By: Stash Graham
All three major indexes rebounded with a surge in equity prices during the second half of the month. However, a weak multi-day finish reminded investors how the first quarter of 2022 went. The Dow Jones Industrial Average increased +2.3% for the month and is now down -4.57% this year. The S&P 500 rose +3.5% this month and is now down approximately -5% to start the year. The tech-heavy NASDAQ was the big winner this month, up +3.4%, but is down more than -9% this year. This year’s noticeably weak start to equity markets is forcing market observers to pay closer attention to their investment positions. As we have stated before, easy returns with blind investing are behind us. As monetary and fiscal policy regimes change, so must one’s investment strategy. We are still early in the Federal Reserve’s shift on monetary policy.
The Federal Reserve had its second meeting of the year, the March 15th meeting brought us our first 25 basis point rate hike seen in a few years. Our eyes were drawn to the Federal Reserve’s reduction of economic growth and the increase of inflation estimates. The overarching takeaway from the Federal Open Market Committee’s statement was that members of the Fed are committed to fighting inflation as their new priority. Promoting economic growth and increasing financial asset prices are secondary considerations now. The statement confirms the months-long debate on the preferences of the Federal Reserve. The market now expects the Federal Reserve to raise interest rates by 50 basis points at each of the next two summer meetings. The hawkishness from the Federal Reserve is creating strong headwinds against any appreciation in financial asset prices. Over the last several months, the underperformance in high-duration stocks (technology companies) has been well documented. However, what is less discussed is the downside pressure that the expectation of higher interest rates has had on defensive, fixed-income investments like corporate bonds or preferred stock.
These safer assets have performed poorly compared to equities since the start of the year. The iShares investment-grade corporate bond index ETF (Ticker: LQD) has been down almost -9% since January 1st. The iShares high yield corporate bond index ETF (Ticker: HYG) is down more than -5% during the same period. The iShares preferred stock index ETF (Ticker: PFF) finished down -7.5% for the first three months. All three of these ETFs are very widely held across investment spectrums for their defensive attributes. Many popular fixed-income closed-end funds have fallen even more sharply. For example, Jeffrey Gundlach’s DoubleLine Opportunistic Credit Fund (Ticker: DBL) is down by -12%. Even at the pinnacle of safety, U.S. Treasuries were down more than -5% (Bloomberg U.S. Treasury Index). Traditional investment strategies, like the famous 60% stock / 40% fixed income allocation split, really come under pressure when the lower-risk part of the allocation performs just as bad if not worse than the more aggressive side of the investment allocation. Not since 1980 have all four categories (U.S. Equities, Investment Grade Corporate Bonds, High Yield Corporate Bonds, and U.S. Treasuries) started the year so poorly.
Moving away from financial assets, American consumers continue to come under pressure as household income trails inflation. Our calls last year for a stagflationary economic environment continue to take shape. For the 7th consecutive month, after-tax income fell after being adjusted for inflation. Additionally, consumer spending for February shrank by -0.4% on real terms as the PCE deflator growth (Fed’s inflation metric) of +0.6% overwhelmed nominal spending growth of +0.2%. In layman’s terms, February’s positive headline consumer spending figure was because the American consumer paid higher prices for fewer goods and services versus buying more products and services. This development is probably not a surprise to the reader as surging gasoline prices and grocery costs continue to eat away at savings and other discretionary funds.
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.
All information has been obtained from sources believed to be reliable, but its accuracy is not guaranteed. There is no representation or warranty as to the current accuracy, reliability or completeness of, nor liability for, decisions based on such information and it should not be relied on as such.
Graham Capital Wealth Management, LLC (“Graham”) is a registered investment advisor. Advisory services are only offered to clients or prospective clients where Graham and its representatives are properly licensed or exempt from licensure