Weekly Summary

Late Thursday morning, we thought that it was highly likely that U.S. equities traded at a level that could be at least a short-term peak. We thought that the risk-reward no longer justified full positions in many stocks. We also detected what we would characterize as much complacency in regard to economic trends, which many investors and analysts viewed as perhaps predictable and evolving slowly. We suppose that future economic and inflation trends could evolve in a sudden and non-linear pattern.

The Fed will have a difficult task in balancing the risks of tighter monetary policy to rein in inflation against the risk of financial instability. To what extent are these objectives compatible? To what extent will the Fed become a chameleon? To what extent will this change the Fed’s “karma?”

We continue to stress that stock selectivity in this current financial market environment is of paramount importance. We are looking for that special “Desert Rose.” We remain wary that we are not imagining what we want to see, but instead keep an open mind so that we can better see the “reality” of a company’s fundamentals. Only then would we be able to properly assess the risk-reward of owning a particular investment. Another important consideration would be how a specific investment might fit into a diversified portfolio.

We continue to stress that stock selectivity in this current financial environment is of paramount importance. We will reassess our investment posture after we have analyzed the next set of monthly economic data. We maintain our strategy of buying equities only on downturns. We will continue to scrutinize investments on a risk-reward basis.

As indicated in our commentaries of the past few weeks, we have been anticipating the rise in interest rates and USD. We have also advocated the trimming of equity positions. We maintain our strategy of buying equities only on downturns. We continue to stress that stock selectivity in this current financial market environment is of paramount importance. On Friday afternoon the two-to 10-year yield curve inversion increased to at least 85 bps. We interpret this as an indication that financial markets are pricing in the increased probability of a U.S. recession this year. We are hopeful that this might still be avoided. We will make a new assessment of this possibility after we have analyzed the next set of monthly economic data.

Given the myriad of possible explanations to account for financial markets’ reactions this year, we view the investment process this year as navigating through a landscape of “minefields.” We feel “equipped” to embrace this task. We believe that maintaining an “open mind” could be the key to a successful “navigation.” Many U.S. equities continue to show a remarkable resiliency.

We continue to recommend a well-diversified global portfolio that could take advantage of the volatility in financial markets by trimming long positions after substantial gains and buying on substantial downturns.

For the time being we are maintaining our basic investment approach as expressed in last week’s commentary. We continue to prefer high quality big cap stocks that offer good balance sheets, as well as relatively stable cash flows and profit margins. We prefer a very diversified global portfolio for long term investors.
We believe that the Fed indicated a much more dovish stance this week in regard to their restrictive monetary policies. We still expect the Fed to hike the federal funds rate by another 25 bps at its next meeting. We will then decide if we believe another hike would be appropriate after that time. We remain data dependent. At this time, we do not expect the Fed to cut rates this year. We are also becoming more convinced that if the U.S. were to enter a recession this year, it would be a mild one. We still believe that the U.S. might avoid a recession this year.

Given the assumption of many investors that U.S. stocks would begin this year in a downtrend, it was rather obvious to many that the “pain trade” would be that stocks would begin the year with a substantial rally.

We believe that this week’s trading in U.S. financial markets was illustrative of the markets’ shifting focus between inflation and interest rate concerns on the one hand and slowing economic concerns and possible recession risks on the other. This was especially true on Wednesday when Fedspeak remained hawkish even as some disappointing U.S. economic data was released that day. The hawkish rhetoric seems to be focused only on reining in inflation.The divergent reactions of GS and MS stocks in reaction to their earnings.announcements was a stark reminder of the importance of stock selectivity. We maintain our conviction that the U.S. rate of inflation will continue to dissipate more quickly than most investors before “stalling” at a level somewhat above 2%. The profit margins of many companies should be negatively impacted to the extent a slowdown in wage growth lags a slowing rate of inflation.