After the worst first half starts to a calendar year since 1970, stocks continued to plunge for the 3rd quarter. The third quarter was initiated with plenty of buying only to see it all evaporate in a little over a week. The balance of September only gave investors more pain. As we write this, the first few days of October stocks were back in rally mode, but just like last quarter, we would not chase stocks, and still feel there is a ceiling on stocks valuations in 2022.
What makes matters worse is that the inflation we wrote about over two years ago is going to continue to push interest rates higher. This has resulted in bond investors not only losing principal but having their income component lessened with the effects of inflation. Alan B Lancz and Associates, Inc. has been negative on long-term bonds for two years now, and after 40 years of declining interest rates the bull market for bonds is definitely a thing of the past.
Late last year we wrote these words of warning to retirees feeling safe with the typical 60:40 allocation of stocks and bonds:
“Investors that continued with a 60:40 stocks to bonds allocation were once again disappointed with the bond component. More importantly, as interest rates rise the negative impact on bonds will only become more significant. The other side of the investment equation is what to do with the fixed income component of the asset class that would still present the diversity away from stocks. For that part of this asset allocation, we continue to feel real assets provide an excellent alternative, not only for the higher income component, but also for the inflation hedge aspect.
Two years ago, we stated actual inflation was not being reported correctly by the government because of changes made in eliminating energy and housing from the index. At the time inflation was not on investors’ radar and clean energy advocates pressured natural gas prices to under $2MBtu for the first time since 1999 with investors writing off any future in fossil fuels. Combine that with the pandemic softening many real estate valuations, particularly in the commercial sector, and it is easy to see why select real assets present attractive total return potential versus bonds. This is particularly the case when investors factor in both the rising interest rate and inflationary environment… which in 2021 finally hit investors’ radar.”
We are still seeing investors taking on much greater risk than they realize, and as both the stock and bond markets decline, this is finally being realized. This will continue to be a challenging time for investors, but we plan to use panic selling into the 4th quarter to selectively accumulate.
