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December Newsletter 2022




December 3, 2022


Yes Virginia, There Is a Santa Claus

As the turkey’s tryptophan was kicking in (while I was dutifully cleaning up dishes as the Thanksgiving leftovers were being put away), I couldn’t help but reflect on all that has transpired this year. 2022 will not soon be forgotten! The year opened its ugly door early as the stock market highs achieved in December of 2021 were soon erased by the ravages of runaway inflation brought on by the out-of-control printing of dollars to get us through the pandemic and its aftermath. And, not that the supply chain issues weren’t bad enough, the cost of energy then emptied our wallets as the cost of living exceeded our paychecks. In the meantime, the ugly war in Ukraine raged on, just as the illegal immigration at our southern borders exceeded all efforts to control it. With that backdrop, our election cycle heated up and once again created a cloud over democracy.

All the bad news and its uncertainty weighed heavily on the economy and the equity markets, resulting in valuation declines not seen for many years (even decades).  For the most part, we rode out the turmoil on the backs of the seasoned fund managers we rely on to achieve our long-term investment goals. With few exceptions, our managed equity portfolio remains intact today. As previously reported, we did make hard decisions to sell several funds that we deemed to no longer fit within our demanding criteria. Those funds have now been eliminated and the losses have been realized and the proceeds from the sales have been reinvested in the remaining long-standing funds in our equity portfolio. The decisions were not made lightly, and we firmly believe that the changes will result in strong total returns in the future as the economy moves through the impending recession and the eventual recovery.

The income portfolio was also negatively impacted as the Fed raised its borrowing rates in its attempts to reduce the excessive inflation rate. The underlying fixed interest rates in the existing income portfolio forced the value of that portfolio down, even though the majority of the fixed income positions would eventually mature at face value. We were then forced to make another hard decision to sell a portion of the non-maturing positions and take real losses to enable us to rebuild the bond ladder at the new and higher rates of interest. We have recently been buying investment grade notes and bonds at rates of five and six percent with maturities in five years or less.

So much for looking in the rearview mirror. Our tactical decisions made in October and November are already showing signs of success. In addition to the changes noted above, we are systematically and incrementally increasing our equity exposure to continue to provide consistent and satisfactory long-term results reflective of pre-pandemic Investment Policy Statement allocations. Laura prepared the graph below that clearly shows the upturn in our aggregate managed portfolio from September 30th through November 30th. Considering the sharp decline from December 31, 2021, the visual impact is impressive and can be viewed in comparison to the previous up-turns reflected on the graph.

The seven percent aggregate portfolio (on a roughly 52/48 allocation) return from September 30th through November 30th depicted in the graph above included Equity Portfolio returns of almost twelve percent and Income Portfolio returns of almost four percent. Each client’s total return will be a function of that client’s equity/income allocation during that period (note that the returns are NOT annualized and represent returns for just the two-month period). For example, our typical client portfolio with a 60/40 portfolio allocation received a total return of roughly one percent more than the typical client portfolio with a 50/50 portfolio allocation.

Younger clients with the time frame to be more aggressive and take even more risk (with equity allocations above 60%) earned an additional one percent or more than their 60/40 counterparts. In this case, the additional equity risk allocation paid off. Note that I am not suggesting that taking more risk makes sense for all clients, as each client’s risk profile is a function of each client’s goals based on many factors, including age, life expectancy, short-term needs, etc. However, this does illustrate our decision to generally increase most clients’ equity allocations to their pre-pandemic allocations. That decision was made, in part, by the need to produce increased returns to keep up with the new inflation rates which are much higher than anything anticipated when earlier versions of the Investment Policy Statements were prepared. The decision was also based on new expectations of economic recovery as soon as 2024. As the securities markets are leading economic indicators, it would not be unexpected to see markets recover in advance of economies coming out of a recession.

So, with the best two months’ performance in years, it appears that we could end 2022 with a much-needed Santa Claus rally. Just as in the 1897 newspaper story about an Irish immigrant’s daughter questioning Christmas gifts, and the 1991 holiday movie of the same name: “Yes, Virginia, there is a Santa Claus!” In spite of the continuing inflation and the Fed’s raising rates, almost monthly, Black Friday and Cyber Monday both produced a major surge in holiday shopping; proving that the consumer will continue spending which keeps the economic engine fueled for more growth. Helping that trend is the recent reduction in gas prices that produced record numbers of travelers over the Thanksgiving weekend. Both trends resulting in a model growth estimate by the Atlanta Fed predicating fourth quarter growth of almost three percent. These trends will not produce positive market returns for the full year, but after being on track for the worst year since 2008, we will all breathe a sigh of relief as we look forward to better outcomes in 2023 and beyond. There will certainly be more economic pain as the Fed continues its quest to reduce the inflation rate, but at least there is a plan in place to recover to more normal times. If corporate America can profitably navigate the demand/supply equation, while coping with the employment pressures, we can expect valuations to rise accordingly once again. In the meantime, the perceived bargains give us the opportunity to “buy low” and bolster all portfolios to produce total returns more in line with our historic returns. To that point, the income side of the total return equation continues to produce cash flows from interest and dividends in the five percent range to fund distributions for all portfolios “in distribution”.

Both James and I have been working as hard as we can remember rebalancing all client portfolios to achieve the above expected results. You will notice that our Active Management approach to portfolio management has been in high gear the last two months, with the expectation that all portfolios will be well-positioned going into 2023 and beyond. Please contact either of us if you have any questions.

We expect that 2023 will be a very busy year as all of us prepare for the move to the Charles Schwab Institutional platform. You will continue to receive communications in this regard, and you can contact Laura or Helen for answers to your questions.

As we enter the holiday season, please stay safe and enjoy family and friends as we celebrate the close of 2022.



Intelligent Investment Management, LLC