Amidst a difficult backdrop and recessionary signals flashing, it can be difficult to find signs of optimism for advisers and their clients.
Doug “Buddy” Amis, president, and CEO at Cardinal Retirement Planning said that a silver lining of the current bear market is that markets look to be holding their efficiency.
“While managing retirement portfolios, we are creating recurring income distributions and have had no trouble selling fixed income and equity positions,” he said.
This dip in asset prices represents a good opportunity for long-term investors, indeed, many have been waiting for a moment like this to buy-in.
Value traps and margins of safety
That said, stocks are not suddenly better value because they are cheaper, and value traps can be a difficult area to navigate.
“The current mismatch between supply side economics and consumer demand is unlike anything in recent history,” said Amis.
“Separating companies with strong supply chains, sustainable margins, and growing market share from truly ailing companies in the current market environment is easier said than done.”
He added that the high level of liquidity, combined with rising interest rates is creating a lot of noise making the true signals harder to identify.
“If investors take a truly long-term approach, mimicking the infinite time horizon used by Warren Buffett, their selections should represent companies with wide moats and a margin of error, which are necessary characteristics to avoid a value trap,” Amis added.
A key component of value investing is building in a margin of safety – purchasing a security when the market price falls below its intrinsic value.
“Given the lack of a crystal ball and broad market volatility, there are going to be opportunities to find value stocks that have a margin of safety,” he said.
While an investment margin of safety is important, Amis stressed that a personal margin of safety is equally key.
“A personal margin of safety that advisers can recommend to their clients is around cash management and emergency funds,” he noted.
The extreme bear
GMO’s chief investment strategist and legendary investor, Jeremy Grantham is known for his bearish views and predictions on asset bubbles.
He expects a -7% annual return for US large-and-mid-caps through to 2028 and expects the S&P 500 could plunge a further 25% ahead of a weak earnings season.
Anessa Custovic, Cardinal’s chief investment officer, believes that is incredibly bearish – even by his standards.
“That’s a 7% decline every year for 6 years,” she said. “Historically, we have never seen anything like this, not even during the Great Depression.
“Since 1900 we haven’t seen consistent annual negative returns for the S&P 500 index lasting more than four years so saying that we will see consistent losses for large-caps for the next six years is outlandish for me.”
Housing and commodities
Grantham looks for two indicators when avoiding buying stocks in a highly-rated index, the first being a rapid rise in house prices.
“I see housing cooling already,” said Custovic. “We’ve seen mortgage applications drop indicating slowing housing demand. It will take a bit for this to translate into slower growing housing prices, but I think we will start seeing that in the next few months.
“We’re already seeing reports that the New York and New Jersey housing markets are cooling and seeing demand decrease, both of which were very hot markets just a few months ago.”
Grantham’s second indicator is supply shocks on commodity prices.
“Supply shocks on commodity prices are harder to judge as these usually aren’t easy to scale up or down,” she said.
“With oil drilling it takes months if not years to scale up operations so I don’t expect these to ease as much on the supply side. However, we may see some demand destruction which will ease the pricing pressure due to supply constraints.
The war in Ukraine will continue to have huge impacts on commodity prices.
“Russia and Ukraine are huge exporters of commodities, including fertilizer, and we will see a supply squeeze as the war drags on,” she finished.
