As much as I’d like to open this writing with some funny quip about our false spring here in the south, its hard to be lighthearted right now. My head is spinning from all of the news out over the last few days. I’m simply going to share my thoughts on what’s going on, both pre- Russian action and after, and how I think we should handle things, ourselves.
Let me start with the number one lesson I learned in the midst of the world shutting down in March of 2020 due to COVID, the banking collapses from the housing crisis, and the tech bubble bursting followed by September 11th. We shouldn’t make rash, quick decisions in the midst of a chaotic and unpredictable situation, mainly because we tend to over react in these times. The second lesson is that the situation usually isn’t as impactful to our daily lives as we fear at the time. There may be some lingering effects, but it’s often not as bad as we thought it would be.
The stock markets had been falling prior to Russian aggression in Ukraine due to inflation and the Federal Reserve officials changing stance on interest rates. This has actually caused a somewhat unique situation where various investments that don’t usually move together have. Typically, when stocks struggle, bonds do well, and vice versa. But with interest rates rising, bonds prices have come down. And, broader stock prices are down recently with inflationary fears. This isn’t totally unheard of. It also happened in the fourth quarter of 2018. When it has happened, it has not usually been a situation that has lasted very long.
My personal concern about inflation is that the actions the Federal Reserve is planning on taking will be ineffective at easing inflation. And I think that’s the case because the reasons for inflation have nothing to do with the actions the Fed has taken at this point. In an effort to “stimulate” the economy, they have been taking efforts to keep interest rates low. The thought process behind that is that people will borrow and spend while it's cheap to do so. But, people have plenty of excess money. They haven’t been eating out as much, we’ve had less big trips, like to Disney, for the last two years. And those who are indebted, are often so indebted they’re not going out and taking on a lot of new debt.
The ones who are benefiting from these low rates are the large corporations who can afford to pile on the debt. The lower interest rates has simply further exasperated the divide between the “haves” and the “have nots”.
I think the more impactful issue affecting inflation is the labor challenges, which has directly impacted the supply chain. As a result of the mass closures, due to the COVID pandemic, many people re-evaluated their employment situation. Many who were near retirement decided to go ahead and pull the trigger and retire. Many who weren’t happy with their jobs have decided to pursue other lines of work. And, several families decided that they didn’t need to be a two income household, so one person has decided to stay home. This isn’t an issue that will be quickly resolved. Vaccine mandates by employers have also added to the problem.
Also, inflation can become a self fulfilling prophecy. I saw a Facebook post this week by a person who works in a hardware store that said, “working in retail, I am keenly aware of the rising prices…if you can find something - stock up.” This mindset leads to further supply shortages. Retailers feel the need to order extra, warehouses feel the need to build inventories, contracts get inflation or cost of living clauses added in. And the fear of rising costs builds.
Now we can add higher fuel prices to the inflationary pressures as the Ukrainian situation unfolds. Oil and gas prices have been going higher for a while as our domestic production has been decreasing. Now, due to global sanctions, Russia will likely be selling less of their oil to the global markets. They currently produce about 10% of the global oil. With that large supplier reduced, prices are bound to go higher. I suspect that is a large part of the reason why the financial markets are so worried about the war in Ukraine.
The Ukraine is also important in a number of crucial markets, especially in Europe. It’s known as the bread basket of Europe because of the large amount of food it produces. It’s the world’s largest exporter of sunflower seeds and oil, the 3rd largest producer of corn in the world, 4th largest producer of potatoes, 5th highest in barley and bee production, and 8th largest global exporter of wheat. They are the 3rd largest producer of steel in the world. While we may not think too much about Ukraine, they matter in the world.
The other concern is whether this ends with Ukraine, or does Putin go further. His speech on Monday hinted at a desire to reconstitute the old USSR. Also of crucial importance is if this emboldens further action by China to take control of Taiwan, as they’ve said they would like to do. We simply do not know how this will play out.
So - what do we do with all of this uncertainty? As I already mentioned, my first reaction is to take a deep breath and not get too worried. My heart breaks for those caught up in this. But, we will be okay here. Prices are going to keep going up. A few items may continue to be harder to find. However, we will get through this.
Several people have asked me if they should just step out of the stock market until things calm down. I don’t like the idea of timing the market. The reality is that we often are most fearful and make that decision at the worse possible time - after things have already gone down. Could they go down further? Yes. But, this could also be a bottom and stock values could recover and go up from here and you would miss out on getting back what you lost. If you had gotten out of the stock market on the day that Kuwait was invaded by Iraq (8/2/1990), you would probably be feeling pretty good a month later, as the S&P 500 was down 8.9%. But, one year later, it not only recovered, but the S&P 500 was up 12.8%!
Instead of trying to time things, I believe in investing based on your risk tolerance, being mindful of the risks in the various financial markets at the time. For example, in the fourth quarter of 2019, I began to be concerned about the valuations of the broader stock market. If I would have pulled out of stocks entirely, yes I would have missed the drop in February and March of 2020, but I would have also missed the recovery and strong market returns on 2021. Instead, I suggested that clients concerned about the markets and volatility lower the risk in their portfolio by adding exposure to bonds and decreasing their exposure to stocks, not exiting it.
When we see moves down in the stock market, this leads to a great opportunity to buy in to the markets at an attractive price. This often sounds counterintuitive, but has been a successful strategy for a long time. I’m not sure that he really said it, but Warren Buffett is often sited as saying “Be greedy when others are fearful and fearful when others are greedy.” And there’s another old saying on Wall Street that the best time to buy is “when there is blood in the street”.
I’ll wrap up by repeating what I started with. Please don’t over react right now. These are scary times. I’m worried, too. I like to try the silver lining in every situation and my hope is that this a time that brings our divided country back together. Maybe this is the unifying action we need.
I’m saying my prayers and putting my faith that God has a plan and this is all part of it. Remember, he let his people be taken captive by the Babylonians. He also sent his son to redeem us.
Let’s all turn off the TV for a little while, go outside (after taking our allergy medicine) and enjoy this first fake spring.
The views stated in this letter are not necessarily the opinion of First Allied Securities, Inc. and should not be construed directly or indirectly as an offer to buy or sell any securities mentioned herein. Due to volatility within the markets mentioned, opinions are subject to change without notice. Information is based on sources believed to be reliable; however, their accuracy or completeness cannot be guaranteed. Past performance does not guarantee future results.