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The Cornerstone Investment Commentary: Year-End 2022

Investment-wise, 2022 was a year that couldn’t end soon enough; global inflation and interest rate hikes combined to spark the worst stock returns since 2008 and the worst bond returns in over forty years.

Specifically, the major stock market categories fell 15-20%, with value stocks declining 5-10% and growth stocks tumbling 30-35%.  The overall bond market fell nearly 14%, with long-term bonds plunging 25% and short-term bonds falling 4%.  Only commodities and cash produced positive results.  Being mindful that those who do not learn from the past are destined to repeat it, we can draw several lessons from 2022’s disappointments before turning the page into 2023:

  • Equities rose 20% annually, on average, from 2019-21.  2022 wiped out one of those three years.
  • While equities fell ~18%, that had occurred by mid-June.  Gains were 5-10% since then.  Value stocks fell far less than growth stocks.  This is better than if both had declined 18%.
  • Foreign stocks fell less than U.S. stocks (-16% vs. -19%) due to the dollar’s decline that began last Fall when U.S. (but not European) inflation data started to improve.  More on this below.
  • Many people were surprised by the size of the bond market decline (-14%).  But this result wasn’t that surprising given the size of Federal Reserve’s (Fed) interest rate hikes.  Bond values fall when interest rates rise, and intermediate and long-term bonds always fall more than short-term bonds (~85% of your bond holdings during 2022).  Because we did this, your bond holdings fell a bit less than 5%, side-stepping about 2/3 of overall bond market losses and improving your 2022 results.
  • A ‘fun’ fact:  Last year, 11 of 14 large brokerage firms predicted an S&P500 gain for 2022.  Oops!

With this in mind, several items seem the most important parts of the economic landscape as 2023 begins:

  • Will the U.S. experience a recession?  If so, it should be a mild one given the strength of the labor market.  Unless unemployment rises significantly, consumer spending shouldn’t fall much.  In a weakening economy, government bonds hold up better than corporate bonds.  And with the Fed still raising rates, an emphasis on shorter-term bonds, as you hold currently, is what you want.
  • Inflation has slowed.  From 1JUL – 30NOV, it rose just 1.0%; ‘core’ inflation (excluding food and energy) was up 2.0%.  This is steadily driving down the year-over-year data.  Fed policy is working.
  • After stalling this summer, a recovery made a good start last Fall – especially in foreign stocks – as the Fed slowed its interest rate increases.  With a material part of your portfolio down ‘only’ about 5%, patience is needed for those holdings that fell much more to continue their recovery.

We are pleased that your portfolio (healthy allocations to foreign and value stocks plus fixed income that emphasized short-term and U.S. Government bonds) gained back as it did last quarter.  For 2023, the only change is to maintain about one-tenth more in foreign stocks, with less in U.S., than a year ago.  As always, we will be watching how markets react to the various economic events that unfold this year.

With wishes for a good and healthy 2023, we thank you for the continuing opportunity to work together.