How Did We Get Here?

• Russia’s invasion of Ukraine sent commodity prices, such as oil, natural gas, and wheat, soaring and heightened geopolitical risks. While many of those prices have since retreated, war continues.
• Price increases proliferated elsewhere in the economy, driving wages rapidly higher

With the Fed hyper-focused on taming inflation, the markets are keenly following any sign of inflation abating. While there have been reasons for optimism, such as falling shipping prices, climbing inventories, or lower commodity prices—the Fed still faces an uphill battle with consumer prices climbing by nearly 9% year over year, the biggest change since 1981.

Where Do We Go Next?

With the possibility of a recession on everyone’s mind, we monitor two key indicators that have proven to be reliable signals of a looming recession: the treasury yield curve and the ISM manufacturing index. As discussed in our last Markets in a Minute, these indicators point to a growing likelihood that we’ll experience a recession within the next year. And where recession risks abound, market volatility surely follows.

Economic Dashboard

While the Fed is working to tamp down economic activity, some areas remain resilient. For instance, jobs remain plentiful, and the consumer has grown more optimistic. But home prices, which tend to be very sensitive to interest rates, are falling rapidly in some markets, and manufacturing is slowing.

_{Source: Kestra Investment Management}

We will watch for two signs that could suggest we’re nearing the end of this bear market:

• A meaningful decline in earnings expectations for 2023 – analysts estimate that earnings for the S&P 500 will grow by 10% next year. Given our expectation of a recession, those estimates appear too rosy.
• Clear evidence that inflation is slowing, particularly with wages – while there are some early signs of slowing price increases, wages remain sticky, and the labor market is extremely tight. The Fed will likely need to see some abatement in wage inflation in order to declare the inflation war won.

  What Should Investors Do?

  With equity and fixed-income markets already down significantly this year, much of the economic slowing appears priced in. Remember that stock and bond prices today reflect what’s expected in the future. While we expect more economic softening ahead, markets tend to rebound well before the economy does, and sometimes even before we officially know that we’re in recession.

  Some strategies that investors may want to consider taking advantage of volatile markets:

  • Dollar cost averaging
  • Portfolio tune-up
  • Tax-loss harvesting

  Outside the New York Stock Exchange, there’s an iconic statue of a bull to symbolize the long-term upward trend of stocks. But very early in my career, I learned that bear markets play just as much of a role in the history of the stock market. In fact, the bear markets, when prices are depressed, can provide attractive opportunities for the disciplined investor with a dose of courage and a long-term time horizon. For that reason, I’ve long had this statue of a bull and a bear on my desk to remind myself that while stocks don’t always go up, every bear market we’ve experienced so far has eventually been followed by a bull. 

   

  Invest wisely and live richly,

  Kara