June 15, 2023 Letter to Clients
In our first letter of this year, we titled it “Goodbye (and Good Riddance) to 2022”. Well, it didn’t take long after putting that letter in the mail that 2023 began shaping up to be a year facing its own set of challenges, some new and some carrying over from previous years. Among that list, include the Federal Reserve and its battle with inflation, bank failures, angst about a debt ceiling crisis, cryptocurrency meltdowns and the ongoing unfortunate effects of Russia’s invasion of Ukraine.
As we reach the midpoint of the year, we hope you and your families are doing well and enjoying these first days of summer. Let’s have a halftime report of what has transpired thus far this year and provide our thoughts and insight on the second half to come.
Debt Ceiling Deal: Default Averted
President Joe Biden and House Speaker Kevin McCarthy finalized their deal to raise the debt ceiling, with the bill easily passing the House and Senate with comfortable majorities. In the end, the debt ceiling negotiations played out largely as we’d expected; with a deal that was reached at the last minute. With the Fiscal Responsibility Act of 2023 signed into law, the debt ceiling issue is put to rest now until 2025.
As is often the case, the legislative agenda dominates news headlines from time-to-time. This year’s debt ceiling issue was no exception but was fortunately resolved before significant economic consequences resulted. It’s a reminder how such events, when they occur, represent just one factor to consider, as together we assess how your own portfolio is positioned for both your short- and long-term financial goals.
Financial Stability & Price Stability: A Juggling Act
After spending the last year raising interest rates at a clip not seen since the 1980s, the Federal Reserve (the Fed) is taking a different approach this year: raising rates at a slow, more deliberate pace. Historically, when the central bankers raise rates, we typically see a quarter of a percentage point here and there. Meaningful, yes, but small enough to stay under many people’s radars and not dominate headlines. Given where we are today, it’s easy to forget that it wasn’t long ago when the federal funds rate was at or around zero.
The federal funds rate is the target interest rate set by the Federal Open Market Committee (FOMC). When the Fed raises this rate, it increases the cost of credit as a way to combat inflation. When borrowing becomes more expensive, companies are less likely to take out loans and spend money, and individuals may postpone projects that involve financing. The goal of raising rates is to reduce the supply of money in circulation, thus cooling off the economy. The good news is that it appears to be working. Inflation continues to improve, but is still well above the Fed’s preferred 2% target, which led Fed Chair Jerome Powell to reiterate the need for monetary policy to remain tight. This means that higher rates are here to stay for a while, and perhaps additional modest increases in the future as well.
Last month, the Fed completed their tenth hike in a little over a year, this time by 0.25%. Having been at near-zero in March 2022, to now 5.00-5.25%, it’s the highest it’s been in 16 years. The decision for this modest increase comes as the Fed tries to balance concerns related to recent bank failures with its mission to get inflation under control. Recent bank failures show that the Fed must work to manage both price stability as well as financial stability, certainly no small feat. The Fed temporarily paused its hiking campaign this month but forecasts it will raise interest rates as high as 5.6% before 2023 is over if necessary, and that’s if the central bank keeps its rate-hiking pace at quarter-point increments.
What Can Investors Expect the Second Half of 2023?
After a difficult 2022, US stocks gained during the first half of this year, showing resilience against the uncertainty about what lies ahead for the economy. Following what was their worst year, bond prices have risen as investors wage that the Fed will be easing up on rate hikes as they focus on balancing economic growth and inflation.
On the equity outlook, value stocks, generally defined as mature companies selling at relatively low prices (think: quality on sale), have demonstrated signs of outperforming the broader market. Although they have trailed to date this year, this may be a temporary setback that could resume its historical pattern of beating growth over very long periods. Emerging markets (countries with economies that are transitioning into developed economies as they undergo fast economic growth) are also displaying promising signs of outperformance following the peak of the US dollar in 2022, which triggered a change in market dynamics. While it remains to be seen if embraced by cautious foreign retail investors, Asia is poised to drive global economic growth, bolstered by China ending their strict zero-Covid policy in order to stimulate economic activity. Together with India, they are forecasted to generate about half of global growth this year.
On the fixed income side, the healing process from 2022 has begun, however we anticipate lagged effects of the current tighter monetary policy, which are typically long and variable. Inflation, interest rates, banking sector strains and geopolitical risks may lead to market volatility, the fixed income markets included, and we do see this volatility as lingering. I stand by my statement that we are already in a recession, although there is debate that it may occur later this year. For this reason, we will continue to look at high-quality fixed income sectors that have demonstrated resiliency should there be continued economic challenges or credit-rating downgrades.
We are well aware of the excitement generated by tech this year as the fast and furious advancements in artificial intelligence (AI) are astonishing. For both equities and fixed income, we will remain flexible and opportunistic to capitalize as appropriate, the tech sector included, while doing so in a risk-aware manner. We are mindful not to get caught up in overexuberant speculation about future share price growth with little regard to business fundamentals. Our primary goal remains committed to investing in a sound and intelligent manner, consistent with our client’s needs and best interests.
Travel Insurance: Worth the Extra Expense?
With summer here and more of us traveling post-pandemic, we thought we would shift gears a little and provide our insights on travel insurance. While it may not be the most widely discussed financial topic or perhaps the most exciting, nevertheless, travel insurance can provide much needed financial protection from the unexpected, particularly when you’ve spent a considerable sum on a trip or that long-awaited vacation you were saving for. Each of us at LePage Financial has a story ourselves about a cancelled trip or two due to unforeseen circumstances, and we are glad we had made the decision to say yes to the insurance coverage.
Travel insurance is a type of coverage designed to protect against risks and financial losses before and during your trip. It primarily covers two aspects of a trip: the reservations and medical expenses while traveling. These risks often include unforeseen events like missed airline connections, delayed luggage, injuries, or minor illness. When deciding if travel
insurance is a good choice, think about not only where you’re going, but what your planned activities are and how much they are costing you. If you’re paying for prepaid, non-refundable activities, it may be worth considering investing in a travel insurance plan with sufficient coverage. Additional questions to ask: Will you have health coverage at your destination? How much coverage, if any, will you have if using your credit card? Many credit cards offer some level of coverage and taking time to speak with your card’s representative when booking any trip is a good idea. While travel insurance may not always be necessary, we encourage clients to evaluate their insurance options as well as understand what is and just as importantly what isn’t covered; something the pandemic taught us when many travelers learned that Covid-19 was not a covered event.
If you are traveling this summer, we wish you safe and enjoyable travels wherever the road takes you. Lastly, we wish everyone an enjoyable summer and as always, we invite you to contact our office for conversation, questions, concerns or to keep us informed of life changes.
Best Wishes,
Steve LePage