Market Strategy 1/18/2022

Key Takeaways

• Q4 earnings season with only 26 or 5% of firms in the S&P 500 having reported is off to a good start with earnings up 30.8% from a year earlier on revenue growth of 29.3%. This week 39 more firms report results.
• As the markets and investors sort through challenges tied to recent high levels of inflation, supply chain woes and viral variant worries, we find comfort in keeping things in historical context.
• Although economic data last week showed inflation at a 40-year high at 7%, measured over two years it’s running at just 4.2%, suggesting that the yield on the 10-year Treasury note senses a transience in the current high rate of inflation. 

It’s not just about finding a way to put the pandemic into the rearview mirror of time but how to put the tools of monetary and fiscal (political) stimulus that have led to headline-grabbing inflation becoming a sticky topic back into the proverbial tool box.

With the process of addressing a 40-year high in the headline inflation rate the recurring questions on Main Street, Wall Street and in Washington, DC for some time forward are likely to be just how well will the Federal Reserve navigate the process of addressing the current level of inflation and will the venerable institution eventually succeed or fail in reining in the unwelcome guest at the table of prosperity.

If the uncertainty of the variants belonging to COVID-19 were not enough to manage in their ponderings about the process of economic re-openings stateside and around the world, issues tied to the global condition including the multi-lateral supply chain and labor shortages along with their contribution to the inflation rate remain hurdles to traverse in order to get back where we once belonged prepandemic, or to arrive at the “the next new normal.”

As troubling as these issues can be along with the myriad of problems and worries they raise stateside and around the world for investors we find practical comfort in keeping things in historical context recalling that even as history may not repeat itself it has proven often to rhyme or, in other words, has shown in hindsight that solutions are more often than not found to resolve challenges that may in the moment appear insurmountable or likely at very least to present a risk of becoming chronic.

In our experience dealing with the markets and investments for nearly four decades (gasp) we have found that as much as many investors and commentators have a fondness for saying, “the markets don’t like uncertainty” in hindsight it has been the periods of uncertainty that have ultimately provided the greatest opportunity and rewards for those investors who embrace the challenge that uncertainty presents and by such action find a way to go around it or simply get through it in good stead.

Along the way to arriving at a resolution to some great problem dogging the economy and the markets almost inevitably there are often opportunities that present themselves for investors to take advantage of and “surf” the proverbial “troubling big waves” that a crisis like a storm may produce. The adage “seek out babies thrown out with the bathwater” can often be applied usefully to managing through periods of volatility like those we’ve experienced since the New Year.

Portfolio diversification, rotation and rebalancing along with patience and right-sized expectations of how different segments of a well-diversified portfolio are likely to perform in times subject to the dynamics present in transitioning from a period of crisis toward a period of post-crisis can serve investors well.

The not so distant past of reflationary periods experienced in the US economy in 2011 and 2018 post the financial crisis were in their respective day thought by more than a few investors to be prelude to inflation bad enough to cause interest rates to jump and stick at high levels. It didn’t happen. Inflation didn’t stick around for long as a mix of monetary policy and cyclical and secular counter-inflationary trends embedded in technology and globalization stemmed the troublesome inflationary tide.

The recent “pivot” by the Federal Reserve Board in which it has accelerated its plans and policy response to address the current wave of undesirable levels of inflation is in our view a good start.

For all the boom, bust and recovery cycles we have experienced since reporting to our first job on Wall Street many decades ago the quickness of the response to a structural problem in the economy has been key to eventually arriving at some resolution sooner than later -- if not as soon as some might want. Responsiveness as well as flexibility are key in our view to making proper policy decisions along the way. We say so far so good this time around. Look for progress not perfection.

Once again time will tell. Patience and diversification are likely the keys to success.

In this Martin Luther King Day holiday-abridged week S&P 500 Q4 earnings season will gather some momentum with a mix of widely followed companies belonging to a number of value sectors including financial, industrial, consumer, materials, energy and health care reporting results and likely providing useful clues as to what lies ahead.

After two weeks in a row laden with key economic data this week’s calendar is relatively light with data points across regional manufacturing, housing, initial jobless claims and the Conference Board’s Index of Leading Economic Indicators at the end of the week.