Tough Times

When times get rough, the natural human urge becomes one of extreme frugality. Certainly those who survived the Great Depression developed various habits prompting others to view them as “penny pinchers.”

Well, today, those sitting atop the financial infrastructure―companies, governments, and other organizations that sponsor ginormous pension funds and 401k plans―have begun to feel the pinch―perhaps not the pinch of pennies but certainly the pinch of nerves.

40% Are “Nervous”?

Pension and 401k plans are underperforming. When massive amounts of money are set aside to fund the retirement of employees, the sponsors of those plans set their sights on a certain rate of return. The planners know how many years the average pension recipients have before they slip off the raft and can thus figure out how much the average plan participant needs to live a decent life. A certain rate of return―together with Social Security and personal investments―will produce that level of income.

But what happens when the rate of return fails to materialize? The S&P 500 Index was created in 1957. For 64 years―until Dec. 31, 2021―the S&P returned an average of 10.67%.[1] But so far this year, the S&P is down -2.82% in price. When .77% in dividends are added in, the net return this year is negative -12.05%.[2]

To find out how plan sponsors were coping, Cogent Syndicated, a division of Escalent, “conducted an online survey of a representative cross section of 1,267 401(k) plan sponsors from February 11 to March 8, 2022. Survey participants were required to have shared or sole responsibility for plan design, administration or selection and evaluation of plan providers, or for evaluating and/or selecting investment managers/investment options for 401(k) plans.”[3]

40%? Yes, Almost

The war in Ukraine and market volatility have frightened nearly 40% of those surveyed. According to the survey, “nearly four in ten (37%) plan sponsors expect domestic marketplace conditions to worsen, up from 20% in 2021.”[4] 

Nearly 60% Fear Underperformance

The fear factor increases when plan sponsors were asked about the ability of their 401k’s or pensions to meet performance targets. “Concern about underperformance of plan investment options continues to grow with 57% of plan sponsors concerned in 2022, increasing by 6% since 2021.”[5]

What to Do?

Perhaps the 401k or pension just cannot meet initial targets. After all, the plan cannot create returns out of thin air. It becomes perfectly plain that plan recipients will have to reduce their expectations and take affirmative steps to make ends meet. Recipients just might have to learn those money-saving steps that served our forbears so well in the 1930s. Even pinching pennies comes to mind.

An Escalent executive describes the problem and some steps plan sponsors might take:

“Creating a retirement plan that is attractive to employees is even more difficult in the current volatile economic and talent environment,” said Sonia Davis, senior product director at Escalent. “In order to combat participant fears, our research supports that plan sponsors need to encourage employees to keep a long game strategy, avoid drastic withdrawals that will hinder future retirement readiness and think beyond saving by seeking help with their decumulation phase.”[6]

Though we’re not precisely certain, we imagine that “thinking beyond saving by seeking help with the decumulation phase” means “retired participants can’t spend money that’s not there so they must learn how not to spend or how to spend less than they planned or hoped for in their golden years.”

Educating Recipients

Many participants in 401k’s and pension plans have never experienced a downturn like the one currently hitting investors. One observer stresses the importance of education:

“Employee education that emphasizes the importance of long-term investment strategy and dollar cost averaging is more crucial as many new employees in the workforce have never experienced a prolonged market downturn,” said Rikin Patel of Kingswood U.S. Enterprise.[7]

Younger plan participants can view downturns as terrific buying opportunities and with dollar cost averaging can obtain lower average costs of certain investments. But older participants surely view a severe downturn as a direct threat to their security, and, as a result, must adopt more defensive strategies to preserve capital.

Please Call Us

If you have any questions, comments, or suggestions, please call us at 301-294-7500. We are always happy to answer any questions you have. 

[1] https://www.investopedia.com/ask/answers/042415/what-average-annual-return-sp-500.asp
[2] https://www.slickcharts.com/sp500/returns/ytd
[3] https://escalent.co/news/retirement-plan-sponsors-indicate-concern-of-underperformance-in-volatile-market/
[4] https://escalent.co/news/retirement-plan-sponsors-indicate-concern-of-underperformance-in-volatile-market/
[5] https://escalent.co/news/retirement-plan-sponsors-indicate-concern-of-underperformance-in-volatile-market/
[6] https://escalent.co/news/retirement-plan-sponsors-indicate-concern-of-underperformance-in-volatile-market/
[7] https://www.investmentnews.com/pessimism-permeating-ranks-plan-sponsors-says-retirement-study-224798

Bonds CAN’T Fall Any Lower… Or Can They?

What once was considered a “safe” investment has taken a drubbing in 2022.  As of yesterday (June 06, 2022) the AGG (US Aggregate Bond Index) has fallen 10.42% ¹.  Just for the record, a 10% drop is recognized as an official “correction” for equities. It would be hard to disagree that a 10% loss in bonds can be viewed as a catastrophe in a conservative investment portfolio.

Today, the Federal Reserve Prime Interest Rate (aka Prime Rate) is 4% ².  That doesn’t sound that bad.  Especially compared to the past 40 years.  On December 19, 1980 the prime rate was a remarkable 21.5% ².  It has fallen over the past 41 years to as low as 3.25% ².  Comparatively, 4% vs 3.25% is barely a blemish on the safe and smiling face of the bond market…or is it?

Consider that interest rates historically move in the opposite direction of bond values.  As interest rates fell over the past 41 years, bond values have steadily been rising.  After 40+ years, bond investments have always been represented as the safe and conservative investment position.  After all, it’s difficult to  even remember when the last time it was this bad.  It’s been since 1977 that bonds values have fallen this painfully when surging inflation and spiking gasoline prices were hurting consumers. Sound recently familiar?

​The Federal Reserve (FED) is attempting to quell inflation with interest rate hikes.  The FED has indicated they will continue to raise rates by .5%  until inflation calms down and then they plan to raise future rate by .25% increases until they get inflation fully under control.

Until the FED navigates us out of inflation, you can expect bond values to continue to fall.

In our opinion, the day of fleeing to bonds for safety is gone, at least for the near to mid-term. 

So, the likely question on everyone’s mind is, “How does one avoid more and more losses in bond investments?”

Active management is our answer. 

As mentioned above, the AGG has fallen 10.42% ¹.  We are active managers, and our Model Fixed Income account has lost only 2.51% in 2022 through June 06, 2022.  That is nearly an eight-percentage point difference between the benchmark and our returns.  It’s a lot easier to recover from a negative 2.5%  than from a 10% loss.

Essentially, you have three options:

1.       HOLD your bond investments and hope that interest rates fall in the very near future
2.       SELL your bond investments, go to cash, and endure the loss of purchasing power to the high rate of inflation
3.       ACTIVELY MANAGE your bond investments to avoid further losses and capture their eventual upswing

We believe Active Management is a path that gives you the best chance for success.

If you have questions or just want to talk about your concerns, please don’t hesitate to contact us.

Sources:

1.        https://www.investing.com/etfs/ishares-barclays-agg-historical-data (reset the date timeframe to 1/1/2022 through 06/06/2022 and look at the cumulative total loss of the AGG at the bottom of the data listing)
2.        http://www.fedprimerate.com/wall_street_journal_prime_rate_history.htm#current (all dates are listed)

Dear friends and clients,

You’ve heard about it on the news, you’ve felt it at the grocery store and at the gas pump, you’re having to deal with it every day. 

It is inflation.

We didn’t hear much about it in the news or feel its impact until very recently.  With a 1.4% increase just in the month of March, the US Producer Price Index (PPI) recorded the highest ever year-over-year increase in history. The famous US Consumer Price Index (CPI) saw its highest year-over-year increase in 40 years. Together, these two price indexes highlight the serious threat rising prices have on your purchasing power and your investment portfolios.  In other words, inflation does not limit its impact to your grocery purchases, it is also weighing on your life savings, and for many, their daily choices.

Inflation’s impact on the financial markets has been strong and immediate.

Familiar stock market Indexes

·         S&P 500 Index (SPX)  -13.31% (NEGATIVE)

·         NASDAQ Composite Index (COMPQX)  -21.16% (NEGATIVE)

·         Dow Jones Industrial (DJ-30) Index  -9.25% (NEGATIVE)

·         Barclays Aggregate Bond Index (AGG)  -9.83 (NEGATIVE)

Yes, you read that correctly.  All major indexes are languishing in negative territory.

·         S&P 500 is in correction territory (10% loss)

·         Tech-heavy NASDAQ is in bear market territory (20% loss)

·         Dow Jones is just ¾ of 1% shy of being technically designated as being in correction

Add to that the beating taken by bonds this year.  If you have traditional bonds or bond funds, you’ve likely seen your bonds values fall and accordingly the AGG is just 17 basis points shy of being in an official correction.  For bonds, that is serious because many have been led to believe they are a “safe haven” for retirees desiring a less risky investment. 

If you recall our presentation from September 2020 entitled “Dangerous Times”, you’ll remember we illustrated and warned of a perfect storm forming due to 40 years of falling/low interest rates and low inflation that led to all-time low interest rates and all-time high stock market values.  The perfect storm is now on our shores.  Rising interest rates and inflation are sending markets tumbling and bond values crashing.

In this storm, it seems like there is no good place to hide and wait it out.  Historically, when inflation grips our economy, cash loses purchasing power and commodity prices rise as a hedge against falling market indexes.

What is a commodity? 
A commodity is a basic good used in commerce that is interchangeable with other like-commodities. Traditional examples of commodities include grains, gold, beef, oil, and natural gas. The basket of commodities is varied and wide ranging; so, not all commodities will be a worthwhile inflation fighter.

Here are a few Exchange Traded Funds (ETFs) that represent various commodities and their results.  The percent return is for 2022 year-to-date through 4/29/2022.

Agriculture / Food

·         WEAT (Wheat) ETF 41.00%

·         CORN (Corn) ETF 39.18%

·         SOYB (Soybeans) ETF 25.63%

·         TAGS (Agriculture) ETF 27.69%

·         CANE (Sugar Cane) ETF 4.13%

·         JO (Coffee) ETF  -1.65% (NEGATIVE)

Energy / Oil / Alternatives

·         UNG (US Natural Gas) ETF 100.16%

·         USO (US Oil Fund) ETF 41.94%

·         XOP (Oil & Gas Exploration & Production) ETF 37.49%

·         TAN (Solar) ETF  -16.55% (NEGATIVE)

Natural Resources / Metals / Mining

·         JJN (Nickel) ETF 52.54%

·         SLX (Steel) ETF 17.07%

·         GLD (Gold) ETF 3.48%

·         URA (Uranium) ETF 1.62%

·         WOOD (Timber/Forestry) ETF  -2.07 (NEGATIVE)

·         SLV (Silver) ETF  -2.19 (NEGATIVE)

·         LIT (Lithium) ETF  -22.8% (NEGATIVE)

While many commodities can be good inflation fighters, they can also be volatile.  As a result, you may have seen or will see RFS purchase an ETF and sell it rather quickly.  Our buying and selling rules are in place to prevent catastrophic losses while attempting to capture as much upside as possible.  This requires trends and indicators take root…which usually means we need to allow the ETF to solidify its direction over several days.  Once the direction seems solid, we act accordingly.

Nearly all of the above commodity ETFs are constrained by low daily volume and/or tax reporting complications.  As a result, Research Financial Strategies is limited to investing in diversified commodity ETFs such as energy and agriculture.

·         IXC (Global Energy) ETF 28.97% YTD

       o   Purchased 2/3/2022 is up 8.27%

·         PDBC (Commodity ETF 32.65% YTD

       o   First lot purchased on 3/22/2022 is up 4.19%

       o   Second lot purchased on 4/27/2022 is up 0.17%

These returns may sound small; however, when you compare them to what is happening to the markets overall, then you’ll find they are going in the opposite direction which is the right direction.

Do you have bonds? 
If so, then you may have noticed we sold many ETFs and mutual funds a while ago and purchased TBT.  TBT is an ETF that benefits from the 20-year treasury decreasing in value.  As mentioned above, rising interest rates negatively impacts bond values.  With the expectation that the Federal Reserve will continue to raise rates several times over the remainder of this year, it looks like bond values will continue to fall.  As bad as that sounds, your bond portfolio will benefit.  Since TBT was placed in our bond model portfolio it has earned 9.04% through 4/29/2022.

You may have noticed our equity and bond models both have large cash positions.  This is done on purpose.  Cash is a good loss-avoiding hiding place and better than bonds currently.  Inflation may erode some of your purchasing power while in cash but at least it won’t be exacerbated by bond losses.

How are we fairing?
2022-YTD as of 04/29/2022: 

·         RFS Bond Model  -1.35% (NEGATIVE) vs AGG Index  -9.83% (NEGATIVE)

·         RFS Equity Model  -13.56% (NEGATIVE) vs S&P 500  -13.31 NEGATIVE)

·         RFS Equity Model  -13.56% (NEGATIVE) vs NASDAQ  -21.16% (NEGATIVE)

RFS is beating the AGG and NASDAQ handsomely and keeping pace with the S&P 500.  Going forward we imagine a favorable rest of the year.

Bottom line, you, as an RFS client, are poised to potentially benefit as bond values fall and commodity prices rise.  No matter how long this turmoil lasts, we’ll be there fighting for you.

Questions? Please call us. 301-294-7500

Sources:
ETF and Index returns calculated using TC2000
Spotlight: Come On, Commodities by Direxion Funds
Commodities on Investopedia.com 
https://www.investopedia.com/terms/c/commodity.asp

Some Scary Grains of Truth

The Pain …

Perhaps we need to brace ourselves.

A slew of reputable sources are painting bleak pictures. Not just of the U.S. economy. But of the global economy. Pain peeks just over the horizon.

Bloomberg pulls no punches:

Global food prices are surging at the fastest pace ever as the war in Ukraine chokes crop supplies, piling more inflationary pain on consumers and worsening a global hunger crisis.[1]

In Ukraine, there’s the Black Sea Breadbasket Region. “Ukraine exports over 50 million metric tons of corn and wheat to the world, and Ukrainian farmers would normally be planting crops right now. With Putin’s invasion, that is unlikely to happen.”[2]

A photo in The Times of Israel shows what’s at stake.

“Farmers harvest with their combines in a wheat field near the village Tbilisskaya, Russia, July 21, 2021. (AP Photo/Vitaly Timkiv, File).”[3]

As Russian troops invaded Ukraine, breadbasket farmers were forced to neglect their bountiful fields; they had to fight or flee. The Ukrainian government announced that men 18 and older had to remain and take up arms. So farmers had to put get off their tractors and put down their scythes and sickles.

The war has thus upended “global trade flows and [has] fuel[ed] panic about shortages of key staples such as wheat and cooking oils. That’s sent food prices— which were already surging before the conflict started—to a record, with a United Nations’ index of world costs soaring another 13% last month.”[4]

And it’s not just food prices that are soaring. The inflation report of April 12 should put a pit in all our stomachs.

Inflation rose at the fastest pace in 40 years  in March as consumer prices jumped 8.5%

The consumer price index leaped 8.5% annually, the fastest pace since December 1981, the Labor Department said on Tuesday, likely cementing Federal Reserve plans for an unusually large half-point interest rate hike early next month. That increase is up from 7.9% in February and inflation now has notched new 40-year highs for five straight months.

Prices rose 1.2% from their February level, the sharpest monthly increase since September 2005. [5]

It goes without saying: The stock market does not like huge inflation numbers.

… Of No Gains

There’s pain ahead.

Russia has blockaded the Black Sea, so the strain on the global economy goes beyond food shortages.

Putin’s blockade in the Black Sea is an act of economic warfare against the world. Any shipping restrictions in the Black Sea will not only slow trade but will also make it more expensive. Countries in the Middle East and Africa rely on the Black Sea trade for critical supplies such as wheat. Even the U.S. relies on Black Sea trade to export more than $130 million of poultry products to Central Asia and other countries in the region.[6]

… Stays Mainly

Sunflowers also suffer. Who cares about sunflowers?

Sunflower oil is a key ingredient in all sorts of foods. Ukraine provides nearly half the world’s supply of sunflower oil. Russia’s invasion has set the sunflower oil industry in turmoil.

Thousands of items, also including ready meals and even wrapping paper, use sunflower oil. Prices are surging and the ingredient will only become more scarce from the summer as Ukrainian farmers may struggle to grow and export the crop. [7]

Companies like Martin’s Snacks that rely on sunflower oil will be particularly vulnerable. Ukraine is the largest exporter of sunflower oil in the world, responsible for up to 46% of sunflower-seed and safflower oil production, according to the Observatory of Economic Complexity. The second largest producer is Russia, which exports about 23% of the world’s supply.

Sunflower oil is now $1.28 per pound, versus the $0.60 it cost in September 2020. [8]

…In the Grain

But grain remains the key. Wheat and corn. The staples of the world.

According to Bloomberg;

Russia’s invasion has caused a humanitarian disaster in Ukraine and disrupted trade in foods across the world, sending wheat and corn prices to the highest in a decade. Ukraine is a key supplier of grains to countries in the Middle East. Meat prices are also under pressure as the cost of the feed used for cattle and pigs rises. 

The two countries are key players in certain major global industries, like computer chips, sunflower oil, grains, petroleum, and wood. Together, they account for more than a quarter of global wheat exports. Ukraine produces somewhere around 70-90% of the world’s neon gas, which is a vital component of the microchips used to manufacture smartphone and computer screens. Russia is responsible for 13% of the world’s crude petroleum exports, which means anything that requires transportation at any stage of production—almost everything—will be impacted. Penfield predicts inflation may hit 11% by the end of the year.⁹

The Pain of No Gains Stays Mainly in the Grain

Investors, brace yourselves. Don’t expect assets to show any gains in 2022. The real challenges lie not in seeking gains but in avoiding gargantuan losses. We can’t expect the disaster unfolding in Ukraine to cause just a blip in world stock markets. We might just see lots of red in charts with arrows pointing only in one direction: down.

Avoiding the Pain of Losses

Here at Research Financial Strategies we will turn all our analysis and energies toward preserving the capital of our clients.

The RFS strategy of concentrating in three themes in energy, oil and natural gas; commodities, food, groceries, wheat, corn, sunflower seeds, etc.; and metals and mining, aluminum, steel, copper, lithium, platinum, palladium, uranium, etc., have all paid off recently.

No gains certainly cause pain. But that’s nothing like the pain of losses.

As always, we encourage you to pass this email along to family and friends. We would welcome the opportunity to help them preserve their hard-earned assets.

Investment advice offered through Research Financial Strategies, a registered investment advisor.
* This newsletter and commentary expressed should not be construed as investment advice.
* Government bonds and Treasury Bills are guaranteed by the U.S. government as to the timely payment of principal and interest and, if held to maturity, offer a fixed rate of return and fixed principal value.  However, the value of fund shares is not guaranteed and will fluctuate.
* Corporate bonds are considered higher risk than government bonds but normally offer a higher yield and are subject to market, interest rate and credit risk as well as additional risks based on the quality of issuer coupon rate, price, yield, maturity, and redemption features.
* The Standard & Poor’s 500 (S&P 500) is an unmanaged group of securities considered to be representative of the stock market in general. You cannot invest directly in this index.
* All indexes referenced are unmanaged. The volatility of indexes could be materially different from that of a client’s portfolio. Unmanaged index returns do not reflect fees, expenses, or sales charges. Index performance is not indicative of the performance of any investment. You cannot invest directly in an index.
* The Dow Jones Global ex-U.S. Index covers approximately 95% of the market capitalization of the 45 developed and emerging countries included in the Index.
* The 10-year Treasury Note represents debt owed by the United States Treasury to the public. Since the U.S. Government is seen as a risk-free borrower, investors use the 10-year Treasury Note as a benchmark for the long-term bond market.
* Gold represents the afternoon gold price as reported by the London Bullion Market Association. The gold price is set twice daily by the London Gold Fixing Company at 10:30 and 15:00 and is expressed in U.S. dollars per fine troy ounce.
* The Bloomberg Commodity Index is designed to be a highly liquid and diversified benchmark for the commodity futures market. The Index is composed of futures contracts on 19 physical commodities and was launched on July 14, 1998.
* The DJ Equity All REIT Total Return Index measures the total return performance of the equity subcategory of the Real Estate Investment Trust (REIT) industry as calculated by Dow Jones.
* The Dow Jones Industrial Average (DJIA), commonly known as “The Dow,” is an index representing 30 stock of companies maintained and reviewed by the editors of The Wall Street Journal.
* The NASDAQ Composite is an unmanaged index of securities traded on the NASDAQ system.
* International investing involves special risks such as currency fluctuation and political instability and may not be suitable for all investors. These risks are often heightened for investments in emerging markets.
* Yahoo! Finance is the source for any reference to the performance of an index between two specific periods.
* Opinions expressed are subject to change without notice and are not intended as investment advice or to predict future performance.
* Economic forecasts set forth may not develop as predicted and there can be no guarantee that strategies promoted will be successful.
* Past performance does not guarantee future results. Investing involves risk, including loss of principal.
* The foregoing information has been obtained from sources considered to be reliable, but we do not guarantee it is accurate or complete.
* There is no guarantee a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk.
* Asset allocation does not ensure a profit or protect against a loss.
* Consult your financial professional before making any investment decision.
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Investment advice offered through Research Financial Strategies, a registered investment advisor.

[1] https://www.bloomberg.com/news/articles/2022-04-08/food-prices-jump-most-on-record-as-war-sparks-supply-chaos (emphasis added).
[2] https://republicans-agriculture.house.gov/blog/?postid=7234
[3] https://www.timesofisrael.com/russian-war-against-ukraine-in-worlds-breadbasket-may-threaten-global-food-supply/
[4] https://www.bloomberg.com/news/articles/2022-04-08/food-prices-jump-most-on-record-as-war-sparks-supply-chaos
[5] https://www.usatoday.com/story/money/2022/04/12/inflation-rate-cpi-highest-40-years-prices/7284054001/
[6] https://www.republicans-agriculture.house.gov/blog/?postid=7234
[7] https://www.messenger-inquirer.com/news/ukraine-sunflower-oil-crisis-hits-food-from-chips-to-cookies/article_7a6fd362-e484-594e-9fe3-2875e857c085.html
[8]https://time.com/6155095/sunflower-oil-russia-ukraine/
⁹ https://time.com/6155095/sunflower-oil-russia-ukraine/