The Allure of Pessimism

Relax your breath, lean into yourself
Here's what I know is true
Well, the sun hasn't left
The sea still has depth
The rain's still wet, try not to forget
We're not so bereft, so here's
A bell that still rings true

There's still something left
There's still something left for you
You're not wrong, things are a mess
But there's still something left
Friendships are just a chain of texts
But there's much more than this

--The Sun Hasn't Left - Modest Mouse (6/17/2021)


Nobody can predict markets; we should resist letting the day's headlines derail our financial plan. If I told you in the summer of 2020, when The Economist published ‘The Next Catastrophe’ issue, that the stock market would jump over 45% in the ensuing 22 months, you would have thought I was crazy. But that is precisely what happened (S&P 500, 6/27/2020 thru 5/4/2022). Every economic crisis (and stock market collapse) is different than the previous one. What they all have in common is the unsettling fear that maybe this time is different. Perhaps markets will not recover this time. During a global Covid-19 shutdown it was hard to envision that the market would recover and reach new all-time highs, just as its always done in the past.

“Optimism sounds like a sales pitch. Pessimism sounds like someone trying to help you…Tell someone that everything will be great and they're likely to either shrug you off or offer a skeptical eye. Tell someone they're in danger and you have their undivided attention…Say we'll have a big recession and newspapers will call you…Say we're nearing the next Great Depression and you'll get on tv. But mention that good times are ahead…and a common reaction from commentators and spectators alike is that you are either a salesman or comically aloof of risks.”

-Morgan Housel, The Psychology of Money (Chapter 17: The Seduction of Pessimism)

Today, the world is grappling with high inflation, a tragic, senseless war, and supply chain issues due to Covid lockdowns in China. Pundits are all but certain that we are headed for recession. Despite preliminary first quarter GDP data that indicated our economy contracted, a recession is not imminent in my humble opinion. Of course, if the data changes, I change. But it's hard for me to jump on the recession bandwagon based on the following:


“I don’t think it’s around the corner. There are a lot of factors. Corporations are in good shape. Consumer’s in good shape. The balances sheets are high. I don’t think [recession is] in the short term.”

--Howard Marks of Oaktree Capital on CNBC (5/4/2022)

Every day we are hearing comparisons to the dreaded ‘double-digit inflation’ we endured in the 70’s and 80’s. On October 19, 1973, OPEC (12 oil producing nations) stopped exporting oil to the United States in retaliation to President Nixon’s support for Israel in their conflict with Egypt and Syria. Oil spiked more than 300%, going from $2.90 per barrel to $11.65.  This price shock contributed to a recession soon after. Inflation peaked in 1980 above 14%. Now for some perspective. Inflation averaged 7.1% in the 70’s and 5.6% in the 80’s. Still way too high to promote economic growth and prosperity. But we didn’t have double digit inflation for long. We had an inflation spike, and I would argue that we are experiencing one today—it is not permanent. A 60/40 balanced portfolio returned 6% in the 70’s and 15% in the 80’s. Our brains don’t recall respectable portfolio returns, we remember double digit inflation, oil shocks, and recessions.  Here’s an excellent piece from Hartford for more context:  Rising Rates 101

What if inflation drops significantly as the Federal Reserve expects? Afterall, economic conditions can change quicker than we think:

I don’t want to discount how challenging the stock and bond market has been this year. We are in the grips of a volatile correction. Investors fear that the Federal Reserve will be forced to raise interest rates to the point that they push our economy into recession.  The Fed is fulfilling their 2 mandates: maximum employment and stable prices. They’ve succeeded in getting the country back to work, unemployment is near a 50-year low. But we don’t have stable prices, we have uncomfortably high inflation. So, the Fed will increase the cost of money (interest rates) to intentionally reduce demand. I think most of us would agree some cooling in the hot real estate market would be beneficial to avoid a bubble. Our economy is already slowing down, the Fed is doing its job, with the help of the market. I don’t expect the Fed to be as aggressive as the market anticipates. 

 

It’s important to remember that markets are emotional in the short run, and I believe the level of fear in both the stock and bond market today is presenting opportunities for long term, patient investors. However, we don’t believe markets going forward will resemble the past several years. We’ve adjusted portfolios to reflect this new environment. We reduced tech and overseas exposure early this year and reallocated proceeds to value, high dividend paying stocks. And we have been buying bonds to take advantage of the panic in fixed income. 

 

This is a good piece on coping with stock market corrections, which provides some perspective:

  • A drop of 10%-20% in the stock market is not unusual

  • The S&P 500 has endured 28 corrections since World War II

  • The average decline is 14%

  • The market has always recovered and returned to new all-time highs

Here’s a great piece from Michael Batnick on why this correction feels more severe than the indexes indicate:  It Feels Worse (The Irrelevant Investor, 5/1/2022)

“You have to decide whether you’re a trader or an investor. Trying to call the bottom in this decline is foolhardy, but at the same time, the valuations are becoming so compelling that for investors that have a 3–5-year horizon, I think there’s a lot of money to be made,”

--Scott Minerd of Guggenheim, CNBC (3/14/2022)

 

The S&P 500 has returned 9.4% per year over the past 15 years (Morningstar.com). Contrast this with what the bank is paying you on your money. This 15-year period includes the 53% crash in the Great Recession (’08-’09), the 34% Covid Crash in 2020, the near 20% correction in the 4th quarter of 2018, and this year’s 13% correction, among other drawdowns.  Volatility is the price we pay for superior long term returns.  We’ve been here before, and we will certainly endure more drawdowns. There may be more downside in the weeks and months ahead, nobody can predict markets in the short run. But history is on the side of optimists; things have a way of getting better over time.   

I look forward to discussing further with you. 

Thank you!

-randy

The opinions expressed in this newsletter are for general informational purposes only and are not intended to provide specific advice or recommendations for any individual or on any specific security. It is only intended to provide education about the financial industry. To determine which investments may be appropriate for you, consult your financial advisor prior to investing. Any past performance discussed during this program is no guarantee of future results. Any indices referenced for comparison are unmanaged and cannot be invested into directly. As always please remember investing involves risk and possible loss of principal capital; please seek advice from a licensed professional.

 

Hamilton Wealth, LLC is a registered investment adviser. Advisory services are only offered to clients or prospective clients where Hamilton Wealth, LLC and its representatives are properly licensed or exempt from licensure. No advice may be rendered by Hamilton Wealth, LLC unless a client service agreement is in place.