August 2024
Here are some key takeaways from their conversation:
- Tech stocks’ valuations were high due to AI excitement and hype, but recent corrections highlight the importance of true diversification.
- The ISM (Institute of Supply Management) Manufacturing Index indicates a recession in the manufacturing sector, though consumer spending, a major economic driver, remains relatively strong.
- Indicators of financial stress among consumers include low savings rates and rising credit card balances, with unemployment slightly increasing to 4.2%.
- The Nikkei (a stock market index for the Tokyo Stock Exchange) saw significant drops due to the carry trade’s impact and the Bank of Japan’s interest rate changes.
- Chris and Sasan agree investors and consumers should be aware of the ongoing volatility but avoid panicking. Market corrections are necessary for long-term market health, and these volatile times are not unprecedented or insurmountable. It is important to diversify your portfolio beyond traditional stock and bonds to build resilience, and Morton has been preparing for such volatility accordingly.
Watch previous episodes here:
Ep. 96 How Much Do I Need to Retire?
Ep. 95 Does Dollar Cost Averaging Work When Investing?
Hello, everyone, and thank you for joining us for another episode of THE FINANCIAL COMMUTE. I'm your host, Chris Galeski, joined by Managing Director of Investments Sasan Faiz. Thank you for joining us.
Thanks for having me on.
So quick news update. The markets are falling a lot. We'll talk a little bit about why. So stocks are falling like we're entering a recession. Gold prices are moving around a lot. The volatility index is rising similar to how they were in 2020 or 2008, during the financial crisis. Oil prices are falling like demand is about to collapse.
Treasury yields have come down a significant amount in the last couple of weeks with the ten-year Treasury, you know now I'd call it the mid threes. Even the two-year treasuries come down there. And then tech stocks here in the US are falling as well. As if the AI bubble has burst.
We've been spoiled for the last 15 years and especially the last few, where volatility has not necessarily been too much of a concern. It's been a long time since we've had a market correction. We're going to talk a little bit about sort of why this is going on and some of the fear and the headlines around Black Monday.
How did this all start last week? And what are your thoughts about what's going on?
Thanks, Chris. As you mentioned, the AI euphoria was running very high. So valuations in Mega-Cap technology stocks have become very stretched. And we've talked about this for quite a while.
We've been talking about this for months and months and years. In fact, like we've been positioning portfolios in a way to be more diversified, and more resilient because we've been concerned around valuations while others have not.
Yeah. And so what we had last week was actually, I think a perfect storm for the economy. We had the AI sandwiches at the Institute of Supply Management Manufacturing Index that came out, showing that the US economy on the manufacturing side has contracted for eight months in a row.
So actually the manufacturing has been in a recession. The US economy broadly has not because consumption is the big driver, about 70% of the US economy. So that has held up relatively well, even though we've seen some signs that US consumer is under some stress as well because of high interest rates.
Their savings rate is as low as it was in the financial crisis. And then credit card balances are going up as well.
Exactly. And also, there was another economic data that came out on unemployment that, edged up to about 4.2%. So that could be a little bit of noisy data right there. And again, we're not going into a major hard landing right now as far as the US economy is concerned. But there are reasons to be concerned.
So I think the confluence of those events last week and the Tokyo market sold off dramatically 12% overnight, which has led to a major decline in not only the US but the global markets this morning.
Right. And so it was interesting because obviously we were looking at the headlines and what was going on in Asia over the weekend. And then we obviously saw the futures market for the US, and we knew that there was going to be, you know, more volatility today beyond just what we saw Thursday and Friday. And so some interesting points in terms of what's going on over there in Japan.
The Japanese stock market was at an all-time high 17 trading days ago. And in 17 trading days, their stock market has erased 25% of its value in just two days. The last two days of trading, the Nikkei index is down over 18%, posting its largest two day drop in history. You mentioned that it was down 12.5% today or yesterday, which was the largest daily decline since the Black Monday crash of 1987.
So that's where the fear in the headlines of another Black Monday. Why does this always have to happen?
People are kind of wondering why that's happening. And you and I looked into it and there's something called a carry trade that's been going on with Japan. And so a carry trade is something that simple. It's referring to where you're borrowing from a place where there's low interest rates. You're then converting from that currency to another currency.
So in this case from the yen to the US dollar. And then you're buying investments where there's higher interest rates in the US. And so that trade only works if the dollar can be stronger than the yen. And interest rates here in the U.S can remain higher than over in Japan. So the Bank of Japan raises interest rates by a quarter of a percent.
All of a sudden, the yen strengthened by 3% against the dollar. And this amount of leverage has to be unwinded now, causing this steep drop in the Japan market. And here in the U.S., it's because money printing and cheap interest rates eventually is going to come back to bite you.
Yeah. All right. And I think it also underscores the global connectedness of equity markets. So what happens in Japan affects what's happening in Europe. And what's happening over there is affecting what's happening in the US. So again, as you mentioned, even though Japanese markets were, doing really well in terms of local currency, if you convert that to the U.S because the currency was weak, it was actually the return was not good as of this morning, actually, the Japanese market is down about 5 to 7% for the year.
So the returns were not that great if you take the currency into consideration, but valuations in the U.S are high. And also a couple of companies on the Mega-Cap tech stocks reported earnings and they were not spectacular. So that's that's all these factors finally coming together and leading to what could be a fairly healthy correction in the equity markets.
And I think, as you mentioned, in 1987, again, the US economy was doing relatively well and it was more of a technical correction. And I think that's what we're getting right now. It's more of a valuation rather than broader the economy slowing down. Yeah. So that's why it's called Black Monday. And it always happens on Mondays.
I also don't think that we should give up on international investing because valuations are extremely attractive. I mean you look at Japan, they're trading at what, 14 times price to earnings ratio where the global markets are closer to 17. And Japan historically is around the 16 range. So even though Japan is pulled back by about 25 to 30% since their peak, the valuations, they're still very attractive.
And now that, you know, central banks have raised interest rates, they have some tools in their tool belt to stimulate the economy. Now, by all means, I don't think that we're in a situation where the Fed needs to put all hands on deck and lower interest rates. Today, the US equity markets are still up over 10% for the year.
We're just seeing a normal correction and signs of a recession. But it'll be interesting to see what the Bank of Japan, the central banks around the world and the US do.
Yeah, actually, yeah. I think the Fed had the meeting, last week, and the guidance was that maybe there would be one interest rate cut in September. So as of right now, the bond market is pricing in three interest rates cuts in the US in 2024. So we're most likely going to get 325 basis point cut. So maybe 75 basis points over the next three meetings for the fed this year.
So again, the economy is doing all right. But I think we are seeing some signs of slowdown. And the fed is usually late reacting because they're always looking backward on data. And this time may not be an exception there. They may have to raise they may have to lower rates a lot more aggressively going forward.
Those are some good points, Sasan. And you know, look, we've been positioning portfolios here at Morton, to be more resilient and diversified than other places. We've been looking beyond the traditional stock and bond markets for some alternatives, asset classes like real estate, real estate lending, some health care royalties. Just a way to kind of build a more diversified, bigger boat.
And the Olympics are going on right now. And so that caused me to think about, like Olympic athletes, they train and train and train for, for several years just for this one moment in time. Similarly, we've been training and positioning our portfolios to be positioned for this type of volatility and be more resilient because we have such a low exposure to equity markets overall.
I mean, I think it's the lowest in the history of our firm. It is. We have a lot of levers we can pull to help protect a client's portfolio, but also take advantage of opportunity if valuations come to a place where they're more attractive.
Yeah, absolutely. I think we're going to have to keep an open mind if opportunity arises. We will take action. But as you mentioned, even though, yields have come down in the bond market, that would not have been enough to compensate for the drop in the equity markets. So that's why traditional diversification between stocks and bonds is, in our opinion, not going to be enough to protect our investors.
And that's why we look beyond that traditional diversification to, private lending, asset-based lending, health care lending that you mention, areas where we can add value, that's going to be uncorrelated to what's happening in the broader equity markets or interest rate environment.
Yeah. Sasan, thank you so much for your time today. Obviously these headlines and the fear... it's very real. And clients and other people that are looking to invest are looking for answers and things that they can do. If you have any questions please reach out to your Morton Wealth Advisor. We're happy to talk about how this affects you and what we're doing about it.
But I couldn't be more proud of the way we've been able to position things and protect clients. So thank you for everything that you do.
Disclosure: The information presented herein is foreducational purposes only and is not intended to constitute financial advice.Morton makes no representations as to the actual composition or performance ofany asset class. The views and opinions expressed by the speakers are as of thedate of the recording and are subject to change. It should not be assumed thatMorton will make recommendations in the future that are consistent with theviews expressed herein. Past performance is no guarantee of future results. Youare encouraged to seek tax and/or financial advice from your financial advisorand/or tax professional to thoroughly review all information beforeimplementing any transactions and/or strategies concerning your finances
