Dear Clients, Friends and Family:
We find ourselves in a period of time that is highly unusual relative to recent history – domestically and globally. As I write to you today, we are all now facing higher inflation, rising interest rates, continued supply chain constraints, war and mass migration, and economic and financial market contraction. In other words, the world and its interconnected economy is at a proverbial crossroads in which any direction will have its costs and rewards, either short-term or long-term, and any delay will likely lead to additional consequences that will need to be addressed eventually.
Where we find ourselves today.
In the United States we are currently facing a growing list of risks within the economy and financial markets including inflation, U.S. dollar strength, monetary policy tightening, financial asset valuations, and geopolitical tensions. While all of these factors are interconnected in some manner, the importance of each are briefly reviewed below.
INFLATION: In the United States we are currently experiencing the highest inflation that we have had in nearly 40 years. Inflation is the decreased ability of money to purchase goods and services in a market. While most economists agree that low and gradually increasing inflation over longer periods is healthy for an economy. Drastic and unexpected inflation is destructive in disproportionate ways across the economy. Within financial assets, unexpected increases in high inflation lead to the quick downward “repricing” of most financial assets (e.g. stocks and bonds) that are not directly tied to real and/or scarce resources (e.g. oil, gold, and food). Outside of financial markets, unabated inflation creates a vicious cycle of increased (and more frequent) prices that negatively impacts both supply and demand of goods, services, and labor.
DOLLAR STRENGTH: The U.S. dollar (USD) is the strongest it has been in 20 years against other major currencies. While the strength of the dollar is beneficial when purchasing imports. That same strength increases the costs and places strain on countries that utilize dollar-denominated debt, particularly emerging markets that provide many of the raw materials and low cost manufacturing to developed countries. Dollar strength also impacts domestic companies that sell goods abroad as they face the choice of losing business by increasing prices internationally to offset the conversion back to dollars. Alternatively these companies could also choose to take a potentially reduced profit margin by keeping pricing stable and either translating the foreign currency back into USD, holding foreign currency as reserve, or attempting to hedge the exchange rate risk.
HAWKISH FED: The Federal Reserve has become more hawkish over the past few months as price stability becomes the primary area of concern on Main Street and Wall Street. Interest rates within the United States are expected to rise over the next year as the Federal Reserve focuses on taming inflation and maintaining price stability. While nearly all economists would agree that a high inflation rate is undesirable and damaging in the long-run, the path to taming inflation is likely to be volatile and potentially painful as the Fed begins to increase the Fed Funds Rate and reduce the size of its balance sheet. The Fed intends to wind down the accommodative (quantitative easing) policies enacted during the pandemic to more aggressive policies used to stabilize inflation (quantitative tightening). Currently, the market expects the Fed, through its Federal Open Market Committee (FOMC), to increase the Fed Funds Rate in each of the remaining six meetings this year. The current futures market prediction is that Fed Funds will likely end 2022 within the range of 2.75 – 3.25% which is significantly higher than the 0.25 – 0.50% policy range we have today. Additionally, it is expected that the Fed will begin to actively reduce the nearly $9 trillion balance sheet that they amassed in their efforts to stabilize the financial markets during the onset of the COVID-19 pandemic.
FINANCIAL ASSET VALUATIONS: There continue to be areas of the equity markets that remain at very rich valuations relative to historic measures, even after the contractions that we have experienced over the first four months of the year. While fundamentals and growth outlooks may justify some of these valuations, the prospect of increasing interest rates along with hawkish monetary authorities, elevated inflation, rising market and geopolitical risks, and a potential economic slowdown may place many richly priced valuations in question.
GEOPOLITICAL RISK: Finally, the global economy continues to face challenges due to the ongoing recovery from the pandemic as well as the Ukraine-Russian conflict that not only exacerbates existing supply chain issues but also forces additional global fiscal stimulus in the form of military and humanitarian aid. Politically, existing trade and diplomatic relationships will continue to be challenged or renewed as the tensions and pressures of declaring the “side” that each country chooses to support in the conflict grows. In sum, there is a strong likelihood that market volatility will remain elevated for the foreseeable future and the prospect that an economic recession will occur in the near-term is a real possibility.
Where do we go from here?
There are many areas of increased actual (and perceived) economic and financial risk that lay before us. We all must find a way to navigate such uncertainty in a manner that keeps our financial goals and objectives on a trajectory that allows for their achievement in the time frame that is acceptable. For some, this may mean that a reduction of overall financial risk is appropriate, while others may need to lean into these turbulent times and acquire quality assets if and when they are sold off, and some may need to amend and adjust their objectives to align to the new economic reality that we find ourselves in. Regardless of the cohort you find yourself in personally, the path to achieving your objectives always begins with clarifying what you are trying to achieve, how long you are willing to allow to each one of your objectives, and then holistically reviewing the composition of the current (and future) financial resources available to achieve your objectives.
Your partner in navigating the opaque times ahead.
In the face of all the uncertainty that we have experienced this year, I am pleased to report that over the first three months of Canyon Creek Investment Advisors’ existence we experienced so much support from each of you. While launching an independent investment advisory firm in the current market environment is less than ideal by some measures, it is in these periods of time precisely, when outlooks are uncertain and the investment environment is difficult, that I believe a professional advisor is needed. Canyon Creek Investment Advisors’ existence is, and will always be, solely dependent on the trust and support that you place in it. It is my sincere desire to help each of my clients navigate these very ambiguous times in the world, the economy and the financial markets. A core component of Canyon Creek Investment Advisors’ mission is to help its clients navigate the ebbs and flows of the market while in the pursuit of their objectives. If you, or somebody you know, needs a partner to help clarify and navigate towards your financial and investment objectives, please do not hesitate to contact me. I am so grateful for the business and continued support. Thank You!
Brian Fraser, CFA, CAIA
Principal & Founder