Athos Capital Advisors – Monthly Newsletter – June 2022
Quote of the Month
” The inside of the stock market — which is the best economist I know, and which I’ve used every cycle when I have invested — is saying there’s something not right here.” – Stanley Druckenmiller
Market Performance
Market Commentary
June was another volatile month across stock and bond markets with the S&P 500 officially falling into a bear market (defined as a decline of 20%) and the Nasdaq falling 30% from its all-time high. Stocks posted their worst first half of the years since 1970. Energy stocks, previously the only bright spot in the market, were the worst performing sector as oil & gas prices abruptly fell on concerns a looming recession could curtail demand. Bonds also continued to decline and have posted the worst first half to the year in over 50 years. It has been extremely rare for both stocks and bonds to fall in tandem and the result has been one of the worst starts to the year ever for the 60/40 stock bond portfolio (see chart below).
On the bright side, our suite of Interval Funds continue to perform and generate consistent returns with high income and extremely low volatility in a very unpredictable and volatile market. The sell off in stocks and bonds has brought valuations back to more normal levels but stocks in particular likely have further to fall as earnings downgrades being to roll in. The current trajectory is setting up to eventually have an attractive re-entry into equities. Patience is important.
Interest rate volatility & expectations
Volatility has been caused in part because expectations for Fed rate hikes have moved dramatically in both directions. The market is now expecting the Fed to raise rates to 3.4% by the beginning of 2023 and then will quickly begin to lowering rates. We will see…
The US 10 Year Treasury Yield has risen sharply which has put pressure on long duration assets with cash flows far out into the future
Recession fears
Recession fears have been elevated and consumer confidence has fallen to an all-time low. Such negative sentiment tends to feed on itself and can become a self-reinforcing trend.
Valuation compression
Stock market valuations have come down meaningfully but still remain somewhat elevated. The biggest risk to the market and the next shoe to drop is a decline in earnings, estimates of which have yet to budge and are very likely to fall over the coming quarters.
Earnings revisions have yet to happen
Monetary policy expectations – looking for signs of a bottom
The stock market tends to bottom once participants have confidence the Fed is going to begin lower interest rates. We still have a ways to go until this happens. A shift towards more accommodative monetary policy is one of the key things we are looking for to become aggressive again. Until then it is a capital preservation environment.
Leading sectors within the stock market are predicting a bleak economic outlook
As famed investor Stanley Druckenmiller always says “the best economist I know is the internals of the stock market”. Two of the most economically prescient sectors, Homebuilders and Transports, have rolled over despite posting record earnings.
A historically bad year for portfolio diversification
The chart below shows every down year in the stock market over the past 50 years. In each of those down years for stocks bonds produced a positive return. Breaking this trend has been a huge break from the past and has challenged the classic portfolio diversification principle of balancing stocks with bonds to reduce risk.
On the bright side, yields on fixed income have risen to levels that suggest greater return potential and diversification benefits. We are watching this very closely.
Tug of war between long duration and short duration assets
The tug of war between long duration assets (tech stocks, biotech, companies with earnings far out into the future) and short duration assets (energy, dividend stocks, bonds, assets with cash flows now) has been intense with the market gyrating between the two as it looks for direction.
Biotech stocks are a good proxy for long duration assets and they have rallied lately after a long painful decline.
Interval Funds continue to perform strongly
Athos Capital’s Interval Funds have continued to perform very strongly in a challenging market. We continue to think these are the best assets to own right now and expect them to do well in a range of economic scenarios while providing income and exceptionally low volatility returns.
Yields on bonds are beginning to look more attractive
Yields on fixed income have risen sharply, now offering investors improved returns and greater diversification benefits.
At the same time, this reduces the attractiveness of dividend paying stocks which could put further pressure on the stock market.
