A few weeks ago temperatures here in the Northeast were in the 40’s. More recently we saw record breaking heat. In April we were talking about a recovering economy experiencing natural growing pains. Today, some prognosticators see the US slipping into a recession later this year. That was sudden! Is their concern justified or yet another over-reaction?

As you might have noticed, stocks this year are down 20%, the tech-heavy Nasdaq index is down 30% and crypto-currencies are down anywhere from 50% to 95%. (For our analysis on crypto, see our recent newsletter here.) In fact, nearly all asset classes are down regardless of sector, risk level, and region. In most market corrections, different types of investments tend to correlate downward together, leaving almost nowhere to hide except Cash and Bonds.

This time however Cash is down over 8% year-over-year (due to inflation). While Bonds, which often zig when stocks zag are similarly down by 9% this year. This is a shocking move considering that statistically speaking we should only see this kind of Bond decline once every 126 years! The positive news is when you have such an unusual move in one direction, a rebound often follows.

What about the real economy? We all know how much more expensive things are this year than last. Yet the seeds of today’s inflation were planted years ago when the US flooded the financial system with pandemic cash. (Foreign governments did so too but at much lower levels.) As investors put this cash to work, prices for everything got bid up - from stocks, to cars, to NFTs.

Likewise, all that cash helped consumer demand rebound quickly. The supply of goods however failed to keep up due to Covid constraints and the Russian oil embargo. This mismatch has led to inflation at a 40 year high which poses a challenge to consumers and the economy.

The government’s playbook to fight inflation and restore balance is to raise borrowing costs. However, the short-term consequence of higher costs is a reduction in businesses and consumers’ spending power, and subsequently their confidence. Today this approach seems to be working with early data suggesting consumers are in fact starting to pull back. If this continues, the possibility of a mild recession grows.

While the typical Longwave client can comfortably say “been there, done that”, it’s still only natural to ask “when will my investment statements start looking better? What will my bonus look like this year? How will a possible recession affect me?”

While no one can predict the future, financial markets are giving us some clues. The depressed stock market, which many consider to be a forward-looking mechanism, may be telling us where the real economy will be approximately 6 months from now. While stocks continue to go down, bonds have stabilized from their free fall recently. This suggests that investors may be starting to look at bonds again as an attractive hedge against a slowing economy rather than an inflation casualty.

So, what do we do now with our portfolios? History suggests stay the course. The temptation to get out when markets are tumbling is strong. Yet, we often see the best performance in the market come right after we hit bottom. Miss those days and you may never recover.

As portfolio managers, we have spent the past several years anticipating today’s market conditions. We repositioned our bonds to better deal with rising rates, maintained a high real estate allocation which can be an inflation hedge, and focused on ‘value’ stocks which can outperform in conditions such as these.

Of course, in any portfolio, there’s always something that can be working better and for us today that’s international stocks. Their weakness is being caused by hopefully temporary factors: the war in Ukraine and Covid lockdowns in China. Once these conditions subside, this allocation should turn into a positive.

While we are pleased with our current investment allocations, we understand that the possibility of a real economic slowdown brings back memories of disruption and anxiety from past recessions.

For that reason, we are not sitting on our hands and nor should you.

For our part, we are rebalancing portfolios where necessary, getting out of legacy positions with lower tax consequences, and strategically harvesting losses in certain taxable accounts to accumulate future tax deductions. We are also selectively accelerating systematic investment plans to take advantage of lower stock prices. If you would like to discuss any of these strategies in your own portfolio, don’t hesitate to reach out. If you are not currently a client and would like to take advantage of this recent decline to better position for the future, we welcome an initial conversation.

Other than “don’t overreact to the market”, here are a few things you can be doing, proactively, in these conditions:

· Consider having us refresh your financial plan to account for current market conditions

· If retired, keep a lid on spending to put less pressure on portfolio distributions

· If working, continue to invest automatically to benefit from lower stock prices

· Search for higher yielding cash vehicles

· If sitting on excess cash, consider investing over the next six months if current market conditions persist

· Buy the car you’re leasing -you’ll be getting an almost-new vehicle for an inflation-free price

· Think about what makes you happy and reduce spending outside those areas

At Longwave, we always talk about focusing what you can control and ignoring the rest. Today the heat has broken and it’s a beautiful day here in NYC and hopefully for you as well. Enjoy your day because whatever uncertainty lies ahead will pass as well.

The Heat Is On: Pressure Grows on an Otherwise Resilient Economy