Market analysis and long-term considerations
Markets went notably lower this week, marking its fifth consecutive week of declines. More notably, is that bonds didn’t do any better and had an unusually high correlation with stocks since the beginning of the year. The S&P 500 had a high watermark at the start of this year and is since down 13.6%. The long-dated treasury bond, measured using the iShares Treasury 20 yr ETF “TLT” is down 22% since the start of the year. If you had a traditionally diversified portfolio, then all assets are down. What’s going on and what can be done to better navigate these treacherous waters?
It’s important to note that volatility is always expected during shifts in economic policy. The Federal Reserve has started raising interest rates, after 10 years of holding them close to zero. The market must adjust to increasing costs in borrowing and we see this now with mortgage rates above 5% nationally, about double what it was about a year ago. The Ukraine/Russia war hasn’t made things easier as commodity prices rose due to significant export restrictions.
In the short run, the market may be overreacting, and it’s not the first time. The Federal Reserve’s announcement of a ½ point raise in the Fed Funds overnight rate lead to a strong bull market to the day, only then to be met with a 3% loss on most indexes the day after. The rate rise is a reaction to more than just high inflation, although inflation is a major headwind, it also comes from a very strong U.S. economy and the lowest unemployment rate in decades. Hedge funds and big money may swoop in soon to buy up discounted assets, which is how most people famously make their money in the market. The best thing most investors can do is wait it out and not sell during market shocks.
In the longer term, there are serious challenges to the global economy and this should be noteworthy for investors. Higher rates are likely to continue, which is good for people who “own” bonds over a long period because the interest received is higher but bad for people who borrow to buy houses, stocks, etc., as the costs for them to do so increase. This dynamic creates a “lull” in economic growth, which is what the Fed is looking to do when the economy is as hot as it is. Portfolios can adjust their bond positions to shorter duration and lower credit quality, ie junk bonds, to help manage this dynamic.
The Ukraine/Russian war has increased commodity and energy prices. The iShares Energy index ETF ”XLE” is up 44% since the start of the year and is expected to continue even higher as Europe initiates a total Russian oil ban (with or without Hungary). Investors should consider adding energy-related assets, as well as materials, minerals, and agriculture to portfolios. They should also note that this decision may impact their socially responsible investment strategy, as investments in food, for example, will serve to increase prices globally for consumers.
At Eureka Wealth Management, I assist investors in making decisions that are in line with their risk tolerance and time horizon for when they’ll need to spend this money. I also do retirement planning and tax/estate strategies. Call for a free, initial consultation at (760) 537-0791 or online at eurekawealthmanagement.com.
Asset Classes That Benefited During Past Periods of Rising Inflation
Average Returns During Eight Inflationary Periods Since 1970