By: Stash Graham
We are glad to write that July was a good month for asset prices. All three major domestic indices generated positive returns as markets attempted to recover some losses from June. The Nasdaq Composite led the rebound, gaining +12%. The S&P 500 and Dow Jones Industrial Average increased by +9% and +6.7%, respectively. For the year, the Nasdaq is down -21%, the S&P 500 has lost -13.8%, and the Dow Jones Industrial Average has declined slightly less than -10%. Fixed income markets also saw a rebound as bonds caught participants’ bids. The iShares Investment Grade Corporate Bond ETF (Ticker: LQD) has still lost -11% year-to-date. Our client accounts participated in this rally, and we are delighted with the continued outperformance this year relative to all major financial asset benchmarks.
We do not believe the US economy is in a recession yet. We also believe that the National Bureau of Economic Research will not officially declare an economic recession for the first half of this calendar year, despite headline inflation-adjusted gross domestic product, which generated two-quarters of negative growth. We have highlighted this dynamic on previous firmwide video calls over the last few months. We do not believe we are in a “real” economic recession as the American household continues to consume and businesses continue to invest at growing rates. While the growth rates have recently started to cool, they are growing. In addition, borrowers continue to be timely on their debt obligations, so much so that both JP Morgan Chase and Bank of America reported declining credit card delinquency rates for June. After two years, when people paid down debt, outstanding credit card debt has just climbed back to the 20-year trend line. While tight compared to historical norms, the labor market has shown some softening in the last few months. The Federal Reserve raised its Federal Funds Rate by another 75 basis points last week and signaled further multiple rate hikes into year’s end. Putting all these variables together with a Federal Reserve that continues to act with a “whatever it takes” attitude to curb inflation by suppressing demand, we struggle to forecast robust economic movement in either direction.
Investors have packaged this monetary policy and economic data mix into what is now a historic level of contempt for the stock market. The latest survey of households from the Conference Board showed that 46% of people expected stock prices to fall. This reading ranks in the 97th percentile of all surveys since 1987. The Conference Board survey also reported that only 25% of people expect the stock market to rise over the next 12 months. This low level of positive sentiment ranks in the 95th percentile of all surveys since 1987. Comparing the spread between the positive and negative views (25% – 46% = -21%) produces a figure that is the 5th most bearish sentiment in the survey’s existence (99% percentile). The best investors in history always started to invest when people were fearful. Still, this historically negative sentiment doesn’t equate with speculative assets (tech stocks, crypto) trading well above 2018 levels. The Federal Reserve has not made monetary policy looser. The bond market has not fully stabilized and rebounded. From a valuation perspective, the metric made famous by Warren Buffet, Total Market Capitalization / Gross Domestic Product, is in the 91% percentile relating to how expensive the stock market is. Compared to top-line revenue, Enterprise Value (total value of the business) is in the 89% percentile in terms of richness. None of these valuation metrics indicate a good deal for new investment.
We are very encouraged by the strong rebound in our partner’s accounts. The difficulty today is trying to discern the end of this bear market correction. Generally, these periods present a once-in-a-decade buying opportunity. First, however, we need to survive the false bottoms and rebounds that draw investors back in, only to lead them to further losses shortly after as a part of a more extensive market correction. As we illustrated in the letter earlier, growing headlines from tighter monetary policy, mixed economic data and relatively rich stock market valuations prevent us from being comfortable that we are at the end of this bear market. Therefore, we believe maintaining the current course of action is prudent. We are grateful for your continued support and trust through these unsettling times.
The information provided is for educational and informational purposes only and does not constitute investment advice and it should not be relied on as such. It should not be considered a solicitation to buy or an offer to sell a security. It does not take into account any investor’s particular investment objectives, strategies, tax status or investment horizon.
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