Talking Points – February 2022

February 24, 2022 – Keeping Calm in Turbulent Times 

“The thing to do is to keep your mind when the world around you is losing theirs.” – Warren Buffett 

Over the long-term, no asset class has provided returns as strong as stocks. In fact, it is not even close. However, in order to achieve those returns we have to occasionally be reminded that volatility is part of the deal. You can’t have the upside, without dealing with the downside. Sometimes, corrections are brief and other times they are more severe and last months, or even occasionally years. None of us know what lies ahead for this current volatile period. 

However, what we do know is that historically it is more common for frightening events, including military actions to occur closer to some kind of market low point when investor sentiment has reached a high level of fear. Below are data representing market corrections and bear markets back to 1980. On average, returns looking out 12-24 months were significantly above normal market returns. 

During times of market selloffs, we often think about past difficult periods and the many investors that decided they would rather not be invested and went to cash. The vast majority of the time the second decision, when to get back in, proved even more difficult and they sat on the sidelines watching stocks run higher for years. 

We don’t know how this volatile period will play out, but we do know that having faced many difficult periods in the past following a disciplined approach will prove more beneficial than allowing headlines and emotions to drive important financial decisions. 

February 23, 2022 – The Housing Market 

We have all noticed and perhaps even been involved in the crazy residential real estate market occurring right now. Last year saw the single largest home price increase in any year since just after WWII. This actually makes some sense when you consider how economists have compared the pandemic to a major war. The economy temporarily shut down and then came roaring back trying to make up for lost time with the tailwind of added stimulus. 

However, despite recent notable wage increases the price of homes as shown below, have become very stretched compared to hourly earnings. 

Real estate is a huge driver of the economy and that has certainly helped recent growth. However, there is a downside as the home price and rental increases are further boosting the high inflation numbers. 

There is still a very low inventory of homes for sale and despite recent increases mortgage rates still are much lower than the last housing bubble. This combination makes us believe that we are not setup for a housing collapse like that which brought on the Great Financial Crisis. However, the unaffordability aspect and the anecdotal cases of FOMO we see can’t help but have us watch closely with some concern how this ultimately plays out. 

February 16, 2022 – Earnings and Stock Prices Diverge

Since the lows of the market in 2020, rising S&P 500 earnings estimates and stock prices have moved together. There are certainly plenty of factors that influence stocks over the short-term, but ultimately earnings are needed to support stocks.

Now we see on the right side of this chart that earnings estimates in the U.S. have continued higher, while stock prices have suffered. The left side of the chart shows how the two have differed for much longer in Europe.

One positive of these charts is the dark green line on the bottom. This shows the forward price-to-earnings has been declining. Valuation is not a timing tool, but ultimately if earnings continue to trend higher stocks should at least find support and perhaps even catch back up to the trend.

February 9, 2022 – Will U.S. Stock Dominance Ever End?

The prudent way to allocate assets for generations has been to properly diversify, which included a healthy dose of international stocks. For many years their returns were similar to the U.S., but not always correlated, so the combination offered smoother returns. 

Of course, for more than a decade now U.S. stocks have been dominating. It has been a long time since we see any purple on the chart below indicating international leadership.

Source: JPMorgan Asset Management

However, recently some international stock markets have begun showing improving relative strength. Perhaps the extreme valuation discount found in international and larger dividends can explain the modest turn. More likely, it is simply a matter of market structure. U.S. markets have been driven for years by the sizable weighting to technology. Most of the large well know winning tech names are in U.S. stock markets. Meanwhile, most international markets are more heavily weighted in financials, commodities, and industrials. Many of these stocks fall under the value category that has shown improvement in recent months. 

Every investor is different, and their portfolio should suit them. For example, if an investor is much more likely to stick with their more recognizable U.S. stock names, rather than allow emotions to drive decisions, perhaps little to no international exposure will work for them. However, we can’t help but wonder if stocks might finally be entering a period where international at least offers some diversification benefits and possibly even outperformance potential. 

Source: Greg Towner, CFA, CMT