GW&K Investment Review 2Q 2023
Why are stock market indices hitting new highs? Most investors don’t understand that the world is made up of two powerful forces: government/government policy and business/capitalism. Many would argue that the two forces are connected at the hip and as one goes, so goes the other. I would argue that assumption is false and causes miscalculations. Both exert important influences from time to time, however, I believe that the government’s influence on the private sector is cyclical and should be discounted.
One can say that the Federal Reserve’s policy of increasing (or, for that matter, decreasing) short-term interest rates was critical to the economy. Looking at the immediate past, that would be correct, but over the longer term, the result is more muted. For example, very low or zero borrowing costs caused poorly managed businesses to get caught in a credit squeeze when rates were finally increased. Banks that forgot how to manage their balance sheets lost their business. Speculation, when rates were zero, collapsed when rates began to normalize. The Covid-era psychology of free money is not tenable in a normal business environment. All these and much more are short-term cyclical factors that are irrelevant to the long-term nature of the economy.
It has been three years since the stock market turned positive, which occurred only three months into the Covid era. Three months! No vaccine, total fear, lockdown — and in three months the market turned positive. Three years later, the S&P and DJIA are within sight of new all-time highs. Yet, we still face all this uncertainty — the war in Ukraine sadly continuing, inflation still too high for the Fed, and a political environment fraught with uncertainty with the presidential election just a year and a half away. Exacerbating all that, the mutual distrust with our major trading partner, China, has led to dangerous posturing on both sides over the status of Taiwan.
All of this could make a sane person crazy. How can one invest not knowing if the Fed’s tightening policies are behind us, not knowing what will occur geopolitically and domestically? Where does one find the faith to invest? Well, if you don’t invest you will miss the next bull market. The market turned bullish last fall — not all areas, but nothing happens in unison. However, it has turned. Why? Inflation has peaked. No, we don’t know how low it will finally go, but that is just a number. The key point is — it has peaked. Long-term interest rates have peaked as the bond market discounted the next 10 years, while corporate earnings are on a temporary hiatus as markets are recovering from shortages, delays, inventory adjustments, and new buying habits.
The biggest mistake in investing is poor timing, but the key to investing is directionality. The world markets are healing, changing, and definitely growing. Five years from now, it will be easy to look back and see why market values are hitting all-time highs. It’s less easy to see in the moment. Faith in capitalism is crucial to investing. If you doubt it, then keep your money under the mattress; other than that, don’t worry about the volatility or the political uncertainty.
Nothing you hear on the news or talk shows will give you the confidence to invest. But it is your money, not theirs (and do we really know what they do with their money?). Most “insight” is mere showmanship and unfortunately, negativity and fear often drive ratings.
There will be a million reasons to stay on the sidelines of investing and only one reason to invest — it’s that simple. Businesses around the world adjust to the political winds as capitalism freely changes and adapts. Good managers are not stuck. They’re the ones that find solutions to problems. Like Moderna and Pfizer with their Covid vaccines that were in production a mere six months after Covid hit, good managers and entrepreneurs are able to keep fear out of the way of solving problems. Capitalism is freedom at its best and although government can sometimes make life difficult for business, it is businesses that are required to find solutions, and not to put their heads in the sand.
Take a deep breath and enjoy the next bull cycle.
Harold G. Kotler, CFA
Founder-Chairman, Chief Investment Officer