It has been an unsettling start to the year in the financial markets. It may not be entirely surprising that 2022 has been offering some unexpected challenges, given that we entered the year at low-interest record rates, sky-high equity valuations, and still grinding through a global pandemic. That said, the S&P 500, the most used index for US equities, had its worst performance since 1970. Starting in February, central banks on both sides of the border began raising overnight rates, which increased expected interest rates and decreased bond values. Inflation resilience and recessionary fears boosted the apprehension of “stagflation” (a combination of stagnating GDP growth and inflation) and its damaging effects on the economy.
The U.S. Federal Reserve (the Fed) not only changed its tone regarding the persistence of inflation but also surprised the markets by raising the fund’s rates by 75 basis points in June, the most significant increase in almost three decades. The FOMC (Federal Open Market Committee) is responsible for making critical monetary decisions in the United States. They had to consider a complex combination of variables that included the Ukrainian war, its effects on energy and commodities prices, the supply chain disruptions, and the current inflation level, to mention a few. ChairmanPowell has stressed that the Fed’s goal is to achieve a soft landing, shifting the economy from growth to a slowdown without triggering a recession. Still, history shows that it was never possible to increase the unemployment rate by 0.5% without triggering a technical recession. That indicated the goal of a soft landing is something not likely to happen if history repeats itself. There is consensus that the unemployment rate will need to rise from close to the historic low of 3.6%. An interesting fact is that currently, there are two job openings per unemployed person. That likely has to change to bring inflation back into control.
Along with the FED, other central banks have adjusted their tone to this new inflationary world. The Bank of England increased their Bank rate by 25 basis points this June. The Bank of Canada raised its rate by 50, and The Swiss National Bank surprised the markets by moving interest rates from (-0.75%) to (-0.25%), the first rate hike in 15 years.
With volatility, fragile equity and fixed income markets, our asset allocation decisions in 2021 and 2022 have provided value for our clients. Our fears of overvalued markets and the subsequent decision to increase cash, reduce the duration for fixed income and minimize exposure to US equities provided excellent protection this year, especially during June, our best month on a relative basis.
Rather than leave you with the impression that our investment team is all doom and gloom, the reality couldn’t be further from the truth. We focus on identifying pockets of value and strategies that may capitalize on the market challenges. We think there will be a number of these opportunities emerging and are optimistic about a few that are under review with our Investment Committee.
Click the link below to read Raintree Wealth Management’s 2022 Q2 Market Commentary, where we discuss Canadian Equities, US Equities, Fixed Income, Global and Emerging Markets, and more.