2024 Q1 Commentary
By Nick Fisher, Portfolio Manager
At the end of 2023 the stock market averages were sitting about where they were 2 years ago and have returned very little including dividends. I view the stock market as overly concentrated in cyclical technology stocks, which makes it quite risky. To be clear, I’m not saying a market crash is imminent. With high valuations and an over concentration in the Magnificent 7 stocks, we just won’t see the same returns coming from the S&P 500 index that we experienced over the last decade. This is quite the contrarian view compared to the current market go-go narrative.
Most investors would never guess that the leading sector over the last 3 months is…energy…again. Why? Inflation.
Over the last couple months we have seen many analyst reports calling for a reemergence in the growth of earnings and generally an upbeat/bullish outlook for the economy and stocks. The narrative goes: The Fed has finished hiking interest rates, and it will soon lower the fed funds rate creating a stimulative impact on the economy and market. The market has celebrated this narrative with many calling for a “soft landing” and pricing in as many as 5 Fed rate cuts. As a result, many market analysts are “all in.” Some of those young folks have proclaimed a generational buying opportunity. We couldn’t disagree more with this outlook.
We prefer to weigh the opinions of those market practitioners who have more experience having seen these conditions before; and as a result are cautious, yet optimistic. One question we have is: with a booming economy, why are quarterly earnings of businesses only up 2%? I theorize, that expenses in the form of labor and interest cost of debt are growing faster than revenue. Inflation has been persistent and the Fed will not be able to cut rates as quickly as the market is hoping. This will pressure corporate margins.
In order to reconcile this difference between narrative and reality, we have a portfolio assembled that is quite different than the average investor.
Instead, we see more volatility ahead. But best of all, we can earn a reasonable return on both the equities we own and the cautious part of our portfolio creating a heads we win and tails we still win scenario. Bonds are paying an attractive yield for the first time in more than a decade, dwarfing the dividend yield of S&P 500 stocks.
We still need to consider the fact that there is a strong possibility inflation may be stubbornly higher than the last 20 years. We therefore need to supplement our interest and dividend income with exposure to natural resources and commodities to protect our purchasing power.
In order to do so, we will continue to collect businesses and assets that we trust have the ability to perform under the current conditions of inflation, higher interest rates, rich valuations and potential economic volatility. These are truly rare and valuable.
For the last 40 years we have lived with falling rates and it has been great to go “all in” at each opportunity. The gravity of falling rates and monetary stimulus were automatically going to lead to higher stock market valuations. And this happened without any inflationary pressures. This time inflation has proven persistent and
consequently the Federal Reserve may not be as aggressive in lowering rates unless we have a truly calamitous issue to deal with. This dynamic has changed the investment environment and I believe our method of investing is ideally suited for the period ahead.
We appreciate your support and look forward to navigating the future uncertain environment together.
