A Quarterly Reflection

In place of our Weekly Reflection, we are sharing the Quarterly Reflection that we publish at the end of each quarter. It is a little longer read (7 minutes!) with a spotlight shown on the economics, markets and financial planning topics of the current time. Please share your feedback, thoughts and questions by clicking here.

On the Economy

So as not to theorize about what will happen ahead of getting the data, per Sherlock Holmes’ advice, we can talk about what is known. In March of 2022,when the Federal Reserve began raising rates, it was pulling a thread from a vast complex tapestry. At first, the unraveling did not make an impact. The tapestry was strong and fortified by high employment, rising wages and consumers flushed with a desire to keep spending their plump savings accounts. Only a few outwardly panicked. Technology and financial companies immediately cut payrolls and unnecessary spending; prospective home buyers picked up their searches with more intensity. But most went about their business and lives without shoring up finances, reigning in lifestyle spending, or putting off job changes.

Fast forward to today and the effects of more interest rate increases, here and around the world, have been like hundreds of strings pulled and the unraveling has become more visible.

The housing market, which is 16% of overall U.S. economic activity, is in a complete funk. Per Fannie Mae, 84% of consumers say it is a terrible time to buy a home given 30-year mortgage rates hovering around 8% and housing prices at all-time highs after 40 years of low interest rates. For the few transactions that are happening, prices have been resilient, which speaks to both the stubbornness of sellers to not reduce their prices and the tight supply that is motivating buyers into paying what they must to get into a new home.

Residential is doing better than commercial real estate, which has seen valuations plunge double-digits, particularly for office buildings. Some believe commercial will not recover for a decade or more, which will make this crisis worse than the one suffered during the Great Financial Recession. The pandemic changed work habits and shopping habits, making in-person on-location transactions less critical. Commercial building owners are increasingly defaulting on their big loans. Some prominent examples just recently include the iconic Montgomery Park in Portland. Its owners have defaulted on their $149 million loan and the building will be auctioned off in February. A mall and two prominent hotels in San Francisco are also going up for auction after defaults.

Regular people are feeling the pinch too. Mortgage debt and non-mortgage debt levels (see chart) have been increasing. Defaults on mortgages and high interest debt remain at the usual levels, not causing alarm yet, but the data is being watched closely. The plump savings the pandemic brought are dwindling fast. Per his remarks in September, Chairman Powell admits that it will be the less affluent that will be the coal mine canaries here. Those with fewer means will be the first wave of personal debt defaulters; those with savings will be okay as they typically can cover necessary expenses without trouble and can dial back on excess spending.

Speaking of Mr. Powell, he likes to remind everyone that he keeps raising rates because people hate high inflation. “And that, that causes people to say, ‘the economy’s terrible’.” He takes those negative comments personally. But if rates stay high and inflation is low, will anyone change their tune? The data is not in yet.

On the Markets

Per T. S. Eliot, April is the cruelest month. Equity investors might disagree since September is reliably cruel more often than not. True to trend, a strong July stock market turned to a jittery August with S&P 500 equities declining some 8% through September, the worst pullback of the year so far.

Although there is no consistent or reliable reason for markets to be so dreary in September, this time the decline is tied to disappointment that elevated interest rates are here to stay. The “higher for longer” theme is now global with nearly a dozen central banks lifting rates last month.

Between the Fed’s persistent rate increases and concerns about the strength of the economy, bonds, not stocks, have become the must-see action in the markets. The yield on a 2-year term U.S. Treasury note rose from 3.8% in early May to 5.0% now. Rates on long term bonds have been on a steep upward march too; the 10-year Treasury bond tipped the scales at 4.9% recently, the highest it has been since 2007. As this is the rate that most

directly influences American’s cost of borrowing (mortgages, consumer debt), it is the number most frequently cited in the news.

But as yields go higher, it means prices are dropping, as bond yields and prices have an inverse relationship. The chart here demonstrates the yield in green versus price in red. When the 10-year Treasury was yielding less than 1% in 2020, the price was over $145 as fearful investors sought to invest in the safest security they could find. Today, as yields bump up against 4.9%, the price has plummeted to $107. Longer-term bonds maturing in more than 10 years have fallen some 46% since the early dark days of the pandemic. On an annual basis, bonds are headed for the third year in a row of losses.

But why are rates so high and prices so low? For one, investors think that the Federal Reserve might have one more rate hike to go so they do not want to buy a security that might look paltry compared to future rates. There is also a ton of fear that too much debt is floating around in the markets. Blame the U.S. Treasury and its announcement that it was going to borrow another $1 trillion this fall via new bond issuance. In a time of relatively stable employment and decent, if not thrilling growth, the U.S. has been borrowing an unusual amount of dough. And at these rates, the interest expense alone has been breathtaking; for the curious, the U.S. spent $352 billion on debt interest in 2021, $475 billion in 2022 and is estimated to spend over $600 billion this year.

Worries about the impact of expensive debt are also hitting small businesses around the world. Companies in Europe, the Middle East and Africa collectively owe $500 billon that is coming due for payoff or refinance in the next nine months. Of the small U.S. companies listed in the Russell 2000 Index, 55% are doing well and the other 45% are unprofitable and face billions in debt that must be refinanced over the next six years. Those statistics are far from the worst it has ever been for this group, but the other periods came during low interest rate eras. Expect companies to slash costs, lay off employees, become acquired, or just close their doors altogether. All are painful options but also will bring some relief to these zombie companies that were given a lifeline that may otherwise not have been available save for the pandemic-era government relief.

On Personal Finance

Recently we wrote about age and the difference between an average lifespan and longevity. Longevity is the likelihood one will live beyond the average. No one loves talking about their own end-of-life but when planning finances, it is one of the first factors we consider. Besides taking into account current health, resources and family history, we might start asking about your “aging attitude”.

Researchers looking at this question published results in 2002 after following 660 people for 23 years to determine whether being cheery towards aging had any effect on longevity. It apparently does. Those with positive attitudes towards aging lived 7 1/2 years longer than those who were grumpy about it.

A similar 2009 study looked at those in their 30s who held negative stereotypes about getting older; this group was significantly more likely to experience an event like a heart attack or stroke later in their own life than their counterparts with positive approaches to age.

Fauja Singh of Britain would agree that outlook matters. He took up running at age 89 to overcome grief and is believed to be the oldest marathoner at age 100 in 2011. Earlier this year he hung up his racing shoes, at age 112, more content to be a spectator and cheer others on at marathons.

If the studies are right, shifting your thinking to maintain a resilient mindset towards aging can make a profound impact on your overall health, happiness and well-being. Here are some ways to help you embrace aging.

Challenge Negative Stereotypes. Society perpetuates negative stereotypes about aging even though many of these tropes are unfounded. Challenge these labels and instead focus on the positive aspects of growing older, such as wisdom, experience, and the continued opportunity for personal growth.

Stay Active. Continuing to move benefits you physically and mentally.

Nurture Social Connections. Stay connected with friends and family. Make new friends too. Strong social connections boost mental and emotional well-being; it can also help combat feelings of loneliness and isolation. Marriage (or something akin to it) is strongly correlated with longevity, no joke!

Embrace Change. If change is a part of life, adapting to it is a sign of resilience. Embrace opportunities and challenges that come with aging. As the Chinese proverb recommends, when the winds of change blow, some people build walls and others build windmills.

Practice Gratitude. Focusing on the things you are grateful for can help shift your mindset towards positivity. Count your blessings and appreciate the experiences and relationships that have enriched your life.

Don’t dismiss the benefits. There is a lot to gain too. Emotional well-being generally increases with age, and certain aspects of cognition, like conflict resolution, often improve in later life. We develop mental maturity and can often see life more clearly.

For further reading, access this letter and direct links to relevant news articles from our blog at www.planserene.com. It is our true delight to help with your investments and finances and we thank you!