Markets have been reinforcing their age-old, but oft forgotten truth that they do not wish to be timed. It has been a painful reminder for much of Wall Street, where investment strategists were caught wrong footed at the beginning of the 4th quarter, when they were decidedly bearish and broadly in agreement. Santa Claus came early. The stock market had its best quarter since the fourth quarter of 2020, depriving those on the sideline of the opportunity to nearly complete the recovery from the 2022 bear market.
It is so hard to be a forecaster, so why do so many investment professionals try? At some level, it is expected of them. Afterall, everybody wants to know “what’s going on in the market” and what might reasonably lie ahead. Humans are not hard-wired to think probabilistically, but relate to narratives, and crave a sense of certainty in an ever-uncertain world. Chief Investment Strategist is also a very well-paid job, and you are not going to get that job if your writing sample includes “I have no idea what the future might hold.” So, the forecasters will continue to forecast, and the investors will continue to listen, but hopefully with some dose of skepticism.
Jason Zweig, a financial journalist at the Wall Street Journal, puts it succinctly, so let me end this topic with his words: “An outlook is an aftercast, based not on what is likely to happen, but on what has been happening. If markets have been doing well lately, then the outlook will be positive; if they have been doing poorly, then the outlook will be negative.”
The Market at an All-Time High
On January 19, the stock market, as measured by the S&P 500 Index, had its highest close since January 3, 2022. That sounds euphoric, but another way to read that, is that it has taken the market a full 2 years to reach its prior high. Time will tell what lies ahead, but don’t try to time it. Easy advice as always, but so tempting to ignore in a year that promises political turbulence, unresolved international conflicts, and perhaps a recession that was on a delayed fuse instead of disarmed by last year’s resilient economy.
Frustratingly so, to those having to feign foresight, it seems equally likely that things are about to get better or worse. I don’t think the 50/50 odds make for a bad starting place, however. High, but declining interest rates will be a boon for stocks if things go well and will create price appreciation for bonds, if things go poorly. A few years ago, there was no return potential on the safe side of the portfolio (bonds), and no safety on the return side of the portfolio (stocks). At the dawn of this year – for the first time in years – the risk on the stock side can be somewhat offset by attractive starting yields on the bond side. A balanced portfolio may finally deliver what it was designed for: a balance between growth and safety.
Crypto is Back
I should reread some of my old newsletters, as I am pretty sure there was a promise in there somewhere to stop writing about crypto. But I am tempted again and what is the root cause of all crypto, if not temptation? Bitcoin had a fantastic 2023, up 150%, after exiting a fierce 13-month “crypto winter” that saw the digital coin fall from a high of $68,569 in November 2021 to a December 2022 bottom of $16,855, a 75% decline.
There are plenty of narratives to explain the current crypto summer (not a term), but one that provided some rocket fuel in the last few months, was the increasing likelihood that the SEC would finally approve spot bitcoin exchange traded funds (ETFs). And it did so on January 10th, 2024. A slew of new ETFs came out from seasoned, mainstream investment managers such as Franklin Templeton, BlackRock and Invesco. One might argue, if these blue-chip investment managers came out with crypto funds, it must be a legitimate asset class. But much of the investment industry revolves around gathering securities and wrapping them in a product, with a fee, not a bow. These firms will make money on crypto, and it was entirely logical that they should jump in, in service of their shareholders’ bottom-line. Be that as it may, these ETFs do make the crypto world a little more regulated, which is probably a net positive. Though even that argument is somewhat shaky, if better, more regulated access permits more investors to speculate.
So what happened the moment the bitcoin ETFs came to market? They plummeted, along with the price of bitcoin. A classic case of “buy the rumor, sell the news.” Of course, it could have also been a classic case of a hot IPO; but it wasn’t. Is this the beginning of the end of crypto? No, it’s probably the end of the beginning. But that timeline positioning gives me zero insight into where the price might go over the next year. Therein lies my fascination.
It’s All About the Vintage
I do not have the discerning palate to become a wine connoisseur. I could settle for wine snob, but that requires some comfort in flinging around phrases like “subtle notes of peach” and “earth tones reminiscent of my time in Provence,” or “what kind of barrels was this wine aged in?” and I am not willing to go there. However, you can blindfold me, and I will be able to tell you whether the wine I just blind-tasted was good or not. And vintage matters. No prior knowledge required: just spend some time in the grocery isle comparing the prices of the same varietal across different years. Here comes the segue: vintage matters too when it comes to life’s financial milestones. The first-time home buyers Class of 2012 was a great vintage, unlike the Class of 2006. If you graduated college in 1999, a detectible heart rate virtually secured a job. The Class of 2009, however, struggled for the better part of a decade to get a firm foothold on the career ladder.
Unfortunately, we cannot force the ideal economic backdrop to coincide with our financial timeline, in terms of retiring, getting a job, or coming into an inheritance. That brings me to the retirement class of 2024, which I think is a particularly good vintage for workforce graduates.
Why, might you ask? Afterall, stocks are not particularly cheap and the chance of a recession in the next 12 months remains elevated compared to the long-term average of a 15% chance. The reason is that interest rates are higher than they have been in a generation, but are likely to trend lower. At the same time, inflation has probably peaked but is unlikely to settle at a benign 2% for some time to come, if ever. Against this backdrop, retirees who are dependent on portfolio income, are well positioned. Their bonds will pay more than they have in a long time and have the potential to appreciate as rates trend lower. However, rates are unlikely to dip too low and stick there, which would drive down the yield (income per dollar) of their portfolios.
Green Stocks That Are in the Sweet Spot
I have written at some length about the challenged environment for clean energy stocks, despite state & federal government support, strong growth in generating capacity, and cost parity with fossil fuels. Part of the explanation, is a plain case of an investor hangover after 2020, when these stocks were up 140-230% as measured by the various ETFs that cover the space. If one sticks around long enough, there will probably be another eye-popping return year. But currently, there is also a way to play it safer. There are a number of green stocks that look somewhat like Utilities. They are called “yield cos” and sell clean power at contracted prices, often to Utilities that are captive (quasi parent companies).
Utilities have been quite volatile in the last two years—crushing the market in 2022 and being crushed by it the following year. Only 1/3 of the largest North American utilities have delivered positive total returns since 2021. Interest rates are to blame, making it more expensive to roll over debt for Utilities, while making their cash flows less attractive to investors, who can now earn decent returns in Treasuries without worrying about market exposure. Yield cos are less safe than Utilities, but affected by the same forces, so they have fared even worse.
That brings us to today, where yield cos are priced to earn attractive yields and may turn out to be loaded springs that could see their share prices jump if interest rates do indeed trend down. The ones I have invested in include NextEra Energy Partners (NEP), Atlantica Sustainable Infrastructure (AY), Clearway Energy (CWEN) and Brookfield Renewable Partners (BEPC). Whether any particular stock is advisable, is client,- and situation-dependent. However, it’s worth looking at Utilities exposure for your portfolio and within that context, yield cos are an attractive – be it riskier – and greener complement.
I strive to weatherize my clients’ portfolios but unfortunately, I did not extend that same courtesy to our home. It feels like spring now, but we had a nasty ice storm recently that left a week of cold weather in its wake. We had a pipe burst, which forced me to familiarize myself and eventually the fire department, with how to shut off our water main. It took me an hour, but next time, it will be quicker, I told my family. Silver linings: installation of a water shut-off inside the house, a remodeled garage, and appreciation as an investor for how laser-focused insurance companies are on trying to not pay and protect their shareholders’ capital. If you don’t know how to shut off your water, maybe give it a try.
May you enjoy what is left of the winter season and if it’s not your favorite, be comforted in the knowledge that it has always given way to spring.
Jan P. Schalkwijk, CFA
JPS Global Investments