The term bear market is generally used to describe an extended market price decline of 20% or more from prior highs which, for the S&P 500 Index at least, was January 3rd, 2022.
The year’s lows occurred October 12th, representing a roughly 25% peak-to-trough decline, and although the market has recovered over 7% above those October lows, the market very clearly remains within the downtrend that has lasted most of this year. 
The book of 2022 has not yet been closed, but if it does close at the current level, 2022 will rank among the 10 worst YoY performances for US equities in the past century. So, if such dismal equity returns are relatively uncommon, and if one is inclined to believe price declines are aberrations from which prices may soon recover, it may be tempting to “buy the dip”. The benefits of disciplined investment approaches and dollar-cost-averaging within a long-term investment plan are well documented, and what follows shouldn’t be interpreted as an effort to discourage that approach, but investors should be aware that experiencing a down year does not necessarily improve the odds that the following year will be a good one. In fact, several disappointing years were followed by another. It’s well known for example the markets declined in 1929, but larger declines followed in 1930 and 1931. 1973 was a bad year for the S&P 500, falling over 17%, but 1974 was even worse falling nearly 30%. The tech wreck started in 2000, down over 10%, but the S&P fell another 13% in 2001 and 23.4% in 2002 respectively as well.
To better understand whether 2023 proves to be a happier new year than 2022 for investors we ought first to try to understand what went wrong and why in 2022.
Ham-handed monetary and fiscal policy – central banks printed money and governments handed it out quickly and, we’re now learning, in many instances indiscriminately and inappropriately. This occurred concurrently with significant supply disruptions. A big increase in the supply of money combined with material decreases in available goods and services and steep inflation, the steepest in over 40 years was the predictable result. Policymakers did not respond quickly when the first signs of much higher rates of inflation emerged in 2021, and in fact repeatedly dismissed it. Like a car drifting off the road, prompt recognition and reversal of their policy errors might have avoided the worst of it, but unfortunately, they ignored dire warnings, and it wasn’t until the car drifted onto the economic soft shoulder leading to a swamp of possible hyperinflation that the hapless policy drivers, who had been steering looking only through the rear-view mirror, began to correct. It was not the inflation itself that caused this year’s equity declines, in fact stocks can and often do rise in inflationary environments in nominal terms at least, but the rapid and harsh declines in living standards and the perverse impacts on savings and investment that high inflation brings would take a toll sooner or later. In any event, finally recognizing their error, the Fed has responded by tightening monetary policy. Higher rates would imply a lower multiple, all else equal, but sharp increases in rates raise capital costs, and create a different type of price increase for consumers (car payments and mortgage payments rise even as the prices remain the same for example), demand slows followed by the economy.
In fact, looking at the 11 worst weeks for equities during 2022 as a guide, I arbitrarily chose all week-over-week declines of greater than 3%, it appears poor economic data such as industrial production and manufacturing activity, retail sales, inventories and sentiment data weighed as or more heavily on equities than bad inflation data and FOMC minutes. Put differently investors weren’t terribly surprised by the high inflation figures – after all they could see it with their own eyes – or the Fed’s response to it; they’re understandably more concerned by how much the economy is slowing in real terms as a result.
Rapidly worsening economic data, and weaker-than-expected earnings results might indicate that it will be exceptionally tough to create a smooth landing while effectively curbing inflation. Year over year the economy generally grows, and equities generally appreciate. Unfortunately, the hangover from the money-printing and spending party, which started in January of 2022 may persist beyond January of 2023. The good news, if there is any that one might take away from all this, is that some investments are finally at valuations where they actually generate a return in the form of coupons or dividends, both of which make short-term price volatility considerably more tolerable.
Will 2023 be a happier year than 2022 was for investors? That will depend on the path investors choose to take. Focus on value stocks – dogs of the Dow perhaps? – and take comfort in actually receiving cash flows. Much has been made recently that publicly traded securities have seen much steeper declines in price than the valuations assigned to private investments in the same assets by their managers. Of course, as Carol Ryan of the Wall Street Journal rightly pointed out, the factors that impact the value of assets will do so regardless of who owns them, but arguably the most interesting part of the debate about the true value of private investments versus public is that investors appear to be happier when they don’t watch the prices of their securities minute to minute or day to day. So, our suggestion for a happier 2023? Buy value stocks and even some fixed-income investments at long last and look at them only as new data regarding their fundamentals is released.
Happy New Year.
