Quarterly Investment Commentary

So we beat on…

A kayak on the water

2022 was a tumultuous year marked by significant and adverse changes to geopolitical and economic conditions around the world. Among other things, these changes resulted in slowing economic growth and large declines across global financial markets.

We believe that many of these conditions will continue into this year and beyond, although with improvement in many areas, and a more positive investment environment across most asset classes.

The fundamental investment landscape is quite different today than it was a year ago. Geopolitical tensions are elevated, inflation and interest rates are higher, economic growth is slower, valuation levels are lower, and investor sentiment is pervasively negative. This is a more sobering but also more constructive set of conditions for productive capital allocation. While considerable risks remain, they are at least partially reflected in current prices and expectations, and there are both interesting and sensible things to do from an investment perspective.

In addition, a lot of speculative behavior and magical thinking has been purged from financial markets. This should also support more stability and rationality going forward. The zero-gravity environment of artificially low interest rates and overflowing fiscal stimulus supported artificially high valuation levels for most financial assets, and crazy valuation levels for high-flying growth stocks, SPACS (special purpose acquisition companies), and most things related to cryptocurrencies. Gravity has been restored and prices once again need to be supported by realistic and sustainable fundamentals.

Before looking forward, it is worth taking a look back at the year that was. 2022 started out with high hopes and then quickly disappointed.

The most significant event by far was the Russian invasion of Ukraine last February. Besides the enormous human tragedy, the war roiled energy and other commodity markets as the flow of oil, gas, wheat and fertilizer from Russia and Ukraine was severely constricted. This has created a particular challenge for Germany, which was heavily dependent on Russian gas to heat homes and power industry. It also created a headwind for many developing economies that are also reliant on energy and food imports.

Meanwhile, president Xi in China steadfastly enforced his “Zero Covid” policy resulting in a big drop in Chinese economic growth and large-scale disruptions of global supply chains. Xi’s “Common Prosperity” agenda, along with a massive housing bubble have also added to Chinese economic woes and led to an outflow of foreign investment.

These more transitory factors combined with longer-term structural forces to drive prices for goods, services, housing and labor higher. Longer-term forces include chronic under investment in energy production and infrastructure, a shortage of housing in the U.S., a lack of redundancy in global supply chains, and growing demographic imbalances between young and old, leading to a shortage of working age people relative to retirees.

In response to alarmingly high inflation levels, the Federal Reserve, European Central Bank and Bank of England slammed on the brakes with both feet, raising interest rates sharply to squash the inflationary brushfire. The Federal Reserve has been the most aggressive, raising short-term borrowing rates from zero at the beginning of the year to 4.5% at year-end.

The result can be seen in Chart I below, which shows the performance of major asset classes last year, along with their five and ten year annualized returns for some historical perspective.

Chart 1

Most stock indices were down 18% to 20% for the year. Underneath the hood of the U.S. stock market, growth-oriented stocks, dominated by technology companies, dramatically underperformed value-oriented stocks. Interestingly, international stocks outperformed U.S. stocks, despite a much tougher economic outlook. More notably, bonds, the traditional “safe” asset in investment portfolios, suffered the worst performance in over 97 years, with most bond indexes down between 13% and 18% for the year. In short, there were few hiding places other than commodities and some other alternative strategies like hedge funds, private real estate and credit.

While many people are glad to say goodbye and good riddance to 2022, there were a few good and important things that happened that are worth noting:

  • It was a slightly improved year for Democracy and global cooperation in the U.S. and around the world. Inside the U.S., voters rejected extreme candidates in the most recent election. Outside the U.S., Ukraine showed the world that Democracy is worth fighting for and galvanized European and American support for their cause. Global economic growth and prosperity are built upon a foundation of social stability and rule of law as well as global trade and cooperation. Despite its numerous cracks, in 2022 the foundation held together.
  • It was a good year for NATO which, because of the Ukraine invasion, was infused with a renewed purpose and resolve, and welcomed Sweden and Finland as new members. And it was a bad year for Putin and other authoritarians, which we consider a positive.
  • It was a good year for science with the first nuclear fusion reaction to produce a net energy gain, remarkable images of deep space from the James Webb space telescope, and successful launch of the Artimis 1 moon rocket. NASA was also able to nudge an asteroid by colliding a rocket into it. Who knows, this might come in handy someday.

Looking Forward:

As we noted at the outset, many of the conditions that impacted markets last year are likely to persist and evolve in the years to come. The economic, geopolitical and investment landscape has shifted. Investment strategy needs to shift accordingly.

In the near-term, inflationary pressures, other than rental housing costs, are easing. As the global economy slows and supply chains return to normal, it makes sense that the combination of slowing demand and increasing supply should result in lower prices.

Monetary policy functions with a lag and unless there is a sharp reversal in current trends, it also makes sense that the Federal Reserve will curtail and then pause additional interest rate increases in the coming months.

It remains to be seen if the U.S. economy will enter a recession this year. If so, it will be the most anticipated recession of all time. Currently, economic growth is slowing but still positive, employment is strong, and the economy is in good overall shape. If there is a recession this year or next, it will likely be mild and may also be localized to certain sectors and regions of the economy. Not everyone will get wet.

The European Central Bank has a more challenging problem. Inflation rates are higher in Europe than in the U.S. and the Eurozone economy is much more sensitive to commodity prices and global trade.


The Ukraine war is approaching its one year anniversary and the geopolitical world has been dramatically reshaped in that time. Russia has suffered major economic and military consequences for its actions while bringing the international community together and strengthening NATO. It is unclear how the Russia/Ukraine situation will resolve itself. Putin is increasingly isolated and backed into a corner, and Ukraine has no incentive to back down when they are gaining ground. For now, our base case is a continuation of the status quo.

One hopeful side effect of the Russia/Ukraine war is that it may reduce the chance that China invades Taiwan any time soon. Putin overestimated the prowess of his own military and underestimated the resolve of the Ukrainian people and the international community. Unlike Russia, China relies on robust trade with the rest of the developed world. An invasion of Taiwan may not go as easily as hoped, or be worth the severe economic blow back from the global community.

It also seems that in recent weeks, Xi has had to refocus his priorities on economic growth and stability. Both have suffered under his heavy-handed approach to enforcing his economic and social agenda. In response to recent widespread protests against draconian Zero-Covid lock downs, Xi did an about-face and eliminated them overnight. He has also been back on a charm offensive with the rest of the developed world, but it is unclear how much this will help stem the tide of foreign investment away from China.

Meanwhile, the Biden administration has advanced new legislation like the Chips and Science Act that places restrictions on China’s access to high-value semiconductors and other technology and encourages new investment in the United States. China will remain a major trading partner of the U.S. but the relationship is likely to involve increasing competition and frictional cost.

The change in Chinese priorities under president Xi, the supply chain disruptions that were borne out of Covid, and the Russian invasion of Ukraine have upended global trade as well as the conventional notion of globalization. Rising tensions and shifting allegiances in the Middle East are also contributing to geopolitical instability.

Globalization used to imply a world where countries were rowing in the same general economic direction. Following the economic principle of comparative advantage, goods were produced where costs were lowest, and then shipped and held in inventory on a just-in-time basis. The goal of public policy and private enterprise was to blow wind into the sails of global trade, minimize tariffs, regulations and other costs, and maximize economic growth and profits. This form of globalization also came with a cost in terms of displacement of workers, growing gaps between rich and poor, and a loss of control and redundancy in the supply chain.

Globalization is not going away but it is changing and subject to a new paradigm of more conflict and greater frictional costs including tariffs, transportation, insurance and labor. Divergent economic and political agendas are creating the need to build redundancy into global supply chains so that no manufacturer is dependent upon any one supplier and inventories are managed on a just-in-case rather than just-in-time basis. This will entail significant new capital investment, higher costs of production and lower profit margins.

The Russian invasion of Ukraine also revealed how dependent the developed and developing world still are on oil and gas, much of which comes from unstable places like Russia and the Middle East.

Throughout much of the developed world, including the U.S., current energy infrastructure and capacity is not up to current, let alone future, needs. It will require massive investment to get it there and build in appropriate levels of redundancy. Single source solutions create risk, as we see in Germany, and what works in one region does not work in another. Despite its “green” ideals, Germany is not a particularly windy or sunny place and so an energy policy that doesn’t incorporate nuclear and gas as additional power sources is not workable. Conversely, Texas, which publicly espouses anti-green political talking points, leads the nation in wind and solar capacity and deployment. Politicians will have no choice but to spend money on energy infrastructure since voters get unhappy when their lights go out.

Climate Change:

Climate change will also create long-term inflationary pressures especially with respect to water, food, and energy. In the U.S., the cost of water in drought-stricken areas like the American Southwest will need to increase significantly to balance demand with available supply. In fire-plagued areas like California, the cost of homeowners insurance may make new construction unaffordable. In Hurricane-prone areas like the American Southeast the price of flood insurance will keep rising as storms get bigger and more frequent. The price of many food products may also trend higher as a result of higher costs for water and fertilizer, and smaller harvests of agricultural products from land, and fewer fish from the sea.

Problems tend to beget solutions especially when they become existential. We expect climate-related challenges to lead to more sustainable practices and drive a major wave of private and public investment and innovation in the decades to come.

Current Outlook and Strategy:

Putting it all together, we see economic growth around the world slowing, especially in Europe. In the U.S., we expect economic growth to be sub-par, but still positive, at least for the first half of this year. Chinese growth will also slow to a crawl until Covid has passed through their economy, most likely by the second half of this year, and then reaccelerate.

U.S. stocks are reasonably valued but are not cheap and remain vulnerable to reductions in earnings forecasts. We therefore think that in the near term, the risks to the broad U.S. stock market are skewed to the downside. Underneath the hood of the market, there are some pockets of value to be found in areas such as healthcare and energy, as well as companies that generate high levels of free cash flow relative to their price.

We also think that more value-oriented companies will outperform growth-oriented companies for some time to come, similar to the aftermath of the dot-com crash in 2000. Just because many technology-oriented companies lost 80% of their value last year does not mean that they are a bargain or are about to soar back to previous levels. There needs to be a sorting out process to differentiate between the good, the mediocre and the gone. Companies ultimately have to be valued individually, each according to its own fundamental merit. This process takes time.

While the outlook for Europe is worse than the U.S., international equities are considerably cheaper than U.S. stocks. At current valuation levels, they are already incorporating a lot of bad news and low expectations. And, as noted above, international stocks outperformed U.S. stocks in 2022. We think the risk/reward for international equities is attractive and added to our holdings over the past quarter.

We continue to maintain a significant allocation to alternative investments in client portfolios. This allocation includes a variety of strategies including equity long/short, multi-asset, commodity, private real estate and private credit. Overall, this part of client portfolios was up nicely for 2022, providing a nice offset to equities and bonds.

We have also increased our allocation to bonds, which at current interest rates once again provide an attractive counterbalance to equities. While yields could trend higher, we think that most of the risk to bonds is behind us. High Yield corporate and municipal bonds now offer yields of 6% to 8% on a tax equivalent basis, and Core bonds are yielding 4% to 5%. Even very short-term treasuries are now yielding over 4%. A year ago, high quality government bonds offered risk, free of return. They now offer return, free of most risk.

As always, we continue to invest with a global focus; balancing investments targeted at areas of long-term growth and innovation with more defensive equity, alternative and fixed income strategies aimed at mitigating volatility and risk.

On behalf of the whole team here, we thank you for your ongoing trust and confidence. Please let us know if you have any questions or if there is anything we can help you with relating to your financial life.

Jurika, Mills & Keifer
January, 2023

Important Disclosures

Opinions expressed are those of Jurika, Mills & Keifer, LLC, and are subject to change.

Investments in securities involve the risk of loss. There can be no assurance that investment strategies referenced will be successful, or that investment objectives will be achieved. The net performance represents performance figures net of all fees including management, performance fees, transaction costs and commissions. Past performance is no guarantee of future returns, which may vary. Please note that one cannot invest directly in an index.

This communication is neither an offer to sell nor the solicitation of an offer to buy a security or advisory services, which can only be made by the appropriate offering document.