Economic Indicators and How We Are Responding
June 24, 2022
This month we have continued to see somewhat of a slowdown in economic data as we move further into the rate hike cycle (the fed raised interest rates by 75 basis points last week) and inflation remains high. We welcome the 6% rally in the market this week – though we also remain cautious in our near-term equities outlook and have increased the size of our hedge.
Select economic indicators
This month the fed revised their forecast for 2022 economic growth from 2.8% to 1.7%, which reflects our view that economic growth will continue to slow down through the rest of this year.
Other indicators of slowing economic growth include retail sales falling 0.3%, the Philadelphia and Empire manufacturing indices missing estimates and housing starts and industrial production missing estimates.
The fed lifted Inflation expectations from 4.3% to 5.2% for the year.
In a CNBC poll, 79% of the working class and 46% of higher income earners said they are concerned about falling behind financially as a result of higher prices.
Yesterday, New York fed chair Dudley mentioned that a recession in the US is likely in the next 12-18 months.
On the other hand, economic growth remains positive, the financial system remains healthy for now, unemployment is low at 3.6% and good quality companies continue to grow their earnings. With all that said, we don’t know exactly when a recession is likely to hit, but we do think that risk in the market is elevated and as a result we are taking protective measures in the portfolio while remaining invested.
What we are doing in our portfolios to mitigate risk
We have increased the size of our portfolio hedge - as it stands, approximately 4%-6% of equity exposure is hedged depending on your allocation through ‘hedged structured notes’.
Last week, we traded a hedged note with JPMorgan with 10% hard principal protection and a four-month term. As a reminder, hard principal protection is a buffer, which means in this case that investors are protected by a 10% buffer if the market falls by more than our 10% level of protection, no matter how far it falls. We ‘pay’ for this hedge by capping upside exposure at 3.16% over the period.
For example, if the S&P500 is down 10% at the end of the term, we will be up 10%. If the S&P500 is down 11%, we will be down 1%. If the S&P500 is down 20%, we will be down 10%. If the S&P500 is up 5%, we will be up 3.16%.
We have a value tilt within our equity portfolios, with a focus on quality high dividend companies with solid dividend yields and defensive characteristics trading at attractive valuations.
We are further reducing our international equity exposure.
We are continuing to increase our exposure to alternative investments outside of stocks and bonds – including pre-IPO and private real estate, which unlike their publicly traded peers are not subject to daily volatility. We have also increased our exposure to deep barrier structured yield notes.
As always, high quality American companies with real profits and strong business models are a staple in our investment portfolios. As long-term investors, we are staying invested in good quality companies and tactically changing our exposure.
Economic Indicators and How We Are Responding
This month we have continued to see somewhat of a slowdown in economic data as we move further into the rate hike cycle (the fed raised interest rates by 75 basis points last week) and inflation remains high. We welcome the 6% rally in the market this week – though we also remain cautious in our near-term equities outlook and have increased the size of our hedge.
Select economic indicators
This month the fed revised their forecast for 2022 economic growth from 2.8% to 1.7%, which reflects our view that economic growth will continue to slow down through the rest of this year.
Other indicators of slowing economic growth include retail sales falling 0.3%, the Philadelphia and Empire manufacturing indices missing estimates and housing starts and industrial production missing estimates.
The fed lifted Inflation expectations from 4.3% to 5.2% for the year.
In a CNBC poll, 79% of the working class and 46% of higher income earners said they are concerned about falling behind financially as a result of higher prices.
Yesterday, New York fed chair Dudley mentioned that a recession in the US is likely in the next 12-18 months.
On the other hand, economic growth remains positive, the financial system remains healthy for now, unemployment is low at 3.6% and good quality companies continue to grow their earnings. With all that said, we don’t know exactly when a recession is likely to hit, but we do think that risk in the market is elevated and as a result we are taking protective measures in the portfolio while remaining invested.
What we are doing in our portfolios to mitigate risk
We have increased the size of our portfolio hedge - as it stands, approximately 4%-6% of equity exposure is hedged depending on your allocation through ‘hedged structured notes’.
Last week, we traded a hedged note with JPMorgan with 10% hard principal protection and a four-month term. As a reminder, hard principal protection is a buffer, which means in this case that investors are protected by a 10% buffer if the market falls by more than our 10% level of protection, no matter how far it falls. We ‘pay’ for this hedge by capping upside exposure at 3.16% over the period.
For example, if the S&P500 is down 10% at the end of the term, we will be up 10%. If the S&P500 is down 11%, we will be down 1%. If the S&P500 is down 20%, we will be down 10%. If the S&P500 is up 5%, we will be up 3.16%.
We have a value tilt within our equity portfolios, with a focus on quality high dividend companies with solid dividend yields and defensive characteristics trading at attractive valuations.
We are further reducing our international equity exposure.
We are continuing to increase our exposure to alternative investments outside of stocks and bonds – including pre-IPO and private real estate, which unlike their publicly traded peers are not subject to daily volatility. We have also increased our exposure to deep barrier structured yield notes.
As always, high quality American companies with real profits and strong business models are a staple in our investment portfolios. As long-term investors, we are staying invested in good quality companies and tactically changing our exposure.
Disclaimer
The information presented should not be considered personalized investment, financial, legal, or tax advice. This notification is not an offer to buy or sell, or a solicitation of any offer to buy or sell, any of the securities mentioned herein. Certain statements contained herein may constitute projections, forecasts, and other forward-looking statements, and are based primarily on assumptions applied to certain historical financial information. Certain information has been provided by third-party sources, and although believed to be reliable, it has not been independently verified, and its accuracy or completeness cannot be guaranteed. Any opinions, projections, forecasts, and forward-looking statements presented herein are valid as of the date of this document and are subject to change. Past performance is not indicative of future performance. Principal value and investment return will fluctuate. There are no implied guarantees or assurances that the target returns will be achieved, or objectives will be met. Future returns may differ significantly from past returns due to many different factors. Investments involve risk and the possibility of loss of principal. The values and performance numbers represented in this report reflect management fees. The values used in this report were obtained from sources believed to be reliable. Performance numbers were calculated by Black Diamond using the data provided by your custodian. Please consult your custodial statements for an official record of value.
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