The final bell of the school year has yet to ring, yet our family calendar already features several summertime fairs. I've always preferred the amusements of the midway games, unreasonably believing I can somehow best the rigged events. My kids, on the other hand, enjoy the thrill rides.
Unfortunately, investing in public markets in 2022 has been a roller coaster ride featuring stomach-churning drops but lacking any enjoyable thrills. The tandem losses of stocks and bonds have left many feeling dizzy, and unlike a roller coaster, there are no visible tracks ahead to offer guidance on what twists the market will take next.
To some, stepping off the ride and into cash is an appealing option, but with inflation measures at decades-long highs, that decision is less attractive than at any other time in recent memory. So, where can investors find comfort?
A long-term perspective is essential to consider when evaluating where things stand. U.S. stock performance during the first four months of 2022 ranks as the third worst on record, but as the graphic below demonstrates, performance following prior instances of severe market pullbacks has often been strong.
While uncertainty remains, several data points point to possible tailwinds for equities moving forward. First, the combined effects of several rounds of economic stimulus and the spending limitations of Covid restrictions have resulted in a near-record $4.5 trillion of assets in money market accounts. That money could flow into riskier assets as investors regain confidence.
Secondly, sentiment among American consumers and investors is deeply negative, as reflected by polls of Americans' satisfaction with the economy and the University of Michigan Consumer Sentiment Index. These have often served as contrarian indicators, reflecting the behavior of individuals at peak uncertainty that eventually reverse.
These favorable indicators certainly don't diminish the pain of the equity market decline, but the current market sell-off has translated into improved expectations for future returns. At current equity market valuations, expected returns have improved since the beginning of the year, providing a source of encouragement during a challenging time. This relationship is reflected in the scatterplot below, which shows the historical relationship between price-to-earnings ratios (a valuation measure) and subsequent annualized S&P 500 returns over the following five years. Note the red-colored points: May 31 is several percentage points higher than Dec. 31.
Putting this all together, our view is that should any of the current economic or geopolitical concerns diminish, there is substantial room for improvement of investor attitudes and an unprecedented amount of cash that could return to markets.
Predicting when or what will jumpstart the market rebound is a difficult task, so avoiding the daily fear-inducing headlines and focusing on long-term financial goals is essential. Over medium and long-term investment horizons, equity markets and balanced portfolios have helped patient investors achieve their objectives despite the dips along the way.
At Johnson Financial Group, we also believe the inclusion of complementary asset classes has the potential to benefit many portfolios. These asset classes and strategies are less dependent on the direction of the stock market, which serves to diversify returns and dampen total portfolio volatility.
Although the financial markets can behave in seemingly unpredictable ways, the expectation for summertime fun is much more probable. I'm looking forward to cotton candy and misshapen basketball rims and avoiding the loop-de-loops of rollercoasters even if I can't do the same in the markets.