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2022 Recap/2023 Thoughts

2022 Recap/2023 Thoughts

January 06, 2023

I intentionally waited until the year closed to write my recap and thoughts going forward. I guess you can’t write the recap of a sporting event until you know who wins. Then the story lines practically write themselves.

 

Right to the end, 2022 proved to be a year of losses in many asset classes that broke records for losses in any one year. Only 2008 and the great financial crisis were worse on a statistical basis for losses than 2022. Yes, I think the big story is the fact we had 10-12 years of a trend that needed to ultimately reverse- ultra low interest rates, easy money, and a Federal Reserve that kept overnight lending rates at zero. And it reversed all in one year.

 

What did the last decade of Fed policy do? It created asset bubbles everywhere you looked coming into 2022- growth stocks, crypto currency, long dated bonds, real estate, IPOs, SPACs. A Federal Reserve that was reluctant to raise interest rates even 25 basis points off its zero policy over the last 5 years aided and abetted inflation to blow out to a proportion in 2022 not seen since the 1970s. By mid year 2022, the Federal Reserve realized they had to jack up interest rates as fast as possible to slow demand and cool inflation, and that they did. So we went from 25-50 basis points on the short end in late 2021 to a fed funds rate currently at 4.25-4.50.

 

What did this unprecedented rise in interest rates do? It obliterated the value of every asset in its way. So every asset came crashing down in 2022. Rightfully so in our opinion based on the interest rate change. We view the current interest rate environment as far more normal than what we experienced the last 12 years of near zero interest rates. It resets the bar for rates very high. How long will that last? Hard to say for sure, but the economy sure seems like it is slowing. Inflation seems like last year’s story, but we tend to believe that rates will stay up here for longer than most people think.

 

Enough of this idle chit chat, what did it mean for our investors last year and what can we look forward to in 2023 and beyond?

 

We have a continuous weekly and monthly discussion with our major mutual fund partners at Nuveen, Lord Abbett and Blackrock. As we headed to year end, we attended sit down conferences with all of them. Their drill down sessions of what is actually happening in income, equity and commodity markets were invaluable.

 

The major common themes we heard at these conferences were:

 

  1. The Fed appears to be nearly done raising rates
  2. Credit quality is good in bonds, and the default outlook prices in more gloom than appears warranted
  3. Forced selling/panic selling is moving around prices of very good assets that appear to be very cheap
  4. The Fed will likely keep interest rates up here for most of 2023
  5. The setup for forward returns in fixed income products is very good- the best it has been in over a decade
  6. Inflation is slowing, but it is hard to tell how much it will come down in 2023

 

We invest for income production. This underwrites our retirement and is the means for us to live and pay our bills. The average income account lost somewhere between 8-12% on a total return basis. My gosh that’s horrible! Well, yes, but considering that the 30 year treasury bond lost 30% in 2022 and the average equity mutual fund lost between 20-30%, and some high growth large cap stocks lost 50-70%, 8-12% is actually not that bad on a relative basis.

 

But more importantly, it comes with a complete reset of what we can earn in 2023 and beyond. We are finally paid higher levels of income to invest in durable, professionally managed, diversified income streams. We can expect higher payouts in 2023- and if rates stay up here possibly much higher payouts in 2024 and beyond.

 

How long before we recoup our 8-12% total return loss from 2022? Again, we can’t say for sure, but with a slowing economy, falling oil prices and the enormous decline in asset prices from what we saw in 2022, we can envision an economy that needs lower interest rates sometime in late 2023 or 2024. This will cause the net asset values of our income portfolios to begin to recoup the principal losses sustained in 2022.

 

Net-net, financially speaking, all that matters is the income we are paid monthly to live on. That amount is strong and growing and the highest it has been in more than a decade.

 

How are our investors positioned, and are there any major decisions to make?

 

Not really. Our process is consistent and thoughtful and applies a long term approach to investing and financial management. We can have a down year, but over time our income approach provides good returns. Average annual returns for our income portfolios over the last decade were in the 4-5% range. Based on where rates are today, with current dividend rates in the 5-7% rates, we can expect higher total returns over the next decade.

 

Our clients own mutual funds with diversified income sources that pay high current rates of income. These assets are trading about 20% lower than where they entered 2022. Patience will be rewarded as these quality assets will hold their values and rise as the current rate hiking cycle stops, levels off and likely leads to lower interest rates in the next few years. If not, we take our rising income and wait for higher and higher payouts.

 

My fondest wishes for a happy, healthy and joyous 2023 to all!

 

Chris

 

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results.

 

Economic forecasts set forth may not develop as predicted and there can be no guarantee that strategies promoted will be successful.

 

All investing includes risks, including fluctuating prices and loss of principal.

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