business Monthly Market Update - March 2022 February 28, 2022 The slowing pandemic has given way to a more concentrated risk as we head into March – geopolitical turmoil threatening even higher prices and further damaging delicate and backlogged supply chains. Major shifts are underway in the global financial and political arena. What does it all mean for your portfolio? After years of a relatively stable and quiet ascent in the stock and bond markets, the pandemic came and upended everything. One risk after another has been thrown at the economic outlook over the past few years, threatening to disrupt growth. Main Street and Wall Street have been remarkably resilient, with investors yawning at Covid news, inconsistent jobs reports, and supposedly “transient” supply chain issues. The end of January and February seem to have marked a turning point in showing what really can rattle asset prices. Volatility has picked up substantially as predicted in our last few updates. Price swings in the major equity indexes world-wide were as much as 7-8% within only a trading day or two at several points throughout the month. Domestically, the S&P 500 and NASDAQ hit correction territory before rallying after the initial shock from Russia’s invasion of Ukraine. Bond yields have exhibited sharp movements as well. So, what is supremely driving the rocky ride? Three major concerns—inflation, each central bank’s response, situation in Eastern Europe As the world begins to normalize and recover, it has become clear that the many variables affecting markets seems to have consolidated into three major concerns: inflation, each central bank’s response to it, and what transpires from the horrific situation in Eastern Europe. In theory, these factors could lead us to something no one wants to see – entrenched higher prices and slower growth, or stagflation. The latest figures suggest the US economy is still strong and international economies appear poised to recover. The risks of higher interest rates, the “Fed Put” going away, and potentially emboldened enemies of democracy creating bigger issues for the US and its allies are here and quite evident. The chief concern creating volatility can be distilled down to one thing – broadly higher costs and prices affecting earnings, forcing the Fed’s hand. Covid has taught us many things, one of them being supply chains are very fragile. The complexity of manufacturing goods and distributing them utilizing global trade advantages has been somewhat hidden in plain sight. A relatively peaceful and stable world allowed for price increases to be held in check to a point where it was almost forgotten. With crude oil jumping to over 100 dollars a barrel for the first time since 2014 and natural gas suddenly in even shorter supply, alternative sources of energy are paramount and necessary for security. We are seeing this play out as Europe scrambles for energy independence from a belligerent and unpredictable Russia. In our last market update, we discussed geopolitical concerns possibly replacing Covid as the wild card for the markets. It absolutely has. Despite the Ukrainians’ resilient and valiant fight against an aggressive Russian invasion, the country was originally expected to be under Russia subjugation eventually. Germany and other nations are beginning to provide Ukraine support without sending troops in, potentially prolonging the conflict. Russia has sustained an unexpected number of losses amidst Ukrainian resistance. The situation is fluid and could take several turns. Russia seemed hellbent on installing a pro-Moscow government, most likely reflecting the regime in Belarus, a country Putin is utilizing heavily to ensure Ukraine’s defeat. The fight is symbolic of democracy vs. autocracy, and this might just be the beginning of a much wider conflict. Unfortunately, there is a parallel here, reminiscent of World War II’s early moments when Nazi Germany invaded Poland. Without diving too deeply into the history of the Russian Federation, Soviet era satellite nations and the rest of the world, we must discuss the risks and consequences of potential events going forward. It is an extremely delicate situation dealing with a seemingly unhinged strongman commanding Russia’s nuclear, cyber, and military capabilities. Russia may still be an “emerging market” economy with a collapsing currency and stock market, but this isn’t early 1990’s Soviet Russia. They have energy export leverage, a major ally in China despite putting them in a difficult place and appear to be determined to establish a new world order. The bottom line - this thing could get out of hand in a hurry. Putin has explicitly stated that he believes the land within former Soviet Union boundaries belongs to Russia. Many believe he may be after more, establishing Russian imperialism, and will most likely make a push into NATO territory. At the bare minimum, once Ukraine is taken, his focus could turn to the NATO member Baltic states, which would essentially trigger World War III. Attacking any other country in the surrounding area would be considered an attack on the NATO alliance, and as a result, the US and allies would be required to respond to uphold Article 5, the “principle of collective defense”. The brazen moves by Putin’s forces indicates that he senses weakness and more bold moves may come quickly. While an exogenous shock to markets, Russia’s full-scale invasion is hardly a total surprise. He has tested the waters repeatedly over the past few decades, seizing Georgian territory, annexing Crimea, and consistently undermining Ukraine’s sovereignty in the east. Harsh sanctions have followed Putin’s actions, but they seem to have not phased him thus far and he was most likely prepared for them. The U.S., Europe, and Canada did agree to remove key Russian banks from the Society for Worldwide Interbank Financial Telecommunication (SWIFT) which should cause the Russian economy to experience quite an immediate amount of pain. The loss of Ukraine’s resources and the halting of trade in Russia’s main exports – oil and gas - fans the flames of already high inflation. Europe relies on Russia for some 40% of their natural gas supply, a source of energy that doesn’t just heat homes, but is an extremely important input in manufacturing. Ukraine is a major exporter of many key commodities, especially relative to the rest of Europe, and is home to much of the continent’s arable land. This has made dealing with Russia an unbelievably more difficult and complex task than at first glance. Collateral damage and a domino effect from the current invasion could make things much worse. China’s seizure of Taiwan, among other actions that threaten the west’s interests along with a massive refugee crisis in Europe would complicate the geopolitical landscape and global supply chain issue. Semiconductors, for example, are a major export in Taiwan and are used in just about everything these days. What does all of this mean for our portfolios? Sanctions and reduced trade will be a headwind for the global recovery in the short term. Longer term forces driving the market should always be in focus though. Running for the hills when risks appear large without thinking about how they affect investments in the long term is not a helpful strategy. Instead, we are asking questions such as – Does this negative news (such as a war) precipitate a recession in the US and how does it affect monetary policy? Will it hurt corporate profits and to what extent? What sectors are affected? We have become more defensive after assessing the latest news, yet staying invested is absolutely essential for long term success. Markets have been swift in reaction to new risks but are getting faster in recovery. The periods of downturns-to-recovery (peak to trough and subsequent increases) in asset prices has shrunken from months to weeks to days and now it seems markets exhibit massive reversals by the hour. Investors swoop in to buy the dip and in a hurry, each time there is negative news. We witnessed remarkable intra-day swings in February despite a quick descent in Covid cases globally. With a faster changing world in upheaval since the pandemic, selling out of investments in a panic during these volatile times is becoming even more punishing to investors. Historically, market downturns due to geopolitical events such as wars or conflicts almost always resolve within a matter of days or weeks. Now it seems money isn’t even leaving the market, it’s just shifting into safer havens or asset classes. With higher expected inflation, especially considering the effect Russia’s invasion will have on prices, investors do not have much of a choice other than to be invested. Ideally, this means inflation defensive or fundamentally sound investments. Reading the tea leaves and the potential for volatility and losses globally, we overweighted US Quality factor stocks before Putin ordered Russia to invade Ukraine. We have minimized our exposure to certain international markets for the time being as investors flock to safer assets and havens. Once the dust settles, emerging market countries such as Brazil, India and other nations in Asia may hold the most value in the world depending on the damage done in Europe. We will look to allocate to pockets of value, risk permitting. Bonds are more of a mixed bag. Higher inflation and Fed actions will help to lift mid to long term rates, while geopolitical instability can send investors to government treasuries. Limiting duration but holding steady with credit and investment grade bonds will be where we stay for now. Muni bonds have solid after-tax yield and safety, a key feature at this point. Commodities will play their most important role in decades helping with inflation and acting as a haven. As a final note, my thoughts and prayers go out to the war victims and people suffering in Ukraine, as well as the oppressed around the world. It is a great blessing to have the freedom we all experience. While the global markets process major changes to government and monetary regimes, I look forward to assisting in the stability of your financial future. I am thrilled to announce that I have joined KLR Wealth as your CIO. With the seemingly endless change going on in the world, I aim to be a source of guidance in meeting your investment portfolio objectives. Having managed the investment process for some of the world’s largest mutual funds and ETFs, I understand the gravity and importance of managing money, navigating choppy market waters with discipline and competence. I have worked with all asset classes, managing numerous investment vehicles and fund structures, as a portfolio manager and a chief strategist with firms such as Vanguard, Fidelity, and Citizens Financial Group. My experience includes managing money for both institutional and high net worth clients meeting complex goals. I believe in fundamentals, investing in what you know, taking measured risk, and combining best-in-class managers for return optimization. I take a holistic approach to all portfolios, keeping costs, taxes, and risks top of mind, acting tactically, but always with a long-term strategic approach. I look forward to meeting with you and working with an amazing team at KLR. We will work tirelessly to deliver you the best overall wealth experience, always guiding you along the way!