Jul 31, 2023
Even meteorologists don’t envy market forecasters. The difficulty of predicting markets has proven to be unmatched. Just when you thought you had a clue what was going on, another curve ball is thrown your way. And that’s the thing about markets — the only thing you can predict with certainty is that there will be surprises, even things unimaginable. So how do you manage your investments when you can’t consistently predict the future?
Investing does require one to make a guess about what the future will look like — just on the basic question of “will I be better off putting my money in the stock market?” You need to have confidence that the things that drive performance of the market will work in your favor. But if markets are unpredictable, how do you make this type of decision?
Using history as a guide, we can conclude that the long-term (say, 10+ years) is easier to predict for the markets than the short-term (1-3 years). Why? Because the US stock market typically follows a long-term trend — if our economy continues to grow and our companies continue to be more productive, the profits, and thus the value, of those collective companies will continue to grow.
But the ride along that long-term trend can be wild (sometimes random). When the market is influenced by so many factors (particularly human emotions), the price of assets today is determined more by current sentiment that can oscillate between euphoria and fear — it’s just a matter of what the current narrative is. Remember, as Howard Marks has written, we go from a market that is priced for being “flawless” to a market that is “hopeless.” The answer is that as time goes on, things usually end up somewhere in the middle (not always as great as hoped or as bad as feared), which is why the longer-term is easier to predict as markets do end up gravitating back towards that long-term trend, albeit with the constant pendulum swing around that trend along the way.
Let’s take the last 18 months as an example. At the end of 2021 (after a roaring 3-year rally), the consensus was for another strong year in the market (continuing the “above trend” growth). Very few (if any) of the “smart money” market strategists predicted a down market for 2022 (the “flawless” scenario). Same with interest-rate expectations. Even the Fed (supposedly the most knowledgeable source of economic prognostications) only expected about a 1% increase in interest rates for the year. It ended up being an increase from 0% to 5%, a historically rapid rate hike!
Even now as we are over half way into the year, the market has vacillated between the hard landing, soft landing and even “no landing” scenarios related to the economic impact of the Fed’s interest rate increases. Our answer is that it is still too early to tell, despite the market becoming more comfortable that we are getting back to solid economic footing (and the “recession” somehow is always just another six months away, lurking in the shadows). Don’t get us wrong, most economic data continue to reveal an economy that is not entering recession territory, but the reality is that it takes six to 12 (or more) months before we see the impact of the Fed’s rate hikes. The verdict is still out.
Arguably, much of the rate hiking last year may not have much of an impact to begin with — we were just moving from “ZIRP” (Zero Interest Rate Policy) back to something with a semblance of normalcy (finally).
But again, it will take some time before the economy feels the impact of this — for example, many individuals or companies have fixed-rate loans (such as mortgages) that aren’t maturing anytime soon and thus won’t feel the impact of higher rates. But as loans mature and need to be refinanced, that is when the new higher rates take a bite. Also, think about all the business transactions that would add to overall growth but will never happen — the deal may have made sense with a low financing rate, but with higher rates, more of the marginal deals won’t happen anymore. Unless prices come down.
So, the bottom line to all of this is that successful investing is about cutting through the noise and paying attention to the long-term trend – not getting caught up in the short-term predictions, which is futile at best, counter-productive at worst. As we’ve said before, it’s best to limit your time spent on consumer financial market media (such as CNBC). Mixed in with a bit of helpful data, there is a lot of bias and sensationalism. Continue to focus on building a portfolio of quality investments with the right mix of assets to meet your long-term financial plan. That’s what we continue to focus on for client portfolios, and unlike the market, will choose to not waver on that philosophy.
* * *
We hope you are having a wonderful summer. It has been a great time to pause and appreciate all the things for which we should be thankful. The team at NPF is particularly grateful for the trust and confidence we have from our clients and are excited to continue to share this long-term financial journey with each of you.
NPF Investment Advisors