Regroup at Half Time

State of the Markets: Half Time Stats 

At the end of this week, the first two quarters of 2022 will be completed. If investors all entered a “half time locker room,” you’d likely sense fear, uncertainty, emotions and maybe panic from one team, and another team that remains level-headed, diligent, experienced and seeking opportunity. Who would you bet on to win the game? 

Half time is a chance to catch our breath, take a step back and analyze. With two days left in the first half of 2022, value has outperformed growth by 15%, and the S&P 500 is down nearly 20% and just 5% up from its 52-week lows from June 17^th. Energy is the only sector that is up year-to-date (+36%). That’s in the past, and any good coach will tell their well-prepared team to focus on the next play. The question becomes, where do we go from here? 

Valuations have fallen sharply in 2021, and the S&P 500 has a forward price-to-earnings (P/E) multiple 16.1x, below its 10-year average 17.2x and slightly above its 20-year average 15.7x. 

While valuations are attractive, the Fed is aggressively raising rates to suppress demand and control inflation. Although the Fed has the tools to slow demand, they can’t increase supply, and much of the inflation that we are seeing will be a challenge to correct – especially healthcare, rent, education and wages. Unless they put the economy in a deep recession. 

All this calls into question the direction of the “E” within P/E. We do expect numbers to be ratchetted down from the 10% y/y growth expectation to something closer to 5%. The demand is not the question mark (we’ve seen strong demand from several companies like ACN, NKE, KMX, GIS) but the cost/inflation and strong dollar will be more impactful and something we are watching. 

Chart 1: Two Years of Rising Inflation (PCE) and Tightening Supply (Labor, Energy, Housing)¹ 

A Quick Look in the Rearview Mirror: Sticking With Our Approach 

At the onset of 2022, we predicted this would be a challenging market amid slowing growth with a shifting Fed policy, slowing fiscal policy and continued inflation. We did not anticipate how that dynamic might be exacerbated by Russia’s invasion of Ukraine or even how late the Fed would be in shifting their policy (adding stimulus until March and calling into question their credibility). Staying data-dependent continues to be a key focus since the second half remains highly uncertain as we watch the impacts of tightening Fed policy unfold. 

2022 follows three years of strong equity performance – the S&P 500 returned 28.7% in 2021, 18.4% in 2020 and 31.5% in 2019. And while first half returns in the S&P 500 are now down 20%, the long-term average total return is 10%. Not only are we seeing mean reversion but multiple contraction due to the uncertainties surrounding inflation, the Fed and the war. We await the earnings for 2Q to provide more clarity on all these moving parts. 

Putting Together a Winning Playbook for the Second Half 

The Fed is aiming for a soft landing, and this requires slowing demand while easing supply chain challenges to support price stability. We are already seeing national and regional manufacturing index surveys and housing all soften. But there is enough stimulus from the past that has built in some cushion for the economy. Recall, stimulus put in place has a lag impact by as much as 12 months. The Fed just ended quantitative easing in March, and several states have recently announced, in aggregate, $100 billion in aid to consumers; these should be buffers for consumer demand through 2022. Plus, jobs remain healthy and wages are up 5.5%. The outlook for 2023 is much murkier given the hawkish Fed and the general slowdown in the economy. They say they are data dependent – we hope so. 

We expect markets to remain choppy, given all these uncertainties. It remains true that staying invested has historically been the best approach to achieving long-run returns, as opposed to trying to time the market. We’re advocating for investors to remain in high-quality equities – those that are number one or two in their respective industries and maintain strong balance sheets, strong free cash flows and outstanding management teams. In fixed income, we expect similar quality companies and shorter duration maturities will outperform. 

There’s still another half to play, and it will remain challenging. The macro environment is likely to outweigh any company news in the near term, and we think investors should stay selective. We think now is a great time to stick to the game plan. 

Stephanie Link: CNBC TV Schedule 

Sources

1. FactSet (Chart)

Disclosures

Investment Solutions at Hightower Advisors is a team of investment professionals registered with Hightower Securities, LLC, member FINRA/SIPC, & Hightower Advisors, LLC a registered investment advisor with the SEC. All securities are offered through Hightower Securities, LLC and advisory services are offered through Hightower Advisors, LLC. This is not an offer to buy or sell securities. No investment process is free of risk and there is no guarantee that the investment process described herein will be profitable. Investors may lose all of their investments. Past performance is not indicative of current or future performance and is not a guarantee. In preparing these materials, we have relied upon and assumed without independent verification, the accuracy and completeness of all information available from public and internal sources; as such, neither the information nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. Hightower shall not in any way be liable for claims and make no expressed or implied representations or warranties as to their accuracy or completeness or for statements or errors contained in or omissions from them. This document was created for informational purposes only; the opinions expressed are solely those of the author, and do not represent those of Hightower Advisors, LLC or any of its affiliates.