Market and Economic Commentary

3rd Quarter 2022
Summary: Overview

• Central banks around the world are in a foot race to increase interest rates. The dramatic shift in monetary policy has increased volatility for investors. The Fed has become very restrictive in its monetary policy (interest rates) as seen in the inverted yield curve. An inverted yield curve historically has coincided with economic slowdowns. At the same time, fiscal policy (government spending) has come down dramatically from the COVID stimulus in 2020. The combination of the two forces are weighing on equity prices.
• “Don’t Fight the Fed” is an oft overused refrain, but it likely holds true today due to the speed with which rates have increased. Despite rates trending back towards a long-term average, this tightening cycle certainly “feels” worse due to how quickly we have reversed course. During September’s press conference, Fed Chairman Jerome Powell stated that “There isn’t a painless way to get inflation behind us.” Unfortunately, this pain has been felt directly by bond and equity investors. Returns for both bonds and stocks, which typically move inversely, suffered equally during the third quarter.
• In addition, Powell stated that the economy needs to see the supply and demand of labor back in balance. Specifically, the Fed wants to see unemployment increase and wage growth decrease. Neither has happened yet. This puts investors in the unenviable position of hoping for weaker economic data.
• Leading indicators are pointing to slowing growth. Higher interest rates have made home ownership much more expensive which has put a damper on housing starts and pending home sales. In addition, the number of unfilled job openings has begun to decline rapidly. Despite softer consumer data, the industrial economy remains relatively healthy. Industrial production and capacity utilization remain at highs, and corporate profits have yet to turn down.
• Europe’s reliance on Russian oil and natural gas has caused the whole continent to experience an energy crisis. Relative to the United States, energy prices in Europe are up 1000% since 2021. The energy crisis in Europe means that 2023 will likely be behind only 2009 and 2020 as the worst year for the European economy since WWII. Ironically, the energy crisis is weighing on the prices of other industrial commodities, which have come down because of lower demand.
• Sentiment remains abysmal, which can be bullish from a contrarian perspective. In addition, market valuations are now below both 5 and 10-year averages.
• Higher rates and slowing international growth finally have started taking their toll on earnings estimates. Analysts have begun marking down estimates from high single-digit to low single-digit growth. The market was likely ahead of the analysts in pricing in some of the earnings slowdowns.

Download the full report in pdf here: IMVA Investment Review-October 2022