May ended up being a lackluster month, a bit reminding us of what a stock market was like before the pandemic, with good and bad days, but generally moderate growth compared to the first months of the year. At the end of the month, the main stock market indices closed mixed, the S&P500 and Dow Jones growing, +0.55% and +1.93% respectively, while the Nasdaq fell -1.53%.
Already with the excellent results of the first quarter of the year incorporated in the value of companies, the market has shifted focus mainly on macroeconomic aspects and especially the elusive inflation and the future role of the Federal Reserve.
Last year we were at the height of the pandemic, with a volatile and very susceptible market. At that time, the Federal Reserve took extraordinary measures to prevent the economy from going into a severe recession. In summary, the Federal Reserve lowered the interest rate to almost zero and established a plan to purchase treasury and corporate debt in order to improve market liquidity and avoid a deeper crisis. In retrospect, the treatment has been working. Today we are at a point where the recovery is clear and the pandemic controllable, so investors are beginning to wonder, when will the Federal Reserve begin to lift these extraordinary measures?
The peculiarity of these measures is that they are very accommodating. As an example, it is like medical treatment for an addicted patient. Once the patient shows improvement, it is likely that many of those medicines or palliatives that were used will be withdrawn so that the patient returns to his normality but, in the process, there will be withdrawal symptoms. Returning to the financial world, to the traditional investor, the fact that there is a fear of "inflation" may indicate that the Federal Reserve can begin to lift the extraordinary measures faster than expected. For example, raising the interest rate, which would suggest less favorable conditions for investing. This does not mean it is something negative, it means that investing will require a little more judgment and not so much the general exuberance that we were used to see in the first quarter of the year.
How can we face this stage of inflationary pressure and rising interest rates?
Revalue fixed income instruments (i.e. bonds), they are the most likely to lose value in a scenario of rising interest rates. In the financial world, this risk is known as Duration risk. You have to be very selective.
Invest in stocks of companies that generate value. In practical terms companies that consistently show revenue, profit and growth. A good formula to fight inflation.
Review the relationship of return versus risk of the portfolios. Not all companies have the best disposition to face an increase in interest rates, some depend on many of the current conditions so it is not a bad time to reconsider their role in portfolios.
History has shown us that interest rates will not stay low forever, but it is very difficult to predict how fast and how high they can go. My suggestion, be prepared and do not lose focus on your investment strategy. To all those who want an opinion on their portfolios, do not hesitate to contact me and we will review it in detail. I also suggest that before making any changes, consult your Financial Advisor.
I hope you have a good day and I invite you to write to me with your concerns and doubts.
Eduardo Lucca Bianchi