Weathering the Storm - Market Update Q2 2023
It's been several months since our last blog and we felt it was important in this season to give our clients an overview of some things that are on our mind here at MFG and how that relates to the positioning in our investment portfolios. In the video below Mike discusses some of the storm clouds that have been around for many months and others that may continue to take shape and materialize. Some of which are as follows:
National debt path and the problem it poses with higher interest rates.
Inflation and the Federal Reserve
Commercial Real Estate
Banking system fragilities
Elevated Price to Earnings (P/E) Ratio
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A few additional elements we also want to highlight are as follows:
Throughout history, recessions almost always are preceded by one of the following factors:
An Inverted Yield Curve
An Energy Shock
An aggressively tightening Federal Reserve
In the last 12 months we have seen all three of these factors. You likely understand numbers 2 & 3 fairly well already, as it seems we've talked endlessly about the Federal reserve the last few years and unless someone else fills your gas tank, you've seen the ride energy prices have taken in the last 18 months or so. The inverted yield curve concept is harder to understand but it tells an important story.
What it means for the curve to invert is that longer maturity bonds are offering lower interest rates than shorter maturity bonds. A commonly discussed spread is the 10-year treasury yield vs. the 2-year treasury yield. As of today this spread is at -0.65%. The term "inverted yield curve" refers to when this spread moves into negative territory - meaning the 10-year treasury rate is actually lower than the 2-year treasury rate. This has been the case since July 2022. Normally the longer the duration, the higher the yield, because your money is tied up for a longer period so you get rewarded for being willing to do that. The inverted yield curve tells us there will likely be economic developments coming that result in the Fed lowering rates and maybe lowering them significantly... this is why many consider the inversion to be a key metric to watch as the bond market is often correct in what it forecasts.
Another note on higher rates and the banking issues: stress in the financial system often leads to tighter lending practices. This translates to more stringent lending requirements, higher rates, and ultimately higher cost of capital for small and medium- sized businesses in particular. As this pressure works its way through the system, it typically means job losses and a reduction in economic activity. All of which are still working their way through the system right now and the severity of these impacts remains unknown.
An encouraging element to all of this is that difficult times often present incredible opportunities. We are confident these storm clouds will eventually subside and as a result we'll have opportunities to make investments that could be fruitful for many years. However, as Mike mentions in the video, we feel it's important to be hedging our portfolio during this current season.
Authored by: Michael McCracken CFP®, ChFC and Jeffrey Gardner, Financial Advisor The information presented above has been prepared for informational purposes only and the commentary represent the opinions of the author and are subject to change at any time due to market or economic conditions or other factors.