This Week in Review:
Powell Pivots, Hopes Dashed
Traders wishing for a white flag from the Federal Reserve had their hopes dashed this week. On Wednesday, he central bank raised the benchmark fed funds rate by 75 basis points into the 3.75%–4.00% range—its highest level since January 2008, and the fourth consecutive raise by the Fed.
THIS WEEK:
- Dow Posts the Best 1-Month Return Since 1976
- Are Commodities an Inflation Refuge?
- Our Polaris Q3 Market Update: It Is Different This Time
- Gifting Money (and More) for the Holidays
- Looking Ahead
As expected, the subsequent press conference riveted Wall Street’s attention, with Fed Chair Powell saying it is “very premature to be thinking about pausing” interest-rate hikes and “we have a ways to go.” Reaction was swift and the S&P 500, which had been fairly static for much of the day, quickly sold off, ending down 2.5%; the growth-focused NASDAQ Composite dropped 3.4%.
Here’s a more detailed account of what we’re focused on this week and why it matters:
- An easy source of added savings has disappeared. With mortgage rates having crested 7%, the era of refinancing to lower monthly payments is coming to a rapid close. According to Black Knight, a mortgage data provider, just 133,000 mortgages across the country would benefit from refinancing at today’s rates. That’s down from more than 19 million mortgages less than two years ago.
- The labor market just won’t quit. Job openings climbed unexpectedly in September, leaving employees in the salary-demand driver’s seat. The result: Continued inflationary pressure as businesses pass on increased labor costs to customers.
- Rising interest rates are pinching would-be car buyers. New-car borrowing costs are near a 13-year high, crimping commerce for automakers finally emerging from supply chain challenges. The average annual percentage rate to finance a new car hit 6.3% in October—the highest it’s been since April 2019.
- Rents may finally be leveling off, which will eventually ease inflation concerns. (Housing costs related to rents are a major component of the U.S. Bureau of Labor Statistics’ main inflation measure.) Apartment List’s national index showed a second-straight monthly price decline. Rents are still up 5.9% from a year ago, but the pressure is easing.
Chart of the Week: Dow Posts the Best 1-Month Return Since 1976
The stock market in 2022 continues to move with tremendous volatility. After big declines in the first nine months of the year, the markets were poised for a significant bear market bounce. And we got it.
All three of the major indexes rallied considerably in October. By month-end, the NASDAQ Composite posted a return of 3.9%, the S&P 500 was up 8%, and the Dow Jones Industrial Average was up 14%—its strongest one month return since 1976.
There are two key takeaways investors should glean from this rally. First, it’s a handy reminder that while talking heads often treat the performance of any and all of the major indexes as shorthand for “the stock market,” they’re far from interchangeable.
The S&P 500 and the NASDAQ are both “market capitalization-weighted” indexes, meaning larger companies make up a larger percentage of the total index than smaller companies. They’re also broad, with the S&P comprising 500 firms selected based on market size, liquidity, and industry group representation, while the NASDAQ covers 3,800. The NASDAQ is also considerably more top heavy, with the top 10 holdings making up 47% of the NASDAQ’s total return vs. 28% for the S&P 500.
Unlike the S&P and NASDAQ, the Dow is both narrow (it’s made up of just 30 blue-chip firms) and “price-weighted,” meaning the more expensive a stock is on a per-share basis, the bigger its weighting in the benchmark.
These differences in composition result in the wide gulf in returns we saw in October. And while the Dow’s 14% rally is impressive, with its small sample size and outdated price-weighting approach, its performance serves as a very poor benchmark for investors when it comes to the market. We believe the S&P 500 is a better representation of the overall market landscape.
So, what’s the second key takeaway? As we covered in our recent Polaris Quarterly Market Update, sharp, swift rallies like the one we experienced in October are common when markets have already suffered steep declines. And missing those strong moves off market bottoms can be a disaster for your portfolio. Now is not the time to go to cash or get overly defensive.
Are Commodities an Inflation Refuge?
With inflation still running around 8% year-over-year, protecting portfolios against rising prices is top of mind. Unfortunately, many so-called inflation hedges have let investors down. Notably, both gold (-10%) and bitcoin (-55%)—also known as “digital gold”—have failed to live up to their overstated reputations this year.
But how about the broader basket of commodities, which includes precious and industrial metals, livestock, oil, natural gas, coffee, cotton, sugar, grains, soybeans, etc.?
Commodities initially provided some solid inflation protection for investors this year. Prices (measured by the Bloomberg Commodity Index) gained 22% in the first half of 2022. And they about doubled from their initial pandemic lows (April 2020).
That all sounds pretty good… However, since their June high, commodity prices are down about 17% even as reported inflation remains elevated.
Viewed through a longer lens, commodities have simply not been a good hedge against inflation over time.
In 1991, the Bloomberg Commodity Index was trading around 100. It’s been a wild ride since then, but the index is still, 30-some years later, trading around 100, meaning that overall prices have gone nowhere.
Commodities tend to be uncorrelated to stocks or bonds. This means they move to their own beat and can provide periods of opportunity for investors if you can time it right—but their long-term returns leave a lot to be desired.
Our Polaris Q3 Market Update: It Is Different This Time
Even if you’ve been investing all your life, our current bear market is like no other. From an ongoing war between Russia and Ukraine to the highest inflation rates we’ve seen in the U.S. since the 1980s, one can hardly turn on the news or make a run to the grocery store without feeling the impact of current events on the economic environment.
In our Polaris Q3 Market Update, our investment team breaks down why it really is different this time, analyses whether the trends we’ve seen so far in 2022 will continue, and discusses how we’re managing through this environment and what opportunities we see. Click here to read our insights.
Gifting Money (and More) for the Holidays
Gifting money to your loved ones can be an excellent way to set them up for financial success. And with the holidays on the horizon, now’s the time to plan. But before you write that check, there are a few things to keep in mind.
The IRS puts a ceiling on how much you can gift untaxed: In 2022, the gift tax exclusion is $16,000 per person per year (or $32,000 per person annually if you file jointly with a spouse). All in, the total lifetime gift tax exclusion for 2022 is $12 million for individuals and twice that for couples.
It’s possible to gift even more if you’re keeping wealth in the family. For instance, the marital deduction rule allows you to give as much money as you want to your legal spouse without any gift or estate tax strings attached. Similarly, an irrevocable marriage trust uses that unlimited marital deduction to pass your assets, including cash, on to your surviving spouse tax-free upon your death.
Another strategy to “gift above the limit” is to earmark funds for the education or medical expenses of family members. For instance, you can make a five-year accelerated gift, totaling $80,000 ($160,000 for married couples), to a beneficiary’s 529 plan. This eliminates your $16,000 annual gift exclusion for the recipient for the next five years, but it allows the money to grow tax-free for a longer period.
Non-cash gifts, including property or other eligible investments like some stocks, can also be spread out over several years—although that annual and lifetime cap applies to cash and non-cash gifts alike. All of this can help reduce the total value of your estate and minimize the taxes that might come due upon your passing.
Charitable giving and intra-family lending are two other tools to pass along wealth. These and other financial planning strategies come with additional stipulations. As always, please contact your wealth adviser to talk about the gifting options that are best for you.
Looking Ahead
Next week brings valuable reads on inflation, wholesale inventories, small businesses, and consumer credit, sentiment and inflation expectations.
If you’d like to learn more about our tactical or fundamental strategies, please contact our team at 800-268-9046 or info@polariswealth.com.
Please note: This update was prepared on Friday, November 4, 2022 prior to the market’s close.
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