Tax Planning

The Rate Hikes Will Continue…

Legend is that Lieutenant William Bligh was a strict disciplinarian aboard the Royal Naval vessel HMS Bounty. Despite there being no known written record of it, the statement “The beatings will continue until morale improves” is often attributed to Lt. Bligh during his tenure as the ship’s captain.  The crew of the Bounty eventually became fed up and staged a mutiny April of 1798, seizing control of the ship from Lt. Bligh, sending him and eighteen loyalists adrift in the South Pacific.  The Federal Reserve seems to be on a similar steadfast path of raising interest rates until inflation subsides. But with cracks appearing in the financial system the markets seem to be staging their own mutiny. 

The Fed raised its target interest rate by a quarter percentage point last Wednesday, continuing its campaign to fight inflation, which remains persistent and above the Fed’s proclaimed comfort zone.  Comments from Fed officials after the meeting also signaled that at least one more rate hike may be in store.  They also stated their current assumption is that other tools, such as emergency lending and deposit guarantees, will contain damage among U.S. banks.  It is quite possible stress from banks and the recent tightening of lending standards will curb economic activity, helping counter inflation and taking some of the pressure off the Fed to continue raising interest rates. 

Interest rates have continued their wild ride with longer term rates continuing to drop from recent highs, indicating markets expect economic activity to slow and the Fed to lower rates faster than previously thought.  The inversion between 2-year and 10-year Treasury bond yields continues to narrow.  Such inversions do not guarantee a recession but have been accurate predictors in the past, generally about 9-12 months in advance. An upcoming recession has been widely predicted by many economists, perhaps the most anticipated recession in history.  But it should be noted that the difference in yields tends to climb back above zero just before recessions begin, so one may be on the near horizon if this pattern repeats itself.  

Navigating the Rough Seas

In the face of volatility, equity markets finished last week higher with the S&P 500 and Nasdaq both posting gains for the second consecutive week, overcoming global banking turmoil which continues to weigh on financial stocks. Technology stocks have been the strongest performers as of late with the Nasdaq now higher by 13% on the year.  The financial sector continues to languish as major European banks have found themselves in trouble, pressuring stocks of foreign and domestic institutions.   Last week’s volatility was marked by the buyout (rescue) of Credit Suisse, pushing stocks higher, but they dropped mid-week on the heels of comments from Fed Chair Powell that the Fed plans to continue raising short-term rates, coupled with a statement from Treasury Secretary Janet Yellen that blanket deposit insurance is not something currently being considered. Stocks overcame concerns about the health of Deutsche Bank and the possibility of contagion spreading to life insurance companies on Friday to rebound and end the week on a positive note.     

Materials stocks and commodities are experiencing headwinds amid global recession fears and reduced demand but supplies of raw materials are tightening.  If a recession is avoided or supplies are further constrained there could be a sharp snap-back in commodities prices.  Throughout the recent financial upheaval, gold and Treasury bonds have been safe havens.  This behavior is reminiscent of asset price action during periods of market turmoil in the past, more so than what we experienced in 2022 when stocks, bonds, and precious metals all lost value.  Corporate bonds, especially non-investment grade or high-yield, have also come under pressure recently since a large majority of that market is comprised of financial firms.  Spreads, or the difference in yields between corporate and treasury bonds of similar maturities, have been widening; an indication that investors are requiring greater compensation for the additional risk.  However, spreads are not yet near what would be considered levels of stress, but this is something to watch in coming weeks.      

Looking Ahead

Attention will remain focused on the financial sector, with any major news likely to drive markets.  There have been reports and data showing a significant amount of deposits being moved from smaller banks into larger banks but that seems to have subsided, at least temporarily.  A great deal of money has also been moved into money market funds for safety.  This money can easily be invested in the market so if (when) we see a stock rebound it could quickly accelerate as there is plenty of money waiting on the sidelines.  The Fed’s preferred inflation gauge, the Personal Consumption Indicator (PCE) deflator will be released this coming week but since the Fed does not meet again until May this particular report may have limited importance with many other data points being released throughout April.  Market catalysts in April are likely to shift away from the Fed and toward first quarter earnings reports, barring any major events in the financial sector.   

At odds with signals from Fed officials that they plan to continue raising interest rates, the Fed Funds futures market is signaling the Fed is done raising rates and, in fact, not only currently predict the Fed will pivot and begin to lower rates in June but also rates will be lower by at least a full percentage point by the end of the year.  Over the past 25 years there have been three completed hiking cycles; when the current cycle eventually ends it will be the fourth.  During the three previous cycles rates were held at their terminal rate for a minimum of 7 months. Even if we are at the top of the current interest rate hiking cycle, history tells us the Fed probably will not drop rates until at least late in the year, if not 2024.  If they do indeed begin to lower rates in the next few months it would be because of something “breaking,” which now seems to be the banks.  That is not a good scenario for stocks.  A much more favorable scenario would be if the Fed does not have to do a quick pivot, though higher rates could weigh on growth stocks such as technology since their prices are predicated upon future cash flows which have a lower present value when interest rates are higher. 

If you are stressed about the current market environment, contact us if you would like to learn about strategies to protect your portfolio while not missing out on the possibility of a market rebound.  Avoid having a mutiny wreak havoc on your retirement plans.          

Have a wonderful week!

Nathan Zeller, CFA, CFP®

Chief Investment Strategist
Secured Retirement
nzeller@securedretirements.com

Please contact us if you would like to review your individual financial plan or learn how the TaxSmart™ Retirement Program can help you.   

info@securedretirements.com
Office phone # 952-460-3260

March Madness

The term “March Madness” was originally used in 1939 to commemorate a high school basketball tournament in Illinois.  It was not brought to the NCAA Basketball Tournament until 1982 when sportscaster Brent Musberger used the term while covering the event for CBS.  From there the term soon became synonymous with the national tournament, even though the NCAA did not take ownership of it until 2010.  When most people hear the term March Madness they probably think of the basketball tournament but the phrase has recently been thrown around when describing the markets. 

Equities were mixed in a week dominated by a blizzard of headlines around banking uncertainties.  Markets were whipsawed by evolving concerns about the banking industry following the regulatory shutdown of Silicon Valley Bank.  Many other banks thought to be at risk of deposit outflows also came under pressure, including many smaller and regional institutions.  Banks take deposits and use the money to make loans.  Due to the inherent risk in making loans, not all deposits are loaned out so banks are required to maintain a certain amount of capital, generally invested in bonds of government entities.  The sharp rise in interest rates over the past year has led to the value of many of the bonds, especially those that are longer dated, being worth much less than their face value.  If depositors withdraw deposits, the bank is forced to sell those bonds at a loss, reducing the bank’s capital. If the bank does not maintain a certain level of capital it is closed by regulators. 

The stress in the financial sector has caused interest rates to plunge with yields on 2-year U.S. Treasuries falling more than 1% in a week and a half. Yields on 10-year bonds also dropped, but the rate spread in yields between 2-year and 10-year bonds has narrowed considerably after hitting a fresh post-1981 record inversion a week ago.  In this atmosphere, expectations for the upcoming Federal Reserve meeting and further interest rate trajectory have become quite volatile.   

Bracket Busters

“Bracket Buster” is a term used when an underdog, or lower seeded team, unexpectedly defeats a higher seeded team in the tournament since the results often knocks out subsequent predictions of a fan’s (or bettor’s) bracket, which they filled out with game predictions.  Odds of interest rate hikes by the Federal Reserve have been gyrating since the beginning of the year, with odds having steadily increased for rates to move higher and stay there for longer. However, predictions of future rate increases have significantly changed over the past couple of weeks with the stress in the financial sector. 

Even with turmoil in the banking industry and uncertainty ahead, the Federal Reserve likely will approve a quarter-percentage-point interest rate increase, but for the first time in a very long time the action of the Fed is not a foregone conclusion.  Rate expectations have been on a rapidly swinging pendulum over the past two weeks, varying from a half-point hike to holding the line and even at one point some talk that the Fed could cut rates.  However, a consensus has emerged that Fed Chairman Jerome Powell and his fellow central bankers will want to signal that while they are attuned to the financial sector upheaval, it’s important to continue the fight to bring down inflation.  The interest rate increase will likely be accompanied by assurances that there’s no preset path ahead. The outlook could change depending on market behavior in the coming days, but the indication is for the Fed to hike, especially since last week’s Consumer Price Index (CPI) numbers indicated inflation remains sticky at an annual increase of 6%, still well above the Fed’s comfort zone.

Looking Ahead

The major event of the week will be the crucial two-day meeting of the Federal Reserve.  While there is much speculation regarding the outcome, it remains largely unknown, and it may be the post-meeting public comments from Jerome Powell that move markets the most.  Somewhat contrary to interest rate hikes, monetary conditions may be loosening with the new Bank Term Funding Program (BTFP) pushing bank borrowing and in some ways undoing the work of the Fed’s Quantitative Tightening (QT) program.  Also, bond yields have dropped dramatically over the past several days leading to lower borrowing costs and perhaps providing some economic stimulus.  There is a possibility this will provide a tailwind to risk assets, i.e. stocks. 

We continue to monitor the situation with the banking sector, but at this time do not think there will be further contagion and deeper economic strain.  However, the added stress coupled with continued tightening by the Fed seems to be increasing odds we will experience a hard landing and recession later this year.  Our biggest concern remains corporate profit growth.  First quarter earnings reports will begin in a few weeks, which is likely to set the tone for the remainder of the year. If earnings estimates were to drop further, it would not bode well for the markets.  By the time earnings begin we should also have further clarity and resolution regarding the banking sector.

If you would like to review your portfolio to ensure it is positioned to weather the current madness, do not hesitate to contact us.  Do not chance having your retirement dreams busted by unexpected events.      

Have a wonderful week!

Nathan Zeller, CFA, CFP®

Chief Investment Strategist
Secured Retirement
nzeller@securedretirements.com

Please contact us if you would like to review your individual financial plan or learn how the TaxSmart™ Retirement Program can help you.   

info@securedretirements.com
Office phone # 952-460-3260

Risky Business

Tom Cruise was catapulted into stardom for his portrayal of a teenager looking for fun while his parents were away in the movie Risky Business. Running around the house in his underwear while lip syncing Bob Seger was relatively benign, but that turned to greater mischief and Cruise’s character learned is that a little bit of fun can quickly get out of hand.  Are parts of our economic system getting out of hand?  What can you do to manage your risk and protect yourself?

The biggest story of last week was the volatility around Fed rate path expectations.  Equity markets suffered their worst week of the year with the S&P 500 shedding 4.6%, giving up almost all of 2023’s gains.  The Dow Jones Industrial Average is now negative on the year while the Nasdaq remains somewhat of a bright spot, being higher by 6.4% despite losing 4.7% last week.  The selloff began on Tuesday after Federal Reserve Chair Jerome Powell opened the door to a more rapid pace of rate hikes to reign in resurgent inflation.  His comments seemingly increased the odds of a half-point interest rate hike at the Fed meeting next week, versus the quarter point previously expected.  Losses deepened on Thursday after Silicon Valley Bank’s (SVB) sudden move to raise cash spooked investors and depositors, sending bank shares reeling.  Markets were stunned on Friday after the FDIC’s seizure of SVB, which raised questions about whether serious problems are developing in the financial sector. 

Odds of a half-point interest rate hike by the Fed fell sharply on Friday amid labor market data, as well as recession and financial system concerns.  The February jobs report showed that more jobs were created than expected, but the unemployment rate moved higher and average hourly earnings growth was cooler than expected, lessening fears of the labor market overheating. While expectations of the next rate hike are now for a quarter-point, risk remains to the upside pending this week’s Consumer Price Index (CPI) report.

The Color of Money

 In The Color of Money Cruise plays a young, arrogant pool player alongside a more experienced and wiser character played by Paul Newman.  Cruise’s character learns that he needs to curb his ego in order to succeed.  Investors often become arrogant, as they did prior to 2022, but markets tend to act very weirdly, which can be very humbling.  This perhaps was the case with SVB.  Banks “borrow” short-term cheap money – typically deposits – and invest the money at higher rates, either by making loans or buying safe government bonds.  SVB focused on venture capital companies and with the brutal sell-off in tech stocks and downturn in valuations of start-up companies, the flow of venture capital has slowed. This means money-losing tech companies are rapidly burning through cash that previously sat on deposit at SVB.  In order to cover the outflow of deposits, SVB had to come up with cash quick, or sell some of their government bond holdings.  Because interest rates have risen so much (bond prices fall when interest rates rise), these were sold at significant losses.  The bank attempted to raise money to cover the losses, but in doing so caused concern amongst depositors, exacerbating the situation since other depositors saw this as a warning and withdrew funds.  87% of the money on deposit at SVB was above the FDIC insurance limit of $250,000 per depositor but the FDIC, in conjunction with the Fed, have devised a plan to backstop all depositors in an effort to provide confidence in the banking system.

SVB was unique as it catered primarily to venture capital companies. Also, as we came to learn over the weekend, SVB did not hedge interest rate risk well. Other banks are likely to fail, but the chances of contagion, or the spread to other institutions, as we saw during the Great Financial Crisis in 2008 are unlikely.  This does not rule out other bank runs, especially since most banks are paying very little in interest and significant amounts of money are being moved to money market funds with much better interest rates.   There are lessons to be learned from the failure of SVB, including do not concentrate holdings in one sector and hedge primary risks. The easiest way to avoid these risks is to diversify holdings

Looking Ahead

In addition to a continued focus on the banking sector, this week brings key reports which are considered catalysts headed into the arch Fed meeting the following week.  The February CPI will be released on Tuesday with expectations it will remain above 6%; providing justification for the Fed to continue raising interest rates. Producer Price Index (PPI) and retail sales data will be released on Wednesday. 

If you would like to learn more different types of risk and how to manage it, join us for our monthly Market Huddle on Monday, March 20^th at noon.  You can register by clicking here.  We would also be happy to discuss ways to manage risk in your portfolio;  contact us to discuss your situation in detail.  Opportunities remain in the market, but do not risk your retirement and let things quickly get out of hand.

  

Have a wonderful week!

Nathan Zeller, CFA, CFP®

Chief Investment Strategist
Secured Retirement
nzeller@securedretirements.com

Please contact us if you would like to review your individual financial plan or learn how the TaxSmart™ Retirement Program can help you.   

info@securedretirements.com
Office phone # 952-460-3260

Cake Eaters

The term “Cake Eater,” which is a saying a person is so rich they can have their cake and eat it too, has long been known throughout Minnesota but it gained broader notoriety from the movie the Mighty Ducks, a story about a rag-tag youth hockey team.  Since we are currently in the midst of the state high school hockey tournaments, this term happened to come to mind but it can also apply to retirement.  Everyone should aspire to be a Cake Eater, having saved enough so they can fully enjoy their golden years.

Last week was rather uneventful for the markets with no major economic releases or catalysts.  The major stock indices did manage to post gains with the S&P 500 finally rising after three weeks of declines.  The market also continued to work through the tail-end of Q4 earnings season that seems to have cleared a lowered bar.  Retail was in focus with reports from many major retailers, including Costco, Lowe’s and Target. Well-worn themes tended to be solidified, including resilient consumer spending with some concerns about softening demand in the face of inflationary pressures.  In the end, the market narrative remained little change over the course of the week. 

Interest rates were marginally higher, likely in response to the rising expectations of peak rates.  Ongoing positive surprise momentum in economic data, including hints of continued inflationary pressures, have pushed market expectations for the Fed Funds terminal rate above 5.5%.  Shorter-term rates continue to rise and longer-term rates, while at their highest levels of the year, are slightly below the peaks seen in October.  Rates on one-year and two-year Treasuries are at their highest levels since 2007; much more movement higher and they will be at the highest levels since 2000.  For the first time in decades, investments in fixed income instruments appear to be attractive. This is especially the case for “idle” money not earning much interest. 

Baking a Cake

You are probably not likely to want to eat eggs, flour, sugar and butter individually until they are mixed together and baked to yield a cake.  The right amount of each ingredient is required or the cake may not turn out. Building an investment portfolio is very similar – your overall portfolio should consist of diversified strategies (ingredients).  A substantial allocation to a losing strategy can cause pain, just as a rotten egg can spoil a cake, which is why it is important to remain diversified and not be overly aggressive with holdings that can ruin your portfolio.

When you eat cake you notice the flavor of the finished product, the entire cake, not the individual ingredients.  Reviewing your investments should be done in much the same way; consider the entire portfolio and do not focus too much time on the individual parts. If your portfolio is built thoughtfully and strategically, the different strategies should work in conjunction with each other to deliver optimal outcomes. There may be times where one of the parts is not performing as well as might be hoped or expected, but the important thing is to consider the results of the overall portfolio, if it aligns with your risk objectives and if it is helping you achieve your goals. 

Just like how you might like one flavor of cake, for example chocolate, while other people prefer vanilla or strawberry, investment strategies that work well for other people may not be best suited for you since individual situations are different and everyone has their own unique needs.  There is nothing wrong with it being different; do what works best for you but be sure you have an overarching strategy that fits your unique situation.  Your portfolio should appropriately match your risk tolerance, risk capacity, and the amount of risk you need to take to achieve your goals.    

Looking Ahead

This week investors will be paying close attention to Fed ChairPowell’s congressional testimony before the Senate Banking Committee on Tuesday and the House Financial Services Committee on Wednesday but the key highlight will be labor-market data on Friday. The Q4 earnings season is nearly complete, with only four S&P 500 constituents reporting this week.  Next week will bring keep inflation reports, including the Consumer Price Index (CPI) and Producer Price Index (PPI).  These are expected to help inform both the Fed’s rate trajectory, with the next meeting being held on March 21-22, and the prospects for soft-landing/no-landing scenarios.  The consensus is for a quarter-point rate hike at that Fed meeting, with the possibility of a half-point hike gaining some momentum.  Current market pricing now does not expect a pivot lower until March 2024.  This expectation continues to be pushed out further and further, so it may be foolhardy to attempt any predictions with much confidence at this time.

If you want to have your cake and be able to eat it during retirement, it is vital to have the proper level of planning so you can live comfortably, spend confidently, and pay taxes consciously.  Contact us if you would like to review your individual situation to ensure you have all the right ingredients to make this happen. 

  

Have a wonderful week!

Nathan Zeller, CFA, CFP®

Chief Investment Strategist
Secured Retirement
nzeller@securedretirements.com

Please contact us if you would like to review your individual financial plan or learn how the TaxSmart™ Retirement Program can help you.   

info@securedretirements.com
Office phone # 952-460-3260

Great Expectations

Charles Dickens’ classic novel Great Expectations is a coming-of-age tale of a young man, Pip, who unexpectedly receives a large fortune and his ambitions to rise to a higher social class.  Throughout the story Pip desires to improve his life and this belief in the possibility of advancement provides great expectations for his future. He learns that as his life improves it is not always more satisfying.  Closer to home, last week’s winter storm did not meet forecasted expectations of being a historical meteorological event, despite receiving what otherwise would be considered a decent amount of snow.  What if forecasters had instead predicted an amount of snowfall that was much less than what was received?  Given the amount of snow we did receive, would this storm have then been viewed as being more impactful?  Perspective is dependent upon expectations and reasonable expectations tend to lead to better outcomes, especially when it comes to the markets.  Did the bull market of the past decade alter reasonable expectations of how markets might perform in the future?

To provide a historical perspective, the price return (not including dividends) of the S&P 500 has averaged 8.7% per year going back to 1958, when the index was expanded from 93 to 500 stocks.  An 8% return for the stock market is frequently used when doing very rudimentary financial planning assumptions, but the S&P 500 has experienced a positive return between 6 and 10% during a calendar year only six times in the past 95 years. This demonstrates how annual market returns are much more volatile than the average and based on historical probabilities, chances are very high of experiencing returns in any calendar year that are significantly different than 8%.  Also, do not overlook the sequence of returns risk, where the assumed average returns might be as expected over the long term, but the order and timing of investment returns can have a big impact on how long your retirement savings last. 

Looking back at the not-to-distant past, during the “Lost Decade” of the 2000s the S&P 500 was nearly flat for ten years, losing an average of 0.6% per year.  This includes four years of double-digit losses and three years of double-digit gains, both averaging more than 20% in their respective directions. But looking out further, the S&P 500 has nearly tripled since the end of 1999. 

A Tale of Two Cities

Another classic novel written by Dickens was A Tale of Two Cities” which underscored the differences between London and Paris during the 1780s; a time when England was relatively peaceful and prosperous while France was experiencing upheaval in the events leading to the French Revolution.  In terms of differences, there has been much talk recently about conflicting expectations between investors and signaling from the Federal Reserve when it comes to the path of interest rates.  Much of the strength in the markets during January was attributed to expectations the Fed might “pivot” later this year and begin to cut interest rates, contradicting the Fed’s view that they need to continue pushing interest rates higher to fight inflation. The last couple of weeks have proven to be a time of reckoning for the markets, largely due to the latest inflation reports. Last week the Personal Consumption Expenditures (PCE) came in higher than expected with the core rate moving higher for the first time since last September, further dampening the disinflation narrative.  The gap between market expectations for the path of interest rates and the Fed’s outlook has been narrowing with markets seemingly accepting that rates are going to stay higher for longer.  This resulted in the major stock indices suffering their third consecutive week of losses.

We can use history as a guide when it comes to market expectations, but as any investment professional will tell you, “past performance is no guarantee of future results.”  Stock market performance has been robust with average annual returns in the double digits over three out of the last four decades, with the 2000s being the sole outlier.  The environment we are experiencing today is different than what has been experienced in the past.  Technological innovation continues to provide what we view as outstanding investment opportunities and information can be disseminated almost instantaneously to a wide audience, making this the best of times.  But wages are not keeping pace with inflation and higher interest rates are leading to higher borrowing costs, impeding economic growth, making this the worst of times, at least in recent memory, for many people.  Higher input costs and slowed spending are affecting the bottom line for many companies, leading to negative earnings growth.  These headwinds for the market are not likely to dissipate quickly and we do not expect the next several years to be as prosperous for stock investors as the last decade was.  However, we still strongly believe that over the long-term, wisely investing in the stock market remains the best strategy for building wealth and maintaining purchasing power of your hard-earned savings. 

Looking Ahead

Earnings season is largely winding down with a few notable retailers set to report this week, including Target, Lowe’s, and Costco.  These earnings reports are likely to show consumer spending remains resilient, but shoppers seem to be more price conscious, pressuring bottom line profitability.   A slew of speeches from Federal Reserve officials are also scheduled and while their comments might garner a great deal of attention, they won’t mean much until the next Fed meeting at the end of the month.  Since inflation remains persistent, interest rate increases are expected to continue with current expectations for three more quarter-point interest rate hikes this year; one at each of the three meetings.  In light of recent inflation reports coming in hotter than expected, some Fed officials have publicly stated they may favor a half-point increase at their next meeting in late March.  The anticipated peak in interest rates for this Fed tightening cycle continues to move higher and is now 60 basis points (0.60%) above where it was just a month ago.    

We frequently discuss the importance of maintaining a long-term perspective on the markets and caution against focusing on short-term moves. This was perhaps well captured in Berkshire Hathaway’s most recent annual letter, in which Warren Buffett stated that he and long-time partner Charlie Munger, “…firmly believe that near-term economic and market forecasts are worse than useless.”    Also of interest in the letter was Buffett reflecting on his many decades of investing.  He admitted most of his capital-allocation (investment) decisions have been no better than so-so and there have been some bad moves.  He goes on to say, “Our satisfactory results have been the product of about a dozen truly good decisions and a sometimes-forgotten advantage that favors long-term investors…”  In other words, he is saying not all investment moves will be successful but remaining patiently invested in the markets and maintaining a long-term perspective leads to success.  If you would like to discuss your situation and ensure the expectations you have for your retirement remain reasonable please do not hesitate to contact us. 

  

Have a wonderful week!

Nathan Zeller, CFA, CFP®

Chief Investment Strategist
Secured Retirement
nzeller@securedretirements.com

Please contact us if you would like to review your individual financial plan or learn how the TaxSmart™ Retirement Program can help you.   

info@securedretirements.com
Office phone # 952-460-3260

Fool’s Spring

With the recent weather being warmer than usual, including a rare February rainstorm last week, ask anybody in the Upper Midwest what season we are in, and they may be apt to tell you it is Fool’s Spring – the season between Winter and Second Winter.   The change in sentiment over the past couple of weeks might have investors wondering something similar about the stock market – did we experience a bear market rally, sometimes referred to as a Sucker’s Rally, in January or was it the beginning of a longer-term trend?

Market strength early last week was whittled away later in the week by economic data and hawkish commentary from Federal Reserve officials.  The S&P 500 was marginally lower and logged its second consecutive weekly decline. The Dow Jones Industrial Average also fell slightly while the Nasdaq eked out a small gain, but none of the three major averages made significant moves and all remain near where they traded in late January.  Bond yields moved higher with Treasuries reaching their highest levels since November.  The difference in yields between 2-year and 10-year Treasuries remains at the deepest inversion since the early 1980s, which many economists continue to believe foretells a recession later this year.

The heavy schedule of economic releases last week gave pause to the disinflation narrative.  Analysts have stressed that the deceleration would likely be bumpy, but these reports nevertheless seemed to inject a note of caution into the debate.  The January Consumer Price Index (CPI) was largely in line with consensus expectations while the Producer Price Index (PPI) came in hotter than consensus expectations.  Retail sales from January surprisingly surged, showing consumers remain resilient but causing concern strong demand could lead to continued inflationary pressures.  Robust spending combined with stubbornly higher-than-expected price increases are likely to keep the Federal Reserve on a hawkish track, continuing to raise interest rates for the foreseeable future. 

Second Winter

The threat of a major winter storm impacting the Upper Midwest this coming week is a reminder that winter is not yet over and despite the reprieve felt the past couple of weeks, it may indeed be time to hunker down for Second Winter. Investors are trying to figure out if they should also be hunkering down or if the worst is behind us.  The debate continues whether we will see a “hard” landing, where the economy falls into a recession as the result of higher interest rates, or if we will experience a “soft” landing with the economy slowing but avoiding a recession.  Thanks to the U.S. economy outperforming expectations, as is evidenced by strong labor markets and consumer spending, investors are now contemplating a third outcome – a “no” landing scenario where the economy does not slow, and the stock market continues its upward trajectory. 

The fallacy with the no landing scenario is that if the economy continues to expand, inflation is not likely to abate and will remain above the Fed’s price stability targets, increasing odds they will continue to raise interest rates.  Higher rates lead to higher borrowing costs, which hinder economic growth and therefore would increase the risk of a hard landing.  This would also bring back uncertainty about inflation and Fed action, which markets do not like, likely leading to volatile market action as we saw in 2022. 

While the stock markets ended the week in nearly the same place they started, bond yields moved higher as did the probabilities of a higher terminal Fed Funds rate. The “higher for longer” mantra previously discounted by the markets is now gaining greater credibility.  Some Fed officials have now openly declared that a half-point interest rate hike may be a possibility at their next meeting in late March.  Looking back at history, stock markets tend to reach their low points about the same time the Fed pivots and begins to move rates lower.  If history is a guide, we have not yet seen the bottom of this cycle and are probably not likely to see it until sometime later this year.  We continue to be cautions when it comes to the markets in the short-term but remind investors to maintain a long-term perspective.    

Looking Ahead

The week ahead will be highlighted by earnings reports from retail giants Wal-Mart and Home Depot, which will offer further updates on the health of consumers, as well as the release of the Personal Consumption Expenditures (PCE) price index.  The PCE is the Fed’s most closely watched assessment of how quickly prices are rising.  If this report comes in as expected, slightly lower than a month ago, it will lend support to recent indications inflation is not falling at the pace and extent investors were hoping for.  Prices seem to have stabilized somewhat, as evidenced by inflation now growing at less than the rate it was during most of 2022, but they still are increasing at a pace above the comfort level of most consumers as well as the Federal Reserve. 

The strong returns of the stock market in January provided hope that better days are ahead, but the volatility of the past year remains fresh in investors’ minds.  The past 14 months have been a reminder markets do not always move in a positive direction in the short-term and do pull back from time-to-time as part of the normal market cycle.  Historically markets have performed better over longer time periods.  This is why it remains important to maintain a long-term perspective as well as have strategies in place to protect your hard-earned savings from short-term fluctuations.  The market often gives false signs and as we’ve emphasized in the past, trying to time the market rarely works in one’s favor.  Be sure to have a reliable income plan in place so you can weather all storms the markets might bring and sustain the lifestyle you desire during retirement   

Have a wonderful week!

Nathan Zeller, CFA, CFP®

Chief Investment Strategist
Secured Retirement
nzeller@securedretirements.com

Please contact us if you would like to review your individual financial plan or learn how the TaxSmart™ Retirement Program can help you.   

info@securedretirements.com
Office phone # 952-460-3260