Market Trends 2022 – Q4

The Weight of the Evidence

Last quarter we quoted market veteran Ed Yardeni saying that “this has been
the most anticipated recession of all time.” I recently saw that the number of
“recession” searches on Wikipedia has increased 52,000% in the past 12
months. Whether or not we are already in a recession or will be entering one, no
one will be surprised. The other financial concept that no one should be
surprised about is that short and medium-term interest rates have increased.

Long-term market observers will tell you that markets rarely react to news
they already expected (ie-baked in). Indeed, it’s surprises, not news
confirming the expected, that cause great rallies or great drawdowns.

What do we expect? Strong household and corporate balance sheets will likely
offset fiscal and monetary tightening, so the U.S. economy will continue to
grow, but at a slower pace. Labor markets remain very tight, but commodity
prices have cooled down. War in Europe and China’s COVID policy restrictions
remain wild cards for supply chain disruption and commodity prices. Inflation
will remain stubbornly high, but will likely moderate from current levels. With
employment at record highs, the Fed has made clear its #1 goal is to fight
inflation, so it is likely not done raising short-term rates. The consumer, which
has historically driven much of the American economy, has $5.5 trillion in
money markets earning close to zero. This could potentially be used as fuel to
pay down debt, buy consumer goods, or invest.

Speculation: The pre-2022 winners of the last few years, whether they be high
growth equities or other investments lacking historical fundamentals, will
likely continue to disappoint.

Aiming for a Honolulu-like investment experience, last year we positioned
portfolios more defensively. The evidence showed that at some point the Fed
would reverse course and become less accommodative. We reasoned that
when that happened, bonds, which have historically worked well as a portfolio
ballast, would likely disappoint. This made us particularly cautious on the
fixed-income side of the markets. The one exception has been munis which
offer tax-free income and generally don’t have as much volatility as U.S.
Treasuries. While muni prices were certainly not immune to higher interest
rates this year, the balance sheets of U. S. cities and states appear historically
strong from both federal government stimulus and strong sales and property
tax receipts. The after-tax yields on munis look particularly attractive for those
in or above the 32% tax bracket.

Expect continued volatility, particularly leading up to the midterm
election. Despite popular opinion, there is little evidence that either party
manages the economy better than the other, nor that markets perform
substantially better when one party is in office than the other.

Having said that many have died to preserve our democracy and ensure that
we, the people, have the right to choose our leaders. We
therefore remind you that November 8th is election day.

One Final Thought: Ten months ago the United States launched a spacecraft
(D.A.R.T.) with the sole mission to crash into an asteroid 7 million miles
away. What country besides the U.S.A. has the technical ability and the
willingness to use its precious resources to potentially save the entire planet?