29 Jul Bridge Perspective – July 2022
Market Returns through a Century of Recessions
If we are in a recession, or about to enter one, the following analysis and chart might be helpful. Recessions by their nature are determined with a “rear view mirror” analysis which means it’s over or mostly over by the time it’s officially declared by the financial press. Recessions do eventually end, and while this one could turn out to be more severe than most, as always, a long-term perspective is critical to successfully navigate the investing world.
What does a century of economic cycles teach investors about investing?
Our exhibit examines how stocks have behaved during US economic downturns.
Markets around the world have often rewarded investors even when economic activity has slowed.
This is an important lesson on the forward- looking nature of markets, highlighting how current market prices reflect market participants’ collective expectations for the future.
The Federal Reserve’s battle with Inflation
As we stated in our June update, rising inflation has forced the Federal reserve to institute a program of aggressive tightening. In May the Federal reserve raised short term interest rates one half of one percent and then three quarters of one percent in June. Current expectations are for a one half of one percent to a three quarters of one percent increase in July. Recently energy and food prices have been the primary drivers of inflation and are still significantly elevated. From the Federal Reserve’s perspective, the one bright spot to slowing inflation may have started in the housing market. The rising cost and demand for single-family homes may be slowing. This appears to be primarily due to mortgage rates which rapidly increased to 6% from around 4%. Besides the impact of mortgage rates, we have noticed a significant decrease in traffic for open houses and a desire for some well qualified buyers to choose to rent for one to two years in the hope prices and mortgage rates decline. Of course, this has led to a significant increase in rents in many areas. Another area which is helping the Federal Reserve is commodity prices which fell during the quarter with copper down 20% hitting a 17-month low. Copper is used in so many parts of the economy it has been considered a leading indicator of demand or in this case, falling demand. As the Federal Reserve continues to try to crush demand driven inflation, the impact will be uneven across our economy and take time.
Equity and Fixed Income Markets
Stocks fell for anther quarter, with the MSCI All Country World IMI index dropping nearly 16% and major indices entering bear market territory in June. US stocks were particularly hard hit, with international markets, especially emerging markets faring a bit better. Aside from China, which was up 3.3% for the quarter, all developed and emerging markets posted negative returns. Value stocks in energy and healthcare held up the best in a quarter when the best performing sector was energy, which was down 5.7% for the quarter. In general, growth stocks suffered more than value stocks and the least profitable growth stocks were punished. Tesla dropped 40% and Shopify fell by over 50%. REIT’s (Real Estate) fell more than the equity markets during the quarter, with the S&P Global REIT index down 17.22%.
Consistent with the equity markets, the second quarter of 2022 was also difficult for the fixed income markets. The Bloomberg US Treasury Bond 3–7-year index returned -2% for the quarter and is down 6.98% year to date. Longer term bond indices were down around 4% for the quarter and between 9-10% year to date primarily due to inflation concerns. The one bright spot is for cash. Money market yields have risen, and short-term US Treasuries are yielding between 2.6% and 3.2%. At the time of this writing, bond prices have recovered in July so far and hopefully the year may end on a positive note for bond investors.
NOTES AND DATA SOURCES
1. In US dollars. Stock returns represented by Fama/French Total US Market Research Index, provided by Ken French and available at http://mba.tuck.dartmouth.edu/pages/faculty/ken.french/data_library.html. This value-weighed US market index is constructed every month, using all issues listed on the NYSE, AMEX, or Nasdaq with available outstanding shares and valid prices for that month and the month before. Exclusions: American depositary receipts. Sources: CRSP for value-weighted US market return. Rebalancing: Monthly. Dividends: Reinvested in the paying company until the portfolio is rebalanced.
2. Growth of wealth shows the growth of a hypothetical investment of $100 in the securities in the Fama/French US Total Market Research Index from July 1926 through December 2021.
3. Gross Domestic Product (GDP) based on quarterly data from the US Bureau of Economic Analysis; quarterly data not available prior to 1947. Percentage change in GDP based on business cycle peak to trough quarter as reported by National Bureau of Economic Research (NBER).
4. Industrial Production, Inflation, and Unemployment based on monthly data from Federal Reserve Bank of St. Louis (FRED); Unemployment data not reported prior to 1929.
5. All calculations are cumulative.
Data presented in the Growth of Wealth chart is hypothetical and assumes reinvestment of income and no transaction costs or taxes. The chart is for illustrative purposes only and is not indicative of any investment.
Indices are not available for direct investment. Their performance does not reflect the expenses associated with the management of an actual portfolio.
Bridge Advisory LLC Disclosures
Bridge Advisory, LLC is an investment adviser registered with the U.S. Securities and Exchange Commission.
Investment Advisory Services offered through Bridge Advisory, LLC.
Content intended for educational/informational purposes only. Not investment advice, or a recommendation of any security, strategy, or account type. Past performance is not a guarantee of future results. Indices are not available for direct investment. Index performance does not reflect the expenses associated with the management of an actual portfolio. Information herein has been obtained from sources believed to be reliable, but Bridge Advisory, LLC. does not warrant its completeness or accuracy; opinions and estimates constitute our judgment as of this date and are subject to change without notice. This newsletter expresses the views of the authors as of the date indicated and such views are subject to change without notice.