November Market Update

We wanted to wait on writing this until after the November 2nd Federal Reserve meeting and subsequent Jerome Powell speech. Not only do these meetings fuel the direction of the market for the following days, but they also give us insight into the Federal Reserve’s future monetary policy intentions. Below are a couple quotes from Jerome Powell this past Wednesday. Keep in mind- the market wants The Fed to keep rates low and stop raising rates altogether.

“The "ultimate level" of the Federal Reserve's benchmark policy rate is likely higher than previously estimated.”

“It is very premature, in my view, to think about or be talking about pausing our rate hikes. We have a ways to go.”

For a market that was desperate for some good news about rate hikes slowing or stopping, this was not well received. That being said, the market is holding up pretty well the following day. The market seems to be building a tolerance for higher rates, which is a good thing. In our view, the market would be up 5-10% in a matter of days if Powell would have signaled an end to the rate hikes. However, I think we need to take into account that a higher stock market is not really what Powell needs to fight inflation. I assume we are not the only ones who realize the Fed could pump the market 10% higher in a matter of days if they sounded moderately dovish, so why didn’t they do that? Don’t they want the market to go higher? Well, no. And here is why:

For consumers: Higher stock prices = more money = more spending = more demand for goods

= more inflation pressure.

For businesses: Higher stock prices = more money for expansion = more hiring = more

inflationary pressure on wage growth.

Both of these issues go against what the Fed is trying to accomplish. We know they have a vested interest in keeping the market low, which is our view, and is why they continue to sound hawkish. We believe the Fed and Jerome Powell are fully aware that one sentence from Powell saying there will be no more rate increases will rip the market higher by 10%, but they are choosing not to utilize that option at this point. In our view, that is good news. The Fed knows they have a tactic that can instantly move the market higher, and if the market gets to a point where it needs it, the Fed will likely use it. If this is indeed the case, then the market has a somewhat limited downside before the Fed will use that tactic.

The Remainder of 2022

Despite the Fed not helping the situation in the slightest bit, the possibility for the end of year rally that we mentioned in last month’s letter is still intact. The market is holding its ground, and unless it makes a big move lower over the next couple of days, we think that in mid-November we could see the start of a move higher into the end of the year. We draw that conclusion based on historical analysis along with charting analysis of MACD, moving averages, RSI, and other momentum indicators; too much for this letter, but we can go over it via zoom individually if you are interested. To keep it simple, if the S&P stays above 3700 for the next few days, then the strong year end thesis remains intact. If the S&P falls below the 3700 level, then the chart is broken and a strong finish becomes less likely.

Strategic Changes We Have Made

It is becoming increasingly clear that the stocks which helped our accounts perform so well over the past 4 years will not be the stocks that lead us out of this bear market. The mega-cap AAPL, MSFT, META, NFLX, GOOG, etc. have now become equal to underweight in our portfolio. We are now overweight healthcare, energy, and utilities. We do still have an overweight exposure to technology, but not Mega cap tech. We believe healthcare and energy will be two of the leading sectors for the rest of this year and into next year, especially if the economy begins to slow in 2023. These are also lower volatility sectors, which means the overall volatility of flagship is now about 10% less than the overall market.

We have also initiated a small position in long dated Treasury bonds. This has the potential to be a key factor in the portfolio performance in 2023. Treasury bonds have been decimated this year along with the rest of the bond sector. Most 60/40 portfolios (60% stock, 40% bonds) have done far worse than the overall market on a yearly basis. The Treasury bond ETF (TLT) is down something like 30% YTD. Astounding for a government bond fund. However, TLT down over 10% in a year has only happened one time in the last decade. And in that case, TLT was up double digits the following year. The rapid increase in interest rates has absolutely crushed most of the bond industry, especially long dated Treasury bonds. When rates stop going higher, we believe Treasuries will be a great way to increase portfolio return while decreasing volatility.

Why Do We Want to Minimize Volatility?

Simply put, the market is probably not done going down. At this point, our base case (most likely case scenario) is a moderately strong market into year end and then another rough market for the first half of 2023. Again, we are drawing these conclusions from historical chart patterns and indicators. We do not want to be completely out of the market because we might be wrong, but we do want to reduce the volatility in the portfolio with sectors like healthcare and Treasury bonds in case we are right.

Finally

The end of the uncomfortable market cycle gets nearer every day. Our view is mid-2023, if everything else stays the same, we may be able to put the whole thing in the rear-view and focus on the start of the next bull run higher. According to the Wells Fargo Investment Institute study, the average 12- month return after the end of a bear market is 43.4%. After all, we do have a lot to look forward to!

This commentary on this website reflects the personal opinions, viewpoints and analyses of the Element Squared Private Wealth employees providing such comments, and should not be regarded as a description of advisory services provided by Element Squared Private Wealth or performance returns of any Element Squared Private Wealth client. The views reflected in the commentary are subject to change at any time without notice. Nothing on this website constitutes investment advice, performance data or any recommendation that any particular security, portfolio of securities, transaction or investment strategy is suitable for any specific person. Any mention of a particular security and related performance data is not a recommendation to buy or sell that security. Element Squared Private Wealth manages its clients’ accounts using a variety of investment techniques and strategies, which are not necessarily discussed in the commentary. Investments in securities involve the risk of loss. Past performance is no guarantee of future results.