A number of years ago Julia and I attended an industry conference and one of the presenters, discussing the markets, was a man that had been on US Airways flight 1549 that landed in the Hudson River. He equated the experience that he’d gone through to that of the markets when it experiences a sell-off. He said, and I paraphrase, “when we were taking off everyone was doing their own thing. As we began to have issues people started to focus on what was going on, and as we crash landed in the river everyone was focused on the same thing. We had all become correlated in our thinking.”
The same can be said for what we are now experiencing with recent market volatility. When the bull is running, investors are all doing their own thing, buying what interests them, adding to asset classes that vary from each other. Then, when things soften and economic concern comes into the picture, investors begin to focus on similar data when making their investment decisions and finally, when we are in a bear market, everyone is focused on the same things and most assets and investing strategies become correlated, exacerbating the sell-off until it shakes itself out.
This year has followed that pattern. Many came into the year feeling good about the economy and the markets with some (like us) griping about valuations and earnings growth. As the year progressed, inflation became hotter as COVID related stimulus, which created excess dollars, bumped up against lingering COVID related shortages and delays, resulting in too few goods. The war in Ukraine escalated those effects, pushing commodity prices up, so more and more investors began to pay attention to CPI and what the Fed was doing and saying. Now, squarely in bear market territory, we are experiencing a nearly perfect correlation in investor sentiment around fears of a recession and the desire to get out of its way.
Emotionally, it’s difficult to ride through a bear market but this is not the first time for many of us. In the 30 years I have been a financial planner, this is now my fourth bear market, and the fifteenth bear market in the Post WWII period. Historically, bear markets on average have lasted 9 ½ months from peak to trough, though there have been bears as short as one month, like the one we experienced in 2020 due to COVID. The decline in bear markets has ranged from 20.6% down to a whopping 51.90 % down during the Financial Crisis.
For these reasons, it’s during periods like these that we encourage thinking like a contrarian because after every bear market in history a new bull market has emerged, with recovery periods ranging from 6 to 36 months, with the longer recovery periods associated with more major structural dislocations.
While it will sound odd, we feel that this time around we have a garden variety bear market. It is not being driven by a breakdown of the financial infrastructure (the Financial Crisis) or valuations that were astronomically high (the Tech Bubble), but more a market that had gotten a little ahead of itself in valuations facing an economy that needs to slow down to get inflation under control. Thus, a repricing of risk.
And with repricing comes opportunity, though it will take time for that opportunity to realize future gains. These sell-off periods are the times we tactically add to positions that we have long term conviction in, be they stocks or bonds, mutual funds, ETFs or individual holdings. Thinking like a contrarian, we use these periods, when most are fleeing markets, to bring into portfolios holdings that could benefit us for years to come. And do so more cheaply.
These are also the times that, as your planners, we test and retest your plan and your projections to make sure we remain on course for your goals, have enough cash on hand for necessary withdrawals, and have a strategy for creating liquidity in the event an unknown need pops up. We will revisit your tolerance for risk and make future adjustments, engage in strategic tax-loss harvesting if possible, and stay abreast of the causal factors impacting the economy and markets.
While we may have more selling to go before finding a bottom, the S&P 500 is now down 24 % peak to trough and valuations are now much more reasonable with the S&P 500 selling at 15.5x times 2023’s expected earnings. Meanwhile, the Fed is taking aggressive action to put the brakes on the economy to cool inflation, which we feel will recede some by year end, and there remain positive economic factors that should help the economy continue its future growth such as low unemployment, solid wages, household balance sheets with high levels of cash, corporate balance sheets with high levels of cash, States and municipalities fiscally stronger than they have been for many years, and the Infrastructure Bill.
We know that the market is forward-looking, or at least that it tries to be, and we know that it dislikes uncertainty. At some point, that uncertainty will lessen, and we will have a better view of exactly how entrenched inflation really is and then investors will stop focusing exclusively on that and start considering all these positive factors as they look ahead to 2023 and what a recovery might look like, and the recovery cycle will begin again.
Between now and then, we are here to answer any questions or concerns you may have about the markets, the economy, your planning and your investments. Please reach out to us if you want to review any of these things and we’ll walk through them together.