Mid-Quarter Market Update

Mid-Quarter Market Update

by Laurie Barrett on Sep 2, 2022

Federal Reserve Chair Jerome Powell’s tough talk about bringing inflation down threw cold water on the markets this week, effectively ending the relief rally that started at the end of June. Powell strongly emphasized the central bank’s focus on inflation reduction, even at the cost of economic growth and unemployment, with this telling comment, “While higher interest rates, slower growth, and softer labor market conditions will bring down inflation, they will also bring some pain to households and businesses.  These are the unfortunate costs of reducing inflation. But a failure to restore price stability would mean far greater pain.”  These comments fueled fears that the Fed’s policies would lead to even weaker economic growth, rising unemployment, and lower corporate profits. Some of the recovery in equity prices since June was born of the belief that the Fed would begin lowering interest rates once the economy weakened.   Powell’s crystal clear declaration disabused investors of this Goldilocks scenario.

The good news is that there are signs inflation is cooling. Recent readings for the Consumer Price Index and the Personal Consumption Expenditures index have eased, import prices are falling, the housing market has slowed, and inflation expectations are moderating. All these factors should tame inflation as the year progresses. A shallow recession may be priced into stocks already, but investors are still trying to evaluate if an overly aggressive Federal Reserve would turn it into a deeper one. The Fed’s strategy to reduce inflation to more normal levels is correct in the long term but in the short term, it breeds investor uncertainty and angst.

We anticipate a durable recovery in stock prices once investors get the sense inflation is under control and the Federal Reserve begins to tone down its aggressive stance. The best course of action is to remain invested in a diversified portfolio. While we do not know if this recession and bear market will deepen, we do know being out of the market at the wrong time is costly. The below chart from J.P Morgan Asset Management illustrates this point particularly well:  missing just ten of the strongest return days over a decade nearly cut returns for the period in half.

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Markets will likely remain volatile for the rest of 2022 as central banks normalize, inflation remains hot, recession concerns loom, and geopolitical issues persist. We remain invested in a portfolio of quality, cash flow rich companies that can weather this volatility. So far this quarter, our equity choices have recovered and are generally above their benchmarks on a year-to-date basis. Our inflation hedges on the fixed income side continue working as overall fixed income outperforms its benchmark as well.