Investment Management - Third Quarter 2022
Fishing for Confidence at Jackson Hole
In our October 3rd update, we mentioned disappointment and uncertainty being recent key themes. The factors contributing to present conditions are well-known: high inflation, central bank tightening, and possible escalation in the Ukraine war. During the quarter, investors’ hope for the Federal Reserve (the Fed) to moderate the tightening of monetary policy was extinguished, and the effects rippled through financial markets.
Equity markets showcased how quickly hope can fade. From June 30th, the S&P 500 rallied 13.7%, only to fizzle out and end the quarter lower. Over the last three months, the total return for the S&P 500 was -4.88%. Mid and small capitalization stocks, tracked by the S&P 400 and S&P 600, fell -2.46% and -5.20%, respectively. International stocks, tracked by the MSCI EAFE Index, continue to underperform due to strength of the U.S. dollar. The U.S. Dollar Index rallied 7% during the quarter, due to the attractiveness of higher treasury yields relative to the European Union and Japan.
Performancei for various indices for the year-to-date (not annualized), one-year, three-year, and five-year periods appears below:
Bond Indices
| Dates | ICE BofA 1-5 Yr. | ICE BofA 1-10 Yr. | ICE BofA 1-12 Yr. Muni |
|---|---|---|---|
|
12/31/21- 9/30/22 |
-7.89% | -12.01% | -7.72% |
|
9/30/21 - 9/30/22 |
-8.52% | -12.51% | -7.51% |
|
9/30/19 - 9/30/22 |
-0.68% | -1.70% | -0.92% |
|
9/30/17 - 9/30/22 |
0.97% | 0.70% | 0.66% |
Equity Indices
| Dates | Dow Jones Ind. Avg. | NASDAQ Composite | S&P 500 (Large) | S&P 400 (Medium) | S&P 600 (Small) | MSCI EAFE (Int'l) |
|---|---|---|---|---|---|---|
|
12/31/21- 9/30/22 |
-19.72% | -32.00% | -23.87% | -21.52% | -23.16% | -27.09% |
|
9/30/21 - 9/30/22 |
-13.40% | -26.25% | -15.47% | -15.25% | -18.83% | -25.13% |
|
9/30/19 - 9/30/22 |
4.36% | 10.63% | 8.16% | 6.01% | 5.48% | -1.83% |
|
9/30/17 - 9/30/22 |
7.42% | 11.25% | 9.24% | 5.82% | 4.84% | -0.84% |
Inflation continues to be the dominant topic, due to its destructive impact on purchasing power. In August, the Federal Reserve held their annual retreat, officially known as the Jackson Hole Economic Symposium.ii The Symposium has occurred since the late 1970s, with the first four meetings held in different locations within the Federal Reserve System’s 10th District of Kansas City. In 1982, the agenda was changed to include monetary policy and Jackson Hole was chosen because of then-Fed Chairman Volcker’s love of fly fishing.iii
This year, in an attempt to rebuild credibility, the Fed raised their hawkish rhetoric. Fed Chairman Jerome Powell repeated that the Fed’s actions are required to lower inflation, though he finally admitted there could be painful economic side effects. “Restoring price stability will take some time and requires using our tools forcefully to bring demand and supply into better balance. Reducing inflation is likely to require a sustained period of below-trend growth. Moreover, there will very likely be some softening of labor market conditions. While higher interest rates, slower growth, and softer labor market conditions will bring down inflation, they will also bring some pain to households and businesses. These are the unfortunate costs of reducing inflation. But a failure to restore price stability would mean far greater pain.”iv
The Fed’s preferred measure of inflation is the Personal Consumption Expenditures Index, or PCE. In August, headline and core PCE, which excludes food and energy, were 6.2% and 4.9%, respectively, well above their 2% target. Though the rising costs of physical goods have dissipated, stickier categories such as shelter and services are rising. The fed funds rate has been hiked five times this year in an effort to focus on price stability, with the three recent moves being 75 basis points apiece. The time and extent of rate hikes is unprecedented, and expectations are for another increase of 75 basis points in November.
Aggressive talk and action raise concern over a policy error, due to the lag effect between a rate hike and its economic impact. Unlike other tightening cycles, this one began while global growth was already decelerating. The J.P. Morgan Global Composite Output Index contracted for the second consecutive month, with the weakest performance seen in Europe.v Domestically, housing activity and manufacturing have deteriorated, though the broader services category is stabilizing. Consumer spending should remain resilient as wages rise and jobless claims stay low.
Disappointing inflation data, and hawkish rhetoric, drove treasury yields higher. During the quarter, the 10-year Treasury yield rose from 2.97% to 3.80%. Despite the rise of 10-year yields, inversion of 2 to 10-year yields deepened, as shorter rates adjusted further to account for the Fed’s new higher target for the fed funds rate. Inversion of the yield curve is another signal of a weakening economy. On average, the inversion initially occurs twelve months ahead of a recession, though there have been false alarms.
Over the course of 2022, a deteriorating macro environment, along with rising interest rates, weighed on equity markets. As of September 30th, the S&P 500 index is down 25.25% from its all-time highs. The decline lowered equity valuations from 21.5x forward earnings-per-share (EPS) estimates, to 15.3x current expectations. During second quarter earnings season, broad indices exhibited resilience in earnings power. As the economy continues to slow, more companies are preannouncing weaker-than-expected results. Companies that were major beneficiaries of post pandemic behavior, such as CarMax, have already cut guidance. Multinational corporations are also trimming forecasts as the stronger dollar reduces reported results.
From a portfolio standpoint, we have lowered equity allocations throughout the year and in many cases reinvested sale proceeds into fixed income. Maturities from bond ladders are also being reinvested since current yields, on both investment grade corporates and municipal bonds, are at levels not seen in over a decade. Cash balances are tactically elevated, to meet client cash flow needs, and to take advantage of buying opportunities when they appear. There is potential further downside risk to equity markets in the near term, though at current levels we believe a majority of the decline has already been factored into equity prices.
Bear markets never feel good, but are inevitable since short-term sentiment can overwhelm longer-term fundamentals. A couple of statistics to hopefully reassure you that this too will end. First, the average length of a bear market is 289 days, or about 9.6 months. That’s significantly shorter than the average length of a bull market, which is 991 days or 2.7 years. Second, of the last 92 years of market history, bear markets have comprised only about 20.6 of those years. Put another way, stocks have been on the rise 78% of the time.vi
Congratulations to Victoria Henry, Glen Buco, and Kristan Anderson for their recognition as "Top Financial Professionals"vii by Northern Virginia Magazine in September.
We would also like to welcome our four newest employees. John Kim joins our information technology department as an information systems administrator. He is currently working towards a degree in Information Technology with a concentration in Cyber Security. Shadaun “Daun” Brown is our new associate financial planner. Daun has a Bachelor of Arts degree in Accounting and Finance. Senayda Trejo joined West Financial Services in August 2022 as an administrative assistant/receptionist. Senayda previously worked at Sandy Spring Bank as a universal banker for several years prior to joining our team. Laura Nash joined West Financial as a relationship manager in October. Laura obtained her Bachelor of Arts degree in International Affairs from George Washington University, an MBA in Marketing also from George Washington, and a Masters Certificate in Organizational Development from Georgetown University. She is also a Certified Financial PlannerTM Professional. Welcome all!
On October 13th, West Financial hosted a webinar titled, “Policy and Politics: Implications for Investors” featuring Michael Townsend, Vice President, Office of Legislative and Regulatory Affairs for Charles Schwab. The discussion included the latest developments on economic legislation, taxes, and retirement savings, as well as the top regulatory proposals that could affect individual investors. If you were unable to attend, we would be happy to provide the slides used in the webinar upon request.
As we enter the final quarter of the year, please contact us should you have any questions or issues regarding your year-end tax planning and/or gifting needs. We are compiling year-end capital gain estimates from the mutual funds we invest in on your behalf, and will be happy to provide this information to you and/or your accountant upon request. You should be receiving statements directly from your account custodian at least quarterly. If you are not receiving your statements, either electronically or by mail, please contact us.
We have provided performance numbers for the year-to-date, one-year, three-year, and five-year periods, where applicable. Should you have any questions regarding your portfolios or any financial planning related questions, please call us at any time. Referrals of family, friends and colleagues who may benefit from financial planning and investment management guidance are always welcome. Thank you for recommending our firm and your continued trust in our financial planning and investment management services.
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President
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Chief Investment Officer
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| Glen J. Buco, CFP® | Glenn Robinson, CFA |
iEach of the S&P 500 Index, the S&P 400 Index, the S&P 600 Index, the MSCI EAFE Index, the ICE BofA 1-5 Year Index, the ICE BofA 1-10 Year Index, the ICE BofA 1-12 Year Municipal Bond Index, the Dow Jones Industrial Average, and the NASDAQ Composite (each, an “Index”) is an unmanaged index of securities that is used as a general measure of market performance. The performance of an Index is not reflective of the performance of any specific investment. Each Index comparison is provided for informational purposes only and should not be used as the basis for making an investment decision. Further, the performance of your account and each Index may not be comparable. There may be significant differences between the characteristics of your account and each Index, including, but not limited to, risk profile, liquidity, volatility and asset comparison. The performance shown for each Index reflects no adjustment for client additions or withdrawals, and no deduction for fees or expenses. Accordingly, comparisons against the Index may be of limited use. Investments cannot be made directly into an Index.
ivhttps://www.federalreserve.gov/newsevents/speech/powell20220826a.htm
viiTo compile the Top Financial Professionals list, Northern Virginia Magazine sent surveys to all Northern Virginia financial professionals, asking them to recommend other financial professionals whom they would refer to friends and family. Those on the listing received the most nominations. Financial professionals do not pay a fee to be included on the list. Although some Top Financial Professionals winners choose to advertise in the magazine, they cannot pay to be included on the list. The Top Financial Professionals listing and the advertising section are separate entities.
West Financial Services, Inc. (“WFS”) offers investment advisory services and is registered with the U.S. Securities and Exchange Commission (“SEC”). SEC registration does not constitute an endorsement of the firm by the SEC nor does it indicate that the firm has attained a particular level of skill or ability. You should carefully read and review all information provided by WFS, including Form ADV Part 1A, Part 2A brochure and all supplements, and Form CRS. The information contained herein does not constitute investment advice or a recommendation for you to purchase or sell any specific security. You are solely responsible for reviewing the content and for any actions you take or choose not to take based on your review of such content.
This information is intended to be educational in nature, and not as a recommendation of any particular strategy, approach, product or concept. These materials are not intended as any form of substitute for individualized investment advice. The discussion is general in nature, and therefore not intended to recommend or endorse any asset class, security, or technical aspect of any security for the purpose of allowing a reader to use the approach on their own. Certain information contained herein was derived from third party sources as indicated. While the information presented herein is believed to be reliable, no representation or warranty is made concerning the accuracy of any information presented. WFS has not and will not independently verify this information. Where such sources include opinions and projections, such opinions and projections should be ascribed only to the applicable third party source and not to WFS.
Certain statements herein reflect projections or opinions of future financial or economic performance. Such statements are “forward-looking statements” based on various assumptions, which may not prove to be correct. No representation or warranty can be given that the projections, opinions, or assumptions will prove to be accurate.