Welcome aboard, one and all—and mind the dip. Another wave of selling crashed into U.S. equity markets last week, with all three of the major averages suffering their fourth losing week in five. That summer comeback rally that started in mid-June is starting to smell more and more like a bear market bounce. The Dow dropped 4.1% last week, the S&P 500 fell 4.8%, and the NASDAQ was down 5.5%. Yikes! That summer fling, which started on June 16, topped out on August 15—and since then—according to our pals at YCharts, the Nasdaq is down nearly 13%, while the S&P 500 and Dow Industrials are down more than 9% each.
The S&P 500 has now closed below its 200-day moving average for the longest stretch since the Great Financial Crisis. Get used to that refrain. With the three major market averages now approaching those June lows again, market technicians are warning that if those levels don’t hold, stocks could be headed down at least another 5 to 10%, and maybe more. We won’t know until we know, but there are some critical events coming up ahead on the tracks.
The U.S. Federal Reserve is meeting on interest rates this week, and will likely raise the federal funds rate another three-quarters of a percent—at least. We’ll get into that in a few minutes. Corporate earnings season begins anew in three weeks, and the forecasts are not likely to be too rosy. We also have a midterm election here in the U.S. in November, and that should add some spice. And, there’s a potential energy crisis looming in Europe. No pressure.
Shares of FedEx (FDX) fell 22% on Friday, the biggest one-day decline for the stock ever in its history. And FedEx, my friends, has been around for a minute. The company had its initial public offering (IPO) back in 1978. CEO Raj Subramanian said global shipments have been weakening on a weekly basis, and that a global recession is approaching. He’s not the first CEO to say that, but when FedEx talks, we best listen. It’s one of—if not the biggest—transport companies by market capitalization and global shipments, and it has the finger on the pulse of orders. If orders and shipments are falling, FedEx is going to know about it first. If future orders are trending lower, FedEx is going to know about it first.
And, as we know from Dow Theory, courtesy of our pal Charlie Dow, the market is in an uptrend if one of the averages—the industrials or transports—advances above a previous important high, and is accompanied or followed by a similar advance in the other average. The opposite of that, my friends, is happening now. Dow transports, according to YCharts, are down more than 24% from their recent highs. Those highs occurred nearly 11 months ago. Transports are down 14% in just the last month, with a lot of that pain coming last week, as FedEx guided lower for the quarter. Until the transports stabilize, the rest of the market will likely be under pressure.
Number two—we’ve said it before, and we’ll say it again. The U.S. dollar is continuing to push everyone and everything around, as it gets stronger by the day. The greenback is experiencing a once-in-a-generation rally as investors flock to it for safety. Rising interest rates everywhere, except for China and possibly Japan, stubborn inflation, and Europe on the brink of a possible energy and economic crisis, is making the dollar the only game in town for big investors. And that’s a big problem for economies around the world, including here in the United States. The ICE U.S. Dollar Index, which measures the currency against a basket of its biggest trading partners, has risen more than 14% in 2022, and it is on track for its best year since the index was launched back in 1985.
The euro, Japanese yen, and British pound have fallen to multi-decade lows against the greenback, and it’s been even worse for emerging market currencies. The Egyptian pound has fallen 18%, the Hungarian forint is down 20%, and the South African rand is down 9.4%. Besides making imports more expensive, and exports cheaper for those countries, a stronger dollar makes the debts that emerging market governments and companies have taken out in U.S. dollars more expensive to pay back. Keep in mind that emerging markets have $83 billion in U.S. dollar debt coming due by the end of next year, according to the Institute of International Finance.
And number three, U.S. Treasuries are also flashing warning signs, especially short-term treasuries. The yield on the U.S. two-year note topped 3.9% last week. That’s the highest level since—you guessed it—the Great Financial Crisis. If investors are selling short-term U.S. Treasuries, you know they’re not confident about the economic outlook in the near term. And that is leading to even more yield curve inversion. The yield on the two-year Treasury note pushed further past the 30-year yield to mark the deepest inversion between the two notes in 22 years last week, as fresh inflation data, bets on rate hikes, and recession fears continue to widen that gap. Reminder—an inverted yield curve is a telltale sign that investors have very little confidence in the near-term economic outlook. There are patterns here.
What’s in This Episode?
I spent part of last week at the Future Proof Wealth Festival in Huntington Beach, California. This was the inaugural event for the festival, put on by our friends at Advisor Circle and Ritholtz Wealth Management, and it was billed as the Coachella of Finance Festivals. Let me say—it was all that and much more. It was hosted on the boardwalk at Huntington Beach in Orange County, California, completely outdoors with music acts, high-profile interviews, learning sessions, live podcasts, networking all day and night, and great bodysurfing along Huntington Beach’s hard left break. Investopedia threw a party to celebrate the Investopedia 100, our list of the 100 most influential financial advisors in the United States, and many of them were there. It was a real honor to honor those professionals who have dedicated their professional lives to helping people with their money.
Since I was surrounded by so many smart financial advisors, planners and investors, I took advantage of the opportunity to ask them the most pressing questions and problems facing investors today. We know what a lot of them are: uncertainty, a simultaneous decline in bond and stock prices, and a lot of fear. But talking to these folks about that and hearing their diverse perspectives somehow helps me put the fear at bay, and inspires courage in the face of the unknown. You’re about to hear from several of them, including Joe McLean of MAI Capital—he’s been on the show before, Lindsey Bell of Ally Investments, also a regular on the program, Blair Duquesnay of Ritholtz Wealth—one of the smartest family planners and advisors I know, and Michael Antonelli, of Baird. Here are some pieces of those conversations—and apologies in advance—I taped a lot of these conversations outside, and there’s a little bit of wind and airplane interference at some moments.
Meet Joe McLean
Joe: “My name’s Joe McLean, and I’m with MAI Capital.”
Caleb: “Joe, what do you think is the biggest challenge facing investors overall right now, especially the clients that you serve, but in general, what’s the uncertainty like?”
Joe: “I think for most of them, it’s experiencing inflation for the very first time, which has led to a new understanding of the value of putting plans together to sustain your lifestyle. Because I think most people saved for the majority, but they at the same time, they had this power of the markets growing for them, outpacing all of the spending that they could have had. So right now, they see the cost of everything going up and realizing it’s time to start buckling down and controlling the things that they can control, and understand the markets will take care of themselves, but we—in the short term—we have no idea where it’s going to go.”
Caleb: “Inflation means different things to different people, basically based on your income and where you are in your life stages. And you see a lot of people throughout their various life stages, but people who have had some success early, and are trying to think about managing that money and that income long-term. How do you counsel them at a time like this?”
Joe: “We’re doing it right now. It’s going back to the basics and saying, okay, do you know what it costs to be you? What is that number? And these are the things that we can control. The markets will go up, the markets will go down, but we can control your spending. The people that have the benefits of having strong cash flow—that’s a good thing. For the people that aren’t earning enough income to live off of it—they just have to learn how to buckle down and realize this is going to take time, and we can’t microwave our money right now to get out of this situation.”
Caleb: “Great point, and I love that you have to know what it costs for you, and I constantly quote you on that. Sometimes I call you, but I use it all the time because it is the most powerful phrase, I think, in personal finance. What does it really cost to be me? Let’s talk about your industry real quick. You have obviously been able to grow your firm, to expand your firm. But let’s talk about the financial planning industry overall. We’re at the Future Proof conference. I mean, there’s a lot of great energy here. But in general, what’s your take on where that industry is, and where it will grow and how it will grow?”
Joe: “I couldn’t be more excited and more inspired by the young people that are here at a conference like this. If you look at the history of advice, it was really targeted at the baby boomers starting back in, say, 1981. And, you know, the value proposition was to give them access to the capital markets. And then it was eventually, I can help make more money for you than anybody else in the street. And then it was about spending and income strategies as they get to retirement.”
“Now, when you look at the younger people getting into the marketplace, both as advisors and as people earning money, they’re starting to think about this at a younger age. And so, now focusing instead of getting access to the capital markets, it’s about understanding your cash flow, understanding what a budget is, even though nobody likes that word. We call it spending strategies. And so they’re just paying attention earlier and they’re smarter than we were, or I was, at age 35. And it’s exciting to see both new clients coming into the space and new advisors that want to help other people be inspired and do the right things.”
Caleb: “It really is good to see that here, and it’s good to see you, and best wishes on what you’re growing, what you’re going to continue to grow. Joe McLean, always good to talk to you on The Express.”
Meet Lindsey Bell
Lindsey: “Lindsey Bell, chief markets and money strategist at Ally.”
Caleb: “Lindsay, what’s sort of the biggest concern you’re feeling from clients and investors right now?”
Lindsey: “Where do we go from here as we go into the end of the year? We’re in a really volatile period for the market right now. I think the top concerns for me, especially after today’s CPI report, is where does inflation go from here? Because it seems like some of the stickier parts of inflation, like shelter—they’re starting to show up in a bigger way, while other parts of inflation that have been induced by, say, the pandemic or supply chain issues are starting to see some relief. We’re also seeing some relief in the commodities sector.”
“I do think that there is an opportunity for inflation to come down. But if it doesn’t, then the next concern comes with the Fed, and what the Fed does, because they’ve been aggressive all year, they’re expected to continue to be aggressive. But if they’re not able to ease the gas pedal a little bit going into the end of the year, that’s going to be really uncomfortable thing for investors and for the market overall. So I think those two things and—as always—I’ll be watching corporate earnings because corporate earnings have been really steady, despite all this uncertainty that’s going on. Margins have been really robust and companies have been able to fulfill their earnings expectations. But we’ll see where commentary comes out, going into the new year.”
Caleb: “You say a key word, which is expectations. And investors have expectations. We all have expectations. At what point does inflation start to change our behavior? Because we really haven’t seen it so much in retail sales—they’ve kind of been holding up, which is why corporate earnings have kind of been holding up. At what point does it just have this psychological toll, or do we not know because we’ve never really been here before?”
Lindsey: “Well, it’s really interesting that you ask that question, because consumer expectations of inflation, which is the most important thing when it comes to inflation, has actually been descending. There’s a number of different measures that you can look at—they’ve all been declining. This week, the New York Fed’s inflation expectations came out, and it was declining too. So that’s a really good thing. We will get consumer sentiment and expectations on Friday, and also retail sales on Thursday. And what I’m getting from the consumer is that there is still a desire to spend—there is still demand there. Lower gasoline prices—and I always say this—don’t ever underestimate how gasoline prices coming down, even though they’re still high over a long-term basis—that has a major psychological impact on consumers. And it really can impact the way they think about spending, the way they think about inflation, and things like that. They’re not they’re not watching inflation report every month as closely as we are, so expectations are super important.”
Caleb: “Expectations are super important in that regard, but they’re also important in the way that investors think about long-term investing. We’re used to a lot of gains. We’ve had a weird couple of years, but basically the prior three years were very, very strong. Now we’re in this environment where things just aren’t going to be the way they were. Things are very, very different. Do you think investors as a whole have wrapped their mind around that? I know on the institutional side they do, because they pay attention. But, you know, you deal with a lot of retail investors, and so do we. Do you think that they really wrapped their mind around the fact that the game has totally changed?”
Lindsey: “No, they haven’t. What they’re used to is getting into the market in a rapid way. Right after the pandemic happened, as the stock market dropped and they had extra money, extra discretionary spending, whether it was from stimulus or being stuck in the house and not spending on everyday costs. So they’re used to a market that really only goes up. This downturn that we’ve seen in the market in 2022, it’s not that black swan-driven event that could be, you know, recouped very quickly like we saw in 2020. What we’re seeing now is something that could potentially be more systematic, more economic-driven, and they haven’t lived through something like that—a lot of these investors. So the muscle memory there, it’s just not there, to be quite frank. And so what we’ve actually seen—we did a survey—is we’ve seen millennial investors are exiting the market in the last 12 months faster than any other generation—49% of those that we surveyed said that they have sold all or some of their investments in the last 12 months. To me, that’s a shocking number.”
“There’s other research out there that shows that Millennial and Gen Z investors are exiting the markets at this point in time. And the reason we found that they are leaving the markets is because of household expenses, and millennials, if you think about the age range they are in right now, they have many more fixed costs nowadays. They have mortgages, they have car payments, some of them have kids, right? Or they’re getting into that stage of life. So they have all these expenses that they have to account for, and seeing their investment accounts fall over the last, you know, six, eight, 12 months, it’s a very nerve-racking experience for them. So that’s the number one reason. Some of it’s—they have losses in crypto that they’re trying to make up for, inflation obviously always comes up. But there is this fear—a fear of losing more money—too. And so they don’t have the muscle memory that they need to go through this experience. You have to live through it to know what to do the next time. And, you know, my advice is, is when it’s most uncomfortable is the time that you should be putting some money to work.”
Caleb: “I hate to see people bailing out of the market, especially when you get these big selloffs, because this is when you make a lot of those gains back, when we’re sort of churning down here and you got to be in it for the long term. But to your point, they went from FOMO—fear of missing out, to fear of losing it all, I guess. Always great to have your perspective, Lindsey. Thanks so much.”
Lindsey: “Thanks, Caleb!”
Meet Blair Duquesney
Blair: “Blair Duquesnay, and I’m an advisor with Ritholtz Wealth Management.”
Caleb: “What are some of the questions that I think a lot of advisors are feeling, and some of the dominant themes you’re getting from your clients lately?”
Lindsey: “Lots of questions about inflation and fixed income, and should I own bonds in a rising rising rate environment. And we have to have a conversation going back to the reason for fixed income. And it’s been a shock—for bonds to go down 10%. So that’s possibly been the most challenging thing year-to-date. Everybody knows that stocks can decline—We’re used to that rodeo. But I think the biggest shock for everybody has been the one-two punch of high inflation and fixed income returns.
Caleb: “And fixed income returns are supposed to be the cushion, especially as you get older. And a lot of us grew up with the 60-40 notion, even though everyone has their version of that. But are those kinds of rules broken right now? Do we need to rethink the whole concept of protecting our income, growing our wealth over time, especially as we get older?”
Lindsey: “When I get that question, I say, “Well, where are you going to go that’s safer right now?” And, you know, cash, we know we’re losing to inflation—it’s very obvious right now. Stocks are more volatile than bonds—that hasn’t changed. So I don’t really know where to hide. There’s no real answer. I don’t think it’s broken. We just have the end of a massive 40-year bull market in bonds, and rates are going to normalize. And the flip side of that is now, once again, we’re actually going to be earning income from our fixed income. Maybe it’ll take a few years. Bond returns will heal themselves, and we just have to put up with the volatility.”
Caleb: “We also have been living through a decade plus of TINA—there was no alternative—because there was no return on bonds that was really worth it for a lot of investors. Now there is an alternative, but the alternative doesn’t look that glorious per se. But is it enough, especially for older investors, to feel like there is some comfort in this, and there is a place to hide while things sort themselves out in the equity market?”
Lindsey: “I think it’s still going to be a rocky road for fixed income for the foreseeable future. I don’t think it’s going to feel safe. I also think that the fact that people are living longer and retiring longer, we’re never going to return to the coupon-clipping days of retirement, right? Everybody is still going to need some allocation to stocks, in retirement. And so, no, I don’t think that those days are going to return.”
Caleb: “That’s that resetting of expectations, which is hard for a lot of people, especially newer investors, that all they really know is a bull market—all they really know is low rates. So when you talk to families in particular—I know you deal with a lot of families—how do you counsel them, whether they’re in their thirties, in that life-building stage, or forties, as they’re preparing for colleges or other things? How do you talk to them about solving this problem?”
Lindsey: “At any age, I call it the three-legged stool, right? It’s how much risk do you need? And that’s a function of how much time you have, how much you can save, and then—what’s the return expectation that has to be put in? How much risk are you willing to accept and what’s your time horizon? Those three things at any age determine what the risk tolerance of the client should be and what their portfolio should be. So people always ask, “Because I’m young, do I have to be aggressive?” Not necessarily—especially if it keeps you up at night. And on the flip side, just because you’re getting older doesn’t mean you have to take all your chips off the table, and in many cases, if you’ve been diligent at saving and investing, now you’re talking about money. that’s for the next generation. So I approach clients of any age with those three questions, and that’s how we determine how to invest.”
Caleb: “Fundamentals—and fundamentals matter probably now more than ever, because it is kind-of a new environment, and we’re going to look at a new landscape for investing and investors going forward. So back to fundamentals, back to the basics and back to asking yourself that question and having that plan?”
Lindsey: “You really have to have a long-term lens when looking at markets. I don’t know where the markets are going to be in six months, even 18 months, three years, maybe even five years. But I do know, with confidence, that unless the world is coming to an end, where things will be in decades from now, right? And so it’s a challenge right now, of course, what we’re experiencing is very different than what a lot of investors have ever experienced. But, it’s really just answering the same question in a different way, with clients, and bringing them back to those basics.”
Caleb: “Always good to get your counsel, Blair. So good to see you here too.”
Lindsey: “Same, it’s great to see you, Caleb.”
Meet Michael Antonelli
Michael: “I’m Mike Antonelli, I am a market strategist for Baird, headquartered in Milwaukee.”
Caleb: “You are a professional investor. You are a professional equity investor. You put money to work. That’s what you do. Those of us that are individuals, retail investors, we don’t have to do anything right now, but it’s your job to do it. How do you navigate a market like this? So tricky right now, a lot of uncertainty. But when you look at it as a pro, what are you looking at?”
Michael: “This is going to sound weird, but there’s almost an anti-TINA trade developing—there was this notion that you could only invest in equities for the longest time because there was no yield in the fixed income world. And that trade has actually, I think, been completely upended. So when it comes to putting money to work, I think a lot of really smart people right now are not looking at the equity market, which certainly, you know, dominates the conversation. But they look into the fixed income market. They say, look, investment-grade corporates are 5%. You can get a one-year Treasury bill for 3.8% right now, on the day where we’re talking about this. So I think, right now, it doesn’t necessarily just have to be equities, it can be fixed income, and then there’s a lot of talk in our firm about alternatives. Where should we be seeking out a little less volatility than we’re seeing in the public markets?”
Caleb: “And there are options for that, but not all of them are that readily available to individual and retail investors. They’re out there—and there are plenty of advisers that would like to offer them to them, or ETFs that would like to package them. But as you look at alternatives, as your firm looks at alternatives, what are you thinking about real estate—what does well in a high inflation, potentially slow growth environment?”
Michael: “Yeah. And when we’re looking through these—you’re right—there’s a big menu of these. Not all of these are available to everybody. So we’re trying to be very thoughtful about the stuff we put in front of our clients. Real estate is definitely one of those things that you look at in a high inflation environment. I mean, real estate is one of the best hedges against inflation. So then you can get to private real estate loans, you can get into private commercial real estate. There’s all sorts of alternatives and there’s all sorts of products that can benefit from high inflation, especially in the real estate market. You know, one of the things that I think is important—it’s almost a behavioral finance topic—is people kind-of get scared of volatility in these timeframes, and alternatives can offer—I don’t want to say a hiding place, but it’s a place where it’s not mark-to-market every day. So there’s an angle of this investment. You don’t have to look at it go up and down every day, and sometimes that helps people sleep better.”
Caleb: “You got to be a little creative and you got to expand outside of what we commonly know, not just on the investment side, but on the media side as well, because we love talking about stocks—that’s the sexy part of it. You know, as well as I know, bonds really run things around here. So in terms of expectations, I think a lot of investors have had to reset expectations. You’re a pro—you’ve probably had to reset expectations several times, and you’ve seen these cycles come and go. In terms of your expectations of having to rethink the way go forward now, with rates rising and high inflation—how do you sort-of compartmentalize all that?”
Michael: “The first thing I’ve been telling people “no V-bottom.” There was this—and we’ve been through a lot of them together—these V-bottoms where you’re in a bad timeframe and some Fed comes to the rescue, and all of a sudden you’re back at-all time highs six months to a year later. First step is no V-bottoms. Then I like to talk to people about what does the average bear market do? So from top-to-bottom, it’s 300 days. From top to bottom, then back to the top is about 600 days. That’s the average, could be longer, could be shorter—I don’t think shorter’s in play here. I think maybe average, or longer, is in play.”
“The thing that you need to remember, especially as a retail investor, is that expectations are really important for not only your life, but for your investments, and what you need to get into your brain and get into your thought process is that we’re in a situation we’re going to be in for a while, that this isn’t a quick fix. It’s going to take a while, manage your expectations. Think about this—maybe it is 600 days—that’s a year-and-a-half. Maybe it’s longer, maybe it’s two years. Get into your head that you’re going to be in this for a bit. You need to manage yourself through it, and don’t get scared of all these different moving parts. We’ll get through this, but you need to have the right expectations about it.”
Caleb: “That’s a great point. Thanks for the advice. We always appreciate your insight, Michael.”
Michael: “Awesome, thanks!”
Term of the Week: Sacrifice Ratio
It’s terminology time. Time for us to get smart with the investing and finance term we need to know this week. And this week’s term comes to us from Mike Townsend. Mike is the managing director for Legislative and Policy Affairs for Schwab, and I had the pleasure of interviewing him at the Carson Excell Conference for Financial Advisors in Las Vegas, last week. Mike introduced me to a new term—at least new for me—and I thought I’d share it with you. It’s called the “sacrifice ratio.” And according to Investopedia, the sacrifice ratio is an economic ratio that measures the effect of rising and falling inflation on a country’s total production and output. Costs are associated with a slowing of economic output in response to a drop in inflation.
When prices fall, companies are less incentivized to produce goods and may cut back on production. The ratio measures the loss in output per each 1% change in inflation. By examining a country’s historic sacrifice ratios through time, governments can predict what effect their fiscal policies would have on the country’s output—at least that’s the way it used to work. Well, we’re starting to see prices fall pretty steeply for hard commodities, even though inflation remains near a 40-year high, here in the United States. But if we go into a recession, or if we’re in one already, some economists think prices will crater in 2023, and the U.S. may be in a deflationary environment by the end of the year. As prices fall, given the expected pullback in demand and spending, we’ll see what the sacrifice ratio looks like and what it tells us about future rate moves by the Federal Reserve.
Good term, Mike. I learned something new and I love when that happens. You’ll be getting Investopedia’s newest socks in the mail soon, and they are sweet—it’s a new design—and I’m wearing a pair of those right now.