spending. This may be the end result, but the battle back and forth is whether they can curb inflation without causing this. It’s certainly possible, but with inflation being stubborn, it may prove very difficult to do.
The last time the Fed has moved rates at this pace was 1994. I’ve received a lot of questions on why moving rates challenges the stock and bond market. For stocks, it has a two-prong approach. For companies who borrow, it costs them more and therefore can influence growth and profitability. For the consumer, it works to lower the amount of borrowing, so overall less economic spending. For fixed income, it makes the current bonds in the market less attractive and therefore lowers their value until the eventually come due at maturity. In fact this has been the third worst year for a 60/40 portfolio in history.
This is not all bad news. As I have mentioned before, once bonds return some value and mature, we now have much higher rates that we can. For stocks, this is a bump in the road. Eventually companies adjust to higher rates, inflation allows them to raise prices, and higher profitability returns. It takes time, and the current uncertainty causes that aggressive sell off which, over a longer period, has generally proven to be an excellent buying opportunity. As we’ve always said, the volatility is the price of admission to get superior returns over your investing career. We’re going through it now but as always, it won’t last forever. It just feels that way as you are in the midst of it.
Some important things to remember during this period:
- Downside is a natural part of investing. Look at your long-term returns and try not to focus on month to month. It is easy to focus on being down in the short-term without taking into account how well your accounts have performed in 2019, 2020 and 2021.
- The market is priced daily. It is much more transparent when your invested assets are down versus something like your home, but think of them in a similar way. Your home is likely to be lower in value now than it was in January, but since it’s not valued every day, it’s easy to forget that. Generally, you know that you are not selling your home, and will continue to live in it regardless of the fact that it may be worth less at the moment. Ultimately, you know that overtime it will increase in value, just like your investment portfolio.
- Things don’t need to get better, they just have to get “less bad”. The market prices in all available negative information. If the information is less bad, which it generally is over time, that is often enough for positive returns, which tend to happen quickly after a sharp decline.
- Selling your equities is not a good strategy. The equities you’re invested in are high quality, solid earning companies. We recognize that it is never easy seeing your account value down, but it could be a lot worse. We don’t buy the hot topic things like meme stocks, tech companies with no earnings, or crypto, which have lost 60% or more of their value. The companies you own are ones that are down with the overall market, but will come back over time.
- The market is a zero-sum game. For every winner, there is an equal loser. There are a lot of new participants who have entered the market in the last five years who may have never experienced a negative market. Their reactions to negative news is very rash and snowballs very quickly. We’re here to make sure you’re on the correct side of that equation.
- Emotional intelligence is equally as important as intellectual intelligence. It’s not always about how smart you are, but also about keeping your emotions in check. It’s often about reminding yourself that you don’t need these funds in the short-term, and that you are investing for the long-term.
- The media is a business. Their job is to sell headlines and ad revenue, not necessarily to make correct predictions. Try not to get caught up in these headlines, as the media may not always be accurate.
If nothing else, I would have you take this note as a report of my increasing optimism that things will get better. Maybe not today or tomorrow, but they will. Looking back to 2008 when major US banks were filing for bankruptcy, I remember thinking “how could things get better from here?”. But here we are today, we survived. Since that point, the S&P 500 posted returns of 524.90% as of June 22nd, 2022 (officialdata.org). We will get through this period, just like we have made it through all of these other difficult periods. We know it’s hard to see through the short-term pain, but you will come out in a better position.
Adam Slumskie is an Investment Advisor with CIBC Wood Gundy in Sault Ste. Marie. The views of Adam Slumskie not necessarily reflect those of CIBC World Markets Inc.
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