What I Care About This Week | 2022 Feb 14

motherland monument among green trees on embankment in kiev
Photo by Max Vakhtbovych on Pexels.com

by Franklin J. Parker, CFA

The Summary

  • Lots of big news swirling around. First, tensions at the Russia-Ukraine border have intensified, with US officials warning today that military action may begin within the next few days. This has created significant jitters in markets, as a Russian invasion of Ukraine generates significant uncertainty around a US response. Though a military option is not on the table, the Biden administration has repeatedly said that targeted and painful sanctions are. As we have discussed here before, however, sanctions are painful to everyone, not just the target. Investors, at any rate, are in a wait-and-see mode.

  • Inflation posted last week at the highest level in 40 years, a startling 7.5% (though economists were expecting a 7% rise). This has pushed investors to reevaluate the path of Fed rate hikes and monetary policy. St. Louis Federal Reserve president Bullard threw gasoline on that fire with his comments that he sees the Fed raising rates by half a percent in March, with a full percentage point increase by summer. This was a shock to markets as it represents a significantly more aggressive stance than previously expected. I see the Fed as unlikely to follow such a path, though recent inflation figures suggest that it is warranted.

  • Earnings season continues to be fairly good, of the 72% of S&P 500 companies that have reported, over three-quarters of those have beaten expectations. Revenue growth has been quite good, but inflation is a hot topic on earnings calls. Inflation can be expected to erode profit margins over time: as companies begin losing pricing power in the marketplace, they are forced to eat their higher costs, which hurts profits over time. Investors will be watching closely in coming quarters to see how bad inflation is compressing margins—to date, companies have been able to increase prices to keep margins steady.

  • My investment outlook has not shifted. It is still my view that we have a bit more downside to go, though I will readily admit that judging short-term swings is very very difficult. Inflation and the Fed are likely to keep volatility elevated over the coming six months. As I have said before, I do not yet see this as a recession and this downswing is likely to be short-lived, in my view. In the end, exactly how you position your portfolio is dependent on your goals, time horizon, and willingness to watch your statement value move.

The Details

I listened to a very interesting interview with Ryan Peterson, CEO of Flexport, last week on the All In podcast. There were several eye-opening points made about the current and future state of our supply chains, two of which were particularly concerning.

First, and most concerning: ports along the entire west coast of the US, Mexico, and Canada are operated by a single union, the International Longshore and Warehouse Union. As it turns out, their contract expires in July of 2022, and the last time their contract expired, there were severe disruptions to shipping. With ports already overloaded, disruptions this year could be catastrophic. The Wall Street Journal reported back in November that the union appears to be ready to dig in.

Second, the international maritime regulatory body (which sits under the United Nations umbrella) will require every fossil-fueled ship to reduce emissions by 13%, starting in January 2023. Of course, most ships cannot simply flip a switch to make that happen, and many of the technological innovations to reduce emissions have already been brought to bear. The only real way to immediately accomplish this objective is to reduce the speed of the ship, which, in turn, reduces emissions but also reduces the number of trips available within the same period of time.

Both of these points are enough to generate concern that our supply-chain woes have not yet peaked. Investors should keep a close eye on both developments and make provisions accordingly.

Chart of the Week

This week we look at an interesting graphic produced by Reuters detailing current Russian military positions, and possible paths of invasion into Ukraine. I must admit my amateurishness in this area, so I will refrain from commenting on possible motives and objectives of the Russian Federation. In the end, I am left to watch the events unfold along with everyone else, though some risk control here is warranted. War is an unpredictable thing, and with US/NATO troops all around Ukraine the risk of a wider conflict is not zero.

This document is a general communication being provided for informational purposes only. It is educational in nature and not designed to be taken as advice or a recommendation for any specific investment product, strategy, plan feature or other purpose in any jurisdiction, nor is it a commitment from Directional Advisors to participate in any of the transactions mentioned herein. Any examples used are generic, hypothetical and for illustration purposes only. This material does not contain sufficient information to support an investment decision and it should not be relied upon by you in evaluating the merits of investing in any securities or products. In addition, users should make an independent assessment of the legal, regulatory, tax, credit, and accounting implications and determine, together with their own financial professionals, if any investment mentioned herein is believed to be appropriate to their personal goals. Investors should ensure that they obtain all available relevant information before making any investment. Any forecasts, figures, opinions or investment techniques and strategies set out are for information purposes only, based on certain assumptions and current market conditions and are subject to change without prior notice. All information presented herein is considered to be accurate at the time of production, but no warranty of accuracy is given and no liability in respect of any error or omission is accepted. It should be noted that investment involves risks, the value of investments and the income from them may fluctuate in accordance with market conditions and taxation agreements and investors may not get back the full amount invested. Both past performance and yields are not reliable indicators of current and future results.

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