2023 Investor Strategy
Posted on January 25, 2023
The past year demonstrated a resurgence of volatility across all asset classes. Markets experienced sharp price increases and decreases throughout the year as various events unfolded – from the biggest geopolitical crisis in Europe since World War II to the highest rates of inflation around the globe in 40 years. The confluence of events showed investors that there was no place to hide in the markets. The broader stock market (S&P 500) declined 18%, but not all stocks performed the same. Growth stocks, which are more susceptible to rising interest rates, declined 29%, while dividend stocks declined only 8%. Many bond portfolios experienced short-term negative returns as the U.S. aggregate bond index declined 13%. Even hard-to-value assets such as gold and Bitcoin experienced negative returns. While there may be differing opinions on what caused the price declines across all asset classes, the main culprit appears to be higher than expected inflation and higher interest rates. Contact Us
The U.S. Federal Reserve’s (The Fed) textbook solution to higher-than-expected inflation is monetary tightening; that is, increasing short-term interest rates and reducing their massive post-Great Financial Crisis, post-COVID-19 balance sheet. The Fed quickly increased short-term interest rates from 0% to 4.50% during 2022, and we have seen early signs that inflation is responding. The latest release of the Consumer Price Index (CPI) showed headline inflation has continued to decline from its peak of 9.1% to 7.3%. More importantly, core inflation, which excludes the volatile changes in food and energy prices, has continued to slowly decline to 6.1%. These are encouraging signs for investors, but there is still work to be done. The Fed conveyed as much during their December meeting when they provided an update on their expected “terminal rate” – the level of interest rates at which they will stop. The expected terminal rate now stands at 5%, signaling that we are quite close to the end of interest-rate increases. However, we must keep in mind that this may change over the coming months.
As we look forward to a new calendar year, we expect the first half of 2023 to remain volatile as the Fed allows for their interest rate increases to work through the economy and, hopefully, dampen inflation. Market participants will be closely monitoring monthly inflation reports to assess if inflation is indeed declining towards the Fed’s target inflation rate of 2% or if additional rate increases are required. At the same time, market participants will be monitoring the overall health of the economy by analyzing monthly jobs reports, the unemployment rate, wage growth and Gross Domestic Product (GDP) updates. These periodic updates will give investors some insight into how our economy is tolerating the higher interest rates. While there is discussion around the possibility of the U.S. economy entering a short, shallow recession during the year, it is far from certain right now.
So, what actions are we taking? Our clients’ custom-built portfolios are based upon their unique individual financial goals and their respective time horizons. While stocks may continue to experience increased volatility this year, we believe patient stock investors will be greatly rewarded. Our investment management team continues to find attractively valued, high-quality dividend stocks, which would provide long-term investors annual cash-flows while the markets recover. Unsurprisingly, the sharp correction in growth stocks has provided attractive entry points into some great growth companies that may have become overvalued during the COVID-19 pandemic. Finally, fixed-income investments look more attractive after the Fed’s interest rate increases, thus allowing us to lock-in higher fixed-interest rates on investment-grade bonds. We believe a diversified portfolio of dividend stocks, growth stocks, and, where appropriate, bonds will position our clients well for the current market environment while meeting their financial goals. We are here to help you. Contact Us today.
Andrew Vanderhorst, CFA, CAIA, CFP®
Chief Investment Officer
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