“Worry” by Widespread Panic

Worries about our worries.

There are plenty of things to worry about in the world. But lately, it seems like everyone’s concerns are escalating.

Perhaps this is because our modern society eats up negative news headlines.  The pace of alarming news and fear mongering is relentless. Therefore, our work to combat those forces must be more relentless, too. 

Because of this, Chicken Little Syndrome, or the mentality that “the sky is falling,” has spread like a virus around the financial investment landscape. What used to be an exercise in finding the optimistic light, has turned into a progressively negative routine, sustained unhealthily by financial media. 

The lines from the Widespread Panic tune “Worry” capture the phenomenon:

Worry 'bout my worries Lately, all I seem to do

This week, we find ourselves worried about our worries, so let’s dig in to understand what it is we’re all so worried about. 

Stocks will decline when interest rates increase: Should we worry?

Of course, it is important to have concerns and be vigilant about risks to the portfolio. However, we believe the following:

Investors should take the time to understand why they are worried and investigate if the concern has merit.

The latest fear sweeping into financial media is that future rising interest rates will cause stocks to decline, especially technology stocks.

The following chart displays the behavior of the S&P 500 Information Technology Sector (shown in orange) and the Fed Funds Rate (shown in blue) during the last increase in interest rates from 2015 to 2019. This was the time when the Fed Funds Rate increased from 0.25% to 2%. 

The most recent rising rate cycle was a 2,000% increase in interest rates — and the Information Technology Sector increased 200%.

So, it certainly does not appear that higher interest rates caused a decline in technology stocks last time, but will it be different this time? Should we be worried about this worry? 

As veteran security analysts, we most certainly understand the effects of rising interest rates on the business cycle and the valuation of stocks. Further, we know when bonds have higher income payments that they pose more competition for stocks. But back to valuation: In the late 1990s, we were fans of the dividend discount model as a preferred method of valuing a stock — the higher the interest rate, the lower the present value. 

And, while we certainly miss the music of the 90s, those years were a long time ago. Therefore, it might be worth updating valuation methods for those who continue to hope and pray for value stocks to gain traction again.   

In 2021 and 2022, it could be the case that the rapid growth of select technology could outweigh the effects of higher interest rates. We are not suggesting higher rates will not lead to lower valuations of all stocks. Of course, we may have to worry about some stocks, but not all of them. 

Tapering bond buying: Let’s not worry, just yet

If we dig into common concerns further, we find that the real worry may be that the Fed will soon begin the tapering process, i.e., the bond-buying program will slowly lower to nothing. This will happen before interest rates are raised. So, is “tapering” a real worry?  We worry about this worry also. 

Let’s dig in: The Fed is currently buying $120 billion a month in financial assets, or bonds. But it should not be a surprise to anyone that the Fed will soon begin buying less.

Many believe the Fed will lower the amount purchased to $60 billion per month over the next three to six months. This decrease in purchase size has been well telegraphed by Fed Chairman Jerome Powell. The current bond purchases were implemented during the COVID crisis as an extreme emergency program. But this excessive bond buying is no longer necessary. 

We are not worried about $60 billion a month in bond purchases. We are also not concerned about zero bond purchases, as there is a large demand for bonds.

But should we be concerned that bond tapering will lead to higher interest rates in the future? Yes, that is a concern — and higher rates will be a concern one day, too, but not today or within the next six months.

In conclusion: Don’t worry, be happy

We are worriers by nature — not just in investing but in all areas of life. It is okay to have concerns. The key in investing is to understand why others are fearful and determine if that concern is worthwhile.

When it comes to Fed tapering and eventually higher interest rates, we are not as worried as the media, Wall Street analysts, or others just mindlessly reading negative headlines. There are many risks in the market, and we will continue to be vigilant. While it is true, there are many things to be worried about; for now, there are more things not to worry about.

Disclosures

INFORMATION PRESENTED IS FOR EDUCATIONAL PURPOSES ONLY AND DOES NOT INTEND TO MAKE AN OFFER OR SOLICITATION FOR THE SALE OR PURCHASE OF ANY SPECIFIC SECURITIES, INVESTMENTS OR INVESTMENT STRATEGIES. BLOOMBERG IS THE SOURCE OF MARKET DATA. INVESTMENTS INVOLVE RISK AND ARE NOT GUARANTEED. PAST PERFORMANCE IS NOT INDICATIVE OF FUTURE RETURNS. BE SURE TO FIRST CONSULT WITH A QUALIFIED FINANCIAL ADVISER AND/OR TAX PROFESSIONAL BEFORE IMPLEMENTING ANY STRATEGY DISCUSSED HEREIN.