Portfolio Strategy Review Q2 2023

by | Jul 15, 2023 | Portfolio Strategy


Investment markets are always looking forward, trying to discount the economic future into today’s prices. In other words, will today’s price provide a good future return?

Hard or Soft Landing?

As we entered 2023, the consensus view was for a pending recession. The only question was not if, but whether the recession will be a hard landing or a soft landing. Value stocks were expected to outperform growth stocks because they are less sensitive to poor economic conditions and generally less volatile.

ChatGPT and AI to the Rescue!?

At the halfway point in 2023, markets look to have forgotten recession forecasts. For the past twelve months the so-called “most anticipated recession in history” has thus far failed to materialize. The rally was welcome, but it’s worth noting that markets are still below the peak levels of two years ago. ChatGPT and AI have a lot of good applications, though the investment hype reminds me of the dot.com era of 1998-2001. Whether these technologies can create sustainable investment growth remains to be seen.

As noted above, markets look forward: it’s plausible the 2022 declines were due to fears that interest rate increases would slow the economy, hurt corporate profits, and create a recession.

The 2023 rally has occurred despite the Federal Reserve raising interest rates, the Ukraine war, a nerve wracking debt ceiling debacle, a banking crisis, record high debt levels, and ongoing political tension.

Asset Class Review

I get asked periodically “why do we own XYZ fund. Its down.” That is part of diversification. They don’t all move in the same direction at the same time. We keep different exposures because different assets work better in some economic environments than others. Trying to time the movements between the different assets is a poor strategy with poor odds of success.

S&P 500: is broadly diversified. It combines large value and growth companies as well as eleven major economic sectors. We get growth and value in the same package.

Large value: these companies tend to have lower valuations, higher dividend yields, and slower growth profiles. They tend to be in defensive economic sectors like utilities, healthcare, and core consumer goods (like Walmart).

Large growth: these companies tend to have higher valuations, lower or no dividend yields, and higher growth profiles. They tend to be in economic sectors like communications, technology, and discretionary consumer goods (like Louis Vuitton).

Value and growth tend to generate similar returns over time. Repeat: over time. As 2022 and 2023 illustrate, there are times when one will outperform the other.

Mid Cap and Small Cap: smaller companies tend to be less diversified than larger companies and are considered less safe during recessions. This helps to explain why they underperformed large cap in 2023 due to pending recession fears.

International: Developed world (mostly Europe and Japan). Dividend yields are close to 3.0% vs. 1.5% for the S&P 500. Over time, it has been a portfolio benefit to own international and US stock. However, it has lagged the S&P 500 for the past 10 years.

REITs: these are grouped into various industries: Healthcare, Office, Industrial, Storage, Multi-Family, Mortgage, etc. They tend to pay higher dividend yields than stocks and bonds depending on which industry. Currently, many industries pay lower than short-term bonds.

Bonds: We expect them to be stable when stocks are declining. However, when interest rates rise, bond prices fall. 2022 was a very painful year to hold most bonds. The good news: in 2023, much higher rates provide more portfolio income (see the table below).

The Role of Interest Rates

Rising interest rates are often driven by rising inflation. The rapid price increases in 2022 induced the central bank to raise rates to slow economic growth, consumption, and rising prices.

Rising interest rates cause the price of stocks, bonds, and real estate to decline. The price declines are usually temporary. Most of the declines in 2022, reversed in 2023.

Rising interest rates give us more bond income in our portfolio. Since March 2022, short-term bonds have risen more than long-term bonds.

If rates stay where they are and we are not selling lost principal, we eventually will regain the 2022 price losses with the higher portfolio income. In this example, below that would take about 4.5 years to recoup 10% losses in principal with higher income levels.

The Outlook

The job market continues to be strong, though wage gains look to have moderated. Inflation has steadily declined, but many economists caution it is not over yet. The bearish analysts believe that corporate profits, at record high levels, will shrink; student loan repayments will dampen consumer spending; higher rental and borrowing costs will further crimp economic activity; and extreme government debt will limit economic growth.

We can pay attention to the outlook but its more important to stay focused on your goals, your investment mix, and ensure your planning is working toward your success.

Jerry Matecun – Founder, President
Expert guidance to plan your future, preserve your lifestyle, and retire with confidence. For a confidential consult, contact me at jerry@compoundvalue.com.

PLEASE NOTE: You can’t invest directly in an index. Past performance does not guarantee future performance. All investments are subject to risk, including possible loss of the money you invest. Diversification does not guarantee profit or protect against a loss. Nothing herein or elsewhere on this site constitutes investment, legal, or tax advice. For details please see Disclosure.

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