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More Blog PostsJune 2022 - Market Update
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Key Observations
Much of the debate in the markets over the last several months has centered around whether the Fed’s tightening policy will push the economy into recession. While past performance is no guarantee of future results, we look to history to give us some sense of historical trends around how often a bear market foretells an actual recession. According to Bank of America analysts, a recession – two consecutive quarters of declining real GDP - has accompanied roughly half (9 out of 17) of the last bear markets. Stated another way, in roughly half of the previous bear markets, the US has NOT experienced a recession. It is important to note that a true recession is not “official” until the National Bureau of Economic Research’s Business Cycle Dating Committee defines it as such, which doesn’t happen until AFTER the recession occurs. Instead, we use the simple rule of thumb as a proxy in the meantime. The US has experienced 10 official recessions since 1945 with an average length of 11.1 months.
Whether or not this period will fit the technical definition of a recession, the big question clients have is “how long will this market decline last?” Again, while we cannot say with any certainty when we will see a market bottom, we can look at historical data to help guide us. Since WWII, the average duration of the bear markets in the US has been 164 days with an average decline of -23.4%. The longest bear market of that era occurred during the 2007-2009 recession (>900 days) and the shortest during the start of pandemic lockdowns (33 days).
Data Dashboard
Stock Market
The equity market took another leg down in June but ended the month on a more positive note. While the S&P and NASDAQ both fell around 8% on the month, the latter two weeks of the month had a positive trend. Most of the monthly decline was driven by energy, materials and financials, with energy and materials both logging losses of nearly 10%. Despite the month’s performance, energy is still leading the market on YTD gains, now up nearly 25% since the beginning of the year.
The effect on consumer demand due to inflation, as well as the thinning margins of businesses is impacting the earnings growth assumptions in the near future. If inflation is tamed and the consumer is able to weather the storm, the stock market should be able to hold its ground near the already established lows. Of course, prolonged inflation and a deeper recession would cause earnings, and therefore stocks, to decline further.
June Monthly Returns (by US Sector)
Bond Market
Bond prices have rebounded in recent days as the expectation of large steady raises in interest rates has somewhat abated. The 10-year US Treasury yield peaked at 3.49% in June, but ended the month near 3% and continued the decline into the first few trading days in July. Bonds with more credit exposure (corporate bonds) priced in higher risk, which made short-term treasuries (and cash) the best place to park money in June. Corporate bonds (Investment Grade and High Yield) and long-term Treasuries have all seen double digit losses so far this year, and it will take a rebound in the stock market and general confidence in the economic environment for corporate bonds to recover.
Economics
The Fed has been acting aggressively to combat inflation and raised interest rates by an additional 75 bps in June, the largest single rate increase since 1994. The total increase in the Fed Funds rate this year is now 1.50%. Will the Fed need to continue on its projected path to tamp down inflation or will a slowing economy accomplish that goal independently? The economy is starting to show signs of cooling. First quarter 2022 GDP was revised lower in late June to -1.6% Q/Q as a result of a reduction in personal consumption. In other words, we are starting to see signs that the action taken, or possibly the sole expectation of the Fed’s future action, has started to cool down the economy. Mortgage rates are certainly doing their part with the current national average for a 30-year fixed rate at 5.57%.
In order to meet the Fed’s goal of reducing inflation, the other Fed mandate (full employment) may need to give a little. The last read on Unemployment read 3.6%, and the next release (July 8th) is expected to be unchanged. The tight labor market puts upward pressure on inflation, and we may need to see that rate rise to allow companies to slow the pace of labor cost inflation.
Tactical Updates
For Tactical Equity portfolios, we ended the month of June with positions in the energy sector, utility sector, commodities, Chinese and Japanese equities, and solar energy companies. China gains momentum as it continues to reopen and Utilities remain a constant position due to their perceived ability to pass on the costs of inflation to the consumer. Throughout the month, we cut losses in oil and gas ETFs, commodity exposures, and Mexican equities while locking in some positive alpha on oil drilling and upstream companies. Note that as of today, we have since traded out of our commodity and energy related positions for exposures to biotech and healthcare companies.
As for Tactical Fixed Income portfolios, we ended the month of June back in short-term Treasury Bills and short-term Inflation-Protected bonds. We locked in some strong alpha throughout the month by selling other positions in T-bills and floating rate debt. We continue into July with the same portfolio.
General Client Considerations
Please remember that we are here as a partner to answer your questions and advise you to the best of our ability. As always, if you have any questions or concerns regarding your account, please reach out.
Thanks,
The Friedenthal Financial Team