April marks the beginning of the second quarter in the financial markets and investors are hoping for a fresh start and some reprieve from the negative impact resulting from the Russian invasion of Ukraine. It’s disheartening that, after over a month into the conflict, a resolution is still clearly far from reach. Although my profession requires me to look at the impacts that transpiring events have on the market through a financial lens, I personally watch the bravery and resiliency of the Ukrainian people and am in awe. In my view, President Zelenskyy has more courage than all the NATO leaders combined. Putting my personal beliefs aside, how has this conflict effected markets? The first quarter ended with the DOW down 4.6%, the S&P 500 down 5% and, the worst performer by far, the Nasdaq down 9.1%. But, believe it or not, markets actually ended the month of March higher than when the invasion began. Even the oil market ended with net minimal change even with WTI briefly spiking over $130/barrel before settling back down to approximately $98/barrel at month end. Why is this important for investors? Because it illustrates yet again what I mentioned in early March: it pays not to panic sell. So, since it’s now clear the markets are no longer fixated on the day-to-day of the war, what now has their attention?
Iceberg, Right Ahead? Or just choppy seas?
While the clock just started ticking, the question is: for how long? We don’t know. Sorry for all the suspense, but I can’t help myself. A potential warning signal was triggered last week. The “dreaded” inversion of the two-year and ten-year yield curve. This is viewed by many as a signal that a recession is likely to follow in one to two years. This phenomenon hasn’t occurred since September 2019. Is it time to jump ship or is it just a false alarm? The truth is that it’s just one of many data points investors should consider when evaluating their personal portfolios. Having an all-in or all-out approach leads to a schizophrenic underperforming portfolio in the long run. Let’s evaluate why the curve is inverting. Cleary, the Fed raising rates is pushing the short end of the curve higher with the intention to cool inflation. The worry for the market is that the Fed will be too hawkish and raise rates too quickly which, in turn, could spark a recession. Given this and other headwinds facing the economy, I do suggest positioning portfolios for slower growth or even a mild recession over the next twelve to eighteen months. Although the strong job market and economic reopening will do their best to dampen the impact of higher rates, it’s best to error on the side of caution. There is a famous saying in the finance world: Don’t fight the Fed. And, unfortunately for the short term, the Fed isn’t our friend. Like most patients, the market isn’t liking the taste of Chairman Powell’s medicine, but we’ll be thanking him later when the symptoms ease and things begin to normalize. Here’s the simplest way to put it… “short-term pain for long-term gain”.
Public Market Valuation Reset: Private Equity Not Immune
We all felt the earthquake that rocked the tech sector during the first quarter. Volatility spiked like a needle on a seismograph leaving many high-flying tech stocks buried in the rubble. Although it seems that the majority of the damage is behind us, the aftershocks are beginning to ripple. The first real sign came when Instacart, a private equity darling, slashed its own valuation by almost 40% to $24 Billion from the $39 Billion it received last March when it raised $265 million at its previous valuation. Surely, they’re the first of many as private tech companies realize that investors see the party might be over and fundamentals not FOMO (fear of missing out) will now be driving valuations. This new reality is being met with animosity by current tech employees as stock compensation has been a key recruitment tool during the last many years.
China: The Great Wall of Value?
At the beginning of the year, I outlined my thoughts on the year ahead. Included on the list was my opinion that China was still investable and, actually, a timely investment considering how much they had fallen. Since then, it seems that the Chinese government is easing the rhetoric towards the U.S. and big tech within their own country. Recently Chinese authorities sighted progress towards resolving an audit dispute that’s been a major overhang for U.S.-listed Chinese firms that have been threatened with delisting. Another eventual positive for the country is an end to lockdowns and easing of COVID restrictions. Although there is no firm timeline, China suggested that they may be open to importing U.S. vaccines which is a positive. Lastly, the government has set 5.5% growth target. Given the headwinds, it’s likely that stimulus and loose monetary policies will be needed to meet their objectives. So, as the U.S is tightening, China will be spending and loosening which could help translate to positive returns for investors willing to ride out the volatility. It’s worth noting that legendary value investor Charlie Munger, long-term partner of Warren Buffett, owns large position in Alibaba and has been averaging down in the face of critics.