Rates go up, and now what?
Rates go up, and now what?
Many investors say we have already hit the ground
This Wednesday saw the first rate hike by the FED. After rates have been irrationally low during the Covid and inflation not seen in the last 40 years is being generated, the FED has decided to bring forward the rate hike.
"In hindsight it would have been appropriate to move earlier" - Jay Powell
The markets reacted on Wednesday with solid gains (Nasdaq-100 +3.7%). As expected. The market already discounted this rate hike in its declines and also believes that this hike can curb the inflation that keeps the price of electricity and gasoline at record highs (week after week).
These increases have caused us to see many comments on Twitter talking about the end of this "recession". But what happens when interest rate hikes occur?
Historically
The market is eminently cyclical. Broadly speaking, we go from economic progress to times of recession.
During recessions, interest rates are lowered (blue line). These rate cuts occur to encourage consumers to buy and revive the economy. These rate cuts are generally accompanied by liquidity injections (black line).
The main periods of recession are after 2000, after 2008, and after 2020. In addition, the black line has not stopped growing.
After a recession and after having lowered rates, during the progress period. The Fed decides that the economy has already revived and raises rates again. Often blatantly, this causes consumers to stop buying because it costs too much to borrow money (we are going from 0% mortgages to 5% mortgages or higher). This generally generates a recession and causes rates to fall again (2000, 2008, and 2020).
Looking at the economic cycle in broad strokes, we are much closer to a recession than touching ATH again. Obviously, the market is irrational and may rally back to ATH only to fall again later.
We continue to believe that one of the most significant recessions in history is yet to come. After the biggest measures ever seen (further liquidity injection and further rate cuts) come the biggest consequences. Having the S&P 500 at 10% of record highs is not an unprecedented recession.
If you think this debt is "healthy", you are wrong....
Whether the market continues to pull back or not, we have accommodated the portfolio so that it continues to generate returns.
On the other hand, this week, some friends have published a ranking of the best independent finance blogs, and one of them includes Oaktree Capital. Howard Marks has weighed in on his view of the markets, saying the following:
“are you a buyer or a seller?” and “in or out?” there are very few occasions on which it makes sense to try to time the markets and very few people with the skill to do so profitably; it’s far more important to be in the markets over the long run. Second, as bottom-up investors, Oaktree’s main emphasis is on selection within our markets, not profitably altering our deployment of capital.
Thus, I tell the TV anchors and reporters, if one wants to respond to market conditions, the best way is by deviating when appropriate from one’s usual ratio of aggressiveness to defensiveness. And where do I stand in that regard today? Right around normal, or perhaps slightly biased toward defense via increased emphasis on selectivity and downside protection. In short, I think the considerations are too well balanced – although perhaps not perfectly so – to make getting out (or getting too defensive) the right thing to do."
Several points to note:
Doing market timing is useless.
Very much in line with the previous one. Switching the portfolio from defensive to offensive and vice versa is not profitable.
It is better to have a balanced portfolio.
It has a slightly higher weighting towards more defensive assets.
VXX
Barclays has halted new share creations of the iPath Pure Beta Crude Oil ETN (OIL) and the iPath Series B S&P 500 VIX Short-Term Futures ETN (VXX) Monday morning, becoming the latest exchange-traded products to close its doors to new cash in recent weeks.
VXX’s flows have been more active in the past several months, as inflation, COVID surges and now the war in Ukraine have kept the VIX largely near or above the key 20-point mark that implies significant fear in the options market.
We already know that we have positions in favor of volatility. However, this change does not impact us.
Something strange is happening, and retail investors are not aware of it. The Twitter community is up in arms about these measures.
This last reflection is very interesting.
Now our portfolio