Beacon 'Pointe of View'
March 2022

Authored by :
Michael G. Dow, CAIA, CFA, CPA, Chief Investment Officer
Julien R. Frazzo, Director of Risk Management and Securities Research

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The Quick Facts

  • More geopolitical uncertainty, more market volatility
  • The Russian invasion of Ukraine causes commodities to climb sharply
  • Inflation pressure persists with latest CPI data coming in higher than expected
  • Federal Reserve (“Fed”) rate hike odds settled in at one rate hike at the March 16 meeting
  • 77% of S&P 500 companies reported positive earnings surprises for 4Q2021, above the five-year average

February started on a positive note, on the back of the late January rally as investors remained skeptical of a 50bps interest rate hike at the March FOMC (Federal Open Market Committee) meeting. The early rally quickly faded when January CPI (Consumer Price Index) data came in higher than expected, with annualized headline inflation at the highest levels since February 1982 (+7.5% year-on-year) and core inflation at its highest since August 1982 (+6.0% year-on-year). With the hot inflation print came renewed calls from some Fed officials for a 50bps rate hike at the March meeting, further dampening prospects for equity markets in general and growth stocks in particular.

Just as the market appeared to come to terms with the potential of a more hawkish rate hike cycle, the focus began to shift to geopolitics as headlines became dominated by the Ukraine crisis ahead of Russia’s full-scale invasion on February 24. Markets sank on the news of the invasion but quickly rallied back after Western sanctions were initially seen to be less severe than expected. After the intensity of the war escalated over the last weekend of February, harsher sanctions were introduced, including removing some Russian banks from the SWIFT (Society for Worldwide Interbank Financial Telecommunication) network and freezing Russian central bank assets held in the U.S.

The Russia-Ukraine conflict adds uncertainty about the strength of the economic expansion in Europe. While that injects some uncertainty into the global outlook, the U.S. economy appears relatively insulated from the conflict. For individual investors and consumers in the U.S., the effects will most likely take the form of additional inflationary pressures due to higher energy prices and new supply chain disruptions.

February Asset Class Performance

As of February 28, 2022. Source: Bloomberg, Beacon Pointe.

It was a rough February for equity markets in general, with the major averages all posting sharp monthly losses. The S&P 500 was down 3.0% in February (-8.0% YTD) and the Nasdaq Composite index gave back 3.3% for the month (-12.0% YTD). On a total return basis, energy stocks and small caps were the top performers over the month. At the sector level, energy stocks were by far the best performers, finishing up 7.1% – the only sector to close in the green. Communications stocks were the worst performers finishing down 7.4%, followed by REITs, Tech, and Consumer Discretionary, which were all down between 4% and 5%.

With almost 96% of companies having reported fourth-quarter earnings, we have seen 77% of companies report positive earnings surprises, with an average beat of just under 6%, both numbers above the five-year averages. This year, earnings are expected to slow, however, with 8.6% earnings growth expected for the full year. The forward 12-month P/E ratio is 19.1x, which is above the five-year average (18.6x) and above the ten-year average (16.7x). However, it is ~10% below the forward P/E ratio of 21.3x recorded at the end of the fourth quarter (December 31), as prices have decreased while EPS estimates have increased since December 31, 2021.

The 2×10 yield spread (the difference between 10yr and 2yr Treasury yields) continued to narrow during February as 2yr yields climbed to levels not seen since the start of the pandemic. With the 2×10 yield spread now down to 39bps due mostly to the upward move in the 2yr yield, investors are worried the Fed is going to increase rates as the economy is losing steam. There is some room before a yield curve inversion, and even then, a recession typically comes with a lag, but it is a concerning signal to monitor, nonetheless. The market is now pricing in one 25bps rate hike in March and a total of five by the end of 2022. It should be noted that the market had been pricing in as many as seven rate hikes in 2022 in mid-February.

Market volatility increased in February as concerning inflation data and the Russian invasion of Ukraine sent markets lower. The CBOE Volatility Index or VIX traded close to the 52-week intraday high on February 24 – the day of the full-scale invasion – at 37.8. The VIX has slightly fallen back to 30.2 since that day but remains elevated and more than twice the level of the mid-October 52-week lows of 15.0.

Gold futures climbed throughout the month finishing higher by 6.2%. Gold has not really worked as an inflation hedge in this cycle, but the war in Ukraine is testing physical Gold – with success thus far – as a “disaster hedge.” Oil prices (West Texas Intermediate, or WTI) jumped 10.7% when international sanctions on Russia followed the Ukraine invasion.

Bitcoin gained 8.4% in February, while Ethereum gained 5.2%. The crypto “asset class” seemed to have found its footing in February as the slide from the November highs halted. While the inflation hedge narrative for cryptocurrencies has not fared well over the past few quarters, crypto assets did see a boost as new sanctions were imposed on Russia, including removing some banks from the SWIFT network and banning payments from Russia to foreigners. As Russians were struggling to remove their plunging Rubles from their banks, speculators assumed the demand for crypto assets would surge as Russians looked for alternatives.

At Beacon Pointe, we remain confident that our long-term themes and theses of “Financial Repression” and “Inflation Rates and Rotation” remain intact. The situation in Ukraine is fluid and subject to change. Under the premise that the stock markets take into consideration all available information, including present and potential future events, markets will discount any new information very rapidly when unexpected developments occur. We believe that geopolitical risks generally exacerbate trends already in place, but are generally not the catalysts for a new trend. Our portfolios are built to withstand these bouts of geopolitical volatility.

Chart of the Month – the Efficient Frontier

At Beacon Pointe, our goal is to build optimal portfolios on the efficient frontier to achieve the client’s investment objective with the least amount of risk. A combination of assets, i.e., a portfolio, is referred to as “efficient” if it has the best possible expected level of return for its level of risk – which is represented by the standard deviation of the portfolio’s return. The mean-variance efficient frontier is the set of optimal portfolios that offer the highest expected return for a defined level of risk or the lowest risk for a given level of expected return. Portfolios that lie below the efficient frontier are sub-optimal because they do not provide enough return for the level of risk.

As of February 28, 2022. Source: Bloomberg, Beacon Pointe.

Quote of the Month

“Volatility is the price we pay to build wealth.”

– Michael G. Dow, Chief Investment Officer at Beacon Pointe

 

Major Asset Class Dashboard

Major Asset Class Dashboard
As of February 28, 2022. Source: Bloomberg, Beacon Pointe.

 


RELATED LINKS

Russia Invades Ukraine – What Does it Mean for Markets?

Sign Up for Macro & Markets: An Update from Beacon Pointe’s CIO – May 19, 2022

Beacon ‘Pointe of View’ – A Market Update February 2022

 

Important Disclosure: This report is for informational purposes only. Opinions expressed herein are subject to change without notice. Beacon Pointe has exercised all reasonable professional care in preparing this information. The information has been obtained from sources we believe to be reliable; however, Beacon Pointe has not independently verified, or attested to, the accuracy or authenticity of the information. Nothing contained herein should be construed or relied upon as investment, legal or tax advice. All investments involve risks, including the loss of principal. Investors should consult with their financial professional before making any investment decisions. Past performance is not a guarantee of future results.

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