Market Perspective: Inflation, Bears, Midterms, and Interest

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Fall in Texas is not marked by cooler weather, but rather the onset of football and… more football. While the seasonality of football (and pumpkin spice) remains predictable, the markets and economy continue to be anything but. The rollercoaster, which began nearly 18 months ago, rolled through the third quarter of 2022 with slightly fewer bumps, but there were still some tumultuous swings with inflation creating the strongest drag. As the negative news dominates headlines, it’s important to also recognize the positive news. Capital markets do not offer simple binary outcomes–good or bad, up or down. Rather, there is always a range of possible outcomes with varying pros and cons. Yes, one of these possibilities is a bear market, but if, when, and the duration cannot be predicted. Q3 GDP was estimated at 2.9% as of October 7th, but midterm elections and Q4 inflation data will be the two biggest catalysts to close the year. Instead of speculating on what happens next, let’s cut through the noise, and discuss some relevant data points.

• September eroded July and August’s performance rebound, and value stocks remain atop growth stocks for the year.
  • U.S. Bonds (Bloomberg Barclays Aggregate Index): -0.45% Q2, -10.75% YTD
  • U.S. Stocks (Russell 3000): -4.46% Q2, -24.62% YTD
  • U.S. Small Cap (Russell 2000): -2.19% Q2, -25.10% YTD
  • International Stocks (MSCI ex US Index): -9.23% Q2, -26.97% YTD
  • Emerging Market Stocks (MSCI Emerging Index): -10.79% Q2, -26.79% YTD
• Eight months into the Russia/Ukraine conflict, fighting is contained, yet there’s no imminent resolution. This is a horrific conflict, yet sadly, the current status is not unexpected. Russia’s successful takeover of Crimea in 2014 likely led to their overconfidence in the current Ukrainian invasion. The international community widely expects this war to drag on with Putin’s frightening rhetoric and unnecessary loss, leading to increasing support for de-escalation. In particular, the September 21st call from China for a cease fire is notable given their non-NATO status and hesitation to criticize Putin. The result of international pressure is hopeful, but yet to be seen.
• Q3 inflation was higher than ideal, but the case for slowing inflation during Q4 is gaining momentum. The first step to more normal inflation is normal consumption. Consumer behavior took an unusual turn at the onset of COVID as people stuck at home binged on household goods readily available via delivery. Now, consumption has reverted to the mean with a balanced mix of goods and services, relieving some price pressure. Energy prices have declined back to pre-Ukraine war figures, and lumber prices are down 70% to pre-pandemic levels. These are all subject to new pricing impacts, and the effect of reduced OPEC production is yet to be seen, but the pricing decreases, along with improved supply chains, bode well.
• Nine out of 14 bear markets since the Great Depression rebounded within 12 months and the average is even less. Being invested in the stock market is the only way to participate in its rebound. It’s impossible to know exactly when a rebound will happen, but it’s imperative to catch the initial wave to experience the full lift. You can’t wait for an improvement to happen before investing. Markets often “climb a wall of worry,” meaning that rebounds occur in the midst of troubling data. This is why the stock market is typically a ‘leading indicator,’ rebounding before the economy reveals positive data.
• A silver lining to rising interest rates: low market risk investments significantly boost yields. Bank CDs and short-term investment grade fixed income have been near zero for over a decade. Today, rates on many instruments start at 3-4%, offering a new opportunity for funds earmarked for conservative, short-term plans.

Periods of market decline feel like they drag on and on… but when you compare the duration of bear markets to bull markets, the former only last a fraction of the time. It’s like 10 minutes on a treadmill compared to 10 minutes watching a great movie. It just feels longer! It takes more discipline to stay on the treadmill, but the outcome is worth it. Today, as always, there are reasons for concern about markets and investments, and there are reasons for optimism. Life is never a predictable straight line, rather a journey with variability and ups and downs. Continue to focus on your family’s financial plan, and control the things you can, allowing the inevitable bumpy years, like 2022, to smooth over time.

Sources: Q3 2022 Index Returns dimensional.com, Midyear Outlook 2022, wsj.com Lumber Prices Fall to Around their pre COVID levels 9-27-2022, wsj.com China Calls for Cease Fire 9-21-2022, First Trust How did Sectors Fare During Periods of Elevated Inflation 9-27-2022, Federal Reserve Board of Atlanta GDPNOW 10-7, Fred.com M2 Money Supply, BLS.gov

This material represents an assessment of the market and economic environment at a specific point in time and is not intended to be a forecast of future events, or a guarantee of future results. Forward-looking statements are subject to certain risks and uncertainties. Actual results, performance, or achievements may differ materially from those expressed or implied. Information is based on data gathered from what we believe are reliable sources. It is not guaranteed as to accuracy, does not purport to be complete and is not intended to be used as a primary basis for investment decisions. It should also not be construed as advice meeting the particular investment needs of any investor. Past performance does not guarantee future results.

Index Disclosures:

Indices are unmanaged and investors cannot invest directly in an index. Unless otherwise noted, performance of indices do not account for any fees, commissions or other expenses that would be incurred. Returns do not include reinvested dividends.

Index Definitions:

Barclays U.S. Aggregate Bond Index: The Bloomberg Barclays U.S. Aggregate Bond Index is an unmanaged index of fixed rate debt securities rated investment grade or higher by Moody’s, Standard & Poor’s, or Fitch rating services. All issues in the index have at least one year to maturity and an outstanding par value of at least $25 million to $1 billion based on the type of security. Indices are not available for direct investment and do not reflect any fees that may be charged.

S&P 500®: The S&P 500® index is an unmanaged index of 500 companies used as a representative sample of the United States economy. The S&P 500® index consists of only stock holdings. Indices are not available for direct investment and do not reflect any fees that may be charged.

MSCI Ex-US: The MSCI Ex-US index is an unmanaged index used as a representative sample of the global developed economy outside of the United States. The MSCI Ex-US index consists of only stock holdings. Indices are not available for direct investment and do not reflect any fees that may be charge.

MSCI Emerging Markets: The MSCI Emerging Market index is an unmanaged index used as a representative sample of the global emerging market economy outside of the United States. The MSCI Emerging Market index consists of only stock holdings. Indices are not available for direct investment and do not reflect any fees that may be charge.

The Russell 2000 index is an unmanaged index of the 2000 smallest companies in the Russell 3000 index. The Russell 2000 Index is used as a representative sample of the small companies in United States economy. The Russell 2000 index consists of only stock holdings. Indices are not available for direct investment and do not reflect any fees that may be charged.

The Russell 3000 index is an unmanaged index of 3000 companies in the United States. The Russell 3000 Index is used as a representative sample of the United States economy. The Russell 3000 index consists of only stock holdings. Indices are not available for direct investment and do not reflect any fees that may be charged.

[1] Investing internationally carries additional risks such as differences in financial reporting, currency exchange risk, as well as economic and political risk unique to the specific country. This may result in greater share price volatility. Shares, when sold, may be worth more or less than their original cost.

[2] Investments in emerging markets may be more volatile and less liquid than investing in developed markets and may involve exposure to economic structures that are generally less diverse and mature and to political systems which have less stability than those of more developed countries.