· Stocks recovered a bit of lost ground this past week as, in general, those companies that reported earnings satisfied the lowered expectations from Wall Street. In addition, the poor numbers regarding Housing Starts as well as Sales of Existing Homes may provide enough data for the Fed to become less hawkish after their upcoming meeting this Tuesday and Wednesday. It is this meeting as well as the wave of corporate earnings reports (see below) that will be the primary focus for investors. We will pay particularly close attention to what those companies state in regard to current business conditions as well as their outlook for the upcoming quarter. As we noted the last several weeks, “our base case at this time is for investors to expect volatility and perhaps more downside to the tune of five to ten percent, especially over the first half of the third quarter. However, as the quarter rolls on, investors will begin to focus on the opportunities within the financial markets rather than the risk thereby setting a floor and allowing them to proceed higher, albeit in an uneven fashion.”
· After shutting down for “maintenance,” Gazprom, Russia’s state operated energy company turned the spigots back on to their Nord Stream 1 pipeline temporarily easing fears that they were intent on holding back a critical supply of energy to Western Europe. It is this pipeline that supplies more than 50% of Germany’s energy needs. In fact, Russia accounts for more than 40% of Western Europe’s total energy consumption. Should the war in the Ukraine continue, we believe that the “weaponization” of Russia’s natural resources over the next six months to a year, is not only possible, but likely.
· On balance, we are still of the mind that this inflationary cycle is slightly more secular than transitory as we believe elevated energy prices (perhaps not at this level, but higher as compared to the past two decades) are here to stay as are higher wages. The impact of permanently higher wages will be felt more severely in the United States than in developing countries as we are a service economy. That said, we do expect wages to plateau shortly as the workforce reappears, having spent their COVID windfall. However, when and if the supply chain gets somewhat realigned manufacturing costs should stabilize as should the cost of shipping. We also believe that technology will begin to reassert itself as a disinflationary influence on production.
· The yield curve (the difference between the yields on different maturities of the identical securities, in this case U.S. Treasuries) has continued to invert in a meaningful fashion. The curve, historically a predictor of an economic slowdown, measures the relationship between like bonds of different maturities. In fact, an inverted yield curve has predicted every recession since 1955. That said, it has also predicted recessions when one did not occur. This past week, the yields on the two- and five-year Treasury Notes were inverted or higher when compared to the ten-year U.S. Treasury Note at 2.98% and 2.87% versus 2.77%. Many market pundits will point to this as evidence of a looming recession. At this time, a technical recession is likely, the depths of which cannot yet be determined.
· Historical data provide a guide, a potential window to future events. Investors must keep in mind that after every bear market in the history of the United States, stocks have gone on to set new record highs. Furthermore, we have allocated your assets for these trying times as well as those that are more fruitful. Regardless of this it is important to keep in mind that ultimately markets such as this test the patience, faith and resolve of even the most seasoned investors.
· A component to traditional, longer-lasting bear markets is the emotional strain it places upon the investor. Just as bull markets place pressure on investors sitting on the sidelines, bear markets exert the same force on those that have money in the market. Should the market remain choppy as we believe it will at least throughout the summer, you can count on a steady drumbeat from talking heads questioning the validity of long-term investing. We have regularly noted that unlike recent pullbacks, the recovery from this one will most likely be more of a process rather than an event and would recommend our clients to ignore the short-term and focus on your long-term objectives.
· The Fed has become too important in regulating the economy. Hopefully, when this is over, we can get to a more normalized economy with less overt Fed intervention. Recessions are necessary as they bring back into balance supply and demand. In addition, vis a vis creative destruction, recessions revitalize the economy, positioning it for a new era of growth.
· An Important Note Regarding the Table Titled, “Select Sector SPDR Exchange Traded Funds (ETFs).” In an effort to provide a more concise, definitive picture regarding the performance of the equity market, this data, a broad basket of eleven market capitalization weighted, industry-specific ETFs will replace the “Dow Jones U.S. Total Market Industry Groups.”
· We continue to note the returns of the Vanguard Balanced Index Fund (VBAIX) to illustrate the all-encompassing extent of the selloff in the financial markets. VBAIX, somewhat of a proxy for balanced investors has fallen 14.01% through the close of business Friday, as in addition to the pullback in stocks, bonds, which comprise nearly 40% of the portfolio, have been under pressure. For example, the Vanguard Total Bond Market Index Fund (VBMFX) has fallen 8.88%.
· The upcoming week will feature the release of several key reports that will provide insight into the direction of the American economy. These include on Tuesday, July Consumer Confidence and June New Home Sales; on Wednesday, June Orders for Durable Goods; on Thursday, the Weekly Report of Initial Claims for Unemployment Insurance and the initial report on Second Quarter GDP; and on Friday, June Personal Income/Spending as well as the final report from the University of Michigan on Consumer Sentiment.
· The mother of all earnings weeks is upon us! This week expect earnings from several companies that will provide a glimpse into the direction of the economy. These include Microsoft (MSFT), Alphabet (GOOGL), Visa (V), Coca-Cola (KO), General Electric (GE), McDonalds (MCD), United Parcel Service (UPS), Meta Platforms (META), Boeing (BA), Ford (F), Norfolk Southern (NSC), Apple (AAPL), Amazon.com (AMZN), Pfizer (PFE), First Solar (FSLR), Harley-Davidson (HOG), Honeywell (HON), Hershey (HSY), Intel (INTC), Roku (ROKU), Nestle (NSRGY), Merck (MRK), Thermo Fisher (TMO), Loreal (LRLCY), Comcast (CMCSA), Mastercard (MA), AbbVie (ABBV), Procter & Gamble (PG), Chevron (CVX), Exxon Mobil (XOM) and Colgate-Palmolive (CL).