By: Stash Graham
January kicked off the new investment year with a terrible result as all major indices fell to have their worst start since 2009. Even a late, no news rally during the last two trading days of the month could not save the ugly returns. The Nasdaq Composite Index fell just under -9% for a month as high duration. Technology stocks came under material pressure as signs of an economic slowdown paired with a Federal Reserve introducing plans to tighten monetary policy nailed high duration stocks. The S&P 500 was down -9.22% entering the final 48 hours of the month before the end-of-month rally to lose -5.24%. The Dow Jones Industrial Average was down -3.22% for the month. We are delighted with our strong outperformance this month.
Additionally, the outperformance is understated on some client account statements too! For example, CCAC (CITIC Capital Acquisition) is a SPAC arbitrage position held in a few accounts. The January account statement shows the position down approximately -24%; however, in reality, we tendered our shares to the company last week and are confirmed to receive $10.07 per share in a few days. Therefore, the $7.50 stock price reported on the monthly statement is not accurately valuing our position. In addition, as we mentioned before, there are technicalities in how SPAC positions are reported after they are tendered. Finally, we ended the month with elevated cash positions as we had a couple of investment positions mature, and we closed out a couple of other long-standing positions to lock in gains.
While we mentioned in the December monthly letter, “while headlines might seem rosy, financial markets end the year in a challenging situation,” we did not foresee a historically weak January for the NASDAQ Composite Index. We could see a short-term bump in equity markets after such a terrible start to the year in the short term. However, we are continuing to shift into a more challenging macro environment. Our primary growth leading indicators continue to roll over. For the better part of 2021, the United States showed relative economic strength compared to the other major economies, China and Eurozone. China’s issues are well documented, and they were the first of the big three to show broad weakness in leading economic indicators. The United States and Eurozone’s leading indicators started to roll over at the end of 2022. One of the most significant differentials between now and a year ago is materially tightened liquidity conditions. As you can imagine, an economy whose growth slows while monetary liquidity conditions tighten makes it a problematic regime for financial assets. With the Federal Reserve scheduled to start interest rate hikes in less than 60 days, the financial conditions are expected to tighten further.
This new monetary policy regime does not mean that we will sit on the sidelines with the cash equivalents built throughout the month. Conversely, we monitor a growing list of companies with solid profitability metrics whose profiles typically outperform during the initial rate hike process. U.S. corporate profits as a share of Gross Domestic Product (the primary economic measure of a given country) is at all-time highs. We expect this relationship to normalize closer to its 10-year moving average, with corporate profits declining relative to the growth of the U.S. economy. Finally, we are continuing our analysis around sectors that might be facing cyclical headwinds but have more substantial structural tailwinds behind them. Homebuilding, energy, and banks are a few sectors that fall under this category.
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