Historical analogs suggested we could expect volatility and additional drawdowns in the first two quarters of 2023. Still, nobody was prepared for the historic meltdown of Silicon Valley Bank.
“Despite the curve ball from the banking industry, bouncing growth stocks suggested potentially positive backdrops on the horizon, with a caveat- we still have a way to go to recoup growth stock losses from 2022,” explains Thomas Samuelson, CFA, CMT, Chief Investment Officer of Vineyard Global Advisors, a risk-managed, separate account manager.
VGA’s first quarter investor webinar entitled “Volatility, Curve Balls & Rallying Growth Stocks” focused on market and economic trends that impact investor portfolios. Investment Analyst Sam Caylor and Portfolio Manager Kendall Dilley joined Samuelson for a lively discussion of markets.
Presenters:
Tom Samuelson, CFA, CMT, Chief Investment Officer, Vineyard Global Advisors
Kendall Dilley, CFA, CMT Portfolio Manager, Vineyard Global Advisors
Sam Caylor, Investment Analyst & Senior Trader, Vineyard Global Advisors
Original Broadcast: Wednesday, April 26th, 2023
Market Cross Currents Abounded During 1Q 2023
The stock market has been resilient in the face of much bad news this past quarter, which is generally good. Still, the deterioration in the economic data has caused many to question the sustainability of the first-quarter bounce. So far, we haven’t seen the kind of bullish consistency to gain conviction that the new bull market is on solid footing.
To be sure, there are some positives, but the crosswinds that now exist have made the near-term outlook less predictable. Eventually, perhaps over the next several months, the uncertainty will resolve itself, and the backdrop will become clearer. However, these choppy, range-bound markets happen periodically, and knowing how best to navigate the current environment is essential.
There’s Still More Work to Do
We saw a bounce in the first quarter that was concentrated in growth stocks, many of which fell the most last year. After falling 19% in 2022, the S&P 500 bounced 7% in the first quarter but remains down 12% over the past five quarters. The Nasdaq jumped 17%, but after falling 33% last year, it remains down 21% over the past five quarters.
After a 33% decline, investors need close to a 50% gain to recover from that loss. So, the Nasdaq still has a long way to go. The average stock bounced 3% in the first quarter but remains down 17% from where it was at the start of January 2022, and bonds bounced 3% in the first quarter but are still down 13% since the beginning of 2022. 2023 should be a better year for investors, but the path will likely be volatile.
1Q’s Big News = Failure of Silicon Valley Bank
The failure of Silicon Valley Bank and the tightening in lending standards across the entire industry has thrown a curve ball into what was a more clear-cut start to the year. Although many other banks bought bonds at low-interest rates as deposits came in due in part to the government’s Covid spending, they didn’t do it to the same degree as SIVB.
Realizing that other regional banks may fail due to bad interest rate risk management, the Fed created a new loan facility in March that banks could borrow against to meet withdrawals from their depositors. This appears to have curtailed a broader run on deposits across the industry. However, there may be more fallout, and the industry is nervous.
Bear Case Scenario – Increasing Odds of a Recession?
A deteriorating economic backdrop shows up in some data series that have historically done an excellent job of anticipating a recession. Historically, the most significant earnings and stock market declines tend to occur around recessions. Every time the LEI has fallen below -5, the U.S. economy has either been in or on the cusp of a recession.
The LEI has now declined for 12 straight weeks, and when the persistence of the deterioration has been that long or longer, the U.S. economy has also fallen into recession 100% of the time. The upshot of a recession is lower earnings which translate to lower stock prices. Another con relates to the U.S. debt ceiling showdown, which is not improving.
Bull Case Scenario – Is an Economic Soft Landing in Store?
The IMF expects global growth to slow in 2023 to around 2.7% compared to the long-term average of 3 to 3.5%. This is slower growth in 2022 but not negative growth or a recession. Positively, China ended its Covid lockdowns in January and its growth is now expected to almost double from 3.0% last year to 5.8% in 2023.
The Eurozone has avoided an energy crisis caused by the war in Ukraine due to its good luck in having a warm winter so far and being able to re-stock its energy supplies ahead of it. The U.S. labor market remains strong, with a 52-year low of 3.5% unemployment. Another “pro” is that we are likely seeing “Peak Inflation.”
For much of last year, inflation was in the BEAR category since it wasn’t clear how high inflation would go after hitting a 40-year peak of 9.1% in June of 2022 – or how far the Fed would have to raise interest rates to bring it back down.
The Bottom Line
Defensive positioning in 2022 paid rewards, and the odds favor a better year for investors in 2023. At VGA, our strategies now have less of a hole to dig out of before getting back to making money. We have seen improvement from our indicator and macro models, but it has not been steady. If we have a recession, it's likely to be mild and may already be mostly discounted. A retest of the October lows will likely be a substantial buying opportunity if the bottom isn't already in.
