Market Commentary

Diamond Capital Management's Market Commentary

September 2022

By David L. Franklin, VP, Chief Investment Officer & Manager


Executive Summary:

  • The Fed will continue to raise the federal funds rate aggressively based upon recent economic data.
  • The yield curve remains inverted suggesting the bond market expects economic growth to slow.
  • While not a foregone conclusion, a recession is more probable heading into 2023 due to the Fed policy, but taming inflation will be beneficial for markets and consumers long-term.

Elevated inflation and the Federal Reserve’s response remains the focus of bond and stock markets. All eyes will be on the Fed next week as markets anticipate the third consecutive 0.75% increase to the federal funds rate. The CPI data this week, up 8.3% vs. a year ago, was disappointing for investors hoping the Fed could pivot to a less aggressive restrictive policy stance.
 
The bond market continues to expect a slowing economy as indicated by the inverted yield curve. However, the U.S. consumer remains in fine shape as evident by the August retail sales figures showing an annual growth of 9.1% and the unemployment rate at 3.5%. We believe the economy remains out of the woods for a recession this year, but the risks grow heading into 2023.
 
Presently, good economic data can be a negative for stocks because the Fed will likely interpret positive readings as either inflationary or justification for a more restrictive policy stance. This raises the risk that the U.S. economy tips into a recession due to higher borrowing costs. For example, mortgage rates recently exceeded 6% for the first time since 2008. Note, a recession is not a certainty over the next 12 months. While not our base case, a Fed orchestrated soft landing is still possible.
 
If a recession occurs in the coming quarters, the length and severity may be shorter and milder than recent investors’ memories of a recession. We believe this will be true because of the financial industry’s balance sheet strength and the strength of the consumer. For now, we continue to recommend a neutral strategic position between stocks and bonds & cash with a bias towards higher quality, income producing securities. Longer term, investors and consumers will benefit from the Fed taming inflation.
 

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