Portfolio Commentary – Quarter 3 2022

1. The Federal Reserve – Standing Tall Against Inflation
2. Markets are worried Fed is hiking into an economic slowdown
3. Due to leads and lags, stock market performance and economic performance may differ
4. Mid-term election uncertain typically depresses stocks prior to post mid-term year high
5. Equity markets have performed best when there is a split Congress

The cartoon above was initially published by Hedgeeye.com in 2017 as a fun commentary on what to expect with the appointment of Jerome Powell as Federal Reserve Chairman. Despite the forecasting accuracy of the cartoon, economists would consider the height of the Federal Reserve Chairman and interest rates a spurious correlation. In statistics, a spurious correlation refers to a connection between two variables that appears to be casual but is not.

Meanwhile, Sciencedirect.com, the National Library of Medicine, and a variety of medical journals, have a wide range of academic papers on the impacts of a person’s height on an individual’s personality and health. An example of one such paper is Stulp, Buunk, Verhulst, and Pollet’s article titled “Human Height Is Positively Related to Interpersonal Dominance in Dyadic Interactions.” They conclude that “human height is positively related to interpersonal dominance, and may well contribute to the widely observed positive association between height and social status.” Other studies suggest increased height is positively correlated to assertiveness and independence. We therefore should not be surprised that Jerome Powell’s Fed is being aggressive in its fight against inflation because he is both tall and would hate to lose social standing amongst his central banking peers.

Political uncertainty typically depresses equity market returns during mid-term election years. As a discounting mechanism, investors must price in economic policies, and mid-term election years typically lead to a recalibration of policy. According to PGIM, one of our bond fund managers, the stock markets have historically performed better on average after mid-term elections.

While voters want their “party” to win, LPL reports that the equity markets since 1950 have performed the best when there is split government. Business seems to prefer no change and compromise to bold policy initiatives.

Higher interest rates are positive for future fixed income asset class returns. In diversified portfolios, we believe there will opportunities to extend maturities and accept credit risk as inflation peaks and economic conditions weaken. Before making these changings, however, we are looking for confirmation that our inflationary view is correct. As the previous charts suggest, we are also constructive on equity markets for long-term investors, as companies ultimately have to pass through their increased costs. Historically, both higher inflation expectations and higher interest rates lead to higher equity market returns. This occurs because business must ultimately pass through their costs to customers, though it does take time. As year-end approaches, we therefore be looking for opportunities for tax loss harvesting and rebalancing.

Thank you for the trust you have placed in us, particularly during this difficult market environment. As always, if you have further questions, please do not hesitate to contact your FinTrust investment advisor.

Sincerely,
Your FinTrust Investment Team.

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