In Q1 of 2023, global stocks gained nearly 7% in the first quarter, continuing the upward momentum that we saw in Q4 of 2022. Bonds also posted healthy returns, with the US Aggregate Bond Index returning almost 3% in just three months. Despite these investment returns, the quarter will be more remembered for a series of unnerving headlines.
Fed Interest Rate Hikes: The Fed continued their plan of action to combat inflation by increasing the target Federal Funds rate by 0.25% in February and another 0.25% in March, to a target range of 4.75% – 5.00%, a 16-year high. Despite increasing the target from 0.25% to 5% in just 13 months and signs of inflation moderating, it is still unclear when inflation will get back to the Fed’s target level of 2% without further hikes and a possible recession.
The Silicon Valley Bank Collapse: On Friday, March 10, regulators took control of Silicon Valley Bank as a run on the bank unfolded. Two days later, regulators took control of a second lender, Signature Bank. U.S. policymakers then addressed the stress in the banking system by pledging to ‘backstop’ all deposits and creating the Bank Term Funding Program (BTFP) to support other potentially vulnerable banks in efforts to contain the situation.
Rumors of Dollar Decline: In the last week of March, the Brazilian government announced that it reached a deal with China to trade in their own currencies rather than the dollar. This announcement led to speculation that the dollar’s “reign” may be coming to an end, and online rumors of an imminent dollar collapse.
Sounds bad, right? But as usual, that’s not always the whole story. Here are some things to consider:
- Headlines will focus on the bad news. Always keep in mind that headlines will tend to focus on the negative, because bad news sells.
- Who else benefits? If you encounter a story online about the imminent dollar collapse story, stop and ask yourself, “what do they have to gain by publishing this story”? Is it journalism or is it an advertisement? Take a closer look and you may discover a link to “Buy Gold and Silver Here.”
- Take a longer view. Rarely will financial journalists put stories in a broader historical perspective. For example, let’s zoom out and look at the Fed Funds rate over time. As you can see in the chart below, the current Fed Funds rate (4.75-5%) is more in line with historical levels than the 0% level it has been at since the onset of the Covid pandemic.
- Similarly, let’s take a longer view of the value of the dollar against other major currencies over time. Does it look like investors are betting on a dollar collapse?
- Certainty is an illusion: Those promoting fear and anxiety won’t point out that uncertainty is nothing new. Just look at the last three years; despite plenty of reasons to panic, the Russell 3000 Index (a broad market-capitalization-weighted index of public US companies) returned an annualized 11.79%, slightly outpacing its average annualized returns of 11.65% since inception in January 1979.
In the face of uncertainty and unnerving headlines, investors may wonder what to do. The solution is simple: diversification.
- Worried about the declining value of the dollar? Invest globally.
- Concerned about bank failures? Own shares in thousands of companies so that any one failure will not cause permanent harm.
- Unsure where interest rates are headed? Own a mix of stocks and bonds that behave differently under various interest rate environments.
Fortunately, with financial innovations like mutual funds and ETFs, investors can access broadly diversified investment strategies at low costs. Diversification is the foundation of any investment strategy – providing both opportunity and risk reduction. As Nobel Prize laureate Harry Markowitz said, “When it comes to investing, it is the only free lunch available.”