Is The Market Healthy? | AWM Insights #130

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Episode Summary

Markets are crazy right now. The S&P 500 was down over 9% for September alone. Interest rates have been marching higher. What does this mean for you and your money?

Everyone goes through challenging periods of time whether that's in sports or business. Investing is no different. It is perfectly normal in times like these to be unnerved by market drops and the possibility of a looming recession. Talking it through with your advisor is exactly what you should be doing. For clients, there are three zingers for you to know right now.

  1. There are many different kinds of interest rates and they are not all created equal. It is important to know which one people are talking about and whether it should even matter to your personal situation.

  2. The best place to be in times of high inflation for long-term investors is equities. Stocks have proven to outpace inflation when you invest over decades. Sitting in cash destroys purchasing power during high inflationary periods like today.

  3. Clients with resilient financial structures should feel more confident because markets are healthy and working for you. It affords you the luxury of being indifferent during these times.

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Episode Highlights

  • (0:55) The Fed has increased interest rates and earnings season is around the corner. Should clients be doing anything with how much markets are moving?

  • (1:31) You probably shouldn’t be doing much. But that assumes you have the right financial structure and portfolio already set up.

  • (1:55) This is a healthy part of markets. To get a positive return on your investments there must be a trade-off. The volatility or price movement and range of outcomes that are uncertain is the risk you must be willing to bear.

  • (2:27) Risk is a wide range of possibilities of movements in price. There is a range of outcomes that represents that range of risk.

  • (2:53) Volatility is the price movement. Weathering volatility can be unnerving but it is the price to pay to get returns.

  • (3:43) Everyone goes through challenging periods of time whether that's in sports or business. Investing is no different.

  • (4:05) It is perfectly normal in times like these to be unnerved by markets and the economy. Talking it through with your advisor is exactly what you should be doing.

  • (4:40) The data shows that even if you know where interest rates are going, it wouldn’t help you predict what the market is going to do.

  • (5:36) In the history of the markets, there is no correlation between interest rate and market returns. You can’t reliably time the market in this area if you listen to the evidence.

  • (6:20) The media loves periods like this because it sells clicks and eyeballs.

  • (7:25) Business is still happening. Adobe just paid $20 billion to acquire Figma. Opportunities are still out there in private markets.

  • (8:00) Quality companies are still able to fundraise in private markets.

  • (8:37) Business is still happening but valuations have come down. The price you are paying for future earnings is the PE multiple.

  • (9:42) The economy is not the market.

  • (10:00) What are three things clients can focus on when it comes to current events in the market?

  • (10:40) There are many different kinds of interest rates and they are not all created equal. It is important to know which one people are talking about and whether it should even matter to you.

  • (11:48) The best place to be in times of high inflation for long-term investors is equities. Stocks have proven to outpace inflation when you invest for decades.

  • (12:10) Cash is the worst place to be. Inflation destroys your purchasing power and gives you no opportunity to offset or beat inflation.

  • (13:00) You can hedge inflation with a Treasury Inflation-Protected Security or TIPS. This makes sense for short-term funding needs.

  • (13:34) This is actually great because it is supposed to happen. Our clients have the financial structure to be indifferent during these times. Confidence in markets is reinforced during times like these as new information is priced in and should be encouraging for clients.

Stay Connected

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Justin Dyer: LinkedIn
Brandon Averill: LinkedIn

+ Read the Transcript

Brandon Averill (00:05): Well everybody, welcome back to another episode of AWM Insights. We got a lot going on right now, Justin. Markets, I mean, they're crazy right now. We hit, not all time, we hit Lowe's for the December 2020 lows across most of the indices, I believe. Last week alone we had most of those indices off 4 to 5%. I mean, I'm getting text messages right now from clients, or I've gotten them over the past few days, "Hey, are we worried? What's going on?" Really, that's a big part of our role is to go and reassure them.

(00:40): So I thought it'd be fun to have a conversation with you right now and just talk a little bit about, I mean, maybe even you giving me a little bit of guidance on how to respond to some of these questions. The Fed came out, they increased interest rates in response to inflation. They're "getting inflation under control" hopefully, but that surprised us a little bit. Then we got earning seasons coming around the corner here. Certainly I've got my opinions, I'll throw those in, but as our CIO, I'd love to hear how do you think I should be answering some of these questions?

Justin Dyer (01:15): Yeah, there's a lot going on. Yeah, that's kind of understatement of the year, very much so. Markets are at lows for the year, back to the December 2020 levels. The short answer, and we do talk about this, but it is really, really important to understand, the short answer is you probably shouldn't do much now. Hopefully I'm giving you that answer because you have the right financial structure ahead of time, the right portfolio ahead of time. I think we'll get into that a little bit.

(01:48): But the second level or layer answer is this is actually a healthy part of the markets. I mean, I think we say that in times of good markets. We also say that in times of rougher, choppier markets. I mean, it's probably worth unpacking that a little bit more. What we really mean by that is the reason why it's healthy is you expect to earn a rate of return because you are taking risk. What does that mean? Well, risk is the movement of price, the likelihood or the wide range of possibilities that some asset may be priced within over certain amount of time, four years, five years, whatever it is.

Brandon Averill (02:35): Sure.

Justin Dyer (02:35): Just totally hypothetically. But if you are taking risk and expecting some sort of positive return, guess what, there's a range of outcomes that kind of represents that range of risk. When you're investing in equity markets, it's no different. There is volatility and price movement that will likely happen at some point in time. The good thing is if you structure your portfolio the correct way, you can really weather these very, very easily. It is unnerving. There's no question. We're not trying to diminish that whatsoever. But it is a great time to revisit these questions as to why. Because the more you understand why, the better off you will be as a long-term investor.

(03:16): You have that staying power. You say, "Okay. Well, wait, why am I doing it this way when markets are off double digits in many cases?" Going back to that question and challenging it, right? Always challenge it and hopefully coming back to the same conclusion, maybe you come to a different conclusion. It is something we do all the time. It gives that staying power. It gives you that confidence in your approach. It's no different within sports or business, right? Everyone goes through challenging periods of time and investing overall is no different.

Brandon Averill (03:50): Yeah. I think that's something I'm glad you're saying that, it's kind reiterating some of the points I have been telling people. I think it is unnerving. We're not immune to that. You wouldn't be human if you watched your portfolio decline and had no feeling. But it is kind of what I've been trying to reassure clients with and hopefully clients listen to this or are getting some further reassurance is that there's a lot of opinion flying around. We certainly have our own.

(04:19): It seems like to me that, yeah, we might be in for some more pain here coming. The Fed's likely going to raise interest rates again. But I thought some of the interesting stuff that we've been looking into, and even I was at an investment conference this past week with some very brilliant people on the investment side and they laid out the data that says even if you had the crystal ball, you knew what rates were coming. There's no action you can take based on data with any reliance on where things actually are going to go.

(04:55): So even though we feel like, hey, inflation is running high, Fed's likely to raise interest rates, those two data points alone don't necessarily lead you to a conclusion of, "Hey, we should sell out of markets and then we can get back in when they stop raising rates." The correlation of all that doesn't make sense.

Justin Dyer (05:17): Totally. Now, to be fair, there's been a high correlation between those two things.

Brandon Averill (05:22): Sure.

Justin Dyer (05:23): To date. But if you take a step back, and this is what you're alluding to, and you say, "Well, how much do those two things relate to one another over time, in the past, the history of the markets?" That's what you're getting at is that there's no discernible connection. It happens and it's happening right now but, I think I mentioned this last episode, it's going to happen until it doesn't. It's one of those things.

Brandon Averill (05:46): It's a flip of a coin, actually.

Justin Dyer (05:47): Exactly, exactly. It's a very, very loose connection. I think it's also always good to have perspective. That's what the purpose of this podcast is first and foremost.

Brandon Averill (05:58): Sure.

Justin Dyer (05:58): But let's put some meat on that. Not only can we talk about these rules of thumb when it comes to investing, but let's just take a step back and think through what's still happening in the world. Business is still happening. There's an onslaught of negative news. There's no question that it's kind of not only does media love periods like this, so you get a-

Brandon Averill (06:23): Yeah, totally. It sells.

Justin Dyer (06:24): It sells, right? It sells clicks, it sells eyeballs, all of that good stuff. But if you take a step back, business is still happening. Positive things are still happening.

Brandon Averill (06:36): Sure.

Justin Dyer (06:37): Earnings season is around the corner. There's an expectation that companies are actually still going to stay in business. Actually, I mean, and to be fair, it was a little tongue in cheek there, but to be fair, there's a decent expectation that earnings are still growing.

Brandon Averill (06:50): Sure.

Justin Dyer (06:50): Not where they were, but that they are still growing. That could change if we enter into a recession, which there's a higher likelihood we can because of what's going on in interest rates. Again, you can't infer, make a call based on all these things. There's so many variables that are pushing and [inaudible 00:07:06].

Brandon Averill (07:05): Well, recession's a loner, right? They're back looking.

Justin Dyer (07:08): Exactly.

Brandon Averill (07:09): Recessions don't get called until they're likely pretty much ended.

Justin Dyer (07:13): Yeah, exactly. That's a great point.

Brandon Averill (07:14): Then typically, the equity markets take off once they're called. So I think even trying to figure out the timing of that is a futile game, right?

Justin Dyer (07:22): Totally, totally. But going back to my point, business is still happening. Oh, Adobe just paid $20 billion to acquire Figma.

Brandon Averill (07:28): To Figma.

Justin Dyer (07:30): I mean, they have to have some confidence that business will return to normal or is still somewhat normal for them specifically. Brandon Averill (07:38): We're seeing that on the private side too, right? I mean, it hasn't slowed down the number of companies that are raising capital, at least anecdotally. It has slowed a little bit, but we're still seeing opportunities to invest in the private side and even opportunities in really fantastic companies, maybe in down rounds. Things are still happening.

Justin Dyer (07:58): Exactly. Things are still happening. Quality companies are still able to fundraise. If you're more questionable and maybe you have an idea written onto the back of a napkin, you might be having a little bit more of a struggle and maybe the valuation that you want is not what you're going to get. I think that's another important point. Right now, what's happening in the market, so like I was alluding to, earnings are still relatively healthy. They've flattened out a little bit, but the multiple or the price you pay for earnings, that's what's largely come down.

(08:30): That's where there has been a correlation with interest rates going up. The multiple you're paying for earnings has come down. Business is still happening. Even if you look at something called the ISM, which is a pulse of the economy, right? They have a manufacturing version of it and a services version of it. It is still in expansion territory. It's come down a little bit, but it still is in expansion territory. I'm not trying to be all bright-eyed and bushy-tailed around this. There is challenges. There are challenges.

Brandon Averill (09:02): You don't want to go on record and be the bull? You don't want to be the bullish.

Justin Dyer (09:05): Buy, buy, buy. No. I think the real takeaway is that there's just so many variables that go into the economy. I do think that, like I said, there's a higher risk of recession on the horizon.

Brandon Averill (09:19): Sure.

Justin Dyer (09:19): When will that happen? How deep will that happen? That's where I'm not going to stake my opinion or whatnot, reputation out on the line for that one. But there's a chance it could happen. A recession is not necessarily an unhealthy thing, just as markets can correct, then that's not an unhealthy thing necessarily for equity markets as a whole. It's also important to remember though, the economy is not the market and those two things don't go hand in hand.

Brandon Averill (09:46): Totally. No, I think that's great to hit on. I think I wanted to end today at least with this podcast for clients. So I was thinking about what are some zingers maybe we can give clients that they're listening to this, there's a lot going on, they're listening to the news, their teammates in the clubhouse are spouting off things like interest rates are going up in such a definitive way.

(10:12): What are a few things maybe that we can point to that, hey, here's three bullet points that when somebody brings up kind of the current events of what's going on, what are those? The first one I thought was interesting, basically to close out with is that just that comment, interest rates, they're going up, they're going up. We would encourage our clients listening to this say like, "Okay, great. Which ones?" Because not all interest rates are created equal, right?

Justin Dyer (10:39): They're not. They're definitely not. We're talking a lot or you're seeing a lot about the Fed funds rate in the marketplace. That does impact other interest rates, but not every single interest rate will move the exact same direction. In fact, the Fed can increase short-term rates. The Fed fund rate is primarily a short-term rate or is a short term rate. Longer term interest rates can actually come down.

Brandon Averill (11:05): And do often.

Justin Dyer (11:05): And do often in times like this, especially if we are on the verge of a recession. Mortgage rates, right? That's a interest rate that is different. They have gone up. So that's one that's kind of gone hand in hand with the Fed funds rate. But again, yeah, they're just not all created equal. The longer term Treasury rates, they haven't gone up nearly as much as the shorter term Fed funds rate. So yeah, it's just very important to keep that in mind.

Brandon Averill (11:30): I think the second one is inflation. Certainly a topic out there right now. So people are worried about inflation, rightfully so to an extent. But I think the second zinger is the best place to be in times of high inflation as a long term investor is stocks, is equities. You should not be sitting on the sideline in cash. I mean, that's the worst place to be in during times of inflation.

Justin Dyer (11:57): It most definitely is.

Brandon Averill (11:59): If you have your financial structure in place, this isn't the time to try to time things based on inflation. Inflation is there. The Fed's trying to deal with it. But the best place to hide is equities.

Justin Dyer (12:10): Totally. To your point, cash is a terrible place. You are essentially locking in a loss because cash is guaranteed not to keep up with inflation. I don't know if we're allowed to say guaranteed, but you get what I'm saying. Versus equities, there might be volatility around it. There is volatility that's happening right now, largely because of inflation or indirectly because of inflation, because of what's going on in interest rates.

(12:36): However, over the long period of time, if your portfolio structure is built correctly, equities have proven time and time again to not only keep up but outpace inflation over those same exact periods of time. Then I would say too, if your portfolio is structured properly and you have shorter term needs that are very, very high priority or very important for you to meet, guess what, you can hedge inflation through something called a Treasury Inflation-Protected Security.

(13:05): It's a brilliant security or asset out there that literally is built to constantly keep up with inflation wherever it may be in the marketplace and so it's a perfect hedge. Equities are the place to outpace inflation for longer term assets that you can take that type of risk with. Then there's other options to just make sure you're at least keeping up with inflation for very high priority.

Brandon Averill (13:32): The third zinger is just kind of broadly speaking, if you've built your financial structure well, you should have a lot of confidence that times like these are really indifferent to you, and quite frankly, a good sign in a way. That's the zinger three, is that when somebody brings up, "Oh, I'm so nervous about the market's going down," et cetera, you get to have the response of you're a client of, "Hey, actually, this is great." The reason it's great is not because it's happening because nobody likes it. But the reason why it's great is because it's supposed to happen.

(14:06): This is a sign of a healthy market and the market's digesting information that's coming out that is a surprise on some sides. Inflation was higher than we expected. That's a surprise. Interest rates going up. If earnings happen to be negative, who knows as things kind of unfold here. But markets should go down when things like that happen. Yes, if you're trying to invest money that you need to tomorrow in the equity markets, you should be really nervous, you should be unnerved. There should be issues.

Justin Dyer (14:37): You should.

Brandon Averill (14:37): But if you've taken the time, like our clients listening have, to build the proper financial structure, this is just a ho-hum another day, keep allocating to your portfolio, keep your portfolio position the way it should be based on your priorities and your overall financial structure. This is exactly what we would expect from markets.

Justin Dyer (14:58): Exactly. I won't add too much to it because I think that's a perfect summary. But the thing to keep in mind, S&P 500 over almost a hundred years going back to the mid '20s has earned something like 10% plus a year. That's almost to today. I think that number roughly is through the end of August. In order to earn that, you need times like this to happen. I think that's just the piece to keep in mind.

(15:27): Granted, that's a super long period of time, but there are ups and downs over... There are a ton of ups and downs over that long period of time. When you went in and when you're contributing and whatnot all goes into this equation to give you this positive expected return going forward. This period, again, unnerving, gives you confidence that that should happen going forward.

Brandon Averill (15:47): Yeah, definitely. Well, hopefully this helps clients listening on three kind of areas, three zingers maybe to use in the clubhouse. I heard this, actually I'm just going to steal this from another podcast, but it's such a great point. The best way to learn anything is to actually teach it. So encourage clients listening. Teach these three zingers. Talk about them with your friends or your teammates or your family. Help them to understand a better way to invest, because this is the most successful way to go about it.

(16:19): If you need a quick bullet point list to help you with those zingers, it's nice to have on your phone. Shoot us a text, shoot me a text at 602-704-5574. We'd be happy to shoot you out a quick summary here, I mean, one sentence and then the three bullet points that you can have handy in a conversation. But we'll close out. Until next time, own your wealth, make an impact, and always be a pro.