Wow – what a year! So many unpredictable variables in terms of Coronavirus variants, politics, and most of all, economic statistics. This is the kind of fascinating era that really inspires our team to do our best when managing your wealth for both total return and risk management.

Global Boom!
2021 demonstrated the aftereffects of combining unprecedented government liquidity and vaccines to turn global economies back "on," effectually restarting the business cycle. Unlike prior recessions, the 2020 economic collapse was caused by a virus – not economic instability. In fact, prior to the 2020 recession, the global economy was quite healthy as opposed to 2008, when we had seriously unstable economic conditions. The injection of almost $10 trillion in government assistance over the past eighteen months dwarfs the 2008 rescue attempts. When combined with the vaccines this combo has turned a normal business cycle recovery into a supercharged economic boom! U.S. economic growth is rolling along at approximately 6% annually, three times the rate of the past fifteen years. It is no surprise to our team that stock markets have experienced turbocharged performance while real estate and inflation have had upward momentum. Thus, it is no wonder that central banks, like our own Federal Reserve, have become nervous that the economy is overheating. So where do economies and financial markets go from here?

Phase II of the Business Cycle – Curb Your Enthusiasm
For students of stock market history – such as our team – the past eighteen months of high stock market returns should come as no surprise. A glance back at past early cycle economic and stock market recoveries looks quite similar – 2009-10 was the most recent and analogous period of greater than normal stock returns coming out of recession. However, this period of market exuberance typically gives way to a period of less generous, but still attractive, equity market returns as we enter what we call Phase II of the economic cycle. Based on our research, we would suggest that 2022 will bring on the start of this second phase...a period where equity markets and individual stocks trade up or down based on underlying corporate profits rather than an overgenerous central bank or rocketing economic growth. In fact, in terms of the economy, we should expect growth to adjust to "cruising speed," with a modest upward rate of change. Phase II stock market returns usually provide the more historically normal 8-12% annual rates of return – still better than almost any other asset class. We would also suggest based on history and research that global stock markets return to normal volatility. The past eighteen months have been historically calm in terms of markets swings (4-6%). Many of us have been lulled into this low volatility over an exuberant market, so if your portfolio feels more volatile (swings of 8-12%) in 2022, keep in mind that we are returning to a period of normal volatility – not something worse. Lastly, recall that the average business cycle lasts 7-9 years so we are still in the early stages of the economic and bull market cycle.

Inflation –It's Hard to Ignore, it’s Everywhere
When economic growth rockets upward, it creates inflation – beyond just the COVID-19 related supply chain issues. Our team has been in the camp that this business cycle’s inflation is not temporary or, as the Federal Reserve says, "transitory." Before the Covid recession, the U.S. economy was growing at a paltry 2% annual rate. The current 6% annual growth rate is creating much more demand for goods and services than our 2% world is accustomed to or has the supply for – hence upward pricing pressure. The single best way to beat inflation is stock exposure, particularly in companies that can raise prices of their products or services – what we call pricing power. Your portfolio has been adjusted to take advantage of this.

6% Growth + Inflation = Higher Interest Rates
The current mix of very strong economic data is leading global central banks to lean towards raising interest rates – we would suggest that they are "behind the curve" and may need to raise rates sooner than expected in 2022. They do not want economies to overheat and inflation to run too far ahead of their ability to keep it manageable. This will create pros and cons for market participants. The bumpier, more volatile stock market we described above may be caused by these anticipated changes in global interest rate policy. Some sectors will be negatively affected by higher rates – real estate, for example – while higher rates will be great for others – think banks. We have already adjusted your portfolio’s exposure to certain sectors to take advantage of these trends. Higher interest rates will be welcome for those who need exposure to bonds as there will finally be value in their higher returns – but stick to mostly individual bonds as we do...not bond "funds." This rising rate environment could create significant downside for bond fund holders. Since these securities do not have maturity dates guaranteeing a return on capital, they often decline disproportionately during periods of rising rates. Our team is ready for these potential changes.

Today’s Risks – Active Risk Management
There are several obvious and unknown risks in today’s world. The first would be that a variant virus shuts the global economy into the "off" position again and consequently equity markets would fall dramatically. There is also the risk that central banks are too aggressive about raising rates, choking economic growth. Lastly, there are unknowable risks, what we call "black swans." As you know we are sensitive about protecting your wealth from the catastrophic losses that most investors experience during bear markets. Hence our Active Risk Management process is always employed on the securities in your portfolio. As you know this process combines our flexible approach to your allocation to the stock market, strategic sector management, and the use of carefully placed stop-loss orders. This process is not meant to mitigate normal market volatility, but to protect you from catastrophic losses. It has been time-tested through a number of past difficult markets and we remain dedicated to its approach.

We hope you find this update helpful. If you have experienced any significant changes in your finances or would like to review your portfolio or wealth plan, please let us know.

Thank you for your vote of confidence in our work and from all of us a happy, healthy, and prosperous New Year to you and your family.

If you know of friends or family that can benefit from a no-cost portfolio review, please do not hesitate to reach out.