(Dis)likes vs. (Dis)asters
We walk you through a hopefully fun and helpful “check” of a) our mindsets, b) current economic metrics, and c) applicable market history to prepare and position you for what likely lies ahead.
Five Things You Should Know
Insights for Investors
“Perhaps the most undervalued attribute for humans is dogged, obsessive, and boring discipline.” - Nassim Taleb
We are now moving past the six-month mark of tough markets, which statistically is when people’s patience runs thin and emotional decision making begins to raise its ugly head. People everywhere are pessimistic to a degree not often seen outside of those timeframes associated with the Savings & Loan Crisis and Great Financial Crisis – in fact this week marked the first time in the history of the AAII Investor Sentiment Survey that “bearish” investors came in over 60% for back-to-back weeks.
What’s an investor to do when hope is hard to find within our own feelings, those of other investors around us, or the markets themselves?
Bear markets are defined by bearish investors, but such sentiment is merely a reflection of today, not a statement about the realities of tomorrow and reflects confusing a simple dislike of current market behavior as evidence of a pending disaster.
I. Check Your Mindset
As the quote above alludes to, successful investing is in all reality more about one’s ability to maintain their discipline, particularly in the face of adversity, than the need to be a genius.
Here are some things I try to remember to keep a proper perspective:
A.Your Portfolio is Just Like Other Relationships: Relationships are tough, and you don’t get into them because they are easy or will always “feel” good, but for what they can mean to you and your life over time. Similarly, you don’t invest for how it will make you feel today, but for where it will take you tomorrow. Like any relationship, it’s easy to feel like, “I can’t take it anymore” when in the midst of a struggle like a tough bear market but dealing with volatility at times is the price investors pay to make money over time.
B.Stay Realistic About What’s Likely: Our innate “recency bias” is one of our biggest hurdles as an investor whether it causes us to greedily chase assets higher or panic during drawdowns. I have often heard someone utter something to the effects of, “If it does this forever, there won’t be anything left!” Sure, if the market went down “forever” it would go to zero. The reality, the totality of the S&P 500 companies are not about to be worthless anytime soon.
Our fear tells us such times are forever, history tells us something quite different.
C.History is a Far Greater Guide of Our Future Reality than our Feelings: Our feelings, while powerful, do not define reality; in fact, they usually distort it. Another common investor sentiment you’ll hear expressed is, “I wish I had…” And almost invariably it’s about a decision they made during a bear market or one they failed to make. Bear markets don’t feel good, most people around them are themselves “bearish” and yet you know from prior experience such times provide incredible opportunities. As we’ll cover below whether you want to look at similar timeframes with such negative breadth or investor sentiment the average following 12-month return averages around 30% historically.
Bear markets don’t last, but solid plans do. If, as we constantly stress, you address your liquidity and income needs through proper planning and portfolio construction you can buy yourself time to get through the toughest of markets.
II. Check the Actual Metrics
All eyes and ears continue to be on our unelected Fed officials who for some reason (cough, fame) feel the need to give us daily updates on their thoughts and prognostications that if history is any guide couldn’t be less impressive.
Now that I have that off my chest, should investors really believe that the Fed is bent on crashing the economy? Probably not.
Commentator David Lerner fairly summarized the probable outlook many are beginning to outline stating, “If Powell keeps raising into a recession and then starts to lower interest rates, he could reignite inflation expectations. Instead, he should lower the rises to 25% and then stop raising to wait for all the previous raises to catch up. In fact, holding at 4% to 4.5%, and NOT lowering it for ten years makes a lot more sense. This is not at all like what Arthur Burns did. He in fact would raise then lower. Truly going for rate raises of .75% as far as the eye can see will plainly destroy the economy and still may leave inflationary expectations smoldering with an interest rate reduction. I think the Fed will start stressing data dependency, and hint that the next raise may be .50% and not 75%. The notion that the Fed wants to smash down inflation to 2% immediately is ludicrous. No one can believe that is really possible without creating a lot more problems than what we are currently dealing with. Before this whole thing started the Fed was trying to get inflation up to 2%. We were trying to prevent deflation from happening, Japan has had decades of deflation, this stunted growth, and the dynamism of their economy. We don’t want that, certainly, Jay Powell doesn’t want to do that.”
What metrics back up the hope for inflation giving the Fed a reason to slow their hikes? Both M2 and CPI, despite the misleading headlines, are beginning to roll over and should see their respective paces quicken (see chart below).
Also, where earnings expectations have come in, the economy is proving far more resilient than most commentary would have you believe and both earnings and growth should outpace what are now pretty-bleak expectations. As JPMorgan put it, “A more realistic view of the macro-outlook suggests that analysts will probably cut their expectations of future earnings some more, partially validating some of the weakness we’ve seen in equity markets so far this year. However, stocks are a long-term investment; and while earnings may face challenges, earnings should recover in 2024 and beyond, supporting a rebound in U.S. equities from today’s depressed levels.” (See accompanying chart).
Brian Wesbury while expressing his outlook that included the possibility of the S&P testing 3325 at some point also cautioned investors of, “A couple of things to keep in mind. If you’re a very long-term investor who doesn’t want to time the market, none of this discussion matters much. Just maintain your normal allocation to stocks and don’t be shy about continuing to buy stocks at your normal intervals. That way you’ll be buying at low stock prices, too, and stocks should be worth substantially more when you’re spending down assets in the far away future. However, those investors willing to take some risk on timing the market should consider that the future year or so probably includes better entry points for broad stock indexes than today’s levels.”
III. Market History Points to a Brighter Future
There is plenty of darkness these days, is there any light? Yes, though its counterintuitive to say the least, in that it’s the actual level of “bleakness” that should give investors “confidence” in what comes next.
I think it is fair to say that bearish outlooks and panic type fears are prevalent enough these days to now be consensus. As we pointed out above, investor sentiment has NEVER posted 60%+ bearish readings in back-to-back weeks which anyone engaged in investing in 2008 is quite honestly comical. Is this the bottom? Only a fool would pretend to know, but such sentiment usually signals one is near. While not a timing indicator, sentiment (see following chart), is usually a pretty good long-term contrarian indicator of what actually lies ahead.
In addition to the historical facts/charts from last week’s commentary (see here), another sign of a bottoming process is the level of broad-based selling we are seeing that again typically come near market lows.
As Bespoke reported, “To put this streak of negative breadth readings in perspective, going back to mid-1990, there have only been three other periods where the S&P 500 had four straight days of daily breadth readings below -300. The most recent was last June and the other two were on 12/24/18 and 8/25/15…Here is a chart of the S&P 500 going back to 2015 with red dots showing each of the dates in the chart above where the S&P 500 had four straight days of -300 daily breadth readings. It’s obviously a limited sample size, but equities quickly bounced back following each of those extreme periods of negative breadth.”
They continued, by looking at the cumulative advance/decline line noting that, “On a cumulative basis, the S&P 500’s 20-day A/D line closed out last week at -2,600, which also ranks as one of the most extreme readings to the downside in the last 30+ years.”
I’ll leave you with two thoughtful and more positive takes on where this is all likely headed than you likely are reading elsewhere.
First, from analyst Damir Tokic, “…we are currently at the peak Fed hawkishness, and the Fed-induced liquidity-based selloff (the Phase 1 of the bear market) is likely near the end. Furthermore, the probability of an imminent recessionary selloff (the Phase 2 of the bear market) has decreased as the 10Y-3mo spread is still positive and recently widened - no recession occurred with the positive 10y-3mo spread. More importantly, the credit risk (the Phase 3 of the bear market) is actually decreasing with spreads between the BBB bonds and 10Y Treasury yields decreasing towards the 2% level - which is very low.”
While Tom Essaye, outlined the most plausible path out the current mire for stocks stating, “Positively, there is a way out for stocks, and it’s not particularly unrealistic. Inflation recedes (which it will do), the Fed signals a pause (which it will do), a Russia/Ukraine ceasefire occurs (which will happen at some point, even if it’s a Korean War-type solution where the war never actually ends and there’s a demilitarized zone). Then, China realizes that an economic collapse is worse than COVID and the U.K. accepts the reality that one can’t solve a problem partially caused by too much money via throwing more money at it. These things can happen, and they can happen fast. When they do, stocks will stage a massive, legitimate, well-rounded rebound. But we have to wait for it. In the meantime, it’d be nice if the powers that be just stopped making things worse, because stocks and bonds are trying to hang on—but there’s just too much negative news to overcome.”
Today’s markets struggles were always part of the journey and are nothing we haven’t seen before. Key metrics are improving and market history shows how quickly things can turn to Essay’s point above.
Remember pessimists fail to account for tomorrow’s innovations helping the world move past today’s problems, and in so doing let their emotions conflate a current (dis)like with an impending (dis)aster.
History is replete with examples of economies and markets proving their resiliency and rewarding those disciplined enough to stay the course.
A good plan and partner can help you prepare in advance and persist in the midst of the storm. For those of you who have chosen us, thank you. And for those who have yet to, we are always here to talk.
Have a wonderful fall weekend,
Tim and the team at TEN Capital
Data, Just the Data
Data points this week included: