INSIGHTS FROM FIRST FOUNDATION

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War in Europe: The Great Recalibration

| 3/8/22 11:34 AM
3 minute read

The S&P 500 saw one of its worst days since the Great Pandemic on March 7, as it saw a decline of -2.95% on fears that a full Russian oil boycott by the United States and its European allies would send the global economy into a recession. While it seems that investors have endured bouts of volatility, it has been awhile, as 2021 experienced only one 5% pullback. Going back to 1942, on average we see a 5% pullback about three times a year and a 10% correction about every year and a half.

So, what do we know so far:  

  • Global commodity prices have surged with the Russian-Ukraine conflict given the large production of oil, natural gas, neon gas, industrial metals, wheat, and corn within the two countries. 
  • In short, the global economy has rapidly shifted from its main worry of a semiconductor constrained supply chain to an energy constrained supply chain.
  • The VIX has shot up to 36 after dropping below 30 after the initial first strike by Russia. 

What do we expect from here:

  • Continued recalibration of risk and reward on a global scale.
  • Volatility will remain within the marketplace as geopolitical headlines will drive markets short-term and fundamentals take a backseat.
  • Global and domestic equities look for a floor. There’s still over $5 trillion in money market and savings accounts and over $7 trillion sitting on domestic corporate balance sheets waiting to be deployed. 
  • Institutional investors putting cash to work from tail risk hedges and corporate buybacks (estimated to be $1 trillion this year) should help. 
  • A divergence on central bank policy: The Fed continues its path to normal (we continue to expect 4-5 rate hikes this year) while the UK and ECB take a pause.
  • We are not expecting a credit crisis such as the last time Russia defaulted on its debt in 1998. (The S&P 500 fell 11.6% within 2 weeks but quickly recovered to gain 13.8% over a the next 6 months.) 
  • We expect peak inflation to now be reached further down the road in 2022. 

What will calm investors down:

  • De-escalation between Russia and Ukraine 
  • Stabilization of oil prices 
  • Continued path to full reopening for global economies (we’re coming up on two years of the California stay at home order!)
  • Measured and thoughtful “Fed speak”
  • No major widening of credit spreads
  • The yield curve continuing to drift slowly higher and no inversion
  • Corporate fundamentals continue to show resilience 
  • No weakness within the U.S. consumer

What should investors be considering: 

  • Reviewing their risk and return profile with their advisor.
  • Diversify within and across asset classes, don’t bet on a single style such as growth or value.
  • Consider near-shoring and on-shoring and deploying capital in areas where domestic consumers drive results and are less affected by global news, such as small and mid caps.
  • Consider rebalancing back up in equities if portfolio exposures are below their long-term asset allocation targets as volatility begins to drawdown. 
  • The re-opening of the domestic economy is still on track and thinking about consumers moving from goods back to services.

We still believe that a domestic recession is not in the works for 2022 nor is this the end of the current bull cycle. Even with the 10% year-to-date correction for the S&P 500, over the last 14-months the S&P 500 has returned almost 19%, an astounding number. There are still many reasons to stay positive on as a long-term investor. Valuations are more attractive now than the start of the year and many global economies have yet to see the amount of re-opening that the U.S. has enjoyed so far. Both corporate and household balance sheets are strong. The unemployment rate is at 3.8%. Stay the course. Stay diversified.

IMPORTANT DISCLOSURE INFORMATION    

Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment, investment strategy, or product (including the investments and/or investment strategies recommended or undertaken by First Foundation Advisors), or any non-investment related content, made reference to directly or indirectly in this blog will be profitable, equal any corresponding indicated historical performance level(s), be suitable for your portfolio or individual situation, or prove successful. Due to various factors, including changing market conditions and/or applicable laws, the content may no longer be reflective of current opinions or positions. Moreover, you should not assume that any discussion or information contained in this blog serves as the receipt of, or as a substitute for, personalized investment advice from First Foundation Advisors. Please remember that if you are a First Foundation client, it remains your responsibility to advise First Foundation, in writing, if there are any changes in your personal/financial situation or investment objectives for the purpose of reviewing/evaluating/revising our previous recommendations and/or services, or if you would like to impose, add, or to modify any reasonable restrictions to our investment advisory services. To the extent that a reader has any questions regarding the applicability of any specific issue discussed above to his/her individual situation, he/she is encouraged to consult with the professional advisor of his/her choosing. First Foundation Advisors is neither a law firm nor a certified public accounting firm and no portion of the blog content should be construed as legal or accounting advice. A copy of the First Foundation Advisors’ current written disclosure statement discussing our advisory services and fees is available for review upon request, or at firstfoundationinc.com.  Please Note: First Foundation Advisors does not make any representations or warranties as to the accuracy, timeliness, suitability, completeness, or relevance of any information prepared by any unaffiliated third party, whether linked to First Foundation Advisors’ web site or incorporated herein, and takes no responsibility therefore. All such information is provided solely for convenience purposes only and all users thereof should be guided accordingly.

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